What are we looking for?
The recent cannabis craze is starting to cool down, with cannabis stocks seeing both immense gains and losses in a two-year hype/crash cycle.
Average cannabis returns, year to date (excluding a few outliers), stand at minus 16.7 per cent at time of writing. These losses come at a time when we see widespread cannabis legalization, rising sales and players becoming increasingly efficient – which suggests a possible entry point for the longer-term investor to start considering cannabis for their portfolio as market hype cools and more reasonable valuations emerge.
We used FactSet to look at the constituents of the Horizons Medical Marijuana Life Sciences exchange-traded fund (HMMJ), which tracks 63 of the key players in the cannabis space. It is important to note that not all companies have analyst coverage in such a young industry, which may leave some gaps in the data that we can observe.
However, with the information we have, we selected the following screening criteria:
- Positive EBITDA forecast by analysts for 2020 – a positive figure shows companies that are leaders in expected profitability (EBITDA stands for earnings before interest, taxes, depreciation and amortization);
- Cost per gram that is below the industry average – this figure indicates that a company’s internal processes are efficient relative to peers;
- Price-to-sales ratio that is below the industry average – this figure indicates that a company’s current revenue is not overvalued relative to peers.
- Sales of at least 10,000 kilograms of cannabis in the 2019 fiscal year – a high sales volume shows a company has already cultivated relationships and consumer reach in the industry.
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What we found
Four companies fulfilled the above criteria when using the FactSet universal screening tool.
One of the largest names in the industry, top-ranked Aphria Inc. came under fire last year owing to an accusation of a useless asset purchase overseas. Aphria spent months refuting this claim and proving that the assets were in fact operational, but the stock initially fell about 55 per cent. With the company having cleared its name, the stock now stands at minus 8.8 per cent year to date. Aphria now boasts one of the lowest costs per gram in the industry, at $1.98.
Aurora Cannabis Inc., ranked over all at No. 2, offers a cost of $2.80 a gram and has one of the largest market caps in our peer group. Aurora has been operating steadily for a couple of years now and the stock’s return sits at minus 11.4 per cent year to date.
In third spot, OrganiGram Holdings Inc. has a low cost of $2.33 a gram and has a year-to-date return of minus 1 per cent. OrganiGram is also the smallest-cap company on our list while still boasting larger sales than most of the 63 firms included in the HMMJ fund.
Finally, Hexo Corp. has a cost at $2.50 a gram. Hexo is also the only company to see a stock price gain on our list year to date because of its above-average business fundamentals.
These companies’ ability to achieve above-average efficiencies, while maintaining below-average price-to-sales ratios, suggest they could be well suited to investors looking for exposure to the cannabis industry.
The information in this article is not investment advice. FactSet assumes no liability for any consequence relating directly or indirectly to any action or inaction taken based on the information contained below.
Zack Mattin is a Canada banking and brokerage consultant at FactSet.
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