Markets may have had a rocky year in 2018, but there’s been one strand of positive news: cannabis mergers and acquisitions. While some US residents are just getting used to new legalization laws in their states, cannabis companies have been steadily obtaining licenses, building up operations and trying to expand their market share.
Pot Stocks Outperforming
These developments have not gone unnoticed by savvy investors. There are nine publicly traded pot stocks listed on the NASDAQ and NYSE, but the marijuana stock universe contains over 300 securities (traded on these major exchanges, TSX and OTC exchanges). These stocks have largely outperformed broader market indices over the past year.
Trends in Cannabis Investing
Another trend in the past year has been an increase in mergers and acquisitions (M&A) activity. The two biggest deals that occurred were:
- August 2018: Constellation Brands, an alcoholic-beverage company, invested $4 billion in Canopy Growth Corporation, a leading Canadian medical marijuana producer, bringing Constellations ownership stake to 38%
- December 2018: Altria, a Big Tobacco company, invested $1.8 billion in vertically integrated cannabis company, Cronos Group for a 45% stake in the company
In both of these deals, the stock price of the target company soared. Pot stocks in general rose following these announcements as they bode well for the entire industry. The investments from large, global, non-marijuana conglomerates indicate that pot stocks represent a serious business industry.
Investors in this sector are betting on:
- Young industry with rapid growth
- Continued trends in legalization, such as the US’ approval of the import of marijuana for medical purposes or Utah’s legalization of marijuana for medical purposes
- On-going product development, including new strands and new versions of edibles and beverages
- Large and growing market of consumers
- Potential for improvements in growing, manufacturing and distribution
Challenges Facing Pot Stocks
While the forecast for the marijuana industry is overwhelmingly positive, there are still a few challenges. Currently, the substance is regulated at the state level. Each state only gives out a limited number of licenses, Also, it cannot be carried across state lines. The newness of the industry means that these stocks could be relatively volatile compared to the stocks of more established companies and industries. In many ways, they resemble startups, with lots of potential and risk.
As with any M&A transaction, there’s also a risk of integration into the parent company failing. Many cannabis companies operate with a down-to-earth, mom and pop feel, and it may be challenging to suddenly be part of a large, established corporation.
Expectations for 2019
The year ahead looks promising for continued M&A activity. Fundamentals for the industry appear to be strong: the regulatory environment is gradually improving, interest from pharma, tobacco, alcohol and consumer packaged goods companies is growing and consumers are demanding more and different kinds of product.
Large non-pot companies are in good positions to make strategic investments and acquisitions given the large levels of cash still on their balance sheets and a favorable interest rate environment. Against this backdrop, cannabis mergers and acquisitions are likely to continue at a strong pace.