This Major Move Can Be Both a Blessing and a Curse for Pot Stocks

This Major Move Can Be Both a Blessing and a Curse for Pot Stocks
iStock.com/Olena Bondarenko

Marijuana Profitability

Profitability is the lifeblood of any company. After all, it’s hard to get investors to buy into your business if they don’t think your business is ever going to make money.

But there’s long been a debate on the stock market of when is the best time to seek out profits. Because profitability is a function of two metrics: revenue versus costs. Increasing revenue is almost always a good thing, but cutting costs is far more dubious.

And that brings us to the recent craze over marijuana profitability, launched by Aphria Inc (NYSE:APHA). APHA stock has skyrocketed since it became the first major marijuana stock to score a profit.

Considering how impressive Aphira Inc has performed since announcing that it is now profitable, it would come as no surprise if many other pot stocks were seeking similar positive balance sheets to reel in investors. There’s no doubt that the short-term gains could be massive; APHA stock’s 30% gain serves as a shining example of just how successful a company can be when it becomes profitable.

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Chart courtesy of StockCharts.com

The problem, however, is that the marijuana industry is young—very young. In fact, despite a huge leap forward this year in terms of maturity in the eyes of investors and analysts, I’d still classify it as in its infancy. What this means, as with any infant, is that massive growth is on the way. Now may not be the time to be putting the infant to work, so to speak, but instead investing in its future.

By pursuing profit over growth, marijuana companies may be missing out on long-term success.

For instance, companies looking to reproduce Aphria’s success may cut investment costs and instead focus exclusively on the Canadian marijuana market. While that may prove profitable (Canada is the only semi-major where marijuana is legal), it is a decidedly shortsighted move. After all, countries like the U.S. and Germany are bound to legalize marijuana eventually and forgoing the billions of dollars in potential revenue in those markets for a shot at a few million in profit now is what will separate future massive global forces from relatively smaller, local players.

Nowhere has this battle of visions played out more starkly than at Canopy Growth Corp (NYSE:CGC), where founder and CEO Bruce Linton was axed following what is reportedly a move by major shareholder Constellation Brands Inc (NYSE:STZ) to pivot away from growth towards profitability. (Source: “A cannabis CEO is fired and blames it on Big Booze,” Quartz, July 3, 2019.)

Linton is one of the most respected and recognizable names in the pot business, so cutting him was a bold, if potentially myopic, move. Only time will tell, but I believe that Canopy Growth Corp made the wrong decision there.

In my view, as I expressed earlier, now is the time to engage in the tech model of things. Which is to say spending should be focused on growth rather than profits at this time. That isn’t to say that this doesn’t carry its own set of risks; companies in the past, especially in the tech sector, have been guilty of overspending on growth without having a clear path to a viable profitability model in the future. That is a recipe for stock decline.

But, considering just how much potential there is currently in the future of the marijuana market versus the $15.0 billion or so currently available, spending on the future is, in my mind, the right move.

Analyst Take

For those looking to make money now off of their investment in the marijuana industry, then seeking out companies looking to make a profit now is a wise move.

On the flip side, for those willing to wait, far greater gains await as companies investing in the future of pot are going to reap big rewards when it becomes a powerful global product.