The cannabis industry has experienced explosive growth, so much so that it might be assumed that the company valuations, along with their stocks, had nowhere to go but up.
All industries that see a massive expansion over a short period of time have, at some point, to experience a hiccup. Understanding what causes those hiccups will go a long way to helping industry players find their way to controlled growth and a wealth of new opportunities.
Causes of low performance in the cannabis industry in 2019
In any industry, the original excitement and investment that surrounds sudden growth needs to be backed by a continuous expansion of company earning horizons if that value is to be held over the longer term.
In the case of the cannabis industry, there was far too much money spent building an infrastructure, including enormous investments in the technology, packaging, regulatory lobbying, and adjustments to the new and ever-changing regulatory environments. All of this happened without showing investors much in the way of profit, if any.
And with regard to large industry players, overestimation of their market share as well as a focus on production capacity instead of concentrating on the actual consumer behaviors, are also underlying causes of this low performance. The inability of the Canadian companies to find enough retail and engaging in disorganized retail from province to province, is an example. Segmented retail in the U.S. from market-to-market presents similar issues.
The majority of outlets in the cannabis retail industry are not even as efficient as a local, individually owned liquor store. Rules and regulations, defragmentation of the U.S. cannabis market: all of these factors are very difficult for the investor to understand and, ultimately, this is a barrier to their participation.
Finally, like any industry, there are many companies where the leadership is simply ill equipped for their roles. Corporate leadership in this domain requires specific industry knowledge that many who are holding corporate leadership positions simply do not have.
Market saturation played a partial role in the low performance
Market saturation will all depend on the regulatory oversight and the behavior of the federal government. In Canada, the market is saturated, and they now need more brands and products instead of more growing capacity.
The effects of different markets coming online—Colombia being a prime example—that will be able to export the product all over the world and eventually to the U.S., and their effects on market saturation, are difficult to gauge at this time. That said, many investors already believe that the cannabis market is saturated and they are not really interested in the stocks that just have a great story about their future potential. They are far more interested in the reality of the sales traction and brand recognition; these are markers that investors will seek in the stocks for any sector, not just cannabis.
Level of impact of the FDA letter regarding safety of CBD in food
There is no question that the FDA stating that they cannot conclude that CBD in food is safe is another piece of the low-performance puzzle. They cannot seem to find a way to effectively regulate cannabidiol as an ingredient in food or beverage products, resulting in this kind of non-statement.
CBD is an individual molecule that is part of the cannabis or hemp plant. CBD, as an isolated molecule is also an active ingredient of an FDA-approved drug. There is currently a lot of misconception in the marketplace as to what this means—along with a lot of unregulated products that are calling themselves CBD.
In state-legal cannabis markets, CBD products sold at dispensaries are regulated by individual states’ oversight authorities. But elsewhere in the consumer market, these CBD products are not created with any regulatory oversight whatsoever. The market is so saturated with the bad apples, it’s hard to come up with a judgment or ruling. This general market confusion is another effect of the runaway growth this industry has experienced.
What’s the outlook for 2020?
Looking at the stock market right now, it’s difficult to assess this. In 2019, when it was virtually impossible to find a losing stock, many investor stations ran thin and therefore took losses. By the end of December, cannabis investments became a tax sale, where people that made money in other investments in 2019 needed to offset their gains by showing some losses. The cannabis sector was chosen by many for the tax loss opportunity.
The majority of the stocks that were originally depressed were those of the larger players, like Canopy Growth, which was a $13 stock in November and is currently trading around $18 right now. Another example is Aurora Cannabis, which is now around $1.40 per share.
But it’s not just the cannabis companies that are struggling. Many in non-cannabis sectors are 50% or 60% underwater. The market is experiencing a normal correction, which won’t really hurt most stocks too much. With a longer-term view, investors in the cannabis industry could come out as the winners: Many cannabis companies have an enormous infrastructure and the ability to burn through cash to start to make some money. They are concentrating on the products that will prove to be beneficial and will be recognized by the consumer. As long as they are using this strategy, eventually the recognition will come to the winners, with perhaps some consolidation from outside or inside of the industry. Some fluctuation will still occur this year, but that’s the nature of investing.
The cannabis industry will have an opportunity to recover. How and when the stock market will look at it might take some time.