Cronos (CRON) Stock Doubles in Two Months, But Is It a Bubble?

[email protected] (Ben Mahaney) - finance.yahoo.com Posted 5 years ago

Cronos (CRON) stock has more than doubled in two months time, as the chart below shows.  In early December, the company announced a major investment partnership with Altria (MO), the tobacco maker of Marlboro brand.  Initially, the stock popped up much higher to over $14.00 but then proceeded to fall back down below its pre-announcement levels.  Since then, the stock has moved from $10.00 to $25.00.  Is there true value there and can an investor take advantage of that, or is the stock now a bubble?If we break down what Cronos can produce it is easy to figure out the valuation of the company.  Cronos has the capability of producing some 110,000 kg. of cannabis per year.  The current wholesale rate of cannabis in Canada is $5.20.  Given that, in a year Cronos could earn about ~$575 million.  Given a 17% net margin and 20-times earnings, the company could be worth about $2.00 billion.  However, currently, Cronos is worth $4 billion with their current stock price above $20.00 per share.  Is it overvalued?  Not exactly.

How Much Is Cronos Worth?

In the Altria deal, Cronos received $1.8 billion in cash in exchange for stock.  If you factor in the cash into the valuation of the company you see the numbers are fairly in line with a rational valuation.  Cronos now has the ability to expand with a considerable cash supply and not worry about financing operations.  This is a powerful position to be in for a company involved with the cannabis industry, an industry that is taking off and expanding on what feels like a daily basis.

There are many in the industry that feel cannabis will eventually become a $500 billion industry.  Cannabis is disrupting alcohol, tobacco and pharmaceutical companies simultaneously.  And, legalization is happening across the world rapidly.  These initial companies that are setting out to build these businesses are going to be at the forefront of this industry and will profit from their early position.

The country of Canada is already experiencing a shortage of supply with cannabis and I expect there will be additional pressures like this for years to come.  Cronos now has the ability to finance a new facility and can expand without worrying about the need to balance operations now that they have $1.8 billion in the bank.

Canada is expected to sell some 1 million kg. of cannabis this year (2019).  However, it is my contention that the the major producers are not going to have enough capabilities over the course of the next 24-36 months to keep up with future demand.  As I mentioned, cannabis is already in short supply in Canada.  Cronos can now take advantage of their position and build out additional capabilities with a sizable bank account and potentially double their revenue from adding additional capacity.

I am long Cronos. When the stock dropped back down to $10.00, I rationalized that the company was undervalued compared to where they would be in a few years’ time with demand and supply. While I will not be adding any new positions to this stock at this price, I will not be selling with a belief that the company is overvalued.  Cronos does have some upside room.  However, at these current prices, the stock is appropriately valued.

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