Is Canopy Growth a Buy?

Keith Speights, The Motley Fool - finance.yahoo.com Posted 5 years ago
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Green rush. Marijuana momentum. Cannabis craze. Whatever you want to call it, marijuana stocks are scorching hot right now. You'd run out of fingers trying to count all the marijuana stocks that have soared 50% or more just this year. 

Canopy Growth (NYSE: CGC) ranks as the big enchilada of marijuana stocks. The company has the largest market cap in the cannabis investing universe. It's not surprising that when investors first consider jumping aboard the cannabis train, Canopy Growth is one of the first stocks that comes up. But is Canopy Growth a buy right now? 

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All the reasons to not buy Canopy Growth (give or take a few)

Let me first try to talk you out of buying Canopy Growth. I'll start with the easiest argument -- valuation.

Canopy's market cap currently stands at just under $14 billion. Over the past 12 months, the company chalked up a grand total of under $150 million. The company's price-to-sales ratio is so staggeringly high that calling it a nosebleed level doesn't do justice to nosebleeds.

There's also the tiny little detail that Canopy Growth can't compete in the world's largest marijuana market. I'm referring, of course, to the United States.

Sure, Canopy technically could enter the U.S. marijuana market. It would just have to give up its listings on the New York Stock Exchange and the Toronto Stock Exchange and move its stock to a small exchange that many investors haven't even heard of.

That's simply not happening. But what also isn't happening, at least for now, is expansion into the market that generates around four-fifths of all global marijuana sales. 

Let's also talk about risks. If you haven't heard yet, observers think there's an epic supply glut coming to a Canadian country near you. That means Canopy Growth will need to make a lot of money in international markets. In the company's last quarter, it made... drum roll, please... around $2 million from international sales. Can I mention again that Canopy has a market cap of nearly $14 billion? 

There's also a not-so-insignificant chance that all the projections for growth in the global cannabis market might not turn out to be as rosy as some think. Again, Canopy Growth absolutely needs international sales to take off to avoid having to change its name to Canopy Stagnation or Canopy Plunge.

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Reasons to buy Canopy Growth anyway

Now that you've decided to not only stay away from buying Canopy Growth but also never even walk beneath a canopy ever again, let's look at why you might want to buy the stock anyway. I'd say there are two key reasons to do so:

  1. The global cannabis market really will be huge in the not-too-distant future.
  2. Canopy Growth is positioned to be a top leader in this ginormous market.

Returning to the topic of valuation, there's one thing to know: All stock valuations hinge on the future and not the past. It doesn't matter if Canopy Growth's sales in the past haven't been anything to write home about. What does matter is what the company's sales in the future are likely to be.

Now, there are plenty of different views on just how big the global marijuana market will really be. The only thing I'll say on this is that big alcoholic-beverage maker Constellation Brands (NYSE: STZ) thought the opportunity would be so great that it forked over $4 billion to increase its stake in Canopy Growth from 9.9% to 38%. 

OK, I will say one more thing about it. Constellation's management team estimated that the global cannabis market would top $200 billion within the next 15 years. Even if the projection is off a good bit, the company's $4 billion bet on Canopy should pay off nicely.

But is Canopy Growth really positioned to be a leader in this market? Well, yes. The company already claims the largest market share in Canada's adult-use recreational marijuana market. Canopy has international operations in more than a dozen countries spanning five continents. It already has the highest sales of any marijuana producer.

Constellation thinks Canopy can garner somewhere between 5% and 15% of the total global market share. That doesn't seem unrealistic.

And as for the U.S. market, keep two things in mind. First, Canopy Growth is already expanding into the U.S. hemp market thanks to the passage of the 2018 Farm Bill, which legalized hemp in the Unites States. The company is building a large-scale hemp production facility in New York state and could roll out more facilities in other states. 

Second, bipartisan efforts are under way even as you read this to change federal marijuana laws in the United States. Maybe these efforts won't succeed this year, but it's probably only a matter of time before the red carpet rolls out for Canopy Growth and its peers to jump into the U.S. marijuana market.

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Decision time

So is Canopy Growth stock a buy? My answer is that it is -- but only for aggressive investors with a long-term perspective.

I don't want to dismiss the risks the company faces. They're real. Because of these risks, conservative investors will be better off looking elsewhere. 

If you have a relatively short investing time horizon -- for example, less than five years -- you might not want to buy Canopy Growth shares. There could be a lot of volatility with the stock in the next few years. It wouldn't be surprising if some key international cannabis markets take longer to mature than many would like. Changes to U.S. marijuana laws could take longer than some people, including me, think they will.

On the other hand, Canopy Growth could be a massive winner for aggressive investors who are willing to take on the risks and hold the stock for the long run. Canopy Growth co-CEO Bruce Linton even thinks Canopy could be bigger than Constellation in the future. I suspect he could be right.

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Keith Speights has no position in any of the stocks mentioned. The Motley Fool recommends Constellation Brands. The Motley Fool has a disclosure policy.