Most owners of Canopy Growth (NYSE:CGC) stock have embraced micro details like the company’s specific acquisitions or macro matters like the slow march towards the legalization of recreation cannabis in the U.S.
Most owners of CGC stock, however, have ignored the area in between those two extremes. That’s the area where a company takes little building blocks like acquisitions and assembles them on a major foundation, enabling it to earn a profit.
Failure to respect that middle ground ultimately cost the now-former co-CEO of Canopy Growth, Bruce Linton, his job. Booze company Constellation Brands (NYSE:STZ), which is not only a major Canopy Growth stock holder but also has effective control of CGC’s board of directors, fired Linton in early July primarily because of CGC’s continued heavy losses that have weighed on CGC stock price.
Canopy’s other top executive, Mark Zekulin, is also on his way out.
At first glance, it would be easy to simply chalk the whole affair up to company-specific, and even personnel-specific, misunderstandings. And there’s some truth to that.
In a much more meaningful sense, though, the surprising shakeup may be a microcosm of bigger cracks starting to form within the cannabis craze. Not unlike the ultimate fate of rare earth metals stocks in 2010, solar panel stocks in 2007 and 3D printing stocks in 2013, reality is starting to seep into marijuana mania.
The owners of marijuana stocks are understandably not liking what they’re seeing.
Trouble in Paradise
During Constellation’s most recent earnings call, CEO Bill Newlands explained he was “not pleased with Canopy’s recent reported year-end results.” For Canopy’s fourth quarter that ended in March, the company posted an EBITDA loss of CA$257 million on gross revenue of CA$140.5 million. The total loss of CA$323 million translates into a loss of 22 Canadian cents per share of CGC stock, or 17 U.S. cents per share (U.S.) for the NYSE-listed equity of the Canadian company.
The full year was even uglier.
Perhaps even worse, sales of recreational marijuana — which only became legal in Canada as of October — fell nearly 4% versus Q3
Don’t think for a minute that Canopy Growth is the only marijuana stock flashing warning signs, though.
Take CannTrust Holdings (NYSE:CTST), for instance. CTST stock has been nearly cut in half since July 5th, when it was discovered that its cannabis production was exceeding legal limits.
I’m not suggesting that all cannabis companies are secretly growing plants they shouldn’t be growing. But CannTrust’s actions do point to the growing pressure for production hikes within the fiercely competitive cannabis market. That same pressure may well be inspiring other similarly risky efforts, including ill-advised acquisitions.
To that end, Aurora Cannabis (NYSE:ACB) was pegged by Motley Fool’s Sean Williams as a name that’s exceedingly vulnerable to major writedowns in upcoming quarters. It’s sitting on more than $3 billion worth of goodwill added to its balance sheet to account for a wave of dealmaking that’s yet to bear fruit. The company must soon start conceding, via writedowns, that it overpaid for those companies.
Bloomberg issued the same warning just a few days ago, with Bloomberg Intelligence analyst Kenneth Shea noting that some of the industry’s most-loved names had driven an “aggressive pace of acquisitions at prices above book value.” Aurora, Canopy Growth and Aphria (NYSE:APHA) were specifically cited as at-risk cannabis stocks.
The list of red flags facing marijuana stocks continues to grow. And those red flags are starting to weigh on cannabis stocks in general and Canopy stock in particular.
The Bottom Line on CGC Stock and Other Marijuana Stocks
On their own, none of these developments or data nuggets is insurmountable. Indeed, most cannabis investors appear to know they’re counting on hype rather than results to drive marijuana stocks higher, and that the cannabis market may not fully gel for years.
In the aggregate, however, the paradigm shift in the tone and quality of the headlines not only poses a threat to the CGC stock price, but to all cannabis stocks.
For the first time since the cannabis craze took shape in 2017, with Canopy Growth stock largely leading the charge, the industry and its individual components are being asked to justify their heavy spending in the name of future market share.
As Charles Taerk, the CEO of Faircourt Asset Management, recently put it, the market is taking note of winners and losers. He explains “Now investors are starting to judge the companies a little differently. They’re starting to say, ‘Wait a second, how are they profitable and you’re so far from profitable?'”
An inability to justify the rapid move away from that profitability just cost Canopy Growth’s co-CEO his job, serving as a shot across the bow for other cannabis company chiefs.
The CGC stock price may have started this week out with a recovery effort, but the bar is quickly being raised for Canopy Growth stock and its peers. As we learned from crazes like 3D printing, rare earth metals and solar panels, not every player survives once the hype fades and companies have to at least move towards, rather than away from, profitability.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can learn more about him at his website jamesbrumley.com, or follow him on Twitter, at @jbrumley.