Even Cronos Isn’t Safe From the Pot Stock Implosion

Cronos is making profits, but that's not enough to protect its share price

In recent weeks, Cronos (NASDAQ:CRON) stock has been one of the strongest players in the struggling marijuana sector. Last Friday, however, CRON stock gave way as the pot stock sector plunged even farther. CRON stock dropped more than 6% and broke technical support.

Cronos stock
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Cronos stock has been one of the strongest in the industry in recent months. It hasn’t collapsed like, say, CannTrust (NYSE:CTST) or Aphria (NYSE:APHA). But the overall weakness in pot stocks as a whole has caught up with CRON stock, even though it is arguably the best positioned for the current industry malaise.

Cronos: Slow and Steady Wins the Race

In my previous article about Cronos, I described how the company was interesting, but that patience was required. Canopy has been running a deliberate and gradual growth strategy. That’s in contrast to many of its rivals that are spending money to boost their capacity and marketing as fast as possible.

For quite awhile, many investors viewed Crono’s approach as a negative. Marijuana, like say dot-coms in the 1990s, was about having the first mover advantage. Cronos was seemingly allowing its rivals to get ahead by growing more quickly.

What a difference a few months make, however. CRON stock has held up better than almost all its immediate marijuana peers. Why’s that? Because Cronos hasn’t been spending boatloads of money to pursue every revenue growth avenue possible. Instead, it has focused on its core business and is seemingly developing a sustainable and profitable business.

It’s interesting to note the contrast between Cronos and Canopy Growth (NYSE:CGC). Both have superstar backers. Cronos has its alliance with tobacco heavyweight Altria (NYSE:MO) while Canopy teamed up with Mexican beer giant Constellation Brands (NYSE:STZ). Altria has seemingly instilled Cronos with its methodical approach to business. Meanwhile, Canopy had an ugly falling out with its backer Constellation that resulted in Canopy’s founder and co-CEO Bruce Linton getting ousted. Seemingly, Constellation grew tired of Canopy’s business strategy which, so far, has led to massive losses.

Cronos is One of the Only Pot Companies Making Money

A recent Bloomberg article noted that the marijuana companies, as an industry, are running into big trouble. Instead of massive profits after legalization, instead inventory is piling up while prices plunge and losses mount. This had led analysts to suggest that a massive wave of writedowns is coming for the industry.

Cronos seems to avoid the worst of it, however. The article notes that Cronos is the only one of the biggest five Canadian firms that is expected to make a profit this Q4. Cronos also made a huge profit in its most recent quarter. That comes with an asterisk as most of it came due to non-operating income. However, Cronos, unlike most pot firms, also turned an operating profit in at least some of its quarters in both 2017 and 2018.

When the industry was booming, people were giving Cronos a hard time for not putting its cash to work faster. But that decision is looking more and more wise as the rest of the industry drowns in a massive flood of excess cannabis.

Massive Marijuana Inventory Sinking Producers

According to data from Health Canada, the marijuana industry is facing a veritable deluge of cannabis inventories. In October 2018, when regulators permitted recreational use, Canada had 115,000 kilograms of dried marijuana inventory. As of April, that figure has skyrocketed to 215,000 kilograms.

Meanwhile, actual consumer demand for dried marijuana only rose from 6,300 kilos a month to 8,900 kilos over the same period. When inventories nearly double but demand rises less than 50%, you know you have a major problem brewing. In fact, even if the marijuana producers stopped growing any more product tomorrow, there’d still be a massive glut. At a rate of 9,000 kilos a month of consumption, it’d take more than two years for Canadians to use up the already existing supply of dried marijuana.

The situation, incredibly, is even worse yet for CBD oil. Since October, the inventory of CBD oil has spiked by 150%. Meanwhile, monthly consumer demand has risen less than 40%. This left the Canadian market with 120,000 liters of CBD oil inventory in April, against monthly demand of just 8,200 liters.

How’s this going to end? Like most speculative booms do: With most of the higher-cost and levered producers going bust. Tons of entrepreneurs started, and investors funded, marijuana businesses with the hopes of easy profits. Unfortunately, it wasn’t to be. The supply of new marijuana is far exceeding actual consumer demand. The industry will have to cut supply and consolidate to improve pricing and achieve profitability.

CRON Stock Verdict

Cronos is playing the long game. And that’s the place to be. Many of its competitors bet the farm on sales growth spiking after legalization. Instead, it seems a lot of “medicinal” users simply transitioned to recreational use in Canada once full legalization occurred. The overall market is growing a bit, but not nearly enough to absorb the mountain of marijuana supply coming online.

Like with any speculative boom, there will be a massive shakeout ahead where the weaker players fold. Cronos, with its strong balance sheet and Altria backing, will be a survivor. In fact, it can probably do well. Oftentimes, industry leaders can buy their former rivals for pennies. But that doesn’t mean you need to buy CRON stock today. Even the dot-com survivors, like Amazon (NASDAQ:AMZN) ultimately dropped 90% from their peak bubble prices. Cronos has a sound business strategy, but CRON stock will still slide with the rest of the industry until the marijuana supply glut improves.

At the time of this writing, Ian Bezek owned MO stock. You can reach him on Twitter at @irbezek.

 


Article printed from InvestorPlace Media, https://investorplace.com/2019/07/even-cronos-isnt-safe-from-the-pot-stock-implosion/.

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