You don’t have to look far to see evidence that publicly traded marijuana companies are incredibly volatile. And that assessment is the same for the top players like Canopy Growth (NYSE:CGC). Just in this month alone, Canopy Growth stock has dropped nearly 23%. And since the end of April, shares have shed slightly more than half its market value.
Without any hesitation, it’s a sickening decline. Just to make matters worse, stakeholders no longer have the buffer that CGC stock was up on a year-to-date basis. At least at the time of writing, that’s no longer true. Since January’s opening price, the weed company is now looking at a more than 5% loss.
As Noel Gallagher formerly of Oasis fame might ask, where did it all go wrong for CGC stock? According to The Motley Fool’s Sean Williams, one of the reasons is the company’s goodwill.
In a non-financial context, goodwill actually sounds like a good thing. Certainly, we can use more of it, from in our daily interactions all the way up to in the highest political offices. But from an investor’s point of view, goodwill doesn’t always live up to its linguistic implications.
According to an Associated Press report on the subject, goodwill is the premium that companies place on a bought-out organization’s actual assets, such as property, plants and equipment. In other words, goodwill represents vague concepts, such as reputation or corporate culture.
This premium is fine during a bull market. But to Williams’ point, under iffy circumstances, excessive goodwill may lead to a write-down of its assets. And for a pot investment like Canopy Growth stock, a write-down is the last thing it needs.
Why Goodwill Isn’t So Bad for CGC Stock
Williams makes a compelling argument why you should avoid Canopy Growth stock. Although I’m still bullish on weed, I understand where he’s coming from. And especially if you’re a conservative investor, I would second his assessment.
Moreover, the Associated Press prepared a great argument for why investors should fear blue-chip S&P 500 companies with excessive premiums for intangibles. Back in the summer of 2016, the news agency wrote that goodwill represented $2.5 trillion of the index’s balance sheet. For context, that’s roughly 12% of U.S. gross domestic product.
Thus, we arrive at a logical argument. If excessive goodwill is bad for storied power players, it must be downright terrible for CGC stock. If we’re strictly looking at the financials, then of course, you shouldn’t expose yourself to Canopy Growth stock.
But let’s also remind ourselves that legal marijuana isn’t exactly logical. More often than not, companies like CGC are narrative-driven affairs fueled by emotions.
That’s a far different take from S&P 500 organizations. Specifically, the reason why excessive premiums on intangibles are undesirable for blue chips is that their markets are limited. For example, a tech firm can only sell so many computer chips. If such companies take a hit on goodwill, then it may severely impact pre-tax earnings. Unsure of how they will recoup the losses, observing investors may head for the exits.
But with Canopy Growth stock, we don’t know what the potential limits are. For right now, the actual limits are whatever the Canadian market can support, which admittedly is not much.
But what if we have the long-shot event where the U.S. legalizes marijuana at the federal level? I’d say for CGC that at that point, goodwill isn’t a liability, it’s a bonus.
Canopy Growth Stock Is All About the Reach
At the end of the day, here’s why Canopy Growth stock and its ilk like Aurora Cannabis (NYSE:ACB), Cronos Group (NASDAQ:CRON) and Tilray (NASDAQ:TLRY) have stunk up the markets. They’re all reaching for the potential that international markets may provide.
Will it happen? I think it will, but I don’t have a crystal ball. Clearly, most Canadian cannabis companies think so as well, which is why they’re positioning themselves for that possibility. When they do this, their acquisitiveness naturally lifts goodwill.
If political events don’t go according to plan, probably all weed stocks will collapse. But if legalization does pan out — and there’s compelling evidence that it will — CGC goes to the moon. That’s the charm and the pitfall of marijuana.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.