Cannabis stocks have not been immune to the market selloff. In fact, Canopy Growth Corp (NYSE:CGC) stock has lost two-thirds of its value in the past six months.
But while the outlook has gotten tougher for Canopy in recent months, it is still the best option for cannabis investors today. The rough patch for cannabis stocks may not have reached its low point just yet.
But Canopy’s management is making all the right moves to ensure the company is well-positioned for the eventual recovery.
In the meantime, Canopy has the strongest balance sheet of its peers. In addition, if the share price continues to decline, Canopy could be an appealing buyout target for minority investor Constellation Brands (NYSE:STZ, NYSE:STZ.B).
Canopy Is Making the Right Moves
Last year, Canopy fired founder and co-CEO Bruce Linton and replaced him with former Constellation CFO David Klein. Klein is a numbers guy. His first major actions since taking over as CEO demonstrates an aggressive strategy to help shore up the company’s financial situation.
Earlier this month, Canopy announced it is shutting down 3 million square feet of production capacity. It also laid off 500 employees and said it would be taking up to a $550 million charge. Following the announcement, Bank of America analyst Christopher Carey said the move was exactly the type of financial discipline he was hoping Klein would bring to the table.
“While we acknowledge wasteful past spending which preceded today, we think these
cuts are the right move for long term, showing mgmt. has the wherewithal to do what is
required to create a sustainable, profitable business,” Carey says.
Canopy has also established itself as an early market leader in Canada with roughly 25% share, according to Bank of America. That share may grow if Canopy’s competitors start dropping like flies because of their balance sheets.
At the same time, Canopy’s conditional buyout of U.S. multi-state operator Acreage Holdings (OTCMKTS:ACRGF) has it well-positioned to take a similar first-mover advantage in the U.S. market should cannabis ever be legalized on a federal level.
Canopy Has a Strong Balance Sheet
The biggest selling point for CGC stock at this point may be the fact that is has the best balance sheet in the business. Canopy ended 2019 with 1.6 billion CAD in cash and cash equivalents, according to Bank of America. While many of its peers are ramping up debt at any cost to stay afloat, Canopy is actually paying down its debt.
Last quarter, Canopy reported just 536 million CAD in long-term debt, down from 842 million CAD in March 2019. Canopy also reported 49% sales growth and just 34% growth in operating expenses. Carey says the capacity and staff cuts will significantly reduce Canopy’s working capital drain in coming quarters, improving margins even further.
Ultimately, Carey says Canopy will end up in a position of financial strength when the cannabis industry begins to recover.
“Overall we are favorable to Canopy’s long-term prospects, as a leading balance sheet have allowed Canopy to scale both in Canada and abroad (specifically the US), at a faster clip than peers,” Carey says.
CCG Stock Has Downside Protection
Canopy also has a major potential catalyst in its back pocket if the share price continues to fall. Constellation Brands took a 38% stake in Canopy for about $4 billion back in August 2018. Since that time, CGC stock is down more than 70%. But Constellation has replaced the Canopy CEO with its own former CFO. Klein is now making bold moves to improve the company’s financial situation.
I believe there is a distinct possibility Klein was assigned to the position of Canopy CEO to get the company’s financial ducks in a row in preparation for a potential Constellation buyout. If Constellation loved taking a 38% stake for $4 billion, it could theoretically get the other 62% of the company today at a price in the $3.5 billion range.
The further CGC stock falls during this downturn, the more appealing a buyout will look to Constellation. In that sense, CGC stock has a downside protection that other cannabis stocks do not have.
Canopy has a market share lead in Canada and potentially in the U.S. It has a strong balance sheet and improving fundamentals. And it has a financial backer with deep pockets that could potentially buy out the stock at some point. While most of the cannabis group is reeling, CGC stock still looks like a solid long-term investment.
Wayne Duggan has been a U.S. News & World Report Investing contributor since 2016 and is a staff writer at Benzinga, where he has written more than 7,000 articles. Mr. Duggan is the author of the book Beating Wall Street With Common Sense, which focuses on investing psychology and practical strategies to outperform the stock market. As of this writing, Wayne Duggan does not hold a position in any of the aforementioned securities.