August 25, 2021

The marijuana sector peaked in February, bottomed from late March to mid-April, and since then has been building a base, preparing for a resumption of the big advance.

Fundamentals in the industry remain terrific, as second quarter results have recently revealed, and the trend toward legalization in the U.S. continues, so it’s only a matter of time before these stocks enjoy their next upwave.

In the portfolio today the one small change is that I’ll downgrade Columbia Care (CCHWF), our biggest loser, to Hold.

Full details in the issue.

Sector Overview

In the two weeks since my last update, a lot has happened, fundamentally. We’ve had the Cabot Smarter Investing, Greater Profits Conference, from which I’ve excerpted a couple of tables below, and we’ve received second-quarter reports from the final seven of our recommended stocks.

But not a lot has happened with our marijuana stocks, which are still preparing for their next uptrend. Nevertheless, I am confident that patience will pay, because this industry is still enjoying great growth, and somewhere in the future, full federal legality will bring institutional investors into the mix.

But even before then (one source says in the next 12 months), the odds are good that the industry will gain access to banking services (perhaps through the SAFE bill) and institutions will finally be able to put money into this market.

What happens after that is a matter of speculation, but we do have this data about the current state of institutional ownership.

Here’s a table of some stocks familiar to Cabot readers, which I chose off the top of my head, showing the level of institutional ownership.

At the low end are Apple and GameStop, two stocks that are heavily owned by individual investors. Tesla is an unusual case, because Elon Musk owns 22% of the stock. But for the “typical” growth stocks above those three, the average level of institutional ownership is 48%.

Now compare that to the level of institutional ownership of the stocks in our marijuana portfolio.

The outliers here are GrowGeneration and Innovative Industrial Properties, which are fully legal businesses and thus owned by institutions at normal levels. Among the others, the level of institutional ownership averages just 4%! But that will grow once ownership of these stocks becomes legal. And simple logic says all that institutional buying will send these stocks higher.

However, stocks don’t always act according to simple logic. Investors look ahead, and investors act emotionally. I’ve previously noted that on prior legalization events (Canada’s, Colorado’s and California’s being the most notable) the sector actually topped; investors had bought in anticipation of the legalization date, and marijuana stocks cooled off afterward.

So it’s highly likely that the stocks will rise in anticipation of legalized banking in the industry—a rise driven by individual investors—and that the stocks will peak when institutions can enter the field. But it’s not certain. What is certain is that this young industry is still in the early phases of its growth, the likely leaders of the industry are in our portfolio today, and in the long run, these stocks will be higher.

Marijuana Index
Interestingly, the Marijuana Index that we had been using since 2017 is no longer available; it is “getting re-engineered.” So I’ve switched to a new index, the Global Cannabis Stock Index, published by New Cannabis Ventures.

There’s nothing particularly new here. You see the sector’s peak in February, the correction since then, and now the basing pattern, preparing for the next uptrend.

PORTFOLIO

Note: The table reflects the state of the portfolio holdings before acting on any new recommendations.

What to Do Now
I remain cautiously optimistic that the sector’s uptrend will resume soon; the stocks have fallen far enough, and the fundamentals of the industry remain terrific. But until we see real strength, there’s no reason to be aggressive. The portfolio is already heavily invested, but not fully, and when we do buy more, it will be of the strongest stocks. The only change today is a downgrade of Columbia Care (CCHWF) to Hold.

New Recommendations

CURRENT RECOMMENDATIONS

Canopy Growth (CGC)
Canopy has lost roughly two-thirds of its value since the February top, but it’s still valued at $7.5 billion, thanks to heavy institutional sponsorship. It won’t be the fastest grower in the industry, but it will be a powerhouse, and that’s why we still own a little. Constellation Brands (STZ) is a major shareholder, and Martha Stewart, who originally put her name on the company’s CBD gummies, is the company’s official strategic advisor. Also, Canopy owns a chunk of TerrAscend, which is designed to pave the company’s entry into the U.S. market, and it has a deal to acquire privately held Acreage Holdings when marijuana becomes legal in the U.S. HOLD

Columbia Care (CCHWF)
Columbia Care is a New York-based vertically integrated multistate operator, with 87 dispensaries and 27 cultivation and manufacturing facilities in 10 states (Arizona, California, Colorado, Florida, Illinois, Massachusetts, New Jersey, Ohio, Pennsylvania and Virginia). It’s the lowest-priced stock in the portfolio, and therefore one of the most volatile, but the company’s small size means it’s able to grow faster than the big four; in the first quarter, revenues were up 227% from the prior year, and in the second quarter, reported August 12, revenues were up 260% from the prior year, to $102 million—with some of that growth coming from acquisitions. Commenting on the results, CEO Nicholas Vita said, “Our results in the second quarter were driven by organic growth in new and maturing markets, increasing wholesale activity, and contribution from our recently closed acquisition of Green Leaf Medical…Fundamentals continue to improve as we build scale, execute on planned CAPEX expansion projects, and build brand equity at the retail and product levels from coast to coast. We have more growth initiatives underway than ever before, and with New York, New Jersey and Virginia poised to transition to adult use, the opportunities for Columbia Care have never been greater.” As for the stock, it’s down since the report, now working at building a base at 4. And it’s our biggest loser, too, which means selling should be considered—and has been. Yet I’m going to stick with it, because all this fundamental growth should eventually translate into a stronger stock. But I will downgrade it to Hold. HOLD

Cresco Labs (CRLBF)
Chicago-based Cresco is one of the four leading marijuana companies in the U.S., with 33 operational dispensaries, 44 retail licenses and 18 production facilities in 10 operational states. What differentiates Cresco from its competitors is its Consumer Packed Goods (CPG) approach to the business, developing brands (Cresco, High Supply, Mindy’s Edibles, Good News, Remedi, Wonder Wellness Co. and FloraCal Farms) and selling them wholesale through more than 830 dispensaries across the country. This focus on wholesale means lower margins, but that also translates into a cheaper stock; CRLBF sells for just three times revenues, while CURLF and GTBIF sell for eight times revenues and CGC sells for 12. Second-quarter results, released August 13, saw record revenue of $210 million, up 123% from the year before, and earnings of a penny a share, up from a loss a year ago. Looking forward, management guided to an annualized revenue run-rate of $1 billion by the end of 2021. Charles Bachtell, founder and CEO, commented, “Q2 was a strong quarter of head down execution at Cresco Labs and once again we are hitting our stride as we enter the next phase of growth. During the quarter we continued to invest in infrastructure, operationalized new assets, and deployed our proven playbook to build top positions in the most important U.S. cannabis markets. We are very proud of the record performance this quarter, driven primarily by organic growth, and we’re even more excited about what lies ahead as we begin recognizing contributions from growth initiatives initiated over the last 18 months. We remain dedicated to our differentiated strategy and continue to lay the foundation for long-term leadership in the U.S. cannabis industry.” As for the stock, it’s been going with the flow of the sector; it’s still working to build a base at 10, which is a nice round number that could eventually attract buyers. BUY

Curaleaf (CURLF)
Based in Massachusetts, Curaleaf remains the revenue king of the industry, though Trulieve’s latest acquisition may end that. Curaleaf now operates in 23 states with 109 dispensaries, 22 cultivation sites and over 30 processing sites. The latest dispensary was opened today in Bordentown, New Jersey; it’s the company’s third in the state, which are all strategically positioned near the New York and Pennsylvania borders. Additionally, Curaleaf International is the largest vertically integrated cannabis company in Europe. The stock has been weak, hitting a low of 11 last week, but recent buying has brought a bounce to 12. BUY

Green Thumb (GTBIF)
Headquartered in Chicago, Green Thumb is one of the four U.S. industry leaders, generating revenue in 12 states (California, Colorado, Connecticut, Florida, Illinois, Maryland, Massachusetts, Nevada, New Jersey, New York, Ohio and Pennsylvania). Second-quarter results, released on August 11, saw record revenue of $222 million, up 85.4% from the year before, and EPS of $0.10, up 267% from the year before. Also, since the quarter has ended, Green Thumb has expanded into the Virginia market with the acquisition of Dharma Pharmaceuticals, expanded into the Rhode Island market by acquiring Mobley Pain Management and Wellness and Canwell Processing (which include a cultivation and production facility and a dispensary in Warwick, which is one of only three retail dispensaries in the state), and opened Rise Warminster, its 62nd store nationwide. The stock has been the most impressive of the big four since the February top; it bottomed at the end of March and has been basing since then and is now only 22% off its high. BUY

GrowGeneration (GRWG)
Based in Denver, GrowGeneration is not a marijuana company, but a hydroponic products retailer focused on the commercial cannabis growers, and still growing rapidly by acquisition. Second-quarter results, released August 12, saw record revenues of $125.9 million, up 190% from the previous year, and EPS of $0.11, up 83% from the previous year. Darren Lampert, GrowGeneration’s co-founder, commented, “The entire enterprise generated more revenue in the first half of 2021 than all of 2020 and adjusted EBITDA in the first half of 2021 was more than all previous periods combined. For the year, we closed 12 acquisitions, adding 20 hydroponic retail locations, bringing our total store count to 58. Our ability to attract and purchase the ‘best of breed’ and largest hydroponic operators in the country was again evident with our signing of HGS Hydro, the country’s third largest hydroponic chain. The strategies implemented several quarters ago are now positively impacting margins. We increased our inventory positions across all key product categories to get ahead of price increases, as well as expanded more private label purchases. Our private-label and proprietary products now account for approximately 7% of our overall sales.” Interestingly, GrowGeneration has been impacted by the supply chain disruptions in the U.S. but managed through it, though Lampert commented that due to construction and building delays, the two Southern California and the Ardmore, Oklahoma store openings will happen in the fourth quarter. But the acquisitions keep coming! On Monday, the company announced the acquisition of Hoagtech Hydroponics, a leading hydroponic equipment and indoor gardening store, serving the Bellingham, Washington area that is close to some of the state’s largest commercial operators, and yesterday the company announced the acquisition of Commercial Grow Supply of Santa Clarita, California, with annual revenues approaching $10 million, in the process raising its 2021 revenue guidance to $455 to $475 million. As for the stock, it fell after the announcement (most likely because of the construction delays) and is now trading 53% off its February high, which I think presents a buying opportunity. BUY

Innovative Industrial Properties (IIPR)
Our marijuana REIT, Innovative Industrial Properties, owns 74 properties located in Arizona, California, Colorado, Florida, Illinois, Maryland, Massachusetts, Michigan, Minnesota, Nevada, New Jersey, New York, North Dakota, Ohio, Pennsylvania, Texas, Virginia and Washington, totaling approximately 6.9 million rentable square feet which are 100% leased. Like GrowGeneration, this company’s business is totally legal in the U.S., so the stock has been a popular investment for institutions that have avoided the plant-touching stocks so far. And in recent months it’s become the hottest stock in the portfolio, hitting new highs frequently. As discussed at the Cabot conference last week, part of reason for that is yield; the stock pays a dividend of 2.3% and thus is attractive to income-focused investors. The portfolio averaged up in the stock a month ago, but if you don’t own yet, you can buy now. Just be sure you understand the ramifications of REIT dividends on your taxes. BUY

Jushi Holdings (JUSHF)
With 32 retail locations in five states, little Florida-based Jushi is the smallest company in our portfolio as measured by revenues, but it’s growing like the wind; second-quarter revenues, announced today (though pre-announced weeks ago), saw revenue of $47.7 million, up 220% from the previous year, and adjusted EBITDA of $4.6 million, or 9.6% of revenue. During the quarter, Jushi opened its 19th and 20th BEYOND/HELLO retail locations nationwide with its 12th and 13th stores in Pennsylvania; completed the acquisition of Organic Solutions of the Desert, a dispensary in Palm Springs, California; completed the acquisition of the Virginia-based pharmaceutical processor, Dalitso; and signed a definitive agreement to acquire Nature’s Remedy of Massachusetts, which operates two retail dispensaries and a 50,000 sq. ft. cultivation and production facility. Assuming the Massachusetts acquisition will close late in the third quarter, management revised full-year 2021 revenue guidance range from $205 to $255 million to $220 to $230 million. The stock had little reaction to the news, given that the main facts were known weeks ago; it continues to build a base above the 4.5 level. HOLD

TerrAscend (TRSSF)
TerrAscend is another smaller producer, but it’s not a takeover target, because Canopy Growth already owns 29% of it, in part because it will enable the Canadian giant a quick entry into the U.S. market when legal. The company operates several synergistic businesses, including The Apothecarium, a cannabis dispensary with several locations in California; Arise Bioscience, a manufacturer and distributor of hemp-derived products; Ilera Healthcare, a Pennsylvania medical marijuana cultivator, processor and dispenser; and Valhalla Confections, a manufacturer of cannabis-infused edibles. Second-quarter results, released August 19, saw revenues of $58.5 million, up 72% from the year before. However, the company withdrew its 2021 financial guidance, primarily due to “temporary reduction in yields of quality flower caused by ongoing construction and expansion in Pennsylvania” and investors didn’t like that, dropping the stock immediately following the announcement, though it has since stabilized at the 7 level. We sold half our position a month ago because of the weakness and now are slightly underweight, and given that the “bad news” is out, we’ll hold the rest. For what it’s worth, management “expects to continue to deliver strong year-over-year growth in revenue and adjusted EBITDA.” HOLD

Trulieve (TCNNF)
The biggest seller of marijuana in Florida, with a 51% market share, Trulieve released second-quarter results on August 12. Revenues were $215 million, up 78% from the year before, while EPS (the sixth consecutive positive quarter) were $0.31, up 94% from the previous year. During the quarter, the company announced plans to acquire Harvest Health and Recreation, one of the largest cannabis acquisitions announced in the U.S. to date; commenced operations and opened its first dispensary in Massachusetts; completed the acquisition of Keystone Shops in Philadelphia, entering the Greater Philadelphia area and bringing the dispensary count in Pennsylvania to six; and commenced operations in West Virginia as the first medical cannabis company to start planting in the state. Commenting on the results, CEO Kim Rivers said, “Our performance in the second quarter was strong across all financial and operating metrics. We have become operational in Massachusetts and West Virginia and recently won an application for one of two class 1 production licenses in Georgia. We continue to execute on our national expansion model, building our footprint both organically, with license application awards, and inorganically, with strategic acquisitions.” And then just today, the company announced the opening of two new dispensaries in Boynton Beach and Port Orange, Florida, which will bring the company’s total dispensary count to 100 (10 are outside Florida). All this is good, yet the stock remains weak, hitting a low of 26 last week before rebounding slightly. HOLD

The next Cabot Marijuana Investor issue will be published on September 29, 2021.

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