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Seven U.S. Stocks Offering Cannabis Exposure

While cannabis remains illegal on a federal level, these seven names are making early inroads into the growing industry.

Currently no U.S.-traded big cap or mid cap stock offers investors direct access to companies growing or selling legal cannabis. That’s because cannabis remains illegal under federal law, even as more states are sanctioning medical or adult use.

In 2018, legal cannabis sales in the U.S. are expected to increase by about 50% to a total of $8 billion to $10 billion, and it could reach $20 billion by 2020, according to the Annual Marijuana Business Factbook.

However, still only a handful of big corporate names and a small group of midcap stocks are making inroads in the space.

“As the cannabis industry continues to mature and regulations move towards more wholesome legalization, we expect to see increased activity by these large incumbents in claiming stakes related to cannabis,” said Harrison Phillips, vice president at Viridian Capital Advisors, a New York-based cannabis research firm.

Big players have been mostly absent thus far in the consolidation of cannabis companies, he said. Viridian tracked a 55% increase in M&A transactions in the first quarter of 2018, driven by existing companies in the space rather than larger players wading in. The illegal status of cannabis on the federal level is one factor keeping out the larger players for now.

“Over the medium and long term however, the growth of the cannabis industry in terms of revenues and product sales, the amount of capital flowing into the sector, and some of the financial returns being realized, will induce larger strategic and financial acquirers to enter the space,” Phillips said.

Until then, these major U.S. companies have already made investments or created business lines related to cannabis sales.

Constellation Brands (STZ)

Constellation Brands late last year spent about $188 million to purchase a 9.9% stake in Canopy Growth Corp (CGC) , the Canadian producer of medical marijuana that just listed its shares on the NYSE. While Constellation Brands plans to market a cannabis drink with Canopy Growth in the future, its investment in the company has already delivered big, unrealized returns. The company recognized an additional $236 million pretax gain from the change in fair value of its Canopy Growth investment, according to its fourth-quarter results. Thus far, Constellation Brands has booked a total pre-tax gain on its investment of $453 million, Constellation said on March 26.

“This investment provides Constellation with the first mover advantage for a potentially significant, emerging consumer opportunity and aligns with our long-term strategy to identify, meet, and stay ahead of evolving consumer trends and market dynamics, while maintaining focus on our core total beverage alcohol business,” Constellation CEO Robert Sands told analysts at the time.

Looking ahead, Constellation Brands said it plans to continue to invest in the sector. It also holds warrants to purchase another 9.9% of Canopy Growth by the end of 2019.

Constellation is an Action Alerts PLUS portfolio company.

Scotts Miracle Gro (SMG)

Another widely covered “pot stock” among larger companies is Scotts Miracle Gro, the fertilizer company that created its Hawthorne Gardening unit way back in 2014 to acquire companies and grow its presence in the business of hydroponic garden equipment for cultivating cannabis. After a series of acquisitions and organic expansion, Hawthorne is now a significant chunk of the overall company. In fiscal 2017, Scotts Miracle Gro grew Hawthorne to $287.2 million in sales up from $121.2 million. (Total sales for all of Scotts Miracle Gro amounted to $2.64 billion in 2017.)

Still, the road hasn’t been smooth. Second-quarter Hawthorne sales fell 29% to $41.8 million in the face of slower-than-expected growth in the legal California market. Only 12 of the 58 counties in the state have granting licenses to growers and dispensaries, the company pointed out on its most recent analyst call on May 1.

“The industry probably got ahead of itself in 2017, anticipating the creation of a legal recreational marketplace,” Scotts CEO James Hagedorn said at the time. “A lot of growers saw legalization coming and were chasing the opportunity. As a result, most of the industry experts we’ve talked to believe there was more cannabis grown in 2017 than the market needed.”

Despite these short-term challenges, Scotts doubled down on cannabis with its $450 million acquisition of Sunlight Supply Inc., owner of a state-of-the-art 350,000-square foot distribution center on the West Coast. The deal was announced in April. After the acquisition closes as expected on June 1, Scotts plans to use the company to increase distribution of its Hawthorne products and grow the business.

Jack in the Box (JACK)

Jack in the Box doesn’t sell any cannabis-infused food, but the fast food chain has reached out to marijuana users in some of its ads. The company recently struck an alliance with Merry Jane, a cannabis social media site backed by Snoop Dog and others, to launch the Merry Munchie Meal in honor of legal recreational pot in California. The company has also been creating some Cannabis user-friendly ads around a discount taco special. Other food companies have been moving in this direction as well, with Nestle’s (VSX: NESN) hot pockets featuring Snoop Dog and Kate Upton in some of its ads.

Innovative Industrial Properties (IIPR)

Innovative Industrial Properties went public in late 2016 on the Nasdaq as a real estate investment trust focused on medical cannabis cultivation and production facilities. IIPR’s stock price has risen to nearly $37 a share since then. As of May 9, the company owned six properties in Arizona, Maryland, Minnesota, New York and Pennsylvania with 706,000 square feet. Its average yield for these properties is 15.7%, the company said on May 9.

With a market cap of about $250 million, this company remains a relatively small player in the REIT space, but it continues to grow. For the three months ended March 31, funds from operations swung to a positive $1.08 million from a loss of $430,000.

Alliance One International (AOI)

Alliance One International is a Morrisville, N.C.-based tobacco company, with a Canadian unit called Island Garden focused on production of medical cannabis.

In the U.S., it’s working on offering products based on CBD oil, the part of marijuana without psychoactive properties. In December, the company purchased 40% of North Carolina-based Criticality LLC, which is growing industrial hemp under the state’s pilot program. The deal included triggers for Alliance One to purchase an additional 10% stake in Criticality by March 2020.

Turning Point Brands (TPB)

Turning Points Brands, a Louisville, Kentucky-based maker of vaping products, has been targeting the Canadian cannabis market with Zig Zag rolling papers and other lines. On April 30, it acquired Vapor Supply LLC for $4.8 million as it grows its presence in the business, which is mostly comprised of tobacco-based products in the U.S.

Biopharma Names

GW Pharmaceuticals PLC (GWPH) and Insys Therapeutics Inc. (INSY) are developing cannabis-based medicine for the U.S. market.

These bigger companies with some cannabis exposure may not be moving the needle yet on large-cap fundamentals such as revenue or net income, but they are certainly poised to take advantage of their early-mover positions as the sector matures.

— This article was originally published May 29 on Real Money.

At the time of publication, Gelsi had no positions in any securities mentioned.

These seven stocks offer exposure to early movers in the U.S. cannabis sector….STZ