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So you (still) want to invest in cannabis? What you should know with legalization almost here

 

(Image: Bloomberg, Illustration: Yahoo Canada Finance)

With the legalization of recreational cannabis just a day away, it’s not too late for retail investors to get in on the marijuana market.

But industry analysts following the sector warn that it’s still a volatile market, with many losers – as well as winners – expected in the months following Oct. 17, when legalization comes into force.

Afzal Hasan, president of CannaRoyalty Corp., which invests in cannabis companies, compares the current hype around the marijuana market to that in-and-around the technology industry in 1999, just before the dot-com bubble burst. Most of the market conditions, he says, are the same – particularly that people are investing in an industry that they don’t necessarily understand.

“There is a Google or Amazon of cannabis lurking out there somewhere, but trying to find them is like looking for a needle in a haystack,” Hasan said in an interview with Yahoo Canada Finance.

“People that invest in those companies are going to do phenomenally… But there’s also going to be a whole lot of people that get up in things that turn out to be a flash in the pan too.”

The question for many, then, is how to avoid investing in one of those “flash in the pan” companies.

“If you can understand as an investor where the value is in this company and where it is going to come from in the future, then you’re in a great position,” Hasan said.

“The problem is with the vast majority of the companies that trade in the cannabis is that level of information generally isn’t out there and there isn’t a clear line that goes from what the company is doing now to its purported end state.”

Getting all the necessary information is likely easier said than done. For example, last week the Canadian Securities Administrators published a report that found that licensed cannabis producers “often did not provide sufficient information in their financial statements and management’s discussion and analysis for an investor to understand their financial performance.” According to the report, 100 per cent of the licensed producers the CSA reviewed needed to improve their fair value disclosures.

Greg Taylor, manager of the Purpose Marijuana Opportunities Fund, says what will separate the winners from the losers following Oct. 17 – the day recreational cannabis is legalized in Canada – will, in part, be cost of production. Taylor expects the price of cannabis to come down over the next few years, meaning companies will have to ensure their production costs are low.

“Everyone has to remember that this is a new industry and at the end of the day, not everyone is going to win,” he said.

“There will be some winners that are going to be massive, but there is also going to be a lot of companies that just don’t make it.”

Two additional factors that Taylor says will define successful cannabis companies are participation in international markets and diversifying into products such as oils and beverages. Still, who does and doesn’t make it may not be unveiled for several quarters, he said.

“Once we actually see the numbers come out, it’s going to change to how you analyze any other business, which is looking at cash flows, margins, projections and valuations, and trying to figure out which ones are the real companies and which ones are failing,” Taylor said.

“That’s going to be a big shift that we have in Canada over the next six months to a year.”

Despite warnings of volatility and consolidation in the industry among licensed producers, with players such as Canopy Growth Corp., Tilray Inc, and Aurora Cannabis Inc. establishing a (relatively) solid foothold in the sector, investors have not necessarily missed the boat when it comes to investing in marijuana. There are still plenty of opportunities out there, Taylor says, but they may be shifting within the cannabis market.

“It’s moving away from the Canadian-based (licensed producers) towards more the U.S. international ones and those that are in the early stages,” he said.

“I think there will still be money to be made in the Canadian companies, but it’s going to be about watching as they evolve into consolidators or come out with products that are really going to take off.”

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