Pot stocks have climbed since it was confirmed Wednesday that Democrats will take control of the U.S. Senate with two runoff election victories in Georgia, lifting hopes for federal reform in the next two years.
And there’s a ton more room to run for the strongest multi-state operators, who are growing at a faster rate than tech darlings in Silicon Valley, says Pierce Crosby, general manager at investor social network TradingView.
After the Democrat-controlled U.S. House passed a bill in December to decriminalize and tax cannabis at the federal level, Senate Republicans blocked the measure. But now with Raphael Warnock and Jon Ossoff winning their races in Georgia, Democrats have a slim majority in the Senate, complete control over Congress and power to act on their promise to legalize weed.
“Pot is going to continue to be a story irrespective of who is in power in Washington D.C.,” Crosby says. “But this has opened up to a much larger growth potential for the sector than was previously factored in even two days ago.”
Cannabis stocks have rallied since Joe Biden won the U.S. presidential election in November, and in the wake of surging sales during pandemic-related lockdowns throughout most of 2020.
Democrats are now poised to advance any number of more substantial cannabis bills such as the MORE, SAFE Banking and STATES acts. Those reforms would remove weed from the federal Controlled Substances Act and major U.S. operators will have access to basic banking services for the first time, as well as the option to up-list to major U.S. stock exchanges.
If those bill pass over the next two years, cannabis will be catapulted to the same status as other major industries like tobacco, alcohol or beer, Crosby says. While top U.S. weed firm Curaleaf (CSE: CURA) is currently worth US$11 billion, it could be on the path to mirror a beverage giant Anheuser-Busch InBev (NYSE: BUD), a $280 billion company.
But reform isn’t a guarantee.
Major legislation like the MORE Act require 60 votes in the Senate, so will need backing from some Republicans to pass, notes analyst Chris Damas of BCMI Research.
Despite that hurdle, Damas believes Democrats will find a way to use their new power to deschedule cannabis in the next two years.
If that’s the case, companies will be able to import weed across state and international borders, which is why Canada’s biggest pot stocks have also rallied following Wednesday’s Georgia runoffs.
But the increases in valuation don’t make sense for companies like Organigram (TSX: OGI), Aurora Cannabis (TSX: ACB) and Hexo Corp. (TSX: HEXO), which have little exposure to the U.S. market, Damas said in an email.
He points out that Canopy Growth (TSX: WEED) is in a position to benefit. That’s because the major producer would be able to close its deal to purchase Acreage Holdings (CSE: ACRG.A.U) and possibly buy a bigger stake in TerrAscend (CSE: TER), which are both sizable multi-state operators.
For Crosby, the Canadian firm with the best cross-border potential is Aphria (TSX: APHA), which recently said it’s merging with Tilray (Nasdaq: TLRY).
The combined enterprise will be able to leverage Aphria’s distribution, logistics and operations prowess south of the border. Additionally, their Sweetwater craft beer and Manitoba Harvest hemp brands are sold in multiple states.
While investors should be looking for firms best positioned to hop across the boarder, Crosby expects some Canadian companies may try to enter the market via merger and acquisition deals.
Investors take aim at surging US weed giants
Both Crosby and Damas agree that U.S. legalization will mainly strengthen the hands of leading U.S. operators, reducing opportunities for Canadian producers to enter.
The biggest American firms will be able to exploit their first-mover advantages, especially local logistics and licences that takes years to develop.
New investors wanting to play the U.S. legalization opportunity should be looking at revenue growth rates of top American firms, Crosby says.
In the major growth industries of today, like big tech’s open source segment, top companies like Mongo DB see annual sales growth of about 50 per cent. And they trade at roughly 30 times their sales because investors believe their potential value will be sky high in the next five years.
However, because cannabis isn’t federally legal in the states, investors consider pot stocks more risky and volatile despite many major firms seeing year-over-year sales growth well over 100 per cent.
A major U.S. cannabis company like Green Thumb Industries (CSE: GTII) would benefit from federal legalization in a big way, Crosby predicts. In November, the firm reported third-quarter revenue of US$157.1 million, a 131 per cent year-over-year increase. It trades at about 13 times its sales.
Damas’s pick is Cresco Labs (CSE: CL), which recorded US$153.3 million in third-quarter sales, up 423 per cent from the last fiscal year.
“That’s really the story is that with these kind of growth rates,” Crosby says. “You could see a much larger revenue multiple being applied to these big cannabis companies in the U.S.”
If the reform measures pass, top companies like Green Thumb and Curaleaf will uplist to major U.S. exchanges. That will open the door to major institutional investors that haven’t yet touched cannabis stocks, because most are still considered small-cap companies.
And retail investor interest will continue to grow as legal sales increase.
Data firm BDSA projected last year that America will represent 72 per cent of the US$47 billion in global cannabis sales by 2025.
But the Coca-Cola of weed is yet to be determined, Crosby says, and many stocks will remain in small-cap territory even if the county legalizes.
“It’s really just comes down to who win in the space. And not all these companies are going to win. Safe to say, there’s going to be losers, too.”
Top image via Deposit Photos