Marijuana Stocks: You Would Have to be High to Buy Them at Current Prices

I’ve been a big believer in vice investing—and particularly tobacco stock investing—for a long time.  I turned bearish on tobacco stocks late last year, but this was based purely on price.  In my view, tobacco stocks had simply gotten too expensive relative to other dividend-paying options—and I would reiterate that view today.

But if ol’ tobacky stocks are unattractive at current prices, what about wacky tobacky stocks?

With marijuana slowly becoming legalized in the United States (at least on a state-by-state basis), manufacturers and vendors of cannabis are evolving from enterprises of dubious legality into mainstream and regulated purveyors of vice.

So, if Big Tobacco has been a profitable investment despite its social stigma, might Big Weed get a haircut and get to work for investors?

Maybe, but I wouldn’t count on it.

To start with, there is no “Big Weed.”  All of the players are small companies with names that few investors have ever heard of.  Tobacco and marijuana are also vastly different industries with vastly different competitive dynamics.  Yes, both could be lumped into the category of “sin stocks,” but not all sin stocks are created equal.  This requires a little explaining.

I recently wrote that Coca-Cola and Pepsi were the “New Big Tobacco.” By this I meant that sugary drinks were evolving into a stigmatized industry that is regulated in the interests of public health in the same way that cigarettes are.  But I also noted that the stocks of companies operating under that kind of scrutiny can still be wildly profitable to own under the right set of conditions:

  1. There should be substantial barriers to entry for new competitors (what Warren Buffett likes to call “moats.”)
  2. The company should be financially healthy (strong balance sheet, manageable debt, etc.)
  3. Management should be committed to rewarding shareholders with rising cash dividends and, to a lesser extent, share repurchases.
  4. The stock must be cheap.

Big Tobacco names like Altria (NYSE:MO), Philip Morris International (NYSE:PM), and Reynolds American (NYSE:RAI) easily pass the first three criteria. They just happen to bomb the fourth.

So, how do marijuana stocks look in comparison?

The first point is in a state of limbo.  There were arguably barriers to entry under the old medical marijuana regime due to the legal hoops that growers and vendors had to jump through.  But none of the existing players were big enough to crush new competition, and none had any real name recognition.

Virtually every human being alive today is familiar with Altria’s Marlboro brand or Anheuser-Busch InBev’s  (NYSE:BUD) Bud Light, regardless of whether they smoke tobacco or drink alcohol.  But how many have heard of Medical Marijuana Inc (Pink sheets: MJNA), one of the largest suppliers of medical marijuana? Or Cannabis Science (Pink sheets: CBIS), one of its biggest competitors? Or for that matter, how many have heard of Growlife (Pink sheets: PHOT), a leading seller of hydroponic equipment?

I’m betting the answer is not too many.  At this stage in the game, there is no real brand recognition to speak of.

What about the other criteria?  Are these companies at least financially sound, and do they reward shareholders via dividends and share buybacks?

Not exactly.  All three companies are high-risk penny stocks, and none pay a dividend.  Of the three, Medical Marijuana, Inc., the “blue chip” of the group, has the healthiest balance sheet, but you’re talking about a company that generated only $5 million in revenue last quarter.

And price?  Medical Marijuana, Inc. trades for 14 times book value and 24 times sales.  To pay those prices for any stock…well, let’s just say you’d have to be heavily under the influence of the company’s products.

At time of writing, Medical Marijuana, Inc., Cannabis Science, and Growlife trade for $0.17, $0.05 and $0.04 per share, respectively.  But a young analyst I interviewed on the matter told me he had a price target of $4.20 on all three.

I think there was a joke in there somewhere at my expense.

Bottom line: while marijuana stocks may indeed be vice investments, they have none of the qualities that have helped tobacco generate such fantastic returns over the past 50 years.  Treat them as a risky speculation and nothing more.

Sizemore Capital has no positions in any stock mentioned. This article first appeared on InvestorPlace

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

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