By Steve Gelsi
Bernstein analyst sees the U.S. as the 'real prize' and issues no higher rating than market perform on the three stocks
Sanford C. Bernstein & Co. analyst Nadine Sarwat initiated coverage of three Canadian cannabis stocks on Wednesday but stopped short of any buy recommendations at current levels.
"Is the buzz gone? In the short term, yes, as Canada goes through growing pains and U.S. legalization efforts are patchy at best," Sarwat said. "However, in the long term, we see both meaningful and underappreciated growth in the U.S. (with or without legalization) and continued growth in Canadian cannabis spending."
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Bernstein assigned market-perform ratings both to Tilray Brands Inc. (TLRY), with a $3.90 price target, and Cronos Group Inc. (CRON.T), with a $3 price target.
Canopy Growth Corp. (WEED.T) drew an underperform rating and a $1.50 price target just days after the stock rallied on plans by the company to group its U.S. businesses under a new entity called Canopy USA.
While Canopy USA will help realize revenue from its U.S. companies Wana Brands, Acreage and Jetty Extracts, no cash will flow from Canopy USA to Canopy Growth, because they will have separate management.
Sarwat said the Canopy USA transaction "is akin to shuffling cards in a deck (but the deck itself [is] not changing)" until the U.S. legalizes cannabis.
Canopy Growth also faces price compression in the Canadian market, market-share losses and headwinds from shifting its portfolio to premium cannabis flower.
She concluded that Canopy Growth stock is "meaningfully overvalued" at current levels.
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Tilray earned more positive comments as "the highest quality company in our cannabis coverage," Sarwat said. She cited the company's diverse portfolio in other countries such as Germany, its distribution and its beverage-alcohol business, all of which have helped it withstand the volatility in the Canadian market.
Related: Leaked draft of German government's cannabis reform would ban imports -- for now
Cronos, which counts tobacco giant Altria Group Inc. (MO) as owner of 41% of its stock, remains different from other cannabis names because it's transitioning to an asset-light model with a cannabis-dominated business including adult-use pot in Canada, medical cannabis in Israel and hemp-based CBD products in the U.S.
"Its Canadian cannabis business has been growing strongly due to its increasing share of the fast growing edibles segment," Sarwat said. "We like this exposure, as we firmly believe that brand power in cannabis in the long-term lies in the beverages and edibles segments."
While growth in cannabis remains tantalizing for investors, Sarwat cautions that the sector isn't for the fainthearted after steep losses this year, although she stressed that the sector will expand over time.
She added that the U.S. multistate operators are "meaningfully undervalued" but did not mention any specific companies by name.
The AdvisorShares Pure U.S. Cannabis ETF (MSOS) has lost 59% of its value this year, compared with a 31% drop by the Nasdaq . The Cannabis ETF (THCX), which includes many Canadian cannabis stocks, is down nearly 64% year to date.
Overall, the total addressable cannabis market in Canada is expected to grow by about 14% a year until 2027, to about C$8.5 billion ($6.2 billion) from about C$4 billion in 2021.
Even without federal legalization, the regulated U.S. cannabis market is expected to grow to $56 billion by 2027, or potentially $90 billion with full federal legalization, up from $27 billion in 2021. At this size, it's comparable to the U.S. wine and spirits market and about half the size of the U.S. beer market.
"We firmly believe legalization is a matter of when, and not if. But while there are many green shoots, Washington remains in gridlock for now," Sarwat said.
Also read: Biden asks agencies to review marijuana's classification, pardons prior federal-possession offenses
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(END) Dow Jones Newswires
November 02, 2022 12:16 ET (16:16 GMT)
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