Is This Beaten-Down Pot Stock a Bargain?

Yesterday, shares of the Canadian marijuana investment firm Cronos Group (NASDAQ: CRON) took an absolute beating. During normal trading hours, the company’s stock fell by over 28%, and then it slipped another 6.9% in after-hours trading. What in the world happened?

Cronos’ shares cratered yesterday for three separate reasons:

  • Citron Research’s Andrew Left kicked off the downtrend by saying that Cronos is “deceiving the investing public” about its supply agreements with Canadian provinces and that its international footprint isn’t as large as some of its chief competitors. As a result, the company might not be an ideal partner for U.K.-based beverage maker Diageo (NYSE: DEO). Diageo has been rumored to be engaging in talks with a handful of Canadian pot companies regarding a possible equity stake, according to BNN Bloomberg.
  • News slipped out yesterday that President Trump has reportedly formed a secret committee to downplay the health benefits of marijuana. This unexpected development seems to pour cold water on the notion that Trump might move to legalize marijuana at the federal level or, at the very least, make it a states’ rights issue as promised on multiple occasions.
  • Lastly, Cronos and nearly all of its large-cap marijuana peers have seen their shares prices tear higher over the last two weeks in anticipation of the upcoming legalization of recreational marijuana in Canada this October. In short, this widespread rally was probably ripe for a pullback.

Image source: Getty Images.

With all of these headwinds, Cronos’ stock might be set to take another leg lower in the coming days. However, investors with a long-term outlook for this high-growth industry might want to take advantage of this dip. Here’s why.

Cronos will be a long-term winner

Admittedly, this surge in the share prices of the top Canadian marijuana companies like Cronos, Canopy Growth Corporation (NYSE: CGC), and Tilray (NASDAQ: TLRY) is probably overdone at this point. After all, Canopy’s shares are presently trading at a mind-numbing price-to-sales ratio of 147, and Tilray’s stock is currently valued at something like 10 times the company’s projected 2021 sales. Cronos, for its part, is arguably the worst of the bunch with its shares trading at a staggering P/S ratio of 231 — even after yesterday’s monstrous decline.

Still, investors may want to start buying Cronos’ stock on this steep pullback for two reasons. First off, big beverage makers like Diageo are undeniably showing strong interest in this nascent industry. Consequently, more multibillion-dollar deals like the recent tie-up between Canopy Growth Corp. and Constellation Brands (NYSE: STZ) are probably close at hand.

Now, Cronos may not have the same level of international exposure as Canopy at the moment, but the company is reportedly in the process of expanding into Australia, Israel, Germany, and even Poland. This ongoing international ramp-up should prove to be a particularly attractive feature to the likes of, say, a Diageo or perhaps another big beverage maker looking to get in on the action.

Therefore, Citron’s argument that Cronos isn’t a prime partnering candidate due to its smaller international footprint comes across as a bit of a stretch, to put it mildly. Cronos and Tilray are, in fact, both probably going to strike deals with a large partner in the not-so-distant future, thanks to their positions as top dogs in the Canadian pot industry.

Secondly, the global pot industry is forecast to rise to a staggering $75 billion by 2030 and Cronos is primed to gobble up a healthy share of this massive pie. The underlying reason is that Cronos holds an important competitive advantage over the broader field by being among the first to be listed on a major U.S. exchange.

This top cannabis company will thus have access to capital on an “as-needed basis” going forward, which is especially important as it ramps up production to meet demand in both Canada and abroad. The same simply can’t be said for the hundreds of smaller operations aiming to compete with Cronos.

Investing takeaway

Cronos’ stock may have gotten a tad overheated in recent trading sessions, but that doesn’t mean that the company’s ginormous growth potential isn’t real. The days of marijuana prohibition are coming to an end and well-capitalized companies like Cronos are poised to take advantage of this massive commercial opportunity. Therefore, investors willing to overlook some short-term volatility may want to start nibbling at this promising pot stock following this hefty single-day decline.

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George Budwell has no position in any of the stocks mentioned. The Motley Fool recommends Diageo. The Motley Fool has a disclosure policy.

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