Brick & Mortar Privatization Delay, Soft Technicals Hammer Cannabis Stocks

Canadian cannabis stocks are taking another beating in early trade, fueled by dual negative anti-catalysts. The Ford government’s decision to delay brick & mortar retail permitting until next April, combined with a grisly current technical picture has provided the perfect storm of FUD (fear, uncertainty, and doubt) on Bay St. We take a closer look.

Beginning with the latter, the government released pertinent details about the province’s recreational cannabis strategy after the bell yesterday. While Ontario will indeed be ready to meet consumer demand come October 17th, the province will only introduce an online retail channel to start. Private brick & mortar sales will not be permitted until April 1, 2019, at the earliest.

Some investors took this as an early, cruel April Fool’s joke. But the bloodletting is today’s market is no laughing matter.

Unfortunately, this headline detail came at a rather inopportune time for the market. As we elucidated this past weekend, the market remained in a vulnerable technical position despite a low volume mini-rebound late last week. Strength in Canopy Growth Corp. had essentially been propping up the sector over the past two weeks, sparing cannabis stocks from more grievous declines. Once Canopy’s peer support started giving away, it became only a matter of time before the market started unraveling.

The selling is rather unfortunate considering the many positives on Ontario’s cannabis operating model. While the government could not say exactly how many stores are expected in the province, upwards of 500 retail licenses are expected to be granted. The inference is that Ontario could theoretically support 500 retail outlets, which is above & beyond the 150 Ontario Cannabis Stores contemplated by the former Liberal government by 2020. The net effect: consumers should have greater accessibility through proximity to retail outlets in the long run.

Canopy Growth CEO Bruce Linton certainly regarded yesterday’s news as sector-positive. In an interview with a mainstream financial outlet, he was quoted as saying, “So I think by the time the beverages, the vape-ables, the concentrated products – I’ll call it the ingestibles –   by the time those are released in the back half of 2019, instead of having maybe 40 stores in Ontario, I bet we’ll have like 400 stores.”

Bruce Linton is one of the cannabis industry’s preeminent straight-shooters, and generally not one to “talk his book”.

The Ford government also didn’t set a floor or cap on price, which some analysts had feared. As the rules stand now, retail outlets can set their own markups—although the introduction of a minimum price requirement, similar to alcohol, seems inevitable.

Despite the favorable longer-term logistics and retail structure of Ontario’s decision, the market is focusing on the immediate impact to the top line. That is, aggregate sales will be negatively impacted in the immediate legalization aftermath—be it through reduced cannabis tourism or the sizable percentage of people who want to consult with a live person on strain before pulling out their wallet.

Furthermore, a tiered roll-out blunts the full impact of that October’s recreational legalization was expected to have. Instead of revenues and downstream earnings on-setting quickly, the path will be slightly more gradual. While that does little to diminish the investment worthiness of the sector, rev/earnings visibility will be pushed out a few quarters.

For still-robustly valued cannabis stocks, that isn’t such a positive in the near term.

Final Thoughts

In the near term, the market is clearly voting with its feet. Cannabis stocks are being bludgeoned—in my view—mainly due to the immediate reduced sales visibility yesterday’s announcement entails. Even if the aggregate sales impact is only 10-15% for two quarters (just a guess) from where it would have been under the old Ontario Cannabis Store model (20 stores initially upon legalization in October). That impact—combined with sour technicals—is playing out today.

For investors with a longer term view, yesterday’s news was certainly a positive. Privately-run retail outlets are most cost-efficient, superior margined, better run and should provide better in-store operational maneuverability over government run enterprise. The government also seemed overtly determined to stamp out illegal dispensaries, which should force clientele over towards legal retailers.

Overall, it’s a win for the sector, even today’s price action belies that fact.

Original article: Brick & Mortar Privatization Delay, Soft Technicals Hammer Cannabis Stocks

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