Are Canadian Cannabis Stocks Overvalued?

With marijuana legalization on the Canadian horizon, many traditional investors believe that Canadian cannabis stocks are heavily overvalued. There is a lot of hype in the market at the moment, with several major marijuana stocks near all time highs (WEEED.TO & ACB.TO) and a new Cannabis ETF is going to market this week.

Where there is hype, there may be danger. This article points out that Canopy Growth Corp, among the premier operators in Canada, is valued at $7.5B and looses 12 cents per share. Another Canadian weed darling is Aurora Cannabis, valued at $3.7B, looses 1 cent a share. Even for the fastest growing companies these valuations are high! Assuming several hundred percent growth over the next few years we are still looking at Price to Earning ratios above 400. Meanwhile the tobacco industry has an average P/E ratio of approximately 30.

How big is the Canadian weed market?

Despite how anyone may feel about the product itself, once legalized, demand is expected to explode, with projections indicating national demand anywhere from 500 tonnes to 1200 tonnes of marijuana per annum. If these projections pan out we might some of these small Canadian producers hit the jackpot.

But what about price?

One big question facing analysts, investors and producers alike is estimating the future price of weed. At a street value around $10 CAD/gram of marijuana, the valuations look really nice, but who realistically expects the open market prices to stay that high?

I think the best price comparison for the weed industry is tobacco. The cigarette industry makes about 5 cents a cigarette which is about a gram in tobacco volume. The average cost to produce one gram of mary jane is about $1 CAD. So in my mind, it's easy to imagine a world where weed is under $2 CAD/gram.

At $2 per gram and demand at around 1000 metric tones, the total Canadian market would only be worth around $2B, and believe me, I'm not the only one saying it...