While the future of cannabusiness is certainly bright, one controversial yet crucial caveat must be made. Pot stocks should be treated as an agricultural commodity investment rather than as a biotech investment. This is not to say that cannabis cannot be used as a pharmaceutical. It certainly can. Rather it should not be invested in as one would invest in a pharmaceutical. Taking a biotech strategy with pot stocks is the wrong road to take.
While this may be difficult for some to accept, the reasoning is as follows. The current hot case under discussion in the world of pot stocks revolves around GW Pharmaceuticals (GWPH) and Insys (INSY), which are squaring off in a race to develop the first FDA approved cannabidiol compound. Cannabidiol, otherwise known as CBD, is a cannabinoid compound found naturally in some marijuana strains that has medicinal properties without the accompanied psychoactivity of THC. Both companies have received orphanstatus from the FDA, and both are going after rare indications Dravet and Lennox-Gestault syndromes, two forms of childhood epilepsy together totaling a 20,000 US patient population.
The buzz surrounding these two companies is understandable considering the astronomical movements in their share prices since 2013. Insys has increased by 528%, and GW 868% since its IPO in May 2013. The move in Insys is more reasonable considering the company rocketed into profitability with its revenues exploding to over $40M quarterly from just over $15M in all of 2012. As for GW, it seems to be all hype and projection, coupled with some excitement over the possibility of approval for Epidiolex, the company’s CBD candidate for which it was granted Orphan status. GW has never been profitable nor does it expect to be within the next decade as it continues to incur high drug development costs.
And herein lies the problem of seeing pot stocks as biotechs a la GW. The rise of Insys is fundamentally due to the success of Fentanyl, a synthetic opioid – not a cannabinoid – used to treat cancer pain. This is a drug that has succeeded and continues to succeed for the company, and is not easily reproducible like cannabinoid compounds. GW, however, is exclusively focused on cannabinoid products, its main product being Sativex, a sublingual cannabinoid spray that has never brought the company into profitability as of yet, and is only approved for MS spasticity.
For a number of reasons, it is unlikely that a company focused exclusively on cannabinoid pharmaceuticals will ever achieve profitability. Taking the broad view, the expenses involved in getting a drug FDA-approved are extreme, and each indication must be separately approved each time through the gauntlet. This strategy makes sense if a drug is both patentable and exclusive and a company is reasonably assured of its return on investment in the event of an FDA approval. With cannabinoids it’s not so simple, because while synthetic cannabinoids can be patented in principle, the practicality of a synthetic cannabinoid patent is very questionable. Patents are not much use when a patient can simply acquire the same natural cannabinoids in concentrated cannabis oil form or via smoking or otherwise ingesting, at much cheaper prices in most medical marijuana states, or recreational states like Colorado and Washington.
Take the case of GW’s Epidiolex for the Orphan epilepsy indications. The rationale behind developing any Orphan drug for a rare disease is the ability to charge exorbitant sums for it after approval in order to make up for the development costs. While some are trying to compare GW’s Epidiolex with Alexion’s (ALXN) $440K a year Soliris for a rare blood disorder or Vertex’s (VRTX) $300K a year Kalydeco for cystic fibrosis, attempting to sell synthetic CBD for anywhere near that amount sounds nothing less than ludicrous. The only way people are able to pay such wild sums for Orphan drugs is that insurance companies pay. They pay because these rare drugs are absolutely exclusive to the companies that manufacture them and cannot be obtained anywhere else by any means. However, there is no way insurance companies would hand over that kind of money when access to natural high-CBD cannabis strains are readily available, almost ubiquitous. One can even get CBD paste for free, legally, at sites like NewCure.org run by activist volunteers.
Patients and/or insurance companies paying a modest sum for the convenience of CBD in pill or spray form is one thing. But there is simply no way anyone will pay the fantastic sum necessary to recover the costs of Orphan drug development through the necessary bureaucratic pathways for readily available cannabinoids. With medical marijuana regulations being relaxed state by state and even recreational use being legalized slowly but surely, cannabinoid compounds will cease having any appeal as investible pharmaceuticals whose profits are normally obtained through real and tight-fisted exclusivity. Cannabinoids should instead be considered as agricultural commodities that happen to have medicinal uses.
Let’s not forget that Marinol, the very first synthetic THC cannabinoid to be developed by AbbVie (ABBV) and approved in 1985, only peaked at sales of $100M in 2007 22 years after its approval before going generic, hardly anything close to blockbuster.
That being said, the money to be made in pot stocks will be in the companies selling it as a mass-produced commodity rather than as an ultrarare Orphan drug, as well as in the satellite companies serving that industry.
The Cannabis Security Option
It is too early to tell which companies will succeed at growing and supplying cannabis on a mass agricultural scale, and excitement in the early stages is often misplaced, as happened with Growlife (PHOT) back in March. The litany of legal barriers getting in the way of entrepreneurs freely supplying the market, coupled with the notoriety of marijuana that generates emotional excitement, can be a dangerous combination for investment purposes.
Nevertheless, restrictions on the market are being cleared very slowly but surely, and while these restrictions still exist mainly on the Federal level but also on the State level as well, it will be difficult for any publicly traded company to outperform. Public companies need to strictly comply with statutory authority or else risk being delisted. Such is the nature of going public. However, there is one way to use the rocky legal landscape to your advantage, and that is by way of cannabis security companies helping all manner of cannabis producers through the regulatory minefield and the abnormally high security requirements involved.
Nearly all pot stocks except GW are microcaps, as are the security companies serving the cannabis industry. Therefore, in order to spread out risk, it makes more sense to invest in the security companies that serve both the public and privately held companies all the way down to the smallest cannabis coffee shop retailer in Colorado.
The number one public company specializing in cannabis security by market cap is Blue Line Protection Group (BLPG). Blue Line is just starting out, but is already operating in 3 states including Colorado where it has 52 clients, Washington, and Nevada. The grey nature of the cannabis industry necessitates a cash-only environment and virtually no banking services, as credit card companies and banks are regulated by the Federal government according to which cannabis is illegal, through the interstate commerce clause of the Constitution. Meaning, credit card companies and banks cannot legally service marijuana dispensaries, necessitating a very high level of security with cash filled safes, armored transports, and tax compliance. As long as the Feds consider cannabis a schedule I drug, the all-cash environment of the business will persist and companies like Blue Line will be in demand.
On the banking front, Blue Line has developed a proprietary method of regulatory compliance for its medical marijuana clients in Nevada through the First Security Bank of Nevada, which could open the door to Blue Line being the exclusive middleman facilitating much-needed banking services to the marijuana industry.
Blue Line’s publicly traded competitor is a nanocap called DirectView Holdings (DIRV), which has recently targeted the cannabis sector but is materially behind Blue Line in terms of a client base.
The further marijuana expands as a commodity, the higher the dissonance will be between Federal and State law on the issue, and the higher that dissonance, the more necessary companies like Blue Line will become. While it is difficult to know which of the pot stocks will come out on top in the end, almost all cannabusiness will need enhanced security.
Given that GW is barking up the wrong tree treating cannabis as a pharmaceutical and the stock is severely overbought, and given that almost all others in the pot stocks sector are high risk development stage companies, the nature of Blue Line’s business plan applying to all cannabusiness spreads the risk out much more evenly than any one pot stock.