Canopy Growth: Don't Bet The Farm On It

About: Canopy Growth Corporation (CGC)
by: Karl Ahlstedt

Make no mistake, this is a commodity-based farming operation at present.

With a valuation above $20 billion, investor expectations remain sky-high.

The global cannabis sector is young and continues to expand rapidly.

Investment Thesis

The cannabis industry has blossomed in the wake of legalization across much of North America and continues to see exceptional growth from both domestic and international audiences. This piece aims to examine the current front-runner of the industry, Canopy Growth Corp. (CGC).


Canopy Growth is a Canadian-based cannabis producer and holding company for a variety of cannabis businesses with a market cap of circa $20 billion. It is the largest cannabis company in the world. Founded in 2013, Canopy has experienced exponential growth as legislative changes opened up recreational, medical and international markets for the company's extensive product range.

October of 2018 saw a change in legislation being initiated to allow recreational cannabis in Canada at a local and federal level. This allowed Canopy to grow extensively as the market size grew exponentially. It is perceived as the front-runner of the industry, and is the market leader measured by market cap.


The world sometimes produces manic market sentiment (both good and bad), as seen recently in the Bitcoin crash and a little further back during the 2008-09 recession. Another on-trend asset class today is the rapidly growing field of cannabis-based business enterprises involved in the production and distribution of medical and recreational cannabis. Quasi, if not full-fledged, legalization across much of America and Canada provides the current spearhead for growth, and the dawning realization of a new, untapped trillion-dollar crop is starting to get the world (or more specifically, investors) awfully excited.

This report aims to examine the fundamental investment opportunity of Canopy Growth at its current price of $62.39 and to model appropriate scenarios to gauge the long-term growth required to meet current valuations. It will conclude with an investment recommendation on whether Canopy Growth is a promising stock for further exploration and possible investment.

Market Sentiment

Legal cannabis spend worldwide is expected to increase 4-fold between 2016 and 2024 to $63.5 billion, according to recent research by Statista. This data is projected based on compounding current growth rates forward at 21%. This growth rate will be used elsewhere in this report to determine overall market size potential and forward projections of profitability over the next decade and beyond.

Much of the allure of the cannabis industry today is based on the assumption of continued 20%+ growth over the next few decades. However, should this fail to materialize in a significant way, the value of companies operating in this space would likely undergo substantial devaluations. It is the author's belief that this is a relatively unlikely, though far from impossible, scenario - but one that should be noted. For the purposes of this report, a growth rate of 15-20% will be used during analysis for Canopy, and this remains a conservative growth rate over the next 3-5 years. As with all predictive projections, the further out that is predicted, the higher the likelihood of the data being materially incorrect.

As this report examines a company in a high-growth industry, investors are interested in potential market size 10, even 20, years out from today. Below is a chart provided by Statista.

Forecast legal cannabis spending worldwide from 2016 to 2024

(Source: Statista, 2019)

The table below projects out to 2030 and 2040 utilizing the same methodology as found in the Statista research and chart above.


Market Size


$29.5 billion


$199 billion


$1,339 billion

This data is, in the author's opinion, somewhat optimistic - very few industries grow at 20%+ per year over the course of 30 years. A perhaps more practical comparison might be the tobacco industry, valued at $760 billion globally (excluding China) according to British American Tobacco. Conservatively, let's consider total global sales of $830 billion (BAT, 2019).

To provide additional context, current research indicates the worldwide proportion of people who can be grouped under the smoking demographic stands at 20.2% globally (Euromonitor, 2019). Here is where assumptions need to be made, and they are as follows.

The long-term size of the cannabis industry including medical, recreational and industrial uses is unlikely to be materially larger than the size of the current tobacco industry. The proportional levels of medical and recreational use are likely to be materially lower than the 20.2% seen in the tobacco industry and, in all likelihood, will remain at 9-10% levels as current data suggests. While lower proportional levels of use is likely, this is offset by industrial and medical uses moving through the next decade. It is perhaps worth noting the 7-10% figure above is data from non-legalized nations across Europe, and the introduction of established medical uses may see this modestly increase over long-term horizons.

(Source: World Drug Report, 2018)

The chart below accounts for the factors above using a lower long-term growth rate of 15% between 2020 and 2030 and 12% between 2030 and 2040, with market size potential loosely based on the tobacco industry. While this is in no way a perfect comparison, it does provide a general baseline for long-term expectations.


Market Size


$29.5 billion


$119.34 billion


$482.79 billion


$830 billion

To summarize, 21 years from now the industry will be worth circa $482 billion, ultimately growing to circa $830 billion before the industry is considered mature and with substantially reduced growth prospects. These projections further assume that legalization of various forms of cannabis will occur gradually throughout the majority of the world over the next 30 years, and this is far from a guaranteed event despite recent progress in this area.

Additionally, the stock price of Canopy Growth is up 113.86% over the course of the past year, while Cronos Group (OTC:CRON) is up 220.61%, with GW Pharmaceuticals (GWPH), Aurora Cannabis (OTC:ACB) and Aphria Inc. (OTC:APHA) remaining volatile but largely flat over the past 12 months. Based on 12-month price action alone, Canopy is considered expensive relative to sector performance, and further analysis should be done to understand whether the rise in share price is warranted. For Canopy, this is perhaps due to the large investment by Constellation Brands (STZ) and increasingly aggressive acquisitions of a multitude of smaller competitors, acting in a broad variety of niches within the industry.

Company-Wide Margins

A fundamental challenge of high margins and excellent returns on capital remains to be solved. Recent financial statements from Canopy highlight in its latest quarter net sales of $97.7 million, dropping down to a gross margin of $12.4 million down to a net operating loss of $157.2 million for the full quarter.

This $157 million loss can be explained by extremely large general and administration costs of $46 million, very large share-based compensation expenses of $63 million and relatively high marketing costs of $44.8 million.

Firstly, a share issuance and compensation scheme of circa $15 million on a company doing circa $100 million revenue this quarter is strongly indicative of poor renumeration oversight by the relevant committee and represents extremely poor value for money for shareholders. Unfortunately, this is a trait across much of corporate America, and elsewhere for that matter - but it is a point worth reiterating. Other factors creating a total of $63 million include the issuances to Canaindica Capital of $23 million and $9 million as payment relating to royalty agreements.

Administration and general costs at first glance are likely related to depreciation of equipment and the extensive legal work involved in securing patents, M&A activity and other regulatory hurdles. Although R&D expenditure is not typically recorded as an admin cost, this may also explain the unduly large figure.

Lastly, marketing costs may be somewhat more easily explained away. As Canopy grows, a 40% of sales investment on marketing is not unheard of when companies are competing to establish market share in a rapid and effective way. Long term as a proportion to sales this figure will need to be reduced, and margins will tend to improve as brand awareness and recognition drive higher levels of added value across the brand over time.

Return on Capital Employed Across Agriculture and Tobacco

According to the British government department for environment and food, abbreviated DEFRA, the average return on capital employed across the agriculture sector in England for 2016 is 6.9%. This excludes pig and poultry to provide a modest increase and, in theory, a more accurate reflection of expected sector returns for comparison with the cannabis industry (DEFRA, 2019).

Another interesting comparable is the tobacco industry, with British American Tobacco posting an average ROC of 7.2% as of this month (BAT, 2019) and Japan Tobacco reporting a 14% ROC, which continues to deteriorate as calculated via company reports (JT, 2019).

Overall, the long-term prospects for the cannabis industry is likely to provide a return on capital employed of between 9% and 15%, in the author's judgment, loosely based on comparable industries mentioned above. This data point will be used for long-term projections on Canopy Growth and the wider industry included later in this series.

(Source: Forbes, 2019)

Looking Under The Canopy

Canopy Growth acts as a cannabis producer in its own right, specializing in added value manufacturing solutions, especially in the space of liquids. Furthermore, it is the holding company for numerous subsidiaries, many of which are fully owned by Canopy.

(Source: Canopy Growth, 2019)

However, the company continues to expand via acquisitions, which total circa $1.5 billion in total costs over the last 9 months to December 2018. This includes $948 million in share issuances and $550 million in cash, options, warrants and so on. This represents, roughly speaking, a 5% dilution in outstanding shares over the course of the past 9 months. While not an adverse factor in and of itself, it is not a quality that the author finds attractive in a company for a long-term investment.

Goodwill as of December 2018 stands at 1.8 billion, a tell-tale sign of the recent rapid expansion. To reiterate, $1.5 billion of the $1.8 billion in purchases of companies above “fair value” has occurred over the past 9 months, resulting in this increase.

It is worth examining the larger acquisitions to judge the relative value of these firms to more effectively understand the intrinsic value of the goodwill figure mentioned above. $1.8 billion on a $8.6 billion asset base is material and a significant factor in the valuation of this business.



DaddyCann Lesotho is a South African-based business purchased for $29.9 million, primarily involved in a vertically integrated operation for the growth, manufacture, supply and export across the Lesotho region. It is a fully licensed to provide both dry cannabis and resin-based products for transport and sale nationally and globally.

Spectrum Colombia

A Columbian-based business involved in the production, manufacture and export of cannabis derivatives, its current plans indicate an expansion of “value added” production facilities and the establishment of a firm Latin America base for Canopy. The acquisition is valued at circa $100 million dependent on which contingents are met in terms of the performance-based compensation agreements signed upon acquisition. As part of the Spectrum segment, this business predominantly produces medical products but looks to produce all products intended for regional markets across Latin America.

Firm details on financials are sparse, but investors do know it is a 126 hectare farm, with 42 hectares licensed for the production of cannabis.

Canopy Health Innovations

The biopharmaceutical division of the group, CHI is the backbone of the R&D efforts in evolving medical cannabis. With a focus on drug formulations and dose delivery systems across humans and animals, it is currently a major cash sink for the wider company. Yet, this division does provide a tantalizing glimpse into the potential future of medical cannabis globally. It is high-risk, with no assurances of patents or new products, but the possibilities to create the next hit product remain.

Furthermore, it is likely that the parent company will inject additional funding into CHI over the next few years to secure the firm's lead in technological development and innovation within the sector. In terms of acquisition valuation, Canopy increased its stake by 57% to 100% at a cost of $169 million.


Segmented into 4 distinct brands - Tokyo Smoke, DOJA, Van der Pop and Maitri - it is the largest acquisition to date valued at $601 million. Interestingly, the group operates a network of retail stores selling coffee, clothing and accessories as well as typical cannabis products.

Tokyo Smoke is a British Columbia-based division providing high-end cannabis products in an on-trend and design-focused way, replicating the successful immersive retailing environment that is becoming ever more prominent. Furthermore, the company sells accessories. This is a highly complementary approach, in the author's view.

DOJA is a premium cannabis producer creating smaller boutique batches of premium product as opposed to large, homogenous warehouses. In theory, this leads to higher-margin opportunities, but unfortunately, further financial breakdowns are not provided for examination.

Van der Pop is a niche, female-focused providing education on cannabis as well as selling a range of VDP products via Tokyo Smoke. However, it does provide various cannabis-related entertainment stories, and actively maintains a publishing presence in this field.

Matri is the smallest Hiku venture operating solely within the cannabis accessories market. It supplies handmade and high-end vaporizes and accessories exclusively to Tokyo Smoke.


Billed as a “cannabis research company utilizing five disciplines of science to create patented technologies.” Ebbu is a research division that is exploring the science behind both medical and recreational cannabis. The firm is interested in the study of chromatography, the separation and purification of cannabinoids for commercial use, pharmacology for developing formulated solutions, genetics for boosting plant yield and delivery technologies - such as water-soluble liquids.

Ebbu, from an investor’s perspective, is the second R&D play this report covers. It is currently a cash sink for the company as products, patents and ideas are developed and integrated across the wider business over the upcoming decade. It would be of interest to understand the financial breakdown and R&D spent in isolation of the wider business, but this data is unfortunately not available.

Canopy paid a total of $366 million for Ebbu, with a goodwill balance sheet entry for Ebbu standing at $363 million, further indicating the proportionally insignificant asset base the company firm operates and how R&D is ultimately the main purpose for Ebbu.


There is a scarcity of public information relating to POS Holdings Inc. other than that it operates in the bio-processing business with a facility in Saskatchewan, Canada. It was purchased for a total of $129 million.


Storz & Bickel GmbH & Co. KG is a German-based business involved in the design and manufacture of medically approved vaporizer hardware. Consumers will know this company as the maker of the iconic Volcano devices, which have been a mainstay in the industry since the launch in 2000.

(Source: Storz & Bickel, 2019)

S&B was purchased for a total of $218 million in a move indicative of Canopy Growth's ambition to dominate the hardware market. In the mid-term, the trend seen in traditional tobacco users switching to vaping nicotine is likely to occur in cannabis users over time. It is fundamentally a better delivery system than combustion, and has potential to be the most accepted form of delivery by the public a decade from now.


A further $1.6 million expenditure is recorded for the purchase of Annabis Medical s.r.o. Annabis is operating via an import-based business model, as laid out by federal Czech licenses. This is a relatively minor acquisition and is of no material consequence to the wider firm.

On a related note, the total acquisition-related cost for the last 9-month period is $4.9 million. It is worth re-iterating that the above only includes recent purchases made by Canopy Growth, and does not include the substantial subsidiaries owned prior to the list above. This includes Tweed and Spectrum, two pivotal pillars of the company's wider value.

Basic Financials for 2016-2019

At March 31st




$12.6 million

($3.5 million)


$39.8 million

($7.6 million)


$77.95 million

($54.1 million)

2019 Q3

$146.9 million

($346.7 million)

Particularly concerning is the level of losses endured that is starting to become material and painful to the wider company. Overall, investor expectations would be for the trend of losses to a) show meaningful results by way of innovation, or b) be substantially reduced and eliminated over the next 3-5 years as the group matures.

Key Performance Indicators

Average Sales Price Per Gram

The overall average price per gram at retail various by state, region and country. For the purposes of Canopy, it is preferred to consider Canadian market prices, as this is the primary territory the company operates in. In this region, prices have a significant range of between $6 and $20 per gram, according to Leafly (2019).

(Source: Twitter, 2019)

The image above is of Canopy Growth's up-market, relatively high-end retail chain subsidiary Tokyo Smokes and, specifically, the new Winnipeg outlet opening.

Taking current retail prices is far from the complete picture. The average price per gram sold by Canopy is adversely affected by wholesale distribution and the additional cost pressures associated with liquid products, of which Canopy is a specialist. Liquids or “oil” products accounted for 33% of revenue in the latest quarter. Furthermore, the February 2019 update implied a material change from B2C to B2B as a response to the recreational legalization across Canada in October 2018.

However, the average price per gram sold by Canopy Growth in aggregate is circa $7.33 per gram for full year 2018. This data point includes all form factors and types of cannabis currently available and sold by Canopy and its subsidiaries. This includes traditional dry cannabis as well as infusions via beverages and so on. Additionally, this includes wholesale cost per gram, which is materially lower than the average retail price per gram. For comparison, the aggregate price per gram in Q3 2018 totaled $8.30 per gram, representing a material decrease during the prior year.

Forward outlooks remain mixed, with possible headwinds in the form of increased scalability by major actors, adding cost-effective additional capacity and inducing cost pressures for both wholesale and retail operations. The continued increase in terms of the mix between retail and wholesale continues, with higher wholesale likely to push aggregate sales price per gram.

Below is the full breakdown of sales per gram provided by Canopy Growth in its February update:

(Source: Company Reports, 2019)

Average Production Cost: Per Gram

In terms of operating effectively at scale, the efficiencies in lower average costs of production provide a material competitive advantage in a relatively new and commodity-based market. The general lack of patentable barriers to entry in the dry cannabis market present low barriers to entry for new entrants, and branding proves to be the mainstay process for added value. Due to the overall intensity of branding and marketing efforts, this continues to prove an expensive process, with Canopy Growth spending $101 million across sales and marketing during the last 9 months. Thus, being the lowest-cost producer remains a significant advantage to the first company to attain, and furthermore, to sustain at scale.

The latest results provide no definitive data as to the current cost per gram for Canopy Growth, and so, the analysis below is based on rational estimations to provide at least a basic understanding of the current baseline and how it may perform moving forward.

Data from Q3 2019 results reporting 9 months to December 2018:

Basic Financial Data via Q3 2019 Results

Cost of Sales


Total Revenues


Total Production

6,189,000 grams

Average Sales per gram


Average Cost per gram



The above results require further explanation. Firstly, the average sales per gram is not the actual average sales price per gram (which is $7.33) but an aggregated number based on the total sales across the Canopy Growth group. This includes accessories, hardware, clothing and a variety of sales data points that are not directly related to the primary cannabis measures that ideally would be provided. Average cost per gram is again based on the caveats mentioned above.

Further consideration should be noted for the cost of sales data. While this is accurate, it fundamentally does not include various non-direct costs attributable to the running of the business. Marketing is an especially crucial factor not considered in cost of sales, and continues to remain a material cost for the business today and in the future. It is extremely unfortunate for investors and analysts that this data (avg. cost per gram) is no longer published, as it provides an informative metric on operational cost centers. To reiterate, the data above is in no way accurate, but is nonetheless an attempt to provide insight into this important area.

Caveats and limitations aside, the published cost per gram in 2017 was $2.90, and today this likely stands between $2.90 and $3.50, taking a conservative approach (in reality, this may well be lower) compared with a confirmed average sales price of $7.33 for 2019. Furthermore, in theory, the cost per gram should stabilize between $1 and $2 over the next decade as efficiency at scale is fully realized.

DCF Analysis for Canopy Growth

Model 1












Operating Profits






Tax at 20% + 5% Excise






Actualised Free Cash






Discounted Cash Flow

















Operating Profits






Tax at 20% + 5% Excise






Actualised Free Cash






Discounted Cash Flow







Discount Rate


Growth Rate


Tax Rate


10-Year Present Value of Canopy


The DCF model above is relatively basic, as modelling M&A impact (which will certainly occur) and other factors would not necessarily provide additional accuracy or clarity in terms of actionable data. In the author's opinion, it would likely achieve the opposite.

Operating profits is projected via a 40% year-on-year increase in margin as economies of scale, R&D and marketing produce overall results seen in mature industries. This will take time, increasing to 12% long-term operational margin through 2023 and maintaining this level through to 2027, but on a materially larger revenue base.

Further noteworthy caveats include an excise tax of 5% on revenues, with the caveat being that this is a possible long-term rate, but is currently higher and especially apparent in Canopy, whose liquid-based expertise and subsequent products attract disproportionally higher levels of tax due to how tax rules are currently applied.

A discount rate of 5% is used as a fair basis to determine present value, higher than long-term bonds but lower than long-term equity increases it seemed a fair value to work with. Taxes are determined via two variables, firstly a base rate of 20% of operational profits and secondly a 5% rate on base revenues attributable to the excise tax requirements. These are both approximations, as legislation is likely to be tweaked over the short-to-mid term as discrepancies and badly thought-out regulation becomes increasingly evident.

However, it is important to consider the M&A activity for Canopy moving forward. The company is currently sitting on a cash pile measured in the billions, after all. As noted previously, Canopy spent circa $1.5 billion in the previous 9 months, and this appears set to continue through 2019. Ultimately, the acquisitions made over the next few years will be of greater importance as to the value of the company than that of current assets and operational growth. This perhaps adds a level of redundancy to this operational-based DCF, which is the reason for the model below, taking a different approach to valuing the operational fundamentals of Canopy over the next decade.

To reiterate another earlier point, the current management receives stock-based compensation for each deal it makes in terms of M&As. In the author's opinion, this type of incentive is likely to lead to poorer deals and a loss, as opposed to an increase in shareholder value over time, compared to investing in operational assets directly. Paying current market rates for competitors in this space is a significant risk, and how it will play out is yet to be determined.

Model 2

Year 1

Year 1

Year 3

Year 4

Year 5







Total Production (grams)






Operating Profits






Tax at 20% + 5% Excise






Actualised Free Cash






Discounted Cash Flow






Year 6

Year 7

Year 8

Year 9

Year 10







Total Production (grams)






Operating Profits






Tax at 20% + 5% Excise






Actualised Free Cash






Discounted Cash Flow







Discount Rate


Growth Rate


Tax Rate


10-Year Present Value


The model above utilizes an alternative approach to valuation by measuring current output in terms of grams, and cost and price data per gram as discussed earlier, extrapolated forward to account for growth. Primarily, this model is designed to further explore the traditional production and distribution of cannabis, and not the technology, hardware and accessory activities that Canopy is engaged with. To further clarify, the above model examines only one segment of the company, and thus, is not reflective of the true aggregated value for Canopy Growth.

Premises aside, year 1 revenue is calculated based on production output obtained via company reports and projected forward with a growth rate of 20%. Overall, the industry is likely to grow at a slightly faster pace, and Canopy is well-positioned to grow quickly, making this is a conservative data point.

In aggregate, the 10-year total present values may be considered disappointing and indicative of the commodity nature of this product and the fierce competition for market share that is likely to exist for the foreseeable future.

Key Investor Risks

While innovation across the sector is happening at an increasing pace, Canopy Growth nonetheless operates fundamentally in a commodity-type business. It is first and foremost involved in the production and processing of cannabis into a retail product, while operating a wholesale segment in addition to its owned retail distribution footprint.

Inherently, Canopy faces widespread competition due to low barriers to entry and continued highly positive market sentiment that is leading to an excess in capital available to a high number of companies. The widespread availability of funding and capital is not conducive to motivating these companies to produce meaningful profits in the short-to-mid term, while simultaneously compounding competition and eroding margins substantially sector-wide.

Additionally, it is important to note the tender age of this industry. There is no company operating in this space with an iron-clad competitive advantage that is likely to remain durable over the following decades. In short, the crown is still up for grabs.

To reiterate, Canopy is in a position of both growth and strength relative to competitors in a variety of segments. However, this does not firmly indicate that this will remain the case moving forward. There is no guarantee or clear outcome as to the eventual market leader, and there remains widespread speculation that major companies in related or complementary industries are waiting until a clear leader emerges before engaging in acquisitions and partnerships.

While the current lack of a market leader remains a risk for Canopy, becoming said market leader a decade from now poses a material opportunity. Whichever company does achieve a clear advantage at scale (should this occur) would likely find a host of companies from Coca-Cola (KO) to Altria (MO) lining up with highly lucrative partnerships and potential mergers.

Market sentiment in this sector remains elevated, and to a greater extent than the current heightened levels of price across equity assets globally. The increased demand by investors for exposure to this new sector has resulted in large premiums compared to most major metric comparables, including book value, sales and profitability metrics.


At present, Canopy Growth feels somewhat like an interrelated set of companies that is somewhat understandable in aggregate but which individually are at present difficult to fully fathom. Akin to a shot-gun approach, it would appear Canopy is taking the path of hitting everything it can and seeing what sticks, and the company has the financial resources to do exactly that.

For this particular author, Canopy Growth has too many vagaries - quite simply too many moving parts that consist of high-risk operations that have little available financial information on a company-by-company basis.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.