Pot-Stock Category Killer: The Long-Term Case For KushCo

Nov. 05, 2019 10:04 AM ETKushCo Holdings, Inc. (KSHB)17 Comments28 Likes
Jeff Opdyke profile picture
Jeff Opdyke
921 Followers

Summary

  • Legal marijuana is the first, truly blockbuster consumer product since the iPhone.
  • Pickaxe-and-shovel companies like KushCo benefit regardless of which consumer brand or which retailer emerges as best-in-class.
  • KushCo is the marijuana equivalent of Ball Corp., a stock that is up 18,000% since 1980.
  • Packaging is dull, but in the weed world, it's not just a market necessity, it's a legal requirement as well.

A few years ago, I traveled across multiple countries to write a book chronicling the rise of the middle class outside the West (Replay: Your Second Chance to Invest In the American Dream). It's ultimately the story of consumers reshaping everything from automobiles to breakfast cereal and how to earn outsized profits playing the same consumer trends that defined post-war America for half a century.

I bring this up because it's not very often that a consumer trend pops up that is both long-lasting and culturally defining. The last consumer product to do was, arguably, the iPhone. It fundamentally changed humanity.

Now comes legal marijuana - a truly blockbuster consumer product with decades of growth ahead. Because of that growth, a company such as KushCo Holdings (OTCQX:KSHB) represents today what companies such as Ford (F), General Mills (GIS), McDonald's (MCD), and so many others represented in the 1960s, '70s, and '80s: A pure play on the rise of consumption.

As an investor, I want a piece of that trend. I want it for the long term. And I want it in the greediest way possible. By which I mean I want to own "category killers" that have the potential to dominate their corner of the pot patch for decades to come.

From my analysis, four categories hold the biggest potential to see the killers emerge in the legal-weed industry.

Over the next three days, I'm going to write about three of those, since the fourth - branded consumer products - is too much of a helter-skelter market at the moment to identify a potential category killer (though once a few emerge, they will be great opportunities).

Today, we start with the marijuana industry's version of the pickaxe-and-shovel makers that made their fortunes selling supplies to the miners during the California and Yukon gold rushes.

The Trend We're Buying Into

Consider this: The global market for alcoholic beverages is estimated at roughly $1.5 trillion today. By comparison, legal marijuana sales globally were just under $12 billion in 2018. I'm not predicting weed receipts will reach the level of beer and liquor anytime soon, but weed sales are on a fast-paced trajectory that will increase in speed as more states and countries legalize pot. In as few as five or six years, we could be looking at legal marijuana sales exceeding $150 billion.

Ten or 15 years out… the growth could be phenomenal beyond any legitimate guess today.

To me, buying into the right pot stocks now is akin to buying into young versions of McDonald's, Coca-Cola (COKE), General Mills etc. - the companies that grew up with (and largely because of) the rise of the American consumer class, the single greatest economic trend in the last half of the 20th century. The real money in those stocks wasn't made trading for short-term gains here and there. The real money was made buying into the fundamental belief that the consumer was going to propel those companies and those industries to greatness. That was a long-term trade - a buy-it-and-forget-it trade.

That's the trend I want to ride as a long-term investor. I want to own branded consumer product companies (think: Coca-Cola, Nestlé (OTCPK:NSRGY), Budweiser (BUDBC)); branded retailers (think: Amazon.com (AMZN), Walmart (WMT), McDonald's); and the companies that sell the equipment and tools to grow and distribute the crop and its ancillary products.

Notice that I did not mention the growers. I'm not a huge fan of the growers that everyone seems agog over these days. The analogy I use is "computer chips." They are ubiquitous, and the vast majority of the world's chipmakers exist in anonymity, cranking out a low-margin commodity. The only chipmakers with any consumer heft are Intel (INTC) and AMD, and really only Intel because of the long-running "Intel Inside" marketing campaign that built consumer awareness and demand for a computer component no one would otherwise think about.

The same will likely occur in the weed market.

Once the US legalizes marijuana nationally, independent and industrial tobacco growers currently awaiting clear indication that marijuana is 100% legal nationwide will invade. When that happens, prices for the raw commodity will slump and the over-hyped growers today will see their margins contract.

But the companies servicing the growers, and the companies serving the consumer… that's where the money will be made.

And that's why KushCo stands out as a long-term category killer.

KushCo: Already the Leader and Primed for Long-Term Growth

What do these three products have in common: a can of Coke, a box of Fruit Loops cereal, and a tube of Crest toothpaste?

The packaging.

Cans, boxes, tubes, tins, vials, bags… they're largely overlooked and we all take them for granted, but this less-then-sexy business of packing products for individual resale is the sole reason consumer convenience exists as a retail concept. I want to own the Ball Corp of marijuana… and that's KushCo Holdings. (And for the record: Ball Corp. - a simple maker of packaging - is up more than 18,000% between 1980 and today.)

KushCo is one of those pickaxe-and-shovel companies that gives us exposure to every single segment of the weed market. (Note: I realize the vaping-death situation has caused some challenges for KushCo, a maker of vape cartridges, but the industry is still immature and feeling its way. Over the long-haul, these issues will work themselves out.)

KushCo's customers are growers, processors, brand developers, distributors, and dispensaries - all of which need various types of wholesale and retail packaging for the products they sell.

KushCo is the world leader at this, with more than 1,500 different packaging options.

Thing is, KushCo's products aren't your everyday boxes and jars (though some certainly are). Instead, KushCo is designing packaging that must meet individual state's regulations to ensure that the marijuana product inside cannot be accessed by a child. So, there's an art in creating creative, safe packaging.

KushCo also supplies various solvents that growers and processors use in the extraction of cannabis oil that goes into scores and scores of products. As well, the company runs a creative agency to help business along the entire spectrum of weed production and sales build brand awareness. And it operates an innovation arm that helps product-makers design creative, FDA-compliant packaging and containers.

In short, KushCo is at the epicenter of the marijuana industry's efforts to get raw product processed and then into the consumer's hands in a convenient fashion, whether that's a pre-rolled joint in a branded, plastic tube; or a vape cartridge; or tins of weed-laced edibles.

In the first three quarters of fiscal 2019, KushCo so far has put up nearly $102 million in revenue from its operations in the U.S. and Canada. When the fiscal year is finally reported, revenue should well exceed $140 million. Comparisons to the previous years are almost meaningless since KushCo was really just ramping up. Revenue in 2017, for instance, was just $18 million and $52 million in fiscal 2018 (and 2018's fiscal fourth quarter or $20 million exceeded all of 2017's full-year effort).

Sales across KushCo's various product categories in fiscal 2018 grew at annual rates of between 93% and more than 3,500%. Again, I will say that the growth is off a small base. But that just underscores the future trend. Packaging demand in the weed industry has years and decades of growth ahead of it as marijuana demand explodes across America, Canada, and various parts of the world, where governments are increasingly legalizing weed.

As all of this decriminalization happens, packaging will be at the forefront. Sure, consumers won't pay much attention to it. Does anyone really care about the can their Budweiser is packaged in? Or the box that contains their Rice Krispies?

But the industry cares, not just for marketing reasons but for legal reasons as well. As such, KushCo will be a crucial cog.

The company is already a key player in the U.S. and Canada, and that will only grow larger as more states legalize, as demand for packaged pot products grows, and as more and more producers enter the young industry with new products to sell.

KushCo is also looking for overseas opportunities, particularly in Europe, where weed is increasingly gaining legal status across the continent. As it all plays out, KushCo could well be on the largest marijuana-related packaging companies across two of the largest consumer markets on the planet: the US and Europe. That's not a bad future to have in front of you.

What we have in KushCo, then, is a first-mover company in an ancillary, overlooked corner of the marijuana market, supplying a product that consumers never consider but which is fundamentally (and, in many cases, legally) necessary for the legal distribution of marijuana. It's a perfect pickaxe-and-shovel stock because its products are absolutely necessary, and the company will have increasing numbers of customers knocking on its door.

When I tell investment-oriented friends about KushCo, they all want to know "what's the growth?" It's an impossible question, obviously. When you're thinking long-term about a fundamental change to society, you're not trying to nail down a growth rate. There's no intellectually honest way to do so because there's no way to know the acquisitions the company will make, how quickly state and federal governments will legalize marijuana, when other countries will legalize, or all the tangential issues that impact consumers and consumer products.

I just tell them that my best guess is that KushCo's earnings will, by the end of the 2020s, have grown at an average annual rate of 15% to 30%, and that the share price will probably follow a trajectory similar to McDonald's in the 1970s (when the stock price tripled) and the 1980s (when it rose again by nearly 12-fold).

Understand the Risks You Face

To be sure, KushCo's stock has been crushed in recent months because of the vaping death issues. From highs of just over $7 earlier this year, the stock is currently trading at about $1.75

And that gets to the big risk you must be cognizant of in owning a small stock in an immature industry, particularly an industry as controversial as legal marijuana. Aside from all the run-of-the-mill corporate risks inherent in any publicly-traded company, the marijuana industry has its own set of specific challenges.

Primarily, there's the governmental issue. The federal government at any point could challenge all the states that have legalized marijuana and clamp down on all sales. That's probably not likely because of Constitutional issues (state's rights) and because marijuana is a cash crop that offers the potential for cash-strapped Capitol Hill to impose taxes - just as it does on cigarettes and alcohol - and generate a hefty payday for the Treasury every year.

As well, there are issues such as the vaping deaths that have roiled the industry lately. But many consumer industries deal with this. Food-makers and restaurant chains regularly battle e-coli outbreaks that have often led to several deaths. Tylenol had its famous crisis in the 1980 with tampered bottles (which lead to safety seals). Toy makers, furniture makers, firearms companies… the risk is widespread. Right now, it's the marijuana industry's turn to deal with this, but it will ultimately lead to a safer product that sees the industry continue to expand.

So, for me, this is one of the setbacks that happen along the road to explosive profits. You suck it up, you hold on tight, and you move forward.

KushCo's shares trade in the Over-the-Counter market under the symbol KSHB. And for investors who understand the risk of buying into an immature industry, but who see the long-term trend here, KushCo is a screaming bargain at its current price. You can buy this all the way back up to $5 and still now you're going to pocket massive returns as demand for marijuana packing explodes exponentially over time.

Tomorrow, we'll talk about the category killer on the retailing side of the weed business.

This article was written by

Jeff Opdyke profile picture
921 Followers
Globally minded analyst who has traveled to nearly 70 countries and serves as editor for International Living's The Savvy Retiree. I was staff writer for The Wall Street Journal's Money & Investing and Personal Journal sections for 17 years, and I've written several books on personal finance, overseas investing and the rise of the non-Western middle class. My focus is on U.S. and foreign stocks, as well as gold and collectibles, with a goal of helping retirees and those approaching retirement to see and understand trends, risks and opportunities ... all with the aim of pursing a richer life in retirement.
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Disclosure: I am/we are long KSHB. 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.

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