Five Ways to Weed Out a Bad Pot Investment
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Come on, all the cool kids are doing it. With names like Joe Montana and Snoop Dogg jumping on the bandwagon, cannabis (marijuana) isn’t just something for those late night frat parties anymore. Welcome marijuana into the mainstream, where it’s easier than ever to invest in cannabis companies through an exchange, commingled fund or private venture interest. Before you get hooked though, advisors should know the five ways to sniff out the stench of a bad cannabis investment.
There are more options than ever before for advisors to invest in cannabis. With the first ever cannabis ETF launched on the Toronto exchange last year, there are rumors that the U.S. is going to follow suit – but this remains to be seen.
For U.S. advisors, the easiest way to get exposure to the cannabis trend is by investing directly in companies who either 1) produce equipment or goods that support marijuana cultivation; or 2) biotech stocks that develop cannabinoid drugs; or 3) companies distributing the drug directly. Generally, cannabis-related stocks trade in the OTC market.
Whether you’re investing in cannabis directly on a company-by-company basis or using some of the many commingled investment vehicles available, advisors need to know the right questions to ask in their due-diligence process.
Trading OTC cannabis securities typically means that these stocks tend to have smaller market capitalization and may even be micro caps. Sizable investment allocations in a thinly traded stock can generate considerable market price fluctuations. Consider what percentage of the average daily trading volume your investment would be.
Record of profitability
Just as with any company, you want to see a profitable track record and the potential to sustain earnings in the future. Anything less and the investments become highly speculative. Do your research on the company’s infrastructure that you see as vital for the company to continue its growth path.
Compliance with regulations
Throughout the history of the illegal cannabis market, unsavory people tended to be in control. It is natural to assume that they will try to get their feet into the legal cannabis market as well. Investigate management to ensure that they are not part of the unsavory crowd and that they operate ethically, honestly and are compliant with the appropriate state rules and regulations. Be extremely vigilant about their willingness and ability to play by the rules. Do they have an in-house compliance officer? How about an external counsel? What is their track record with the IRS? Do they employ an independent auditor to verify their financial results? What is their track record of success in complying with regulators? Knowing the strength of their internal and external controls is critically important.
Branding and trademarks
As the cannabis industry is still in its early stages, you want to know that the company has intellectual property rights to prevent competitors from stealing their fire as more and more enter the fray.
Aside from trademarks and copyrights assets, be conscious of the strength of the company’s brand. Do they have a unique value proposition, tagline, logo, etc.? Or are they likely to get washed out as bigger and better companies come into play.
As with any investment, the commitment that management has made to the business is going to determine its operating results. Is this a side business that the company is trying out to see if it can get any traction, or is it the main source of revenue and a core competency for them? Pay attention to how management has voted with their dollars, not just their spiel.
Try to weed out (no pun intended) those who are riding the wave as opposed to making a long-term commitment to being a player in the business.
Advisors increasingly turning to cannabis investing
One of the factors fueling cannabis investing popularity is the perception that it lessens the opioid crisis, with drug overdose killing otherwise young and healthy people by the tens of thousands, and addiction becoming an epidemic in the United States.
Moreover, ever since the fall of Lehman and the financial crisis that ensued, money has taken on a new meaning and purpose. The feeling of being disgruntled with Wall Street greed and corruption has motivated many, especially the millennial generation, to seek new ways of putting their money to work in a way that more closely aligns with their values and beliefs.
Investing for social good has coincided with an increasing perception of marijuana’s safety. With a multitude of states passing medical marijuana laws and several approving it for limited recreational use, cannabis has become accepted by modern society.
Stephen Distante is CEO of Vanderbilt Financial Group, the Sustainable Broker-Dealer & RIA, and president of EO New York.
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