The Motley Fool

3 Reasons “Cannabis 2.0” Is Ridiculously Overrated

Image source: Getty Images

This past October, “Cannabis 2.0” was all the rage, as speculation circulated about how the legalization of edibles and concentrates would affect cannabis producers.

The new laws impact a number of product categories that were previously illegal to sell — even with the federal legalization of cannabis last year.

When cannabis was initially legalized, marijuana producers’ revenue exploded on the addition of a totally new revenue stream (adult-use). Now, some are saying that the legalization of edibles and concentrates will do the same. But will they?

First, let’s look at one possible reason why they may not.

New products may just cannibalize older ones

It’s extremely common for new products in an existing market to “cannibalize” (i.e., take sales from) older ones. The most famous example of this was when Apple’s iPhone led to a massive decrease in iPod sales, but there are examples in almost any industry.

There’s also evidence of it having happened to cannabis vendors in Colorado. Earlier this year, the state released Q1 cannabis sales figures, which showed that medical sales declined as customers had more access to adult-use cannabis. In fact, recreational sales rose by precisely the same amount as medical sales dropped: 11%. The two markets were not the exact same size, so that doesn’t necessarily prove that the entire loss in medical sales was attributable to cannibalization, but it does corroborate the theory.

Higher margins are not guaranteed

One of the big reasons people are excited about Cannabis 2.0 is because some of the products that could come out of it — particularly cannabis-infused beverages — are perceived as being high margin.

It’s true that beverages can be extremely profitable. However, that doesn’t necessarily guarantee that they will improve cannabis companies’ overall profitability. Before cannabis-infused beverages can drive significant profits, they first need to catch on, and it’s not clear that they will. According to a recent story by The Verge, cannabis-infused drinks only make up 2-3% of cannabis sales in markets where they’re legal. That’s a pretty paltry amount for a product category that many are hoping will revitalize both cannabis and beer sales.

How it could play out

One way to look at how Cannabis 2.0 could play out is by examining how one company is handling it.

Canopy Growth (TSX:WEED)(NYSE:CGC) has jumped on the Cannabis 2.0 bandwagon in a big way, saying that it will roll out 32 new products by December and 20 more over the next 12 months. These products include beverages, edibles, and vapes.

To be sure, there’s definitely demand for some of the products Canopy is rolling out. Vaping, as you’ve probably heard, is a growing trend (although one facing increasing pushback), and many cannabis aficionados are genuinely excited about the prospect of legal edibles.

It’s very likely that at least some of Canopy’s new products will succeed. However, it’s far from obvious that they will actually generate new revenue, as opposed to cannibalizing the company’s other revenue sources. As we saw in Colorado, the induction of adult-use pot there ate into medical cannabis sales. If that happens with Canopy’s Cannabis 2.0 products, then the bottom-line impact may not be as big as some are hoping for.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Andrew Button has no position in any of the stocks mentioned. David Gardner owns shares of Apple. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: short January 2020 $155 calls on Apple and long January 2020 $150 calls on Apple and recommends the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple.

Two New Stock Picks Every Month!

Not to alarm you, but you’re about to miss an important event.

Iain Butler and the Stock Advisor Canada team only publish their new “buy alerts” twice a month, and only to an exclusively small group.

This is your chance to get in early on what could prove to be very special investment advice.

Enter your email address below to get started now, and join the other thousands of Canadians who have already signed up for their chance to get the market-beating advice from Stock Advisor Canada.