It’s time to buy cannabis stocks, this analyst says

A major development came down the pipe this week at the U.S. Drug Enforcement Agency has reportedly decided to reschedule cannabis from Schedule 1 to Schedule 3.

Echelon Capital Markets analyst Andrew Semple, who covers the sector says this news represents a buying opportunity for investors, even with the immediate spike in virtually all stocks. But in a research report to clients May 2, he singled out one stock as a top pick (see below).

“After the news, the AdvisorShares Pure US Cannabis ETF (MSOS-ARCA, NR) closed up 24.8% on Tuesday, though it has given back more than half of those gains with a decline of 15.0% on Wednesday,” the analyst noted. “We view this as a buying opportunity for long-term investors, as the rescheduling progress has been substantially derisked with this week’s reports and confirmation by the DOJ Director of Public Affairs.”

“Following these media reports, we believe the following: 1) the DEA has reached a formal conclusion to reschedule cannabis from Schedule I to Schedule III, though it has yet to formally file its recommendation as it awaits OMB approval, 2) the DEA plans to submit its formal recommendation to the Federal Register shortly, publicly announcing its decision, 3) the DEA will follow the ‘Notice of Proposed Rulemaking’ procedure (“Notice”), rather than publishing an Interim Final Rule (the latter would take immediate effect, which is unlikely what the DEA wants), 4) we expect a period of between 6 to 12 months for Schedule III to be fully implemented after the date that the DEA files a Notice to allow for a public hearing period, a response period for the DEA to respond to all comments received, and a two-month Congressional Review period, and 5) a reclassification of cannabis to Schedule III will provide material benefits to US cannabis companies, perhaps the most significant of which is the removal of IRC s. 280E tax treatment.”

Semple says not only are investors going to be exposed to potential momentum with this catalyst, most stocks are currently trading at value levels as the bloom fell off the sector year ago.

“Meanwhile, cannabis valuations are ripe for repricing higher in our view. Despite the outsized gains experienced in US cannabis stocks on Tuesday, they still trade at a sizeable valuation discount relative to their Canadian counterparts, as well as external comparable industries such as beer and spirit companies. US cannabis stocks currently trade at 8.4x 2024 EBITDA, representing a 24% discount to large global beer companies at an average multiple of 11.0x, a 35% discount to Canadian cannabis operators at a multiple of 12.9x, and a 43% discount to global spirit companies at 14.6x.

The analyst ran down some of the stocks he thinks investors should be looking at right now.

“Our Top Pick in US cannabis is Ascend Wellness (AAWH-CSE, $1.27, Buy, PT $3.50) for its strong operating performance and below-average balance sheet leverage, while still possessing outsized torque to federal catalysts. We continue to prefer high-quality names in the current capital markets environment, thus also recommend Verano (VRNO-NEO, C$7.04, Buy, PT C$11.00) and Green Thumb Industries (GTII-CSE, C$18.41, Buy, PT C$23.00). In terms of
higher torque names, we recommend Ayr Wellness (AYR-CSE, C$3.55, Speculative Buy, PT C$5.25) for its higher torque to 280E tax removal and its exposure to state-level catalysts in OH/PA/FL,” he added.

Disclosure: Nick Waddell owns shares of Ascend Wellness.