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Why Hexo (TSX:HEXO) Is a Better Pot Stock Than Canopy Growth (TSX:WEED)

Ryan Vanzo
Modern skyscrapers in business district
Modern skyscrapers in business district

Pot stocks received a bit of a bump at the start of the year, offering much-needed relief for the troubled industry.

Since the summer of 2019, most pot stocks have fallen by at least 50%, yet the new year started with a bang. Canopy Growth Corp (TSX:WEED)(NYSE:CGC), one of the largest publicly traded cannabis companies, popped from $24 to $28. That’s still a far cry from its all-time high of $68, though many pot investors were simply happy to experience an uptick.

Could a pot resurgence be underway? Some signs suggest the next cannabis bull market could take place in 2020. Just be careful: not every stock will profit.

Learn these lessons

During the crazed cannabis boom of 2018, every pot stock imaginable was surging in price. Penny stocks were changing their names to include “cannabis” to take advantage — and it worked! Some stocks that simply had pot references in their names doubled or tripled in value.

The next upturn will be different, however. Over the last 18 months, we’ve learned a lot about the cannabis industry, enough to sort the winners from the losers, even if it’s only a rough accounting.

For instance, we know that pot demand continues to outpace even the rosiest expectations, yet pricing has plummeted due to ongoing commoditization. If a company can’t differentiate its pot to protect pricing power, it’s in trouble.

We also know that new form factors like vapes, edibles, and beverages have the potential to add billions in value to the global marijuana market. That’s not surprising given that global alcohol sales are well over $1 trillion. Long term, cannabis-infused beverages could approach similar heights.

How to invest

These lessons have caused many investors to choose Canopy Growth as their top stock pick, and for good reason. The company is partnered with Constellation Brands, Inc. (NYSE:STZ), one of the largest alcohol distributors in the world.

Canopy is now primed to lead the market in cannabis-based beverages. As Constellation owns the rights to world-renowned brands like Corona and Modelo, it’s likely the two firms can launch differentiated cannabis brands that consumers know and love.

Canopy Growth is an obvious pick given the lessons we learned last year, but it’s not necessarily the best choice.

The Constellation partnership brought heavy attention to the stock, which now trades at a $9 billion valuation, easily making it one of the largest competitors in the space. Shares are also priced at a premium. Even following the 2019 bear market, Canopy stock trades at 22 times forward earnings.

Yet there’s a similar company targeting the same growth opportunity that is priced at just 7 times forward sales. Meet Hexo Corp (TSX:HEXO)(NYSE:HEXO).

With a valuation of just $500 million, it’s no wonder how Hexo stock has been swept under the rug. Few analysts are paying attention to this small-cap stock. Yet similar to Canopy Growth, Hexo boasts an incredible partnership with a multi-billion dollar beverage marker: Molson Coors Canada Inc.

Over the coming weeks, Molson and Hexo expect to release their first cannabis-infused beverages in Canada, beating nearly the entire industry to market.

With a 350-year history, Molson is a brand that Canadians already trust, which should catapult the partnership’s offerings to the top of consumer purchase lists.

The cannabis beverage market is still in its early stages, but due to valuation, it’s difficult to choose Canopy Growth over Hexo stock. It’s simply not worth paying three times the price for a similar business targeting similar opportunities.

More reading

The Motley Fool recommends Constellation Brands, HEXO., and HEXO.

Fool contributor Ryan Vanzo has no position in any stocks mentioned.

The Motley Fool’s purpose is to help the world invest, better. Click here now for your free subscription to Take Stock, The Motley Fool Canada’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. Motley Fool Canada 2020