For years, many in the business community believed that tobacco and alcohol companies would eventually break into the marijuana market.
Now it seems that prediction is finally playing out. Constellation Brands (NYSE: STZ), the US distributor of Corona, Modelo, and Svedka Vodka, as well as the world's leading wine company, just announced that it would acquire a minority stake in Canopy Growth Corporation (NASDAQOTH: TWMJF), a leading producer of medicinal cannabis products.
Constellation paid $191 million for a 9.9% stake in Canopy, in addition to warrants that give it the opportunity to acquire an additional ownership interest. The company explained the decision:
This investment and relationship is consistent with Constellation Brands' long-term strategy to identify, meet and stay ahead of evolving consumer trends and market dynamics, while maintaining focus on its core total beverage alcohol business. Constellation has no plans to sell any cannabis products in the U.S. or any other market unless or until it is legally permissible to do so at all government levels.
Calls for marijuana legalization in the U.S. are growing, and north of the border, Prime Minister Justin Trudeau has promised to legalize marijuana in Canada by next July, with legislation already introduced to regulate recreational use.
At home, 29 states and the District of Columbia have legalized marijuana in some form, and recreational marijuana is allowed in eight states, including DC. This list has grown quickly since Colorado and Washington led these efforts in 2014, and a Gallup poll found that a record 64% of Americans, and even a majority of Republicans, now think the Schedule I substance should be legal. A decade ago, only about 36% of Americans supported legalization.
In other words, the green rush is on. Demand for recreational pot in the U.S. is estimated at $45 billion annually, making it larger than the wine market. And according to some reports, legalized pot is taking away from beer sales.
Beer volumes dropped 2% in Colorado, Oregon, and Washington last year. Alcohol companies feared such an impact, though some industry followers disputed that conclusion, pointing to data that showed a rise in on-premise sales of alcohol.
Either way, it seems like a smart move for Constellation to diversify into marijuana. If it proves to be a substitute for alcohol, doing so will help shore up sales. In the event that they're complements, the company could find cross-marketing opportunities or other synergies.
But the real key to Constellation's partnership, in addition to the investment itself, may simply be learning about the marijuana business. The press release says that both companies intend to enter an agreement to "exchange knowledge and expertise." Canopy also touted Constellation's knowledge and experience growing brands.
Bet on the bigs
For marijuana investors, it's the wild west out there -- many of the favored plays in the industry are high-risk penny stocks. But if the drug really takes off in the way that investors hope it will, it's going to attract attention from large alcohol, tobacco, and even candy-makers, as edible sales have boomed with legalization. As Constellation CEO Rob Sands told Bloomberg, "Why wouldn't big business, so to speak, be acutely interested in a category of that magnitude? If there's a lot of money involved, it's not going to be left to small mom-and-pops."
Companies like Constellation have the distribution and marketing muscle to take a brand national. They also have plenty of experience dealing with regulation around controlled substances. Constellation would enjoy an advantage in cannabis beverages, which are now sold at dispensaries. Its investment in Canopy is likely just a prelude to greater activity in the up-and-coming marijuana market, as Canada could serve as an example of how legalization will play out in the U.S.
In the meantime, investors should be happy to put their money in a stock that's returned 500% over the last five years as management gained the exclusive rights to distribute Corona and other Grupo Modelo beers in the U.S., ramping up capacity and distribution and making other acquisitions.
In other words, management has already proven its ability with the Grupo Modelo deal, and the soaring profits and growth that have resulted from it. It's still early in the cannabis market, but Constellation already has a big leg up on the competition.
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