One of the most groundbreaking developments in the investment market in recent times has been the legal cannabis sector. Formerly a malicious and illegal black market, the botanical industry is becoming more and more legal and taxable worldwide. However, intense competition quickly emerged, with companies like Aphria (NASDAQ: APHA) wanting a piece of the pie. Suddenly, legalization wasn’t such a good idea anymore as the crowd beat APHA stocks.
When all cannabis products were under tight government control, it limited the overall profitability of the green industry. At the same time, however, the restrictions also extended to competition. With a high barrier to entry, many aspiring weed hunters have simply taken a pass. But now that legalization dropped that standard, many companies that would normally have been kept from competition quickly came on the scene.
Enthusiasm for investments like APHA shares was initially robust. However, the sheer volume of competition quickly diluted the profitability potential. After all, weeds are weeds to the average consumer – it’s difficult to tell one brand from another.
That’s why the upcoming Aphria and Tilray (NASDAQ: TLRY) merger is fascinating. If the deal goes as planned, the combined company will become the world’s largest global cannabis company after sales. Indeed, mergers and acquisitions may be the only way to make the sector sustainable, at least in the short term.
Arbitrage in APHA stock
In terms of short-term catalysts, our own Will Ashworth described the arbitrage opportunity for APHA stocks. Ashworth goes through the math in great detail, but the bottom line is that TLRY is arguably overpriced. However, Aphria is undervalued compared to Tilray, which makes for an interesting trading opportunity.
If you believe the merger will be successful, you may be able to benefit from a long position in APHA while shorting TLRY as the two stock units reach a valuation that is in line with the terms of the merger.
It’s a Heckuva risk, but it’s there when you want it to be.
International opportunity adds intrigue
What worries me about the arbitrage argument is that most of these scenarios are fleeting. You may find them in the after-hours session, but it doesn’t happen too often that they are available for multiple sessions waiting for an investor to think about it and take advantage of it.
So in this situation, I think that if you are interested in APHA stock, it should be based on the underlying fundamentals. The merger is not guaranteed to take place, although it should.
Assuming a deal is reached, the interesting thing about the Aphria-Tilray combo is its focus on the international market. Surely everyone in the cannabis sector has their eyes on the US – that’s where the demand is. Looking ahead, however, the combined company could benefit from its global ambitions.
Primarily, Tilray directed several groundbreaking events. According to the company’s website, it was the first to “legally export medicinal cannabis from North America to Australia and New Zealand.” Tilray was also the first to “legally export medical cannabis products from North America to Europe”.
On the Aphria side, the cannabis company has operational footprints in Europe and South America. This global operational experience could benefit the combined company as the international market gradually warms to cannabis.
Back in November 2018, Newsweek reported that several Asian countries are reconsidering the issue of legalization, at least under certain circumstances. In particular, Malaysia “announced that it would abolish the death penalty for 32 crimes, including drug charges.” This came after protests following the controversial death penalty for a Malaysian who sold medicinal cannabis.
South Korea, which has very conservative anti-drug policies, has also changed its laws to allow imports of CBD-infused products. “Marijuana is still illegal in China and Japan, but officially approved research into the plant’s potential benefits has been approved along with limited cultivation,” Newsweek reported.
Buying APHA shares directly because they are relatively undervalued for TLRY will give you long-term benefits.
Time is a killer for this thesis
Before you get into APHA stock, however, you should be aware that despite the global cannabis expansion, the US will still own the lion’s share of the market.
According to a report by ArcView Market Research and BDS Analytics, the cannabis sector will reach $ 40.6 billion by 2024. However, the US will account for about $ 30 billion, or 73% of that sector. Hence, the actual international viability of weeds can be years, perhaps decades, later.
And with the US being the dominant player in cannabis, the black market dilemma is particularly problematic during this pandemic. That’s because law enforcement has bigger problems than worrying about someone lighting up.
If you buy APHA stock I would be careful. The botanical industry has seen a massive boom, but new questions about viability have emerged over the past year.
At the time of writing, Josh Enomoto held positions (either directly or indirectly) in any of the securities identified in this article.
Josh Enomoto, former senior business analyst at Sony Electronics, has helped broker major contracts with Fortune Global 500 companies. Over the past several years, he has provided unique, critical insights into the investment markets as well as various other industries including law, construction management and healthcare.