After underperforming the broader equity markets in the first quarter, the cannabis sector has been showing a strong recovery in the second quarter. Since the beginning of this quarter, the ETFMG Alternative Harvest ETF (NYSE:MJ), which provides exposure to the North American cannabis companies, has returned 21.5%. Meanwhile, the S&P 500 Index has increased by 20.9%.
Amid restrictions due to the COVID-19 outbreak, the Canadian federal government and many US states classified medical-use cannabis as “essential.” Meanwhile, many provincial governments in Canada allowed recreational cannabis sales. In the last few months, Canadian provinces have started addressing the issues of fewer retail outlets by expanding the retail footprint. So, all of these initiatives have improved investors’ sentiments, which has driven the cannabis sector. Given the increased interest in the cannabis sector, I think that the following two cannabis companies will do well.
Unlike many cannabis companies, Aphria (NYSE:APHA) is a profitable company. Aprhia has posted a positive EBITDA in its last four quarters. Under Irwin Simon’s leadership, the company has been posting a strong performance for the past few quarters. Aphria is into medical and adult-use cannabis. Medical cannabis commands higher prices, while adult-use cannabis provides the volumes. So, the company has an advantage by operating in both of the businesses. Last month, the company’s subsidiary in Malta, ASG Pharma, received an EU GMP certification. The certification could boost the company’s exports to European countries.
In the adult-use segment, Aphria has been focusing on product differentiation and brand building to drive its sales. During the last earnings call, the company’s management announced that it would soon introduce its Cannabis 2.0 products, like edibles, beverage, and topicals, which could unlock growth potential.
Moving to profitability, Aphria has managed to reduce its cash cost per gram below 1 Canadian dollar (0.93 Canadian dollars to be precise). With the Aphria One and Aphria Diamond facilities operating at full capacity, the company could lower its production costs, which would give it an edge over its peers. I think that with expanded revenue growth and improving margins, Aphria looks attractive at these levels.
My second pick is OrganiGram Holdings (NASDAQ:OGI)—a small cannabis company with a market capitalization of approximately 450 million Canadian dollars. OrganiGram was one of the few cannabis players that introduced Cannabis 2.0 or cannabis-derived products as early as December 2019. The company has a portfolio of vape pens and cannabis-infused chocolates in the market. These innovative products contributed 13% of OrganiGram’s total revenue for the quarter that ended on February 29. Recently, OrganiGram also introduced Cannabis 2.0 products for medical usage. The company has been focusing on expanding its international business. Last week, OrganiGram signed a supply agreement with Canndoc, which is a subsidiary of InterCure. These initiatives could drive the company’s sales.
Amid the large-scale layoffs, customers have been moving towards cheaper or value products due to the decline in disposable income. So, many players will introduce their value brands, which could impact their margins. OrganiGram has an edge compared to its peers. The company produces cannabis at a cost-effective price. In the last quarter, the company’s cash cost of producing cannabis stood at 0.53 Canadian dollars per gram, which is one of the lowest costs among its peers. So, I think that OrganiGram could benefit from customers shifting towards cheaper products.
Moving to OrganiGram’s balance sheet, it announced in April that it wasn’t in compliance with Bank of Montreal’s loan terms, which raised concerns. Last month, the company amended the terms. The amendment allowed OrganiGram to avail the remaining 55 million Canadian dollars of credit, which strengthened its balance sheet. So, given the strength of OrganiGram’s sales, profitability, and balance sheet, I’m bullish on the stock.