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Marijuana Stock Investors, Watch Out

Mac Greer, The Motley Fool

In today's MarketFoolery podcast, host Mac Greer and analysts Jason Moser and David Kretzmann hit on the market's biggest news. A recent Pew poll found that tons of Americans have deleted their Facebook (NASDAQ: FB) apps in the last year, and even more have changed their privacy settings. How worried should investors be?

Marijuana is a thrilling industry in light of Canada's recreational vote, but investors need to be aware of the risks. Snap's (NYSE: SNAP) new-and-improved Spectacles definitely exist, which is about the most you can praise about them. Why does management seem to think the obtrusive, expensive, glasses-style wearable will improve engagement? Might an acquisition be in Snap's future? Tune in and hear more.

A full transcript follows the video.

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This video was recorded on Sept. 6, 2018.

Mac Greer: It's Thursday, September 6th. Welcome to MarketFoolery! I'm Mac Greer. Joining me in studio, we have Motley Fool analysts Jason Moser and David Kretzmann. Gentlemen, welcome! How are you feeling? Guys, are you ready to talk some marijuana stocks and some Snap?

Jason Moser: Always!

David Kretzmann: Of course!

Moser: I thought you were going to say marijuana stocks and snacks. 

Kretzmann: Absolutely!

Greer: No. Marijuana stocks and Snap. Those are two distinct stories, I should clarify. Let's begin with a new study on how Americans are using Facebook. Pew surveyed more than 4,500 Americans who use Facebook. Jason and David, I want to hit you with some of the top-level findings here and get your thoughts. Here's what Pew found. 26% of Facebook users 18 and over have deleted the Facebook app from their phones over the past year. That includes 44% of users 18 to 29 who have deleted their app. 42% of users have taken a break from Facebook for at least a few weeks. 54% of Facebook users over the last year have adjusted their privacy settings. Jason, there's a lot there. This is about Facebook's core platform, but Facebook also owns a few small outfits, like WhatsApp and Instagram. We don't know, when people are leaving Facebook, if they're leaving one Facebook property and going to another Facebook property. But, what does it all mean for Facebook?

Moser: I genuinely do think that, when we talk about people leaving the core Facebook app, they are going to another Facebook property, in most cases. Now, with that said, I'm sure Facebook would rather it not be the case that people are leaving or taking a break, or at least saying that they're taking a break. With that said, I think Facebook's overarching strategy is based on the core assumption that at some point, users are going to defect somewhere else. That's just the nature of these things. That's the nature of social. We see it happen all the time in everything in life. Eventually, something new comes along and you go try something else. I think going in there with that core assumption, that's why they figured, "Let's just make sure that wherever these eyeballs are going, let's have an interest there. Let's either own it or have it be something that was a part of our universe from the very beginning." So, whether it's Messenger, which they broke out into a separate app, or Instagram, which they acquired, or WhatsApp, which they acquired ... They're testing out Instagram shopping. They're testing out Instagram direct messaging as a separate app. Their thinking there is, if people are going to be leaving, let's see if we can't have a big interest into where they're going.

For the most part, that is the case. While I'm sure they don't want people defecting from Facebook proper, the fact that people are still using Instagram a lot and Messenger a lot and WhatsApp a lot probably helps them get to sleep.

Greer: You seem to be saying, maybe not quite as bad as the headline suggests.

Moser: I would agree with that statement. 

Kretzmann: Yeah, I think the evidence suggests that if people are indeed taking a break or leaving the core of Facebook platform altogether, they are going to one of the other properties. This survey was conducted between May 29th and June 11th. That did get into the second quarter, which ended June 30th. Any movement that we saw in users should have been reflected in the second quarter. Of course, things can change going forward. But, looking at those second quarter numbers, daily active users were steady in North America, continuing to grow in other regions around the world, especially in the Asia Pacific region, which is now about 3X bigger than the North American segment, as far as the number of users. I tend to see this as something not to be too fearful of as a Facebook investor. 

Then, just taking a step back and looking at the stock today, right now it's trading for about 25X trailing earnings. Even though growth is decelerating in terms of revenue, this is still a company that'll probably be growing revenue at a 25 to 30% plus clip for the foreseeable future, and earnings continue to grow alongside that. I continue to think Facebook looks really compelling for anyone who's thinking about where the company will be three-plus years from now. They have over $40 billion in net cash. 

I'm not too concerned about this, because the actual numbers that we saw in the second quarter don't really give any cause for alarm.

Moser: Also remember, the survey that you're talking about, that was spotlighting the U.S. numbers, U.S. users. It's really easy for us as investors here in the United States to just think about investing in this little box domestically here. Obviously, that's not the case. It is a global world out there, more so now than ever before. Facebook is very much a global company. Use, as David mentioned, globally speaking, is still growing. So, while we may be a little bit mature here, that's certainly not the case all around the world. 

Greer: When you look at Facebook, the ecosystem writ large, and we see these numbers for the U.S. -- Jason, to your point, that at least in the U.S., Facebook and its core platform, people appear to be leaving or taking a break. In terms of Facebook's other properties, like WhatsApp and Instagram, where do you think the growth is going to come from? Is there one of those properties that you think investors should really keep an eye on?

Argersinger: I think Instagram is something that will continue to see increased engagement and monetization as more advertisers come on and test the video and photo format of advertising. Personally, I use Instagram more than my Facebook app. I still have both. The advertising on Instagram is very effective, just as far as, actually, maybe I will take the step to buy that product. I think, as Jason mentioned, as they continue to test integrating shopping directly onto the platform, that'll be really effective, especially with the younger audience that Instagram appeals to. Globally, I think WhatsApp continues to provide an opportunity for monetization. Then, you have the Messenger app, which also has over a billion users at this point. A lot of different levers that they can pull. Then, in the meantime, even the core Facebook platform is growing worldwide in regions like Asia Pacific. Even though we are getting caught up in the headlines and the pessimism today, I think given the relatively modest valuation the company is trading for despite continuing to grow to a pretty healthy clip... this is one of my higher-conviction stocks for the next three-plus years.

Moser: I wonder if that stock price isn't at least reflective somewhat of, perhaps, conservative guidance set out by management, knowing full and well that these next few years are going to be a little bit of a tough haul. Expenses are going to be on the rise. I think that when you look at most of their properties, most of them serve a utilitarian nature. I mean, they're going to be monetizable. There are opportunities there. But to me, Instagram is the one that really stands out as the one with the most potential. I've always likened Instagram -- granted, this is coming from the perspective of having never used it, but having seen it -- it seems like it's a magazine, right? It's like a magazine you're looking at when you're waiting in the doctor's office. It's just a bunch of pictures and advertisements. It's very conducive to that environment. To see that they're testing out this shopping capability, I think, makes a lot of sense. 

Now, the challenge there is that you're trying to groom consumers to do something a little bit different than what the app was intended for them to do. It's a social app. Now, you're trying to get people to take that next step and start shopping from that app. We've seen from all of these social apps, that's a bit of a tougher accomplishment. It's easier said than done. With that said, I think that Instagram would be the platform that would probably have the best chance at doing that. It's not just an Amazon world. If you have people sitting there spending 15 minutes of the day on Instagram, fiddling around doing nothing, you might as well throw some commerce out there and see if they don't want to click the buy button here or there. 

Greer: Guys, for our next story, we are going to turn to the world of cannabis and cannabis stocks. David Kretzmann, this is an industry and an area that you follow closely. Shares have been on an incredible tear. I'm sure it's down a bit today, Thursday, after a downgrade of a Canadian cannabis producer, Tilray (NASDAQ: TLRY). I want to talk Tilray. You talked to the Tilray CEO last month. This stock IPO-ed in July. It's tripled. It's been on fire. And yet, it's not profitable. Break it all down for us. 

Kretzmann: Yeah, Tilray is a really interesting company. Valuation aside, as far as looking at the more established, larger Canadian producers, this is one that I think is among the more compelling. It's a founder-led company, Brendan Kennedy, the co-founder and CEO, who I spoke to last month at a conference in Toronto, he's actually the co-founder of Privateer Holdings, which is a private equity venture capital firm that basically started Tilray and a variety of other cannabis companies, including consumer sites like Leafly. 

Tilray went public this year. Currently, their market cap is over $8 billion. They have a good reputation within the industry. They were the first Canadian producer to export product internationally to Europe. They tend to be much more disciplined, they're not spending a bunch of money on crazy acquisitions like some of the other producers, which are just issuing shares like crazy to consolidate within the industry. They've been much more disciplined, building out a global footprint for the cannabis space. 

But with that said, their trailing sales are still minimal. I think Jason mentioned as we were prepping for this, they're trading for about 250X trailing revenue. 

Greer: Which is a lot.

Kretzmann: That's a lot. That's on the higher end of the spectrum, for sure. Thinking through it, why would Tilray be on such a tear, even more so than a lot of other cannabis stocks, which have been doing so well, part of it is that they are a little bit more established. Instead of doing what's called a reverse takeover in Canada, which is essentially where a cannabis producer would merge with a shell public company to go public -- that way, you don't have to go through the traditional channels. You don't have to issue a prospectus, you don't have to do all the filing. It's kind of a backdoor way to go public. They actually went public direct on the NASDAQ. They actually did the formal process of meeting with banks, they issued an S-1 or a prospectus.

Then, in addition to that, I think the cannabis industry as a whole is really just riding the wave from the news last month, where Constellation Brands, the wine and spirits company behind Corona and a bunch of other brands, invested $4 billion into what's currently the top cannabis company, Canopy Growth, which is now valued at $11.5 billion. You just think about it, a $4 billion cash infusion into Canopy Growth, that's for a 38% stake. In that case, you have a mainstream established company in an established industry, alcohol, making a huge commitment to the cannabis space. That's really been, I think, a catalyst for so much more attention and interest in the sector. 

That's a long, rambling way of saying there are a variety of factors that are contributing to this. I think if you're an investor today, there are better opportunities and safer opportunities to get some exposure to the cannabis space. 

Moser: Yeah. What you're seeing is just basic economics at play. There is a limited supply of investment opportunities in this space. Most of us, who at least are proponents of legalization, look at this as an attractive market opportunity ultimately. It's going to take a little while to get there. I think it's going to be a little bit of a ball rolling concept here domestically. But as more states legalize it, it just becomes a self-fulfilling prophecy there. Ultimately, I think at the federal level, we have no issues. It'll take some time to get there. 

But as that happens, more and more opportunities come into the fray. That increases that supply. Then, all of a sudden, you have more options as far as where to put your investment dollars. I think that's the biggest problem right now. Sure, Tilray has a lot of promise, but there are a lot of red flags there. David mentioned a number of them already. You have to consider that. Perhaps it's a decent opportunity. But perhaps the price right now doesn't really make sense at all.

And it really doesn't. I mean, if you invest in this company at today's price, you're going to lose money, I would be willing to bet my life on that. I know that's a bold statement. But, it's insane. It doesn't make any money! It's not profitable! Even to get there, it's still just based on a commodity. 

This is a very, very early, early space. Give it some time. Learn about it. Wait for some of those better opportunities to come online and figure out how they're going to monetize this. Ultimately, it's still just a commodity, and the end of the day. It's not about growing. It's more about what you do with it from there. David mentioned building those brands, building that awareness in this space. I think that's going to be a really important way to find those opportunities. It just takes some time to get there.

Greer: I'm going to count you as skeptical, Jason Moser, is that fair?

Moser: Skeptical on the company, but very bullish on the market opportunity in general. 

Kretzmann: Right now, all these cannabis companies, for the most part, have a very limited or even non-existent track record. You only have at most a few years of revenue, and usually that's still very minimal. Going forward, I think what is supporting these lofty valuations today is the anticipation of more deals similar to the Constellation-Canopy deal. If a company came along and invested $2 million into Tilray or any huge amount, you're just going to see that excitement and that buzz. 

Moser: Hey-o!

Kretzmann: I have to use these while I can. You already have Constellation Brands making those investments. Molson Coors Canada announced a joint venture -- no pun intended there -- with another Canadian producer last month. But then, you think about pharmaceutical companies, tobacco, other alcohol companies like Diageo, which are rumored to be meeting with these Canadian producers, there's so much based on future hype and expectations. Some of it is legitimate. But in the meantime, you have every cannabis company riding the wave, whether it's legitimate or not. 

Greer: So, if you're an investor, what is the best way to play this space? If Jason is right about Tilray, do you take a stock, like a Molson, that's one step removed? Or do you get a basket of the cannabis producers? What's the best way for investors to approach this?

Kretzmann: What we've been doing in Marijuana Mavericks, which is a service we launched in June in Canada, we took the basket approach. We basically took 10 different companies, including three picks and shovels companies -- and I'll just say that Constellation Brands was one of them. We're looking at the producers, some U.S. operators that are public on the Canadian exchanges, trying to find companies that -- granted, their valuations still look lofty, but they're doing something to differentiate themselves, focus on building brands or building distribution, retail, something like that. And, we're starting with a small position across all 10 of those companies. Then, we're just looking to start small, follow those companies over time, learn about those companies in the industry over time, and look to add to the companies that do end up gaining some meaningful, tangible traction and add to those winners over time. 

We've recommended to our members, anything you invest in this cannabis basket should probably be a smaller percentage of your own portfolio. I personally invested my own money in those ten recommendations, and I started with about 5% of my total portfolio. If those stocks drop 50%, that would stink, but it wouldn't damage my overall returns too much. I think taking that approach, where you're diversifying across some promising companies, starting small, that's a good way to go.

Moser: Basket approach.

Greer: I've heard about that somewhere. 

Kretzmann: You didn't trademark that, Jason.

Greer: That's true. Guys, let's close with the ongoing saga that is Snap.

Moser: I figured we'd close with the cannabis story, therefore we'd be closing on a high note. But this is the opposite. We're closing on a low note.

Kretzmann: Bummer.

Greer: It's a low note. Snap, on Thursday, falling below $10 for the first time. That is a new low, eclipsing the week's previous new lows. Guys, this comes as Snap has just launched a new style of glasses -- Spectacles. They look more like sunglasses, Jason. I thought they were pretty snazzy when I went online and looked at them. I don't own any.

Moser: You do not.

Greer: But just to set the table here, Spectacles allow the wearer to take pictures and shoot video. I have to ask, Jason. Spectacles -- are they going to help this stock? Is this latest version, is this latest, much more fashionable-looking Spectacles, going to help Snap? Or is this lipstick on a pig?

Kretzmann: It worked so well last time!

Moser: I said yesterday on Twitter, I want to add one more thing to those certainties in life. You get death, taxes, and apparently now, annualized writedowns on Spectacles inventory from Snap. It's befuddling, actually, why they continue to try to advance in this particular space. I mean, the one obvious question that always keeps coming back to me is, if you ask yourself if Snap is a camera company -- that's what they claim to be, and that's fine -- and they're going to pursue cameras via wearables... is this a wearables company you want to place your money on? There are a lot bigger companies out there that have a lot more experience in this space. Alphabet, Apple. They've already been working on producing wearables, and certainly glasses we've seen from Google, and I know Apple is looking at the space, as well. I wonder, is this a company that you even want to place your bet on where that's concerned?

They find themselves in a very tough predicament. They're not really a social media company. You didn't see him up here in D.C. yesterday, testifying on Capitol Hill, because that's not really the nature of that platform. They are a self-proclaimed camera company. I'm not sure exactly how attractive a market that is, particularly if you're producing cameras that apparently a lot of people aren't really in the market for. I appreciate that they are trying. But the fact of the matter is, I think this is a business that went public far earlier than it probably should have, didn't really have a clear vision of where it wanted to go, was extremely overpriced, is still extremely overpriced today, even now at around a $12 billion market cap.

Then, you ultimately have to ask, how big and how profitable will this company actually be? I think it can exist as a successful business, don't get me wrong. I don't think this is some straight shot to zero. I just think that it's going to be very limited in what it's going to have to offer based on just Snapchat today. That is a smaller network. I don't know that they have the opportunity to grow to be the size of something like an Instagram, or even really a Twitter, for that matter. Yeah, you have to really take into consideration how profitable you think they can be based on what we know today. Unfortunately for them, I think there probably is still some room to go a little bit further down.

Greer: One of the more positive things I heard you say there is that this is not a straight shot to zero.

Moser: I'm glad that's what you got from that.

Kretzmann: There you go!

Greer: [laughs] It feels relatively dire. David and Jason, I want you to get in on this. If you're going to save Snap -- in five years from now, we're looking at this stock and we're saying, "Boy, were we wrong! This stock was wildly successful, and it crushed the market." What happened?

Kretzmann: I think the larger issue for Snap, and the reason I don't think this Spectacles announcement really is much of a game-changer for them, is that the bigger issue that they need to address is engagement from the users that they do have. In the second quarter, we saw daily active users actually drop a little bit. I just don't see Spectacles as something that moves the needle to drive more engagement on the platform. I don't really know what the answer is looking out over the next five years. They clearly need to do something to grow the user base as much as they can, and then also find ways to increase engagement with those users. If it's something with original content or video, something to differentiate themselves.

To that end, Instagram is essentially doing the same thing and doing it better with a larger audience. It's hard for me to see, what can the Snapchat app do that Instagram can't immediately copy or replicate? In some cases, I think Instagram is not just copying Snapchat -- although they have done that in the past -- but with something like shopping, I don't think anyone's ever going to be shopping on Snapchat, or at least anytime soon. Instagram has a platform that I think is more conducive to the shopping experience. It's a tough question. Whatever would help Snapchat, it has to be increasing users and increasing engagement.

Greer: So, stylish-looking sunglass-type glasses that allow you to take pictures and video, that's not doing it for you?

Kretzmann: I don't think so. It didn't do it the first time around. These glasses are even more expensive than the last time.

Moser: They look like they came straight out of a gumball machine. You're giving them a lot of credit with "stylish," man.

Greer: Consider the source here. [laughs]

Moser: I think for Snap to be successful, they take a page out of Facebook's strategy. They become something more than just Snapchat. They have to be a family of apps that is garnering more eyeballs. That's ultimately what makes or breaks you in this space? It's going to be, probably, an acquisition. There's not something I think they can break out of the actual Snapchat app to grow users. I think an acquisition to broaden that customer base, broaden that user base, at least gives them a shot. But as things stand today, it's very limited in what it's going to be able to do. 

Kretzmann: I think if they are looking to make an acquisition, they have to do it soon before the stock drops more. Right now, they do have $1.5 billion of net cash in the bank, which is great, but they're burning over $900 million of cash a year. That really only gives them about 18 months of run rate or leeway, given the current rate that they are burning cash. If you're making an acquisition using stock as the currency to make that acquisition, you don't want to do it when your shares are lower, and you have to issue more shares and dilute your shareholders even more to make that purchase. I think they have to do something soon, because the rate that they're burning cash really doesn't give them a whole lot of flexibility.

Greer: What about Snap being acquired?

Moser: Well, I mean, Facebook tried to acquire Snap back in the day. Granted, I think that was for around $3 billion. The company's still worth $12 billion today. You can do the math and see that, technically, they're still better off being public today. But I just don't know who would actually want to go in there and acquire them for $12 billion today. I think an acquisition would put them in the position of being a desperate seller. Anybody who's going to go in there, like an Alphabet or even a Facebook or something, would probably be able to go in there and command their own price at this point. Like David was saying, they're really caught between a rock and a hard place.

Greer: OK, guys, I think I know how this is going to net out. I'm not 100% positive. I want to close with my desert island poll. You should not invest this way, it's totally arbitrary. Over the next five years, if you're on a desert island and you can own one of these stocks, who are you going with? Facebook, Tilray, or Snap?

Moser: Man, do you have to even really ask that question?

Greer: Let me throw in a cannabis basket.

Moser: Ah, a cannabis basket.

Kretzmann: Oh, I'm going to cannabis basket.

Moser: I'll echo that, I'd go with a cannabis basket. I think there's a lot of opportunity there.

Greer: OK, guys. Thanks for joining me!

Kretzmann: Thanks, Mac!

Greer: marketfoolery@fool.com is our email. If you have questions, comments, if you have thoughts on the cannabis basket, on Facebook, Tilray, or Snap. As always, thanks for joining us! People on the show may have interests in the stocks they talk, about and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. That's it for this edition of MarketFoolery. The show's mixed by Dan Boyd. I'm Mac Greer. Thanks for listening! And we will see you on Monday!

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. David Kretzmann owns shares of Alphabet (C shares), Amazon, Apple, Constellation Brands, Facebook, and Twitter. Jason Moser owns shares of Apple and Twitter. Mac Greer owns shares of Alphabet (C shares), Amazon, Apple, and Facebook. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Amazon, Apple, Facebook, and Twitter. The Motley Fool owns shares of Molson Coors Brewing and has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool recommends Diageo. The Motley Fool has a disclosure policy.