Emerging markets like the commercial marijuana industry often attract investors looking to capitalize on a new sector; however, investing in U.S. marijuana companies may expose investors to risk. As business models and laws continue to evolve there is a large amount of uncertainty in this emerging sector, leading to a number of risks that could negatively impact investors.
While all investments come with a certain amount of risk, investment in the marijuana industry exposes investors to different types of risk that can impact their potential return. Some common risks include:
No guarantee of success
Despite the rapidly growing number of companies in the marijuana sector, there remains no guarantee that their businesses are profitable or will be in the future. Many marijuana companies are speculating about their success on future distribution; however, many rules and regulations about distribution and sales are still being established.
Government and legal considerations
Many jurisdictions in which marijuana laws are being considered have yet to establish a framework for how and where products can be sold. There may be restrictions on stores that are permitted to sell marijuana, as well as rules about advertising which could impact a company’s ability to make a profit, thereby reducing the value of the investment.
While the sale and distribution of marijuana is authorized in certain states, it is currently illegal under U.S. federal law. Although this federal law it is not strictly enforced currently, authorities in the U.S. could choose to enforce it at any time, putting the company at risk of prosecution and seizure of assets. Investing in a company that does business in a place where the regulatory and legal frameworks are unclear, or inconsistent, puts investors’ money at risk.
Pricing and taxation
Government-mandated pricing and taxation on marijuana products may also pose a risk to the success of a marijuana company. Marijuana products, especially those intended for recreational use, should be priced below their black market value in order to attract consumers. If the government prices marijuana products too high, or if black market dealers undercut prices of products available in stores, the companies growing and selling the products may not be able to sell enough product to make a profit.
Inflated share prices
The marijuana industry has generated a great deal of interest among investors with the expectation of quick growth. However, these investments can be highly speculative and based upon expectations of future success, rather than current performance. Investors risk paying an inflated price for an investment that may not increase in value.
High operating costs and share dilution
The costs of developing and operating a commercial marijuana company can be considerable as it requires specialized, large-scale facilities and enormous amounts of power and capital to operate. As these high operating costs begin to accumulate, companies may choose to raise capital by issuing additional shares. This issuance comes at the expense of current investors whose percentage ownership decreases proportionally to the number of shares issued, leading to a decrease in investment value.
Before investing in a marijuana company, investors should research the investment opportunity, evaluate the risks, and consider how the investment will meet their financial goals. For more information on investing in U.S. marijuana companies, please visit a recent article published by the Ontario Securities Commission (OSC).