Is Canopy Growth Overpriced?

Cannabis producers Aphria (NASDAQ:APHA) and Tilray (NASDAQ:TLRY) rocked the industry when they announced last month that they were merging to create the largest cannabis company in the world (based on pro forma revenue). The move instantly creates a new leading cannabis company in Canada, and one that could become a big competitor in the U.S. market once pot is legal at the federal level…

For a long time, many cannabis investors saw Canopy Growth (NASDAQ:CGC) as the industry leader. But with the company struggling to generate sales growth, there are much better pot stocks to buy. And the deal with Aphria and Tilray only makes matters worse, as it creates a powerhouse that’s a much better bargain than Canopy Growth.

Aphria was already ahead of Canopy Growth in terms of revenue

Even before the companies announced this deal, Aphria was arguably already a better buy than Canopy Growth. Over the trailing 12 months, Aphria has reported revenue of 561 million Canadian dollars ($443 million). And although it doesn’t cover the exact same period, Canopy Growth’s sales during its last four quarters totaled just CA$477 million ($377 million) — 15% less revenue than Aphria. Yet investors are paying considerably more for Canopy Growth, with a market cap of $10 billion, than they are for Aphria and its $2.2 billion valuation.

Once you add Tilray into the mix, the discrepancy becomes even more lopsided. The British Columbia-based company’s top line has been fairly consistent, typically hovering around the $50 million mark every quarter. Over the trailing 12 months, its sales have totaled $201 million. Add that to Aphria’s sales and you’re looking at combined revenue of about $644 million. In their merger announcement, however, the companies estimated their pro forma revenue to be $685 million, which could be due to the slightly different quarterly schedules that they’re on. Tilray’s current valuation of $1.5 billion is even lower than Aphria’s and would put the two companies at a combined value of around $3.5 billion — still nowhere near Canopy Growth’s astronomical price despite significantly higher top lines.

That means investors would be paying a little over 5 times revenue for the combined company. Canopy Growth, meanwhile, trades at a price-to-sales ratio of more than 27. Here’s a look at the stocks individually:

TLRY PS Ratio Chart

TLRY PS Ratio data by YCharts

There’s no denying the huge disparity between the companies and their respective valuations, which leads to the inevitable question of …

Why are investors paying such a premium for Canopy Growth?

Often, investors are willing to pay more for a company if they expect its future growth numbers to be very strong. A big advantage Canopy Growth enjoys over its peers today is a partnership with beer maker Constellation Brands that gives it financial stability. The two have also been working on cannabis-infused beverages for the Canadian pot market. In addition, investors are…

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