Why I'm Not High on GW Pharma

 | Jun 24, 2014 | 3:00 PM EDT  | Comments
  • Comment
  • Print Print
  • Print
Stock quotes in this article:

gwph

The reasons for staying away from the small, overhyped, marijuana-related OTC stocks are legion and should be obvious to Real Money subscribers. Apart from the lack of reporting and the regulatory risk of investing in marijuana, there is also the fact that doing so involves breaking one of the golden rules of investing. In general, your enthusiasm for a stock should be inversely correlated to that of the person trying to sell it to you. The ubiquitous advertising and fantastic claims of those currently promoting stocks in the cannabis business should be warning enough in itself.

GW Pharmaceuticals (GWPH), however, is different. It is a real company listed on a major exchange, the Nasdaq. The stock has had a spectacular run and garnered the support and recommendation of several large Wall Street firms, along with our own Jim Cramer, who first endorsed GW in April. Since then the stock has nearly doubled -- good call. At these levels, however, I strongly disagree with his assertion that the stock has further to go.

GW Pharmaceuticals (GWPH)
Source: VectorVest

The marijuana angle of GW Pharma's business is one thing, but my main reason for being bearish on GW -- at least in the short- to medium-term -- is the most basic one of all: valuation.

I have a visceral distrust of a company whose stock rises sharply despite the fact that it has never made any money. I understand that the biotech industry is different; in that field, potential has exaggerated value. I also understand that key drugs in GW's pipeline have had promising initial results. Neither of these things, however, justifies the stock jumping more than 1,000% in under a year. The only thing I can think of that would have driven that kind of performance is a flood of money looking for a legitimate way of cashing in on the trend toward de-criminalization of cannabis in the U.S.

That is money chasing a short-term return, so it is likely that the rush out, when it comes, will be as quick as the rush in -- and there are a number of things that could trigger that rush. GW is not totally dependent on the further relaxing of cannabis laws in America for revenue. It already has approval for Sativex, a mouth spray to treat multiple-sclerosis spasms, in more than 20 countries. That provides revenue. An eventual shift to profit, however, requires U.S. approval of Epidiolex, a treatment for epilepsy.

Initial trial results for Epidiolex are promising, but given that there are many anticonvulsant drugs for the treatment of the disease already, any fast-tracking of the drug is unlikely. In fact, given the controversy that surrounds the use of cannabis derivatives in America, it would come as no surprise if the Food and Drug Administration delays an actual decision for as long as possible.

Even if approval is granted, the potential for the drug, and any cannabis-based therapy, could be seriously exaggerated. This is not a pharmaceutical that is manufactured in the normal sense of that word. It is derived from a plant and, while growing that plant is still illegal in the U.S., many would be tempted to do so if the alternative were a very expensive drug. Of course, the same could be said of aspirin and willow trees, but aspirin are just a few bucks a bottle. If nothing else, the possibility of cheap access to the active ingredient in Sativex and Epidiolex will put downward pressure on pricing.

Even if I am wrong and both drugs have the potential to gain universal acceptance and maintain premium pricing levels, consensus estimates indicate a growing loss next year, and profit still a long way off. Estimates of the value of GW's main drugs are based on sales expectations for 2024. That leaves a very long time in which bad news of a regulatory nature can surface. The longer we wait for good news or a shift to profitability, the more nervous buyers will become.

It seems that a large part of the potential for GW Pharma is unquestioningly priced into the stock at these levels, while hardly any of the significant risk is. This doesn't mean that GW Pharma doesn't have the prospect of one day becoming a viable business. What it does mean, however, is that upside progress will be slow while there is a good chance of a rush to exit a crowded position in the near future. To put it another way, GWPH looks like a very tempting short rather than a buy.

Columnist Conversations

3 insiders sold a total of 518,620 Starbucks (SBUX) shares for proceeds of $43.449 MM. 4 insiders dumped 558,1...
Yum Brands saw both insider buying and selling reported last week. One insider bought 10,000 shares for about ...
The bearish star cluster on the Starbucks (SBUX) chart that I highlighted last week preceded price action this...
Ford is working on its third straight gain following two days of steep loses to start this week. At this...

BEST IDEAS

REAL MONEY'S BEST IDEAS

Columnist Tweets

BROKERAGE PARTNERS

Except as otherwise indicated, quotes are delayed. Quotes delayed at least 20 minutes for all exchanges. Market Data provided by Interactive Data. Company fundamental data provided by Morningstar. Earnings and ratings provided by Zacks. Mutual fund data provided by Valueline. ETF data provided by Lipper. Powered and implemented by Interactive Data Managed Solutions.


TheStreet Ratings updates stock ratings daily. However, if no rating change occurs, the data on this page does not update. The data does update after 90 days if no rating change occurs within that time period.

IDC calculates the Market Cap for the basic symbol to include common shares only. Year-to-date mutual fund returns are calculated on a monthly basis by Value Line and posted mid-month.