The Silver Lining Behind Canopy Growth’s (CGC) October Collapse

Investor interest in marijuana stocks reached a fever pitch as summer turned to fall, and the Oct. 17 legalization of recreational marijuana in Canada was a milestone event for the budding cannabis industry. Yet in what many market watchers referred to as a sell-the-news event, marijuana stocks retreated in the last half of October, and Canopy Growth (NYSE:CGC) finished the month with losses of 19%.

For those who had hoped that Canopy Growth’s stock would be a straight-up pathway to riches, October’s performance for the cannabis leader brought a cold dose of realism to their dreams. Yet in one way, there’s a silver lining to Canopy’s swoon, as it’ll make sure that key investment partner Constellation Brands (NYSE:STZ) remains dedicated to fostering the cannabis company’s growth and aligns shareholders’ interests with its own.

Too far too fast

Constellation Brands has put more money into the marijuana industry than any other major mainstream company, supplementing a modest $190 million purchase of a 10% stake in the company in late 2017 with a massive investment of nearly $4 billion in August. Canopy investors at the time saw the move as reflecting the huge potential of the cannabis industry, and they were pleased that Constellation recognized its own ability to profit from Canopy’s growth. The marijuana company’s stock immediately roared higher, pushing out of the $20s to rise as high as the mid-$50s on several occasions in September and October.

However, the potential problem for new investors looking at paying those high prices for Canopy stock was that the structure of the Constellation investment created a potential conflict. In addition to paying 48.60 Canadian dollars per share for Canopy stock in August — roughly $37 per share in U.S. dollars — Constellation also got warrants to purchase additional shares of the marijuana company’s stock in the future. For the bulk of the warrants, Constellation got the right to pay CA$50.40 per share — or about US$38.50 — for up to 88.5 million additional shares of Canopy.

What that meant for investors was that as Canopy’s share price was soaring, the potential for future dilution was…

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