My Favorite Marijuana Stock in 2019

The marijuana industry had a game-changing year in 2018, although you wouldn't know that by looking at the performance of marijuana stocks as a whole.

Last year, the cannabis industry was finally validated as a legitimate business model. Canada became the first industrialized country in the world to legalize recreational weed, the U.S. Food and Drug Administration approved its very first cannabis-derived drug, and a handful U.S. states and countries gave the green light to medical marijuana. The curtain has been lifted and billions of dollars in legal money can now flow into the pot industry.

Move aside, pot growers -- there's a new favorite marijuana stock in 2019

Despite this legitimacy, most marijuana stocks declined last year. In fact, quite a few brand-name growers saw their share prices fall by more than a third.

But, in 2019, there's no guarantee that investors will see a rebound. Weed shortages caused by regulatory red tape in Canada may adversely impact sales and provide an opening for black market cannabis to lure consumers away from legal channels. Likewise, high-margin consumption options like edibles, vapes, and cannabis-infused beverages still aren't legalized in Canada, which could be a near-term drag for pot producers.

And yet, this is a high-growth industry that investors still can't and probably shouldn't ignore, even with its hurdles to overcome. Attractive marijuana stocks do exist, but investors have to be exceptionally picky when perusing potential buys in 2019.

As we head into the new year, my favorite marijuana stock is no longer a grower. For those who may recall, Atlantic-based grower OrganiGram Holdings (NASDAQOTH: OGRMF) was my top pot stock in 2018. OrganiGram's usage of a single grow site at Moncton, New Brunswick, and its three-tiered growing system designed to maximize greenhouse space, should allow the company to produce some of, if not the, lowest per-gram growing costs in the industry. The 113,000 kilograms OrganiGram is forecast to produce at peak capacity from just 490,000 square feet of growing space is simply unparalleled efficiency.

To be clear, I still like OrganiGram a lot. It remains my favorite grower, and is probably my second-favorite marijuana stock of 2019. But my top pick in the pot industry this year is a company that doesn't even touch the cannabis plant: KushCo Holdings (NASDAQOTH: KSHB).

My favorite marijuana stock in 2019

My suspicion is that we're going to see ancillary cannabis businesses -- i.e., those that don't come into contact with the cannabis plant, but are nonetheless vital to the success of the marijuana industry -- thrive. They've lived in the shadows for a few years but will now have an opportunity to shine with the pot industry legal in Canada and no longer considered taboo. At the top of the list of these ancillary stocks is KushCo Holdings.

KushCo is first and foremost known for providing child- and tamper-resistance packaging solutions for more than 5,000 growers worldwide. Think about this for a moment: In order for growers to reach dispensaries or pharmacy shelves, their products needs to abide by federal, state, and local laws, where applicable. KushCo steps in and works with growers to provide packaging solutions that meet these legal standards.

But the buck doesn't stop there. KushCo's acquisition of Zack Darling Creative Associates in July 2018 gave it access to a creative marketing agency that it could use to become a one-stop-shop for branding solutions. Not only can KushCo provide compliant packaging solutions, but it can also help growers stand out with branding solutions in an increasingly crowded field.

Also, assuming Canada's Parliament does stick to a loose timeline of approving new consumption options by this summer, which could include vaping, KushCo could presumably see an uptick in vaporizer sales in the second half of 2019. Although vaporizer sales won't be a huge component of the company's long-term business, it would be welcomed icing on the cake in the near term as growers continue to ramp up their capacity.

Another reason to really like KushCo is the company's acquisition of Summit Innovations, which closed in early May. Summit is a company that produces hydrocarbon gases, which on the surface sounds downright boring. But the thing is, hydrocarbon gases are necessary for the conversion of cannabis plants into oils -- and oils are a considerably higher margin product than traditional dried flower.

Within the U.S., what few states have legalized adult-use pot have seen a precipitous decline in per-gram dried flower pricing shortly after sales commenced. That's because growers oversupplied the market, thereby driving down the per-gram price of weed, along with margins. It's increasingly likely that this'll happen in Canada eventually, which means growers will be looking to pursue alternative products, such as oils, that offer better margins and little to no pricing pressure.

Essentially, KushCo finds itself at the center of three or four major marijuana trends in 2019.

What does that mean for its top line? After announcing sales growth of 177% in fiscal 2018 to $52.1 million, KushCo has forecast $110 million to $120 million in sales for fiscal 2019. At the midpoint, this represents 121% year-over-year sales growth. If gross margins improve in the upcoming year -- they were down in 2018 due to a year-end inventory adjustment -- a gross profit ranging from $30 million to $40 million isn't out of the question. This may not be enough to generate a substantial profit in 2019, but it'd push the needle in the right direction and demonstrate what a perfect niche KushCo finds itself in moving forward.

If you're looking to gain exposure to the marijuana industry and want to buy only one stock, consider KushCo Holdings.

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Sean Williams has no position in any of the stocks mentioned. The Motley Fool recommends KushCo Holdings and OrganiGram Holdings. The Motley Fool has a disclosure policy.