The legal marijuana industry has demonstrated explosive growth in recent years, and marijuana stock investors are really taking notice.

A recently released report entitled "Marijuana Business Factbook 2017" from Marijuana Business Daily suggests that legal weed sales could hit $5.1 billion to $6.1 billion in the U.S. this year, grow by 45% in 2018, and jump to more than $17 billion by 2021. Another report from ArcView Market Research, which was released last year, showed that more than $46 billion of the $53.3 billion in North American legal pot sales last year were conducted under the table. Some might view this as a major loss for the pot industry, but marijuana stock investors view it as a major growth opportunity. If weed businesses can sway some of these consumers over to the legal market, then the marijuana industry can indeed keep up its violent growth pace.

Image source: Getty Images.

However, there are dozens of marijuana stocks for investors to choose from. With emotions running high, investors could wind up buying into pot stocks for all the wrong reasons, or worst of all, without understanding the underlying risks plaguing the industry.

With this in mind, we're taking the time to analyze one marijuana stock each week until we've covered all the larger legal cannabis players (i.e., those with $200 million market caps or larger). Here are the pot stocks we've discussed so far:

• GW Pharmaceuticals
• Insys Therapeutics (NASDAQ:INSY)
• Aphria
• Aurora Cannabis
• Canopy Growth Corp.
• Corbus Pharmaceuticals
• Cara Therapeutics

Today, we're going to take a closer look at Zynerba Pharmaceuticals (NASDAQ:ZYNE).

What Zynerba Pharmaceuticals does

Unlike Cara, which we examined last week, Zynerba's entire pipeline is dependent on cannabinoid-based products. Currently, Zynerba has two product candidates in its pipeline:

• ZYN001, which is a THC (tetrahydrocannabinol, the psychoactive component of cannabis) pro-drug patch for two indications, fibromyalgia and peripheral neuropathic pain; and
• ZYN002, a cannabidiol (CBD)-based gel (the non-psychoactive component of cannabis) targeting epilepsy in adults with focal seizures, osteoarthritis, and Fragile X syndrome.

Image source: Getty Images.

Promise and opportunities

The most immediate opportunity for Zynerba is going to come in a matter of months when it reports a slew of data on ZYN002. All three of the aforementioned indications are being examined in midstage studies, and all three are due to report before the end of the third quarter.

In particular, the STAR 1 study for epilepsy in adults and STOP study for osteoarthritis handily surpassed enrollment targets, signaling to management that interest in a cannabinoid-based product to fight these diseases is high. Both STAR 1 and STOP are due to report results in July or August, while its Fragile X syndrome study is set to deliver results late in the third quarter.

For those who may not recall, an oral CBD-based medicine is what propelled GW Pharmaceuticals' Epidiolex to such impressive results in treating two rare types of childhood-onset epilepsy in phase 3 studies, so there are clearly high hopes that an equally simplified delivery system of a gel could work just as well.

Though it's still not quite in clinical studies, ZYN001 also demonstrates plenty of potential as a possible opioid replacement therapy. Opioids are a commonly prescribed treatment for pain, but they unfortunately come with nasty central nervous system side effects that can include addiction, overdose, and even overdose-related death. A THC-based pro-drug patch could, in theory, make a dent in the fight against opioid addiction without sacrificing the benefits of pain reduction for patients with fibromyalgia or peripheral neuropathic pain. The company's first quarter earnings press release suggests the commencement of phase 1 studies concerning safety and tolerability for ZYN001 before the end of the second quarter.

Investors are also bound to like the company's current capital position. Following the amazing run up in its share price, Zynerba was able to sell 3.22 million shares at $18 per share during the first quarter, raising $54.2 million in net proceeds after underwriting, commission, and offering expenses were deducted. This leaves the company with $77.5 million in cash and cash equivalents, which it believes is more than enough to fund its operations through five phase 3 trials. In terms of timeframe, Zynerba believes it has enough cash to last through 2019.

Image source: Getty Images

Risks and concerns

But as you might have imagined, no company is without risks.

For one thing, Zynerba's entire pipeline is still in the clinical stages of its development, and even though the company has adequate capital to extend its studies through 2019, that doesn't guarantee it has enough money to continue beyond that point. It's always possible that Zynerba will need a secondary share offering at some point in the future to shore up its balance sheet, and that such an offering would dilute the value of existing shareholders. Such is life when investing in clinical-stage biotech stocks!

Perhaps the more immediate concern is that we really don't have a lot to go on in the way of efficacy with Zynerba's pipeline. Despite its valuation having tripled from its 52-week low, we won't know much about the efficacy of ZYN002 until the third quarter, and we won't have any clue on ZYN001s efficacy until the first-half of 2018, by my best guess. This leaves investors to fly blind, cross their fingers, and hope for the best. Historically, that's not the best strategy when it comes to investing in biotech stocks.

Zynerba could also face a slew of competition should ZYN002 or ZYN001 be approved by the Food and Drug Administration. For instance, Zynerba is far from the only cannabinoid-based drugmaker to tackle epilepsy, and in terms of pain, ZYN001 would be up against a number of opioid drugmakers who could fight tooth and nail to protect their legacy sales.

Finally, there are negatives that Zynerba could deal with tied to an FDA approval. Just as we recently saw with Insys and its approval of Syndros, an oral dronabinol solution, which is essentially a pharmaceutical version of THC, product launches of cannabinoid products get delayed. Insys had to wait about a half-year following the approval of Syndros from the FDA for scheduling of the drug by the U.S. Drug Enforcement Agency. For a company without any revenue like Zynerba, having to wait a half-year to year to launch an approved drug could be a major blow.

Image source: Getty Images.

Should you buy Zynerba Pharmaceuticals?

Now for the biggest question of all: Should Zynerba Pharmaceuticals be in your portfolio?

On one hand, buying into Zynerba gives marijuana stock investors a pretty inexpensive way to take a flier on five indications, many of which are intriguing for their relatively large patient pools or orphan status (and thus high price points for approved therapeutics). After deducting for cash on hand, investors are only paying about $175 million for Zynerba's two therapies and five indications.

On the other hand, we know next to nothing about the efficacy of Zynerba's two therapies, and there's a pretty decent likelihood that even success in its studies would lead to further dilution via share offerings.

The verdict? I'd stick to the sidelines and wait for Zynerba's phase 2 data to mature a bit. Buying in now seems unwarranted considering how little we know about the efficacy of its products. Once we have that data in hand, we should be able to revisit Zynerba.