Big Cannabis is rising high

The legal North American cannabis industry is feverish with investments, mergers and acquisitions. Cannabis is so hot that one of the fastest-growing businesses in the USA today is the Marijuana Business Daily.

“Some people feel like they missed the big wave for investment, but I’d argue in many cases it’s just getting started,” says Marijuana Business Daily Editor and Vice President Chris Walsh, with the zeal that seems to be a defining feature of those in the industry.

For entrepreneur Giadha Aguirre de Carcer, “This is one of the fastest emerging markets in the world, and the opportunities just continue to flourish.”

Those opportunities extend to Aguirre de Carcer’s own analysis company New Frontier Data (she calls it “Bloomberg for Cannabis”), which is attracting venture capital investment and recently acquired the Hemp Business Journal.

The industry’s growth is fuelled by new markets opening for business and by sustained growth in existing markets. In the USA, 30 states plus the District of Columbia (DC) have now legalised medicinal use, and nine states plus DC have legalised adult-use cannabis. In Canada, adult-use dispensaries launch on 17 October. There is an expectation that deregulation will continue within the USA and beyond, meaning hordes of new legal consumers.

According to New Frontier Data’s projections, the entire North American legal medicinal and adult-use market in cannabis is worth some NZ$17 billion today and will reach NZ$45 billion by 2025. The US market will achieve compound annual growth of nearly 14 percent. By 2020, the largest US state markets for legal cannabis are projected to be California, Washington, Colorado, Massachusetts, Oregon, Florida and Michigan. Due to their large populations, the medicinal markets in Florida and Michigan will rival the fully legal markets in Oregon and Massachusetts, despite having only legal medicinal programmes in operation.

Aguirre de Carcer describes dramatic changes since she became involved in the industry in 2014. In the first wave, wealthy individuals with a personal passion for cannabis would write cheques worth US$25,000–100,000 to invest in cultivation enterprises.

By 2016/17, the average investment had grown to between US$250,000 and US$1 million, and groups of investors were banding together.

Today, the cheques are even bigger and “the proposition is much more sophisticated. We are entering ‘investment 3.0’. Now you’re seeing investment in high-tech, in services, in software and in scientific patents.”

In other words, firms like Marijuana Business Daily and New Frontier Data are themselves at the cutting edge of the industry’s expansion, further from the cannabis plant itself.

Growth is being driven right now by the imminent Canadian deregulation of adult-use cannabis, following a model that Ryerson University School of Management instructor and cannabis entrepreneur Brad Poulos calls a “mix of capitalism and nanny state”.

Canadian licences for cultivation and processing are being issued federally.

“It’s an onerous, year or two-year long process,” he notes. However, provinces get to decide their own market retail approach. Some are setting up provincially owned stores (the same model used in Canada to sell alcohol), and others are allowing private enterprises to take over.

“The focus is absolutely on harm reduction. It’s still a highly restricted and highly regulated market. It is by no means the ‘wild west’,” Poulos says.

Regulations will restrict the number of stores that can be owned by one business. In Ontario, where Poulos is based, any licensed producer can have a single store, located with a production facility. The rules are designed to reduce too much vertical integration.

“I’m not a huge fan of too much government interference, but when the industry is nascent like this one, I think it’s not a bad idea. After that, they need to take their hands off and let the market work.”

Poulos notes that the model leaves gaps for the illicit market. At least for now, there will be no cannabis lounges. “That’s a concern. We don’t have the equivalent of a bar.”

Weighing up the Canadian Government’s approach on the eve of adult-use stores opening, Poulos would “give them a B or maybe a C-plus. There’s more that could have been done at the federal level to increase the chances of competition and let more smaller companies into the game.”

Huge companies already dominate the Canadian cannabis industry. The three largest firms – Canopy Growth Corporation, Aurora Cannabis and Aphria – are together valued at more than $22.5 billion.

Canopy alone is worth more than $15 billion. The company’s stock regularly trades well over 100 times its revenue. Those canny enough to purchase shares when Justin Trudeau won the Canadian premiership with a mandate to legalise marijuana have seen returns worth $50 on every dollar.

Canopy already has some 2.4 million square feet of licensed growing capacity. When the dust settles and Canada’s licensing process is complete, it is set to be the nation’s first or second-biggest grower, capable of producing some 500,000 kilograms.

This vast potential points to a possible shake-up in the future. Some observers predict there will be a glut of cannabis within several years. Even with foreign medicinal-use markets buying up Canada’s surplus, the potential oversupply will make it particularly hard for smaller Canadian growers that can’t achieve the same economy of scale as huge corporate players. This will repeat the experience already seen in several US states, where oversupply contributed to prices plummeting, and smaller growers gave up licences.

Consolidation around a small number of large companies is a mixed blessing for the industry, says Walsh.

But the problem is that a lot of the ‘mom and pop’ type operations have been blocked out. Companies like Canopy are doing a phenomenal job of growing, but that’s making it harder for those without a lot of resources.”

A pivotal investor in Canopy is the Fortune 500 alcohol giant Constellation Brands, the largest US beer importer measured by sales. In total, it has invested more than $6.21 billion, giving it an aggregate stake of 38 percent. Canopy’s CEO calls the investment “rocket fuel”.

And Constellation is far from alone. Big Tobacco, Big Alcohol and Big Pharma have discovered the cannabis industry. This year, pharmaceutical titan Novartis, alcohol firm Molson Coors Brewing and two tobacco companies, Alliance One International and Imperial Brands, announced deals with cannabis businesses.

There are sound reasons why each industry wants to be part of the cannabis story, says Aguirre de Carcer.

“Tobacco has not experienced consumer growth in decades, and there is huge stigma around smoking. The industry already has the infrastructure in place, including the cultivation, production and packaging know-how, to make a lateral move into cannabis.”

For alcohol, it’s “less about survival and more about expanding revenue in an industry where they can leverage existing infrastructure”.

This is especially relevant in the recreational, adult-use market, where products like THC-infused beverages can expand companies’ offerings.

And pharma companies “have been looking at this for longer than many of us realise”, Aguirre de Carcer says. She points to pressure in the US market to move away from opioids, along with the huge potential from cannabis-related medicine.

This has the potential to shape the industry. To put the size into context, Constellation Brands alone has annual revenue of US$9.34 billion. Big Alcohol, Big Tobacco and Big Pharma not only have scale but have been known for aggressively (and sometimes underhandedly) working to change legislation and public debate in their favour. Indeed, Big Tobacco worked for decades to suppress research into smoking-related harm.

So are these investments going to be positive for cannabis users and the industry? Aguirre de Carcer reserves judgement.

“All of our predictions are data-based, and there is not enough data for us to make a prediction.”

However, the public health ramifications certainly worry RAND Drug Policy Research Center Co-director Beau Kilmer.

“From a health perspective, we worry about how legalisation will affect tobacco smoking,” he points out.

“If a tobacco company gets involved with cannabis, it could be as a way to get people to consume more tobacco. That has serious implications. There’s money to be made from cannabis, but there’s an awful lot more money to be made from having more tobacco smokers.”

He notes that, in Canada, for-profit cannabis companies can be entangled commercially with tobacco and alcohol companies. He thinks it’s something other countries should think twice about.

More broadly, Kilmer worries that a free market-based deregulation model sets up the conditions for large, vested interests to work against public health goals.

“If you allow big companies to be involved, they get most of their money from heavy users."

If the marijuana companies take the lead of the alcohol industry, they will work hard to create and maintain those heavy users. We have to be concerned about creating an industry that could be incentivised to lobby against regulation and taxation to maximise profits.”

So far, despite large amounts of money being invested, there are few signs that the industry has developed sophisticated legislation-shaping ability. Walsh says that real lobbying power hasn’t arrived in North America – but it is on the way.

“Companies aren’t investing in lobbying to the degree businesses in other industries are. The industry is able to create awareness in Washington DC, but it hasn’t been able to push through major changes yet. In Canada, that could change very quickly now you have multi-billion dollar companies. You have the arrival of mainstream giants like Constellation Brands that will bring that sophistication to that industry, so you will probably see that in Canada.”

Kilmer points out that, for nations like New Zealand yet to deregulate, the range of options is broader than just choosing between prohibition and a rampant free market. He favours consideration of what he calls “middle-ground options”. One of these is to be found in the US capital.

We hear a lot that roughly 20 percent of  the US population lives in states that passed ballot initiatives allowing for-profit cannabis. What doesn’t get as much attention is that Washington DC passed a ballot initiative in 2014 for a ‘grow and give’ model.

Under the system, home production is permitted, personal use is tolerated (anyone is allowed up to 2 ounces) and growers can give cannabis away.

This has led to a unique and hazy ‘grey market’. Some entrepreneurs seek to avoid (at least the spirit of) prohibition on sale by selling cookies that are delivered with a “free gift” of marijuana. Subscribing can bring discounts.

Pop-up markets are commonplace, with sophisticated social media presences, operating out of homes, bars and (for a time) even the building occupied by the Washington Post.

One lounge in downtown Washington recently offered three floors of edibles, smokable flowers, wax and other cannabis products, available as free “gifts” for customers making an appropriate donation. The lounge was subsequently closed by Police, but charges against organisers were abandoned – and other pop-ups proliferate.

In this grey market, some users confuse lounges and delivery services with legal conduits.

And although there is very little data, the ‘grow and give’ model appears to have left plenty of room for illicit sales. Former DC resident Vita Santa Mamita says, “I don’t use the pop-ups or delivery services, because that pushes up the cost. Purchasing an eighth would be eight times the price compared to just buying direct from my dealer.”

Aside from the grey market confusion and lack of scope for regulation, the bigger problem with the DC model, at least for the government, is that it does not create revenue through taxes. An alternative that does is a government monopoly.

This isn’t possible for US states because of federal prohibition. If a state created a monopoly for production or distribution, it would be forcing state employees to violate federal law.

However, it exists in Uruguay. The cannabis market there is highly regulated, with just two licensed producers, consumer prices set by the government and controlled distribution. There are three ways Uruguayans can obtain cannabis: by purchasing it from one of 12 pharmacies, home grow or as members of cannabis clubs. In a country of 3.4 million, there are 22,000 registered purchasers, 83 registered cannabis clubs and 8,200 registered home growers.

Challenges have included confusion about the law from the Police, demand exceeding supply and poor access to finance that has even led to pharmacies abandoning selling cannabis. (Banks won’t lend to the sector because of a US law prohibiting American banks from working with partners involved in controlled substances. Banks have refused to even maintain accounts for pharmacies.)

Looser regulations could mean a more active, entrepreneurial market – but Uruguay appears more concerned with maintaining strict control.

In doing so, it could be taking a leaf from studies into alcohol, which show that government monopolies are better for public health. A government monopoly leads to an increase in retail price because product innovation is slower. Higher prices are seen as important in reducing harm, especially among young people.

Kilmer notes, “Uruguay’s market is heavily regulated, and it has taken a while to get up and running, but their model is very different from the for-profit model – and it is one of the middle-ground options.”

Whatever deregulation model might eventually be pursued in New Zealand, Kilmer argues data should be collected now.

“You need to collect the data as soon as possible, because one of the problems we’re running into in the USA is that our data infrastructure is fairly weak.”

That makes it challenging to monitor evolving cannabis use – a gap the market is trying to fill through companies like New Frontier Data.

Aguirre de Carcer says, “Governments are using various approaches without centralised repositories for data, and they don’t agree how to categorise a product or strain. We are the only big data company in cannabis because it’s ridiculously hard. There is a lot of noise and misinformation.”

Amid the noise, there is more buzz about cannabis than perhaps any other industry in North America. And the industry is looking to deregulation in nations like New Zealand to further expand the market.

“As a global industry materialises, there will be opportunities across the board,” says Walsh.

“This train is not going to slow down.”