Various states across the country are resurfacing from the cloud of COVID-19, and as some like New York seek new high growth industries to have a hand in, Cannabis has been a consistent answer. Sales from Cannabis were $20 billion in 2020, and are expected to exceed $26 billion in 2021. Research conducted by Cowen and Company reveals that the legal Cannabis market is bound to grow 20-30% per year to the price of 50 billion by 2026.
There has always been a strong case for investment on the health side of the legalization debate, as patients suffering from chronic illnesses, such as Parkinson’s, Cancer, Alzheimer’s, and many neurological disorders, are administered by medical Cannabis. But recreational use of the product has gained increasing momentum. Moreover, robust programs are touted to reinvest millions of tax revenues from Cannabis into minority communities that the war on drugs has historically victimized.
Investors can choose from several strong Cannabis companies in North America with billion-dollar market capitalizations. However, that being said, it is crucial to understand the difference between recreational and medicinal Cannabis in business and how they serve their segments. Once you know the limitations and opportunities of both these classifications, you should examine the three types of Cannabis businesses you will find on the markets.
The first group is Dispensaries and Growers. These businesses cultivate and process Cannabis and distribute it to retailers or have retail operations of their own. Next are the Service and Goods Providers: Ancillary companies that support the cannabis industry are not subject to the same regulations and taxes as MSOs, retailers, and growers. They provide supplies, branding/marketing, and management services. Lastly is Biotech which includes Companies like Cannabis Pharmaceuticals and AbbVie Pharmaceuticals RARX that develop Cannabinoids like THC, CBD, and CBG through proprietary processes without touching the plant.
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With the Cannabis industry expected to double in value by 2025, various companies have expanded in size and become powerful actors that mirror the structure of well-built “mainstream” companies. Curaleaf, a Wakefield, Massachusetts-based vertically integrated cannabis company, operates in 23 states with 106 dispensaries, 23 cultivation sites, and more than 30 processing sites. Constellation Brands STZ is best known for its premium beers, including Corona and Modelo. However, the company’s $4 billion investment in Canopy Growth in 2018 put Constellation front and center in the global cannabis industry. Green Thumb Industries owns retail cannabis stores in 12 states across the U.S. and operates 13 manufacturing facilities. Green Thumb holds licenses for 96 retail cannabis locations but has opened only a little over half as many stores. Stock performance is vital for certain companies on the market, and it’s well worth acquainting oneself with this new landscape as a possible investor.
Chart made by Owakhela Kankhwende (Year 2020)
The number of Cannabis ETFs increased in the past few years as more cannabis companies have gone public. Investors still seem very interested in cannabis investing despite a difficult year in 2021 (most marijuana ETFs are down more than 20% year-to-date). The industry has taken in more than $2 billion in assets this year, an impressive number considering that the total of all assets across all cannabis products is about $2.5 billion.
MJJ tracks a market-cap weighted index of U.S. and Canadian companies that provide products or services related to the medical or industrial use of cannabis or cannabis derivatives. Eligible securities include both pure-play companies — minimum 50% and quasi play — less than 50% of revenues derived from legal cannabis activities, which include these subthemes: ancillary, testing and analytics, cultivators, industrial hemp, and pharmaceuticals. CNBS is an actively managed ETF and provides exposure to the entire cannabis market investment spectrum. The stocks in the fund include several ancillary companies, including unique purpose acquisition company Silver Spike Acquisition Corp. MSOS is the first actively managed U.S.-listed ETF with dedicated cannabis exposure focusing exclusively on U.S. companies, including multi-state operators. The portfolio manager allocates across an investable universe of U.S. companies spanning a variety of cannabis-related businesses.
Chart made by Owakhela Kankhwende (Year 2020)
Although it’s an exciting industry for investors to enter for the first time, some factors can cause caution. Firstly there is the discrepancy in regulations and programs around racial, social equity from state to state. This trend echoes a divide in the industry between companies invested in alleviating these issues and those who do not pay them much attention. Advisors should note that some investors will have Cannabis-related social equity as part of their investing interests and vice versa.
State-by-state market fragmentation in the cannabis space amplifies the importance of avoiding commoditized sectors. Keep in mind that what applies in one state might not apply elsewhere; cultivation is a prime example, where space is already commoditized in several states. In addition, one must look beyond a company’s footprint when conducting due diligence. Federal regulations prohibit operators from crossing state lines. As a result, companies have built or acquired sprawling, expensive, vertically integrated operations in each state to conduct business in more than one state legally.
Press releases are one of the most common forms of investor information. That said, they should not be relied upon as the sole source of company news. Press releases can often distort information to play into a company’s agenda and potentially leave out key details an investor should know. Although it’s fast-growing, it is an industry with a minimum amount of licenses. Thus companies can be held afloat by a relatively small market. The value of said licenses can change wildly with lawmakers’ directions. However, there appears to be bipartisan acceptances of legalization to varying degrees; it is prudent to pay attention to significant changes in license value and said consequences.
Lastly, Section 280E of the internal revenue code states that businesses selling Cannabis (or any other federally illegal controlled substance) cannot deduct any expenses incurred in producing, distributing, and selling that product. This regulation applies as long as Cannabis is considered a Schedule 1 drug by the controlled substances act, so Cannabis companies must abide by 280E. Thus it costs more to operate a Cannabis business with the expectation of startup costs to be 3.5 times more expensive. Darrell Carrington, industry lobbyist who worked closely with the Maryland General Assembly to assist in re-writing the Maryland Medical Cannabis Program in 2014, has noted Section 280E and regulations like it as roadblocks not just to the industry’s growth as a whole but especially harmful to the diversity of cannabis business ownership. “These regulations are put into place to supposedly regulate against the ills of the industry, but as the perception of cannabis is changing, and legalization is expanding, these rules make it much harder for minorities to get their foot in the door on ownership. Which is especially an affront due to how many people of color are still locked up on what are now previously illegal charges.”
Finally, you may be asking yourself if the Biden Administrations’ plans can jeopardize your cannabis investment plans. As things stand, this will likely not happen; the domino effect of legalizing Cannabis is already in motion. Currently 48 states have legalized Cannabis in some medical form, and this is because states are desperately looking for new sources of revenue to fill in the gaps COVID-19 has created. Additionally, many states are looking for ways to unburden their legal and prison systems, especially in the wake of a renewed examination of racial justice in the legal system. Decriminalizing Cannabis proves to be a clear path to that goal. All of this means significantly more investment into the Cannabis market so that well-chosen stocks will perform exceptionally well.
Special thanks to Owakhela Kankhwende who’s editorial, and research skills significantly contributed to this article.
Earl Carr is the Chief Global Strategist at Pivotal Advisors based in New York City. His responsibilities include working closely with the firm’s CEO and President to manage the Global Research Team and to develop and execute the firm’s global thought leadership and cross-border business development mandate. Earl is the Editor of the recent book, “From Trump to Biden and Beyond: Reimagining US-China Relations” Palgrave-Macmillan Press, September 2021.