Editors’ Note: This is the transcript version of the podcast we posted last Wednesday. Please note that due to time and audio constraints, transcription may not be perfect. We encourage you to listen to the podcast embedded below, if you need any clarification. Enjoy!
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Rena Sherbill: Hi, again everybody. Welcome back to the show. Happy August. Great to have you listening. Great to have Jon DeCourcey back on the show from Viridian, always has ample cannabis insights for us, today is no different. We catch up on mid-tier stocks which Jon has talked about at length the past couple of times, the first two times, the past couple of times he has been on the show.
We talk about some catalysts that we have coming up, the political picture, states going online, rebounding in this year or next year or the year after, how investors should be, can be looking at it, how Jon is looking at it. Some stocks he likes, some stocks we should be thinking about, great insights for investors, always great to have Jon on.
Next week, we do another deep dive into California with Hirsh Jain and Emily Paxhia, who we had on earlier this year, deep diving into California. They’re both real experts in the state, which has had a lot of news come out of that state, which impinges directly on companies, on investors and the investing community, which we are all a part of. Hope you enjoy this conversation. Hope everyone is enjoying their August.
Jon, welcome back to the Cannabis Investing Podcast. It’s always great to talk to and always great to have you on, so thanks for taking the time.
Jon DeCourcey: Great, well thank you very much. You know, I really like this platform and I’m always happy to participate and I listen to most of them, so it’s nice to join. As I was saying to you as at the beginning of our discussion prior to recording, you know, I’ve got COVID in my house with little kids and so I’m actually just excited to have a discussion that’s not about rules of quarantine or what Disney movie we’re going to put on that people will agree to. So yes, happy to discuss.
RS: It might be a good episode to kind of like livestream a Disney show while people are watching with their kids and we can try and have an adult conversation in the margins or something.
JD: That works out well. You know, to be perfectly honest with you, if I shifted over about 300 yards, Frozen II is currently airing. So we could kill it with that. So that works out well.
RS: Maybe we’ll end the episode with a song or two or something. But no, I appreciate you taking the time. I know these are some crazy days for some people, especially with young kids. I imagine it’s even crazier. I was just saying that we also had a house full of COVID a couple weeks ago, so I get it and I appreciate you taking the time anyways.
Yes, in these days of trying to figure out kind of like what the new reality is, I think it’s kind of a nice metaphor for the cannabis industry as well is, you know, thinking that you’re some, thinking that we’re in some place in the sector kind of planning for that, and then a catalyst happens or a catalyst doesn’t happen or a promise comes and then isn’t fulfilled. And then we find ourselves kind of like months and months later, and here we are trying to suss out when, when is the optimism going to be realized and when and what will be the kind of moment that allows that optimism to come through? How are you, you know, we talked a little bit about like these moving parts in the sector right now, how are you thinking about the sector as an investor?
JD: Yes, so, well, I’m a little bit of a different perspective, so I always like to give that heads up to people that I am actually not allowed to be an investor, as I cover this space as a sell side analyst working for an investment bank, but that, I still try to think of this space as an investor should and I monitor it as closely as anyone. And I think the way that I kind of track it is, you know, what’s happening in the here and now? What’s happening with the individual companies that involves earnings, that involves kind of the moving pieces of the continued expansion of some of these businesses, that involves the corporate developments and the integration of, or close of acquisitions and things of that nature.
And then from a big picture’s perspective, what’s beyond these companies control is, I’ve spent disproportionate amount of my time lately trying to figure out what the heck is going on in Washington. And there — there’s a whole lot of smoke right now and trying to understand is this different? Is that, is there fire to that smoke and kind of what that means for this space?
So I’ve really transitioned over the last month and a half or so from being somebody who was completely pessimistic about legislation, completely uncertain whether or not that would be in play and assuming that that was something more for a 23 kind of narrative, to somebody who thinks that could theoretically happen this year. And so I have certainly shifted from continuing to focus on the macro from the — on the micro, but more so pushing to the macro environment as well here. And kind of focusing on what’s the real big picture outlook for this space which could come in the near term.
RS: So what switched, what caused you to be more optimistic from the political front?
JD: Well, we really went from a time period in which everything was seeming to be lip service. You know, so first there was the perspective that Schumer was going have his proposal out in April for the broader federal legislation. Then that got delayed until summertime and I hosted a webinar, we do a webinar series for Viridian, the cannabis expert series, and I hosted Congressmen, promoters, chief of staffs, as well as a leading lobbyist in this space. And we were talking about, you know, what are the logistics of getting something done at a federal level this year?
You know, I have always been under the impression that the full federal legislation isn’t coming anytime soon. And so, we are kind of discussing what’s the pathway to just get to banking this year. And the same day that we put that out there and had a nice discussion, Chuck Schumer put out his delay announcement where he was going to go from having it out in April to having it out in the summer. That was about as low as a federal outlook as was possible. I talked to the gentleman that I hosted on that webinar about this. It was seen as a, wow, now nothing can happen because there’s not enough time.
You know, if he’s going to really push this thing, there’s not — too many moving pieces, too many you know, too many hurdles to go through and how could ever, you know, you go through the full legislative push of something as big as federal legislation to banking specific legislation in the course of just a couple of months when you also have a big election coming up and a contentious election at that.
Well, due to a lot of moving pieces and even some expectation possibly of less likely blood bath of a loss for Democrats in Congress and a possible retainment in the Senate for Democrats as well, or a modest win for this Republican side in the Senate, suddenly the narrative has shifted where there is more of a push for, and at the same time, Chuck Schumer, before he even put out his legislation was speaking with folks about just banking specific legislation.
So those two things combined shifted the narrative to, well, you don’t have to wait until the full legislation has made their rounds, which myself and others had kind of thought was the most likely scenario. All of a sudden banking specific legislation is being championed supposedly behind the scenes, by some of the highest ranking members of the Senate, including Chuck Schumer, who had been essentially a block of any sort of passage previously.
So he’s already shifted his priorities and that might just be combined with that maybe better than expected election result where they have to prioritize less of just kind of keeping the lights on and things of that nature in Washington that might just be enough to get this thing done for the year end. You know, I’m speaking out of turn. If I were to, I would be speaking out of turn, if I were to say, if I were to handicap it or if I were to give a real prediction. But by all accounts from what I’m hearing, it could happen.
And, you know, there’s a better chance now than ever before that it could come. And so that’s really, what’s changed my perspective on kind of how I’ve been looking at things. So I’m still very much focused on what the individual companies are doing, how they’re jocking for position, how they’re best situated for long-term growth opportunities, but at the same time, I’m aware of, and kind of factoring in and starting to kind of champion the idea of, if this is truly on the verge of happening in terms of just when I say banking legislation or has a good potential of doing so.
Well, people should be starting to make bets on that front. And people should be starting to really kind of focus in on that and see kind of where things go. And if that — you know, the space has become so cheap, that now is a good time to get in on that if we all agree that when, if, and when say it happens, whether it’s this year, next year, 2024, 2025, whatever, if and when that’s going to happen, the valuations will improve dramatically. Well, now’s a pretty good time to start thinking about that and starting to kind of put ducks in order to capitalize on that.
RS: So let me ask you a question in terms of getting your ducks in order, but it being a question of whether it’s going to pass later this year, it’s going to pass in a couple of years, next year. How does that change your investing thesis or your advice for an investing thesis based on when SAFE Banking does pass? Like if it does take another year, if it does take another two years, how does that affect your kind of investing philosophy?
JD: Well, the thing, the number one thing I would say is, how does even the perception that this could happen in the near term change my philosophy? That is I would suddenly, and I put out a note last week, I don’t think seeking off a, picked it up, but we put it out on my end that said, you know, if this is going to happen, what are the, what’s kind of the best play that we can think of on this space? And that is that names AYR (OTCQX:AYRWF) and Ascend (OTCQX:AAWH) as kind of our two, as kind of my two top picks for the coming months, if you think that SAFE could happen.
And the reason that I said that was because these are two bigger, not quite the biggest, but bigger MSOs that have staying power, have just about as good of situation as anybody to benefit in the years ahead, to scale in the years ahead, et cetera, just given state exposures. And these guys due to extenuating factors, in the case of Ascend, it was, everybody was so worried about the MedMen (OTCQB:MMNFF) deal until that closed. And in the time since it closed, the market has just been such crap that they haven’t really gotten any benefit from.
And similarly with AYR, AYR has gotten no credit for the fact that all of a sudden they are very well positioned on the retail, from a retail perspective in Massachusetts and haven’t gotten any credit for it because the market has just been kind of crap since that announcement came. And similarly that, for both, that both are really well positioned in New Jersey. And just the timing of that to kind of come to fruition was at a time when market returns have been poor. And so, both are the two — they’re the two cheapest of any of the bigger MSOs.
Now why that matters is because I think that when institutional investors come, they will go to the bigger MSOs, just because those are the companies that have higher trading volumes. Those are companies that are kind of better known entities and things of that nature. What’s different in my, from my investment perspective is, and you probably remember this from the couple times you’ve interviewed me and/or seeing the research that I have put up on the platform, I have long favored and continue to, from a fundamental perspective, I’ve long favored the smaller operators in this space, just because I think they’re disproportionately cheap and their fundamentals are just as attractive. And I’ve also said that they’re an M&A and consolidation play.
Now, so the change in my kind of perspective is, I do think from an individual stocks play on the companies themselves, to not factoring in, I do think consolidation will continue. And I think that even the perception of a banking proposal or banking legislation could lead to more consolidation, which should lead to more attractive opportunities for the smaller and medium sized guys. I think that people should, as we get closer to this thing, disproportionately invest in the bigger MSOs, even though their fundamentals aren’t necessarily as attractive, just because I think that would be the area that gets the biggest pop.
RS: It’s interesting. We had Alan Brochstein on the podcast and he was also talking about AYR and Ascend as two of his favorites.
JD: I know, I’m starting to think that amongst your guests on this platform, I have a bit of group thing going, as I feel like everybody is a big fan of AYR and Ascend. You know, and guess I’d throw Verano (OTCQX:VRNOF) maybe in there, or GTI (OTCQX:GTBIF) as well on kind of the ones that are pretty interesting that everybody else seems to like as well.
RS: Well, what’s funny is, maybe a bit of group thing, but I was also thinking to myself that Alan, like for one, doesn’t think that the SAFE Banking will pass or that legislation will pass this year. And yet you guys are both looking at kind of similar players. My kind of question to that, and maybe you just answered that with kind of like who, you know, the companies that people like is, in terms of looking at the winners of the sector or who do you think is going to be the winners of this sector, kind of like tailoring your investment thesis. It still seems that the kind of the top factors to look for in a quality company is not withstanding what political kind of bills are going to pass, but really companies that are able to navigate for different realities, right?
Because I think Ayr and Ascend would both qualify for that, even with the kind of missteps around the MedMen deal, let’s say, they were still clamming for something that, notwithstanding political bills passing that they were going to be able to do well. A, I would ask if you agree with that? And kind of a follow up to that would be, in terms of a sense specifically, but really you could point to Air as well, in terms of New York coming online, is that, which has kind of been a little bit less exciting than I think many people thought that it would be, do you think that that’s kind of a dent in the optimistic thesis what’s happening like in New York and New Jersey, or do you feel like it’s just a matter of getting those kinks worked out?
JD: Yes, so I think it’s just a matter of getting those kinks worked out. And I think New York and New Jersey, and I’d throw Connecticut in there eventually, Pennsylvania, Maryland, eventually Virginia, these are all really positive catalysts, regardless of when. And I think that, it was mistaken and we’ve all made the mistake to think that these wouldn’t be a mess in kind of rolling out and getting there.
Actually new Jersey’s been pretty good once it got going, but the idea that New York is less exciting, well, I don’t actually see that. I do think it’s — you could make the case that it’s disappointing and for the op — from an operator’s perspective, I’m sure they’re very disappointed that it’s kind of a Curry up and hurry up and wait type situation, and you’ve invested so much money and you’re still in the dark.
However, regardless, that’s still a huge market that is going to come online, regardless of how, and when, it’s a huge market opportunity for the operators that have a presence there. And to that point, if you are buying the space in part on the state’s rollout, that kind of lends itself in my opinion, to favor of companies like Ayr or Ascend as the — and additionally, some of the smaller operators that have done some pretty interesting things on a less broad state exposure basis in that, these are companies that have quite frankly dealt with a lot of headwinds and still created pretty good businesses and still put up until earlier this year, some pretty solid results and solid growth consistently and solid margin expansion consistently.
You looking in Ayr specifically Ayr has had just about as big a headwinds as anybody in dealing with its original two states, Massachusetts and Nevada. You know, those have been huge pains in the neck to deal with, and yet they carved out a nice little business for themselves. And then they’ve since expanded a lot, but at the same time, those are still core businesses. And they’ve done well with the expansion states that they’ve kind of been able to roll out and get going quickly and then the other ones will take time. And there’s legislative catalysts that are necessary, but that’s a company that has a pretty decent proven track record of dealing with headwinds in front of them.
And same, you can make the same case for Ascend and these, they are both companies that I have kind of dealt with that and done very well for themselves. You know, it’s ironic to me then and this was part of actually the thesis when I first pitched the idea of focusing on the smaller and medium sized guys to the Viridian team, is I actually used Ayr as an example, and said, why is Ayr valued at such a discount of a Trulieve (OTCQX:TCNNF)? Where at the time, Trulieve was one state, Ayr was two. They had similar scale of operations, similar margin profiles, but Trulieve was given such a valuation premium because, oh, look, this business is so fantastic and they’ve never had a choppy result and Florida, they’re so good in Florida and they’re leading so much in Florida.
Well, that’s awesome, but also that’s a market at that time where it was only tailwinds and it wasn’t having to deal with the Massachusetts regulators and being held off on retail in Massachusetts and then dealing with a lack of tourism to Nevada during COVID and things of that nature. You know, this is a company that’s kind of proven its chops and you know, it still gets penalized for you know, at times having choppy results, having — always kind of being a little bit vague on what’s going on and kind of over promising, under delivering.
But at the same time, they are delivering a pretty good business and if they just kind of stayed under the radar and stayed quiet in 23, I bet that those results are going to look just as good as anybody else’s. And again, you’re getting in at a very significant discount to a lot of the other players.
RS: Yes. You mentioned Verano and, and Green Thumb as two other companies that you would kind of put into that. Do you feel like, you talked about being fairly valued. Do you worry about that at all, specifically with Green Thumb, but even with Verano as well?
JD: Well, I mean, if you were to look at this space, if this space was a mature industry, then maybe I would worry a little bit about Green Thumb, just because it is a premium valuation to a lot of the other operators. But with that said, there’s still, the space as a whole and even the most expensive needs in the space are still so cheap relative to their growth opportunity. If you were to look more broadly, even with their kind of premium valuation, a Curaleaf (OTCPK:CURLF), a Green Thumb, truly at times, I guess it’s down, but are still, valued relative to at a discount to a, kind of a traditional consumer staples company in terms of forward valuations you know, this space is, and so if you were kind of thinking about it from that perspective, well, you know, there’s, there’s so much upside for the broader space at large that, you know, they’re not at such a premium valuation that it, it warrants, you know, being overly concerned you know, about what that valuation looks like relative to some of the other players in the space.
It’s more so these companies have huge growth opportunities in front of them. They have staying power. They have margin expansion opportunities. Their valuation premium isn’t overly a concern relative to some of the other players. But if you’re thinking about it in a vacuum without any legislative catalyst, as I’ve essentially been thinking about up until the last month or two that’s when you have to start kind of thinking about that and making the case that, why should car leaf have valuation premium to a, you know, an Ayr or Ascend, or even to a more aggressive kind of spin on things?
Why should it have evaluation premium to a Schwazze (OTCQX:SHWZ) or a MariMed (OTCQX:MRMD) who’s only kind of mistake or it’s not, you can’t even call it a mistake, but who’s only kind of underlying factor that’s not as impressive, is just that state exposure kind of graphic in any pitch deck. And that shouldn’t really matter given that cannabis is never going to be actually Ayr or firm very, very long time it won’t be a traditional industry in which you can just go state to state. Every state is going have to be its own entity for quite some time.
RS: And speaking of, you know, kind of thinking about things in and outside of a vacuum, what do you think about in terms of like, just how the state of the world you’re talking also about moving from micro to macro perspective. Given the macro perspective, right? Like global volatility, inflation and all of these fun things that we get to think and plan for, how much of an effect do you think that’s having on the sector, or do you think that’s just kind of the general market vibe right now?
JD: Well, we had been on a very much risk off environment in terms of just broader stock returns and that’s highly correlated. And we at Viridian, we put out a chart of the week every Monday, and I think this has been covered. The correlation has been covered pretty broadly by that, that when the, when there’s a risk off trade cannabis stocks are going to underperform. And I think historically that makes sense.
What — kind of the point I’m trying to make is that, and maybe I haven’t quite spoken it out as clear is kind of, I should that if there is the potential catalyst, that catalyst is kind of comes regardless of what else happens, kind of with the broader market. Institutional investors will come whether the stock market is in totally upside node or whether it is downside mode. And similarly given increasing interest and things like that, it’s hard to see it being a huge risk on kind of sentiment here. And so that catalyst is out there and what’s a little bit different this time than it’s been previously, is there is not a lot of downside risk if it does happen.
If we make it to December 31, and nothing has happened, or I guess actually the first week of January when the session ends, but for all intents or purposes, if we get to year end and nothing has happened with banking, well, New York is still coming online. Connecticut either will have, or will be coming online. New Jersey will be ramping further to scale. You know, Illinois catalyst of the new license issuance will start to bear fruit next year. These companies are just going to be in better position from having kind of operated longer with acquired assets or built out assets.
So, kind of regardless, we’re in a better position in — as we get to 2023, than we were in 2022. Additionally, you’re going to have easier comps. You know, you’re not going to have the COVID related and the COVID inflated comps unless my house is any indication and we’re all going into serious COVID lockdown. And you know, we’ll have that as a second half challenge or second half kind of boost for cannabis markets. But you’re not going to have this kind of the headwinds of the first half of 2022. You’re not going to have next year and even you’re not going to have those in the second half of this year. So there’s not the same kind of downside risk looming if things don’t get done and so that’s another kind of factor to think about.
And then in terms of inflation, I think that yes, inflation is probably hindering results for companies. It’s something I’m going to pay a lot of attention to as we get into the earnings cycle, which will start the week after next or I guess actually for some, the latter part of next week. But I do think that there are going to be instances where some companies are going to be hit and that’s going to especially be companies that have a kind of a premium product out there, or you know, are really dependent on tourism.
I’m a little bit worried about Planet 13 (OTCQX:PLNHF) even though they’ve put out pretty conservative color when they reported Q1. But I can’t imagine without having seen the data, I can’t imagine that there’s as many tourists going into Las Vegas as they anticipated and hoped for, as we were kind of getting into the media part of this year for tourism to the state, just because gas prices are so high and inflation elsewhere is pretty high.
But with that said, I think that inflation should be, will likely be a less impactful factor on cannabis companies than it is for some other industries, just because of the fact that it’s not the biggest ticket item. And if you’re kind of cutting spending elsewhere, you may be more willing to consume cannabis at home. And you know, if you’re not taking a trip you might consume more cannabis or if you’re not going to do some bigger spending, well, you might spend on cannabis.
And given that it’s still expanding so much in terms of access that it’s still kind of a new purchase and so it shouldn’t be as impactful as it would be for other bigger ticket items which actually, and if you look at consumer sales and things like that, those don’t even seem to be overly impacted. So, I’m not exactly sure where that’s netting out anyhow, but I don’t see it as being a huge risk for this space beyond maybe an immediate impact for some.
RS: I’m curious to see if the numbers, given that gas prices are so high and all the issues with inflation, I wonder if like delivery has gone up, if people aren’t driving as much to the dispensaries, I wonder if like little things like that are showing up in the numbers?
JD: Yes, I could see that, but at the same time, it’s still kind of — there’s a lot of markets that are still kind of either coming online for the first time or just getting more broadly available. And that’s probably going to offset it a bit, offset any kind of headwind a bit. It is just, there still is kind of a novelty of it in some spaces.
RS: Right. I also wonder if people are hesitant to move to the legal market from the illicit one, given that the prices are typically lower in the illicit market. I wonder if this is preventing anybody from making that move?
JD: Yes, that’s interesting.
RS: Do you, I’m curious, the nature of questions that you’re getting from your audience from readers, from investors. Has it changed at all over the course of the year or in the past couple of months are you seen new or different questions?
JD: Yes, I think, well, I think yes. More recently I’m getting a lot more questions about legislation and what do you kind of think? I think though the bigger shift that I’ve seen and think about it from a longer terms perspective, the bigger shift that I’ve seen is a greater interest and kind of understanding in the second tier and third tier sized operators. It’s — I’ve kind of been one of the bigger voices for the second tier sized operator, yes.
RS: Yes, I was going to say, you’re the guy to ask.
JD: I guess so, yes. And so, a lot of my coverage either I was first and only that I’ve launched coverage on, or one of two or something of that nature and a lot of my conversation in — so it’s always something I’ve kind of weighed for a while on future coverage launches of, do I continue down this path or do I go for some of the bigger, more of the bigger names? I do have a few of them, but more of the bigger names as to kind of keep the bigger investors engaged and the really interesting thing is, it went from conversation to even this winter of, wow, that’s really interesting about whatever company you’re discussing and that is an interesting business too, but what do you think about Curaleaf? What do you think about GTI? What do you think about Trulieve, whatever, even though I didn’t cover those three names.
And now it’s, like when I went to the Benzinga Conference in Florida, which now somehow is already, three, four months ago, I feel like every conversation I had was somebody asking me, about Schwazze. Then if it wasn’t about Schwazze, it was about MariMed or Cansortium (OTCQX:CNTMF) or somebody like that, hadn’t been getting a lot of traction before and people were suddenly saying, that is a real viable business. I get it. And I think that’s interesting or Tilt (OTC:TLTHF) was another one that I get more questions on now than I had previously gotten questions ever about. That could be simultaneously, they kind of cleaned up their debt issues, but and so nobody would have touched it before, but now it’s a viable play on the space for anybody who is kind of looking at an interesting New York exposure.
Speaking of for anybody, who’s kind of listening to this and thinking about new names that they haven’t looked at in a while. But, so there certainly has been a shift this year to be more accepting of the — more accepting and interested in the second tier sized operators, as quite frankly, these operators have carved out some pretty good businesses for themselves and sustainable businesses at that where in 2021 even, they were certainly more of a, they were more of a risky play in my opinion and then in some instances, more a takeout play than anything else.
RS: I’m curious; we’ve talked about the U.S. players, has your thesis changed at all on Canadian players?
JD: No. I don’t, so while I’ve become, I’m not certain whether anything is going to happen or not, and even if it doesn’t happen this year for banking, it’s okay. For the U.S. cannabis companies as, yes some of them might have kind of a tightening of, tightening of financial belts, so to say, so to speak, as I do think that at some point capital is going to be challenging, even though it was more available and interest rates are going to become kind of prohibitive again just as broader interest rates are going up significantly. But with that said, I don’t see, I don’t follow, I don’t cover any of the Canadian names individually and kind of even do so passively as a space in general.
But with that said, I don’t see the real favorable catalyst for those operators anytime soon, that’s, that would be any better than the catalyst for the U.S. guys. And at that, I think that a passage of banking and the permitting of institutional investment to a greater degree and the permitting of financial capital, so financial access for these guys would really take out the thesis of some of the Canadian plays at the knees. I just don’t see — to me the best, the greatest advantage that the Canadian players have is investability and with safe will come more greater investability for the U.S. guys who then have a greater pathway to growth in the near term and expansion in the near term.
It’s just not there for the Canadian plays until broader federal legislation comes and I’m of the belief that that’s not coming anytime soon. And so I think that the U.S. player is still much more attractive.
RS: Broader federal legalization, meaning that they can have that optionality into the U.S.?
JD: Yes. So that, yes, so the broader federal legislation that I’m referencing would be, essentially the passage of what Schumer’s put out there or something of that nature and I don’t see that coming anytime soon.
RS: Yes. What are your thoughts on like, we talked a bit about this last time, the wholesale pricing, what are your thoughts about those margins going forward?
JD: They will tighten, but that’s okay. I think when we spoke the last time was right in the midst of everybody being so very concerned about Massachusetts and Michigan and Illinois. I think that while the concern is warranted and it’s not as easy of a, the pricing is going to come down and continue to come down, we’re not going to probably see the pricing come down to the same degree that it did in January, February timeframe, as that was really a compounding of factors of just a whole lot of supply coming online and companies not really being overly positioned to sell that product.
But with that said, it still can be a profitable business and it’s just now in those markets, it’s still, it’s getting to the point where the companies themselves are going to have to execute. And there’s a heck of a long way to go before you are in New York or I mean, not New York Colorado or California environment where it’s very challenging to turn any somewhat to a profit on the East Coast and Midwest, there’s still a long ways to go on that front.
And there’s still some positive catalysts to come that will kind of either further boost wholesale prices or kind of maintain those wholesale prices, and within states it already exists. Illinois for one, I put out a part of a note recently that was talking about how the new licenses in Illinois are going to be a real boon for wholesale pricing. And that, with that in mind Forefront was a really interesting play on the space, as 4Front (OTCQX:FFNTF) has that, or I think they call it the big daddy cultivation facility coming online the end of this year. And all of a sudden they’re positioned to be one of the biggest wholesalers in the state.
And there’s going to be a whole lot of new retailers coming online, more than doubling the current footprint. And many of these are going to be social equity and economic empowerment folks, who will need wholesale supply. I think you could make a similar case in Massachusetts where there’s been some new stores coming online in Boston and there’s greater demand and there’s more social equity candidates that again are disproportionately retail centric.
And so, yes, while pricing will come down, it’s not going to continue to kind of plummet here. And so, it is an inevitability that at some point the pricing was going to come down and it has, and will continue to do so, but that just means that the operators themselves will just have to execute here to do well.
And the, those who are executing well will have the greater success. And then will start the cycle over again, as kind of new markets come online where New York will probably be an absolute premium wholesale pricing environment where the worst product is sold at a premium price. When that comes online, Connecticut will be the same. New Jersey, you’re seeing that New Jersey is — New Jersey prices have been pretty premium. And then as a wholesaler, TerrAscend (OTCQX:TRSSF) should be really benefiting here as the biggest player in New Jersey. TerrAscend and others who are wholesaling in the state should really be seeing some serious margins as you know, the pricing is premium there.
And then an interesting dynamic that’s playing out in New Jersey that I heard of recently is that, and you might see in New York, you might see in Pennsylvania eventually, theoretically in Ohio or in Maryland is that the availability of cultivation facilities and the high cost of land at this point is kind of keeping some folks out from building out enhanced cultivation facilities, and they’re expecting there to be kind of less cultivation coming online than previously anticipated, which is kind of, which should be something that in those markets whenever they open up or – and/or for New Jersey currently that premium prices will probably stay for a while.
RS: Is there anything that you’re looking at that, that you feel like gives you pause on your bullishness or kind of, or is an area of the sector that is, has you a little bit bearish, are there things that you’re looking at that you feel like investors should be wary of?
JD: Well, yes, so there is one that’s pretty big, and I guess I should, I should be wary of putting this out there, but I kind of, I try to do kind of predictions pieces and here’s our anticipated thoughts. Here’s five kind of predictions or thoughts for what will happen in a given period. And I put one out in June, that was predictions for the second half, and one of which was, and actually amongst Seeking Alpha commenters, it got a lot of pushback. I said that the cultivation tax elimination in California was a game changer for small growers and might finally be the catalyst that brings some of the bigger MSOs into the state.
And that I was anticipating at least somebody to take advantage of just how cheap the California operators are and have become to say well, let’s do this, let’s get involved and let’s finally make some M&A plays. And part of that is because, again I’ve been under the belief that legislation wasn’t going to come. And so — and something that’s been a little bit different about my research is that I have been somebody who’s been kind of willing to talk about the consolidation of the market and M&A plays in this space and it’s borne fruit.
We’ve made a couple of calls that were, what I thought pretty obvious on M&A plays, and they ended up being right. I think I launched on gauge under the idea that TerrAscend would buy them, they did. I discussed Goodness Growth (OTCQX:GDNSF) and I actually think I even called it a top pick for this year saying somebody would buy them about two weeks later, two weeks later Verano did. And so I’ve been somebody that said California is right for consolidation and it does continue to be so.
The one thing that doesn’t get — that hasn’t been really talked about and makes me a little bit cautious is, I’m told that the cultivation tax is pretty much being passed through on the retail end, in order to attract the consumers from the illicit market, and that the cultivators themselves are not really getting any advantages. And couple that with the fact that just for seasonality, the most cultivation is coming online and the most cultivation is happening right now and then you add in the fact that Glass House (OTC:GLASF) has brought in such capacity to the market and I like Glass House, I think that absolutely that strategy could absolutely win in the end of just kind of flushing everybody else out with greater capacity.
But in the short term, that’s really crushing wholesale pricing in the state and is something that, I think from what I thought could be a real tailwind and a boon for California operators in the second half and likely could lead to consolidation. I think you’re going to see a lot of negative stories, more of the smaller operators going out of business. Some more of the smaller private operators going out of business and, not a lot of upside for the public plays on a space that maybe, looked very attractive given their, really discounted valuations and interesting and differentiated and solid businesses, if you took out the challenging macro environment and that includes, one of my, one of the names I’ve long pitched is Lowell Farms.
I think Lowell (OTCQX:LOWLF) has a great business. It has a real brand. It’s recognized amongst consumers and you even see it bear fruit with some of their licensing deals that they’ve announced. They have licensing deals with Schwazze. They have licensing deal with Ascend. There’s a lot of interesting opportunity for Lowell, but I think that in the near term that that’s a real headwind for both the publics and the privates in California.
RS: Do you think it’s…
JD: That was probably a very long, that was a very long winded answer to get to your question.
RS: No, no, that was a very detailed, good answer. I’m just curious, how do you think the companies are best off kind of playing towards this strategy, kind of navigating these realities?
JD: The California — the California pricing reality?
RS: Yes, California specifically, like do you think that there’s something that the smaller players can do to protect themselves or do you think it’s just a matter of kind of like maintaining strong strategies?
JD: Well, I think it’s, yes, I think it’s just maintaining, doing what you can to differentiate yourselves, doing what you can to cut costs as much as possible, and kind of I’ve used the analogy that, I’ve used the analogy actually for this space in general. But in California it’s very, very applicable that, in the NCAA tournament for basketball, there’s always a famous phrase that is just, “Survive and Advance”. It doesn’t matter what the results look like. It’s just all about “Survive and Advance”. And I think that that’s very true for the California Cannabis market that, pricing still stinks. It will continue to stink.
And it’s kind of a game, a game of attrition either somebody’s going to; somebody will either win on differentiation and execution, which very well might happen and if anybody’s going to do it, the names that I cover that are in that state are Lowell and StateHouse and they’re both, which is formerly Harborside (OTCQX:STHZF), they’ve both created pretty differentiated offerings and positioned themselves to succeed as best as possible.
But the other is just attrition. As more of these smaller individual operators fall out of the market, eventually things do get better and eventually, eventually the state will crack down on the black market to some extent. And so, it’s one of those situations where again, “Survive and Advance” and attrition could win the day at some point and just kind of hope for, wait for better times I guess is the way the California plays should kind of be considered. Unfortunately, I think that my consolidation call before year end was kind of a little too hasty.
RS: I think “Survive and Advance” is a nice kind of guide for any cannabis company, right? It’s like these, these years of pain and then hopefully we’ll get some advancement.
JD: Yes, I think so. And I think, I think it’s a, now is the time when that could come and it’s probably better than the phrase that I used on our last podcast, which I actually think you guys used for a title that I’ve gotten some beef for, is I think, I said the earnings results shouldn’t matter. And I think that people kind of thought I was being too flippant or something of that nature.
But yes, I do think we’re still in a, some of these markets that Survive and Advance kind of characteristics. And but, I guess you can prove that there are ways to Survive and Advance and actually thrive in some challenging markets. You look at, amongst the kind of names that I’m frequently pushing, Schwazze is one that’s proving out right now that you could say that make the same case that Colorado is so challenged and Colorado is a hard market, and here’s a company that just threw good old fashioned boots on the ground. Execution is carving out a nice profit for themselves, generating money and doing well.
And, ultimately will either expand; they have expanded in New Mexico, but ultimately will expand further and scale up or will be a takeout. And either way that’s a, probably presents a really interesting and solid outcome for investors in it. So, there is even in a state that’s very challenging, there is a pathway to kind of differentiate itself and then the other option is kind of that Survive and Advance mentality.
RS: Yes. It’s going to be definitely interesting to see who’s better able to thrive after surviving and who doesn’t even survive. Definitely what to look for. Jon, I really appreciate you taking the time and sharing with us another insightful conversation about this sector. Anything you want to leave listeners with before we go?
JD: Yes, I think, I mean, I think just the main point that I would just make is, I’ll be careful to say that earnings don’t matter, but I think that they might prove to be kind of crummy again for Q2. But with that said, there’s some really interesting things going on and a lot of attractive upside opportunity and the downside risk in my opinion, for in the short term isn’t that great.
And then when you consider that legislation is kind of on the horizon, I think now is an interesting time to dot some Is and cross some Ts and kind of dig deeper because even I was looking at something this morning and it was a note that I put out the end of last year that was referencing the fact that if you go back to, so when Biden won the presidency, that we were at a point where I think the first piece of legislation that people kind of anticipated to come would be the, would be banking legislation, because really that’s what is the one that really matters for investors.
And if you were to go back to that time period, and this is before even the biggest run up in the space in winter 2021, forward looking multiples were, EV to say, so one year forward looking multiples for EV to sales were 4.1 times and for EV to EBITDA we’re 16 times. Right now as I would opine it’s not updated for today’s prices yet, but I’m seeing forward looking EV to sales at one and a half times and forward looking one year EV to EBITDA at five times. That’s quite a discount from the 4 and 16 times multiples and we’re probably closer now.
I can’t promise it’s going to happen. I honestly don’t know if it’s going to happen or not, but we’re a lot — we’re probably closer now than we certainly were at that point. And so it’s worth the real consideration and as we’ve all said in many different occasions that these companies have built out some pretty interesting businesses and sustainable businesses here. So I think it’s a good time to look at the space again and double down on the space.
RS: Yes. And I think when it’s been down so long, and I think you could say this about the market in general, it gets hard to imagine it turning around and then it does. So I feel like we shouldn’t get too despondent about how crappy the market has been. And try and stick with kind of the thesis, I think the overall thesis about the sector, and if we can keep tapping into that even with all this bad news and have it serve us while the good news is happening, I think as investors that could, that can be very helpful.
JD: Sounds good. Yes, I agree wholeheartedly and I think it’s interesting times.
Thanks so much for listening to the Cannabis Investing Podcast. Subscribe or follow us on Seeking Alpha, Apple Podcast, Spotify or Stitcher and we’d really appreciate it if you left us a review on Apple podcasts. It helps other investors find our show and makes us feel fantastic. If you have feedback or questions, we’d love to hear from you at rena+canpod@seekingalpha.com.
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