(Part 1 of 2)
Like any new industry, the cannabis industry saw a flood of new entrants looking to make a quick buck off the next hot market. While a number of Michigan cannabis investors did make quite a bit of money in the short term, mostly through buying and selling cannabis real estate, most operators did not see the immediate financial windfall they had expected.
A couple years ago when the industry was first really starting to get off the ground, it was common for my law firm’s cannabis business clients to tell me their plan was to sell out to Phillip Morris or some other company for $50M in a couple years. Out of all of my clients, the clients with this sort of short-term thinking were least likely to be successful, and also the least likely to be able to sell their business for millions of dollars as they hoped. It’s not that this was not an admirable goal, it’s that it merely reflected short-term, get rich quick thinking. While I did witness a couple clients “get rich quick” based off shrewd opportunistic investments, none of these client entered the industry with that mentality. If you are serious about the Michigan cannabis industry, you need to think long-term.
The cannabis industry is not for the faint of heart. No matter what type of cannabis business you are in, it can be a grind. It can take years for your hard work to finally come to fruition. We have clients that are just opening their facilities after over two years of work. Those with a short-term mentality rarely last long enough to see the fruits of their labor.
Long Term Opportunities: A Piece of a Growing Market
Currently, black market sales dominate the U.S. marketplace, and grey market sales remain prevalent here in Michigan. In nearly all legal jurisdictions in North America, illicit sales make up a majority of the cannabis marketplace. This will not last forever. Over the coming decade, as state after state legalize cannabis, and as states like Michigan that have legalized cannabis improve their legislation, regulation, and tax structures, the legal market will come to dominate.
That means in the next decade, tens of billions of dollars will be made as one of the biggest blue sky market opportunities in recent memory matures into a solidified, mature market. There will be winners, and there will be losers, but there will be enough money to be made to mint countless marijuana millionaires throughout the country.
There are many ways a business owner or investor can make money off of this market. You can start a consulting company, operate a licensed facility, invest in a facility operation, or reorient your existing company to service the cannabis market, much as I did with my law firm. You can also invest in “big cannabis” stocks on various stock exchanges, but this is likely not the best way to make money from this once in a lifetime business opportunity. Maybe as the market matures, and solid operators start to rise to the top will stocks be a good way to invest in this market, but for now, you might be just as well off buying a lottery ticket.
The Problem with Cannabis Stocks
Why are cannabis stocks not a good investment? Well, it’s because “big cannabis” have not been a great place to be putting your money in this industry. Of the biggest cannabis stocks by market capitalization, most do not currently make money. How many industries can you say the same for? How on earth are these companies hemorrhaging money in one the of the greatest investment opportunities some of us will ever see in their lifetime?
Answering this question would be a book in and on to itself. But I will highlight some of the main reasons many big cannabis companies are not anywhere close to profitable.
The big problem with big cannabis companies is that they have historically not seemed to care whether they are making money, as long as they are increasing market share. The problem with this is that market share can be fickle. Brands rise and fall in every industry, and grabbing market share now does not mean they will be able to keep it down the road. But big cannabis companies have seemed more focused on expanding as rapidly as they can in the hopes they can hold down their newly acquired market share and then eventually be profitable when the dust clears. And that’s assuming they haven’t gone bankrupt or been taken over by their creditors by this time—I’m looking at you, MedMen.
It’s bewildering how these companies seem to ignore the single biggest thing that matters in business—profits. The problem with focusing on market share over profitable operations is that this strategy really only seems to work in one situation, where a jurisdiction hands out a very small number of licenses to a select few businesses, who are essentially handed a government enforced pseudo-monopoly. Some states have done this, such as Florida, and other states like Illinois have created a somewhat more expansive, yet nonetheless rigid, limited license market that practically ensures profitability for most licensees.
But in open markets, grabbing market share for market share’s sake is not a good idea if the underlying operations are not profitable in the first place. If anything, all that does is exacerbate a cannabis company’s losses. Instead, cannabis companies in open markets such as Michigan need to focus on their operational efficiency and customer experience if they are going to make money in the long-term. Slowly, cannabis companies big and small are beginning to recognize the importance of operational efficiency, as well as the fact that market share alone does not guarantee profitability.
Evolution of Cannabis Investors: The Canopy Example
It’s taken the cannabis industry several years for this lesson to begin to sink in. At first, cannabis investors were more than happy for the companies they own to expand as rapidly as possible. The thinking was that they needed to grab as much market share as they could while it was still available. But as operating losses continued to accrue, and the capital market grew weary of companies posting losses quarter after quarter, investors started to wisen up.
Cannabis investors started to wonder: where are all the companies in the cannabis industry focusing on establishing profitable operations and growing their company organically? Do they even exist in the cannabis industry? The answer is, they do, they just tend to be smaller companies who are expanding organically, and it takes time to grow organically. These smaller companies are for the most part not publicly traded, and some of them aren’t even involved in growing or selling marijuana.
To examine how cannabis investors have evolved, we don’t have to look any farther than the biggest cannabis company by market share today, Canopy Growth. In Part 2 of this article, we will explore the evolution of Canopy Growth’s business and how it reflects the change in focus away from market share and topline revenue as ends in and of themselves.