There Is a Lot to Learn Before Investing in Cannabis
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Cannabis investing is a tricky subject. As with all momentum-driven opportunities, this one stemming from the normalization and the end of the green prohibition for a massively growing market, the category is a gold studded minefield to manage. The novelty of the topic leaves investors with a lot to consider when determining the best ways to carve out exposure in their portfolios. From my experience as an investment manager and an entrepreneur in the space, I’ve put together an overview for those trying to grow their portfolio to include green entities.
Cannabis touches many verticals on which investors can focus their attention, and the investment opportunities are vast. Each silo carries its own unique positioning. For instance, a diversified investor can own investments in every aspect of the agriculture of the commodity, from growing and harvesting strain-specific seeds to the distillation and production of the derivatives. Real estate opportunities include investing in the facilities for growing operations, as well as retail shops themselves. Everything down to the technology, the distribution, the hardware, the consumer brands -- even the pharma aspect-- is all investable in the cannabis industry. It is just about finding which aspect is the best fit for your portfolio.
Where to Invest
Each vertical carries its own unique atmosphere, opportunity and barriers to entry; however, this is also why there is so much opportunity from an investment standpoint. For example, within the cannabis industry, the Silicon Valley tech and engineering culture is easily identifiable. The influence is evident through certain hardware companies such as PAX, a vaporizer company that employs an Apple-like product model and design, as well as online delivery company Eaze, which offers a Postmates-for-pot model. These entities are attractive to like-minded institutional investors and those who have experience investing in intellectual property driven businesses.
On the other hand, companies like MedMen (full disclosure, I advised members of MedMen's executive team through its reverse merger last year) focus more on branded physical retail stores. These stores pop up in high-end markets in Los Angeles and New York, where location matters and the risks associated within the brick-and-mortar real estate market are familiar to investors. Those who invest in the real estate component of cannabis typically understand the strategy behind the geographical positioning of locations and the costs associated with it.
I am a big believer in investing in what you know and understand the best. For me, that is consumer packaged goods (CPG) on the edible front. That said, a tried-and-true method of risk management is to invest in a diversified portfolio of these assets, so you do not need to limit your investment to just one aspect of the industry.
Hemp is its own thing.
The classification and legal status of marijuana and hemp is another aspect to consider when investing in cannabis. Hemp, specifically hemp-derived CBD, is viewed as therapeutic and therefore has more mainstream appeal. Hemp is also legal, and while its regulation by the FDA is under consideration, the product is readily obtainable in most parts of the United States. Marijuana-derived THC, on the other hand, is viewed as recreational and can only be found in licensed dispensaries. State-by-state legislation controls THC, meaning until we have full federal legalization, each investment has to be viewed with a current and future legislative eye.
While CBD’s therapeutic classification frees it of the stigma attached to THC, the future of neither derivative, legally speaking, is set in stone. Both CBD and THC investors must be aware the laws could change and be willing to adapt. A future legislative or regulatory change could be a major contributor to the success or failure of any cannabis investment.
Due diligence in cannabis matters. Even though investors are chasing momentum in the space, teams and strategy will matter greatly. It is prudent to focus not on the plant, but the people. There is a lot of grey area in this space, so surround yourself with people who can handle the undetermined space of the cannabis industry.
Ensure the people you invest in have experienced teams and advisors navigating and adapting to the brave new world of cannabis -- and even experience in tandem verticals. You want your team to have a competitive edge over a continuously growing startup community. They need to position themselves strategically for when acquirers begin buying their way into the market. Investing in the people, rather than the product, is often the best strategy.
Some businesses launch with a great idea on paper, but run into trouble as they attempt to bring the concept to fruition. However, teams that are adaptable and can pivot when faced with trouble are typically those that stand the test of time. A favorite example of this is Shopify, which started in 2004 as an online snowboard equipment store called Snowdevil. The shop wasn’t successful but the founders knew how to build a storefront that could market to other online retailers -- thus, transforming into Shopify, an ecommerce platform that allows retailers to sell online on social media and in-person. The same type of determination and adaptability from leadership is crucial in the nascent world of cannabis.
Determine your endgame.
Consolidation is arguably one of the main reasons so much intellectual capital is interested in the end of prohibition. Mergers and acquisitions (M&A) activity is the goal for the majority of the businesses created in the cannabis space. There is a large appetite and balance sheet for “old school” companies looking to include cannabis in their business models; however, these companies are waiting on the sidelines for their compliance offices to give them the green light before investing.
From a CPG standpoint, the conversation always falls on the Coca-Colas and Anheuser-Busch InBevs of the world, who gain market share via acquisition; however, the opportunities for strategic exits run the spectrum from cosmetics to pet food companies. This, to me, is the obvious play in the space: invest in companies that are well-positioned, well-managed and operating as easy acquisitions for big corporate pocketbooks looking for growth. Imagine the Cheesecake Factories of the world that have to sell more cheesecakes to grow their stock price. After a certain point, how many more restaurants can they open while staying profitable and growing their share price for their investors?
Big brands and companies like this have to acquire to grow. In a world where Generation Z is consuming less alcohol, it makes sense that companies like Diageo are closely eyeing entry points to capture market share lost to consumer dollars spent on cannabis products.
Ultimately, the cannabis market runs the spectrum of race, gender and age and the end of prohibition means there are vast opportunities that investors can get selective about. Always consider how each investment fits in the grand scheme of your overarching investment portfolio, and apply your same procedures for evaluation and due diligence as you would any speculative investment.