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Realism over optimism: In the throes of a bear cannabis market

“Don’t show me high prices for the next decade, show me reality. Show me prices coming down, and how that affects your business, then tell me what your plan is to combat that.” — Todd Sullivan

It seems like the words volatility and Canada’s cannabis industry have become synonymous, and it’s because there is a significant level of detectable turbulence happening in the space. Everything from over taxation, supply chain woes and skyrocketing production costs splash across headlines, akin to the dreary precipitation at this time of year.

Naturally, the financial sector and investment pool examine the situation and reflect accordingly. But with so many variables involved when it comes to investing in these ventures, what is the best way to determine who to get involved with?

Furthermore, how do companies decide which investment scenario is right for them?

“Early on it was a lot easier to get money invested,” says Matt Maurer, co-chair of the Cannabis Law Group at Torkin Manes and Grow Opportunity columnist. “Everyone was happy to throw money at cannabis companies because LPs in particular were pre-license and going public; it was the good times, if you will.”

Maurer went on to say that as the market has matured, he feels investors are now more hesitant to lend. This is due to the volume of companies doing poorly, consequently scaring off investors and lenders disinterested in participating in this high-risk environment.

“Before, people would lend money and they would just charge a higher interest rate than a bank would because [cannabis] was a higher risk loan. [Others] wanted a high interest rate and an option to convert to shares in the company, and even those companies have pulled out — at least the ones I know.”

Maurer added that the type of ongoing investment he still sees is when a lender comes in and invests in retail operations, an arrangement where the venture receives an advance. Then the retailer assigns a portion of their future revenue to repay the advance, plus interest.

“Some clients I have, have a combination of these quasi-factoring arrangements and private lenders,” says Maurer. “But with private lenders of course, the interest rates are just astronomical because you can’t get money anywhere else.”

He also explains that in this current climate, companies seeking expansion capital should be weary. “If you’re operating and need to borrow money to expand, that seems pretty risky. We’ve seen all these companies that have multiple production, cultivation, or retail sites and they still go bankrupt; they’ve overextended themselves,” he relays. “I would say the more prudent thing to do would be to save up the money and then expand.”

The cannabis attorney concluded by saying that if a company finds they need to borrow, his advice would be to look long and hard at the terms that are being given and what it will mean if the company’s future revenue does not come out as projected.

Invest in the best

When growing pains exist, as they do in the current socioeconomic climate, daily operations may also be challenging for the investor as well. Finding the right companies in which to invest, when the landscape resembles more of a minefield than a valley, is a challenging and risky task.

Cannapreneur Partners is a multi-faceted, vertically integrated company based in Massachusetts that infuses capital and helps strategically guide ventures toward profitability.

“We are mainly an equity shop, so we have assets that we own and operate ourselves. We have minority equity investments in other companies, [and] occasionally do some lending,” says Todd Sullivan, a partner at the company.

Sullivan elaborates on the decision-making process regarding which ventures are safe to become intwined with.

“The first thing I do personally is I take a look at their proforma. One thing about the cannabis space you will find is 90 per cent of proformas you see are complete fairy tales,” he says.

“They approach it like, ‘let me show you how amazing this can be.’ For someone who doesn’t know the [cannabis] space that’s fine, but for someone who knows the space they would think the proforma was delusional.”

Rather than wearing rose coloured glasses for self-evaluation, Sullivan prefers to see proformas indicating the company’s worst-case scenario. “Don’t show me high prices for the next decade, show me reality. Show me prices coming down, and how that affects your business, then tell me what your plan is to combat that.”

Sullivan believes the reason companies have unrealistic perspectives on the cannabis industry, and how successful they will be, is a combination of naïveté in some cases and the hopes that presenting a perfect picture will help land the investment.

“The [companies] that are reasonable are the ones we engage in and really start doing some deep due diligence,” he says.

Ebb and flow

Sullivan concluded by saying that Cannapreneur’s strategy changes based on the state of the sector at the time the arrangement arises.

“In our heart we are value guys, so we’re [joint venturing] with people. We’re looking for the best deal, we’re looking for the best operator to invest in,” he affirms, “and that is as much or more important than anything else.”

With the industry in its current state, Sullivan says they have altered their strategic approach to reflect the changing times by using a different look.

“If you’re in cultivation, the last eight months wholesale prices have collapsed, so what are [these companies] doing to compensate for that?” he poses the question. “It becomes a different conversation because it’s no longer hypothetical.”