Cannabis Investment Challenges in 2023
After the shakeout in 2022, will the cannabis industry recover in 2023?
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Cannabis: A Market in Turmoil
Cannabis investors lament that 2022 was the most disappointing year for cannabis investments due to massive price drops in cannabis products, the stagnation of federal cannabis reform, and delays in launching retail cannabis dispensaries throughout the US.
Not surprisingly, 2022 increased the reticence of investing in the cannabis space and resulted in a significant shakeout for cannabis businesses. The bubble burst and the resulting shakeout left many growers, manufacturers, and retailers unable to sustain their business growth and many were forced to close.
For example, in California’s Monterey County, the number of cannabis industry workers plunged from 2,400 in July 2021 to 1,400 15 months later as 22 businesses shut down. The county is now considering legalizing cannabis lounges to boost tax revenue.
Investors are still reluctant in 2023 due to the fact that prices continue to fall and federal legislation that could alleviate regulatory issues is unlikely in the near term (see blog post on “Where is Cannabis Legal”).
Oversupply and Declining Prices
The cannabis industry is also affected by investment decisions that dramatically expanded supply after demand increased during the pandemic (according to Statista, usage jumped 30-40% during COVID). When the economy reopened, retail growth stagnated which was then further exacerbated by inflation. With less disposable income, demand for cannabis was severely curtailed.
In California, the wholesale price for a pound of cannabis, which was $2,000 in 2016, now dropped to less than $700 per pound (and, in some places, as low as $400 per pound).
In Michigan, the retail price of an ounce is down from $400 to $100 over the last two years. In Massachusetts, the retail price of a gram of cannabis flower has dropped below $8 from $14 in 2021.
Public cannabis stocks and cannabis investment funds also suffered. AdvisorShares Pure U.S. Cannabis ETF (MSOS), an actively managed fund focused on domestic multi-state operators (MSOs), was down 72% in 2022. Two of the largest cannabis companies, Curaleaf (CURLF) and Cresco Labs (CRLBF), were down 57% and 73% in 2022 (both stocks trade on the over-the-counter market because US law bars cannabis companies from the major stock exchanges).
Multi-State Operators
Many cannabis investors were banking on the success of Multi-State Operators (MSOs) which operate dispensaries, manufacturers, and cultivation operations in multiple states. Based on company website data, MSOs operate almost 800 dispensaries, and many have proprietary brands. These are the major MSOs:
Initially, investors assumed that economies of scale and industry expertise would give MSOs an advantage in the growing cannabis market. However, in this challenging investment and retail climate, MSOs have not fared any better. Declining prices and oversupply have dramatically reduced margins and profitability, resulting in retail closures nationwide.
For example, Curaleaf Holdings, Inc. (CURLF), had a market cap of $6.3 billion at the end of 2021 and currently has a market cap of $2.7 billion. This is primarily due to an announcement on Jan. 26, 2023, that the company was closing a majority of its operations in California, Colorado, and Oregon as part of its continued effort to streamline its business. Additionally, in an effort to further optimize operations and reduce costs, the Company will consolidate cultivation and processing operations in Massachusetts to a single facility. This resuled in the closure of its Amesbury facility.
Other MSOs are similar. MedMen Enterprises Inc. (MMNFF) had a market cap of $197.8 million in 2021 and currently has a market cap of $35.6 million. Even Trulieve Cannabis Corp. (TCNNF), which was the most profitable cannabis stock in 2021, has seen its market cap drop over 60% from $3.3 billion in 2021 to $1.2 billion in February 2023. The company is also no longer profitable (net income fell from $178k at the end of 2019 to a loss of $198k over the last 12 months).
There are other factors affecting MSOs. For instance, complying with varying and inconsistent state regulations makes it a challenge to achieve economies of scale. Furthermore, due to geographical and environmental limitations, product consistency is hard to maintain due to variations in raw materials. An important part of building brand equity is product consistency, which is impossible when flowers grown in one state differ from plants in other states.
In the future, investors still expect that MSOs will generate large returns as they clean up their balance sheets and get ready for additional acquisitions.
Going Forward
Each time a state legalizes cannabis, a wave of private capital flows into the market to build grow facilities and launch retail and manufacturing operations. Thus, investor interest is highly dependent on changes in legalization status. If state legalization efforts stall, investment dollars will go elsewhere. This is also a short-term bump. After the first-mover status is secured, investment returns to more normal levels.
Investment is also affected by federal prohibitions on cannabis so if the Biden Administration could remove cannabis from the Controlled Substance list, investments in the industry would increase dramatically. Reticent investors would likely enter the market on a large scale.
There is also significant potential for increased consumption as prices drop. Currently, only half of adults in the U.S. have tried cannabis, so as new users enter the market, demand should soar. Furthermore, with increased research, geneticists should be able to produce new strains that could revolutionize the market and manufacturers are developing new methods to increase potency and duration. Marketers are also developing unique branding and product positioning that highlight desired effects. For instance, some companies are combining melatonin with cannabis as a remedy for insomnia.
Raising Capital in a Challenging Environment
For startup cannabis companies, it is now even more important to develop a strategic business plan that presents convincing arguments to investors. Companies need to show they have a unique positioning in the market with a range of products and services that will appeal to all types of consumers and build market share. Relationships with strategic partners are also critical for expanding penetration into the market.
If you are looking to start a new cannabis company and need a compelling business plan that will appeal to cannabis investors, please contact us so we can help you navigate this challenging environment.