Cannabis Market Update: Q2 2021 in Review

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It’s a pivotal time for investment in the cannabis industry, and ongoing discussions about policy in the US continued to affect the market’s progress in the second quarter.

Q2 also brought ripples about merger and acquisition (M&A) activity, as has been the trend this year.

To find out what happened during the Q2 period and what lies ahead for the remainder of the year, the Investing News Network (INN) spoke with several experts who are monitoring the progress of cannabis investments across the board. Here’s what they had to say about the state of the market.

Cannabis market update: Canadian story struggling

It’s clear at this point that most cannabis experts prefer US companies to their Canadian counterparts. At the halfway point of 2021, what is driving investment in the Canadian names?

In a note to investors, the managers behind the Ninepoint Alternative Health Fund said the biggest Canadian operators were down nearly 20 percent for the year at the end of Q2.

However, given market conditions, circumstances could be worse for these companies.

“Our view is that if it weren’t for an enthusiastic retail investor base, many of Canada’s largest cannabis companies would be down 30 (percent) or more and without the lifeline offered by at the market financings, and some would have already gone out of business,” the firm’s report for June indicates.

The fund managers said that at the end of June, sales in Canada had only achieved flat to moderate increases. These stagnant sales were the result of a variety of challenges facing the Canadian marketplace, said the Ninepoint Alternative Health Fund managers.

“Canada has dealt with COVID-19 related issues, oversupply and resulting provincial SKU rationalization, as well as slower than desired retail rollouts,” they explained.

Rishi Malkani, the lead partner managing Deloitte’s cannabis practice in Canada, told INN he remains encouraged by domestic sales growth across Canada.

“All signs point to continued, you know, incredible demand in Canada. (But) by the end of the day, you’ve got to look outside Canada, because our market’s just not big enough to sustain all the companies that came up,” he commented to INN.

The Deloitte expert emphasized that Canadian operators have been put in a position where they have to fiercely look below the border for growth. “Canadian cannabis companies just feel they need to at least address how they’re going to participate in the US market, whether they want to or not,” said Malkani. “I think it’s kind of being forced upon executive teams to deal with.”

Emily Paxhia, founder and managing director with Poseidon Asset Management, agreed it’s clear where the interest is heading for Canadian cannabis companies.

“The Canadian operators, all they do is talk about the US,” she said. The investment manager told INN that at the moment she sees large-scale institutions securing positions in Canadian firms based purely on the momentum they may receive based on news related to the US marketplace.

“I don’t think they’re investing because they think that businesses are great,” said Paxhia. “I think they’re investing because they think the stocks will move up when there’s news on the industry, and so far that’s kind of been the case.”

The US cannabis opportunity has shifted from an essentially off-limits situation for most investors and companies to being the cornerstone of the cannabis industry.

Companies can only participate in a limited fashion for the time being, but investors have access to the marketplace through the US operators active in the state markets.

“Most Canadians understand the near-term opportunity for monetization is the US,” Nawan Butt, portfolio manager with Purpose Investments, told INN.

Cannabis market update: M&A continues to take hold

Malkani noted that from his perspective, the rounds of M&A seen in 2021 have been defined by careful planning compared to pure expansion.

Instead of prioritizing scale and bigger operations, cannabis companies in Canada are filling gaps by keeping strategy at the top of the decision-making process, Malkani said.

Butt told INN the rampage of M&A was a much-needed event in the Canadian cannabis space.

“We’re starting to see some of the larger licensed producers (LPs) have the right amount of balance sheets, and the valuations on the smaller LPs become attractive enough for M&A to happen,” the Purpose Investments expert told INN.

Butt believes Canada is heading towards a model in which there will be a few players at the top managing a breadth of the market share for cannabis products in Canada. As new smaller players rise up and develop products with consumer appeal, they will be acquired by the right partner.

“One of the things that the smaller LPs in Canada have done really well is differentiated themselves in their products and gathered and increased their market share over the past year,” Butt said.

Cannabis market update: What’s ahead in 2021

Paxhia told INN she will be closely monitoring the progress of state markets in New York, New Jersey and Connecticut in the next few months. “I think we’re going to see continued demonstration of strong business in the US,” she said. “I think that that will continue to bring investors to the table and/or keep them paying attention to the opportunity.”

Policy is always at the top of mind for experts observing the cannabis industry, and it recently received a boost thanks to the delivery of a long-promised draft bill for the decriminalization of cannabis in the US.

Dan Ahrens, managing director and chief operating officer at AdvisorShares Investments, told INN no investor should be expecting to see sweeping legalization in the country, but instead should anticipate a piecemeal approach with solid bonuses to the industry.

“We should expect reforms; they’re not coming as fast as anyone would like to see, but everybody agrees we’re going to get some form of banking reform in the near future … we’ll see baby steps.”

For Ahrens, at this point in time the majority of US operators are only going to get bigger and better, so any policy changes are welcomed — “but without any reform they’re operating pretty well and they’re getting pretty seriously undervalued in my opinion.”

The Ninepoint Alternative Health Fund agrees with Ahrens in full. “We believe that US cannabis companies maintain strong fundamentals combined with a growing state by state market, yet still not achieving the valuation metrics that this sector should attract,” its June note states.

Fund managers at the firm pointed to policy reform as the ultimate catalyst to see US names outpace the valuations of Canadian cannabis operators. Whether that comes this year remains to be seen.

“We believe that the US is approaching a tipping point in terms of whether US federal legalization is an impediment to growth or not … The momentum is clearly in favour of a more open legal state by state cannabis market that has momentum, in addition to both corporate acceptance and legal acquiescence,” they told investors.

Cannabis market update: Investor takeaway

The business of cannabis in North America is rapidly evolving thanks in part to the progress of state markets in the US. Meanwhile, as US-based operators try to expand or solidify their positions in the country, potential rule changes at the federal level are making it so Canadians, eagerly looking for growth, may attempt a run at key markets in America.

For investors, the US is further becoming the center spot for all things cannabis, according to the experts.

Don’t forget to follow us @INN_Cannabis for real-time news updates!

Securities Disclosure: I, Bryan Mc Govern, hold no direct investment interest in any company mentioned in this article.

Editorial Disclosure: The Investing News Network does not guarantee the accuracy or thoroughness of the information reported in the interviews it conducts. The opinions expressed in these interviews do not reflect the opinions of the Investing News Network and do not constitute investment advice. All readers are encouraged to perform their own due diligence.