How Public Marijuana Firms Crashed the Ontario Retail Launch

Marijuana companies in the public markets found a way around a lottery system that was supposed to be the only way into the Ontario retail industry.

Thanks to branding and financial-support agreements, public cannabis companies, some even with backing from licensed producers (LPs), have gained a side-stepping entry point into the coveted Canadian retail space.

“It’s an unintended consequence, but I would say not entirely unexpected,” Brenna Boonstra, director of quality and regulatory consulting with Cannabis Compliance, told the Investing News Network (INN).

Ontario first unveiled its plansto block LPs from its retail market back in September 2018, saying it would only allow a single retail license per production facility in the province.

The province then changed the game plan for interested parties as it swapped a full on rollout in favor of a lottery system that granted the market the possibility of only 25 stores opening on day one.

“We want to have as many participants as possible be involved … This is an opportunity for small businesses to get involved,” Ontario Minister of Finance Vic Fedeli said after the province confirmed its limits on LP-owned stores.

As it turned out,only 10 shops opened their doors to consumers on Monday (April 1).

The remaining 15 proposed stores are either still in the midst of the public notice process or have finished it but are not yet ready to open.

From the 25 total stores, 11 have secured a relationship with a publicly traded marijuana company; 10 of these agreements involve an LP directly or through an active investment.

Only four of the shops with public-company partnerships have been issued their retail store authorization.

These include the Fire & Flower Holdings (TSXV:FAF) shop in Ottawa; the Kingston shop Spiritleaf, which is branded by Inner Spirit Holdings (CSE:ISH); and the Brampton shop Ganjika House, whichformed a credit deal with Origin House (CSE:OH,OTCQX:ORHOF) subsidiary Trichome Financial.

“These are ambitious groups with a lot of financial backing, and, I would say, I’m not surprised by their effort to enter the market,” said Boonstra. “The bigger question, I think, and this is something that there’s not a lot of clarity on across the board, is how these deals are structured to avoid that change in control.”

The province faced questions as its efforts to keep LPs away from this market started to show cracks.

Spiritleaf store in Kingston, Ontario, on the opening day of retail sales. Credit: Inner Spirit.

How did LPs get stake options in the new retail market?

The connections LPs hold in the upcoming retail market run deep, as the marijuana market has shown to be full of investments and partnerships between firms.

Several of the winners felt the pressure of the market to deliver on the quality and timing of their store openings and turned to agreements with larger corporations, including Canopy Growth (NYSE:CGC,TSX:WEED).

In February, Canopyconfirmed its first store deal with Alimentation Couche-Tard (TSX:ATD.A,TSX:ATD.B). The two companies will work together to support a license applicant for a dispensary in London that will be operating as a Tweed store.

A Tokyo Smoke store, near the Yonge-Dundas Square in Toronto, represents the second agreement for Canopy in Ontario.

These are branding agreements for the cannabis producer, and don’t represent a change in ownership from the license holder, Canopy said.

The actual winner of the license will still be responsible for the day-to-day operations of the store, including staffing and supply orders.

Bruce Linton, co-CEO of the LP, told INN that Canopy’s role with the license applicants themselves consists of lending its brands and resources if needed.

The executive said that while he hopes the Tweed and Tokyo Smoke retail brands will attract consumers, the larger focus for the LP is to keep supply going in the province.

“We are making sure that the province has at their warehouse a depth of product from us so as these stores open up, we can fill them all up,” he said.

When asked about the possibility for a Tweed or Tokyo Smoke shop to carry only Canopy-branded marijuana products, Linton said he can’t imagine the license holder doing that.

“A gas station on both corners is good for business,” he said. “I think it’s actually quite beneficial for us to be present [alongside] a diversity of products, because then you’ll know over the course of time which ones you’ll prefer, and we’re pretty confident about that.”

A spokesperson for the Ontario Cannabis Store (OCS) said in an email response to INN, “There are no restrictions on which products retailers can select from the OCS for their stores.”

The OCS will be tasked with managing the supply orders from the retailers of licensed product from the 37 producers given supply agreements by the province.

Linton told INN he expects both shops to open in the “April window,” since neither the Tweed nor the Tokyo Smoke shop made it at launch.

As the Ontario market continues to grow and add more license applicants as part of its slower rollout, Linton said the target is for Canopy to be involved with more stores.

He confirmed the company has a goal of over 40 stores across Canada by the end of the year.

Fellow LP Tilray (NASDAQ:TLRY) said in arecent call with investors and analysts that it currently holds investments in retailers Fire & Flower, Inner Spirit and Westleaf Cannabis (TSXV:WL,OTCQB:WSLFF).

Fire & Flowerconfirmed two deals with lottery applicants to shareholders.According to the Ottawa Citizen, one store is a location in Kingston, while the second shop is in Ottawa.

So far, Westleaf Cannabis has not announced any agreement with an Ontario store.

Brendan Kennedy, CEO of Tilray, said the company will be more aggressive for retail deals in the Canadian market in the months to come.

In one instance, a shop’s connection to an LP came as part of a strategic acquisition.

Inner Spirit announced in February that its subsidiary Spirit Leaf (SLI) had brokered a branding license and consulting arrangement tocollaborate on the build out of a store in Kingston and allow its brands to be displayed.

The shop is modeled after the SLI retail design. It was approved by the Alcohol and Gaming Commission of Ontario (AGCO) and opened on Monday.

Inner Spirit confirmed SLI now has 20 franchise agreements in place as it awaits for the issuance of more licenses in Ontario starting in December.

Newstrike Brands (TSXV:HIP,OTC Pink:NWKRF) and its subsidiary Up Cannabismade a C$2.25 million investment in Inner Spirit in 2018, which granted it a preferential spot in the layout of the SLI shops.

These shops feature the Up Cannabis brand and imagery of Canadian rock band The Tragically Hip,who are investors in Newstrike.

In March, Hexo (NYSEAMERICAN:HEXO,TSX:HEXO) announced itsplan to acquire Newstrike outright, including its partnership with Inner Spirit.

“We welcome and look forward to working with the HEXO team and building on the foundation that has been put in place,” Darren Bondar, president and CEO of Inner Spirit, previously told INN.

Aurora Cannabis (NYSE:ACB,TSX:ACB) holds a stake in five separate stores through its investments.

The Canadian firm, with a market capitalization of C$12.23 billion, has aninvestment relationship with Alcanna (TSX:CLIQ), a retailer and owner of the Nova Cannabis store brand.

One of these shops is set to open in Toronto thanks to an agreement with the license applicant. This store has already been approved by the AGCO.

The LP has publicly informed shareholders of its investments in the retail play and shared the value of these ventures.

In February, Auroracompleted its C$10 million investment inHigh Tide (CSE:HITI,OTC Pink:HTDEF). High Tide also develops cannabis accessories and lifestyle products.

“As the realities of a compressed schedule and complex project became clear, the third winner realized that they would benefit from our help,” Raj Grover, president and CEO of High Tide,said in a press release about its third store deal in Ontario.

High Tide has three agreements to participate in the opening of stores in Toronto, Hamilton and Sudbury. They are all set to be designed after its retail brand Canna Cabana.

However, none of the High Tide shops opened on Monday at the launch of the market. The Toronto Canna Cabana store will not complete its public notice consultation process until April 9.

Layout of a Canna Cabana store from High Tide in Alberta. It is expected for this design to be replicated with the shops in Ontario. Credit: High Tide.

Another investment from Aurora was for Choom Cannabis (CSE:CHOO,OTCQB:CHOOF). Terry Booth, CEO of Aurora, congratulated Choom Cannabis for its Canadian network of shops and its expansion in Ontario.

A Choom-branded shop in Niagara Falls has finished its public notice period but has not been confirmed for opening yet.

“Through our strategic investment, we have helped to expedite Choom’s commercial launch across Canada,” Boothsaid in a press release.

While these deals vary in scope, with some only applying to shop branding  and others offering various types of support for the license applicants, some of these companies are looking ahead to when the lottery stage ends.

Fire & Flower confirmed it received an option to purchase the interest of both the stores it partnered with in Ontario, if allowed by the AGCO.

Agreements side step original intentions from Ontario regulations

The province boldly announced it would put a clear line preventing LPs from directly participating in the retail space as a way of curbing these parties’ dominance in the whole business chain.

“The [Ontario] government was mindful that the whole system not be vertically integrated, and some of that probably was the capital that some of the LPs would have,” Karl Littler, senior vice president of public affairs with the Retail Council of Canada, told INN.

“[This] would frankly place them in a significantly advantaged position relative to others that might want to enter the retail market,” he added.

The decision sent LPs scrambling, as several had already started tracking potential shop locations and even made investments in retail-focused ventures.

However, many LPs confirmed various agreements after this was publicly announced, confusing some experts who had noticed the scramble for support from license holders but did not expect such a blatant entry from these marijuana firms.

Boonstra raised questions as to the clarity and structure of these agreements, as it is essential that they are structured to avoid ownership change.

Seeing as it was the intention of the province to prevent LP interest from dominating the market, Bonnstra was curious as to the approvals for stores clearly associated to LPs.

The AGCO informed the market it will not block license applicants from “entering into agreements with other parties for support in operating their private retail store,” as long as they are approved for their license in every other regard.

The agency pointed to trademark agreements as a possibility for an applicant to make these deals. As such, Ontario customers are set to see the brands and logos of corporate cannabis in its market.

When asked if the AGCO intends to release the agreements between LPs and license holders, a spokesperson for the provincial agency told INN that, due to the Freedom of Information and Protection of Privacy Act, the AGCO won’t make the reviewed agreements public.

Ultimately, Boonstra said the entry of these companies, including LPs, is beneficial to the overall market as the firms bring capital and a strategy towards a “more polished model” for retail.

“[Lottery] winners would welcome the guidance from some of these more established players and looking at the public list of proposed names we can see that many have welcomed the partnerships,” she told INN.

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

Editorial Disclosure: Inner Spirit Holdings and High Tide are clients of the Investing News Network. This article is not paid-for content.

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.