Canada’s hashish trade has many issues, the largest of all of them being that it’s an ATM

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The industry has not followed the classic boom-and-bust cycle as the “tail” of the bust, which began in March last year, threatens to expand unusually.

Article author:

Chris Damas

Release date:

19th November 2020 • • 19th November 2020 • • Read 4 minutes The picture shows marijuana buds during a raid by the Catalan police Mossos d'Esquadra in an illegal cannabis plantation in a private house in Martorell near Barcelona on October 6, 2020. (Photo by Josep LAGO / AFP) (Photo by JOSEP LAGO / AFP via Getty Images) Although cannabis-licensed producers (LPs) and even cannabis boards in the provinces repeat the mantra that more supply and lower prices are required to drive the black market, why are big LPs so anxious to grow more cannabis and add more derivatives to produce? Photo by JOSEP LAGO / AFP via Getty Images

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The cannabis industry began planning a large recreational market when the Trudeau government made legalization a campaign promise in 2015. On October 16, 2018, the day before recreational cannabis use became legal, 129 licenses to sell and grow medicinal cannabis were issued by Health Canada.

Two years later, the cannabis industry has grown into a plant growing and oil production giant, and Health Canada’s sanction for outdoor growing only makes the animal bigger with 540 licenses issued and counted. The latest data shows the potential for growing up to 400 tons of cannabis outdoors this year, according to BCMI Research, which could supply the entire industry for all THC extraction needs, from 1,344 acres of licensed growing area.

Race down

Despite its robust growth, there are many problems in the industry, including a “race to the bottom” in pricing for so-called “large value-for-money” flowers for whole flowers. The heavy DAD (Daily / Almost Daily) user is the big beneficiary – one eighth (one ounce) of high-quality, high-THC cannabis is now available for half the price of one-fifth of alcohol.

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Seasoned commodity traders will say that “the solution to low prices is low prices”. The cannabis industry has not followed the classic boom-and-bust cycle, however, as the “tail” of the bust, which began in March 2019, threatens to expand unusually.

Although cannabis-licensed producers (LPs) and even cannabis boards in the provinces repeat the mantra that more supply and lower prices are required to drive the black market, why are big LPs so anxious to grow more cannabis and add more derivatives to produce?

The accounting practice is an incentive for producers to grow more marijuana than they can sell and process, so lower unit costs and positive gross margins can be reported, leading investors to give them more money. Later, the excess inventory is quietly written off and the cycle starts over. There will be no solution until attendees see the industry for what it is: an ATM.

Companies that have never grossed, let alone net, continue to raise capital, mostly from professional stock traders, hedge funds, and short sellers who expect capital increases and then cover their profit bets with new issues from troubled companies.

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Short sellers made a bonanza out of cannabis advertising and don’t want to see the goose that laid the golden egg that was eaten for Thanksgiving dinner. They incentivize investment bankers to help weak companies raise money, knowing that the pros will be there to flip their stocks one more time.

The more cannabis LPs produced, the lower the reported unit cost and higher gross margin per gram, making the financial results more attractive to potential investors and bankers.

Business losses are then funded by raising money through fixed-term loans, revolving lines of credit, convertible bonds, high-dilution stock trades with warrant sweeteners, and “at-the-money stock programs” that allow companies to sell stocks and raise cash directly from the market, aptly called ATMs. The capital allows companies to expand further into processing and manufacturing, which means an oversupply of vape pens and other cannabis extract-based products is guaranteed in the future.

Fix the dysfunctional industry

The only way to get lower cannabis supply and higher prices is for governments to make constructive structural changes in the dysfunctional industry they have created.

We need an excise tax cut of at least $ 1 per gram, which started at 10 percent from $ 10 but is now 25 percent as cannabis prices have fallen 60 percent. We need a cut in the large mark-up that the provinces charge producers for their inventory and distribution services, which often require products to cross the province. We must immediately remove the state wholesalers in favor of distribution in the private market, as is the case in Saskatchewan, where six wholesalers were licensed at the end of fiscal 2020.

We need consolidation in the LP space, where more than two dozen publicly traded companies continue to burn investor money to expand manufacturing and improve their financial results rather than investing in clinical trials or product innovations. We need cannabis prices to stabilize at current levels as legal flowers are now cheaper than illegally sold, and a massive run-up of stores in Ontario and other provinces should end the eradication of the black market.

These measures would lead to a healthier industry, put the government out of business, lower the social and personal costs of increased addiction to cannabis, and allow long-lived investors to finally partake in the fruits of their investments.

Chris Damas is President of BCMI Research, Investment Research, and Consulting, based in Barrie, Ontario.

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