Ask Our Experts 10/28/2018
Q: Now that Canada has legalized adult use, is it worth investing in the U.S. market?
On October 17, 2018, Canada became the first developed nation to fully legalize cannabis. The historic milestone in the cannabis industry’s growth has further propelled enthusiasm for one of the fastest-growing business sectors in the economy. Yet, the ways in which countries around the world are approaching the plant has varied widely, and the developments in Canada highlight some sharp differences between the Canadian and American markets. Each presents unique risks and opportunities for private and public market investors.
As a nationally regulated market, Canada’s legal industry enjoys some important advantages over the U.S.’s state-specific approach to legalization. With the ability to sell products nationally and internationally, Canada’s licensed producers (LPs) are building some of the largest legal cannabis cultivation operations ever seen, and they seek to lead the global cannabis export market. Indeed, several licensed producers are already exporting to countries across Europe, and to Australia. Meantime, American producers are not allowed to ship products across state lines, even if into another state-legalized market.
Despite Canada’s significant head start, a number of factors continue to make the U.S. an attractive market for savvy investors. The U.S. has nearly 10x the number of consumers as Canada. California alone has 40 million residents, about 8% more than Canada’s 37 million. Thus, while it may be a number of years before cannabis is fully legal across the U.S., once the American market is fully activated, it will be nearly 9x larger than Canada’s.
Another distinguishing factor of the U.S. has been innovation spurred by the state-restricted regulatory model. With so many small and independent markets operating simultaneously, there has been a tremendous amount of innovation by small companies serving local markets that would be impossible to replicate in Canada, where but a few large companies dominate the market. Furthermore, strict branding and advertising restrictions in Canada have constrained some of what is possible in less tightly regulated markets. Given such, one sees a richer diversity of products, brands, and production techniques in the U.S. than in Canada. For investors, opportunities in the U.S. exist in identifying the best-of-breed companies across those markets and developing means to scale them to meet national demand.
Before the U.S. legalizes nationally, there are opportunities presented by expansion and growth in state-level markets. For example, next month four states will be voting on cannabis referendums – Michigan (population 10 million) will be activating one of the largest adult-use markets after California, creating significant opportunities for operators in a large, high-consumption market. The continued addition of legal markets helps spur the growth of multi-state operators working aggressively to capture licenses nationally. With 10 or more states poised to expand cannabis laws within two or three years, long -term U.S. growth opportunities are significant, despite obstacles making the U.S. market more difficult to navigate than Canada’s.
As the U.S. regulatory environment eases, the ability to fully activate strong investment in American companies could catalyze growth across the sector. A significant portion of capital propelling the growth of Canada’s legal market comes from U.S. private investors, many of who view Canada as a much more stable and well-regulated market than the disjointed U.S. markets with widely varying regulations. Upon changes to U.S. federal laws, however, companies on both sides of the border will finally be able to access the deep reserves of institutional capital in the U.S., and catalyze growth across the sector. In the interim, before American companies are allowed to export their products across state lines (let alone internationally), the size of the U.S. consumer market and continued state-by-state expansion will continue to present some compelling opportunities for well-informed strategic investors. Additionally, the strength of U.S. domestic demand and American influence on global business and culture will ensure that, despite the strong head start enjoyed by Canada’s operators, American companies and investors will continue to play an important role in shaping the growth of the global cannabis industry.