Marijuana Business Magazine February 2020

Marijuana Business Magazine | February 2020 20 A partner at Navy Capital says volatility has created opportunities for willing investors Responding to Industry Shifts J eff Schultz is a partner and general counsel at New York-based investment firm Navy Capital. The company has approximately $200 million invested in the cannabis industry across about 40 different companies. About 90% of those are in the United Sates, with more than half being plant-touching businesses. The rest of the $200 million is split between Canada, Europe and Israel. Schultz describes some of the recent changes in the industry, such as capital constraints, as “tectonic” and predicts there might be a large shakeout in 2020 as some companies fight a losing battle amid ever-fading chances of profitability. However, Schultz predicted investment opportunities will abound, and he addressed social equity in the cannabis industry. What are some of the biggest changes you have seen in the cannabis industry during the past several months? We’ve seen some tectonic shifts in the industry over a relatively short period of time, which is not atypical of a bourgeoning industry like cannabis. We’ve seen a transition from capital raising based on lofty expectations to a more grounded approach to focusing on a clear line of sight to profitability. We’re also seeing increasingly fewer companies seek liquidity through Canadian exchanges, which are certainly not the panacea many hoped them to be. These exchanges are illiquid, and retail investors have had trouble opening brokerage accounts that permit trading on, for example, the Canadian Securities Exchange. This lack of liquidity, layered onto the fact that many of these companies have “gone public” perhaps prematurely, together have created tremendous volatility in the public cannabis markets. Other factors have contributed here as well, including “Vapegate,” lack of progress of federal legislative reforms and the U.S. Food and Drug Administration’s failure to provide regulatory guidance on CBD and other hemp-derived products. As a fund that manages both a public and private book, we try to take advantage of these periods of high volatility. While we wish the cannabis markets were a bit more stable, we view this is an opportunity to make money for our investors. As Warren Buffett once said, “Be fearful when people are greedy, and be greedy when people are fearful.” The other shift is the focus on profitability. Investors rushed into West Coast markets and brands in 2018, but in 2019, the profitability story was really being driven by East Coast and Midwest vertically integrated operators. The importance of vertical integration from a supply and cost perspective was really highlighted in 2019. Do you expect such trends to continue through the year? Or will other issues take on a bigger role? While we don’t have a crystal ball, we expect to see more pain before the industry stabilizes. In particular, it would not be surprising to see a wave of bankruptcies in Canada and California. (We are closely watching trends in U.S. cannabis companies restructuring since they cannot avail themselves of federal bankruptcy relief). We’re also keeping a close eye on adult-use legalization efforts on the East Coast and hopefully the passage of the SAFE Banking Act in 2020—both of which could be strong catalysts for a better year. One trend we expect to continue to grow is creative, nondilutive financings. The well will eventually run dry on pure sale-leasebacks, so we expect to see more debt financings like the one announced recently by Curaleaf (for $300 million). We anticipate that Tier 1 operators will be able to negotiate materially better terms than the rest of the industry, which will also likely seek debt financing but perhaps on much more onerous terms. Money Matters | Nick Thomas Jeff Schultz Courtesy Photo