Cannex Capital Holdings Inc (CNSX:CNNX) (OTCMKTS:CNXXF) Director and CEO Anthony Dutton talks about the company’s planned merger with 4 Front Holdings, LLC and becoming a multi-state operator in the increasingly crowded American cannabis space. According to Dutton, 4Front is the perfect match for Cannex, as 4Front’s retail and distribution proficiency complements Cannex’s core competencies of cultivation and processing. The expanded footprint of the combined entities will have a presence on both coasts and Dutton reveals the new company is interested in further expansion. Dutton indicates the new company’s expansion targets will include high population states where recreational cannabis is already legal or on its way to becoming legal. Dutton indicates the company plans to focus on creating branded products, which realize higher margins, as the cannabis sector evolves into a consumer packaged products industry.
James West: Anthony Dutton, CEO of Cannex Capital is here with me. Anthony, welcome back.
Anthony Dutton: Thank you very much. Happy New Year.
James West: Happy New Year to you, too! We can still say that, I guess.
Anthony Dutton: Yes, I think.
James West: Anthony, Cannex has really undergone quite the revolution in the first weeks of 2019 here. Tell me about all these new developments.
Anthony Dutton: Well, they really stem from our early December announcement of our business combination with 4Front. I believe you had Josh Rosen on your show around then to talk about the merits of what we’re doing, so we’re very close to getting our definitive agreements done and signed and announced, and then from there it’s just a matter of having a shareholder vote and moving to close the transaction.
The premise of the whole transaction is to take our operational expertise that we have in Washington, where we are, by far and above, the most efficient productive extractor/processor in Washington State, and plug that into other jurisdictions. 4Front come with a number of states, and big ones, some very, very important ones: Massachusetts, Illinois, Pennsylvania, Maryland, we’re looking at opportunities jointly in California, Arizona and Nevada. So the thesis here is to become a multi-state operator. You know, that is what the market is looking for, that is ultimately what consumers are going to need to see, and we’ve decided late last year that the best way to do that, the best way to fast-track that, was to essentially get married with a very complimentary group, and we looked around quite extensively.
4Front looked around also quite extensively, and ultimately we had the good fortune to meet, and strategically we’re aligned, complementary skill sets we’re aligned, and we think, you know, as 2019 unfolds, if you will, operations are going to become more and more and more important.
You know, 2018 was really a year about strategic alliances, getting licences, building your funded capacity, having a strong balance sheet; and we believe that 2019 is going to begin the time when investors will want to see operations. They want to understand that you know how to allocate capital, measure a good return on capital, and run your business like a strong operating business, and we bring that, and so does 4Front. So I think together, one plus one is going to equal 10.
James West: Interesting. So 4Front is going to help you build out this sort of multi-state designation, and –
Anthony Dutton: Well, from a particular perspective. So we look at the cannabis industry, like everybody else, as having a value chain, and the value chain is really, in our minds, kind of three distinct dements: you’ve got the cultivation element, you’ve got processing/extraction, and then you’ve got distribution and retail. Their real core competencies are in the distribution and retail end of things; they do have cultivation licenses in some of their states, whereas we bring very, very strong expertise in cultivation and processing.
So by marrying our core competencies, we become unbeatable, in my opinion, across the value chain, allowing us to be a vertically integrated multi-state operator, which is what our objective has been since the very beginning.
James West: So when you state multi-state operators, who would be some of your peers in that realm?
Anthony Dutton: Oh, companies like Acreage for example, or Kira. To me, a multi-state operator, you have to be present in more than three states, so there’s a number of companies that fit that profile. And then you probably have, you know, the top five or six, and then the second tier.
I think the best question that investors need to really ask themselves, however, are what are the Top 10 companies that are going to be the most important cannabis operating companies in five years from now? And what are the criteria that we’re going to use to measure that? And in terms of how we look at that question, we think, well, you need to be in large population states; you need to be focused on brands; you need to have an understanding across the value chain, and you have to be very good at retail to own the customer experience.
So if you look at the question that way or look at the opportunity that way, you know, in my opinion, and in the management of 4Front, the Cannex/4Front combination is going to make us become one of the most relevant, important companies in the sector.
James West: Sure. Okay, so what states are you looking at besides the ones that 4Front is involved with? Is it like all the states where you’re allowed to sell cannabis medically or recreationally?
Anthony Dutton: For the most part, sure. But we’re looking at large population states, so we love California; everybody does, I know you spent Christmas there. It’s a huge opportunity, it’s bigger than Canada. I think you’ve got to be very careful, very strategic about California. I think it’s going to be a company maker; it’s also going to be company breaker if you allocate too much capital to the wrong opportunity, you could easily find yourself going down the rabbit hole. So we’re very careful about California.
We like Nevada. We like Arizona. We like Florida. So those, you know, New York, New Jersey are pretty important to us, as well. But, you know, ultimately, large populations. You want to also go where you’re either already recreational or near to recreational, so there’s a number of states that fall into that category.
But you know, the way this industry has evolved over the last 12 months, James, it’s amazing. I mean, you’ve been sitting right at the front end here. I think it’s going to be a national market very soon.
James West: Yeah.
Anthony Dutton: You know, two, three years.
James West: Well, which sort of brings me to my next question: I mean, to what extent is the idea of price competition on the underlying sort of commodity itself, cannabis, going to render the playing field a lot more challenging than probably the less experienced of these MSOs are ready for?
Anthony Dutton: That’s a great question, and I think you’ve got to look at the cultivation segment, if you will, of the value chain, as essentially being two elements of value creation. You’ve got the large, what I call industrial grows: the million-square-foot greenhouses that are going to be just commodity pricing, it’s a race to the bottom, they’re going to be supply biomass feedstock for extraction for all of the derivative products.
And then you’re going to have the smaller, you know, curated boutique operations like what we have, where you can still charge a premium price for your flower to the same people who would, for example, spend $100 on a bottle of wine. That market will continue to exist.
Where we really want to focus is the middle part, where you take that biomass and turn it into branded products, because that’s where I think you really have the ability to start to build the relationship with the customer, the margins are much higher…you know, as I always say, nobody cares where the tomatoes come from that go into Heinz ketchup, but everybody likes Heinz ketchup.
So for a lot of the derivative products, the source of the biomass and the pricing of the biomass will be very akin to an agricultural commodity. But for certain parts of the flower market, you know, premium, indoor quality grow will still be very, very important, and that’s where we excel.
James West: Okay, so then Washington is a state that has already swallowed a lot of companies due to price competition.
Anthony Dutton: They have.
James West: And so what is the, what is sort of the secret approach to maintaining market share in a price-competitive environment?
Anthony Dutton: Brands. So on the flower brand, we own number one and number two, and on the edibles brands we own seven of the top 10. So we were very focused on the brand experience, the brand packaging, the whole brand conversation.
James West: So when you say brands, you’re talking about the brand of the cannabis that is packaged and not the strain, per se?
Anthony Dutton: The brand, exactly, the name of it. So if you go into a dispensary in Washington and ask for either Legends or Private Reserve, that is a brand under which we sell our various strains. If you go into a dispensary and Washington and you look for a Magic Kitchen Marma, for example, that is one of our brands. So we, under the Magic Kitchen umbrella, sell Marmas, chocolates, you know, a whole range of edibles products, and ultimately, that’s where the market is going to go to.
People are already talking – Vivian Azer Cowen is a very highly regarded, you know, analyst in New York, I’m sure you’ve spoken to her – you know, she talks about cannabis as becoming a CPG business, consumer packaged goods, just like chocolate or wine or potato chips, ad people are going to have their brand loyalties. They’re going to buy one brand over another.
I don’t think we’re actually at a point in the market yet where you can comfortably command a premium price, because people are still very price-conscious, but ultimately I think as the market evolves, you will have premium branded products, and an example I always use is chocolate. You know, I love chocolate, and 20 years ago it was unheard of for people to spend, you know, $15 or $20 on a small box of Godiva chocolates. They just wouldn’t do it; they’d buy something for $1 at a 7-11.
James West: No, I’m fully, fully geared towards premium brands, and in fact, I always looked for, you know, I didn’t care who’s got the cheapest; I want to know who’s got the best. I don’t care what it costs, I only want to smoke the best. So I think there’s a huge contingent out there, and that’s a great place to occupy.
There’s a lot of excitement surrounding the idea that biotech is actually going to be where most of the value is going to be created in cannabis. Does Cannex have any sort of ambition or any sort of direction towards any biotech evolution?
Anthony Dutton: You’re talking about sort of IP? Is that what you mean?
James West: Well IP, but also, you know, like I’m thinking Epidiolex and GW Pharma.
Anthony Dutton: Oh, okay. So on the pharma side of things.
James West: Right.
Anthony Dutton: We think that market has got some real potential. I wouldn’t say that we have a near-term strategy to be a strong or a big player there. I think before that market even becomes legitimate, you’re going to need to see, you know, a lot more drug research like Epidiolex for example, you know, DIN numbers, Big Pharma getting involved; but ultimately, the product comes from the same place. So if we can build relationships with pharma companies that are going to take our extracted distillate, for example, and use it as an ingredient of a medication, we’d be all over that. But for the time being, I think the larger market kind of exists in what I call the wellness market: you know, people who take recreational cannabis to feel well, or people who take recreational cannabis for medical ailments. You know, inflammation, headache, can’t sleep, nausea, anxiety, those sorts of things.
I think that is a wellness market on a scale of sort of one to ten, depending on where you fit in there.
James West: And do you have any updated sense of when legalization will happen in the Federal level in the US?
Anthony Dutton: I think it’s going to be sooner than people expect, and that’s just kind of my gut feel around that; I don’t have any data point that I can sort of point to, as it were, but I think that there’s a lot of participants, or people who want to participate in the industry, who are unable to, in the financial sector, for example: commercial banking, investment banking, you know, the financial side of the opportunity in there. They have a very strong lobby group. They’re probably not very happy that others are kind of eating their lunch, as it were. So I think that it would be likely that it could happen sooner rather than later.
James West: Okay, Anthony, let’s leave it there for now; that’s a great update. We’re going to keep following with much interest, and thanks for joining me again today.
Anthony Dutton: Thank you very much.
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