January 2, 2019

Farm Bill Impact: Alan Brochstein Addresses Effect on US Cannabis Industry

Midas Letter
Midas Letter
Farm Bill Impact: Alan Brochstein Addresses Effect on US Cannabis Industry

420Investor and New Cannabis Ventures Founder Alan Brochstein, CFA discusses the passage of the Farm Bill in the US Senate. Brochstein believes that when the Farm Bill is signed into law it will remove a lot of uncertainty for investors, but will likely be too early to declare individual winners and losers in the cannabis space. While he believes passing the Farm Bill is a long-term step towards federal de-prohibition, Brochstein does not think it will act as a short term catalyst for legalization. He suggests the Farm Bill is an “easier sell” because of its agricultural focus; however, full legalization is significantly more complicated in terms of creating a regulatory framework that also addresses existing state laws. He notes that the market is missing the end of year rally investors have come to expect from the cannabis sector and suggests that solid fundamentals will rule the space in 2019.


James West:   Alan, how are you?

Ed Milewski:  Hey, Alan. Nice to see you, young fella.

Alan Brochstein:   Hey, it’s great to see you. Nothing against Ed, but it’s really nice to see you, James.

James West:   Thanks, thanks, you too. Well, so, let’s get started here, Alan. What’s the upshot on the Farm Bill, here? That seems to have to taken the market higher ever so briefly; it’s interesting to me how sort of short-lived that whole sector-wide catalyst seems to have unfolded.

Alan Brochstein:   Yeah, I think it’s kind of confusing. I’ve been following the hemp space, obviously, for a long time, and it’s always been great. So I know that as we move more towards black and white, people will appreciate that. I mean for now, we’ve had these companies, you know, having run-ins with the FDA, and that still may continue, by the way. But I think the removal of the uncertainty about are you able to do business or not, is a huge step forward.

But I think it’s really early to figure out who the winners and losers are going to be, and obviously from the big-picture perspective, legalizing cannabis’ cousin, I guess, is what people call it, is a good thing. Because I think people will see the path forward for THC-type products over time.

But in the interim, I think I’ve said this on your show before: I think it’s really a win for the LPs, James and Ed. These are the companies that I think are going to be very well-positioned in our market.

James West:   Okay, so then, why this – it’s more like a fart in the wind, to use want of a better term, in terms of, you know like we saw a lot of lift in the CBD-focused companies like Charlotte’s Web got a nice lift, but it didn’t last, it didn’t hold, and I would think that this would be something that catalyzes ongoing, you know, accumulation of CBD stocks that I thought the upward effect would have been more sustained.

Alan Brochstein:   Yeah, let’s put it in perspective. Charlotte’s Web and CB Sciences and Elixinol, these are the three public companies that I track most closely on this front; they’re in the middle of huge rallies. If you look at what’s going on in the Canadian market for US cannabis companies, it’s been, well, this is a family show – it’s been a terrible time, I was going to use a different term – you know, a lot of deals are coming out, they’re trading way below where they raised capital.

Charlotte’s Web has held that. That was a true IPO, actually, it’s held its IPO price from Day One, and so it’s done well. Yeah, it’s off the highs, but if you look at Elixinol, that just made a new all-time high. CB Sciences was, I think, it bounced off 3 and change the other day if I’m not mistaken, just below four.

So you know, the trader aspect is a little bit different than the investor aspect, and I’d say for all these companies, it’s probably a positive thing, but investors have to be concerned about will they be able to compete with new companies in the space? Will they be able to compete with Aurora Cannabis and Canopy Growth? I mean, I think it’s going to be a big market, and it remains to be seen, but I’m not so sure I’d be running things up right now.

James West:   Right. Okay, so this is more or less in line with what you would expect the reaction to be, is what you’re saying?

Alan Brochstein:   I don’t know, you know, the older I get, I don’t know what to expect, James. I get your point, you know, there should be a lot of hoopla; we’re in a very tough market right now. The markets are just hammered this year, the overall stock market’s been a problem…I’ve picked up, I don’t know if I talked about it with you guys, but I’ve been talking about it 420 Investor since late November – I mean, this is the mother of all tax law selling seasons, and you know, in the cannabis space, the last couple years, we haven’t seen this because we’ve had these end of year rallies, people have gains, they don’t necessarily have very many losses to take.

This year is very different. We have massive losses across the sector, names that have lost, you know 75 to 80 percent of their value or more, and at the same time, we have some huge winners. And so early in he year, when Jeff Sessions kind of pulled the rug out from everybody and it hurt Canadian stocks, it hurt US stocks. People ended up selling securities that they bought in 2017 and booking big profits; this year they’re going to have to pay big taxes, or in April, if they don’t offset them.

So I think we’ve been seeing a lot of tax loss selling going on against those gains from early in the year from some investors, and at the same time, some of the stocks that have gone up a lot this year – some that come to mind for me are like iAnthus or Origin house – these are under pressure now because I’ve been sharing a very simple example. What if you had just two investment: half of it was in Origin House, and half was in, let’s say, Terra Tech. Terra Tech has lost three-quarters of its value, so if you had $100 in each, it’s worth $25. And Just roughly, Origin House, if you had $100, a few weeks ago it was worth $200. So then you’re out of balance. And so makes it really easy for something we don’t really see at year-end typically, for these winners to come under pressure.

So losers are getting sold, winners are getting sold, it’s a pretty nasty time, so I wouldn’t get too caught up in the day to day of what’s going on in these stocks right now.

James West:   Yeah, well, I can tell you, in my own portfolio on the cannabis side, I bought some Origin House, I bought some iAnthus a few weeks ago, you know, when they were on a bit of a tear, thinking okay, this is the next leg up, and so to sit here and watch them sell off and scratch my head and think, well, I guess, all those theories I had for what’s going to happen at the end of the year are now out the window because the tax loss selling was compounded by, you know geopolitical uncertainty, trade war, you know, all these other compounding factors: the dissolution or resolution of Brexit, I mean there’s jut all these things have come to converge at the end of the year to create real downdraft across not just cannabis, but all markets.

So what do you see happening for the onset of 2019? Is it, are we looking at a reversal, here, are we looking at a sit on your hands and wait and see, or is it going to be more of the same in terms of downward spiral?

Alan Brochstein:   Yeah, as a long-time veteran of the market, I know January 2nd, or the first trading day of the year, doesn’t turn things on a dime necessarily. I think this year it actually could. I think people are very optimistic about the space, and we’ve talked about a lot of the factors that have hurt performance recently, but a huge problem, I think, has been all the supply of stock and not only have we seen a lot of US companies come to market through Canada, but we’ve seen these deals get crushed. Tilt Holdings, I don’t know if that’s on your radar, James, but it was kind of a weird deal where you had a Canadian ACMPR applicant, it was already publicly traded at the time, Sante Veritas, merge with three other companies in the United States – which is always an odd thing to have all these companies merge at one time.

They go public; before they go public, they sell shares at $5.25 CDN, and the next thing you know, it’s trading at $2.00. I mean, unbelievable. So I think people are hurt, they’re hurt, they’re not focused on the long term, they’re trying to protect their capital. I think everybody’s just looking forward to the end of the tax loss selling season, and hopefully they’ll start to focus on what I think are going to be solid fundamentals in 2019.

We’re already seeing, I know you follow it, these revenue numbers are just phenomenal; I think next year we’ll have to focus on more than revenue. We’re going to have focus on operating cash flow and operating profits, things like that, but we’re already seeing some companies that are generating true profits – not accounting gimmicks, but truly profitable businesses, and you know, some of the companies have caught a lot of heat for absorbing huge losses this year, and I think they’re going to have to cut back on some of these losses, because you know, all they have to do is look and see that investors really don’t want to see that extent. And I’m not going name names like MedMen –

James West:   [laughter]

Alan Brochstein:   And I like MedMen, by the way, it’s just not sustainable. You can’t raise $60 million and then blow $60 million, and I think to next year we’re going to see good, solid fundamentals for the industry and just get past this morass that we’re in right now.

James West:   Mm-hmm. Would you say that the passage of the Farm Bill into law, do you think that that is, could be looked at the United States moving one step closer to Federal de-prohibition?

Alan Brochstein:   Yeah, I’m not going to link them too closely. I think it’s a – if you’re a long-term thinker, the answer is yes. If you’re looking for something to happen in the next few months, or even next year, or even 2020, probably not. I think it kind of shows the path forward, and you know, I keep telling people: the Canadian LPs have the world, but they don’t have the United States. Well, they may on CBD now; it appears that you can export, and I expected them to, you know, acquire properties in the United States that’ll be TSX compliant.

But at the same time, they’re not able to participate in the US market, which is, you know, highly fragmented and rapidly growing in terms of, you know, next year we’ll have Michigan coming online – well, they’re starting to come online for medical, but get closer to full legalization there, and that’s a really exciting state.

We have other states that are scaling up. So I think that you don’ have to have this legalization that people want; as a matter of fact, most people in the industry don’t want legalization. They want the slow, methodical rollout that allows these companies to become behemoths over time before they have t compete with the Altrias and the Cronoses.

So I think if you put two and two together, you see where we’re headed as a country; this is a nice test case, it shows that there’s bipartisanship. This a much easier sell. It’s the farmer. So I think that’s an easier sell than full legalization. I think full legalization is extremely complicated, and so people shouldn’t expect that to be a very short process. In fact, I would say it’s a three to five year process once they even decide to do it, because we have all these different state laws and programs right now, and I think it’s going to be a real mess.

So, US in time.

James West:   You bet. All right, Alan, let’s leave it there. We’ll come back to you again next week. Thanks so much for joining us.


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