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Canada’s budding marijuana industry could blossom into a $5-billion market if Liberals make recreational pot legal

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Peter Koven | October 20, 2015 5:41 PM ET
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Legalization could turn Canada's nascent pot industry into a huge business literally overnight.
Associated PressLegalization could turn Canada's nascent pot industry into a huge business literally overnight.
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It is already being compared to the end of prohibition.

Justin Trudeau’s majority win in Monday’s election paves the way for Canada to legalize recreational marijuana, a move that would transform the country’s nascent pot industry overnight. But while that is extremely exciting news for the licensed producers in the space, it would bring plenty of challenges as well.

The opportunity is obvious. There are currently about 35,000 to 40,000 patients enrolled in Health Canada’s medical marijuana program. The total market is worth perhaps $80 million to $100 million. If recreational pot becomes legal, the potential customer base suddenly runs in the millions. Dundee Capital Markets analyst Aaron Salz figures the market would then be worth up to $5 billion.

“The Canadian marijuana space could be set for another revolution,” he said in a note.

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Ottawa birthed this sector in April of last year, when it introduced rules requiring medical marijuana patients to buy their product from licensed and heavily regulated producers. That prompted dozens of new entrants into the industry, and there are now 26 licensed producers. The top public companies in the space include Canopy Growth Corp. (formerly known as Tweed Marijuana), Aphria Inc. and Mettrum Health Corp.

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Shares of all those firms jumped higher in early trading Tuesday. But they leveled off as the day went on, in part because Trudeau’s victory was priced in.

The producers are in an ideal situation to capitalize if recreational pot becomes legal. Canada’s regulatory environment for marijuana is fully established and considered the best in the world, and the producers are used to the rules. The top ones are capable of rapidly scaling up production to handle new demand.

“I have a material production advantage over somebody that is trying to move their facilities around to avoid being busted,” Canopy chairman and chief executive Bruce Linton said in an interview.

Andrea Hill, a lawyer at Wildeboer Dellelce LLP who has worked on numerous pot deals, said that when Colorado worked to legalize recreational pot, authorities worked directly with existing medical marijuana stakeholders to prepare for changes in the market. The licensed producers would get a healthy head start if the same thing happens here.

But there is no guarantee that recreational pot is going to be the industry savior that many insiders assume.

To date, none of the major licensed producers is generating positive cash flow, though some are close. Assuming marijuana production rises dramatically as recreational pot becomes legal, that could put pressure on prices and force a lot of the smaller producers that lack scale to either shut down or merge with competitors. Consolidation is likely, according to some experts, though nothing is certain.

“There are so many variables at play, and it’s still so early,” Hill said. Positively, she noted that prices have not fallen in Colorado and Oregon since legalization.

Perhaps the biggest question around legalization is whether it will attract global giants from the alcohol, tobacco or pharmaceutical industries. Salz believes that this industry is a natural fit for Big Tobacco, which has a similar business model but is suffering because of extremely low smoking rates among new consumers.

If those huge players do come in, their logical route would be to acquire existing producers that can scale up production and are fully familiar with the regulatory environment.

“The concern will be that they make a hostile takeover bid or pursue (a takeover) very aggressively,” Linton said. “But those are good problems to deal with.”
http://business.financialpost.com/news/agriculture/canadian-marijuana-stocks-jump-as-liberal-wins-signals-legalization-on-the-table