Hey folks, welcome to another PDSA webinar. I’m Micah Tapman, CEO BDSA, and here today to talk about using data to drive investment decisions. So we’re going to be diving in on lots of different topics around investing in the cannabis sector, and making good use of data to make those investment decisions.
We’re going to be covering sort of a use case or walkthrough scenario. I strongly encourage people to submit questions and engage during this discussion. I do a lot better with that audience engagement. So please feel free to type questions in and we’ll go ahead and try to answer them in line. So you don’t need to wait until the end. Feel free to ask questions up front. If you got ideas or things that you wanted to get covered as well, please feel free to put those forward as a question into the chat window within GoToWebinar. So with that, we’ll go ahead and get rolling talking about the big picture. So first of all, a little background, I’ve been investing in the cannabis sector since about 2014. me well over 100 investments into the sector was one of the first investors in PDSA when Roy and Liz founded the company back in 2015. Because I wanted to make investments based on data. And at the time, there was very, very little data about the cannabis industry. So it’s really exciting. Now we are looking back on six years of development. And we have a lot of data. Companies like PDSA are leading the way with market research that allow us to make better investment decisions. And I’m going to define better investment decisions as decisions that are grounded in facts, not just opinions, and decisions that are more likely to be successful, rather than less likely. And we’re gonna talk about how we identify those opportunities. By using the data and eliminating uncertainty, we want to eliminate that fog of war that often happens in the investing community. I also want to ground this conversation and talk a little bit about what cannabis is first, think of the plant as a chemical factory. So the cannabis plant generates a lot of different chemicals. The ones we’re most familiar with are THC and CBD now, but there are, you know, dozens of different cannabinoids and other chemicals that are coming out of this plant. Those cannabinoids all represent different types of opportunities. And this is a really interesting thing to start diving in on those details and exactly where those opportunities will come up.
One way to think about this, it’s a little simplistic because frankly, cavitus cannabinoids are more complex than the alcohol,
chemicals. But it is similar to the idea that you have beer, wine spirits. And then you have things like ISO propyl, alcohol and ethanol, which obviously you don’t drink, but are used in other ways, we actually see the same types of issues happening with cannabinoids, where many of them will have health benefits or ingested use benefits of one sort or another. But there are other areas that are also interesting to take a look at.
So when we think about investing into a sector, we’re always looking at the addressable market, you need to understand Of course, if the market is going to be large enough to support the type of investment that you’re looking to make. And for each investor, how we think about market sizing is dependent upon our particular dollar amount. And what we’re looking to do, if you’re running a multi billion dollar fund, you might need to make allocations in the hundreds of millions of dollars. If you’re running a small fund, you might be making allocations in the millions or even hundreds of 1000s of dollar range. If you’re an individual investor, you might be making allocations in the 1000s or 10s of 1000s, of dollar range. So understanding that addressable market is really critical. Now investors, by the way, of course, include the various companies that are actually operating in the market. And in fact, we work with a lot of companies looking at m&a activity, and trying to understand how they can quickly grow and maintain their growth over time, because that’s also a big trick. And now talking about growth rate. This is always an interesting one, the fastest growing sectors of any industry are always the smallest because it’s very easy to grow from a small base. But maintaining that growth rate over time is sort of interesting. That can be quite challenging. If you look at that chart on the right, with the bar with the columns and a line that shows the growth of the market globally over time, with a diminishing growth rate. And again, that’s just standard economics principle.
But it’s hard to grow from a larger base. So why is it harder to grow from that larger base? Well, a lot of times you do run into these market dynamics that limit the total size of the market. So if you think about the grocery market, for example, the grocery market in the food industry is limited by the number of people in the world. So that is the the upper limit for the grocery and sort of food industry is how many people there are. And you can actually do that whole calculation based on the number of calories per person, and then the number of people in the world and get all the way back to what is the total addressable market for food going into consumers. And that is exactly the same sort of thing you can do with cannabis is look at the consumers in the population and understand what total addressable market is, then of course, you need to drill down into the different categories. Now you also have regulatory structures, as the other graphic on this page indicates where you have artificial limitations, especially in the United States state by state on what can actually be done legally within that state. And of course, we’re still facing federal or federal regulations around THC, in particular being illegal, while many of the other cannabinoids are now starting to become permitted.
And so as we think about this addressable market, it’s really critical to start with where the money comes from. So if we’re investing, we need to remember that all of the money in the cannabis ecosystem, every single dollar needs to be coming from the consumer. So this is a consumer driven industry. And that means we need to understand how many consumers are there? Well, BDSA starts that process with consumer research, semi annual survey, quantitative, looking at everything from census information all the way to psychographic information on needs, wants motivations of the consumers, one of the most interesting points to look at here, is this idea that the real addressable market is both people who currently consume, but also people who would consume given the right conditions. And this really gets us back to that addressable market concept. Because that number, in this case, 69%, as we look across fully legal states, 69% of the people 21 plus indicate that they would consume cannabis products, if given the right choices to make those consumption decisions. 31% are rejecting it. Those are the people saying even if you have all the right products for me, I don’t want to consume cannabis, maybe for a moral or ethical reason or health reasons. Who knows why. But really, we’re going to look at that 70% or so that are either consuming currently, we’re open to consuming in the near future.
So then we get into this question about why are people consuming, told the top reasons. We’re diving in on edibles here, in particular, the top reasons for edibles, really simple pain, sleep, and anxiety. And when you look across these, now, this starts to indicate to you where your investment dollars should be going. Because if people are using for pain, for example, you’re going to want to align those investment dollars with pain, or maybe with sleep or anxiety. And this allows you as you’re looking at investing to grow faster, because you’re not trying to convince people of a new reason to use, you’re jumping in on top of a reason they already have. Now, the BDSA research that we have dives very, very deeply into the motivations and the reasons for us. So these are the top three. But in reality, it’s a list of about 25 different reasons why people are using. Now many of those may overlap. And in fact, one of the things as investor to be very careful about is looking for elements of data where you actually have more overlap than you might otherwise expect. One area that I would look at here as an area of concern, potentially, is item number two and item number three. So sleeping better, and managing anxiety are the number two and number three reasons for using edibles. And there’s a question mark, around that data with regard to is that really a similar issue? Are people managing their anxiety in order to sleep better? And in fact, that’s one of the hypotheses from some of the researchers is that the sleep aid benefits of cannabis often come from anxiety reduction or stress reduction, not necessarily a biological sleep aid. And so this is an area of research both within the consumer
This segment, but also biology and chemistry, as we get better with these products.
Now why do people buy a particular product? Right? This is also where we’re looking to try to identify and sort of drill down into what motivates people. Right? If we think about, let’s say relieving pain, right? Why are people relieving pain? Well, obviously, nobody likes pain. Most people don’t like pain,
dive into what’s going to then influence your choice, high THC content, number one, right, that’s an interesting concept. To really get in there. Now you need to run that cross tab analysis to really think about is the pain driver really correlating well with high THC content. And that is an area of research Academy you need to dive into before making the actual investment decision. But this helps guide you in the right direction. And again, if you dive in on the PDSA day, you can actually get into those crosstab, analyses, taste and flavor. And then of course, price point. By the way, price points always, when I look at as an investor, price point is typically always important. You know, it’s almost never not on the list of top reasons why people purchase. But when prices go very high or very low, there’s also a big change in the impact of the price. So if prices go very low, that can actually be a driver of purchase, and becomes so cheap, I really can’t afford to pass it up. Think about going to Costco and getting a free sample and about you, you’re basically going to take it unless you’re like allergic to the food or something. Or if the price goes really high, you can essentially drive around and drive people away. So these are the indicators around price. They’re sort of interesting to watch out.
Now, we think about this analysis, and we think about the consumer, we think about pain, we think about sleep, we think about high THC. And we look at this. And then we start drilling down. And we start thinking about geographies. And in this case, for this discussion, I want to talk a little bit about two geographies that are pretty interesting. One is Colorado and one is Arizona. And the two are very interesting, in that Colorado is essentially the oldest fully operational legal market. So in 2014, the cannabis sales started in recreational dispensaries. It’s now the second largest market in the country after California, despite being a very, very small population state only about 6 million folks in Colorado.
What’s really fascinating there is that the both sides of the market, the growth of that market really has maintained, you know, the market is still growing very well, over time. And that’s been very interesting.
The medical market in Colorado has dropped off as more people have migrated over to the adult use market. Now, if we look at Arizona, they’re a great medical market, second only to Florida, in the Union for medical market. And again, very small population state, but very, very strong spending there. And the development of those markets is really interesting. And this is an area and I’ve sort of jumped through this. But in the PDSA data, it’s very easy to look through the various states and provinces of Canada, identify those fastest growing markets, look for the markets that have the best potential. And the largest size, because again, it’s very easy to look at a small state, let’s say, you know, you might look at, oh, a state like, you know, West Virginia or Maryland or Alaska and say, Oh, the growth rates are really amazing there. But the addressable market may not be large enough for you as an investor or as a company to want to be involved in. That is a legitimate concern for a lot of companies looking at Colorado, for example. Yes, the market is very large compared to other cannabis markets. But if you’re a massive company, it still may be a very small market, and frankly too small to warn your investment. So always a consideration to think about when we look at the data here.
If we think about product evolution within a market, this is also an area where PDSA excels and we’re diving in on the details of what’s going on, in this case in the Colorado market, looking at both medical and adult use. We’re looking at historical data. So this is from market initiation, and 2014 when Colorado legalized recreational sales, and it goes through 2018 and we can see the massive shift in the categories mainly moving from flour over to concentrates and edibles. So we’re seeing that large shift over but then we also have a very interesting developing area of
sublinguals topicals. So if you think, again, through this process as an investor, we start just trying to understand the total addressable market. We think about the consumer motivations and what’s really going on with the consumer. We look at the market forecasts, and we identify geographies and areas of opportunity for us, then we dive into the historic data. And we started looking at category shifts to try to understand where is this going in the future, right. And that is all guiding our decision making process, we’ve started to really eliminate uncertainty in how and where and when we should be making our investments into this particular industry.
And we’re gonna dive here into a little bit of detail. So this prior slide, we had those tiny areas about edibles sublinguals topicals. Well, now we blow that up, and we start looking at edibles, sublinguals, and topicals. in more detail, so we’re looking Colorado adult use 2014 2018. What happened with with the growth in these particular areas, and now we started learning that we’re seeing massive compound annual growth in these small categories. Now, you’ll recall, I started with that warning about the old economics principle that it’s very, very easy to grow from a small base much, much harder to grow from a large base. That’s the same problem facing Amazon and Apple, how do they continue to grow when they’re already so big?
In this case, we’re looking at compound annual growth, for edibles, they’re 37%. Right? So we grew from 51 million, almost 52 million to about 183 million in just a few years.
Even better, as you look at the compound annual growth in sublinguals.
This sort of identification of opportunity is something that differentiates investors who are really savvy about a market and an industry from those who frankly, will just jump in, and Chase, for example, flower, which as we go back one slide, we see flowers, a declining category as a share of the market overall, it is still the largest category, but it is a declining category. And as anybody who’s ever worked in a declining category, understands, it is really challenging to compete when market share overall for your category is declining.
So we look at edibles, we look at sublinguals, we look at topicals. Now this also ties in to the regulatory dynamics for a particular industry. And we think about for example, sublinguals topicals, are they even allowed in certain states are edibles allowed in a certain state. And that is a weird nuance of the cannabis industry that’s maybe only replicated in other industries like alcohol, where you can have state by state regulation that changes what can and can’t be sold. So something to really think about is understanding the regulatory structure for each state that you’re looking to go into, and then applying it to these different categories and understanding what’s going on there.
Of course, as we look at a small category, or smaller categories, like edibles sublinguals topicals, we want to think about the potential for that. And as we look at that, we have to first recognize that the inhalable category is still going to dominate. So we’re playing with the smaller end of the market. We’re looking now at a smaller group of categories in the market. That’s not necessarily a bad thing. But we need to understand that our investment thesis we started to migrate into a smaller addressable market. Now we look at the growth over time, and we’re starting to say, hey, are we predicting growth. And that’s, again, we look here at the btsa market forecast, looking at a couple of years, where we are starting to see growth in those categories are really continuing to see growth in those categories, which we will expect is going to trend in a similar way to this slide, that prior slide that showed Colorado’s historic performance. So we’re using historic data to inform the predictions going forward over the next couple of years. And that is the real power of the PDSA data set. Now, with six years of history, we’re able to actually do deterministic modeling, using all of the available data in the system to look forward at the category growth over time. Now one other thing to consider here is understanding the underlying price dynamics. And we can look at pricing within the PDSA system and see for example, that topicals sublinguals likely to have a much higher prices right edibles, even will have higher prices. And this is very standard economics again.
Anytime you’re adding value to a commodity product, you can charge a higher price. And that’s all we’re doing. We’re taking the the cannabis plant that chemical factory, we’re extracting, let’s say THC from the plant, we’re putting it into, let’s say, a gummy, and we’re selling the gummy. And people are willing to pay more of the gummy because it’s convenient, the dosages discreet, it’s a known quantity, it’s easy to store, etc, etc, etc. All of that leads to that higher price point and theory, better return for the investor.
Of course, we need to be thinking, again about state by state dynamics in the market here. And it’s really critical for us to understand these state dynamics, because they will absolutely bite us if we ignore them. One of the big questions is what are the limits on the business growth? Right? How quickly can a market get to full manufacturing capacity? What is the availability of raw inputs into the system? can anything be consolidated and shipped across market boundaries. In the US again, state boundaries operate essentially like national boundaries. So one of the things I often mentioned to folks who are investing in the cannabis sector, or running cannabis businesses is to look to examples that we see in other areas. Coca Cola has done a multinational approach, using different bottling facilities, and in many cases, different corporate structures in each country to help manage that process. In the US, we see alcohol companies broken up, let’s say by region, or you’ll see insurance companies that even break up by region, because they know it’s very hard to operate across state boundaries. But these are really limiting factors. As we look at tackling the market. We’re gonna dive in on a weird limiting factor. For a lot of people things. This is one that bites most investors in the but they don’t think about this ahead of time. And that is the availability of testing labs to actually conduct safety tests on the product that a cannabis company is bringing to market.
Now, for those of you not familiar with it, the basic regulatory structure in almost every state is that every single cannabis product must be safety tested by a third party lab prior to sale in a dispensary in a regulated cannabis channel.
What this means is that there is a demand for third party testing labs to conduct the testing, the state will set the regulatory standard. And then the labs need to form as independent businesses and get certified and then maintain their licensing. As you can see, California is a good example of how this goes a bit haywire.
They set up their new regulatory schema 26 labs were operational in March, December, they were up to 52. And then they dropped back down to 33. Now if you think about this, let’s say you’re a cannabis company, you’re an investor into a cannabis company, you’re bringing product to market, everything is rocking and rolling, and you’re doing great, except you can’t get the safety testing done on your product in a timely manner. That means your inventory is sitting in the back room somewhere, it is waiting for authorization to be shipped out. And therefore your cash flow suffers. And this is the sort of regulatory dynamic that comes up right and left in the cannabis community. It’s another reason that you need to do very detailed research and really look at the market that you’re going into before you launch into it. And many companies over the last two years have been dealing with the pain of the California market maturation, because it really has taken a long time, we’ve seen the same dynamic play out in Massachusetts, and in Michigan, where regulatory structures artificially limited growth rate. Illinois, we’re seeing shortages on the supply side that are limiting access to product and limiting cash flow, of course for the businesses involved. And really, that comes from this concept that we’re building an entire ecosystem. None of this stuff really exists for cannabis companies already. So when we go to set up a new market as an industry, so when the cannabis company says, Hey, Texas is finally going legal. Well, we’re gonna have to see all of this setup in the Texas market. You need to have brands that develop for Texas, you need to have manufacturing facilities, and formulations designed, you need to have all the regulation that works with it. And that goes all the way through to distribution marketing and retail. Pencil can take a very, very long time, much longer than people are expecting to actually see these emails
Systems develop. And that’s why it’s fascinating to look at the mature markets like in Arizona or Colorado and understand what is that dynamic over time. Especially if you’re looking to jump in, you know, for example, Missouri has come up with a bunch recently as a market that’s likely to open up pretty well soon. What’s Missouri gonna look like? There’s a good chance this already looks a lot like in Arizona over time.
The other thing to look at that’s really fascinating is this idea of legal cannabinoids. So THC I mentioned is currently illegal. That is a schedule one drug a US federal law, it is still considered illegal. Now, we all hope that changes. And I think the expectations are that it will change relatively soon. In the meantime, the cannabinoids over on the right there, CBG, CBD CBN, etc. are really getting into this legal status, which is great to see. Now, I do have a word of caution there in that a lot of the handling of CBD, CBC CBG, etc. A lot of those regulations are still being written and still being interpreted. So there was recently one that came out, for example, from the DEA talking about processing for CBD. And making sure that no, we’re in the process Did you exceed the point 3% THC limit, which if you know anything about chemistry, that’s actually a pretty onerous requirement that they just sort of placed on the the extraction industry, so something to be aware of. But the real takeaway from this slide is you can ship some cannabinoids across state lines, CBD being the big one CBD in topicals is a legal product across the US. And that’s really cool to see. And we’re hoping to see the rest legalized relatively soon.
From an investor point of view, the biggest consideration here is what is the difference going to be in the overhead and capex requirements to expand right now, versus in the future when you can ship across state lines. And this is a major consideration. If you’re looking at setting up manufacturing facilities, extraction facilities, etc. You know, normal manufacturing, you’re going to set up in Ohio and Nevada or something. And in cannabis, you ended up doing it in 50 different states and replicating your overhead cost 50 times, that’s incredibly painful for everybody involved in the future that is likely to fade away to some degree. Now, we may still see state Import Export limits, like we do with alcohol and some other things, distribution agreements, etc. But the expectation is that over time, those state boundaries will fall. And you’ll be able to ship across the different states from a central facility. So word of caution for every investor out there thinking they’re going to build a $50 million facility in Colorado, that may not be the right location to service the entire country. And you may end up really regretting putting all of that capex in right now.
So with that, as we reach the end of our 30 minutes now, this is a two part series. Next week, or sorry, in two weeks, we’re going to be diving in on Arizona and Colorado, those markets that I selected to really understand a little bit more about the market. So talking about what’s really going on in those particular states. Also, how would we identify targets for m&a? So let’s say we were going into these, how would we look for targets for m&a? How would we look through the BSA data and search through it trying to find those companies that are going to be most beneficial to us as investors? And then how do we think about determining the value of those companies? How do we think about their growth potential? How do we think about the timing of their market development? How do we think about the risks that they may face going forward? So I look forward to speaking with folks in a couple of weeks. And I’ll dive in on questions that I may have missed while I was speaking. So just double check q&a.
All right.
All right. So john,
had a question.
Hope the link for the recording Yes, we can definitely get the link for the recording out. Tina will take care of that for us after this.
So Chris had a question about Arizona and Florida medical market side. You know, are they in a sort of one into one
The medical market because of the population being a bit older, on average,
you know, there’s definitely validity to the age issue on the medical side. But the other piece is their medical programs are relatively permissive as an investor when you’re looking at the viability of a medical program and as BSA as we look at forecasting and market growth, one of the questions is how is a medical program defined, and they generally range from the very liberal, meaning. Chronic Pain is listed as a condition, which I think most of us over the age of about 30 have some form of chronic pain,
or very, very restrictive, meaning things like terminal patients only allowed into the MediCal program. If it’s a permissive program, you’ll see pretty good adoption in a medical market. If it’s a very restrictive one, obviously, people just cannot get their medical cards, and they don’t therefore, contribute to the retail sales. There is an interesting dynamic in some states like Oregon and California, that are fully legal, they still have medical markets per se. But it’s not as differentiated as in places like Colorado, where the medical market is a very distinct, it’s a separate storefront, you have to have a different license. Everything is completely and utterly segregated from adult use to go to medical.
All right, and I think that wraps up the questions I see and hear. And again, looking forward to getting a chance to continue this conversation in about two weeks. The link for this recording will be available shortly after this presentation ends. And if you have questions in the meantime, feel free to drop us a note. Just info at BDS analytics comm you can submit a question into us or go to the website and use the contact form. They’re happy to try to customize the next webinar for specific questions that you may have. Thanks again for your time and attention. very much appreciate it and look forward to talking with everybody in two weeks or so. Thank you