Investing in cannabis stocks: The active vs. passive approach
With the pathway to pot legalization now in the rearview mirror, the next big cannabis market mover appears to be coming from south of the border.
As major U.S. cannabis firms make their way to Canadian capital markets, no venue has embraced them as much as the Canadian Securities Exchange (CSE), which has benefited from a policy that welcomes issuers that operate in the U.S., standing in contrast to the more restrictive policy in place at TMX Group Ltd., the country’s dominant exchange operator.
And those U.S. pot companies are wearing out the CSE’s welcome mat.
Curaleaf Inc. is expected to soon raise about $525 million for a market valuation north of $4 billion when it trades on the CSE sometime this month, according to two people familiar with the company’s listing plans.
Harvest Enterprises Inc., an Arizona-based producer and retailer with operations in 10 states, is another U.S. cannabis company eyeing a CSE listing, and aims to raise at least $50 million at a $1.5-billion valuation, the sources said.
Bloomberg has also reported that Acreage Holdings, which recently added former Canadian Prime Minister Brian Mulroney to its board of directors, is looking to raise $200 million in a private placement via a reverse-takeover that would value the company at between US$2 billion to US$2.5 billion.
“What we see here is a reflection of investor appetite,” said CSE Chief Executive Officer Richard Carleton in a recent phone interview with BNN Bloomberg from Tel Aviv where he was courting Israeli firms to list on the exchange. “[Cannabis] is a real business and we’re bringing it from the dark into the light.”
Harvest Chief Executive Officer Steve White, who declined to specifically comment on his company’s listing plans, said the CSE’s willingness to embrace U.S. pot companies is going to be the “best move that it’s ever made.”
“You have an exchange in Canada that has opened its arms to U.S. cannabis companies. You don’t have that in the United States,” said White in an interview with BNN Bloomberg, on the sidelines of a recent conference in Toronto.
But that’s not to say that Canadian pot companies have yet to make their way onto Wall Street. Although several producers such as Canopy Growth Corp. and Cronos Group trade on major U.S. exchanges, that list pales in comparison to the dozens of pot firms that opted to list on an exchange that has opened its doors to the volatile industry.
The CSE was launched in 2003 and was formally approved as a stock exchange by the Ontario securities regulator in 2004. Since then, it’s grown to offer an alternative to the much-larger TSX and TSX Venture while carving out a reputation as a market that caters to entrepreneurs. Although its trading volumes are dwarfed by the TSX, the CSE has seen a staggering rise in trading activity over the past few years thanks to its embrace of the cannabis sector.
Along the way, the CSE has seen its share of growing pains. Bloomberg recently reported the exchange ran afoul with a shareholder rights advocate who criticized its policy of publishing investors’ personal information. Greg Taylor, a portfolio manager at Purpose Investments, added that companies listed on the CSE often suffer from lower valuations than those listed in the U.S. or on the TSX.
Meanwhile, TMX Group sent a notice in October 2017 reminding its issuers that every company listed on the TSX or TSX Venture must comply with all the laws and regulations in the federal jurisdictions in which they operate. In other words, even if a U.S. state deems marijuana legal and the company does business in that state, it’s unable to trade on a TMX Group exchange given that cannabis remains an illegal drug federally.
That warning spurred some producers to reevaluate their holdings in order to stay in the good graces of TMX Group. For example, Aphria Inc. had to divest its stake in Liberty Health Sciences Inc. for $59 million last month to remain compliant with the TMX Group’s policy.
The CSE, on the other hand, didn’t fret when it came to what jurisdiction its issuers operated in as long as disclosure requirements were met. Thus, an opportunity emerged for U.S. cannabis firms to be lured on the Canadian exchange.
Issuers raised $2.4 billion in the first nine months of the year, $1.54 billion of which came from cannabis companies, according to the CSE. That’s a big jump from 2017 when $1.37 billion was raised throughout the year, $691 million of which came from pot companies.
Carleton noted the U.S. players that are now opting to tap capital markets through the CSE are generally more mature than early-stage Canadian pot companies and tend to already be profitable with a more robust operating history.
“Those companies are commanding larger and larger market capitalizations when they do enter the public market,” he said.
But investors should remain aware that companies that list on the CSE may be riskier than issuers that opt for the TSX or other exchanges, said Jos Schmitt, chief executive officer of Toronto-based NEO Exchange, which does not list smaller, junior-level securities on its platform.
“I’m a very firm believer that you have to be very cautious when you go public,” said Schmitt in an interview with BNN Bloomberg. “If you look at the venture space, we know there’s a reasonable probability that companies may not succeed.”
Additionally, Purpose Investments’ Greg Taylor noted that some U.S. retail investors may be unable to trade CSE-listed stocks if their brokerage doesn’t have access to the junior exchange. Institutional investors also often eschew investing in companies listed on the TSX Venture and CSE, which are home to the bulk of the cannabis sector.
“It’s a more striking contrast in the marijuana space because it’s more retail than institutional,” Taylor said.
Carleton isn’t turning a blind eye to some of the criticisms directed at his exchange. He told BNN Bloomberg the CSE has been adding staff to conduct more thorough background checks and review company listing statements and disclosures more thoroughly. While he can’t provide specific figures, Carleton noted that it is “not uncommon” for the exchange to force some pot companies to sever ties with insiders who have evidence of criminal activity and “anti-social behaviour” prior to their listing.
“At the end of the day, no screening process has been perfect but we do the best that we can,” Carleton said.
Cannabis Canada is BNN Bloomberg’s in-depth series exploring the stunning formation of the entirely new – and controversial – Canadian recreational marijuana industry. Read more from the special series here and subscribe to our Cannabis Canada newsletter to have the latest marijuana news delivered directly to your inbox every day.