The visionaries and dreamers have stepped aside. Now those with the business acumen and operational pedigree have stepped in to establish viable business models.

That’s one of the key observations on the cannabis sector from Michael Curtis, the Toronto-based managing director of production and investment company Embark Inc.

The company now has a direct Australian focus, after receiving a $2.65m investment from ASX-listed MMJ Group Holdings (ASX:MMJ) in 2018.

From that position, Curtis has a unique vantage point to assess the current state of the Australian market with reference to Canada and the US — all of which are at different points on the regulatory spectrum.

Embark adopts a dual operating structure based on operations and investment, with direct ownership of cannabis extraction facilities and a portfolio of investments with different sector exposures.

The model proved successful for Toronto-listed Canopy Growth Corp, which now has a market capitalisation of around $C16 billion ($17.4 billion). (Although ex-Canopy CEO and industry pioneer Bruce Linton stepped down in early July, and the shares are down 35 per cent from their 2019 peak).

But as cannabis investors know, there’s never a dull moment in the sector as it charts an unknown path through new production technologies and regulatory approvals.

Speaking with Stockhead, Curtis discussed some of the most important industry trends and where the opportunities are both domestically and abroad.

Cannabis 1.0 is over

For starters, Curtis emphasised the industry has grown up. But there’s still a long way to go to reach full maturity.

“I describe Cannabis 1.0 as the cannabis dream; that’s where you had the visionaries involved and a key part of the value proposition was removing the stigma associated with marijuana products,” Curtis said.

“Industry 2.0 is where people that’ve run very large businesses enter the industry, with a focus on financial metrics and profits.”

He pointed to Bespoke Capital Acquisition Corp, a Canada-based company founded to assess potential investment opportunities in the cannabis sector.

The company filed its prospectus last week ahead of a listing in Toronto, where it plans to raise up to $US402.5m ($571.2m).

Bespoke’s executive chairman, Paul Walsh, ran $80 billion global beverage giant Diageo for 13 years until 2013.

Curtis said his entrance represents a shift where industry veterans see the business case for cannabis to be the next big growth area in the broader food and beverage sector.

Given the sector’s relative stage of maturity, “we haven’t yet seen any of the big global brands”, Curtis said. “As we sit here today, they don’t exist yet but I think they’ll probably be built by folks like Paul Walsh.”

One (small) step forward

Cannabis investors looking for opportunities in Australia need to factor in that relative to North America, the local regulatory environment still remains relatively restrictive.

The clearest example is in the approach towards cannabidiol (CBD) products derived from hemp, and the THC compound in marijuana.

Australia actually moved before the US in legalising industrial hemp (November 2017). But as Stockhead’s Rachel Williamson highlighted in June, competition is hot (both locally and abroad) and the new laws haven’t provided a green light to generate fast revenues.

In addition, using hemp-extracted CBD products in Australia still requires a prescription from a doctor.

On the THC side, the regulatory environment in Canada — where THC production is legalised at the federal level — still looks some ways off.

THC has been legalised in various US states, but not by federal lawmakers. In that environment, Curtis says Embark and MMJ need to stay ready to capitalise on any potential shift.

“In this regulatory regime, it might be slow but it’s always a step forward — over the last 25 years it’s never actually gone backwards. The steps forward might be a lot smaller, but they continue to march ahead,” he said.

“Our view is that once the US goes fully legal at the federal level, there’s a long list of other countries that will fall into line.” On that front, he’s assuming full legalisation will take place “within the next five years”.

For now, “if you’re an Australian-based investor only looking at individual cannabis companies, you’re probably going to want to take the portfolio approach and look at exposure to other markets”.

While Embark and MMJ will focus their portfolio on western markets, “all the different geographies are at different regulatory points”.

“So we’re mapping them, following them and figuring out when the right time is to deploy capital,” Curtis said.

Specify bottlenecks

Curtis said that once a stable regulatory environment was in play, a rush to meet demand would ensue as the industry deployed capital to build out the necessary infrastructure.

In that context, Embark’s investment thesis is to pinpoint supply “bottlenecks” as the most profitable strategy before the industry consolidates.

For example, one of the company’s largest positions is in Harvest One, a Toronto-listed producer serving both the medical and recreational cannabis markets.

“They’ve already got an extensive retail distribution network; as new brands enter the market they all want distribution, they don’t just want to be selling their product out of one cannabis store,” Curtis said.

On the production side, he thinks CBD extraction is likely to be the most important pain-point in the short-to-medium term.

It’s still early days, but companies such as Coca-Cola have been linked to the manufacture of commercial drinks using CBD extract. And eventually, Curtis thinks CBD is going to become “almost like a vitamin that people take on a daily basis”.

He said existing facilities have the capacity to process around 50 tonnes of CBD isolate per month, which would only be enough to service a company like Coca-Cola for “a small bottle run”.

“It’s going to be a huge bottle neck that will take many years to clear,” Curtis said.

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