Investment options and due diligence in the fledgling cannabis industry

Posted by Andrew Borowiec on Dec 19, 2018 1:13:54 PM
document-report-investmentDoing investment due diligence on an opportunity in the cannabis industry is a big challenge for even the most seasoned due diligence professional. Up until relatively recently the market was a wild west, prone to crazy bubbles fuelled by unrealistic expectations.

In this final part of our 3-article series, we take a look at the options open to an investor in this tricky market and some of the key questions that should form the backbone of your due diligence investigations.

Your options in cannabis investments

The first thing we’re going to look at are your four main options when it comes to investing in this market. Your choice, as with any investment, will be guided by your particular firm’s risk appetite and skill set.

  • Buy a stock: This is a pretty obvious one, but does mean direct investment which some firms are still not comfortable with. That said, it’s becoming a very mainstream option if your firm has the appetite for it, with some of the main ones such as Tilray trading as much as $1 billion a day.

  • Mutual funds: If you want to avoid direct investment you can look at some of the emerging mutual funds. Two of the biggest are Horizons and ETFMG Alternative Harvest, both around $770 million each, the first focused on Canadian licensed producers and the second more of a mixed bag with some non cannabis related holdings such as tobacco.

  • Investment corporations: These are a single vehicle, a company, not a fund, examples of which include CGOC and QCA on the CSE. They allow you to invest in private placements, many of which are pre IPO. An advantage here is that you get access to these smaller, earlier stage businesses but have complete transparency over who they are. There is a query over the skill level of those running the current leaders however, as their background in investment isn’t as robust as you’d ideally want.

  • Private funds: These attract significant investment, between $50-100 million. There is a large and growing list of funds in this space, some of whom are writing big cheques. As in any space identified as a new opportunity, caution is advised as fraudulent activity is a possibility.

Doing due diligence on cannabis investments

There are a number of key questions that are essential to ask of any potential investment in the cannabis space. In this second half of the article we look at what they are and why you should be asking them.

What did you do before cannabis?

The legitimate cannabis industry is just a few years old, so all the senior players you’re looking at for your due diligence will have a background that doesn’t involve cannabis. It is important to dig into what that was and how they feel it contributes to their effectiveness in their current role.

You also want to ensure that all the senior personnel have taken appropriate steps to acquire the relevant knowledge specific to this domain since making the transfer into it. A rookie is just as big a risk as an outlaw.

Are you a specialist?

Regulation and compliance are a huge part of any firm’s success in this space. As such, those who specialise in a particular territory or aspect of the trade are more likely to provide a safe bet than those who are trying to do too much with limited resources. This is an industry where the real success stories are those who are able to thrive in a highly regulated and restricted space.

Does the fund focus on licensed producers or ancillary services?

Some firms consider ancillary services to the industry to provide less of a risk and to be easier to scale which is why some firms prefer to invest in this business category rather than funds focused on licensed producers.

What background checks can I do?

Whether it’s pulling publicly available information, due diligence questionnaires, site visits and interviews or even hiring private investigators, you need to map out what information you need and how you’re going to get it, even using unconventional means.

What are your pricing assumptions?

They should fall over time. Don’t underestimate the commodity value of cannabis.

How do you verify your compliance?

This sounds like an obvious one, but you have to check this properly to avoid being caught out. Otherwise sound operations can be folded up overnight due to relatively minor compliance infractions in this industry.

 

If you’ve enjoyed this article, why not check out the webinar recording that inspired it? In just 45 minutes, you’ll learn everything you need to know about the cannabis industry and investing in it:

 Enroll into the course

Tags: Cannabis Investing, Cannabis Funds, Due Diligence

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