OUTLOOK

Significant Trends for 2023

• Commodification-based wholesale pricing declines will continue. Prices have firmed somewhat in California in the last month, as harvest volumes are down due to cultivators leaving the market. Damaging storms will likely result in additional supply curtailment and temporary maintenance of higher pricing. Make no mistake, though; it is no accident that the same price dynamics have played out in California, Oregon, Washington, Colorado, Massachusetts, and Michigan. It is what happens in every agricultural commodity market where supply is unconstrained. The fact that cannabis is primarily a commodity should be apparent by now. Despite relentless urging by the industry to focus on things like terpenes and secondary cannabinoid profiles, cannabis users continue to buy the highest potency for the buck.

• The wholesale pricing collapse lays bare the fallacy that branding will support pricing, which is unlikely to be the case until brands can be marketed seamlessly across state lines and advertised. And this will not be the case in 2023 or even 2024.

• Recent progress on inflation is good news for the industry. Inflationary cost increases have exerted strong  downward pressure on margins due to the inability of cannabis companies to raise prices. Next, we will likely have a real test of the industry mantra that cannabis is recession-proof. The last recession, when people were locked in their houses smoking their stimulus payments, was not a fair test. We don’t doubt that cannabis users will continue to maintain a relatively steady usage level, but to what degree will they trade down to the lowest-priced products vs. premium brands? And to what degree will a pressured consumer revert to purchasing weed in the “legacy” market?

• We expect little progress in 2023 on federal legalization, descheduling/rescheduling, 280e, or banking reform. While we have been humbled by our lack of ability to handicap action or inaction in Washington, we believe the key takeaway from the 2022 midterms is that cannabis is not a powerful enough issue to sway votes. No legislator fears losing his seat because of inaction on cannabis; accordingly, attention will turn to other matters. We hope we are wrong on the upside this time.

• The cannabis capital markets are off to the slowest start since before 2018. Since we began tracking the industry in 2014, we have never seen a year where no U.S. closed deals in the first two weeks of the year.

• The recent announcement by Lowell Farms (LOWL: CSE) that the company has hired a banker to study “strategic alternatives,” including acquisitions, divestitures, financings, or restructuring, is the equivalent of the old Sherlock Holmes line that “the game is afoot.” 2023 will be a banner year in rescue financing, distressed M&A, and restructuring both in Canada and the U.S. One of the largest MSOs recently told us that they expected most of their M&A activity to be purchasing distressed assets.

• As painful as it is likely to be, we believe this period of belt-tightening and consolidation will result in a healthier industry better positioned to face the challenges of legalization when and if it arrives. In 2023, good equity analysis means solid credit analysis, as many companies will not survive the upcoming period.