Countries around the world are bringing marijuana out of prohibition, and the legalization trend shows no sign of slowing down.
In this week's episode of Industry Focus: Healthcare, Kristine Harjes interviews Bruce Linton, the CEO of Canopy Growth Corporation (TWMJF +6.48%), the biggest marijuana pure play on the market, about some of the most exciting and challenging parts of running Canopy. Listen in to find out what Linton has to say about why federal compliance is so important for a company like Canopy, how the black market fits into the post-prohibition picture, how Canada's upcoming shift to legalizing marijuana for adult recreational use will affect the company, and more.
A full transcript follows the video.
This video was recorded on Nov. 29, 2017.
Kristine Harjes: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day. I'm your host, Kristine Harjes, and you're listening to the Healthcare edition of the show. I have a very special guest calling in today. His name is Bruce Linton, he's the co-founder, chairman, and CEO of Canopy Growth Corporation, which is the largest pure-play marijuana stock. Bruce, I'm so glad to have you on the show today. How's it going?
Bruce Linton: It's great! I'm really pleased to be here. Thank you!
Harjes: Wonderful. We have mentioned Canopy on the show before, but for our newer listeners, can you give us a quick rundown of what your company does?
Linton: Sure. Canopy trades on the TSX under the ticker WEED. We operate in six countries. In Canada, we operate, as well, in six provinces. The governance and public policy of Canada that led the opportunity is, we've had medical access in Canada since 2001. In 2013, they updated it so that the production of cannabis was governed in a sense like narcotics, and that allowed us to register patients and ship directly to them across the country. And because of that, I'll call it, federally, state and local compliance, when countries like Germany or Denmark or Brazil go federally legal look for a source of originating product, they come to Canada, and they come to us first for each of these kinds of jurisdictions. So that's allowed us to become international and fairly substantial, with about 650 employees and revenues that seem to double pretty much every year.
Harjes: Before we turn to some of the intricacies of operating in Canada, you mentioned the international relationships that you have. I want to ask you, which of those countries are you most excited about?
Linton: As a region, Europe is really moving rationally. There's activities in South America; there's some things going on in Australia. But if you look around the entire European region, it's starting to become more common for each country to have what they call an Office of Medicinal Cannabis, which is essentially a bureaucratic structure to enable cannabis to become regulated in that country. More of them have that than don't. They range from Germany to Denmark. So, you know, if Denmark is doing it, it's not very long until you'll see Finland and Sweden and other regional areas. With Germany doing quite an aggressive and I'll call it rapidly developing infrastructure, the rest of Europe generally looks at Germany and says, "If they're doing it, it's probably pretty rational." So I think that region, led by Germany, is the next big wave. We don't currently participate in the U.S. because of our method of operation, which is, we'll only go where we're federally in compliance.
Harjes: Right. Many of our listeners are United States based, so that's definitely something to note. You have made it very clear that you're not interested in operating in countries in which marijuana is not legal at the federal level. Even though it's legal in 29 different states and there's recreational use legal in eight, it's still labeled as a Schedule I narcotic, so you're not interested. One of the big reasons there, I know, is because the TSX has issued notice that companies with stock listed on their exchange that are operating in violation of the U.S. federal laws related to marijuana are no longer compliant with the listing requirements, so they could get potentially kicked off the exchange.
Linton: Yeah, that's one of probably 20 reasons why we don't do it. They also include, if I'm going to enter other geographies -- so, if I wish to work in Germany, and if in their application or request for responses, if they ask the question, "Are you in full federal compliance in all the jurisdictions you operate?" and you answer no, how far do you think you get in that process?
Harjes: Yeah, that's a great point.
Linton: So I think exiting prohibition is really what we're trying to do. And if you do that, you can only exit prohibition when you act lawfully.
Harjes: Right, playing by the rules. Something that I wanted to dig into is the details behind Germany a little bit. From my understanding, the country needs to import marijuana while it sets up its regulatory processes for internal production. Once that framework is set up, how does that change the relationship that you have in Germany?
Linton: You have that bang-on; we're kind of priming the system. In most countries, you'll find that the intent is actually to produce in those countries. And there's a bunch of reasons for it, in terms of economics. This is a good economic development tool, but there's also treaty reasons. So, what will happen in each country, and Germany will be the same, if you're operating there and you have a wholly owned subsidiary, you could be issued a license. And if you're issued a license, it's sort of like creating the bottling plant for the beverage of choice. You'll have your Irish one, your German one, your Danish one. And in each country, we will end up creating, if it's permitted, the growing, extraction, packaging, all the infrastructure necessary. Right now, we own, in Germany, licenses to import cannabis and licenses to distribute cannabis, we're just missing the one which is to grow it.
Harjes: I'm sure, as the regulations progress there, you'll be following the model that you've already established in Canada for expanding and acquiring and working with smaller growers to try to expand that network.
Linton: Yeah. I find that with a rapidly changing, growing, evolving business, to have a partnership where 49-51 is not a very good idea. So, in all geographies, what we do is look for people who have some benefit and an economic opportunity for them, but it becomes 100% controlled. So that's really our operating model. It's not that we're trying to be difficult; it's just, we want to go fast.
Harjes: Yeah, makes sense. I want to focus a little bit more on Canada, which is where the majority of your business lies. Canada is about to go through, potentially, a really enormous shift in marijuana usage in the country. Can you talk a little bit about that?
Linton: It's been governed, as I mentioned, since 2001 as medical. It was a Supreme Court decision. Over the last five years, it's been governed where it's a well-structured delivery system, which is what Canopy is a part of. We have about 240,000-250,000 Canadians who have gone to a doctor and gotten a medical access form. That number seems to keep growing, and we would expect, as we do more and more work to evolve and create, I'll call it really true medical products, where it's soliciting and being able to claim a response against an indication, that number will keep growing and it will be very disruptive to a lot of other medicinal ingredients. But in July of next year, 2018, the federal government is enacting a method of access which is called adult recreational. So we'll go from having 250,000 patients now, maybe next year at this time, we have 400,000-450,000.
Then, some number of Canadians, and I think quite a few, maybe 3 or 4 million, are going to be sufficiently curious about being able to buy federally approved cannabis at provincially regulated stores, so they're going to try some, which means they're going to buy some. So the size of the market and the range of products is growing pretty huge year on year, if you think about the current size today versus next year at this time.
Harjes: Yeah, the total addressable market will completely shift once this happens. What has your company done to prepare?
Linton: We started off in a Hershey factory, about five or six years ago. That served all of Canada, and then they left. It also started with the name called Tweed. When you put Tweed inside of a chocolate factory and you become the first company to go public, you begin a begin a bunch of steps that build credibility and brand. Then a fellow name Snoop Dogg approached us about two and a half or three years ago to say that he thought our brand was interesting and wanted to work with us, and that become a pretty big splash. And then about five or six weeks ago, we concluded and announced an association with Constellation Brands, which you would probably associate with wines of high quality and Corona as a beer and things like that. They're working with us in a relationship where they own about 9.9%.
But all of these things are stacked so that we can create first exiting prohibition branded products, where people walk into stores that are fully legal and fully validated and make consumption choices, that, I think, if we do a great job in the first year, we probably have a brand loyalty that lasts for a generation. So that's what we've been working on.
Harjes: The Constellation announcement was huge. That made national headlines. It was a $245 million investment. How exactly does that fold into the strategy?
Linton: This is going to sound alarming, but it's not actually about the money. What we really started talking to these guys about was, how do we segment customers, how do we approach them, what are the preferences by price point serving size? And we had a great dialogue. While they're a Fortune 500 company, I would say their DNA and behavior is that of an extraordinary entrepreneurial, aggressive company, and we love them. So, we thought, if we could work with them on that level, then investing would actually be a positive. So, it kind of came together with the cash, and it took about eight or 10 months of interacting to conclude what we thought was the right balance for both parties.
Harjes: Do you have any plans for products? New products?
Linton: What we're doing is, on a global basis, they are our adult-beverage partner. If you, as an adult, are permitted to buy cannabis in a beverage format, and it's coming from Tweed, it'll be with those guys. And we're working as their cannabis partner. And we fit as a cannabis partner because we, as I mentioned earlier, do not contravene any U.S. laws, which is why they could invest, but it's also why, substantially, U.S. funds can invest in Canada in Canopy. They're not sending their money north of the border, have it rerouted back to south of the border. That's a pretty big deal, because I think that's going to be the basis by which institutions choose to invest in the space. It'll be those that meet the TMX or TSX criteria and those that don't.
Harjes: Yeah, it does seem like your company has been very deliberate about preserving an upstanding image, and really having a good reputation. This is something that I think is going to be important at the individual consumer level, in terms of differentiating your brand. Which leaves me to the next question that I wanted to ask, which is, how do you reach new customers, and how do you market and maintain an individual name within a fairly large market?
Linton: These are the sorts of things, because we can't run TV ads saying our product is great, we're governed a bit like somewhere between tobacco and alcohol. What you try to do is, a lot of media, you try to have a narrative and continue to get it out there. We've done a pretty good job of making sure that Canadians, and now many people in the world, are familiar with that brand. Then you make sure that the format of the product and the way that it's provided is what they expect from the brand promise. So, initially, the products that will be sold under adult access or rec will be pretty simple, but they're going to evolve rapidly. And they will be, in my opinion, beverages, and they will be vaporizable products, and things that, if done properly, really are, I'll call it clean, sophisticated, consistent. So that's on the adult access.
Then, on the medical side, the way the brand builds is, we have a division called Canopy Health, and for about two years, we've been laying out research plans, beginning research plans, filing intellectual-property patents, and working our way through creating what we think will be quite disruptive cannabinoid-based products for a range of indications. And the first one, which we put our 27 patents against, is sleep. I think you'll find that the brand development in medical is very different than in adult access, because the big kerfuffle for people in medical is, does this actually have any evidence of efficacy, and why isn't it a medicine? Well, my response has historically been that criminals don't typically sponsor medical trials. We are running a real business, and we're beginning those.
So over the next year or two or three, I think you'll find, on the medical side, a range of very disruptive products, that when proven through Canada and the processes here, will be protectable and usable around the globe.
Harjes: And what's the current state of that pipeline? How many different indications are you working in, and what sorts of phases are we looking at?
Linton: We're working on four human indications, and one, I'll call it companion animal, because there's good carry-over information. In Canada, with the 240,000-250,000 patients who are on this, really what they are in is effectively a phase IV clinical trial. They are consuming a medicine; however, they are not structured against a target data set. So we did a pretty broad survey of about 6,000 of our current patients to see, why are they consuming it, how frequently, what indication. Then we started narrowing down which strains against which indication, so we could start the process of the patents, which are filed. Next up, we put a range of people, 60-80, into observational trials like an overnight sleep trial. And that data set we'll gather from that, which will be a double-blind approach, will give us enough information that we can, we think, actually validate many or all of the patents that we filed with the novel data set.
So that's the kind of work program. Then, you rinse and repeat again for the next three indications, which we haven't publicly disclosed. Currently, we have a division which is pet veterinarian care, and I think that market will have a pretty good response, cannabinoids, both with the canines and the veterinarian community.
Harjes: That'll be really interesting to watch.
I have a broader, theoretical question for you about Canada and the full legalization of marijuana there, and specifically, what sort of factors go into the role of the black market, and whether you see the black market as a constant source of the competition, or you think it's something that will eventually play a fairly minimal role. I'd be interested to hear your thoughts about the black market in general.
Linton: It's very similar to alcohol prohibition changing. The black market right now is really a minor criminal competitor in the eyes of law enforcement. But as soon as taxation is collected on recreational, I think it will probably be perceived as someone stealing the government's money. And in Canada, as I think you'll find in America and everywhere else, where there's a new tax line that comes up, there's quite a lot of squabbling over who gets to get what proportion of it -- municipal, state or federal. They all want to collect it. So, when we come out of the gate, we'll probably have products that match up with about 40% of the black-market offering, because we're not selling vapes, we're not selling some very concentrated products.
Over time, meaning 18-24 months, I expect that the governance model will allow us to introduce additional products, which will compete more directly with all of the black market, and the price points and taxation aren't quite so extreme, then I think we'll have a price-competitive offering. And ultimately, the difference will be, most people would prefer not to break laws if they don't need to, and most people would like a source of supply that is certain and doesn't contain sprays or possibly chloroform or other things that happen in unsupervised production environments.
So I think you'll find there will always be a black market, but the width and depth of it will be quite a lot less in three or four years in Canada than it currently is.
Harjes: That makes a lot of sense. Regarding legal players, who else is in the space that you have your eye on? And do you see the other players as competition? Or are they more potential partners? Or is this space just so big that there's room for multiple people to all win?
Linton: It's sort of like driving a fairly fast sports car. Probably four or five years ago, we pulled the rearview mirror off because it didn't seem to provide much value. The way we operate is, we're doing what we're doing, we have our strategic plan, we review it almost constantly. We're building on what we've done. The reason we're multiple times advanced, in terms of output or patients or market cap, of others in the field is, we concluded some time ago that there was no relevant model to compare it to, so we should actually just work and think.
So I would say that our primary competitor is the black market. Our secondary is time, because what's happened is, globally, so many countries are almost concurrently copying what Canada is doing that we need to be in more places at once than we've historically thought possible.
Harjes: Yeah. Something I think is a really interesting strategic move as you approach all these different initiatives is the level of investment that you've made. It almost seems like profitability is the last thing on your mind. Right now, it's all about expansion, and making those smart, strategic moves.
Linton: I don't think I've been reverse justifying, but I've been telling people for about two or three years that my intention is to avoid profitability until the second half of 2018 now, which is when adults access or adult rec will occur. We've been building for a massive global medical market, which I think will exceed the recreational market in Canada within a couple of years. And we want to be dominant in both. So, to have achieved early profitability is a bit like raising your arms in celebration after having won the warm-up. I just don't really get why that would be a good thing.
Harjes: Yeah, I totally agree there. That long-term thinking is something that permeates The Motley Fool, so I'm definitely in agreement with you there that that's a smart approach. For an investor looking at your company, since profitability isn't the key metric, what then should investors look for?
Linton: I think, when you exit prohibition, you want to see market share. You want to know that they have the brands and they have the capacity to expand and keep covering. So if I've got 30% market share now in medical, which is approximately what we do, and we'd like to have a little higher market share in adult rec, that then works backwards. What's the format of the products, do they have the technical capabilities to make those products, do they have the growing production assets necessary to put the inputs into the production processes? So you want to make sure they can do that. And I think we're in pretty good shape for that.
When people are making a decision on investing, the challenge is, we have a higher market cap than people would justify on a technical basis. But I think they probably only missed the first quarter or a third of the trade on this. Because if we're competent, as we seem to be demonstrating that we are in Canada in the two markets, and the global medical market evolves rapidly, and we have the best patented solutions to many of these key, high value indications, I don't know that they should be so fussed about the current market cap. At least, when I'm speaking to Americans, the market cap appears to be about a third less given our currency exchange, so that's probably beneficial to many of the people listening.
Harjes: Yeah. Market cap stands at roughly $2.6 billion U.S. today. To force you to play devil's advocate a little bit, what keeps you up at night? What would be the bear case?
Linton: I'd say the gremlin gets out of the box differently every three to four months, what you need to worry about changes. Up until the financing with Constellation, I think that was the 14th round of finance I did. And I can tell you, in 2013, it was virtually impossible to give away equity in a company like this. So that caused quite a few gremlins to escape. Now, it's more about making sure our org chart is ready and our process of doing things is ready, not just for Canada but for the world. So you spend a lot of time wondering, where are we going to find out right to VP international to do what we want to do? Or where are we going to get certain assets transitions in, so we can have more throughput on oils extraction? So, I would say, the worries now are a lot more operational, rather than life-and-death financial.
Harjes: OK, makes sense. As we wrap up -- we're almost out of time -- I have one final question for you, and it's more of a theoretical one. What do you think is the biggest misconception about marijuana?
Linton: From Reefer Madness forward, it's been perceived as as dangerous a thing as it could be. And while it's not a play toy, it shouldn't be used as viewed as "I would sooner take an opioid than take a cannabinoid." So I think there's a lot of the bias dropping, but for probably half the population, it's very difficult to be objective and rational. So I wouldn't want to pick one specific -- is alcohol safer and better than cannabis-based products? Probably not. But it's more socially normal. The principal problem with cannabis is that it has a great deal of unfounded bias against it, where we have a society that's struggling to rationally react. So, what we're trying to do is take people through that process where they can choose not to consume, but they shouldn't be biased because of an absence of knowledge. And it's been a big project, but it seems to be going quite well.
Harjes: It seems like it's definitely trending in that direction. All right, Bruce, that's it for our show today. Thank you so much for being here!
Linton: This is awesome. Thank you very much!
Harjes: Thank you. There's been a ton of interest in your company and the broader legal marijuana space from our fool.com audience and from our listeners. So I really hope all of our listeners enjoyed this conversation as much as I did.
Linton: Thanks. Have a nice day!
Harjes: As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. Thanks for listening and Fool on!
