After seemingly years of promise and many months of debate, the Cannabis Act (officially bill C-45) was approved by the Canadian Senate on June 19, with royal assent setting a date of Oct. 17, 2018, for adult-use legalization. In the process, Canada is set to become the first industrialized country in the world to have legalized recreational marijuana, and its pot industry stands ready to reap the benefits of what could be $5 billion in added annual sales.
But, truth be told, investing in Canadian marijuana stocks could be risky. Most pot stocks are valued at lofty forward price-to-earnings ratios, and Wall Street's per-share profit estimates for cannabis stocks have been falling over the past three months.
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There's also the potential for oversupply to threaten the industry, perhaps by as early as 2020. If Canadian growers struggle to find a buyer for their product domestically or via exports, we could witness a notable decline in dried cannabis prices on a per-gram basis.
And then there's uncertainty over what will happen with supply and demand. Since no developed country has ever legalized recreational marijuana before, no one is entirely sure what to expect from either side of the equation.
OrganiGram's CEO discusses his company's future
Yet among these unknowns stands New Brunswick-based OrganiGram Holdings (OGRMF 1.09%). This small-cap marijuana grower shocked Wall Street in early March when it announced that, due to higher-than-expected yields at its single grow facility in Moncton, New Brunswick, it was expanding its peak production estimates to 113,000 kilograms of cannabis from a previous forecast of 65,000 kilograms. Furthermore, it's valued at just 29 times forward earnings, making it one of the cheapest pot stocks in the industry from a fundamental perspective.
What exactly makes OrganiGram tick? That's what I sought to find out when I emailed OrganiGram CEO Greg Engel what I believed were six pressing questions about the future of his company. Greg was nice enough to grant my request for an email interview, and answered each of my questions, as you can read below.
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Sean Williams: Could you address what it is that makes your company so impressive from a yield perspective? Whereas some growers are struggling to generate 75,000 kg from 1 million square feet of capacity, Organigram is looking at 113,000 kg from 490,000 square feet. What's the secret sauce?
Greg Engel: We've always seen the value in maximizing the efficiencies of our space and that isn't truer than in our three-tiered growing approach. Internally, we have focused our growing metrics on production per metre squared vs. square footage for quite some time, as we see square footage as a misleading & antiquated metric.
Williams: Are you at all concerned about losing share to your competitors given that your Moncton expansion project takes you into April 2020 for completion?
Engel: Our current expansion takes us to 36,000 kg annualized, which puts us in a great place within the industry as a leader in high-quality, indoor-grown production. We're confident in our expansion plans and the rate at which we can scale up to 113,000 kg by 2020. We see the growth of the domestic adult recreational marketplace and medical demand internationally aligning well with our expansion plans over the next 18-24 months.
Williams: Approximately what percentage of revenue and/or peak production do you believe will be derived from cannabis oils and other dried alternatives?
Engel: While it depends on what period of time you're looking at, right now we see about 50 percent of our current medical business in cannabis oil. We would estimate much less than that within the adult recreational market, but that will change once edibles and infused products become part of the legal framework sometime before October 2019. We can look at markets such as Colorado to give us an indication of what percentage of the market will be made up with these types of products, but this will obviously depend on the product forms and concentration levels that will be allowed. Our agreement with The Green Solution in Colorado provides us with proven formulations and know-how for a diverse range of edibles and derivative-based products when the regulations evolve in 2019.
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Williams: Are there any specific industries or sectors your company is looking to partner with?
Engel: We are open to partnerships in several different industries, but most of our energy at this time is spent on upstream and downstream partnerships within the industry. Specifically, that means partnerships that will enhance our approach to business excellence from a supply chain, packaging, IT, or technology perspective.
Williams: While no CEO or executive is going to comment on rumors, there has been a significant uptick in industry consolidation. With that being said, is OrganiGram for sale if the price is right, or would you prefer to remain independent and grow organically?
Engel: Our priority will always be to do what's right by our shareholders. With that said, we've spent a lot of time and energy building an incredible facility and team here at OrganiGram, and our intention is to focus on the opportunities in front of us and to solidify our OrganiGram brands as industry leaders within the space.
Williams: Your company has among the lowest projected price-to-earnings ratios in the industry. What is Wall Street missing?
Engel: We may be under some investors' radar being based in Atlantic Canada, however, when we launched our adult recreational brands a few months ago, people started to notice us. We are confident that when the market shifts to evaluating companies on their fundamentals we will be a top performer based on our low production costs and high yields as well as our high-quality, indoor-grown product.
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A number of key takeaways
I thank Greg Engel for his time and candor in answering my questions.
I also believe a number of clues have been unearthed as to what's next for OrganiGram, and the industry as a whole.
For example, Engel's commentary on partnerships suggests that cannabis growers are just about ready to move onto the next stage of development. With capacity expansion in full swing across the board, the next steps involve product line expansion (i.e., introducing new products and dried cannabis alternatives, such as oils, extracts, edibles, infused beverages, and vapes) and building up proprietary brand-name products. Though OrganiGram may not be a top-five grower in terms of annual production at full capacity, its focus on oils and in keeping its costs down -- unlike its peers, it keeps its costs in check by operating a single grow site -- along with a strong branding strategy, could allow its margins to be superior to much of its competition.
Engel also makes a good point noting that even though expansion at Moncton won't be complete until April 2020, by the company's own estimate, its current run rate of 36,000 kilograms annually is actually quite good. Remember, most growers were apprehensive about spending tens or hundreds of millions of dollars on capacity expansion until the past six or seven months, when it became apparent that the Cannabis Act would eventually become law. As a result, project completion for all major and mid-tier growers tends to be anywhere from the second half of this year through the end of 2020. Even though OrganiGram won't reach full production capacity for close to two years, it's not necessarily at a disadvantage to its peers, which are going through a similar expansion cycle.
Finally, without reading between the lines too much, it seems apparent that OrganiGram is preparing to remain an independent company. As much as it might appear an intriguing buyout opportunity for larger growers given its impressive yields and diversified production capabilities, its geographic location could dissuade buyers. Plus, I personally believe investors have a better chance to see stronger long-term returns if OrganiGram remains an independent company.
While this industry may take time to mature, OrganiGram Holdings is a marijuana stock worth keeping a close eye on.
