Trulieve Stock and the Cannabis Risk Problem
With a population of just over 21 million people, Florida is the third most populous state in the union (California and Texas take first and second place respectively). It’s no surprise to see Florida lead the nation in golf courses, considering it has the highest percentage of senior citizens in the nation with over one-fifth the population 65 and older. What do you get when you mix a bunch of old people with great weather and lots of golf? Apparently, a whole lot of medical problems that call for one of our favorite prescriptions – cannabis.
In our previous article on The Biggest Cannabis “Multi-State Operator” Stocks, we looked at how cannabis companies in the United States are taking shape. Since cannabis is illegal at a federal level, each state presents its own unique regulatory environment. Since cannabis businesses can’t operate across state lines in any way shape or form, what we’ve ended up with are companies that have a vertically integrated operation in each state they operate. (Vertically integrated means they grow the cannabis, process it, and sell it in their own dispensaries.) Today, we’re going to take a look at Trulieve (TRUL:CN), an $860 million vertically integrated cannabis company that’s also the first and largest medical marijuana corporation in the State of Florida with a dominant market share of around 65%. (Cannabis in Florida is still illegal for recreational use which is why so many people there suffer from glaucoma.)
You Better Trulieve It
The emergence of “cannabis stocks” has brought about a surge in first-time investors whose sole source of information might be a glossy investor deck with some slides about the “billion dollar opportunity” at hand. In our recent piece on How to Tell if a Cannabis Stock is Good or Bad, we told you where to find all the juicy tidbits for any publicly traded cannabis stock – buried in the mandatory regulatory filings where a company is required to disclose all pertinent information. That’s where we’re going to start today. It’s a 59-page document titled “Management Discussion and Analysis for the Quarter Ended June 30th, 2019” which we will hereafter refer to as the MD&A.
It immediately becomes apparent that with over 2,000 employees, Trulieve is running a very large operation. By the end of this quarter, Trulieve will have the ability to grow 63,189,000 grams of cannabis, with most of that capability already available now. Back of the napkin math tells us that at $10 a gram, that’s about a $632 million dollar a year business, but what matters the most is what’s being sold today. Turns out it’s quite a lot.
It would be nicer if the above numbers were broken down by quarter, but that’s okay. In Q2-2019, Trulieve brought in revenues of ~$58 million which means they appear to be on track to hit or exceed their 2019 revenue estimate of $214.3 million. Strong revenue growth, check.
Trulieve has developed a suite of branded products with over 230 Stock Keeping Units (SKUs) that are distributed to customers in Trulieve branded retail stores (they just opened their 31st store in the State of Florida) or home delivery, a next-day, state-wide delivery program with a 74-vehicle delivery fleet. E-commerce is anticipated to contribute at least 20% of Trulieve’s revenue in 2019 and patients are further served by a call center, which receives an average of 2,700 calls per day. As of July 31, 2019, Trulieve had a Florida consumer base of over 192,000 patients who average approximately two visits per month. Recently, they’ve moved to expand outside of Florida as well.
Expanding to Other States
Palm Beach is a city in California that shares at least two things in common with Florida – lots of sunshine and lots of old people. Almost 35% of the population is between the ages of 45 and 64 and over 25% of the population is at least 65 years old. It’s also the location of Leef Industries, a licensed medical and recreational cannabis dispensary. The most recent investor deck from Trulieve dated April of 2019 has a slide on the acquisition as seen below:
While the dispensary they acquired has over 200 SKUs, it doesn’t appear to be vertically integrated which means they’re selling other people’s products, and this translates into lower margins. Still, it’s a great foray into a new market where they might leverage the success they’ve had with their brand peddling reefer to the geriatric set.
In Massachusetts, Trulieve acquired a “seed to sale” company called Life Essence which “is applying for licenses to build and operate three medical Registered Marijuana Dispensaries, three recreational marijuana licenses, and a 140,000 square foot cultivation and processing facility.” Here’s the slide in their investor deck with highlights of the acquisition which hinges on regulatory approval happening without a hitch.
Some of those numbers may have changed a bit. Provided all the regulatory approvals happen, the MD&A states that they anticipate “completion of a 140,000 square-foot medical marijuana cultivation and processing operation in Q1 2020.” In other words, there is still a lot of uncertainty around this particular acquisition.
Then, there’s this little piece of information we found in the MD&A which makes one wonder why Trulieve is dabbling over there in the first place.
In Massachusetts, no person may have an ownership interest, or control over, more than three medical licenses or three adult use licenses in any category – for example, cultivation, product manufacturing, transport or retail. Such limitations on the acquisition of ownership of additional licenses within certain states may limit the Corporation’s ability to grow organically or to increase its market share in such states.
Doesn’t this make it next to impossible for any one company to have a dominant market share in the State of Massachusetts then?
On May 21, 2019, the Corporation acquired 100% of the equity of Healing Corner, a medical marijuana dispensary licensed in the State of Connecticut which gives Trulieve about a 16% market share for medical marijuana in the state. They paid $19 million for the dispensary with the license costing $14 million alone:
While expanding to other states helps diversify away some of the regulatory risk concentrated in the state of Florida, it also makes it more difficult for investors to measure risk across the company and price the asset accordingly. This leads to a valuation problem.
The Cannabis Risk Problem
One of the most basic concepts in investing is the notion of risk vs. reward which goes something like this. Stocks that are subjected to high levels of risk – be that political risk, regulatory risk, currency risk – will be priced differently from those that aren’t. Stocks that might be considered cheap based on various methods of valuation (not the actual price of the stock as some morons would lead you to believe) might be “cheap” because the risks are so high. Now, think about this in the context of cannabis stocks where every single state has a different risk profile.
Just how are we supposed to measure and price for risk when it differs so greatly between states? As we discussed before, very few of these multi-state operators provide the sort of revenue/profit breakdowns that we can use to see what sort of exposure they have to each state. The answer to the problem is federal legalization of cannabis. Until we can resolve the patchwork quilt of recreational and medical laws that exist across the United States, we will not be able to properly measure and price regulatory risk for cannabis stocks. Likewise, the synergies that might exist between states are also not priced into these stocks. Top all that off with the manic irrationality of first-time cannabis investors and the likelihood you’ll be able to properly value any given cannabis stock seems nil.
When to Buy Trulieve
Let’s say you believe in the Trulieve story and want to pick up some shares. Here’s how those shares have been trading since the company had their IPO in September of 2018.
While the chart shows us that shares are nearing an all-time low, let’s say you pulled the trigger and opened your entire position tomorrow at $10.44 a share. Then, next week the Chinese PLA decides to cross over the Shenzhen border into Hong Kong and go John Wayne Gacy on the small contingent of radical protesters who feel that violence is the way forward. Suddenly, the global markets dump 20% across the board in a single trading session. Because cannabis stocks are so risky and cannabis investors are a manic lot, shares of Trulieve then dump 40% in a single session. How would that make you feel? Not so good, which is why you should always use Dollar Cost Averaging or DCA.
DCA means buying a fractional number of shares over a set period of time at fixed intervals. Acquiring a 100-share position then looks something like this:
- Sept 5th – Buy 25 shares
- Oct 5th – Buy 25 shares
- Nov 5th – Buy 25 shares
- Dec 5th – Buy 25 shares
Many years back, The American Bar Association warned that “conflicting state and federal marijuana laws create ethical complications for lawyers,” and that the problem is “rooted in the conflicting state and federal laws, which lawyers have sworn to uphold.” Any broad changes in cannabis regulation to address this problem would likely come from Attorney General William Barr who in some cases appears to be taking a more lackadaisical approach to cannabis and in other cases wants to make it entirely illegal across all states. (Remember, uncertainty equals risk.) With elections right around the corner now, don’t expect the bickering Americans to prioritize federal legalization of cannabis anytime soon. We’re going to continue taking a closer look at each of the eight multi-state operators in this series of articles in hopes of learning a bit more about the bigger picture in what is presently an extremely complex and risky industry to invest in.
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