2021 - Cannabis Year In Review

Summary

• It's an appropriate time to take stock of the developments in the cannabis industry.
• One year in cannabis can feel like several given the many ups and downs that take place in a 12 month span.
• 2021 delivered a mixed bag of wins and losses.

As we close out 2021, it's an appropriate time to take stock of the developments in the cannabis industry. As industry participants know, one year in cannabis can feel like several given the many ups and downs that take place in a 12-month span.

In many ways, 2021 was set to be a banner year for cannabis. With Democrats sweeping the 2020 elections, the industry's mood was broadly optimistic on legalization being within reach. Those high hopes were tempered as the months marched on, and 2021 delivered a mixed bag of wins and losses.

Below is a look back on the most significant events that came to pass.

PRO: Sizeable gains at the state level

Since 2014, there has been an acceleration of states choosing to legalize cannabis, and 2021 was particularly thrilling. A block of northeastern states passed legislation to legalize adult use. In February, New Jersey made the first move to regulate adult-use cannabis, while also decriminalizing possession. In March, New York followed suit with much fanfare, given the market's potential size (the state's market is estimated at $4.6 billion in annual sales in year one). Sandwiched between Massachusetts and New York, Connecticut also passed adult-use laws in June. In July, Virginia then became the first state in the South to legalize adult-use cannabis.

Despite the positive momentum, the reality is that setting up a regulatory framework to monitor cannabis sales is time-consuming. While New Jersey may have adult-use sales up and running in Q1 2022, Connecticut is signaling that sales won't begin until late 2022, and New York doesn't expect any legal recreational sales until 2023. Meanwhile, Virginia's laws stipulate that adult-use sales won't begin until 2024.

Still, the latest crop of states legalizing paves an easier path for others to follow. As more states go legal, it becomes increasingly difficult for those on the sidelines to sacrifice tax dollars from cannabis sales to neighboring states. Currently, Rhode Island is the last New England holdout for adult-use cannabis, and lawmakers expect a deal to close in 2022. Likewise, New Jersey will put additional pressure on Pennsylvania, while Virginia should squeeze Maryland to pass its own measures.

We expect the green wave of legalization to continue into 2022. In addition to the states listed above, Arkansas, Florida, Idaho, Mississippi, Missouri, Nebraska, North Dakota and Ohio all have cannabis-related initiatives on their 2022 ballots.

PRO: Corporations throw weight around cannabis

Another positive development this year was the support that major corporations lent to cannabis. In June, Amazon (AMZN) changed its employee cannabis policy and announced public support for the Marijuana Opportunity, Reinvestment and Expungement (MORE) Act. Investors responded positively to this announcement by pushing stock prices higher, realizing what the power of the Amazon lobby might mean for industry momentum and pro-business regulation. The U.S.-listed shares of Tilray (TLRY) surged 11.9% after the news, while Aurora Cannabis (ACB) climbed 7.8% and Cronos Group Inc. (CRON) advanced 8.7%.

Then in July, Apple (AAPL) reversed its policy banning cannabis-related apps from its App Store. Eaze and The Parent Company's (OTCQX:GRAMF) Caliva delivery apps were two of the first movers onto the App Store, offering their geo-fenced services for the California market. Since then, dozens of other famed cannabis websites and companies have added their app to the store, including Weedmaps and Leafly.

This summer, the issue of athletes and cannabis use struck a chord when Olympic-bound runner ​​Sha'Carri Richardson was barred from the competition after a drug test revealed she had consumed cannabis. The United States Anti-Doping Agency's decision prompted a more serious national conversation on what to do about athletes that use cannabis in states where it is legal.

Prior to the controversy, major professional and amateur sports leagues had started to rethink their cannabis policies. Early in 2021, the UFC announced it would no longer punish athletes for testing positive for THC. This announcement followed on the heels of similar rulings by the NFL, which loosened its rules regarding cannabis use among players, and Major League Baseball, which removed cannabis from its banned substances list.

The adoption of cannabis-friendly attitudes by corporations could hold sway over state and federal politicians. Historically, almost all legislative changes have come after private enterprises have exerted pressure on the federal government to acknowledge and accommodate their interests. From oil and gas to electric vehicles to cryptocurrencies, the power of big business catalyzes change.

We expect to see a similar pattern emerge in cannabis as more public corporations come out in support of legal cannabis use.

NEUTRAL: Emergence of a market cycle

With the legal U.S. cannabis market entering its eighth year, investors and operators can recognize a clear and predictable market cycle repeating in each new state market. The cycle begins with exuberance from investors and operators who are quick to jump into the market, followed by a period of intense competition and contraction, which then levels off and leads to better-sustained growth.

Today, that market cycle is evident in California, which is experiencing the most challenging part of that cycle right now with fierce competition, dropping prices and high fragmentation. Back in 2018, there was boundless excitement when adult-use dispensaries opened in the Golden State due to the sheer size of the market. The lack of limited licenses allowed for an influx of operators and brands to flood the market. That rush has led to a painful situation today.

The state, which has 6,000 licensed cultivators, is producing twice the amount of cannabis that it consumes. This has caused wholesale prices to fall precipitously, 50-75% from just one year ago, according to MJBiz Daily. Wholesale deflation is compounded by the fact that there are only 823 licensed brick-and-mortar cannabis shops, equating to roughly two legal dispensaries per 100,000 people - one of the lowest rates in the nation among states that allow legal recreational sales. By comparison, Oregon has 17.9 retail shops for every 100,000 residents.

Creating a balance of supply and demand in terms of plants, products and stores won't be easy. Small brands will be acquired by larger companies, and more local governments will need to welcome dispensaries into their districts. Some expect the dip to last another 18 months before a true shakeout happens, wholesale prices rebound and the market produces clear winners and losers.

While the process is painful, the good news is that the emergence of a market cycle proves that the capitalist machine is churning as it should. It also provides a playbook for operators and investors in emerging state markets, allowing them to prepare for the ups and downs that will surely come their way. As the saying goes, those who don't know their history are doomed to repeat it.

CON: Federal government action stalled

The proposed legislation from Senate Majority Leader Charles Schumer (D-NY) and Senators Cory Booker (D-NJ) and Ron Wyden (D-OR) in July to "remove federal penalties on cannabis, expunge nonviolent federal cannabis-related criminal records and let states decide if or how to legalize cannabis" was not the watershed moment many had hoped for. Its drafters took a kitchen-sink approach that rendered the proposed legislation both politically and operationally untenable. Although comments have been solicited from industry stakeholders, the Democrats' bill has still not advanced to be anything more than a discussion draft to date.

Then in mid-November, first-term Republican ​​Rep. Nancy Mace from South Carolina introduced the States Reform Act, a bill that would allow for expungement of federal convictions in nonviolent cases and provide a framework for federal regulation and enforcement in states that allow the sale of cannabis. While it's unlikely that the measure will get any serious debate, it is promising to have a Republican advance the issue, as it could signal that the party is ready to seriously debate other cannabis legislation, such as the Secure and Fair Enforcement (SAFE) Banking Act.

The bipartisan SAFE Banking Act has passed in the House five times now - the last time in September - and would prevent financial institutions from being penalized by federal regulators for working with state-legal cannabis businesses. It's a much more palatable bill for conservative Senate members since the bill's talking points focus on public safety issues and bringing better tax compliance to the industry by folding cannabis into the federal financial system.

For more left-leaning Senators, controversy over SAFE has focused on whether the bill should be tied to social equity wins for the industry. Whether it is or is not, providing greater access to capital is critical for social equity operators and brands that find it difficult to compete with large cannabis corporations. The election results in November should also signal to Democrats that the winds of change are blowing, and they should act now to pass SAFE legislation before midterms.

CON: Cannabis stocks slump

Cannabis stocks were steadily climbing through the summer and fall of 2020. As Biden took office in January 2021, stocks continued to rise on the hope that federal reform was around the corner. However, as the reality set in of how challenging it is to pass federal cannabis reform, stocks started to deflate. By the end of October, prices had plummeted roughly 45% since mid-February. To put this in perspective, the broader S&P 500 was up about 20% over the same time period.

Yet, recent stock prices don't reflect the positive momentum of cannabis company financials. The earnings of many cannabis companies have been on an upward trajectory, with some reaching profitability. Trulieve (OTCQX:TCNNF), for example, just reported their 15th consecutive profitable quarter. ​​Green Thumb Industries Inc. (OTCQX:GTBIF) announced that their profits doubled, even as they continue to scale their business.

These strong fundamentals should give investors reason to believe that stock prices will rebound. Financials should improve as the total addressable market (TAM) for cannabis continues to grow. As noted above, a number of states are slowly transitioning their medical program towards recreational use, and many of those without medical programs are beginning that ballot process.

In addition, cannabis sales remain strong. Currently, the U.S. cannabis market has grown to $23 billion and is predicted to double by 2025, according to New Frontier Data. Global cannabis sales, which were at $21.3 billion in 2020, are forecasted to grow to $56 billion in 2026. While the timeline and initial TAM are up for debate, Germany has announced it will legalize adult-use cannabis, which could push those often underestimated market projections even higher.

The industry's upside should instill confidence in investors and the sector despite current stock prices.

Looking Ahead

Taking a final tally of the year, we remain optimistic on the industry as we head into 2022. Consumers still overwhelmingly support cannabis legalization - and politicians are taking their cues. In addition to new states coming online and expanding the market, innovation is also helping to drive new demand among niche demographic groups, growing the overall consumer base.

Cannabis still has room to grow. With maturity and momentum on its side, the industry will notch more positive growth in 2022.