Chit Chat Stocks - Green Thumb Industries (GTBIF) | Not So Deep Dive

Episode Date: March 1, 2022

Green Thumb Industries manufactures and distributes various cannabis products across the United States. The company focuses on medical and adult-use products. Listen closely as Brad, Brett, and Ryan go through the history, financials, and future prospects of Green Thumb Industries. Enjoy the show! Our Tuesday Not So Deep Dives are sponsored by Potential Multibaggers. Multis are looking for stocks that have the potential to go up 10x in 10 years. Check-out the service here: https://seekingalpha.com/checkout?service_id=mp_1308 Want updates on future shows and projects? Follow us on Twitter: https://twitter.com/chitchatmoney Subscribe to 7investing with the code "CCM" and get $10 off: https://7investing.com/subscribe/aff/4/ Interested in more of Brad’s work? Find his Substack: https://stockmarketnerd.substack.com/ Contact us: [e-mail] Timestamps Company Background | (3:50) Industry | (8:17) Management & Ownership | (10:31) Valuation | (15:04) Earnings | (17:15) Balance Sheet | (21:23) Our Analysis | (25:27) Disclosure: Chit Chat Money hosts and guests are not financial advisors, and nothing they say on this show is formal advice or a recommendation. Brett Schafer and Ryan Henderson are general partners and portfolio managers at Arch Capital. Arch Capital and its partners may hold securities discussed on this show. Learn more about your ad choices. Visit megaphone.fm/adchoices Learn more about your ad choices. Visit megaphone.fm/adchoices

Welcome to Chit Chat Money. On this show, hosts Ryan Henderson and Brett Schaefer interview industry experts and riff on the world of investing. As a quick reminder, Chit Chat Money is a CCM Media Group podcast. Ryan and Brett are also general partners at Arch Capital, and Arch Capital may have positions in the securities discussed in this podcast. Anything discussed on Chit Chat Money by Ryan or Brett or any other podcast guests is not formal advice or a recommendation. Now, please enjoy this episode. Welcome in. This is the Tuesday Not-So-Deep-Dev episode on Chitchat Money. We're here with Brad Freeman today. And I should warn everyone, for some reason, I think you can probably hear that

now, there's some construction going on in the background. Very unfortunate timing that it decided to start right when we were recording. I don't think it'll be too big of a nuisance, but I'll make sure to mute my microphone when we're not, when I'm not talking. But Brad, this is your pick today. We're talking green thumb industries. Not something I don't think many people know what this is, but what kind of made you attracted to this? And I think it belongs in your portfolio. Yeah. So this is one of the three multi-state operator, cannabis growing, selling companies that I own in the portfolio. It's the smallest position of the three, not because I don't like the company as much as

the other two, but just because the valuation is a little steeper than the other two and the fundamentals are extremely similar. But it's, I mean, we'll get into its balance sheet strength and relative balance sheet strength and why that appeals to me. But to be honest, my elixir of choice is not alcohol, but it is cannabis. So I'm a big fan of the product category. I'm a big believer in all the various health benefits and alternative use cases for it. So that was really the inspiration for exploring the industry and then seeing how well these companies are doing made me pull the trigger. Well, we've got some, it sounds like we're going to have some anecdotal evidence than I imagined. Sure. That's right. I was going to make that same joke as well.

We're going to get into it. But first, I need to talk about our sponsor for this Tuesday show, and that is Potential Multibaggers. The aim of the Potential Multibaggers service, as you guys probably have heard by now, is to find stocks that can go up 10x over the next 10 years or compound at 26% per year. And right now, a lot of the stuff that Chris and the team over there are looking at have, I mean, they've done quite, quite well over the long term, But over the recent few months, I mean, now like there's some real, I don't want to say, well, what's a buying opportunity or not, but prices have gotten a lot more attractive. And the great thing about the service is if you're someone that maybe, you know, is more

of a novice or an investor or doesn't know stuff as kind of a, it's not your full-time job. Chris really provides research and timely research. I think I get like five notes from him a week about the companies he's following. So if these type of companies, Shopify, C-Limited, Okta, Square, Livongo, and there's plenty, plenty others. Well, Livongo is now Teladoc. But if those are companies and the type of companies that you follow, his research reports can be very supplemental to your process. So if you want to become a multi and get all this and more as a part of the potential multi-bagger service, go to Seeking Alpha and look for From Growth to Value.

Google it or go to at From Value on Twitter. All right, let's get into it. Before we move on, I'd also say that if these are companies, so a lot of the companies in this portfolio we've mentioned on the show before, and if it's a company or like a business model that you've liked, and now you're starting to become more inclined to potentially buy shares because of the price as well, it's a really good, easy way to get up to speed on some of those companies because you provide so much coverage. and it's pretty thorough as well. So I've kind of found myself doing that lately. But yeah, I'll get into the business. And so as Brett mentioned, we're talking about Green Thumb Industries. And Green Thumb, basically they manufacture, distribute, and market several different cannabis consumer pack. They call it consumer packaged goods, but I guess you could call it cannabis packaged goods. It's a, yeah, CBG, right. The, uh, the, the packaged goods

or the stock keeping units that they have consist of the following product category. So it's flour, which is exactly what you're probably picturing in your head. There's pre rolls, concentrates, vapes, capsules. I, now I don't know all of these. Brad might be more of an expert, tinctures, edibles, topicals, and other cannabis-related products. So it really spans the whole cannabis space in terms of what you might be looking for product-wise. And the products are primarily generated from plant material that Green Thumb themselves grows and processes. So to some extent, you could call it a vertically integrated, although they also sell to other retail stores. So that's the other part of their business.

The products are distributed and marketed to either third-party licensed retail cannabis stores or Green Thumb's own retail stores. And then for a sense of scale, Green Thumb has 16 manufacturing facilities and 66 open retail locations across 14 states. So these retail locations are primarily traditional brick-and-mortar stores. E-commerce stuff is limited because of regulations. So like, even like having someone come in and pick it up for you, like there's so much regulatory, I guess, barriers to letting that stuff happen. And so this is really kind of the traditional brick and mortar. They grow it, manufacture the products, sell it in their own stores or sell it to other

retailers. And then last year, about 29% of revenue came from their consumer packaged goods business. And then 71% came from their retail store. So they really do generate a lot of revenue from their own stores. and then uh as far as history goes if you're reading through the 10k and you look at the transaction history you're probably going to get lost i got lost it took me there have been all right so it says the company was and i'm going to let brad step in here after i i come up but all i'm going to say is don't let that deter you because the company is thriving fundamentally so

it's shady and weird as that looks just keep reading on because i promise it gets better go ahead it is yeah it's like the first five maybe in the first 10 pages of the 10k it's like so the initial company was incorporated in 1979 under the name dalmatian resources limited and it subsequently changed its name four different times since and finally in 2018 the company completed another transaction where it changed its name from bayswater uranium corporation to Green Thumb Industries. And I looked at this for a while and I could not understand the transactions that went on. I think the way I'm grasping it is that this was basically a shell company. It was a tiny public company that did some sort of stock merger with Green Thumb in

order to take Green Thumb public. And I may be getting that wrong. It was really kind of hard to follow. But as for Green Thumb specifically, they were founded in 2014 in Chicago by a gentleman named Ben Kovler or Kovler. And between Ben and a few investment partners, they launched with one dispensary in Illinois. There is some fascinating background here, actually. So Ben's grandfather basically did what Ben's trying to do now back in 1930 when prohibition was repealed. So Ben's grandpa, his name is Harry Blum, was the president of the Jim Beam Distilling Company. And Ben's father ran the company after his grandfather before they ended up selling it to the american tobacco company in the 60s so the covlers apparently are considered part of

chicago's elite um and ben's dad was one of the minor minority owners of the chicago bulls and so he and he references this in interviews which is basically like i'm trying to replicate basically my grandpa's uh model except for cannabis instead of alcohol at the time and so So that's kind of how they got started. I think that maybe helps him in terms of raising money with his pitch. But yeah, that's basically the business today. Yeah. I'll get into industry and competition. Fairly simple one, but with a lot of, I mean, the size of the industry is simple, but the regulation stuff is really, really complicated, which I'm sure we'll talk about more on the second half. But the cannabis market right now

in the United States is estimated to be about $24 billion a year. And that is according to Green Thumbs management. They do like to talk about this stuff on the conference call. So you can get an overview of the industry because that is, you know, it's part of their bull case that they're trying to pitch investors. Management, and again, they might be on the bullish side. They expect it to be about $80 billion a year, a decade from now. So about tripling. And then for reference, if you kind of want, you know, some states might be more into cannabis than others, But for a mature state like Washington state where cannabis is or it's 21 plus and there's no restricted licenses. So you basically have, you know, cannabis shops all over the place.

There's nothing that there's not like four in the state like some places have. There's about one point five billion dollars in spending a year and the state has less than 10 million people. I think it's in between seven and eight million. So if you expand that out and kind of assume that cannabis is going to be legalized across the nation of the United States sometime this decade, I think $80 billion is reasonable, but it's still quite a bit of growth from here. And then any competitors, there are a ton out there right now, but I'll just highlight a few because there are, you know, this isn't some, you know, anyone can really start growing cannabis if they get the license and anyone can start up a store if they have the license. So the competitors include Verano, Planet 13, Curaleaf, Trulieve. Is that how I'm saying it? Am I saying that right, Brad? Okay. Yeah.

and then there's a bunch of local shops so the competitors it's it's almost like i really think the best comparison for people in their minds is to just say the alcohol space like you can buy alcohol at a lot of different spots the grocery store the specialty liquor store the convenience shop you know the 7-eleven or even the local one and i think that's kind of what's going to involve here they're and you know companies like green thumb are trying to really capture that market and become kind of one of the top brands in the industry. All right, Brad, do you want to talk about management and ownership? Yeah, for sure. And just to kind of expand on what you were saying, it will really become about branded wholesale. If the retail segment goes the way

that I think a lot of us think it's going to go, which is states kind of evolving from a more restrictive limited licensing system to one where a 7-Eleven can sell you a joint. And in that case, brands mean everything and retail shops don't mean nearly as much. So I think just good to keep in mind. But from a management and ownership perspective, so founder CEO is Ben Kovler. There's a little bit of drama there too around him taking the name from somebody else and getting sued for it. But that has since been settled. He doesn't have a lot of experience outside of founding and running Green Thumb. He runs a site called Invest for Kids, which is essentially an investment pitch competition that's held annually in Chicago. As Ryan's history section kind of hinted at,

he's deeply integrated in the Chicago community, which is important in this politically dominated industry where politicians' decisions do matter a lot. Clout matters a lot, and Ben Kovler certainly has more of that than pretty much any other CEO in the industry. Again, family involved in the end of Prohibition. So family, again, involved in the end of Prohibition 2.0. It's kind of beautifully poetic. And then I won't go too much further into the complicated history. The 10K covers it a lot if you're interested. 76% Glassdoor rating is pretty low, but very limited review. So take it with a grain of salt. Do you want to say what a Glassdoor rating is? Because I think we kind of know, but some novice investors might not know what that

means. Sure. Sure. Yeah. Good thinking. So Glassdoor is essentially a crowdfunding or crowd an aggregation site for for racking up employee and employer reviews uh so um you'll get anonymous tips and i'm sure some of them are from random people who don't actually work for the company and and can be and can be kind of um inaccurate and misguided but there's some good information there especially when you have companies with thousands of reviews instead of a hundred like green thumb has um so not super important in this case but it can be sometimes CFO is Anthony Georgiatis. He was the former COO of an art group called Wendover, which essentially seemed like a B2B decorator. He was the former senior associate for CIBC Partners, which is a

Chicago PE firm. And then the head of capital markets also was with Chesapeake Capital Partners for a long time, which is another pretty prominent PE firm. The general counsel is Beth Burke. She was actually a former chief compliance officer at Aon, so a pretty impressive experience from her. And then she was a general studies major with an economics concentration from U of M, exactly like me. So, you know, she's amazing. And then the CIO is Swatin Segal. And I'm sure I butchered the pronunciation, so I'm sorry, sir. But he is the former director of direct consumer and customer resource management at Adidas.

And he was a manager at Sears before it went bankrupt, but we won't hold that against him. In terms of ownership, so Kovler owns 61% of the super voting shares. what it's called in the 10k and that's 38 of the overall voting power uh this is a few months delayed and and so so when it comes out i'm sure it'll be a little different but there hasn't been too much notable selling from from insider so it should be pretty accurate the cfo is anthony georgiotis who owns nine percent of the overall voting power he's been there since 2016 which is a pretty consistent theme of long tenures on the executive team and really like to see a cfo having skin in the game just just makes me more comfortable that he's going to be around for a

long time. And that suite won't be a revolving door. AG Funding Group, this is the entity associated with Andy Grossman, who is a senior manager at Green Thumb. He owns 5.75% of the voting power, again, has been there from the very beginning. And then the former CEO, Peter Cadens, I think this was the CEO when they took the name from Green Thumb. And it was really hard to dig up any history about this. And I've been looking for a long time because I own the company. So you can imagine how difficult it is to dig up. But he still owns 9.3% of the voting power. It seemed like he was involved very, very early on and then kind of fizzled away to pursue philanthropic endeavors. Maybe he was pushed out. Maybe he wasn't, depending on who you ask. But yeah,

I think that's a good place to leave off there. Yeah, they have an interesting ownership structure for sure. This isn't some, well, I guess that's what it is with a lot of cannabis companies. You have a lot of people that have to avoid them. I'll hit valuation quick. market capitalization is $4.9 billion as well. We're in a volatile market right now. So really just check and reference those numbers. Tickers, G-T-B-I-F, they're on the OTC markets. They're not allowed on the NASDAQ or NYSE right now. Enterprise value, which I'm going to explain this quite a bit. I might not explain on every show, but since it's very important to how we do our valuation work, I'm just going to explain it a few times. Enterprise value is market cap

minus cash plus debt. So basically, any sort of short-term assets like cash that are basically available to pay out to shareholders. And then you want to add back any sort of liabilities that they're going to have to pay out because sometimes if a company has a lot of debt, the market cap isn't really indicative of what you're actually buying and all the liabilities you're buying as an investor. But in this case, enterprise value isn't that different. And it's about $4.76 billion. EV to gross profit is 10.3. And that's just enterprise value divided by gross profit. Enterprise value to operating cashflow is 44. And that's enterprise value divided by operating cashflow as it kind of states there. And it's kind of expensive there, but there are

some growth mode, no positive free cashflow because they're investing to grow out their infrastructure right now that you have quite a bit of CapEx spend relative to their size. And we can kind of probably talk about that later of how much they should be spending, what kind of runway are they going to have to do to grow, how much are they going to have to spend over the next few years. And then they have around 10 million dilutive securities. And what a dilutive security is, is just a stock option, a warrant or whatever that isn't in the share count right now, but if exercised, would dilute the shares outstanding and dilute your, if you're an investor, dilute your ownership stake proportionally. So they have about 10 million

dilutive securities outstanding versus about 241 million total shares outstanding, which isn't terrible, but we'll have a tiny bit of dilution and you should probably expect a decent amount of dilution going forward. They do like to use their stock when buying out other retailers and stuff like that. All right, Ryan, do you want to hit earnings? Yeah. So I'll start with the last 12-month numbers and then moved to the most recent quarter. So the last 12-month revenue was $827 million. That was up 81% from the 12 months prior. And then they had 56% gross margins on that. And then they generated about $107 million in operating cash flow, but they spent $128 million in capital expenditures as they're trying to build out the different stores, their manufacturing

facilities. So they really are in, they are plowing most of their cash that they generate from the business right back into investing to hopefully expand that operating cashflow in the future. And then in terms of the third quarter, so their Q3 revenue was 234 million. That was up 49% year over year. Their operating income was 59 million. That's up 50% year over year, but they had to, and so this is an important part. And this is why Brett referenced the operating cashflow figure on that 59 million operating income, they had to pay 37 million in income taxes. So, and part of, and this is one of my low lights, so I'm, I guess I'm spoiling it already, but cannabis businesses cannot under the, since they're, I guess, not recognized, I believe by

the U S whatever, uh, whatever the tax law system is, they can't deduct ordinary business expenses from their taxes. So, they are essentially paying, even though they maybe generate, let's say in this case, $50 million in operating income, a lot of those expenses where a typical business would be able to write it off, whether it's employee compensation of some sort, cannabis businesses can't do that. So, it really is a disadvantage compared to traditional businesses, which just means focus on the operating cashflow number includes that income tax expense. So just focus on the operating cashflow is sort of the overlaying theme here. Brad, do you have anything to add? Yeah. Just to put a title around what you're talking about,

it's called 280E, which is a tax provision that prevents these deductions that Ryan was talking about. And it really treats cannabis growers like drug kingpins that operate in little state islands. Because in the eyes of the federal government and the IRS, it is a federally illegal plant. So I mean, they are viewed in the exact same light from taxation bodies as any other drug you can possibly think of and other dangerous goods that we've made illegal. So just a very unique part of investing in the space, something that can turn into a large tailwind down the road, but there's no guarantee that it will. Yeah. And at least for now, all the rule is equal across the board for cannabis businesses. So there's at least parity in terms of their competition. But when you look at it like a traditional business where you maybe would have evaluated it on a market cap to operate income multiple, you have to do either operating income after taxes or operating cash flow because it's just not truly indicative of the cash you're getting as a shareholder.

um yeah and then i mean their effective tax rate is 62 percent it's it's uh yeah go ahead yeah it seems it seems super high um and then they uh i guess other notable things they did during the quarter they acquired dharma pharmaceuticals uh and this helped them expand into the virginia market so i guess brad maybe knows this a little better than we do but i believe this is sort of their expansion model which is when new states uh legalize cannabis they acquire companies that have existing licenses in those states in order to expand am i getting that right yeah well in illinois i mean illinois was that was the home base so they kind of had that established but pretty much everywhere else you're getting it exactly right okay and then uh

do you want to talk about the balance sheet and liquidity? Yeah. So another interesting concept uniquely for the cannabis space, and I'll try to mention why, but in terms of cash and equivalents, they have 285 million on the balance sheet versus 83 million euro per year. That's following a series of warrant and debt raises that they underwent. They have 34 million in warrant liabilities, 205 million in notes payable, but only 7.6 million of that is actually current. Um, so it's pretty, it's pretty long dated, uh, or it's pretty long dated credit. Uh, the interest rates on the warrant and debt offerings range from seven to 12%. So, uh, that, that, that's, that's the interesting point for cannabis.

So, um, beyond 280E reform, something called, uh, safe, safe banking, which is another piece of legislation that cannabis people like myself are looking for, uh, would, would allow, um, would allow for, we were talking about how it's the tickers GTBIF, and that's because it's, it's listed on these junior Canadian exchanges. So safe banking would allow them to uplist onto the New York Stock Exchange or the NASDAQ, and it would also allow them to do things like get business insurance and receive institutional support that they've been unable to garner because of federal laws. So that 7% to 12% cost of capital is a product of safe banking not yet happening and is yet

another profit headwind associated with investing in cannabis that can potentially, not definitely will, but can potentially turn into a large margin tailwind down the road. And just for reference, that 7% to 12% is among the, as actually, as funny as this sounds, is among the best in the cannabis space. So Trulieve, which Brett talked about a little bit, has issued a debt offering right around 7%. Green Thumb and Trulieve are the only two companies that have ever gotten an interest rate in that area.

You see some lower quality firms, not profitable and smaller, that are paying over 20% cost of capital. So I mean, it very much so raises the bar for balance sheet health and for profitability right now because interest expenses are going to be so are going to be so large for the foreseeable future until this changes. And then from a dilution perspective, up rep hit on it. So I'll just say, expect 5% dilution going forward. I would not be surprised at all if they raise more warrants or raise more options and sold them to fund more growth because they are fully in growth mode and fully in land grab mode and grab all the licenses we possibly can to build

as big as they possibly can in the near future. So it's a good place to leave off. Yeah. Given that the debt is so expensive, the interest rates are so high, do you think it's more preferable to just have them just do stock offerings? I mean, why even take on the debt? Yeah. I mean, they take on the debt because they think the return on investment can be above 12%. And I think it's important to balance dilution, which I know you know very well, and not over diluting shareholders and raising debt. So without pissing off shareholders and diluting the share count from, where is it right now, $241 to $480 million, they can raise capital to fuel growth without eroding that APS so

quickly. But again, the 12% cost of capital does make it so that these warrant liabilities are somewhat favorable they can do it without making anyone upset yeah they're in a tough situation i mean it's just they probably have an easy way to uh analyze it but it's just whichever form of capital is more expensive and on top of it sounds like if you're if they dilute too much it sounds like they could dilute their voting power as owners or as executives and it sounds like there may be a strange, uh, it sounds like there may be someone that owns a lot of stock that they don't really want to own that much. Uh, Kovler doesn't want to give that up. Yeah.

That's a good point. So if they dilute, they could be potentially diluting their power within the business. Okay. Yep. All right. That all sounds good. Let's take an ad break. Cox panoramic wifi includes advanced security to help protect all your connected devices. you'll get real-time alerts oh like this one so you don't have to worry about malware or when your kid downloads a song from a shady link and now all your computer can play is red color red color where are you all blocked thanks to advanced security included with cox panoramic wi-fi advanced security must be enabled in the panoramic wi-fi app restrictions apply All right. Welcome back in. Next up, we're going to hit anecdotal evidence. Brad, you know, what do you think of their brands?

So Green Thumb doesn't sell in the state of Michigan, but they do sell in the state of Nevada, which I visit frequently to see friends. And they actually purchased my favorite cannabis brand called Cannabiotics and integrated all of their genetics into their brand. So, yes, I am a big anecdotal fan of Green Thumb personally. I guess I'll just go ahead and say that I don't really have any experience product-wise. The only value I can maybe add here is I've watched some videos with the CEO, and I liked him. Sometimes these cannabis companies can have questionable leaders. Well, there's one we found that was arrested 10 years ago, remember? This just doesn't seem to be the case. This seems to be a manager that's prioritizing cash flow and

running it like a true business. And, uh, but I, I want to ask, do you think this is a industry where customers can get attached to one specific brand like a Coca-Cola or like a Marlboro cigarettes? Uh, yeah, I, I, I absolutely do. Um, and it's, I think a great way to think about it is is like wine or craft beer um that people will have different taste preferences and that there will be different levels of grow quality and and and grow operations fetching different price points um but the growing cannabis is a wildly complicated process like interestingly so you you can grow a couple plants at your house and and and do it pretty easily but the end product that you're going to come out with is is so inferior to what these companies are coming out

with, um, that, that it really, it really, uh, it really does, uh, cater to brand loyalty, um, for, for me. And I'm, I'm a great example of that. Um, I, I, I, I, when I, when I go to weed maps to purchase my next order, I immediately go to one brand that I'm looking for. Um, and, and I, and that's all that I buy. Um, so, and I think that's, that's the norm, not the exception. Okay. That's interesting. So it's more like the wine industry. That would be the best comparison. And I think, I think it's, it's for, for people like me who have, who are not doing it for the first time, who know what they want. That's true. But, uh, maybe if, uh, if, if Brett decided to start smoking cannabis tomorrow, which he told me before the episode, he was definitely going to do,

I'm totally kidding, but you, you, you would not be able to, to tell a difference between different brands and different qualities. Right. Right. That makes sense. Um, yeah, I anecdotal evidence. I don't have any, um, for one, not really a user and they don't operate in Washington state. So I can't get any, but I was looking at online reviews and they all skewed positive, which I thought was a good sign for green thumb stuff. And it seemed a lot like, uh, rhythm and, uh, what was it? Dog walk. I think those are two of their popular ones.

They people seem to love those. So that, I think that's a great sign, but again, it's hard to tell. And they're, they're very, in their early stages. I'd like to see them start reporting MAU figures, monthly active users, daily active users. Monthly active users, daily active stoners. That's right. That is correct. All right. Future growth opportunities, Brad, what do you think is the biggest, or what did you choose as a growth driver for this business? Sure. You guys got, I think you guys covered the two big ones pretty well. So I'll try and get a little more creative, but these companies, interestingly, don't spend anything on marketing. So they don't spend anything on brand awareness.

They're in the low single-digit percentages of revenue, and they all are. And that's really a product of federal laws not allowing them to post a weed commercial on ESPN in the middle of a basketball game. So I mean, when or if laws change, or if they start to get a little more creative and can normalize marketing spend, I think that can be a large boon for converting what is still in some states, majority black market sales to the legal market. So I mean, just despite Washington being at $1.5 billion run rate, that's that's legal sales. So there's still a black market cohort that's that's still very much so up and running and healthy. And this marketing, I think can can not not so much convince the existing users to to switch from their beloved black market

growers to legal growers, but convince the people entering the category to to do so via legal means because no, no drama, no nothing. And I think in order to do this, it's going to take shifting, maybe not shifting, but, but focusing a lot, not on the flower and the joints and the actual cannabis product. That's really intimidating to a lot of people that consume, but really building out these, these, uh, edible categories and drink categories and, um, tinctures and pills and oils and all of these things that for, for everyone else besides me is, is way, is way more appealing. um so so i think that's that's where they go if the yeah the i think well there's two laws that i think are important in the sales and marketing part which is one the 280e so like part of the

reason i imagine that they limit their sales marketing or sales expenditures just generally is because they can't deduct those expenses but then on the marketing part i could see a world in which the like traditional marketing is never really allowed like tobacco today. I mean, the, uh, and that's, that, that can be a tailwind also. So like for a lot of tobacco companies, startups cease to exist when they weren't able to market and the incumbents, uh, were able to not only keep their existing market share, but they were able to cut their marketing costs to the bone so it uh maybe it goes more the way of that where it just can't maybe that's an advantage or a barrier to entry do you guys see it that way or no i could see it that way yeah i i it's just i

see i could see it that way for sure i i do see cannabis is more similar uh as to alcohol which is allowed to market pretty freely um than tobacco but but i definitely could see it happening that where yeah i could fall into both camps there i think logically cannabis should fall in with alcohol because they're both like elixirs cannabis is very uh the harm is whatever super low but politically that might not fly you know i'm trying i don't know you know what i mean it i don't know if like yeah politically they might fall into the same campus tobacco which honestly i think that might be a good thing if you're investing in an established player um but yeah ryan you want to hit your future growth opportunity sure the uh i mean the game plan is pretty sort of their model

is pretty replicable it's very easy to understand there aren't i don't think any of us could provide a future growth opportunity that they haven't considered which basically what they're going to do is as these geographies open up they'll expand probably through acquisition to acquire the licenses and then continue to just pour CapEx into new stores or manufacturing facilities in those areas. Beyond that, I think the most important thing right now is to establish customer loyalty with your brands because that's going to make them defensible in the event that the regulatory environment frees up and competition comes pouring in. If they have tons of customer loyalty, they're going to be okay in that environment. And they're going to

be able to not only defend their position, but also, uh, grow because of the customer loyalty and grow, get the same benefits as all the other people coming in. So doing whatever you can to really establish that. I don't know if that's a loyalty rewards program. I don't know if people do that in cannabis, um, or what, what needs to be done there, um, that, that I think has to be the focus for them. Yeah, that makes sense. Um, all in mind then it's really just the CPG growth nationwide, I believe, and I don't have the numbers in front of me that this is the fastest growing segment within their company. Um, and it's doing quite well right now. And what this means is just that their brand specifically, you know, dog walk rhythm, um, gosh, Brad mentioned

some others and they have quite a few uh for all the different types you know vaping concentrates pure flower pre-rolled all that stuff it's just getting it into as many stores and outlets as possible and there are those restrictions right now but as you get free as you know stuff gets freed up slowly nationwide they should have a steady runaway to do this if e-commerce opens up they should have a steady runway to do that as well i think the goal for them and this is where the you know this is where they can really turn into a cash cow is to get millions of people into being you know habitual consumers of the product similar to a soda candy tobacco alcohol or coffee company how they do that and if they can and be one of the top brands there i mean if you look at

the stocks within those categories that are very similar um that i just listed the leaders are all hundred beggars and i think that's kind of where the opportunity lies what do you guys think on that. Do you think, am I getting anything wrong there, Brad, on kind of my assumptions? No, I think we're sort of where you're going with it is that we are very much, the industry is very much so in consolidation mode right now. And the highest quality operators are going to scoop up as many, as many assets as they possibly can. And we are going to end up with three or four of these really large players, which is why scale and balance sheet health right now to me is so vitally important. But yeah. All right. Let's move on to highlights and lowlights. Brad, what do you like

dislike about this business i should give a fair warning you do own this stock um so for anyone you know brad might be biased to the bullish side here yeah uh definitely biased but uh leading market your position in key states and within an industry poised for a 20 organic growth care through 2030 um that's pretty darn appealing not not to mention the inorganic growth that's going to come on top of that um and again balance sheet health is is one of the top three in in the industry um the The other two, just to mention them, Verano and Trulieve, both have rock-solid balance sheets as well. Those are really the three most solid, I think. And then you could throw Juralief and Cresco Labs, and they're a tier below.

But from a low-light perspective, and I just want to say, these companies are the polar opposite of Canadian LPs, Canadian cannabis companies that got all that hype a few years ago and were burning cash like drunken pirates and had no capital discipline. And legislation, while it's been a little bit annoying, has forced these companies to be wildly disciplined in how they're allocating capital. So they are already profitable. I just wanted to point that out. But the low light is that we deal, any investor in the cannabis space inherently has to deal with puts and takes and false starts from Capitol Hill and from politicians. I don't like politicians personally.

It's not a right wing or left wing thing. It's not a huge fan of having investment exposure to political decisions and the unpredictability that coincides with it, which again is why if we get none of these regulatory tailwinds that we've kind of alluded to, it's so important that we're picking companies within this space that are succeeding without these regulatory tailwinds. Because despite the fact that I'm confident safe banking and 280E reform will come, I don't know and nobody knows except for maybe Chuck Schumer or somebody else on Capitol Hill that has insider information.

but dealing with politicians is never fun and you have to deal with politicians here. Yeah. Yeah. That's sort of the similar lowlights that I have. I'll get to my highlights first. So they are growing fast. They're prioritizing cashflow and it seems like a well-run company. And then they also have a good amount of liquidity in an industry where that isn't very accessible. And the, as Brad alluded to the regulatory requirements here,

have forced them to be lean and they're able to generate cash flow in in in the face of really difficult uh operating environments like if you can't deduct ordinary expenses and you're still able to generate a good sizable chunk of your revenue in cash that's really kind of impressive um low lights for me though it's pretty much all around regulation so the unfavorable tax treatment that does stink. And who knows, I guess, when or if that would be appealed. We talked to a CFO of a company that has to deal with this as well. And they said, everyone in the industry is really pushing for it. So I think it's more of a when than if. And then the other ones, there's limited access to banking. And then on top of that, there isn't a huge proclivity to

lend to companies like this because they don't get access to US bankruptcy protections. And so debt holders on companies like this are sort of the margin of safety isn't quite as high. And so if you're thinking as a stockholder, well, that doesn't affect me, that in a lot of cases is going to be where they're going to get their capital. So that is part of why they also command higher interest rates. And so a lot of that stuff is all regulatory, but it hurts the business nonetheless. Yeah, agreed on all fronts there. I'll hit my highlights. I mean, excluding the tax holdup, solid unit economics, you kind of go into this industry and you're like, okay, what are the gross margins going to look like? And so far it looks pretty solid. Growing market,

like Brad highlighted with all those details there. And they have, and I think the biggest highlight for me is they have a really long runway to reinvest for growth. And as long as they're getting a good return on that, I think that's just, it's just fantastic because, I mean, especially a lot of industries out there, you see companies that have good returns on invested capital, but they don't have a lot of opportunities to reinvest for cannabis. It's quite clear. The reviews online seem to say that the products are high quality. So, you know, hopefully they're moving into that place where consumers kind of see them as the top dog. They see them as a quality brand. They'll go to them every time if they want that consistent, well, experience, I guess I would

call it, from cannabis. Low lights though, they are getting investigated by the feds for a pay to play for state licenses. Like Brad and Ryan were talking about is an advantage that they kind to know everyone within that industry, and especially in Illinois. And that was probably how they got those licenses. But on the flip side, there's been some allegations that they did it corruptly. So I don't think that's a huge low light, but it's something to watch out for. Income taxes, we talked about that. And then the big low light, I think for me, is that no brands have the proven staying power yet. Some of the brands within Green Thumbs could become the dominant one, but I think there's still at least five years until we figure that

out. All right, let's move on to bull case. Brad, it looks like you got a lot of details here. What do you think could go right for this business over the next few years? In terms of bull case, the high likelihood of regulatory events are 280E reform, safe banking, and continued state legalization. So those are the three things that I'm expecting in the bull case. What this does vastly cuts cost of capital vastly cuts effective tax rates um and then assuming the company can grow at a slightly better um than the 20 percent compounded compounded industry growth rate with the m a it's probably going to do in the future call it 25 percent um and so i wanted to do kind of a quantitative bull case this time because i think i think that that paints a great picture

of growth at a reasonable price here but um that would get you by by 2030 to about a little over $6 billion in cash and with pretty conservative cash flow margin assumptions, about $1 billion in free cash flow. So if you plug a 15 times forward free cash multiple on that, you get a nine-year compounded return of 14.3%, which, I mean, I'll take that any day of the week. And again, that's with a 15 times multiple. That's with really no outperformance on an organic basis growing. And with pretty conservative, I tried to be assumptions. So, and that also assumes two regulatory events happening in its favor that are far from certainties. So, keep that in mind as well. Yeah. And I think all those estimates are realistic numbers. The bull case is you kind of

just covered it all, which is state by state. This gets legalized and Green Thumb steadily expands. I think there's going to be some multiple compression just inevitably. I don't think a lot of companies trade at 40 times operating cashflow forever. And so there will be some, but I think they can definitely grow into it. It will probably get, I imagine it'll get closer to a sin stock multiple than say a software multiple, but nevertheless, I think the returns could be good. There are some things that need to go right though.

which is, which they don't have that much control over. That's, that's the only thing, I guess that's more for the bear case, but the, yeah, hold your horses. That's the only thing that would prohibit the bull case. Right. Yeah. I'll get mine. It's, it's very similar. I guess, you know, Brad outlined those numbers really well. You just have steady end market growth. It lifts demand. And then the tax burden goes away. I mean, if sales per share double, which at their current pace, they should do within a few years. And then gross margins stay the same. Their price to gross

profit will come down to five, which is below an average market multiple there. And if tax rates normalize, they could easily get a 10% earnings yield. I mean, that's like, I mean, in that scenario, you'd expect the stock to be higher. Yeah. There's a value. There's a very, the valuation would re-rate if that, if the tax laws, if they got treated like an ordinary business. For sure. For sure. Yeah. And I think that's part of the bull case. Bear case though, Brad, what do you think could go wrong here? Yeah. And also the other rewriting event we'd have just before I go into bear case would be that uplifting event, which would finally allow institutional dollars to flow into this company

because it's the investor base is predominantly insiders and retail right now, which is obviously not ideal for volatility and efficient markets and all of those wonderful things. But from a bare case perspective. You guys highlighted the two big ones, so I don't want to take those. But so we talked about these regulatory tailwinds. And alongside that, we have to talk about regulatory headwinds. Because if federal legalization comes, it probably means something called interstate commerce comes, which would erode these 55% to 60% gross profit margins that all of these companies are enjoying at the moment. Because if you're looking at price per ounce that's being sold in Washington, DC, versus something like California, it is vastly different.

And when interstate commerce comes, we won't be paying what people are paying in D.C. everywhere. We'll be paying what people are paying in California everywhere, which that will be a gross profit margin headwind. So this is a CPG industry and these are CPG companies operating at 55% gross profit margins. That, to me, doesn't seem super sustainable. And also, to me, that is completely OK. These can be very successful companies operating at 40-ish percent gross profit margins. And that's kind of what I expect. But the bear case is that these margin headwinds come and we don't get the margin tailwinds alongside that. So we don't get the net income and free cash flow margin boost from these other events. And we only get the interstate commerce.

It's not likely. But again, we're dealing with politicians. So who the heck knows what's likely and what's not likely? So other than that, the only other bear case, and I love to cover risks for companies I'm talking about because I think it's just so important, if federal legalization comes, what that also means, and Ryan alluded to this a little bit, is that traditional CPG and pharma companies and tobacco companies and alcohol companies are all immediately going to want to come take a piece of this 20% growth industry. And that is going to lead to immense competition. And it's probably going to lead to a lot of lobbying dollars that could transition our market away from limited licensing to less limited licensing. And in that scenario, when 7-Eleven can sell us a joint, that favors these branded wholesalers that are focused on building brands instead of building retail centers around the

nation. That's why I like Green Thumb's recent pivot to wholesale so much. It's why I own a company called presco labs which is very much so focused on wholesale um because i think wholesale branded wholesale will very much so be the future when this industry looks more so like alcohol where we can buy it in many different places not just a random dispensary so um those are the bare cases sorry i got a little worked up there but but i'm very passionate about the space if you hadn't noticed it uh yeah i think their moat their moat if it if it comes will exist in their brands, the licenses, like investing solely because they have licenses and licenses are limited seems risky to me. If that's where the, yeah, go ahead, Brad.

It's about building the brands right now under this limited licensing system. It's about building as big and strong and profitable and durable as you possibly can right now before all this competition comes, which honestly makes it so that do we even want federal legalization right now? I really don't think we do. I think we want to wait a few years and let these companies get big and strong and irreplaceable so that Unilever has to buy Green Thumb instead of just building a Green Thumb and replacing them. That's kind of how I see it. Yeah, that's my bear case is regulations are double-edged sword. They suck sometimes to be operating in this environment, but it's also a major barrier to entry. And it means a lot of the bigger players like an

Altria or a Philip Morris aren't that attracted to the industry right now. Whereas if those lightened up, then they very easily could be. If Green Thumb's brands are not established and don't have a super loyal customer base by the time that the market's totally freed up, that would be very dangerous because there will be a flood of capital in there and competition will definitely increase. That's really the bear case for me. I do see Green Thumb as a very real acquisition candidate. Maybe even like Jim Beam, which would, I think, just be totally ironic. That would be amazing. I think Jim Beam's owned probably by someone, unless I'm getting it wrong. No. Yeah. It's American Tobacco. Well, American Tobacco bought them in the 60s from this guy's,

the CEO's dad. All right. Yeah. What are those? Yeah. What are those alcohol brands? Anheuser-Busch, Molson Coors, isn't there a Constellation brands? Yeah. They own Canopy. So the interesting thing is like Canopy and Altria own, or I'm sorry, Constellation and Altria own Canopy. Constellation owns Canopy. Altria owns Kronos because these companies are operating in Canada. So they're federally legal. So they just said this is easier from a regulatory standpoint. And the ironic thing is these companies are so inferior from a fundamental standpoint, both profit and growth and getting an opportunity. They've really been forced into owning inferior assets. That's interesting. All right. Yeah, we should probably wrap up soon. So I'll hit my

bear case. They're very simple. I think everyone can kind of see these. Tax burn doesn't go away. That'll be tough. Multiple compression goes down to a sin stock level. It'll be a bit of a headwind there. And then simple one, if brands fall out of favor from consumer demand, that's a risk. I mean, that's an obvious risk, but it's still a risk. All right. Wrap things up more or less interested. Brad, let's start with you. Yeah. Well, I mean, I own the company and don't plan on selling any shares, but I do want to leave our listeners with one point that we are in consolidation mode in the industry right now. And there will be three or four big players that emerge from this consolidation mode as by far the strongest and most scalable players in the space. So it may

not make sense to pick a Green Thumb or to pick a Cresco Labs or to pick one of these seven or eight companies that look like they can be one of those three or four companies. And it may make sense just to go with an ETF called MSOS, which gives you broad-based exposure to the sector as a whole, which kind of eliminates the risk of picking which is going to win in this consolidation phase, um, and, and just benefiting from that 20% CAGR that we're expecting for nine years. I am going to go, I'm pretty on the fence. Uh, I'm going to go less interested. Sorry, Brad. I actually do. I really liked the business. I like how it's run and I liked the opportunity, but the, I have, I just don't know how the field's going to play out in five years.

And those are bets that I tend to avoid. I just don't know like what the prominent brands are. And then I also don't understand. I don't know whether consumers, even though you said in your case, consumers stick to brands. I don't know if they get a really discounted price on something that's slightly inferior when they go for that versus the brand they really like. I don't really understand that the consumer habits as well, which is also something I

tend to avoid. Brett, what about you? I'm more interested, but I think, and I'm very interested in the cannabis industry because I think like a lot of the consumer industries that I mentioned before, soda, candy, tobacco, alcohol, there will be big winners. And there could be, if you had the right management team, some really long-term compounders. However, right now I'm basically keeping everything on the watch list. Green Thumb seems like a great, well, it seems like it could be a great business if they execute, but I'm not, and maybe this is different than just a different style of

investment between me and Brad is I'm not really into kind of the more venture than this. I want to describe this as venture, but maybe earlier stage, I'm not into investing in those. So if they mature over the next five years, the stock could be at 5X and I could be very interested in investing depending on how the regulatory environment plays out. But right now I'm interested, but with almost all cannabis companies, they're just staying on that watch list. Brad, do you have anything else to close out with? I'll just say you mentioned venture capital, and these really are pseudo private companies operating in public markets because they don't have traditional access to capital because they don't have a lot of these benefits that public

companies enjoy. Yeah, that's a great point. All right. We're going to get to the stock for next week. It's my turn and I'm going to give you guys two choices because I'm not sure if you guys want to double up on something here so the first one and we can push this back until the next time i come around would be verano which is one of uh green thumbs competitors but i was thinking about it and it might not be best to do a double two of almost you know very similar cannabis companies back to back and the other one is going to be a little known company called amazon that i think you know um hasn't gone anywhere for like a year and a half what do you got was that what was the of that company yeah it's uh it's in seattle oh a little startup uh yeah i think i've seen their

trucks around looks promising i would i'm gonna go with i would say amazon uh it feels weird to study the same business model twice in a row yeah we'll say verano yeah and they just threw the amazon just threw support behind a federal legalization bill for cannabis so i feel like that's a great gateway in verano yeah perfect we'll do amazon i still want to study some more of these um what are they called msos is that the term yeah yeah i still want to study more of those so we'll hit verano another time but yeah actually one more thing um there's so here i'm gonna go to twitter really quickly there's a twitter handle called cash flow free um or something along those lines and he posts cop sheets of every cannabis space uh every cannabis player in the space

how many stores they have what their forward margins are looking like what their forward what multiples are, what the growth looks like, balance sheet health. And it's really condensed and really well thought out. So I'm going to go, his handle is cashflow underscore free. So if you're interested in the space, just go there and you'll get all the information you need about the players. Perfect. That sounds like a great follow for anyone interested in the cannabis industry. All right. That's going to do it for this episode. Remember, give us a review on Spotify or iTunes or Apple podcasts or wherever you listen. That's the easiest way for you to help the show. Remember, we are not financial advisors. Anything we say on the show is not formal advice or recommendation.

Ryan and I are general partners at Arch Capital. Arch Capital clients may hold securities discussed in this podcast. Thank you all for listening. We'll see you next time.