Why the future marijuana superpower could come from this region

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When PharmaCielo, now a publicly traded company, formed in 2014 to cultivate medical cannabis in Colombia, some growers needed convincing. Some came from families that farmed chrysanthemums for generations. Cannabis was largely illegal and stigmatized. Scars from the nation's decadeslong drug war were fresh. A peace deal between the government and leftist FARC rebels was two years away. North America's marijuana stocks boom had not begun.

Talks with indigenous communities, regulators, the military and police took a couple of years. And after all that, PharmaCielo, which joined other marijuana stocks on the Canadian exchanges this year, has yet to report a dollar in commercial cannabis sales. But it is far from alone in its South American aspirations. Other marijuana companies are betting the region will supply the world with outdoor-grown cannabis at a fraction of North America's costs.

The upshot: A flood of cheap weed from the region could force big producers in the U.S. and Canada to rethink massive investments in indoor, climate-controlled grow houses. Some executives and analysts predict they might disappear further down the road or be re-purposed.

North American marijuana companies are already putting down roots in countries like Colombia, Peru, Brazil, Argentina, Uruguay and Chile. Sourcing that product from South America could fatten profit margins and reorder the global supply chain.

"In fact, we don't believe the Northern Hemisphere will be leading the cannabis cultivation industry in half a decade or less," Joseph Lusardi, CEO of U.S. cannabis producer Curaleaf (CURLF), said during a presentation in January. "We will likely be importing cannabis from the Southern Hemisphere and from countries such as Uruguay, where we can't possibly compete with those inputs."

Next Frontier For Marijuana Stocks

Free-flowing international trade of recreational weed is still probably a generation or more away. In the U.S., an act of Congress legalizing marijuana would be necessary. Figuring out the right way to import hemp will be a multiagency effort.

Regulations from nation to nation also seem likely to gum up emerging pathways of commerce. Even in Colombia, where regulations are more developed, few companies have been cleared to produce and sell cannabis products.

Cannabis

In Colombia, pot producers pack five or more outdoor growing cycles into a year. (©StockPhotoPro/stock.adobe.com)

But coffee, cut flowers and other agricultural products from Latin America have become bulk commodities. Pot industry insider increasingly believe cannabis will follow suit as more nations legalize it.

Marijuana companies able to capitalize on the trend could get an edge as the added competition lowers prices.

Meanwhile, Canada's producers are struggling to meet towering expectations. And the heightened interest in Latin America also comes as investors in marijuana stocks seek the next frontier for big returns.

'Huge Business Opportunities'

At the same time, Latin America is rethinking its drug policies after years of turmoil. Uruguay in 2013 became the world's first nation to legalize recreational marijuana. Colombia, Mexico, Argentina, Brazil, Peru, Paraguay and Chile allow at least some degree of medical marijuana usage or cultivation. But legal frameworks for business remain stiff or underdeveloped.

Legal business within those nations is expected to remain relatively small in the years ahead. The research firm BDS Analytics forecasts that legal spending on medical pot within those nations, excluding Paraguay, will reach $547 million by 2024. Mexico's $441 million will make up the vast majority.

By contrast, BDS expects overall legal spending in the U.S. and Canada to swell to $34 billion over that time. But insiders still see huge potential in Latin America.

"The sheer number of inhabitants, ideal growing conditions in large parts of the region and jurisdictions in favor of production for export signal potentially huge business opportunities," Alfredo Pascual, international analyst at the industry publication Marijuana Business Daily, wrote in a September report.

Colombia Leads The Way For Marijuana Companies

Mexico might have the biggest market inside its borders. But more investors believe Colombia, where medical marijuana was legalized in 2015, offers the best climate. That's literally and figuratively. When asked how much Colombia could export over the next five years, Tom Adams, BDS' managing director, industry intelligence, said in an interview: "More than the world could consume."

The equator cuts right through Colombia's lower half, affording crops a steady diet of warm weather and 12 hours of sunlight. That allows producers to pack up to five outdoor growing cycles into a year on open stretches of arable land and volcanic, organically-rich soil. In areas further north, producers can get around one outdoor cycle a year.

"We do expect to be the breadbasket of cannabis, I think," Kyle Detwiler, CEO of New York-based Northern Swan Holdings, said in an interview. His investment firm backs a cannabis company in Colombia.

Cannabis producers in Colombia can export cannabis oils, extracts and isolates. They can grow cannabis and also sell cosmetics infused with extracts that come from outside the nation. But they can't domestically sell it or export it in dry-bud form.

BDS Analytics, in a report in June, said that as profit-hungry marijuana companies descended on Colombia from abroad, their interest was "clearly shared" by Colombia's government. Regulators had doled out nearly 260 licenses as of the end of July, most for cultivation, according to Pascual's report.

Marijuana Stocks Eye Flower Power

While there's still plenty of red tape, the potential for cost savings for marijuana companies is immense.

commercial marijuana

In Canada, it costs $1-$2 to produce a gram of dry bud indoors, GMP Securities says. (Canna Obscura/Shutterstock.com)

In Canada, it costs $1-$2 to produce a gram of dry bud indoors, GMP Securities analyst Robert Fagan estimates. Much of that is from expenses to control lighting and temperature as the seasons change outside. But in Colombia, that cost shrinks to 5-10 cents when growing in the open air.

Labor costs in Colombia are also far lower, which keeps those costs lower. They sit somewhere around $15 a day in Colombia, said Dov Szapiro, managing partner at the cannabis-focused private equity firm Cresco Capital. Szapiro said the firm was weighing possible investments in the region.

Colombia already supplies a huge portion of the world's cut flowers. The skills in that line of work, the argument goes, translate well into growing and trimming cannabis plants, analysts say.

Colombia: 'Complete Opposite' Of Canada

Those lower costs have also proven attractive to Canada's most well-known marijuana companies. The likes of Canopy Growth (CGC), Tilray (TLRY) and Aurora Cannabis (ACB) have scattered their investments across Colombia and the rest of the region.

Anna Shlimak, Cronos Group's head of investor relations and communications, stressed that her company is committed to Canada. But Cronos has also found things to like about Colombia.

"It's not a surprise that Canada isn't the best place to grow cannabis — it's very cold," she said in an interview in June. "And in Colombia, it's not only the complete opposite, it's also not humid, which is also quite important."

Cronos in May said that NatuEra, a joint venture it runs focused on Colombia, has a cultivation license in Colombia for psychoactive cannabis, along with licenses to make non-psychoactive products. Cronos CEO Mike Gorenstein at the time said NatuEra would initially put most of its focus on hemp.

He also noted that, "having a low cost of production is going to be something that's going to be really important to drive margins long-term."

The Canadian Connection

Bigger Canadian marijuana stocks have also tried to buy their way into Colombia. Canopy Growth, the world's most valuable weed grower, announced last year that it acquired Spectrum Cannabis Colombia. Canopy said the move would help it serve the Latin American market directly.

Aurora Cannabis last year acquired cannabis producer ICC Labs, which is based in Uruguay but has operations in Colombia. Other smaller marijuana stocks, like PharmaCielo and Khiron Life Sciences, concentrate their operations in Colombia. However, PharmaCielo is technically based in Canada.

For now, PharmaCielo is only cultivating CBD plants, which have easier export regulations, with plans to sell products based on those plants in nations where it's legal abroad. It relies on its own facilities for cultivation but hopes to eventually fatten capacity by contracting with outside farmers.

Under that system, which Chief Corporate Officer David Gordon said was similar to the tobacco industry, PharmaCielo would own the plants. The farmers would grow those plants, harvest them and return them for processing. At least that's the plan. PharmaCielo had zero commercial sales in Q2. But Gordon expected some to trickle in during the second half of this year, with more next year.

Other marijuana companies with a focus on Colombia include Blueberries Medical and Clever Leaves, the company backed by Northern Swan.

A low-cost structure in Colombia, analysts argue, could help those businesses weather any global drop in CBD prices. That risk looms larger as more marijuana companies enter, bearing everything from tinctures to muscle wraps.

Marijuana Stocks Add LatAm To Supply Chains

Other Canadian companies are using Latin America as a node on their global supply network and a springboard into other markets.

Tilray, a top producer of medical cannabis, has pharmaceutical supply distribution agreements in nations like Peru, Brazil, Argentina and Chile. A global partnership with Sandoz, a segment of pharma giant Novartis (NVS), could also put more Tilray products on pharmacy shelves worldwide. The arrangement also saves Tilray from doing that work itself.

"We just have to add our products to their supply chains," Tilray said in a written response to questions. "We don't have to purchase a fleet of trucks and duplicate their sales and logistics teams."

The product flows go in the other direction too. After acquiring its local import and distribution partner in Chile last year, Tilray said it can send its products to Chile from its production facility in British Columbia. The company also said it "may" eventually supply Latin America via Portugal, where it is ramping up a production center intended to serve as the heart of its international business.

Aurora in December also announced that it would acquire Farmacias Magistrales in Mexico. Aurora, in an investor presentation this month, said the deal would make it "Mexico's first and only federally licensed importer of medical cannabis containing over 1% THC."

Marijuana Industry In International Limbo

But rules for the medical market are laxer, while international trade for recreational products is still illegal. Tilray said it doesn't see that changing "in the near future."

Marijuana store products

Cost saving from using South American supplies could be minimal in products like cannabis beverages. (Elaine Low/IBD)

In an interview shortly before his July ouster as Canopy Growth CEO, Bruce Linton agreed that the days of recreational weed legally crisscrossing the globe are far off.

"I regret to inform you that you and I will probably be dead before that happens," he said.

He also downplayed the prospect of low-cost, commoditized weed forcing an overhaul of Canada's vast indoor grow operations. And he said that as more producers use cannabis as an ingredient to go in other products like beverages, the cost savings might be overrated.

Thus, for cannabis beverages, he said, "If I'm putting 10 cents of THC in, and you can get it to me for 4 cents, does that actually materially improve my margin? No. Like, I'll take it. But it's really about the sales price and the loyalty to the brand and the frequency of sell-through."

Linton also argued that shipping costs could eclipse the value of the substance being shipped. And he suggested pushback could come from already-legal areas, where jobs, pot shops, production facilities and other infrastructure are more entrenched.

'Basic Rules' Of Agriculture

Demand at home and limits on international trade might keep Canadian marijuana companies plowing money into massive indoor growing facilities for now. But Szapiro, of Cresco, said investments in those operations eventually would become less meaningful than investments in intellectual property and technology. Grow operations will ultimately disappear or become research centers, with no major production hubs in Canada, he predicted.

Adams, of BDS Analytics, pointed to the cut-flower industry that went to Mexico and Colombia. Similarly, he said, today's North American cannabis market is "a short-term opportunity created by a regulatory environment that's going to go away."

He added: "But your long-term planning has to face the facts of the basic rules of any agricultural product, which is that Colombia can produce it cheaper."

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