Pablo Zuanic on Cannabis Stocks: Institutional Strategies for Retail Investors

Pablo Zuanic on Cannabis Stocks: Institutional Strategies for Retail Investors

Pablo Zuanic: Do we expect rescheduling, and is rescheduling important? I think the question, without a doubt, rescheduling — removing 280E — is a significant catalyst for the group, and stocks would move up significantly. Bryan Fields: What's up guys, welcome back to another episode of The Dime. I'm Bryan Fields, and with me as always is Kellan Finney. This week we've got a very special guest, Pablo Zuanic, managing partner at Zuanic & Associates. Pablo, thanks for taking the time — how are you doing today? Pablo Zuanic: Thank you, Bryan, thank you, Kellan. I'm doing great, and thank you for having me on your podcast. Excited to dive in. Kellan Finney: I'm doing really well, really excited to talk to Pablo. I think this is a topic that is ubiquitous across the entire industry, and all industries in general, so I'm looking forward to getting Pablo's take on a lot of these areas as far as stocks and investing go. Bryan Fields: Yeah, I think this is a topic everybody is very interested in, and given the complexities of the cannabis industry, I think it's great that we're going to have Pablo's perspective and research to help retail investors — some of the ones out there really pushing the torch of this industry — understand what they're getting involved with and how to make better decisions. So Pablo, for our listeners unfamiliar with you, can you give a background on yourself and how you found your way into the cannabis industry? Pablo Zuanic: Right, so I've been an equity analyst mostly in the consumer space — consumer, retail, healthcare — for about, call it, more than 15 years. I covered a number of the large CPG companies in alcohol, non-alcoholic drinks — Constellation Brands, Coca-Cola, Molson Coors, Anheuser-Busch — some personal care stocks, food stocks over the years. Very liquid, large market-cap stocks widely followed by institutional investors, whether for short-term trading, long-term trading, dividend, or growth. Back in 2015, '16, '17, some of the stocks I was covering, like Constellation Brands, began to invest in cannabis, and of course you had legalization in Canada and other countries legalizing medical cannabis. So I began to pay more attention to the space. As a result, I joined Cantor Fitzgerald in 2019 to fully cover the cannabis space, launching coverage on about 37 stocks over about four years — plant-touching, non-plant-touching, US, Canada, overseas. Since April last year I have my own firm, where I do pretty much the same thing: publish research on the sector and specific stocks. I like to think of the industry on a global basis and take a long-term view. I always say, as a disclosure, if you want to day-trade the space, by all means I won't stop you, but I won't be your guy — there's too much technicals and too much risk. I like to take a medium- to long-term view, and that's what I'm doing in the space right now. Kellan Finney: What would you say has been the most unique change or difference between covering the cannabis sector versus your other traditional CPG sectors? Pablo Zuanic: I'd say, on one hand, it's a growth opportunity significant compared to the CPG space, but on the other hand, it's the dependence on the regulatory environment — how changes at the state or federal level may impact the industry. Those are the two biggest changes. I'd add the technicalities — institutional investors are not widely invested in the space, they don't participate, so that's been an adjustment. As an anecdote: that week in January before everyone's back, the third or fourth of January, I remember hosting investor calls with the CEO of Kellogg on the 3rd and the CEO of General Mills on the 4th, a few years ago, and you'd think these are boring, low-growth, dividend-paying stocks, but I had like 120 institutional investors on those calls on days not everybody is back yet. In large-cap CPG, low-growth, dividend-paying stocks, there's a lot of institutional investor interest, whether hedge funds or long-only. In the case of cannabis, institutional involvement is very limited — it's mostly retail. But that also shows you the opportunity: it's not just the growth in consumption and sales, but the growth that would come to stocks once you have wider institutional investor involvement. Those are the three main differences. Kellan Finney: Before we get into institutional investors, I really want to understand — as you were getting nuanced with the space, understanding the regulatory differences state by state, and digging into companies that are vertically integrated, operating six or seven different businesses within one market independent from another — was that more complicated than you originally realized, understanding operational excellence is critical to hit certain numbers? Pablo Zuanic: No, for sure it's an adjustment process. Every market is different, whether state-level or country-level like Canada, but that's part of the equation — if you're analyzing beer stocks you have to understand distribution state by state, on-premise versus off-premise. It's just part of the research process. Stepping back, US retail legal cannabis sales this year will be about $30 billion. Most estimates put the total illicit-plus-legal market at about $100 billion, so we've converted about 25-30% of the market to legal sales — a large proportion is still illicit. But on top of that, once you legalize, there's less stigma, more product innovation, wider distribution, so the market should be much bigger than that. I really believe that in a fully legal market, ten years down the road, with wider distribution and product innovation, you can get to $200 billion. Then you have to think about the rest of the world — if you're walking around Berlin or down Las Ramblas in Barcelona, you'll smell cannabis. There's no reason developed countries, based on per capita income, wouldn't represent a big opportunity too. It's early days — we'll find out who the winners and losers are, who the global players will be, but it's an industry with significant growth potential. State by state it varies a lot. In Canada, legal recreational has a lot of competition and low pricing, but there are companies emerging that are gaining market share and building a moat to grow overseas through exports, the way Canadian mining and forestry companies have grown globally. In the US you have the large multi-state operators — Curaleaf, Cresco, Trulieve, Green Thumb, Verano — involved in many states. There are two schools of thought: will this industry develop like casinos — very license-restrictive, with above-average economics for operators who get a license — or like a normal consumer industry with wide competition and more normal profits? California and Colorado are very competitive; a market like New Jersey is more restricted. That said, I don't assume restrictions last very long — in New Jersey we've already seen 100 stores affecting operator economics; an operator that used to do $40 million per store now does around $25 million — still great, but most markets will face more competition over time. The question is which companies can operate well in more competitive environments, and that's how you choose stocks with a medium- to long-term view. Kellan Finney: So you're essentially saying you should look at each state market, the US market overall, the Canadian market, and the international market almost as their own entities based on their regulatory environment. With MSOs operating across many different regulatory environments, how do you weigh those state environments when evaluating an individual stock? Pablo Zuanic: There are many criteria, but specifically for growth potential, we look at a company's footprint and the optionality of how those markets may develop. A company operating only in mature, increasingly competitive markets like California and Colorado has more limited growth from the market itself — though a company like Gold Flora may be well positioned to consolidate California, which we like. For MSOs, we base market growth potential on the states where they operate and how those markets may deregulate. Take Virginia — very underdeveloped medical market — once it goes recreational at $150-200 per capita spend, Virginia could be five to ten times bigger than it is today. Pennsylvania, by contrast, is a much more developed medical market, so going recreational might only grow it two to three times. Once we assess the optionality, we figure out the EBITDA lift for a given company versus its base. For example, comparing Green Thumb and Jushi in Pennsylvania: Jushi would see one of the largest percentage EBITDA lifts from Pennsylvania going rec relative to its total, while Green Thumb, though it would benefit, is far more diversified, so the lift is smaller in relative terms. For Virginia, Cansortium — sorry, Columbia Care — and Jushi both have exposure and would benefit, but again more or less depending on diversification. Then day to day you track the regulatory negotiations between the legislature and governor. Look at Delaware, Minnesota, New York — in New York, MSOs were initially left out, and even now caps are very low, only three stores, so illicit competition remains intense even as legal stores supply the market. Massachusetts and Michigan are very competitive, with a lot of stores, dilution, lower revenue per store and lower margins. So when we assess growth potential from states going rec, we do the analysis and write about it, and the market is somewhat efficient — positive news on Virginia moves Jushi, positive news on Pennsylvania does too — but at the end of the day we're working on assumptions about how competitive and profitable those markets become. Someone once compared investing in MSOs to buying a beautiful beach house with a great view, and then someone builds a big building in front of it and blocks the view. I disagree that's always true, because well-managed, disciplined operators like Green Thumb are always one step ahead — they invest early in markets that go recreational, make money in the first couple years, then reinvest in new states going rec, which is why they're one of only two operators in Minnesota and one of only three in Virginia. So if you're Green Thumb, you eventually end up buying that building in front of the beach. The landscape changes, but you look for companies managed well enough, with good balance sheets, positioned to adapt. If you're trading Virginia specifically, Cansortium — sorry, Cannabist and Jushi — are probably the best trades. In Florida, given Trulieve, TerrAscend, Verano and Curaleaf's heavy asset exposure there, those companies would get a bigger push from adult-use conversion. Trulieve gets about 60% of sales from Florida — a market that could be three to four times larger with recreational — and Trulieve is in a great position. Cansortium is a smaller public company whose revenue is mostly Florida-driven, with three stores in Pennsylvania and a small store in Texas for CBD; you'd think Cansortium is a company someone eventually wants to buy. Verano also has significant Florida exposure. Cresco and Green Thumb also operate in Florida and would benefit, but being more diversified, the lift is smaller. All that said, we have to wait for the Supreme Court ruling, then 60% voter approval, then what the recreational program actually looks like — caps, licensing timeline, all TBD. When Governor DeSantis recently changed his tune and made recreational sound like a given for the ballot, Trulieve's stock moved up as a result. Kellan Finney: What about risk profile — vertically integrated companies versus pure retail or wholesale — how do you weigh those differences and which companies are diversified to protect against exposure? Pablo Zuanic: We prefer vertical integration, but long term, if we think about how the industry gets regulated or legalized federally, look at beer and alcohol — a three-tier system: producer, distributor, retailer, with restrictions on retail chains. The CAOA bill from a few years ago that aimed to legalize cannabis federally also envisioned a three-tier system without vertical integration. Tobacco companies used to own farmers; now they own the brand but not distribution, retailing, or farms — they have agreements with growers. We think cannabis develops similarly long term, with brand owners in the best position — though it's hard to talk about cannabis brands right now given how early-stage the industry is. Short term, though, vertical integration is better for margins — you capture a bigger share of the profit pool by selling your own cultivated product through your own stores rather than to third parties. When markets become more competitive, like Pennsylvania, cultivators facing deflation allocate more of their own product to their own stores to protect margins — that's a hedge against changing competitive dynamics. Longer term, five to ten years out, assuming cannabis is legalized, I doubt the current vertical integration model persists under federal regulation, more likely a two- or three-tier system. Kellan Finney: One other point — retailers, being end of the supply chain, don't have the same accounting tools cultivation, processing, and fulfillment businesses use to manage 280E exposure. Do you think 280E reform, however it happens, could push the industry toward a two- or three-tier system? Pablo Zuanic: It could be, but the way states regulate is also a catalyst. Look at New York — MSOs are only allowed one recreational retail store right now, adding two more by June for a fee, but given how competitive the market is from illicit stores and new licenses, upside for MSOs won't come from owning the store but from wholesaling into all those recreational stores. Same argument for Massachusetts, where Cresco and MariMed do quite well wholesaling — you can only own three stores there but there are already close to 400 stores in the state, so successful MSOs are gaining market share by wholesaling across all of them. So yes, some states are pushing companies toward a wholesale model rather than vertical integration. As for 280E, it currently applies to all plant-touching companies regardless of business model, though what you can put in COGS varies by whether you're retail or cultivation, which affects the accounting impact. Removing 280E would be a significant catalyst — you'd move from paying tax on gross profit to paying 21% on profit before tax. Green Thumb, for example, currently pays about 70-80% of profit before tax in income tax, when it should be 21%. For companies with 50% gross margins but losing money at the pretax level, the lift is even bigger. So rescheduling and removing 280E would be a significant catalyst for the group and stocks would move up significantly. That said, we still don't know how rescheduling gets implemented. Cannabis has been wrongly classified as Schedule I for 50 years, and HHS has recommended Schedule III, like ketamine and other compounds. My concern is that everything currently in Schedule III requires an FDA-approved prescription monitored by the FDA — so what happens with recreational cannabis? The conventional narrative is that DOJ issues a memo saying, effectively, leave everything to the states as is. But I don't know of any other Schedule III product with that kind of federal carve-out, so I think it will be difficult for the DEA to do that. We want rescheduling, it will be good for the industry, but I think there's real uncertainty in how DOJ and DEA implement it, and a risk of bifurcation between medical and recreational cannabis at the federal level. Bryan Fields: Given all those unknowns, when you said stocks would go through the roof on Schedule III — was that your own view or someone else's? Pablo Zuanic: I didn't say that — someone else said that. I want to be careful. But yes, removing 280E improves free cash flow and balance sheets, and it's especially beneficial for companies that are more financially stretched — it facilitates survival, debt renegotiation, and raising equity. The market has been fairly efficient here — financially weaker balance-sheet names have tended to move up more on rescheduling news, because the cash-flow benefit relative to a stretched balance sheet or small market cap can be very significant. We have an overweight on StateHouse, for example, which has a stretched balance sheet, so the impact would be significant relative to its market cap. That said, honestly, I'm not recommending stocks purely on the assumption that rescheduling happens on a given timeline — I'm more focused on state-level catalysts like Florida, Virginia, Pennsylvania, and Ohio. My view on rescheduling is more nuanced than the average investor's: at best, I think you get a DEA/DOJ announcement agreeing to reschedule, but the implementation details likely get pushed to the next term rather than happening with immediate effect. Kellan Finney: One thing we haven't mentioned is that rescheduling and removing 280E supposedly opens the door for institutional investors. From your conversations, does that hold weight — that big institutions won't invest until rescheduling and 280E are resolved, and that safe banking doesn't really move the needle for big banks? Pablo Zuanic: Consider Tilray and Aurora — listed on NASDAQ, legal federally in Canada, exporting to 40 countries with legal medical cannabis — yet institutional ownership in those stocks is maybe 10-12%, with 88% still retail. Part of that is volatility, weak economics historically, and only recently a better appreciation of the export opportunity. So will a US uplisting to NASDAQ or NYSE bring more institutional participation? In theory yes, but it hasn't fully played out that way in Canada. It takes a listing, bank custody, and fundamentals. Does rescheduling legalize cannabis federally in a way that lets all banks participate and exchanges list freely, the way the narrative suggests? My answer is no — because under the state-by-state narrative, cannabis remains federally illegal, so NASDAQ and NYSE won't list and banks stay limited. The best case scenario is rescheduling, taxes go away, states keep their own programs, and DOJ issues some form of safe-harbor memo allowing exchange listings and bank interaction — but that requires a lot of moving pieces, and I'm doubtful all of that happens this year. Once it does, institutional investors will start asking fundamental questions — is cannabis like beer or wine, fragmented or consolidated — long-term questions, not short-term pop trades. In the future, with heavier institutional involvement, I'd expect much more selectivity based on balance sheet strength, brand diversification, and execution, rather than the high correlation we see today driven partly by ETFs. Kellan Finney: I'd love for you to break down your analysis on Germany, and where Curaleaf's position fits in, and how big that market might become. Pablo Zuanic: The European Union has 700 million people, almost twice the US population, so on an apples-to-apples basis it's a big opportunity, though recreational cannabis is far away even in Germany. What makes Germany interesting short term is that medical cannabis is already federally legal there, but historically it's been used as a last resort — doctors had to try three or four other things first, reimbursed by public insurance, and it's a very small market; we calculate about 3,000 cash-paying patients outside insurance. Roughly 0.2% of the German population is in the medical cannabis program, versus 3.5% in Florida and 4% in Pennsylvania. Starting around April 1st, changes to the narcotics law are supposed to make prescribing much easier — online consultations, online pharmacies, less doctor stigma — potentially making Germany function like a Florida or Pennsylvania. Going from 0.2% to 4% of the population would be a 20-times-bigger market. It's a new but fairly concentrated market — Tilray, Aurora, and Kiff are big participants; Curaleaf is the only MSO exporting from Canada into Germany under its own brands, and also owns capacity in Portugal plus a German distributor called 420 Farma, claiming about 20% flower share in a small but growing market. There's also talk of expanded insurance reimbursement in Germany, which doesn't exist in the US. And there's a knock-on effect — other European markets like the UK, France, or Spain could follow Germany's more flexible medical approach. So far, Curaleaf has been the most visionary US company from a global perspective, and Canadian companies — the same way they've succeeded in mining and forestry exports — are also well positioned overseas, being large exporters to Australia, which is actually a bigger market than Germany right now. Kellan Finney: Do you think the EU opens up country by country, like states here, or more of a unified approach? Pablo Zuanic: So far it's been country by country — Germany's coalition government wanted full recreational legalization but couldn't get it approved by the EU Commission, so they scaled back to medical reform. I think Poland and Czechia will go step by step too. It's similar to the US: more states legalizing creates more political weight in Congress, which pressures federal policy. I expect the same dynamic in the EU as more countries adopt medical cannabis — eventually pushing the Commission toward something more decisive, though that's longer term. Just like tobacco consolidated around Altria and Philip Morris, or soft drinks around Coca-Cola and PepsiCo, I think cannabis eventually consolidates globally too, even though it's hard to visualize now. That's why I'm more comfortable telling people to put a selective, long-term allocation into cannabis stocks for something like a college fund, rather than saying stocks will go through the roof in a month because of rescheduling. Using simple math: if the US legal market becomes a $200 billion market long term, in a two-tier system that's $100 billion wholesale, apply 20% market share, 25% EBITDA margin, a 20x multiple, and you get to a $100 billion market cap for a single company — versus the largest US cannabis company today being under $3 billion in market cap. That said, we also know individual investors who bought at the February 2021 peak and are down 90% two years later, so choose wisely and take a long-term view — day trading cannabis is risky, and I'm probably not the right person to advise on that. Bryan Fields: Quick prediction time, Pablo — considering the complexities of the industry, is there a unique selling proposition that will emerge as a critical differentiator as the sector evolves? Pablo Zuanic: Number one, companies developing a strong brand portfolio. Number two, companies with a strong balance sheet, because that prevents dilution. Number three, companies building a global moat — it's not just about the US market. Kellan Finney: I'll take a slightly different approach — I think long term these companies end up settling into tiers, and companies with really strong brands will eventually divest their manufacturing footprint to focus on what makes them money, outsourcing a lot of manufacturing to meet demand, which creates opportunity for companies that have poured capital into large, smart manufacturing facilities to become wholesale providers instead. I agree there's a massive global aspect too, but domestically I think you need to pick certain horses running certain races to be successful long term. Bryan Fields: I think both those are strong, and combined with what Pablo said about understanding state-level catalysts short term, long term these companies need to understand exactly what they do better than everyone else — maybe just one part of the supply chain — and lock in the granular numbers that aren't always readily available in these newer markets, so they can forecast better and make better decisions going forward. Pablo Zuanic: Agreed. To summarize: number one, in the short term there's a trade around rescheduling, but I'd be cautious pushing stocks purely on that — it could be a quick pop and fade, like what happened with the MSOS index after the August rescheduling news, up into mid-September, then back to early-August levels by end of October. Number two, I'm much more comfortable recommending stocks based on state-level legalization catalysts — Ohio, Pennsylvania, Florida (Supreme Court, ballot, implementation), and Virginia, which is quite binary now that the legislature has largely agreed and it's up to the governor. Trulieve is the clear Florida beneficiary; Jushi and Columbia Care for Virginia and Pennsylvania. Number three, long term, look at companies with strong balance sheets — MariMed, smaller but solid; well-managed, diversified companies like Green Thumb; Curaleaf for its global vision; Cresco for wholesale execution in Pennsylvania and Massachusetts; and companies building a real asset or brand moat, like Planet 13, which could become the Hard Rock Cafe — or Planet Hollywood — of cannabis. If you want to trade the group day to day, it's very risky, but if you want to play it long term, there are real names worth considering right now. Kellan Finney: Pablo, for our listeners who want to get in touch or read your research, where can they find you? Pablo Zuanic: They can email me at pablo.zuanic@zuanicgroup.com. Our research is more focused on institutional investors, but retail investors are welcome to reach out and we're happy to share it — it's not investment advice, but if it helps people, I'd look at it. Bryan Fields: Awesome, thanks for taking the time — this was a lot of fun. Pablo Zuanic: Thank you, my pleasure.