Earlier this year we put forth a thesis on what might happen with the Canadian Outdoor Harvest 2020. This was thesis that no one else had yet to postulate. 

We posited that there might be a number of factors which would impede the lower cost outdoor biomass from penetrating the supply chain in a meaningful way.

• As flower: due largely to an “artificial price floor” resulting from excise tax, retailer/distributer margin, and lab testing, packaging and shipping, and
• As biomass for extracts for 2.0 products: due to slow roll out of 2.0 products, existing glut of bulk resin, existing glut of extract grade flower, and many of the larger LP’s are self-extracting or have captive extractors.  In the case of the latter, if these potential outdoor harvest 2020 consumers are removed from the market demand shrinks considerably for extract biomass.

And as much as I hate IFRS, there is one quirk to it that allows us to take a peek into the minds of the c-suite as to what they think they can sell this biomass for.  This can usually be found in the Notes to Biological Assets under “Estimated Selling Price” (ESP). 

For the 2019 outdoor harvest, the first legal outdoor harvest in Canada, there were a lot of uncertainties and thus a lot of c-suites guessing at what they could sell the outdoor biomass for. 

For example:

• 48 North at the Q ended September 30, 2019 had an ESP of $2.50/gram, then reduced to $1.00/gram in the next Q, dropped again to $0.50/gram on March 31, 2020 Q and rose $0.90 in June 30, 2020 Q.  Only to ring in at $0.33/gram on September 30, 2020 Q.

• WeedMD at September 30, 2019 had an ESP of $1.50/gram. At June 30, 2020 $0.35-1.26/gram and September 30, 2020 $0.53/gram.

• Aleafia at ESP September 30, 2019 through March 31, 2020 was $1.25/gram and dropped to $0.25/gram in September 30, 2020.

There were also a lot of questionable activity with cultivators (indoor and outdoor) in 2019 selling biomass to extractors and buying back bulk extracts, thus inflating both the wholesale price of biomass sold and bulk resin repurchased. And we have witnessed considerable writedowns of both biomass and bulk extracts, as we had predicted in Summer 2019, throughout the industry. 

Two new publicly traded outdoor growers have also emerged this year: Speakeasy Cannabis ($EASY) and Christina Lake Cannabis ($CLC).  Last week EASY released audited July 31, 2020 exhibits and CLC August 31, 2020 interim exhibits are available.

Let us lay these companies out in table form for review.

Table 1:

48 North has not commented about their harvest yield to date.  Last year they had this data up by November 25, 2019.  WeedMd has also not announced a yield but based on Notes to Financials they were anticipating 11,028 KGs.  Aleafia announced that they had doubled the 2019 harvest in 2020 to 24,000 Kgs.

The Estimated Selling Price (ESP) for Outdoor in 2020 is much lower than 2019 for NRTH (-87%), AH (-60%) and WMD (-65%).  In 2020, CLC comes in as the most conservative at $0.20-0.25/gram while EASY is almost double the next highest at $1.00/gram.

SpeakEasy press released on November 16, 2020 they have a yield of 72,000 KGs, and Christina Lake has press released on October 9, 2020 they have a yield of in excess of their 22,500 KGs forecast.

Both EASY and CLC have yet to generate a single $1 revenue from cannabis sales EVER. To put in perspective how much they harvested versus what the top LPs sold in the past twelve months, let us look at a few of the bigger companies KGs sold for last four quarters they reported the metric.

1. Aurora sold 55,117 KGs
2. Aphria sold 54,515 KGs
3. Canopy (stopped reporting KGs sold last Q) the preceding four Q’s they sold 46,323 KGs.
4. Hexo sold 29,445 KGs
5. Sundial sold 20,538 KGs… we do question if there was a Biomass Swap in this mix.

The 2019-2020 outdoor growers:

• Aleafia sold 9,770 KGs… we do question if there was a Biomass Swap or two in this mix.
• WeedMD sold 8,754 KGs… we questioned WMD on an earnings CC about a potential Biomass swap and their answer that the buyer of their biomass and the seller of their purchase extracts were not the same party.
• 48 North does not disclose KGs sold. As a rough proxy their Net revenue for the last four quarters was $13 million versus Aleafia $32 million and WMD $27 million.  This would lead us to believe that 48 North sold less than half what AH and WMD did.

CLC are looking to harvest over double what any single of the 2019-2020 outdoor growers sold (indoor and outdoor) in the past twelve months.  While EASY is looking to harvest over double what the COMBINED three 2019-2020 outdoor growers sold in the last twelve months.

So, to sell their entire harvest,

• EASY (with 72,000 KGs of biomass) would have to exceed the sales of the #1 seller by weight over the last four quarters.
• CLC (with 22,500 KGs) would need to be fourth

The problem with this is the large LP’s above have established sales channels (medical and via provinces), brands and are selling more flower than extract.  Outdoor flower will be hard pressed to make too much of a dent in the recreational market.  The large majority of outdoor biomass is destined to 2.0 products, and a good deal of bulk extracts are already in inventory AND the cultivation process of greenhouse and indoor produces as a by-product both trim and extract grade flower.  Cultivators like to “use the whole animal” from their harvests, so they will likely not be sourcing third party outdoor supply prior to exhausting their inventory of extract grade flower and trim, regardless of the price advantage outdoor has compared to indoor and greenhouse. 

We recognize that costs to grow outdoor crops are exceptionally low, yielding an impressive Gross Margin as a percentage of sales. Aleafia indicated in December 31, 2019 and March 31, 2020 Q’s they yielded a 97% and 91% GM on wholesale (keep in mind we are suspicious of these amounts because they also purchased a considerable amount of bulk extracts over the same periods without any material sales: a potential biomass swap).  And then the last two Q’s their wholesale GM has fallen to 30% and -9%, respectively.  Their GM for the last four Q’s on wholesale was 67%, again if there was a biomass swap this is inflated. 

NRTH and WMD does not give us GM by wholesale.

So, what would have been AH, WMD, NRTH, EASY and CLC’s maximum revenue from outdoor, assuming they sold every gram at the ESP at the time?

Table 2:

As you can see from the 2019 Maximum Projected Revenue neither NRTH nor AH’s revenue for the last four quarters exceeded what they projected they would reap in 2019, and WMD is only 25% greater.  Keep in mind all these companies have indoor cultivation too and are selling that product in their revenue figures.

CLC Maximum Projected Revenue would be $5 million and EASY $72 million, both from a standing start.

Looking at Gross Margin as % of sales, while outdoor provides a sexy %, should actually be looked at in dollar terms instead.  To help illustrate what we are getting at, we decided to compare how much each of these growers would need to sell to generate $3 million in revenue from the 2019 harvest (if they had one) and the 2020 harvest. We used $3 million simply as an example.

Table 3:

To generate $3 million in revenue in 2020 versus 2019, based on c-suite ESP

• 48 North would have to sell an incremental 7,891 KGs to reproduce 2019 revenue example of $3 million or an incremental 658% KGs

• Aleafia would have to sell an incremental 3,600 KGs to reproduce 2019 revenue example of $3 million or an incremental 150% KGs
• WeedMd would have to sell an incremental 3,660 KGs reproduce 2019 revenue example of $3 million or an incremental 183% KGs

What I want the reader to take away is the VERY substantial increase in effort NRTH, AH, and WMD will need to make to generate a similar amount of revenue from the 2020 harvest.

CLC would have to sell 61% of their harvest at their ESP to get to $3 million, while EASY would need to sell 4% of their harvest at their $1.00/gram ESP to get to $3 million.

I see a writedown in EASY’s future, as the $1.00/gram will likely not hold given we are seeing trim valued at pennies on the gram, if valued at all.  I am very interested to see EASY’s October 31, 2020 financials as there could be the mother of all Gain on Biologicals running through their Income Statement.

The aggregate outdoor yield of AH, WMD, CLC and EASY (NRTH has not provided a target nor disclosed projected yield in their notes to their financials) is 129,528 KGs. This is the rough equivalent of the aggregate sales of ACB, APHA and SNDL (three of the top 5 LPs by KGs sold) over the last four quarters. The majority of new outdoor growers are private companies, as such projecting the outdoor biomass is impossible, but we know it is considerable.

Below is a graph by canopy size in millions of square feet. 

If you look at the growth in Outdoor from June 2020 (start of planting season, which I eyeball at 50 million square feet), and compare it to the aggregate of indoor, greenhouse and outdoor at June 2019 (approximately 18 million square feet) you start to understand the potential scope of the outdoor harvest in 2020 versus 2019 (+32 million square feet more in 2020 of outdoor versus ALL growers at June 2019).

Granted not all of the footage has been planted, indoor and greenhouse get 4-6 crops per year versus one outdoor, but outdoor plants yield a considerably larger mass than indoor plants.

Nevertheless, the vast majority of new outdoor growers in 2020 were private companies, not the two additional public companies I added for 2020.  Looking at simply the publicly traded companies, and their delta year over year, will likely lead you to the same conclusions we drew in our initial Canadian Outdoor Harvest 2020 article…

We do not know how much outdoor will be planted or the ultimate yield.  But the Canadian cannabis industry has been plagued by indoor and greenhouse cultivators that grew product without an outlet for sales. Growing with the hope to sell it has not worked in the industry to date. I am fearful that outdoor growers are going to replicate that practice in 2020.

When that Tsunami of 2020 Outdoor harvest hits in Croptober I am betting it hits the White Cliffs of Dover versus flooding low-lying areas.

Should the bulk resin glut and extract grade inventory get worked down, and 2.0 products ramp as expected, the 2021 outdoor harvest might not be faced with this paradigm next year.

Last year Aleafia released a presser on December 2, 2019 that they sold 2,840 KGs at a price of $2.50/gram (raises eyebrows) generating $7.1 million in revenue.  This past earnings presser of November 11, 2020 they indicated  “the Company has contracted sales that will, upon completion of shipments, generate net revenue of $16 million. It is expected that the majority of the domestic wholesale shipments will be completed in the three months ended December 31, 2020 (“Q4 2020“), with the remainder shipping to customers early in the first quarter of 2021 (“Q1 2021“).” Note: there is no price per gram touted this time.

If we assume Aleafia received their ESP of $0.50/gram (which they likely would have relied on this sale to help justify) that would equate to 32,000 KGs, surpassing their announced harvest of 24,000 KGs.  Maybe they sold it for an inflated price and will repurchase more bulk resin and/or terpenes.

Since we started commenting about the possible Biomass Swap at Aleafia they have removed several components of inventory disclosure (eg. Purchased inventory, segmentation of oil and flower inventory).  We will be keeping an eye out next Q for signs of shenanigans, but they may have blinded us.

What also has us doubting Aleafia, until we see the results, is statements like this from their CEO in a July 28, 2020 article:

• He said the company could potentially grow 100,000 kilograms of low-cost outdoor cannabis in 2020.
• “When someone’s coming and offering you $2.50 a gram for your outdoor grow, or even $2 grams, it’s hard not to want to take some of that, because it’s profitable for you as you build your business,” he told a virtual investor conference on June 24. “But make no mistake folks. I want to be very clear on this. We’re not wholesalers. We are building consumer experiences.”

They produced well under 100,000 KGs in 2020 harvest at 24,000 KGs, and they did in fact claim they have wholesaled it.

Neither WeedMd, 48 North, EASY or CLC have announced any large block sales of their outdoor harvest.

To date, I have not seen any analysis or data that would have us waver from the original thesis. This surfeit of outdoor biomass at a macro level will be tough to move.  Singular LPs might be successful at moving it (who knows Aleafia may have moved their crop), and singular LPs might have modest success moving small quantities via flower.  But the extract channel users are presently dominated by LPs with plenty of extracted product already in inventory and whom produce extract biomass with inhouse extraction capacity.  These outdoor growers will likely have to increase or develop channels to the recreational retail customer in order to be around for the 2021 harvest.

The preceding is the opinion of the author and is in no way intended to be a recommendation to buy or sell any security or derivative. The author has a position in Aphria and will not start one or divest in the next five days.