US institutional investors have sought legal routes to invest in cannabis
Clearly the regulatory environment surrounding cannabis hasn’t prevented retail investors from buying shares, a situation that has also been helped by Canada’s relaxation of cannabis laws. But for institutional investors looking to increase their exposure to the green rush, there are some options.
One of the most notable in North America is Scotts Miracle-Gro. Since 2015 the company has made six major acquisitions – including last year’s $450 mn acquisition of Sunlight Supply – under its subsidiary Hawthorn Gardening Company. The heart of the business is selling hydroponics equipment that could be used to grow cannabis, although Jim King, executive vice president and chief communications officer at Scotts Miracle-Gro, is keen to stress that the products are also used to grow herbs and vegetables.
Unlike most of the companies interviewed for this publication, Scotts Miracle-Gro is 95 percent held by management and institutional investors, King estimates. Bringing them along for the ride has been an interesting journey, he says:
‘The messaging has evolved tremendously since 2015. I’m sure we never used the word cannabis in the first year we invested in hydroponics. We kept talking about what hydroponic growing was, how it was being used and what the growth rate was, but nobody focused heavily on cannabis.
‘A year later we bought two more companies and then we started to get more media attention on the issue. It became very clear we were building a portfolio that was going to be largely driven by the evolution of the cannabis space. We started to be very direct after that.’
King, who has been with the company for 18 years, says the messaging to the Street about Hawthorn Gardening Company is naturally very different from the messaging around Scotts Miracle-Gro’s core business.
‘Our core business is much more reliable and predictable,’ he explains. ‘Cannabis and hydroponics are much more volatile. If you look at it from beginning to now, it’s a positive curve, but it’s much choppier along the way.
'If you have a bad quarter in our core business, you’re plus or minus a point or two. In our Hawthorn business, that can be plus or minus 10 points or so. Then you can have very quick upward or downward pressure on the stock price.’
While what Hawthorn Gardening Company does is federally legal – and doesn’t at any point touch a cannabis plant – one of its core customer bases is engaged in illicit activity, so is at the mercy of federal and regional laws.
The company faced a bumpy road last year, following the acquisition of Sunlight Supply. More than half (54 percent) of Hawthorn Gardening Company’s revenues were coming from California, so when the rollout of legalized cannabis use in the state didn’t go to plan, it had a knock-on effect.
‘We were finally getting people to understand the business, and then in fiscal 2018 our business collapsed and was down 30 percent,’ King says. ‘A lot of people took that to mean we had not assembled the right portfolio. It took a lot of re-educating the investors and analysts.’
King describes this as a ‘small operational hiccup’, which appears to be validated by the numbers: on the company’s most recent earnings call, it was revealed that Hawthorn Gardening Company sales were up 21 percent on the prior quarter.
King says the move into hydroponics hasn’t led to any increased analyst coverage from cannabis specialists, but it has meant that Scotts Miracle-Gro gets invited to a broader set of conferences than it used to. When it comes to analyst coverage, he has to do a lot of work educating them on the sector and managing expectations down.
‘A big part of what we’ve had to do is help the analyst community and investors reign in their expectations about cannabis,’ he explains. ‘We had analysts last year who were projecting 50 percent growth when we were guiding 10 percent to 12 percent growth. It’s sometimes been harder to educate people about growth expectations.’