2018 has been a landmark year for the cannabis industry in many ways. Not only did California’s legal market open on 1/1/2018, but Canada is soon to become the largest country to legalize cannabis to-date. Canadian cannabis companies have been celebrating a variety of massive M&A deals, including highly-publicized public offerings in Canada, and more recently, in the US. Not to be outdone, a growing number of US-based cannabis companies are also going public … but not in the US, choosing instead to be listed on a Canadian stock exchange. For those new to the cannabis industry, the move North may not appear intuitive. But a dive into the regulatory, operational, and financial details shows that US cannabis businesses are going public in Canada because it is both lucrative … and their only real option (for now).
Why Cannabis Companies Want To Go Public
Becoming a public company can be a powerful, transformative step for a growing business. There are as many reasons to raise capital through a public offering as there are companies seeking to do it. Some use the capital to expand their cultivation, manufacturing or retail operations, others introduce new product lines, enter new markets, or invest in research and development. Others use the capital to pay down debts and improve financial health. And finally, some companies use a public offering as an exit strategy.
The potential benefits for a newly public company, include:
- Increased Public Awareness: Going public can be a highly-publicized event that raises awareness, earns headlines, and introduces products and services to entirely new audiences.
- Providing Liquidity for Employees: Many companies provide their employees with some form of equity compensation. By going public a company provides its employees with a market for their shares. A public company will often find its equity compensation plans are more attractive to current and potential employees because of the increased liquidity, making it easier to attract and retain top talent.
- Securities Used for Acquisition: For companies looking to expand, publicly traded shares are frequently more attractive to a seller than shares with no ready market, giving a public company an advantage in negotiations.
- Raising More Funds: A company can use the public markets to raise additional capital at a later date, normally at higher valuation than a private company.
These are the just some of the potential benefits of going public. But it is important to note that going public creates disadvantages and complications for even the most prepared company.
Limited Options for Cannabis Companies Going Public in the US
In the US, federal laws continue to conflict with reformed state laws allowing for both medicinal- and adult-use cannabis. The delicate and uneasy détente between federal and state laws has allowed a growing number of cannabis-related businesses to evolve into responsible, sustainable corporations with complex financial and operational structures. Yet when a company reaches the level of complexity where they consider going public, the looming specter of federal prosecution limits their options in the US.
Every stock exchange has strict financial and reporting requirements for companies planning to list, and most major exchanges in North American do not allow a company that technically infringes upon federal law to issue a listing. This policy restricts US-based cannabis businesses from listing on the NYSE, Nasdaq, the Toronto Stock Exchange, and the TSX Venture Exchange.
However, attitudes toward cannabis on the major exchanges may be softening, as demonstrated earlier this year when Canadian cannabis company Cronos Group became the first “cannabis-touching” company to be approved for a listing on a major US stock exchange: the NASDAQ. This exception was made simply because Cronos Group does not currently have operations in the US, and operates legally within Canada’s current medicinal cannabis legal framework. There is no indication the ban on US companies listing in the US will change until federal laws do.
Issues with federal laws also prevent other funding options, including bank loans. The size of a cannabis company seeking a public offering will often rule out other types of funding, like angel investors and venture capital, which typically require large shares of equity for comparatively limited amounts of capital (compared to what can be earned on a major exchange).
Cannabis companies occasionally seek to raise capital via Over-The-Counter (OTC) or “off-exchange” transactions. These transactions occur on networks created by securities dealers and do not benefit from the oversight of an exchange. As a result, they are significantly less regulated, limited information is available for investors, and the levels of risk involved make it a “last chance” option for many.
The combination of these factors leaves few options for US-based cannabis companies seeking funding. And that is precisely why cannabis companies have been turning their eyes toward international options.
How Canada Become the Destination for Public Cannabis Companies
Meanwhile in Canada, medical cannabis has been legal nationwide since 2001 and Prime Minister Justin Trudeau spearheaded an effort to make adult-use cannabis legal, a measure that passed this summer and the nation plans to implement legalization on October 17th.
The legality of cannabis in Canada, plus a welcoming regulatory, financial, and investment environment has resulted in Canada becoming the center of cannabis industry capital transactions. Industry headlines this year have been dominated by a series of investments, public offerings, mergers and acquisitions, and other transactions of escalating value. To date, the cannabis industry is on pace to raise US$8 billion dollars by the end of the year, making the 2018 by far the most active and lucrative period in the cannabis industry’s young history. There are a number of reasons why Canada has emerged as the cannabis capital markets center of the world:
Exchanges Open to Public Cannabis Companies
Among the major exchanges in Canada, the Canadian Securities Exchange (CSE) has emerged as the go-to destination for US cannabis companies. While there are a number of technical reasons behind the rise of cannabis listings on the CSE, the most import is: US cannabis companies CAN list on the CSE. The exchange does not currently have a prohibition against US-based businesses.
Critical Mass of Cannabis Companies Attracts Investors
The emergence and subsequent rise in value for cannabis companies listed in Canada has been a highly discussed topic for the last several years. As a result, a sort of feedback loop has developed, where investors seeking growth opportunities look to cannabis companies in Canada, and cannabis companies seeking capital know that listing in Canada will earn attention.
Easier Path to a Public Listing
The CSE also offers another enticing factor in that it does not have the same level of reporting and financial requirements as the other Canadian exchanges. The CSE is a relative new-comer, only in operation since 2003/4, and bills itself as a “modern and efficient alternative for companies looking to access the Canadian public capital markets.” It is focused on micro-cap and emerging companies and has simplified reporting requirements that lower the barrier for listing.
Access to Experienced Professionals
The trend of cannabis companies going public in Canada has also resulted in a network of essential resources for companies seeking a listing. Going public requires support from a strong team of accountants, lawyers, and investment bankers who guide every step of a complicated process. Canada is home to a number of qualified firms that have been performing these transaction. Whereas in the US, the MGO | ELLO alliance is one of the few professional services firms with significant experience supporting major capital markets transactions.
What does the future hold?
The landmark capital markets transactions of 2018 appear to have secured the cannabis industry as a major player on the stock exchanges moving forward. Policies toward cannabis companies have softened and a number of Canadian companies have successfully listed on both the NYSE and Nasdaq (as long as they did not have US operations). It is impossible to predict what is to come in the fast-moving and turbulent cannabis industry, but until federal policies change, it is very likely that US cannabis companies looking to gain a significant capital infusion will continue to set their sights on Canada.
The MGO | ELLO alliance are leaders of the effort to bring scalable, responsible business practices to the emerging cannabis marketplace. Together we provide a complete suite of proven solutions that help cannabis enterprises, investors and government agencies navigate the unique challenges of the emerging cannabis industry. We have advised cannabis industry leaders on critical capital decisions for licensing applications, international security filings, M&A transactions, and some of the largest capital transactions in the industry. To learn more or schedule a consultation, contact us here.