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Dmitry Zaytsev on Colombian Cannabis Space and Ontario Cannabis Retail Supply Issues

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Analyst Dmitry Zaytsev shares his impressions of the Colombian cannabis space. Zaytsev recently toured Avicanna Inc’s facilities in Colombia and was impressed with the private company’s operations. While Zatysev isn’t bullish on the Latin American market overall, he does think the regulatory strides Colombia has made and its position as a growing hub, are positive. Zaytsev continues to see opportunity in the US space and indicates that passage of the STATES Act would change US investment in Canadian cannabis companies. In the Canadian space, Zaytsev is watching Ontario’s recreational cannabis rollout with interest because he believes supply issues on the retail side have impacted Canadian demand. He highlights undervalued names like National Access Cannabis Corp (CVE:META) (OTCMKTS:NACNF) (FRA:1HV) and Choom Holdings Inc (CNSX:CHOO) (OTCMKTS:CHOOF) (FRA:ORO) as players to watch in the Canadian space.


James West:   So how have you been, Dmitry?

Dmitry Zaytsev:    I’ve been good. I know I haven’t graced the show recently in the last month now, I guess, but I was doing a little bit of traveling, you know. Trading markets as always, but…

James West:   So what have you been seeing in the markets? What have you been buying, what have you been making money on?

Dmitry Zaytsev:    Well, I think last time we chatted, I was buying those Cronos puts, and so I think we kind of chatted a little bit about that trade. So I closed out half of the position at a profit, like 2.-something X profits, which covered my initial cost, and then I kind of let the rest ride, and Cronos hung in there. And so that kind of remainder, I sold off for couple of pennies. So on the net it was, you know, a positive trade, but if we had a little bit less market support from the S&P 500 and all that, it could have been a great trade.

But generally now, I’m just sort of looking in terms of undervalued names, story names. So, something we can talk about as well is just the rec rollout that’s coming in Ontario, and there’s a couple of names there that are potentially interesting, and I think the market, up until recently, hasn’t really been paying much attention to them. So there’s those kind of names, and then –

James West:   Like, who are you speaking about, specifically?

Dmitry Zaytsev:    Like I think you guys had him last week, National Access Cannabis, Fire and Flower, Choom, Alcanna…so I think there’s a supply issue in terms of Canadian cannabis, but it’s on the retail side, and it’s on the product side. It’s not on the actual production side. So that’s where I think a lot of the margins are going to be captured.

James West:   Hmm. So you think that the cannabis shortage is materializing?

Dmitry Zaytsev:    Well, I think the cannabis shortage is in terms of certain specific products. So the LPs, with their genetics, they don’t know exactly what consumers are going to be going for, and what I’ve seen so far from my due diligence and online and otherwise, it’s people want high quality bud, and they also want high-CBD oils or high THC as well.

But the high CBD is a big one. So I don’t know if that’s similar to what you’ve seen, but also, just a lot of criticism of some of the LPs, how they’re packaging some of their product, as well.

James West:   Right.

Dmitry Zaytsev:    So I think StatsCan just released yesterday, you know, inventories on the balance sheets of these LPs – they’re rising. Unfinished goods, everything is rising. And then there’s a couple of LPs that just got their licenses, and all this, so there’s going to be lots of weed – there’s going to be lots of cannabis – but it’s about having the channel that can capture the actual margin, which I don’t believe is the LPs, which I believe is the downstream. And having the right product mix.

James West:   Cool. So what did you go look at in Colombia? [laughter]

Dmitry Zaytsev:    Yeah, no, I mean, I almost got to look at Khiron’s facility – that could have been cool. But actually I saw some other LPs that were down there. Colombia is a very interesting place.

James West:   Anything advanced?

Dmitry Zaytsev:    Yeah. Actually, I went to – so, I haven’t seen the Khiron facility, I’ve just seen videos and talked to people, but I went to an LP called Avicanna, actually. I’d like to just shout out, they’re very gracious, they let me tour the facility with a few friends of mine. And I think they’re, I was very impressed. They’re building out a bunch of outdoor sort of greenhouse type of designs; I met with their, you know, lab and technical team there. So something – I’ve also talked with a number of lawyers, actually, on the ground, and consultants outside of Avicanna, and so what I’ll tell you about the Colombian market is, I think exports are the big sort of golden goose there.

Colombia is the cheapest and one of the, you know, countries that’s really open to exporting oil, right?

James West:   So extracts – oil for extract is going to be big, there?

Dmitry Zaytsev:    Yeah, it’s like $0.05, $0.10 a gram, and honestly, longer-term, once you have more legalization globally, you’ve got to think about the cost structure, right? So obviously there’s synthetic cannabis and all that we can talk about, you know, down the line; but from a cost perspective, Colombia and other jurisdictions like that are very important.

The problem, though, is, right now there’s a lot of regulatory sort of hurdles and hoops these LPs have to jump in, and there’s actually dozens of them, I would say, in Colombia itself. So there’s only two currently public, which are PharmaCielo and Khiron as far as I know.

But point is, the way I see it, it’s three stages. One, get through the government hurdles and all of that. Two, extraction bottlenecks: so you’re going to be able to grow as much as you want in terms of flower, it’s not hard – but it’s just getting the actual extraction throughput and having the right people, the right team that knows how to do that, that’s important. And then three, partnerships in terms of export, like, where are you actually going to send this? Where’s the market for this?

And it’s not just oil, right? That’s a very generic term. There’s CBD isolate, which is a specific sort of end product like the resin; you have the full spectrum, and you have different, you know, mixes and cannabinoids as well, right, that are very valuable.

James West:   Right. So what do you make of, you know, so Peru has just gone medically legal; Latin America is opening up generally. Brazil is obviously the biggest market there, though I find it interesting when people say Latin America and they include Brazil without having actually made any moves towards Brazil. You may as well be in Africa when you’re in Brazil in terms of how similar it is to the business environment of the rest of Latin America.

But so, do you think that there’s, you know, is it reasonable to expect continent-wide distribution, from what you’ve seen in Colombia so far?

Dmitry Zaytsev:    I’m not too bullish on the Latin American story specifically, and the reason why is, I think it’s really cheap to produce and I think a lot of just citizens, normal people, are probably growing it, you know? And it’s not a particularly rich continent, either. So average incomes around the area are like $500, $600 USD, right? So if you’re selling a product and you want to make a margin, right, that might be a little bit tough.

I’m not saying there isn’t a market; there is, but maybe the sizing is a big debate, I think, until we see some numbers over the next couple of quarters. But I think Colombia is positioned as a growing, you know, hub, and sort of regulatory beeps that they’ve made there I think is very positive, for sure.

James West:   Okay. The large-cap cannabis stocks have essentially been in a, you know, sort of this equilibrium phase as our Charting Man Dan was describing it, where it’s kind of, you know, the range, the volatility range has sort of narrowed as it tries to find its price equilibrium, as he described it. But then we’re seeing entities like Aurora, who obviously had what you would call the macro-catalysts of Nelson Peltz add $2 billion in market cap to the stock almost overnight, in two or three trading sessions.

Do you think that the lift in Aurora’s share price is a reflection on the kind of deal flow that Nelson-Peltz is going to bring to the table?

Dmitry Zaytsev:    I think it’s a lot of things. It’s definitely Nelson Peltz is very well known on Wall Street; he’s a big name, there. I’m sort of neutral on the whole transaction, I guess you could say. On the one hand, great advisor and, you know, I’ve seen a bunch of his interviews; very impressive guy.

At the same time, he also got, you know, $200 million of notional options that are vested over four years, with or without transactions, whatever. I’m sure if you were given that kind of deal, and, you know, you’re a connected guy too, I’m sure you would take it, right?

James West:   Yes. For some reason, Aurora has not offered me 10 million options, so I guess… [laughter]

Dmitry Zaytsev:    20 million, I think it’s 19 million, actually, that was an incorrect headline.

James West:   Oh, is that right? Okay, so then, in terms of the option trades, where are you finding fertile ground? Where are you seeing less fertile ground?

Dmitry Zaytsev:    Yeah, so I mean, you mentioned an equilibrium, and just generally speaking, what I’ve been doing – and it’s worked – covered calls, generally speaking, but also, since these names are just going sideways, it’s a little dangerous, but you can write calls and puts. So you’re in essence shorting cannabis volatility, right?

So I’ve been kind of doing that. I don’t, I wouldn’t say I have too large of a position on those kind of trades, but yeah, I’m just sort of wait and seeing. I think there is an issue in terms of supply, and I think some of these quarterly revenues of some of these companies are going to be very disappointing this year; but that remains to be seen in terms of where that’s going to be coming from.

James West:   Sure. So of all of the large-cap companies, we’ve got our Canadian large-caps, we’ve got our US multi-state operator large caps…where do you see the trade for 2019?

Dmitry Zaytsev:    Yeah, I think Canada is, you know, dried out in terms of trade opportunities in the large cap space; that’s just my view. I think US is where you want to be. I’ve said this multiple times, and the reason is, you know, until Canopy and Aurora can actually go in there – I know they have CBD and all that, right? Hemp, Farm Bill, but until they can actually go in there, the value is just really Canada and the small smidge of international that exists right now.

The US market is large. It’s going to be the biggest, you know, nominally growth in the next five, ten years, and you can actually see regulatory change happening on the ground in lots of states, whereas in Europe, for example, I think it’s a lot slower. Other parts of the world, it’s a lot slower relative to a bunch of the US states.

So I also think that it might reach a point where the US MSOs are so established that some of these larger Canadian operators will have, you know, nothing better than to acquire some of them. So like let’s say, iAnthus –

James West:   Hmm, Canadians acquiring Americans?

Dmitry Zaytsev:    Yeah, maybe! I mean, it depends, right? If the States Act goes through and they can actually get financing, maybe they’ll just be a standalone entity and maybe market dynamics will shift. I mean, like, Aurora is the number one held stock on Robin Hood right now, so there’s a bunch of US investors propping up –

James West:   What’s Robin Hood?

Dmitry Zaytsev:    Robin Hood, it’s like a brokerage app for – there’s no transaction fees, it’s very popular with Millennials, my ilk, supposedly, right?

James West:   So you have – so Robin Hood is an app where you can buy and trade stocks for no fees?

Dmitry Zaytsev:    Yeah. We can get into that, but it’s just very popular with Millennials, and they actually have statistics –

James West:   Why?

Dmitry Zaytsev:    Because of the fees, amongst other things. It’s a very simplistic app.

James West:   So Millennials are cheap? [laughter]

Dmitry Zaytsev:    We have not a lot of money to go around after, you know, salaries went down and you have debts, you have tuition debts…it’s an issue.

James West:   Very cool, I’ll have to check that out. Okay, so then, I mean, if we’re going into the sort of drifting downward doldrums of the summer, pre-summer and summer where nothing happens absent a macro-catalyst in the marketplace, how do you play that from an option trading perspective?

Dmitry Zaytsev:    Well honestly, the portfolios I have right now, I do have a couple stocks that I’m long, so what I would be doing is maybe writing calls on the HMMJ, which is the ETF. So the trade there is, I think I’m a good stock picker, right? And so my stocks will go up, whereas, you know, the constituents of the HMMJ on the net, right, will actually go down. And that’s just, I mean, it’s a little different, too, because a bunch of the stocks that I hold aren’t even in the HMMJ, like you know, the iAnthus and other US MSOs, right?

So that’s one kind of trade. I think this is more of, like, the cannabis market right now, I think, is a reflection of the extremely strong S&P we’ve had. We’ve had, by some accounts, like a record-breaking rally in terms of being, you know, a quarter ago at 2350, and now we’re at 2850 practically. That’s an incredible amount of S&P points to rally in just a quarter, so I think that’s really sort of brought out the animal spirits and risk-on sentiment, and not just in cannabis – in all speculative and, you know, tech stocks, everything’s really come back.

James West:   And so from the standpoint of fundamentals, why is the – are you trying to get rid of us in the control room, they just played! What is the fundamental reason that the S&P continues to power higher, despite all these macroeconomic sort of risks, especially, you know, Brexit, etcetera, US/China trade war – those seem to persist, they don’t seem to be going away.

Dmitry Zaytsev:    No one cares about Brexit, just FYI.

James West:   Really?

Dmitry Zaytsev:    Nobody, literally, like, it’s – maybe for the British pound and British assets, that’s about it, and some companies that might be exposed to it, but it’s very small in terms of a risk. And I think just recently they had the vote, and everyone’s pricing out the fact that there’s going to be a hard Brexit.

The main reason is Powell, right? We talked about Powell four months ago, remember? And he’s the one that was talking about rates being higher, and now he’s totally, you know, paused – the big Powell Pause – and then he’s also talking about stopping balance sheet unwind by the end of this year, so the quantitative tightening.

James West:   Maybe they’ll start buying again, if things get too ugly.

Dmitry Zaytsev:    Yeah, well, we’ll have to see. But he’s gotten, I think, a lot of criticism because economic data, there wasn’t enough time over two months for economic data to really filter in, and you know, the S&P drops a bit and he panics and he says, Okay, okay, guys, I’m not going to tighten, we’re going to undo this…and so the market’s like, Wow, we have this Powell put. We have either this guy, speaking of options, protecting our downside – so why not just bid up risk assets? Every time they go down, he just saves us!

James West:   Yet another financial or another Fed governor who watches the stock market, and anytime the S&P dives, he backs up the – and it doesn’t help to be under implied threat from Donald Trump.

Dmitry Zaytsev:    Right.

James West:   Interesting. All right, we have to leave it there for now, I think, because they keep – I get the sense that we’ve gone more than our 10 minute time, but Dmitry, thanks again for joining us, and we’ll see you again very soon.

Original article: Dmitry Zaytsev on Colombian Cannabis Space and Ontario Cannabis Retail Supply Issues

©2019 Midas Letter. All Rights Reserved.


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