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The Bengal Bite 

- quick thoughts-

$ vs. %


A few thoughts inspired by some of the recent hemming and hawing we have seen by investors and analysts over Green Thumb Industries’ (OTC:GTBIF), and many other US cannabis operators (MSOs), declining margins.

  1. Investors like to think in terms of linear, predictable, and orderly growth - reality following CAGRs and trendlines. But, reality is messy. You can have a pretty good idea of where you’re going to end up in five years without accurately knowing where you’ll be exactly in any given year in between.

    Below is the year over year percentage and dollar growth of Washington’s cannabis market since its first full year of legalization in 2015 (many operations came online in 2015 and started showing a full year of sales in 2016). An observer in 2016 probably thought the market had no ceiling, and in 2018 that same trend follower was thinking we were on the floor. It’s not natural to think non linearly or be comfortable with it, but cannabis demands it.

(Sources: Bengal estimates and 2020 Washington State University IMPACT Center study “2020 Contributions of the Washington Cannabis Sector”)
  1. Investors myopically focus on margin percentages and forget return on capital and margin dollars. A company invests to build a weed factory, and then that factory turns on. The yardstick for that project’s success is how much money that factory profits as a percentage of the capital you invested to build it (over time, not just with the first bumper crop). If you put in $50mm and got out $1mm per year, you’re a schmuck; if you got out $15mm, investors are calling to ask when you’re going to build the next one.

    And are you going to build factory #2? Well that depends on what your marginal return on capital is - i.e., how much profit the incremental dollars it costs to build #2 are going to generate. And that’s exactly what Ben Kovler, GTI’s CEO, talked about on the earnings call to likely gasps from analysts intent on discussing EBITDA margins. If your investment is fixed, you should care more about margin dollars than margin percentages.

And just one quick last note to try to put things in perspective on how much room there is still to run in some of these markets:


(Sources: Bengal estimates, Illinois state sales data, and the Seattle Times)

 

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