Pubdate: Sat, 16 Aug 2014
Source: Globe and Mail (Canada)
Copyright: 2014 The Globe and Mail Company
Contact:  http://www.theglobeandmail.com/
Details: http://www.mapinc.org/media/168
Author: Grant Robertson
Page: 15

HIGH HOPES: INVESTORS TAKE AIM AT CANADA'S MARIJUANA INDUSTRY

The medical marijuana sector is exploding as speculators, penny stock
promoters and get-rich-quick investors buy in. But regulators are
warning buyers to tread carefully

The question flickered through Paul Rosen's mind: "Is this the day I
die?"

The 50-year-old merchant banker was on his way to tour a medical
marijuana facility two years ago, when the men driving him to the site
made an unusual request. They handed him a blindfold and told him to
put it on.

Mr. Rosen had been on dozens of these trips before, crisscrossing
Canada to evaluate the prospects of fledgling medical marijuana firms
and deciding which ones his company, PharmaCan Capital, would invest
in.

Ever since Health Canada unveiled plans to open up the market in 2014,
upstarts have been popping up everywhere, opening factories, setting
up greenhouses, and wooing investors, each trying to land a coveted
federal licence.

It is a boom in every sense of the word. But Mr. Rosen had never been
driven to a site blindfolded. The CEO of PharmaCan started to wonder
exactly who he'd gotten in the car with.

"I thought, this is either a great story, or the worst day of my
life," he said. "I had just been watching the fifth season of Breaking
Bad. I was nervous."

When the blindfold came off, Mr. Rosen stood in the middle of a
facility under construction, somewhere on the outskirts of Toronto.
The company wanted to highlight just how protective it was of the
site. Mr. Rosen had no idea how he got there - it was all part of the
show.

Welcome to Canada's new medical marijuana industry. It's barely begun,
but already there is enough froth, risk, and questionable showmanship
to supply people like Mr. Rosen with years of stories.

Since the federal government began issuing licences to companies this
spring, allowing them grow and sell medical marijuana to an estimated
37,000 patients, Health Canada has been flooded with requests for
permits. Only 13 companies are licensed now, but according to federal
documents, an average of 25 new applications are submitted each week.

And with good reason - Health Canada projects that the number of
patients seeking medical marijuana for everything from glaucoma to
pain relief for cancer treatment will climb to 400,000 in a decade.

Today's $100-million industry could be tomorrow's multibillion-dollar
bonanza, especially if the political winds ever blow in the direction
of legalizing marijuana for recreational use, making it as accessible
- - and no doubt as profitable - as alcohol is today for brewers and
distilleries.

Not surprisingly, the money is already starting to fly as speculators,
penny stock promoters and get-rich-quick investors flock to the
sector, and companies try to turn hobby science into something
resembling Big Pharma. In just a few months, there have already been
two product recalls over fears of contaminated pot, suggesting quality
control is still an issue.

On the investment side, things appear just as rocky. The hype
surrounding this new sector has seen junior mining companies rebrand
as medical marijuana firms almost overnight. Amid a flurry of press
releases from companies touting future production, stock regulators in
Canada and the United States took the unusual step of warning
investors to tread carefully around medical marijuana stocks, fearing
a bubble is forming and that stock manipulations among small companies
on venture exchanges and over-the-counter markets may be taking place.

The burgeoning sector is drawing comparisons to the dot-com boom of
the late 1990s when investors rushed in to take advantage of a hot
sector, and were duped by bold promises of future earnings that never
materialized, while companies with Internet-related businesses cashed
out on their inflated valuations.

Not surprisingly, the dot-bong era in Canada, as it's been dubbed,
comes with a healthy dose of investor-beware.

The way Mr. Rosen sees it, Canada's medical marijuana sector is a land
of opportunity that's also fraught with risk. With each site he visits
- - more than 100 and counting - he must figure out which companies are
worth investing in, which will go on to become licensed producers, and
which firms should be avoided.

There will be winners who emerge from the pack. In trying to pick
them, Mr. Rosen's job is not unlike any investor sitting on the
sidelines wondering whether they should join the marijuana boom. Of
more than 200 companies PharmaCan Capital has examined up close or
from a distance, the firm has chosen to invest in just five, on behalf
of clients that include large hedge funds in the United States.

"There is a real industry here that is emerging from the flurry of
activity, and if you can find those companies, I think the opportunity
for investors is tremendous," Mr. Rosen said. "But good luck finding
those companies if you have to wade through the 985 that you may not
like to find the 20 you do.

"We say no a lot more than we say yes."

Birth of a market

Health Canada has only grudgingly allowed the industry to
exist.

Although Canada has bathed in glowing international reviews from pot
proponents for loosening its restrictions on medical marijuana, the
federal agency hasn't exactly been happy about it.

As Health Canada points out in bold letters atop its regulations and
industry correspondence: "Dried marijuana is not an approved drug or
medicine in Canada. The government of Canada does not endorse the use
of marijuana, but the courts have required reasonable access to a
legal source of marijuana when authorized by a physician."

Under legal pressure to provide a stable, affordable and safe supply
of medicinal marijuana for patients who need it, the federal
government announced in June, 2013, that the market would be
privatized and companies would be allowed to apply for licences to
grow the plants and sell the product directly to patients.

That system, brought in April 1, replaced a regime where the
government allowed patients to buy from approved growers who were
limited in how much they could produce (enough for a few patients) or
from Prairie Plant Systems, a federally sanctioned grow-op. However,
concerns that PPS's product was too weak, and quality control issues
from the smaller growers, led to calls for that system to be scrapped.
Contaminants such as mould or pesticides can be harmful for patients
with immune deficiencies, critics worried.

Mr. Rosen suspects the old system - which Ottawa called the "Medical
Marihuana Access Regulations (MMAR)" - was rife with corruption. Some
operations he's visited in recent months were small growers under the
old system who are looking to get licensed in the new regime. A few of
them seemed to be growing quite a lot of product for just a few patients.

"The amount of abuse in the MMAR [system] is surprising to me. I've
gone to facilities in British Columbia where they had licences for 700
plants for four patients, which is just a preposterous, preposterous
quantity," Mr. Rosen said. He hopes the new system will get it right.

"The most shocking thing for me was how unregulated the old system
was. The most reassuring thing for me now is how incredibly well
regulated the new system is."

Between June, 2013, and February of this year, Health Canada received
454 applications from companies looking to become sellers of medical
marijuana. It has approved just 14 of those licences. However, one
company - B.C.-based Greenleaf Medicinals - was removed from the list
this summer after it was forced to recall a batch of Purple Kush
marijuana "due to issues with the company's production practices," the
government said. The culprit was mould in the marijuana.

It is one of two product recalls to hit the young industry so far. In
May, Ontario-based Peace Naturals Project Inc. recalled a batch of its
medical marijuana, after testing found a higher level of bacteria than
acceptable. The 55 clients who received the product were instructed to
return the weed, or mix it with cat litter and dispose of it with
household waste.

Health Canada hopes those recalls are merely early glitches, not a
sign of more to come.

It remains unclear how many more licences will be granted - and at
what pace. To obtain a licence, companies must go through a series of
site examinations, background checks and security tests to ensure the
facilities are secure. It is not an easy process.

For investors, the number of licences that will ultimately be issued
is the big question. Will they be limited, like in the telecom sector?
Or will the industry be left open to all companies who demonstrate
they can meet the government's standards?

Speculation within the industry has run rampant that the government
has a finite number in mind, which would make existing licence holders
the owners of a lucrative permit. But a Health Canada official told
The Globe and Mail that the government has no specific target. Rather,
Ottawa will let the market dictate how many companies survive.

The group of 13 licensees has a head start on getting established, and
several of them have emerged with operations that resemble high-tech
laboratories and look nothing like a basement grow-op. Among the names
are Tweed Inc. of Smith Falls, Ont., which took itself public this
year in Canada's first medical marijuana stock offering, and Bedrocan
Canada Inc., a Toronto-based subsidiary of a Dutch company that is one
of the few established international names in the business.

Nanaimo-based Tilray has constructed a large, pristine operation on
Vancouver Island, backed by Seattle private equity player Privateer
Holdings, which has pumped considerable dollars into the U.S. tech
sector over the years. The sprawling, brightly-lit facility is a
testament to medical marijuana's sanitized future, where staff wear
white polyethylene suits and blue gloves when handling the plants.

Tilray vice-president Philippe Lucas said the two product recalls at
other firms were not good for the sector over all, but show that there
is oversight. "On the good side, those things are being caught," he
said, noting that Tilray has not had any issues with its product.

Every detail, right down to the way the marijuana is packaged, is
under scrutiny. "The packaging has to be child proof, smell proof, and
maintain the integrity of the product," Mr. Lucas said.

As companies like Tilray, Tweed and others build their businesses, a
growing line of companies is waiting for the door to open.

Leamington, Ont.-based Aphria, which is headed by Vic Neufeld, the
former CEO of vitamin giant Jamieson Laboratories, has been growing
plants for the past few months, but is awaiting its licence to sell.
Like many companies in the space, Aphria also has plans for an IPO.

With the industry so untested, Mr. Neufeld said he believes trying to
draw up a business plan several years into the future is pointless.
Although he is confident Aphria can become a significant player in the
market, he's not about to make bold long-term proclamations about growth.

"Anything forward from three years is really hot air," Mr. Neufeld
said. "So when you look at the core of where we want to go, the goal
is to be a consistent high-quality, low-cost producer. And that's just
stealing right from [the model at] Jamieson."

Not everyone is as cautious. Regulators have expressed concern about
wild predictions made by companies rushing into the market in an
attempt to lure investors before the boom cools off. In particular,
firms trading in the over-the-counter market, or pink sheets, have
drawn the the attention of the Canadian Securities Administrators and
its U.S. counterpart.

"CSA is urging investors to be cautious when considering investing in
medical marijuana stocks," said the regulator, which represents
securities regulators of each province.

"While some have touted medical marijuana as a significant new sector
for investment, the CSA has observed a number of small or inactive
reporting issuers announcing medical marijuana business plans. In many
of these cases, just the announcement of intent to develop a medical
marijuana business has resulted in an immediate rise in the company's
stock price."

Numerous junior mining companies have taken the sudden plunge into
medical marijuana, no doubt hoping for a bump in their stock prices.
Supreme Resources renamed itself Supreme Pharmaceuticals this year,
while Affinor Resources Inc. changed its name to Affinor Growers.
Junior miner Thelon Capital Ltd. also made the switch, while Satori
Resources, which happened to have the ticker symbol BUD, also decided
to explore the new line of business.

If investors needed further evidence of froth, former Canadian Olympic
snowboarder Ross Rebagliati provided it in July with an announcement
that he was getting into the medical marijuana industry with a
branding and licensing company. Mr. Rebagliati, who briefly lost his
gold medal at the 1998 Winter Olympics after testing positive for
marijuana, is selling his name to companies interested in branding
their best stuff under monikers such as Ross' Gold, Silver and Bronze.

His company, Green & Hill Industries Inc., is traded on the
over-the-counter market in the U.S., hoping to capitalize on the hype
surrounding the business. The lesson? There is money on the table, and
there is no shortage of entrepreneurs willing to grab their share of
it.

With all the uncertainty over how the sector will develop, Christian
Groh, partner in Privateer Holdings, the private equity investor in
Tilray, said he doesn't believe the Canadian medical marijuana
business should be courting mom and pop investors in the public markets.

"I know some [companies] are legitimate players. But there's no data,
no metrics. This is a new industry, a new regulatory environment. The
mechanics aren't completely fleshed out yet," Mr. Groh said.

"The demand [from investors] is there - we all understand that. But
you're talking about basic business fundamentals that aren't even
established yet. And for people to go out on an exchange and to put
out press releases, or to say they're going to do something. It's
disingenuous =C2=85 Quite frankly I think it hurts the industry."

Big promises

Among the companies that are given to making bold statements is
Creative Edge Nutrition, a Michigan nutritional supplements maker that
is setting up a facility in Lakeshore, Ont., near Windsor. Its
Canadian medical marijuana subsidiary is called CEN Biotech.

Creative Edge proclaims that it is building the "world's largest and
most advanced legal cannabis production facility."

Whether the CEN facility will ever be constructed depends on a few
factors, such as whether the company can get approvals to build it.
That hasn't stopped it from issuing press releases touting its future
industry-leading size. Its public relations people refer to the
company as a future "super grower."

But Creative Edge, which doesn't yet have a licence to sell medical
marijuana, has faced pushback from the community in Lakeshore, where
some residents are uneasy about having such a large facility in their
backyard.

The company's CEO, Bill Chaaban, said he expects the licence by the
end of this month. The application calls for 600,000 kilograms a year
of marijuana production, which would put CEN ahead of the field in
Canada, he said. "We would be larger than all of them combined."

Mr. Chaaban then clarifies that number a bit. "We don't expect to be
growing [all of it] in the first year. It's something you scale up to.
We have a 10.5-acre site and it's something you build up over time."

Simply put, CEN has a few more steps to go before it can claim to be
the biggest in the world.

Those types of proclamations are reminding some of the dot-com era,
which produced inflated stocks, some investment winners, but left a
lot of carnage.

Mr. Chaaban says he supports the regulator's warnings, "I think
they're absolutely essential," he said. "There's a lot of people
trying to capitalize on investor-get-rich type of schemes. You have
mining companies [penny stocks] that are now wanting to get into
medical marijuana and I think it's absolutely ridiculous," Mr. Chaaban
said.

"If it's an attempt just to capitalize =C2=85 I think they need to be
halted and addressed."

Some observers have wondered, quietly, what CEN plans to do with all
the marijuana it claims it will grow, since 600,000 kilograms is a lot
to dump on the Canadian market. Mr. Chaaban said the company's
ultimate goal is to ship outside Canada to foreign markets as more
jurisdictions change their laws. "We intend to export the product," he
said, adding that Health Canada allows for that, as long as the
domestic market is served. "You're not going to be able to export
until you satisfy the demand of the domestic market."

Currently, Health Canada regulations restrict licensed producers from
selling any other kind of product beyond dried marijuana, but Creative
Edge also wants to get into other marijuana-related businesses. "You
need to be more than a one-trick pony. I think if you're going to have
staying power, you're going to be able to make money in other
divisions in other things," Mr. Chaaban said.

"There also has to be research done into new delivery mechanisms
because I think it's going to be hard to get physician support behind
a medicine you have to smoke."

Risk and reward

Despite the unusual warnings from regulators, not everyone is against
the stock market froth. Some see it as just part of the way a new
industry works out the kinks.

Sure, there are bound to be bad companies, but there will also be good
ones, argues Scott Gardiner, chief investment officer at Verdmont
Capital, a Panama-based investment firm that is keeping tabs on the
unfolding Canadian market. Smart investors can make good money by
finding the legitimate players, he figures.

"As with all emerging sectors attracting capital, there will be
scammers looking to capitalize on some of the misinformation floating
around," Mr. Gardiner said.

"There are many companies pitching their stories with certain 'facts'
that really can't be backed up by any hard data. For example, no one
knows how many strains will be needed in the marketplace and the
efficacy of these strains in treating different ailments.

"We have also heard companies discussing various projections with a
high degree of confidence, with limited visibility on end-demand, and
a yet-to-be-determined industry cost curve. Most projections need to
be taken with a grain of salt."

However, that doesn't mean the industry shouldn't be courting the
markets, Mr. Gardiner said. Investors who stay on the sidelines are
missing the point, he argues.

"Where we disagree =C2=85 is that investors should avoid investing in the

space until the dust settles. ... For educated investors with some
risk capital to deploy, now is a great time to get involved. The risks
are higher for sure, but then the potential returns are there if you
can identify the right teams and companies to get behind."

When the dot-com bubble burst, the collapse of high-flying stocks like
Pets.com, and the cratering of even more well-known tech stocks such
as Amazon.com, left a bad taste for investors. But Mr. Gardiner argues
the dot-com boom also brought forth some hugely successful businesses
that have changed the world. He sees the medical marijuana sector the
same way.

"Ultimately, the tech boom left us with some amazing companies," he
said. "There will be winners and losers. The sooner we find out who
they are, the better. The market will only assist this process."

Growing pains

Mr. Rosen laughs in disbelief when he thinks of how many grow
operations he's visited. But the work is crucial.

"When I see a good company now, they jump off the page in a way that
maybe they wouldn't have six months ago, because I didn't have enough
of a context," he said.

Investors should be able to draw their own conclusions when a penny
stock claims to be part of the rush, he argues. Still, Mr. Rosen fears
a stock scandal could tarnish the good companies, along with the bad.
"That's the challenge right now=C2=85 we're so nervous that opportunists
and people that are not committed towards long-term governance are
going to impugn the reputation of the sector at a fragile time."

In the time he has spent touring wannabe medical marijuana facilities,
Mr. Rosen has noticed how far the industry has come. Things are
getting more professional, he hopes.

"I think today we would say we're not putting a blindfold on. We're
not getting in your car. It was a different industry back then. It was
a bit more of the Wild West."
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