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Investment Outlook

Relying too much on a single geographic area has its dangers for marijuana firms, but there’s a straightforward solution if a marijuana firm has enough money for expansion and avoids the pitfalls of acquisitions.

Cannabis producers have lots of risk factors: but one way to lower those risks is to cut their reliance on a single geographic area. That’s especially critical in a highly regulated market like marijuana where different levels of government have a big say in the growing and sale of their products.

Geographic diversification can involve making sure they have cross-Canada operations. For example, Hexo Corp. (symbol HEXO on Toronto) is a Canadian-based producer and distributor of medical cannabis with production facilities in Quebec. But to cut its risk, Hexo has expanded across Canada. The company was among the producers selected by the B.C. government to supply recreational cannabis to the province. It has also entered into a supply agreement with the Ontario Cannabis Store—run by the provincial government.

Cannabis producers can also branch out internationally to broaden their geographic reach. A good example here is Canopy Growth (symbol WEED on Toronto). The company has announced subsidiaries, partnerships or business activities in countries including Germany, Chile, Colombia, Denmark, Jamaica, Lesotho, Australia, Brazil, Czech Republic and Spain

Not all geographic expansion works out—especially when it it’s done through acquisitions, as is mostly the case with cannabis producers. A company can speed up its growth by buying other companies, rather than building on or duplicating its existing operations. But, while acquisitions speed growth, they also accumulate risk. After all, the seller of something always knows more about it than the buyer. When a company focuses on acquisitions for corporate growth—including geographically—it assumes it can out-perform the current management of what it buys. It assumes it can raise the return by a wide enough margin to increase its earnings, over and above the acquisition’s cost.

Sometimes that works out, sometimes it doesn’t. But when it does, it can help reduce risk, and enhance overall returns.