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TICKERS: STEM; STMH

Cannabis Market Delivering for Consumers and Investors

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As legalization takes hold across the U.S., opportunities for the next generation of cannabis companies expand. Adrian Morante of K2 & Associates finds “trustworthy, capable and reputable” companies with value.

Admitting that the U.S. cannabis market is somewhat of a "wonky mess," Adrian Morante, CFA, vice president and portfolio manager at Canadian hedge fund K2 & Associates, is nonetheless convinced that it offers viable business opportunities.

"The U.S. is moving from an illegal market to a legal one. An industry that was once run by a cast of what I'll call 'characters,' now has more trustworthy, capable and reputable individuals running these companies. People who understand operations and scalability," he said.

While cannabis is federally legal in Canada, legalization has been a state-by-state process in the U.S. and federal roadblocks remain. Marijuana is classified as an illegal Schedule 1 drug. Federal banking laws limit access to the financial system. And the federal taxation of cannabis companies' revenues is equally complex. Despite "good growth fundamentals," these federal restrictions in the U.S. limit the ability of traditional money managers to invest in the space, according to Morante, one of two managers of K2's cannabis portfolio.

One of the individuals and companies Morante has invested in is Adam Berk, founder and CEO of Stem Holdings Inc. (STEM:CSE; STMH:OTCQX) dba Driven by Stem. Building on his degrees in finance and hospitality and his experience in catering, Berk started Osmio, which would become GrubHub, now the behemoth in food delivery. Next up, he founded the men's grooming company HYD For Men, where he learned all aspects of the consumer-packaged goods sector.

Founded in 2016 as Stem Holdings, the company is a leading vertically integrated cannabis and hemp branded products company with state-of-the-art cultivation, processing, extraction, retail and distribution operations throughout the U.S. The name changed late in 2020 with its acquisition of Driven Deliveries, an e-commerce and delivery-as-a-service provider.

The result is what Berk calls a true "farm-to-home" experience for consumers of Driven by Stem's family of award-winning flower, edible and tincture brands from its own farms, extraction labs and commercial kitchens in California, Oregon and Nevada.

"Adam blew me away with his operational prowess. He didn't get into cannabis as a cultivator, but as someone able to see the strategy and synergies of bringing different companies together under one umbrella," Morante said. "He allows his acquisitions to run without worrying about the day-to-day concerns and overhead that might squeeze them. I understand that direction and leadership and I think it adds value."

A Changing U.S. Cannabis Market

Regardless of the "wonky mess," the value of the U.S. legal cannabis market is climbing higher. As recently reported in Forbes, the estimated legal sales in the 36 states that allow the medical or recreational use of marijuana hit a record $17.5 billion in 2021. Cannabis companies are raising more capital as well—$116.8 billion in 2019, according to Viridian Capital Advisors, a cannabis advisory firm.

Big numbers like these are driving organizations like the American Bankers Association to lobby for the passage of legislation that would give banks more leeway to provide financial services to firms in the cannabis sector.

Popular support for legalization is growing, too. Nine state legislatures will consider recreational adult legalization in 2021. Another five will consider medical use and two will weigh both medical and recreational authorization. The poll numbers suggest those efforts will succeed: 91% of Americans favor legalization, according to a Pew Research report.

Regulations have already relaxed regarding cannabidiol (CBD), a compound used to relieve pain, anxiety and depression. It is sold as tinctures, in oils and creams, and, increasingly, in edible products like gummies and lollipops—products marketed by Driven by Stem under its Cannavore and Dose-Ology brands. In 2018, the FDA placed Epilodex, a CBD product derived from cannabis, on Schedule V, the least restrictive schedule of the Controlled Substances Act. The same year, the Farm Bill legalized the regulated production of hemp, another source of CBD.

Delivery is another cannabis market driver. Along with groceries, dinner and office supplies, people had cannabis products delivered to their doors in record numbers during the COVID-19 pandemic. Berk underscored this trend in a recent interview with Forbes, saying, "My thesis is that people are never going to go back to any type of retail the way they did before. People got used to ease and convenience, and they love getting stuff delivered to their doorstep."

Morante believes Driven by Stem can deliver on that thesis. "If Adam can be among the larger delivery players throughout the U.S., we think there is a lot of upside. If Adam builds a footprint, you would have a couple of options: One is to build a profitable business and sell it. The other is to keep growing and prospering as Driven by Stem."

At the time of the merger in December 2020, the combined market capitalization of Driven by Stem was $65 million. Revenue projections for CY 2021 run to $75 million in CY21 and a combined gross profit of $30 million.

Driven by Stem is covered by Joe Gomes, an analyst at Noble Capital Markets. The firm has an Outperform rating and a US$2.00 12-month target price on the company. "We believe the company's recent merger with Driven Deliveries has established Stem as the first cannabis cultivator and technology omnichannel retailer with e-commerce ordering and express and next-day delivery," wrote Gomes on May 24.

K2 & Associates is one of Canada's longest running hedge funds. It has $800 million in assets under management, with approximately 90% coming from its principals and their families.

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Disclosure:
1) Diane Fraser compiled this article for Streetwise Reports LLC and provides services to Streetwise Reports as an independent contractor. She and/or members of her household own securities of the following companies mentioned in the article: None. She and/or members of her household are paid by the following companies mentioned in this article: None. Her company has a financial relationship with the following companies referred to in this article: None.
2) The following companies mentioned in this article are billboard sponsors of Streetwise Reports: Stem Holdings. Click here for important disclosures about sponsor fees. As of the date of this article, an affiliate of Streetwise Reports has a consulting relationship with Stem Holdings. Please click here for more information. The information provided above is for informational purposes only and is not a recommendation to buy or sell any security.
3) The article does not constitute investment advice. Each reader is encouraged to consult with his or her individual financial professional and any action a reader takes as a result of information presented here is his or her own responsibility. By opening this page, each reader accepts and agrees to Streetwise Reports' terms of use and full legal disclaimer. This article is not a solicitation for investment. Streetwise Reports does not render general or specific investment advice and the information on Streetwise Reports should not be considered a recommendation to buy or sell any security. Streetwise Reports does not endorse or recommend the business, products, services or securities of any company mentioned on Streetwise Reports.
4) From time to time, Streetwise Reports LLC and its directors, officers, employees or members of their families, as well as persons interviewed for articles and interviews on the site, may have a long or short position in securities mentioned. Directors, officers, employees or members of their immediate families are prohibited from making purchases and/or sales of those securities in the open market or otherwise from the time of the decision to publish an article until three business days after the publication of the article. The foregoing prohibition does not apply to articles that in substance only restate previously published company releases. As of the date of this article, officers and/or employees of Streetwise Reports LLC (including members of their household) own securities of Stem Holdings, a company mentioned in this article.

Additional Disclosures

Disclosures for Noble Capital Markets, Stem Holdings Inc., May 24, 2021
Company Specific Disclosures
The following disclosures relate to relationships between Noble and the company (the "Company") covered by the Noble Research Division and referred to in this research report.
The Company in this report is a participant in the Company Sponsored Research Program ("CSRP"); Noble receives compensation from the Company for such participation. No part of the CSRP compensation was, is, or will be directly or indirectly related to any specific recommendations or views expressed by the analyst in this research report.
Noble has provided capital markets advisory services in the last 12 months. Noble has received compensation for non-investment banking services in the past 12 months. The Company has attended Noble investor conference(s) in the last 12 months.
Noble intends to seek compensation for investment banking services and non-investment banking services (securities and non-securities related) within the next 3 months.
Noble is not a market maker in the Company.

RESEARCH ANALYST CERTIFICATION
Independence Of View
All views expressed in this report accurately reflect my personal views about the subject securities or issuers.
Receipt of Compensation
No part of my compensation was, is, or will be directly or indirectly related to any specific recommendations or views expressed in the public appearance and/or research report.
Ownership and Material Conflicts of Interest
Neither I nor anybody in my household has a financial interest in the securities of the subject company or any other company mentioned in this report.

ANALYST CREDENTIALS, PROFESSIONAL DESIGNATIONS, AND EXPERIENCE
Senior Generalist Equity Analyst. Chartered Financial Analyst©. Over 25 years experience as a Generalist Analyst focused in the small to mid-cap space. MBA in Finance from Pace University and a BS in Agricultural Economics from Cornell University.
FINRA licenses 6, 7, 24, 63, 86, 87.




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