Today’s cannabis industry as a whole and the hemp industry in particular are exciting arenas for angel and venture capital investors. US adoption, research, and development continue to expand in the frontier states and more states are making policy transitions to end restrictions on public knowledge, access, and consumption.
As shown by a 2015 Gallup poll on marijuana legislation, public sentiment has expressed a positive trend over the past three decades. In 2011, 50% of the country voiced acceptance of this once shunned plant. By 2015, 58% of the country believed it should be made legal.
Sentiment in cannabidiol (CBD) is also trending upwards, as evidenced by search activity. Google trends shows that the worldwide public interest and therefore education of cannabidiol has substantially increased in conjunction with the overall sentiment trends shown by the 2015 US Gallup poll. The online search activity related to cannabidiol in 2011 approximately 15% of that seen in 2016, and this trend is continuing upwards at a steep rate.
This story appears in our CBD Report.
Strong growth of emerging markets like that expressed by the cannabis industry is very attractive to scientists, innovators, entrepreneurs, and investors. Scientists see the industry’s uncharted, open frontier nature and the excitement of founding cutting edge and transformative theories in a new medium.
Engineers are drawn by the opportunity to experiment with and invent technologies that have broad impacts in areas previously not accessible. Entrepreneurs see the opportunity to bring these elements together and build profitable enterprises through solutions such as grow operations, ancillary products (think picks and shovels), and infrastructure products.
Throughout our research, analytics, site visits, and company interviews, a wide variety of players in the market were found. Not all prospects are the same and that both landmines and opportunities exist in this space. By leveraging historical research and venture capital analytics, investors can make more informed decisions, increase their likelihood of success, and play an active role in intelligently building the industry.
Kauffman Foundation research led by Robert Wiltbank, PhD. And Warren Boeker, PhD. illustrated valuable findings: Investors who spend more than twenty hours performing due diligence on a prospective company achieve an average 5.9x multiple on investment returns; Investors who spend less than twenty hours achieve on average 1.1x. Investors who spent more than forty hours performing diligence achieved an average of 7.1x.
These findings are the result of a 1 year study that covered data spanning 18 years of research, and they can be applied by investors of any industry. By performing thoughtful, intelligent and constructive diligence, investors increase their likelihood and performance of success. These findings are leveraged by the Venture Capital Analytics program, and three key elements are reviewed for every prospective investment venture: product, market, and execution.
Any individual or group looking to increase their success while investing in startup and early stage cannabis industry businesses can use the following information.
Products come in many forms. Examples include physical items (such as lights, buckets, and nutrients), software (such as a transaction accounting system), data (such as market trends), and services (such as lab testing and extraction). A product may be a concept, fully developed and deployed, or in one of the many phases in between. Quality investment opportunities can be found at any of the phases. When evaluating a venture’s product, look to understand the drivers behind it and the momentum building ahead.
What problem is the product attempting to solve? What steps are the company taking to understand the real and the perceived needs of the customer? The company should have a clear hypothesis of the value proposition their technology is providing and a strategy to test it. A venture can experience many failed hypotheses on the way to commercialization, but failed hypotheses are not an indicator of a bad venture.
Building hypotheses, measuring their impact, and learning from those experiences through multiple iterations are valuable steps towards developing product market fit and positive indicators of a potentially successful venture. Risks are found when the company is not iterating, not leveraging customer feedback, and are not increasing the technology readiness level of the product.
This story appears in our CBD Report.
Steve Blank, startup ecosystem advocate, author, successful entrepreneur and professor explains the background of four market segments in detail through his blogs, books, and presentations. These include existing, re-segmented, new, and clone markets. The cannabis industry exhibits characteristics that can exist in an interpretation of each of these market types.
When considering the viability of the market the product is attempting to fit, understanding the market type it is critical to analyzing the approach the entrepreneur is taking. Resources such as CB Insights and CrunchBase can provide illustrations that are useful to gauge existing, re-segmentation ready, and to an extent clone markets.
However, some of the most exciting, innovative, and highest return generating (as well as high risk) ventures live within a new market space. Non cannabis examples include Uber and AirBnB when those companies were getting off the ground. Entrepreneurial visionaries who lead the creation of new markets understand the value of product market fit and continuously engage with customers to develop their ventures.
Many of the steps described in the product section directly correlate to market analytics, and observations of a venture taking those iterative steps described are positive indicators. Risks are found when the venture is unaware of the market type, does not have a growth hypothesis, and is not driving towards increasing understanding of their position.
The prior two elements are important to consider in due diligence, but it is the execution element that guarantees their reliability. Evaluating a ventures execution element includes assessing the business strategy, the composition of the team, and the aptitude of the leadership to deliver results. Pay close attention to that last statement.
Experience, credentials, years with a certain title, and many other standard resume bullet points are not the focus: it is the leadership’s aptitude that should always be considered high priority. We have seen amazing teams come together to build what on paper may seem like the recipe for guaranteed success; however, their ability to execute as a team was never realized and the ventures failed.
Not all ventures fail due to concerns over aptitude, but we have yet to see a venture excel when aptitude was not observable. Look to understand the commitment, accountability, and traction demonstrated by the team as positive indicators.
By considering the elements described while performing thoughtful due diligence, investors can increase their potential for favorable returns. At the same time, performing due diligence naturally improves the education of the investor community, and every one of the companies profiled identified educating the community as a critical role of the industry to foster its growth.
The overall investment viability of the cannabis industry as a whole is challenging to illustrate due to its age and legally gray nature that hinders credible public information. By taking a direct and educational approach to accumulating company profile data, the RVC and HBJ teams developed insights of industry dynamics based off of first hand market intelligence.
Extensive company research was performed by holding direct interviews and site visits, allowing us to circumvent inaccurate, incomplete, and in some cases even misleading information posted in the general media. Details of the profile research can be found later in this article. Here are the summary findings:
- Partnerships are key and major players are collaborating. Most of the companies profiled have built long term partnerships with other players in the industry. These complimentary partnerships have been developed to leverage the assets and resources of each member in the partnership, and the collaborations between them have proven useful to accelerate the success of each member.
- Growing the pie, not hoarding the slices. While some players in the industry are looking to get a bigger slice of the current industry pie, the majority of the top players we spoke to are focusing on growing the pie itself. We see this approach as promising as key players first look to grow the industry, even as they compete for market share.
- Opportunities for adjacent market technology transfer. The new medium brought forth by the cannabis industry has opened the door to existing businesses to articulate their product offerings for a new market consumer. Automated growing systems, transaction processing and database systems, and nutrient products are established examples of this, and extraction, dehydration, and harvesting systems are examples of opportunities being pursued and solutions the industry is actively looking for.
- Big potential for revolutionary innovations. Today’s cannabis industry today is led by very talented people, not the characters presented by tabloid and main media channels, and these individuals are actively researching and developing new technologies. Throughout our interviews we met extremely intelligent and ambitious engineers, scientists, and entrepreneurs with the aptitude to drive revolutionary innovations. With access to state of the art testing and analytics resources and the new frontier nature of the cannabis plant these groups have opportunities to commercialize groundbreaking research. We anticipate seeing revolutionary innovations of many kinds emerging from the cannabis industry.
The past two decades have brought exciting opportunities as a once-ostracized plant is emerging by demonstrating its many capabilities. Consumers are sharing testimonials, major media channels are publishing stories and physicians once stoutly against cannabis are changing their stance. Research and use of CBD products is not new, and historical information is now more readily available to the general public.
Despite existing and likely future barriers, CBD is building momentum in a market where investment activity continues. CBDRx, the Colorado hemp company specializing in CBD, raised $5M to produce and deliver high-grade cannabinoid products. Other domestic companies have raised various amounts for technology development, services, and ancillary products. Significantly large investments have also been made.
In June 2014 GW Pharmaceuticals, a biopharmaceutical company focused on discovering, developing and commercializing novel therapeutics from its proprietary cannabinoid product platform, closed a US Public Offering of American Depositary Shares totaling $169.8M and yielding gross proceeds of $126.3M to the company. In July of this year the company closed another US Public offering of American Depositary Shares that yielded a gross proceed of $289.8M.
This story appears in our CBD Report
Experts, industry leaders, researchers, investors and consumers need to consider their opportunity to ensure that the quality, innovation and education are embraced by those inside and outside the industry. No amount of market data, due diligence research, or interviews can positively impact the industry if it is not thoughtfully shared with the policy makers, legislators, and general public.
Misguidance, poor information, and misinterpretations can cause detrimental effects. An example includes the misinterpretation of CBD as Marijuana, or the misinterpretation that policies should be based on specific molecules of the plant as opposed to the cumulative science behind it.
These misinterpretations can cripple local farmers, restrict the United States ability to be an innovation leader, and negatively impact the health and lives of the people, all while leaving international hemp producers to freely operate and sell to the United States (DEA regulations allow international producers to export their industrial hemp crops, which contain CBD and many other cannabinoids).
CBD Companies Profiled in The CBD Report
As we continue to evaluate the marketplace, Hemp Business Journal will publish news, information and market intelligence on this website.
About the authors
This article was written by the Venture Capital Analytics Program of the RVC, in collaboration with Hemp Business Journal’s research and editorial team. The Venture Capital Analytics Program performs investment due diligence on angel and venture capital deals across many sectors, including the emerging hemp industry. For more information, visit RockiesVentureClub.org.
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