Cannabis Tech — Thoughts on the European cannabis market
Since the legalization of recreational cannabis (cannabis without a medical prescription) in several US states over the last years and in Canada in 2018, cannabis became a very fast growing market with broad media coverage. While most articles are centered around North America though, two Sifted articles about Jacana and Daye caught my attention.
Together with the recent €20m Series A round of Berlin-based Sanity Group in February 2020 this made me curious 🤔. So I dug deeper into the European market, and here is what I found. (Though the focus of this article is on Europe, the sheer size and dominance of the North American market makes it worth to have closer look there too.)
In the next minutes, I’ll share my insights on:
1) Current state of legalization in Europe and North America
2) A market overview
3) A map for European Cannabis Tech startups
4) Final thoughts on legalization and COVID-19 effects
1. Current state of legalization in Europe and North America
In the past few years, more and more European countries legalized medical use of cannabis, among those Germany, the UK, France, Spain and Italy. And while all EU member states still treat possession of cannabis for recreational use as an offense, many have decriminalized it (meaning that the possession of a certain amount will lead to no or minor prosecution). More info here.
In the US, medical use has already been legalized in some states since 1996, and since 2012 more and more states legalized recreational use. As of today, in the US cannabis for medical purposes is legalized in 33 states and for recreational in 11 states. And one of the major events was in 2018, when also Canada legalized recreational use. In the appendix you can find a more detailed timeline of legalization in Europe and North America.
Overall, it can be seen that cannabis is gaining momentum as a) regulations are loosening throughout North America and Europe, b) consumer acceptance is increasing, and c) the body of research highlighting cannabis’ health benefits is growing.
A major difference in legalization between Europe and the US is that most decisions in the US happened as a result of voter initiatives. As most EU states don’t allow for referendums, cannabis activists have a tougher time in Europe.
The map below by BDS Analytics gives an overview of the global state of legalization and shows that North and South America as well as Europe and Australia are the most progressive regions.
2. Market overview — Size, growth and players
Now that we know the rough state of legalization, let’s have a look at the underlying market. But first of all, we should get a bit deeper into what cannabis actually is.
What is cannabis?
Cannabis is the overall plant category, to which both marijuana (>0.3% THC) and hemp (≤0.3% THC) belong. More on the distinction can be found here. The main components for which cannabis is used are THC, CBD and terpenes.
THC is the main psychoactive compound and causes the “high” feeling.
CBD on the other hand is not psychoactive and won’t get you high. If the talk is about therapeutic cannabinoids, this refers most often to CBD, as it’s attributed to a wide range of medicinal effects. CBD is also easier available, as it’s legal in most European countries and the market is booming. Lastly, terpenes are aromatic oils that create aroma and enhance flavor. With this knowledge, let’s go into the market size, growth and some trends.
1) More and more Europeans use cannabis, especially young adults.
According to the EMCDDA, 7% of EU adult citizens used cannabis in 2018, while 27% used cannabis at least once in their lifetime. The highest usage is among young adults (15–34), with the most consumers in France, Spain and Italy. Overall, we can see that the percentage of cannabis users is increasing in most EU countries.
2) The legal cannabis market is growing, but Europe is lagging behind.
A report by Prohibition Partners shows that the global legal cannabis market in 2020 is estimated to reach €18.5bn, and to grow at a CAGR of 20% until 2024. While the European market is expected to grow at a much faster rate (CAGR 69%), it only makes out a tiny fraction of the global volume. Of course these numbers should be considered with care as they highly depend on legislation. But one thing we can deduct from this is that the illegal market must be a multiple of the legal market, considering that 33 million EU citizens (7.4%) consumed cannabis in 2018.
Also, due to legislation, Europe is lagging behind major public North American players such as Tilray, Canopy, Aurora and MedMen. European startups therefore have to develop a standing to withstand a potential European expansion of these incumbents. Especially in the cultivation space are dwarfed by the US market.
3) Cannabis prices dropped over the last 4 years.
As we can see from the Cannabis Benchmarks Index, prices have significantly dropped since 2016, as more and more players enter the market. Right now, cannabis can often be obtained cheaper illegally than legally, but if the market continues to grow, I think prices are likely to drop further. Combined with the trend for legalization, this could drive out illegal players and therefore increase the overall legal market.
4) Cannabis concentrates are increasing in popularity.
A report by Jefferies shows how the composition of cannabis products is expected to change over time. While raw flowers are less frequented, high quality cannabis-based products such as concentrates, vipes and edibles experience increased popularity.
5) Not every VC can invest in Cannabis.
Many VCs are prohibited to invest in cannabis by the terms of their partnership agreements. This void is filled by specialized players, family offices and individual investors. An analysis by the NVCA and PitchBook reveals that there are around 125 VCs in the US solely investing in the cannabis economy. Among the leading investors are Gotham Green Partners, Altitude Investment Management and Casa Verde Capital (in which Snoop Dogg is a GP).
So, cannabis could be a attractive space for the VCs that can invest, as there is less competition, though it’s increasing. (More info on this topic here.)
3. Startup map — European Cannabis Tech
When segmenting the overall market, I found this can best be done vertically, along the main areas below, as well as by the degree of integration (not, partly, or fully integrated). These are the main vertical segments:
1) Cultivation & manufacturing (farming and related serviced & extracting THC and CBD, and producing other products from cannabis),
2) Wholesale & distribution,
3) Retail (online/offline stores and delivery), and
4) Other services (data, consulting, R&D, etc.)
Also, I marked the purely medical players as well as D2C brands in the map below. But segmenting the market horizontally by medical and recreational proved to be quite difficult, because startups mostly brand themselves according to the legal framework. That means for example startups in Germany are mostly branded as medical, while in Italy and Austria often as recreational. Similarly, it makes little sense to cluster startups by THC or CBD products, as this is again connected to the legal framework.
Keeping in mind that as of now, no European country fully legalized recreational use of cannabis, I think many startups would quickly re-brand if the much larger recreational market opens up.
What we can see is that the majority of startups are partly integrated (often as they don’t cultivate cannabis themselves), with the D2C space being the most crowded, especially within CBD oils. There are only a handful fully integrated players and retail is the most dominant sector for non-integrated players, with a range of marketplaces and delivery services.
From a VC perspective, among the business models that I found most interesting are D2C players with the potential to become a brand leader, and that offer either a range of products or very specialized products (e.g. Daye with CBD infused tampons). While the D2C space is getting crowded, no market leader emerged yet and I’m curious to see which players will make the race.
Another very interesting space in my opinion are marketplaces. As recreational use is not fully legalized yet in any European country, we can only see some nationwide marketplaces, such as Hanfgarten in Austria and JustMary in Italy. Before the recreational space opens up, I think it will be difficult though for a marketplace to expand across several countries and capture a larger marketshare.
And while the recreational space is not yet opened up, medical players benefit from the ongoing legalization for medical use of cannabis. With Germany and the UK, the two largest economies in Europe legalized medical use, and provide a market large enough for sizable players.
Lastly, I’m very curious to see the developments in the cultivation space, should legislation change. Though it might be tough in this field to compete with the big North American players, that already operate on a large scale, a European hub for cultivating cannabis could accelerate the market further. In the meanwhile, this of course presents a great opportunity for distributors such as Cansativa.
Overall, one of the crucial factors will be how prepared startups are for a potential legalization. As the space is getting crowded, speed to serve a newly opening market will be very important, and first-movers have an advantage. And for that it helps to have a look at North America and check best practices of the most successful startups.
According to a Dealroom analysis of funding activity for cannabis startups headquartered in Europe, we can see a huge increase in invested capital (1,148%) as well as in deals (200%) between 2018 and 2019. And with Sanity Group’s €20 million round in February this year, we see increasingly large ticket sizes. While investments in Q1 2020 look promising, Q2 will give more valuable insights on how COVID-19 will affect funding, more below.
4) Final thoughts
a) Legalisation
The fact that Germany is among the European leaders in authorizing sale of medical cannabis via pharmacies, given its 83 million population, provides an explanation for the success of startups like Sanity Group. Germany’s liberalization move could lead other countries to follow and accelerate legalization.
But despite that the long-term trend points toward a gradual legalization (first medical, then recreational), I don’t see strong signs that many countries outside of North America will fully legalize recreational use very soon. Part of why I expect legalization to be stalled in the short-term is that lawmakers are currently tackling more pressing, COVID-19 related regulations, but more on the Corona effects below.
In the short-term, this of course limits the market and growth potential, allowing for fewer use cases and more fragmented players serving local markets. Still, startups that find ways to navigate successfully through the regulatory and legal jungle have an advantage, face less competition, and can act faster once more markets open up.
b) COVID-19 effects
While cannabis stock overall went down by 30–40% since January, we can see that stocks are already recovering since end of March, with incumbents such as Canopy Growth close to their pre-COVID-19 valuations. This is in line with a study by Prohibition Partners among cannabis consumers in North America and the UK, which revealed that both medical and recreational users are most likely to maintain or increase their cannabis use during the COVID-19 outbreak.
And though I haven’t seen any numbers yet for European startups, several North American startups reported steep demand increases in the last few weeks. Californian Harborside had its largest sales day ever and cannabis marketplace Jane Technologies reported that sales for their 1,300 listed shops have been up 52–130%, compared to January. Especially e-commerce and online delivery seem to be profiting in North America, and it is likely that consumer behavior in Europe will also shift more towards online sales.
The biggest challenge I see as of now might be supply chain issues, as most regions heavily rely on cannabis imports from North America, and hardware imports from China (especially for vapes).
Thank you for reading and every feedback is highly appreciated! 🙌 🙂
Cheers
Dominik
Appendix
1) Timeline for cannabis legalization in North America and Europe
North America
1996: California becomes the first US state to legalize medical cannabis which led to the legalization of medical cannabis in other state
2000: Canada legalizes medical cannabis
2012: Colorado and Washington become the first US states to legalize recreational cannabis
2016: California legalizes recreational cannabis and quickly becomes the largest US market (>$3bn in 2019)
2018: Canada legalizes recreational cannabis
Europe
1976: The Netherlands permit recreational use of cannabis in coffee shops
2008: Austria legalizes medical cannabis
2013: Italy legalizes medical cannabis; France legalizes medications containing cannabis derivatives
2015: Croatia legalizes cannabis-based medicines
2016: Poland and Norway legalize medical cannabis; Italy passes a controversial law legalizing the sale of some cannabis products with low THC, followed by the opening of a multitude of shops (more here)
2017: Germany, Greece and Luxembourg legalize medical cannabis; Catalonia in Spain legalizes recreational cannabis in “cannabis clubs”
2018:The UK and Portugal legalize medical cannabis; Denmark legalizes cannabis-based medicines
2019: Ireland legalizes medical cannabis; Luxembourg announces plans to become the first European country to legalize recreational cannabis within the next two years
(More info here and here.)