Cannabis investors in Europe—what’s your investment thesis?
The evolution of the cannabis industry can be broken down into distinct stages with different top priority each time :
- Cultivation and/or Extraction: grow large surface and extract high-quality cannabinoids
- Ancillary services: scale the process
- Consumer packaged goods: make a product people love
- Pharma: protect your IP
- Mass Consumer Markets: become a dominant firm
In Europe today, we’re in between stages 1 and 2.
Unlike in Canada, in Europe, the marijuana market doesn’t exist. So, there are 3 different markets for cannabis:
- The cannabidiol (CBD) wellness side of the industry. People looking for ways to feel better. The jury is out as there is no strong brand yet.
- Medicinal cannabis. It touches a large number of people for conditions ranging from pain management to anxiety. Several non-European companies are well-positioned.
- Pharmaceutical cannabis. It will be supported by global pharma companies.
For medical cannabis, Germany currently represents the third-largest market in the world and is on a growth path.
Techcrunch announced this week “a new milestone in the space where venture capital and the burgeoning cannabis industry meet” with the fundraise of Berlin startup Demecan. It has become the only German company allowed to produce medical cannabis in Germany.
In Germany, many doctors are allowed to prescribe medical cannabis for a wide range of conditions. Not everything is reimbursed but access is large enough. 50,000 patients are already using medical cannabis. What’s more, Germany is two and a half times the size of Canada in terms of population and GDP.
In comparison, France is going to start a trial in 2020 on 3,000 patients. The law won’t change before 2021.
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How about the rest of Europe and the CBD-wellness side of the industry?
Most European venture capitalists are in a “wait-and-see” position when it comes to the CBD wellness market. Here’s why:
Although cannabidiol (CBD), the non-intoxicating compound found in hemp, is fully legal inside the EU, the interpretation of the law in some member states is such that CBD may be connected to THC and narcotics law. The lack of specific and coherent regulations suggests to many investors the possibility that the relative tolerance for the production and commercialization of hemp-derived well-being CBD products could be revoked in the future.
VCs also prefer to invest in clearly defined categories such as biotech or ICT. Biotech and ICT presents a high risk/high reward profile. But you only take risks in one category: R&D or marketing. Startups using CBD as a key ingredient in creating consumer products have relatively low barriers to entry. They also seem to accumulate too many risks.
In fact, today in Europe, the safest investment lies in extraction facilities. From Italy, for instance, you can process hemp flowers and sell CBD isolate in the EU B2B market. Meanwhile, the price for CBD isolate has been falling the past year. This will reduce barriers to entry for CBD manufacturers and expand access to more consumers. And with more consumers, on behalf of public health, elected officials and competent authorities will feel more pressure to get to work to propose specific and coherent regulations!
When regulation is more certain, and even more talented people join as entrepreneurs, I’m bullish that a couple of VC guided by a thesis around wellness will invest in startups using CBD. As for a more cannabis-dedicated fund, in Europe right now, you can’t build a VC firm that makes typical passive investments in a lot of different companies. You can’t make investments like that today. The companies, the people, the strategies aren’t sophisticated enough. You needed to actively manage the companies in your portfolio to help them navigate through the changes that are taking place.
Finally, let’s remember that venture capital is one of the last links in the startup financing chain. For a VC investment to succeed, the terrain must have been prepared upstream, for instance through a phase of public investment followed by a speculative bubble. In the words of economist-investor Bill Janeway, this is how the “platform” is built on which innovators (entrepreneurs and investors) can then freely “dance”. This model suggests that European-based VCs will not be attracted to CBD companies until a later stage, although there are important exceptions, such as the investment made by Index Ventures in Daye, a tampon infused with CBD.
While capital is becoming a commodity in the tech world, this is not yet the case in the cannabis world, especially in Europe. But, just like tech investment firms, cannabis investment firms will need to take a thesis-driven approach.
This is already the case of Canopy Rivers.
I don’t think any other venture fund out there within the cannabis space looks at as many deals as they do. But what stands out is the Silicon Valley mindset they bring to the industry. Rivers articulates its thesis around the idea of horizontal integration. Its CEO Narbe Alexandrian thinks that cannabis companies should specialize in one or two things while outsourcing the rest of the value chain to other companies. That’s why Rivers is building a portfolio as an ecosystem of complementary businesses from cultivation to emerging brands through ancillary services.
The horizontal integration thesis works well in Canada where you can trust other companies to do the job for you. This is not the case in Europe. To create a safe product, you are tempted to do as much as possible in-house. This state of affairs is reminiscent of the tech industry in the early 2000s. As an entrepreneur, you had to do everything because nothing really existed out there. (another big problem in e
Interestingly enough, a sign that that, capital is bound to become a commodity even in the cannabis space is Canopy Rivers is trying to be more proactive in sharing their vision to the outside world starting with their compelling first “Letter to Shareholders”.
In cannabis, not many entrepreneurs and investors take content seriously That’s a missed opportunity. Sharing your own thesis is the foundation on which you can grow a community of like-minded partners.
Another approach to investment to watch closely will be the one taken by Mile High Labs. The company is mostly known as a supplier of CBD. Quite naturally, they added up private label manufacturing to their offerings.
Their 2 explicit pillars are scale and compliance. Instead of forecasting uncertain changes, it seems that Mile High positions itself as the best in what won’t change in the industry. These traits make them attractive partners to anyone from the most established players in consumer goods and retail to the solo entrepreneur launching online. Because CBD is going to be massive, rather than focusing on doing one single thing, they leverage their scale and compliance-oriented approach to be in the best position each time to take a cut of the CBD boom. For instance, in Europe, selling at scale the best-quality CBD isolate is a great way to keep a pulse the market and build relationships with a wide cast of business leaders and entrepreneurs.
At our ACTIVE event at Balderton Capital last month, Frederik Hendriksen, co-Head of International Expansion mentioned 2 interesting developments: the submission of a Novel Food application for their raw material in Europe, and the launch of an accelerator for the US market. These 2 announcements align well with the narrative of Mike High Labs being the infrastructure and enabler of a multifaceted industry.
Timing is key
The main trait of a mature ecosystem in any industry is that it excels at funding people that are a bit too early. In Silicon Valley, they invest early in the tech cycle — usually when a new trend is just emerging and promises to create opportunities for discovering new businesses. We’ve seen this kind of craze happen with cloud computing, virtual reality, artificial intelligence, and crypto. This practice creates the right talent pool for when the timing is right.
How can they do that? Some VC firms are so successful, they can afford to lose money making early bets on entrepreneurs clearing the field. Even in case of failures, this process trains a whole new generation of entrepreneurs.
In contrast, the European approach is often to wait for someone else to private that the new big thing is indeed a thing. In CBD, it means that today, in Europe, even in the UK, if you’re a CBD entrepreneur you’re probably a bit too early. That’s fine if you have the resilience to stay alive long enough. We are always a bit late in Europe.
If you’re an investor, don’t wait for a watershed moment in Europe. First, because there won’t be any. Second, because if you want to capture value early on, you should invest in European entrepreurs to build the process. Good investing is finding wet snow and a really long hill. And working with Europeans to build the process is the best way to roll the snowball.
In Europe, will we ever see a successful European Cannabis investment firm or accelerator?
Yes. But it’s likely that its roots will be from North America.
In tech, in 2000, Balderton Capital started as the European arm of Benchmark Capital. It became fully independent 7 years later. In cannabis, the North American industry already made some people very wealthy. The growth of the first generation of businesses gave the chance to build a self-sustaining ecosystem that, in turn, is generating powerful clustering effects, notably in Colorado. Today, the North American industry is able to attract and reward the most talented people, including their international expansion team.
Meanwhile, any successful cannabis investment firm or accelerator with European coverage will actually need to integrate Europeans partners and associates. Why? Because the common point of the best investors is always the non-monetary resources or “unfair advantages” that they can offer. As the cannabis industry matures, and the entrepreneur-investor relationship gradually shifts in favor of entrepreneurs, a European partner or associate is better positioned to :
- attract a differentiated deal flow of talented entrepreneurs
- leverage a network of supportive local fellow entrepreneurs, politicians, and media
- build a pan-European infrastructure that can solve many problems for all of the EU-based companies in the portfolio, increasing their own value at the same time
Nonetheless, such an EU team will need to create its own framework slightly distinct from its North American HQ: the bets you make at the seed and Series A stage in Europe should be very different from the ones made in North America. It’s a different context with different market dynamics, and different needs in terms of ecosystem-building.
All in all, we have a chicken-and-egg problem. For investors to be successful, we need entrepreneurs to thrive. And the European environment is testing the resilience of cannabis entrepreneurs on a daily basis. Ten years ago, Ben Horowitz of a16z wrote The Case for the Fat Startup — the idea that sometimes you need to raise a boatload of money in order to get your company off the ground. In the case of CBD, that’s exactly aligned.
Because the market wants leading brands, and as there’s is an execution risk with clear competition, real capital has to go in to prove out the model.
