Our 2023 Outlook for U.S. Cannabis.

Kenric S. Tyghe

While it’s clear that there has been a sea-change in the trajectory of the most mature cannabis markets, the market’s growth trajectory (factoring in recently legalized states) stands in stark contrast with valuations in the space. The strong sales growth of mature markets in 2020 (and in H1/21) was followed by slowing growth in the H2/21, and essentially flatlined in 2022 (which was more than offset by the ramp of recently legalized states, for market growth of roughly 7.8%). A combination of factors, including (i) the ripple effects of regulatory delays on both state (New York) and federal (SAFE Banking Act) levels, (ii) the impact of supply dynamics on wholesale prices in select markets, and (iii) the inflation and rate shock macro pressures on consumers’ wallets, contributed to a challenging 2022 for the legal cannabis market. With the annus horribilis that was 2022 in the rear-view mirror, we believe it instructive to frame up our expectations of the evolution of market headwinds, and provide some insight on the green shoots that were missed in the terrible twos tantrum that resulted in the valuation collapse through December 2022.

Green Shoots Support Pain Relief
While we are mindful of the macro backdrop heading into 2023, valuations in the U.S. cannabis market (the large cap MSO average 2023 EV/EBITDA multiple was 5.8x exiting 2022) impute that the Battle of Armageddon is already lost. The Democrats' failure to pass SAFE in 2022 really should not have come as the surprise that it obviously did to investors, given that with nothing but net (for the last two years) they couldn’t get out of their own way long enough to put points on the board. In playing themselves into a corner, the Democrats left points on the table, which we expect a Republican controlled House to grab with both hands in 2023.

Putting Points on the Board
We expect a Republican controlled House (and voice that provides key Republicans, in crafting a narrative on the headlines, to give them a win), dovetailing with actual urgency in the Democrat controlled Senate, is actually supportive of SAFE (and possibly related reforms) securing passage in 2023. While we did not believe we would see passage of key legislation in 2022, we do believe that the calculus is supportive in 2023 (despite the market appearing to be pricing in a continued stalemate through 2024). We believe that while early 2023 will be challenging, the upside valuation reset in 2023 could be as violent as the selloff in late 2022 was brutal.

States in the Crosshairs
The combination of successful recent legalization ballot initiatives (most notably in Maryland), the long-awaited start (likely in summer 2023) of recreational-use sales in New York (with an assist from the January 10, 2023 start of recreational-use sales in Connecticut), are the key expected needle movers for 2023. We believe that while possible, the legalization of recreational-use in Pennsylvania would (if it happened) be too late in the year to be needle moving. A full year contribution (and the pace of the ramp) of New Jersey (which started legal recreational-use sales on April 21, 2022) is an additional key driver of market growth in 2023.