The Most Valuable Greenhouse in America

The Optionality Imbedded Inside the Mercer Park/Glass House Transaction

Last November, a Ventura County, California voter referendum (Measure O) was approved by voters allowing the cultivation of cannabis, which had previously been prohibited in the county. (While cannabis is legal in California, over 60% of the state’s counties still don’t allow cannabis cultivation).

Ventura, CA is the perfect place for agriculture (as evidenced with it being filled with a wide variety of agriculture for the past 100 years). Most of the avocados in the country are grown there and Driscoll’s, one of the countries largest berry producers has large operations based there. I have spent years following Limoneira (NASDAQ: LMNR), one of the largest avocado and lemon growers in the country, which is based in Ventura. The same weather that people love, plants and trees love as well. The coldest average temperature is 47 and the highest average temperature is 73. It is heaven with a nice ocean breeze with some of the most plentiful sunshine in California. I know this, because I live in Santa Barbara, the county just north of Ventura.

Cannabis is a sensitive plant and needs to be grown in a very specific temperature range, which is why almost all premium cannabis is grown indoors or in greenhouses. Outdoor cultivation only happens seasonally when the weather is right. And even then, most outdoor cannabis is lower quality, sells for a big discount and is used more as an input to a process to make a product like an edible or tincture.

I mention all of this because the Ventura, CA referendum was a boon for one massive greenhouse in particular, a complex of 5.5 million square feet that is on 140 acres and currently grows tomatoes and cucumbers. This state-of-the art greenhouse was optimized to try to make tomatoes profitable (you are happy to grow a tomato for a $1 and sell it for $1.05). There is natural gas cogeneration on the site that produces electricity, heat and CO2 all of which are utilized to grow healthier plants in an ultra efficient way. The greenhouses are pressurized for better climate control and to reduce pests and there are over 20 acres of supplemental light to enhance the naturally sunny Ventura weather.

The size and scope of this greenhouse has to be seen to be believed:

The referendum was almost perfectly written for this greenhouse. And now it can grow cannabis. It is practically impossible to build new greenhouses or get them approved in California. It’s almost impossible to build anything. I’ve followed the avocado producer Limoneira because they were planning to re-purpose land and build houses. It took them 15 painful years to finally build one house. Add in cannabis and that task gets even harder. The stigma is very real and can make for powerful opposition (even in liberal California) that makes it all but impossible to get a greenhouse approved anywhere the weather is good and where people live.

This greenhouse is the equivalent of a California unicorn. An irreplaceable asset in the perfect location to grow premium cannabis at a size and scale that no one in the country is likely to ever be able to match.

Now, let me tell you a different story. Santa Barbara is a small community, and I met a local serial entrepreneur, who had been part of the founding teams of three very successful companies including Sonos and Software.com. When I met Graham Farrar four years ago, he was really passionate about cannabis and building a professional company focused on quality cultivation. I was impressed not only by his resume but how genuine and focused he was. Two years ago, I had the opportunity to invest in Graham’s company called Glass House Farms, but I passed due to my own personal capital constraints at the time.

One year after I passed on investing in Graham’s company, Glass House opened a dispensary one block from my office. For a year, I have had to drive past the daily lines in front of his dispensary and it has been the equivalent of getting kicked in the nuts everyday on the way to work.

So, imagine my surprise when Jonathan Sandelman’s (CEO of AYR Wellness) second SPAC, Mercer Park Brand (Canada: BRND, OTC: MRCQF) announced that they are not only buying Santa Barbara based Glass House Farms, but combining it with this unicorn of a greenhouse and dispensary licenses as well.

Here is the best part, the reaction from investors ranged from crickets to a sense of confusion. Cannabis investors must have been expecting Snoop Dogg’s latest cannabis brand or some asset lite branded company and maybe when they looked at a vertically integrated California company with a management team no one has ever heard of, they too passed.

But talk to anyone in Santa Barbara who knows Graham and they quickly get really excited. People who know Graham, know that he is the real deal and people will often tell me, “Graham is the man!” Graham and his excellent management team have already achieved scale by tripling production twice and becoming California’s second largest cultivator with a cost structure that is truly amazing. The average cost to produce a pound of cannabis for the average Multi-State Operator (MSO) is approximately $700. Some brag that they can get this down to the low 300s. Graham’s company Glass House has brought their cost down to $150. And with this state-of-the art greenhouse, it will be $100.

Consider that the largest cannabis company, Curaleaf (Canada: CURA, OTC: CURLF), has 2 million square feet of cultivation spread over a dozen states. Glass House will have 6 million square feet, primarily in one single location in God’s gift of an environment to agriculture.

The cannabis industry is still very immature, especially the cannabis supply chain. The future of cannabis is scale and operational efficiency. How can you truly build a brand if you don’t have size, scale and distribution to be able to provide a consistent product? This is why there are so few cannabis brands out there. Glass House with its superior cost structure and scale will possess the ability to experiment and grow brands and partner with others that few should be able to match. In fact, they are the perfect partner to anyone who wants to grow a brand or wants to make a long-term bet on cannabis. If I’m Anheuser Busch or Phillip Morris, I’m looking for management excellence and size and scale. I have to believe that Glass House is my first call.

Tell me, what do you get when you combine superior management and a cost structure that is 85% lower than your competition?

The first order of business for Glass House will be to dominate the largest market in the U.S., which is California. The state’s cannabis market is twice the size the second largest, Colorado. And remember that California often leads the country in determining future consumer brands and product preferences.

But Glass House is really a massive call option on interstate commerce, in which cannabis can (and I believe will) eventually cross state lines. Nothing in their current plan demands or counts on it, but if it does happen, the upside will become truly extraordinary.

The optionality behind Glass House is what is so tempting. At $10 per share, Glass House has an approximate enterprise value of less than $700 million. And that enterprise value is with Glass House owning all of its real estate outright. With no debt, hundreds of millions in cash, a superior management team with size and scale, Glass House’s potential is massive.

My single best investment last year was not only buying AYR Wellness (Canada: AYR, OTC: AYRWF) at $4.50, but also buying AYR warrants for $1. Every SPAC (Special Purpose Acquisition Corporation) usually has both publicly traded common units and warrants that convert at a price of $11.50 per share (sometimes the numbers change). My AYR warrants that I bought last year at $1 traded as high as $25 per share (now at around $18). As a reminder the same SPAC team behind AYR is behind the Mercer Park/Glass House combination.

Not only are the Mercer Park common units compelling but owning a warrant (Canada: BRND.wt, OTC: MRCWF) that doesn’t expire for five years for this management team with an irreplaceable greenhouse asset is like having an almost free call option on the future of cannabis. Both the common units and the warrants are some of the most compelling asymmetric return opportunities I’ve ever come across.

I’ve been skeptical about a few cannabis companies and SPACs in general, but a situation like Glass House is how a SPAC can actually create value. They are taking a superior management team and supercharging it with an irreplaceable asset that can be scaled. The Glass House Group are rolling in their entire company and only accepting stock, and every single employee in the company has been granted stock options. They know the opportunity and the upside ahead of them and the alignment with shareholders could not be stronger.

As investors get to know this management team and this incredible greenhouse, I expect this SPAC to do the opposite of most SPACs, which speculatively pop and then fade. I love living in Santa Barbara, but never expected living here would be a competitive advantage. Sophisticated investors in Santa Barbara are loading up. Why would Graham’s fourth company be any different from his other three? I’m bullish on Glass House and it is now one of my largest positions.

Stay tuned because I hope to interview Graham and post it in the near future.

For more information, I recommend you see the transaction’s presentation:

Mercer Park Transaction Presentation

And be sure to follow Graham on Twitter as well: Graham Farrar Twitter Profile