What’s in a Name?
The Q2 Update for the Newly Renamed Mindset Value Wellness Fund
Disclaimer: The below post is my Q2 2022 Investor Letter that I sent to investors in the Mindset Value Wellness Fund. This post is NOT a solicitation. I talk about stocks that I own and my view of the future. It is imperative that you do your own due diligence and not rely on anything written below. I’m posting this in order to show how my writing translates to actual performance. With that, I hope you enjoy and gain insights.
We ended the second quarter with a loss of 46%, and the fund is now down 50.3% for the year.
What I Got Wrong
In the first quarter, many professional investors were reaching out to me, telling me they were starting to investigate the cannabis industry. Eminence Capital announced it was raising a new dedicated cannabis fund and private sources were telling me of real progress on cannabis reform discussions. Finally, looking into the second quarter, I knew New Jersey was going to launch adult use sales, which would start the beginning of the entire northeast legalizing, bringing a surge of new sales and cash flow to many of our investments.
With new capital appearing to enter the space and the prospect of Federal reform, I could not have been more optimistic about the second quarter performance of our portfolio. But boy I could not have been more wrong.
Not only did new capital not come into the space, but the opposite also occurred. Due to the correction in the market, the Fed raising rates, and worries about the Ukraine War and energy prices, anything and everything that was either illiquid or speculative (cannabis is both) was sold aggressively.
I know of three cannabis funds/portfolios that were liquidated in the second quarter. One cannabis investing newsletter was shut down permanently and another prominent investor newsletter capitulated and recommended selling cannabis stocks.
Then news came that Vanguard announced that they would no longer allow customers to buy US cannabis stocks.
And to add a cherry on top, Senate Democrats again removed SAFE Banking, a bill that would shield financial institutions and allow more capital to flow into the industry, from the America Competes Bill.
In the end, tons of capital left the cannabis sector, which when combined with retail investor selling led to continuous and unrelenting downward pressure almost every day.
Why Did I Change the Name of the Fund?
The biggest shock of this year is that there are now more barriers to invest in the sector than ever before. When I launched my fund in late November, I naively assumed there was nothing wrong with the word “cannabis.” I cannot tell you how wrong this assumption was.
To say that I have had problems is an understatement. Almost every bank, investment bank or brokerage has refused to send money to the fund. I cannot tell you how many investors told me that they had their wires denied due to the name on the bank account. Many Wall Street professionals have told me their employers refuse to let them personally invest. Other investors have told me they are worried to invest because they are working on refinancing loans and don’t want to jeopardize those loans. I have lost too many potential investors to simply the word “cannabis” being in the name of the fund.
The straw that broke the camel’s back was when an investor who invested two months ago told me that Schwab called recently to tell him to never send a wire again to a cannabis investment. When someone from an online brokerage is picking up the phone to call you a few months after wiring your own money, something is very wrong.
So, it is for this reason that I’m changing the name of my cannabis fund to the Mindset Value Wellness Fund.
Two observations of the frustrations of the past eight months. Anyone who tells you that SAFE Banking doesn’t matter or won’t have an impact on the industry is full of it. These comments come from people who are not operators or are not trying to bring capital into the industry. Do not listen to these people.
More importantly, this pain is the opportunity. I started this fund for this very reason. Capital is scarce and there are few professional investors. There remains an enormous opportunity to invest before institutional investors, tobacco companies, alcohol companies and CPG (consumer packaged goods) companies. Here’s hoping the name change will make things easier.
The Example of MariMed and How Quickly Things Can Change
Cannabis stocks are illiquid. They trade on secondary and tertiary Canadian stock exchanges and over the counter exchanges here in the US. If there is selling, they can go down a lot. But they also can go up a lot.
One of our top positions is in MariMed (OTC: MRMD), which we think is one of the best kept secrets in cannabis. I wrote a report on it earlier this year.
I believe MariMed is one of the best cultivators who also owns real brands. The company is in the process of doubling or tripling revenue in the next few years, has no net debt on the balance sheet and trades at one of the lowest valuations of any publicly traded cannabis company with revenue over $100 million.
Until recently it only traded over the counter in the US and did not have a Canadian listing which we believe led to it being not owned by the main ETF, MSOS, which engages in swaps in order to maintain its US listing. During the lows in May, inexplicably it traded down to 0.44 per share, which meant it traded at 3.8 times trailing EBITDA with no debt while it was on verge of more than doubling revenue.
Then they announced they were approved to trade on the Canadian Securities Exchange. The stock popped. Then the MSOS ETF started nibbling on the shares. The stock is now up 60% from the lows in June, trading recently for $0.75 per share.
Here is the best part, MariMed is still remarkably cheap, trading at 6 times trailing EBITDA, but more importantly 4.5 times next year’s estimate, that I think is low. The company also just won a license with a social equity partner that will let them operate in Connecticut, which is about to approve adult use sales. I remain bullish on MariMed.
Moving Up the Capital Stack: Our First Private Investment
Capital has become so tight and scarce in cannabis that even well-run companies are struggling to find capital. One California company with a respected brand ran into trouble last year when the California cannabis market suddenly weakened and there was no cushion to absorb a $700,000 hole. The only financing available was an astonishing 36% interest rate loan.
Both the Mindset Value Fund and the Mindset Value Wellness Fund led a refinancing of this company’s debts to a senior secured note with an 18% interest rate, plus warrants in the company. We structured a sweetener that if they hit certain EBITDA targets, the interest rate falls to 14%. The company raised over $2.3 million and now has more capital than they have ever had on their balance sheet.
The company has identified over $300,000 of cost savings by simply not having to hoard capital and can now grow again and be aggressive including with the release of new products. With a solid strategy, a low-cost operating structure, and with a unique and respected brand, we are very excited to see what the company can do when all its competitors are in a weakened state.
We are on the hunt for opportunities in California, because we think the state is rationalizing from too many brands, too many farms and not enough distribution. Many companies are going out of business, and we think this spells opportunity as California is the largest single cannabis market in the world. I just wrote a post about the opportunity in California:
We think soon, this private company will be profitable and a top ten California brand and that those warrants we now own will be quite valuable. And we get paid while we wait.
We are also about to participate in a preferred equity opportunity as well that is backed by even more assets and should increase our exposure to California.
With 20-25% of our portfolio in high yielding securities, our entire portfolio should soon produce a 4-5% yield. This is important as the biggest risk in cannabis is that it may take many years for legal reform to pass through Congress. We can now be assured that we will be paid while we wait and further use that yield to buy more cannabis shares while we have moved up the capital stack with less risk.
No Incentive Fee to Be Charged for Existing Clients on New Capital
The opportunity in cannabis is so great right now, I’ve created a new incentive for existing investors. If you invest additional capital in the next two months (September 1st being the last opening for this deal), there will be no incentive fee for that capital until it increases 50% in value. Add in that I must make back the losses we have experienced to date and I’m here to tell you that I’m basically working for free until our portfolio goes up a lot. I’m not sure how else to demonstrate how much opportunity I think there is right now.
Summary
You may have read that Senator Schumer has finally released his broad cannabis reform bill and now there appears to be a flurry of legislative activity on cannabis legalization. Here is a story on his bill.
Do I know what is going to happen politically? No. Do I have some guesses as to when our stocks can trade on American exchanges? Yes, but they are weakly held. Do I think our investments are incredible companies that at scale will have advantages and amazing cash flows? Yes.
Our investment thesis is that it is matter of when not if cannabis becomes Federally legal and when it becomes obvious this is going to happen, you simply won’t be able to buy these stocks in size at anywhere near current valuations. Many of these stocks are lucky if they trade $2 or $3 million worth of stock a day. It is very easy for these things to go up or down 20% or more in a month.
Our strategy continues to be to invest in companies that we think have the best strategies, are run by good and ethical management and that sell at extremely low valuations. Nothing has changed. The opportunity has only become more compelling since the fund was started.
So far in July, our portfolio is up 13%, reversing some of our losses to date. Just like the move in MariMed, things can move very fast.
Thank you for your support and trust and call me with any questions or comments.
Sincerely,
Aaron M. Edelheit
CEO Mindset Capital