In their latest episode of the VALUE: After Hours Podcast, Tobias Carlisle, Jake Taylor, and Aaron Edelheit discuss:
- Cannabis: From a Schedule 1 Drug to Reducing Alcoholism and Workplace Injuries
- Why Canadian Cannabis Stocks are the Real Play for U.S. Investors
- The Political and Economic Implications of Cannabis Rescheduling
- Georgism vs. The IRS: How Land Value Tax Could Replace Federal Taxes
- Glass House Farms: The Cannabis Industry’s Low-Cost Leader
- The Rise of Hemp Beverages and Craft Cannabis
- Controlling the Environment Is Critical for Consistent Cannabis Quality
- The Cannabis Industry Rebound
- Hemp THC: The Legal Loophole Fueling the Next Big Beverage Trend
- The Challenge of Cannabis Cultivation
- From Wall Street to Weed
You can find out more about the VALUE: After Hours Podcast here – VALUE: After Hours Podcast. You can also listen to the podcast on your favorite podcast platforms here:
Breaker
Overcast
RadioPublic
Stitcher
Transcript
Tobias: This meeting is now being livestreamed. This is Value: After Hours. I am Tobias Carlisle, joined, as always, by Jake Taylor. Our special guest today is Aaron Edelheit of Mindset Capital. How are you, Aaron? Thanks for coming along.
Aaron: I’m doing well. Thanks for having me.
Jake: Yeah. Welcome.
Tobias: So, JT met Aaron at a Capital Camp?
Jake: We knew each other before that.
Aaron: Yeah.
Jake: We’ve been in Vail, a couple years ago.
Tobias: JT and Aaron know each other better than I did, so I’m going to let JT do the intro.
Jake: [chuckles] Yeah. I remember, I think, the first time we met in Vail and I–
Aaron: At VALUEx, right?
Jake: Yeah.
Aaron: Vitaliy’s conference.
Jake: Exactly. Some of the story that came out that I hope that we get into today was– This goes back to your background a little bit more. But in buying houses in foreclosures at a pretty good scale when it was really ripe opportunity. You were probably just more known as just a traditional value investor, like just buying stuff that was cheap, but then has morphed into being the cannabis guy now, [chuckles] whether you wanted that moniker or not. And so, I think it’d be interesting for us to go through the career arc, and what you’ve learned from that.
Aaron: Yeah. Sure. Do you want me to just start or just go for it?
Jake: Yes, just jump right in.
===
From Wall Street to Weed
Aaron: Okay. Yeah, so, I’m an investor. I’ve always been fascinated by it. I remember my dad having The Wall Street Journal open, and looking at the stock tables and asking what it was as a kid. I was just immediately fascinated by it. It’s all I wanted to talk about.
And so, in college, I had a friend who– we had a banking class together, and it was like a stock competition. I very quickly realized that you could– This is way back before, where everything– And then, based on the decisions you would make in the bank or for your bank, the stock price would eventually fit out and you’d be right. I immediately realized you needed to buy back as many shares as possible.
[laughter]Anyway, so, we’ve bonded over this, long story short. I would talk about how Philip Morris was undervalued versus its cash flows. Normal college conversations. My friend went on to start a business with his father. I was actually just texting him this morning. A couple years out of college, he contacted me, and I talked to him on the phone, like, “Hey, how are you doing?” He’s like, “Oh, I’m doing great.” “Our business was just bought out.” And I was like, “That’s great. So what are you like a millionaire?” And he was like, “Well, yeah.” I was the only moron or person that he knew who knew anything about investing.
And so, we started talking. I basically moved above my parent’s garage to start investing for him. My parents didn’t even believe that I had a real job at that point. This is a funny story. My dad used to cut out clippings of job openings and leave them-
[laughter]Aaron: -at my little desk in my bedroom. And then, after a couple weeks, they saw how hard I was working. And they’re like, “Okay, maybe this will work out.” Eventually, grew that to a small fund. Just investing in restructurings, turnarounds, spin-offs.
In 2008, as a side business, started buying foreclosed homes. People looked at me like I had a third eyeball, because they’re like, in 2008, “Why would you do this?” And then in 2011, I looked at my opportunity, said I had like a $20 million or $25 million hedge fund investing in small cap values, where I’m competing against smartest people in the world.
At that time, I was in Atlanta, newly married, and I was on the courthouse steps buying foreclosed homes, and looking around and being like, “Where is everybody? This is ridiculous.” And so, I decided to go all in on houses. Ended up buying 2,500 single family rentals. It was a crazy experience. Bought 2,000 homes individually in one year.
I learned that I am not an operator. It’s really funny watching investors who think they’re operators, and then they get into the business and see how really hard it is. But now I know what one looked like.
Anyway, so, was able to have a successful exit. Sold the company to a public REIT that allows me to live in Santa Barbara. I ended up writing a book called The Hard Break. Makes the business case for the sabbath, because I’m a workaholic, and we could get into that if you wanted to.
Jake: Yeah.
Aaron: And then, joined a friend startup, helped him launch a product and then sold it to Fortune Brands. When COVID hit, I saw what was going on the financial markets, and I went back to my first true love, which is investing in stocks. And so, I launched a friends and family investment partnership. I started writing online. And then, how I get to cannabis is I’m a workaholic. So, that’s one of the reasons I’m obsessed with the sabbath, I’d be dead, divorced or both [Jake chuckles] if I didn’t turn off every day. But then my workaholism manifests in trouble sleeping. I can go through really bad bouts of insomnia, and a low dose gummy has been life altering and now a low dose hemp beverage actually is the same thing.
Now just knowing I have it is good enough if it’s like, 01:00 AM, 02:00 AM, whatever and I can’t sleep or I wake up at whatever. And so, I started researching cannabis, investing in cannabis. Long story short, I have the same feeling because of the federal illegality, because there’s at least 99% of institutional investors are not involved. I have the same feeling that I had when I was in Atlanta standing on the courthouse steps I’m looking around and I’m like, “Where is everybody?”
Jake: Yeah. It’s obvious.
Aaron: I mostly everything I’m doing is cannabis, because as Charlie Munger says, “The first rule of fishermen is to fish where the fish are. And the second rule of fisherman is don’t forget rule number one.” And so, as a value investor, I see tremendous opportunity in cannabis. I have multiple funds on it. I’m growing it and I’m just having a lot of fun. And that’s my life arc.
Jake: Yeah, I love it.
Aaron: Or, my business arc.
Jake: Yeah.
===
Cannabis: From a Schedule 1 Drug to Reducing Alcoholism and Workplace Injuries
Tobias: So, talk to us a little bit about the cannabis industry, because when the legalization happened, around 2020, 2019, something like that?
Aaron: Well, so, there hasn’t been legalization from a federal perspective. There have been different states– In Canada, they legalized it in 2018, I believe. Different states have been legalizing it despite it being federally illegal. And so, it’s classified as a Schedule 1 drug, according to The Controlled Substances Act, which is absurd.
Part of what I do is deep dive research. I don’t do day trading. So, just researching the plant, the history of the plant, it’s actually horrifying. You had Nixon basically went against his own conservative panel who said, “You should just decriminalize cannabis.” And instead, they were like, “Well, we want to target African-Americans and people against the Vietnam War. But let’s make it as if it’s as bad as or worse than fentanyl, heroin and everything you could imagine. We’ll just place it right there, so we can just go right at it.” And that’s what they did.
We’ve had a history, actually started in the 1930s, all mostly based around race, both African-American racism against Mexicans, Hispanic people, where it was not based on fact or anything like that. And then, what’s happened is you had Colorado and California legalize it, and society did not collapse.
Jake: Got down. Yeah. [chuckles]
Aaron: And then what’s happened is we have this unique thing in the US, where every state is like a laboratory. And so, other states saw it and started legalizing either medical or adult. I think about half the states are adult in every state, except three or four have medical– And now the big question is, well, how do you legal– It’s no longer…
There’s still some crazy people who think that it is this awful thing that’s going to destroy people and society. But that’s been–
Jake: Nancy Reagans.
Aaron: Yeah, it’s very much been disproven by the data. This is actually really important is, what you find is that everything gets a little bit better wherever you legalize. One of the data points that really got me was, when I read that workers comp claims go down wherever cannabis is legalized, and I was like, “What?” This has helped– So, part of how I’ve approached cannabis is thinking about, “Well, what is cannabis actually doing?” One of my lenses, the way that I view cannabis is I think of it as the great replacement. What it’s doing is it’s replacing substances that Americans are already consuming.
What the workers comp claims show you is that people are consuming really toxic things to help them get through the day. It could be an injury, it could be mental, it could be emotional, it could be whatever. They’re just getting injured more than they’re replacing it with cannabis and they’re getting injured less. You can see this is that you see people drink less, they use less prescription. They don’t necessarily stop alcohol, but it appears, especially for Canada, it’s showing that alcoholism and excessive drinking is plunging since they federally legalized it.
===
Why Canadian Cannabis Stocks are the Real Play for U.S. Investors
Anyway, so, that’s part of what gets me very bullish. But then there’s this weird thing, Tobias, that you need to understand is, because Canada federally legalized cannabis, you have Canadian cannabis companies that are allowed to list on US exchanges, New York Stock Exchange and NASDAQ, and pretend like they’re the way to play the US. But all the US companies actually trade in Canada or over [Tobias laughs] the counter on pay sheets. And they’re the real companies.
Tobias: Okay. That’s interesting.
Aaron: And so, you had this massive boon, you may have heard of names like Tilray and Canopy Growth that went to the moon. They incinerated billions of dollars. They had no idea what they were doing. But this is the other lens that I view cannabis, is that if you think about it as a society, we’ve never tried to grow or scale cannabis until about eight or nine years ago, or do it professionally at a low cost.
You have all this experimentation, and there’s all these myths around cannabis, cannabis cultivation, that’s the weed and that it’s easy to grow. A lot of it’s just wrong. A lot of it’s because we don’t have experience with it. There aren’t a lot of smart people like you, guys, who are doing deep dive research and trying to understand the basics of the business and the unit level economics. To me, there’s a lot of opportunity. I love it.
===
The Challenge of Cannabis Cultivation
Jake: Do you see this going the path of alcohol or maybe, let’s say, beer brewing for instance where there’s a lot of consolidation, it turned into like a few brands? Do you think that there’s the potential for that, or do you need to be further upstream of the supply chain and own like low-cost producers? Everyone’s like, “Who cares what package it comes in at that point?”
Aaron: So, that’s a great question and I’m pausing, because I’m not entirely sure of where the end date or where the end state is going to be. You’re probably going to end up with brands. But I think the mistake a lot of cannabis investors made and business people is they immediately jump to, “This is going to look like everything else.” And it will. We’re going to go and create brands, we’re going to go invest in this and we’re going to– That’s the end state.
What they didn’t realize is that growing cannabis is actually really hard. When I say by really, if we wanted to grow mediocre, inconsistent cannabis, super easy. But if you want to grow really high-quality cannabis consistently for low price, it turns out it’s really hard. It’s hard, because the flower that you smoke, you consume is actually– It’s like growing an apple without its skin. So, it’s incredibly susceptible to mold disease and pests. That’s why a lot of it’s grown indoors, people in hazmat suits, because it’s really difficult and you want to control the environment.
And so, a lot of mistakes, and the investors will come in and be like, “Oh, this will be like tobacco, or corn or it’s a commodity.” And then they watch the price plunge and they’re like, “This proves my thesis.” What they’re not diving in is that it’s actually not true. It’s actually really, really difficult. People are trying to figure it out, and what’s happened is the reason why prices fall is more like, you don’t have interstate commerce. So, every state is like its own country, and then what happens is the price in a state will be artificially high, and then over time, competition will enter and the price will plunge to a more natural state. And that all of this is new.
And so, where I have gone now, not that I don’t believe the end state won’t be brands is– If you think about a brand, you try to open a Coke can. The last thing you want is to go to a store and be like, “Oh, today, it’s $5. Oh, this tastes interesting” The next day, it’s $2, and then it tastes totally different, has a totally different effect. And so, how do you develop a brand unless it has a consistent quality at a consistent price?
And so, to me, the opportunity has led me to the supply chain to those people figuring out, those companies figuring out. That’s why I focused on companies like Glasshouse and Grown Rogue, because you had this wave of companies that focused on what I’ll call “limited licenses,” where states where the competition was really low. They built these businesses on basically, artificially high prices and regulatory capture. And to me, it’s like, “Well, that’s not going to be the end state, it’s unlikely.” And then it’s more likely that you want to figure out these really hard problems first. That’s the base that you can really build.
And so, I focused very much on a contrarian perspective on those companies in the most competitive markets. My theory is, when they go to the least competitive, and they’re going to crush it.
===
The Cannabis Industry Rebound
Tobias: So, the problems are, there’s this federal illegality. There’s a federal challenge with the regulatory environment. Growing it is difficult too, because the consistency is hard to achieve. So, there’s no equivalent of like broadacre cannabis. It’s all grown in greenhouses, and that’s always the way that it’s going to be, because– [crosstalk]
Aaron: Greenhouses, indoor, you can have outdoor. But what’s the really interesting thing is there is a price differentiation in the market between, indoor gets a high price, greenhouse gets a medium price and outdoor gets a lower price. The consumers differentiate, because the more you control the environment, the greater the effect or the genetics. The last thing I’ll say, I just want to layer on without totally interrupting your question to make it even more difficult at the high end, the power consumer wants variety in their genetics. So, it turns out at the high end. It’s a fast fashion business.
And so, it makes it even more challenging in that you may produce this genetic super popular. They have really fun names for these genetics, like, [Jake laughs] one of them is like Gary Payton, another, my favorite one is Cheetah Piss. I kid you not. [Jake laughs] And it’s like they have all this– And then the color purple right now has a premium to flower that is more green. And so, it’s really, really interesting how the dynamics– And so, it makes it really challenging, how do you grow it? And to me, that’s opportunity.
Tobias: So, you’ve got these regulatory problems, but you’ve also had– I remember that, because it wasn’t that long ago, that there was this meme stock– It was part of the meme stock boom. There were ETF’s that came on, and it all seemed to run up along with everything else during 2020, 2021. It suffered the same fate– [crosstalk]
Jake: Even before that, wasn’t it? Tilray was like 2020–
Aaron: Tilray started in 2018, 2019. And then it came down. And then what happened is, when Biden was elected, there was a view when the Democrats controlled, “Oh, my God, they’re going to legalize it.” He ran on basically decriminalizing it. And then the combination of that with COVID and there were all these stimulus checks, all the cannabis companies started printing money, they started opening up.
2021, it just hit a boom and then started falling. You’ll like this story. At the end of 2021, these stocks in the US stock are down 50%. So, I’m like, “This is a great time to launch a cannabis fund. How much further could they go down than 50%?” Well, it turns out another 50%. [Tobias laughs] And so, 2022 was just a complete disaster in cannabis. Wipeout. Everyone left. But I’m a true believer in that of what’s happening with cannabis and the trends. I’m a value investor. You hit me in the stomach and I’m like, “Well, okay, I think I can–”
Jake: I like that. [laughs]
Aaron: No, I didn’t like it, trust me, I did not like this at all. I was telling you before this, I was questioning like, “Why did I get myself in this?” But at the end of 2022, everyone left. People telling, “I just can’t take anymore. I’m out.” There weren’t that many to begin with. I suddenly looked around and I’m like, “Oh, my God, no one’s here.” This is the exact moment when you should be the most excited. And so, that’s when I really doubled down and I’ve been focusing. And then what’s happened is, not only do I have my cannabis fund, I have a new beverage fund, and then my existing value fund is now mostly cannabis, because it’s deep value.
Just for clarity, my funds own 14% of a company called Grown Rogue. It’s a microcap stock. I believe it has the highest EBITDA margins in cannabis. It is competing in Oregon and Michigan that have the lowest cannabis pricing and has the highest EBITDA margins. I believe it trades at four times, next year’s cash flow, will be growing at triple digits and will have north of a 50% EBITDA margin with a long reinvestment runway.
I don’t know any other industry that that exists. So, this is what attracts me. This backs up a lot. When I first looked at it, I started running numbers. And now looking back, it looks like I possibly paid like one times EBITDA.
Tobias: I like hearing that multiple.
Aaron: Yeah.
Jake: Oh, yeah.
===
Tobias: Let me give a shoutout to everybody, and then we’ll come back and talk a little bit about the opportunity. Danny Beltran. First in the house in Santo Domingo, Dominican Republic. How are you? Toronto. Petah Tikva, Israel. Bangalore, India. Birmingham, Alabama baby. Winter Park, Florida. Tallahassee. Cromwell, New Zealand. Early start for you. Good for you. Porto de Mós, Portugal. Mac in Valparaiso, Indiana. What’s happening? Pittsburgh. Skrowterrm, [chuckles] Poland. Go on– [crosstalk]
Jake: Don’t read everything.
[laughter]Tobias: Jupiter, Florida. Tampa, Florida.
Aaron: You don’t want to live in scrotum.
Tobias: [crosstalk] Nashville, Tennessee. Truth or Consequences, New Mexico. Yeah, you got me, you bastard. That was too good.
[laughter]Tobias: Kumasi, Ghana. Gothenburg, Sweden.
Jake: Baba Booey.
Tobias: Aussie in Moscow, Russia. What’s up? Jim Hamilton in Toronto. Barrow-in-Furness, UK. Ho Chi Minh City. That’s a good spread. And we’re in Los Angeles, Sacramento and Santa Barbara. So, it’s a California special, this one. Mendocino, California as well.
===
The Political and Economic Implications of Cannabis Rescheduling
So, Aaron, the opportunity sounds pretty good. We’ve had this boom and bust that scared everybody away. There’s obvious problems to be resolved. That’s the regulatory environment, somehow they’ll solve the growing environment, but that’s probably closer to being solved. And so, you say now, what’s left are reasonably robust, nobody’s interested in the sector. The valuations are really cheap until you like it as an investment proposition. It probably seems like it’s got a long way to go, but I saw a stat this year that said, that on a daily basis, there are more daily active users. I don’t know if that’s the right term of weed [crosstalk] alcohol, daily alcohol drinkers. So, it seems– [crosstalk]
Aaron: Just look at the alcohol sales of all the companies. It’s crushing wine. Because if you think about what cannabis really does is it relaxes you and it gives you a buzz. You think of the categories that it’s going to hit the most is wine and craft beer, and they are getting taken out to the woodshed. Because what people are finding is– My experience is–
I’m the father of three. The last thing I want is to be hungover the next day or have a couple of days I feel terrible. Just imagine a product where you can relax at the end of the day, and it’ll help. You’ll sleep great. And then you’ll wake up the next morning with no hangover, who doesn’t want that?
And then, just the negative effects with alcohol, and then you can lower the amount of prescription meds you take. It’s like, people are finding through experimentation that this is just, “Wow, this is part of the great replacement.” That’s why I think we’re on this 20 or 30 year run where– The basic is like, America’s getting high and it’s going to get more high.
Jake: It always was. It’s just–
Aaron: It always was, but now to a different level. What they’re finding is, like some of the health benefits for cancer patients, kids with epilepsy, we really haven’t studied this plan.
Now, I want to caution this. It doesn’t mean that cannabis is like the greatest thing in the world, that has no danger. Yes, it does like anything, if you overuse it. But it should be legalized and regulated. Part of the reason why it’s very timely now is the Biden administration has initiated, about two years ago, a rescheduling review. We are due any moment. I actually believe it’s in the next 45 or 60 days, where they’re going to reschedule and downgrade it from a Schedule 1 to Schedule 3. And to me, it’s like the first major reform of cannabis.
It’s like a giant bat signal to the world, to our country that it’s just not what– We’re just going to downgrade the danger. I think it’s going to allow a lot more investors. There’s some people who think it may allow uplifting into US exchanges. They need to figure out the federal state conflicts or whatever. Congress has been working on something called state banking for a very long time, like a political football. And so, you’re having a bunch of things going on right now, where it’s more of like, “Well, how do we do this?” Not “Whether we do it.”
The other problem is you still have people in Congress who are very old, including Biden, who are like, “Yeah, I don’t know if we should do that.” They’re ex-drug warriors with the war on drugs. I believe the only reason that Biden went through with this is because how do you look young if you’re– An elderly president wants to get reelected, you have to do something like cannabis. And now, I think you have someone like Kamala Harris and Tim Walz, who are very pro-cannabis, who are running on their ticket. On the other side, I don’t think Donald Trump is necessarily a negative. I don’t think he cares, to be honest. That’s part of the problem is this doesn’t rise to the level of abortion or the war in Ukraine.
Jake: Immigration.
Aaron: Everyone’s like, “Eh, it’s like–” And so, they don’t see it necessarily. But in a very close election, this could drive the vote. One of the interesting things in Michigan is a battleground state. Highest per capita consumption of cannabis is in Michigan. And so, I think cannabis becomes an issue, because if you have a swing of 10,000, 20,000, 30,000 voters in a state, it could be the difference.
===
Controlling the Environment Is Critical for Consistent Cannabis Quality
Tobias: JT is going to do his vegetables at the top of the hour. But I just want to ask you, just before we go there, you said something earlier about, it’s difficult to grow it consistently. And so, you were giving the example of the $5 Coke can, the $2 Coke can. How do you make sure it’s consistent? Is there some ability to test, or is it just you get what you get?
Aaron: Yeah. No, so one of the things to do– This is why they control the environment. This is a very, very sensitive plane, you want to control the environment. Part of my thesis on Glass House is they have a greenhouse at Camarillo in Ventura County that is in God’s gift to the environment, that’s grandfathered in. You can’t build another greenhouse in Ventura County. It’s surrounded by agriculture. They’re just harnessing the sun in perfect environment to grow in a greenhouse when normally you’d have to do indoors, and pump energy, and air conditioning and all this stuff in an industrial setting.
One of my favorite stories is there’s a company called Ayr Wellness as growing cannabis in Florida. They lost power for four hours, and they lost an entire quarter of production.
Jake: What?
Aaron: That’s how sensitive it is. So, anyone was like, “Oh, it’s like corn or tobacco.” I’m like, “Ah, I don’t think you–” I immediately know they haven’t done any research or talked to any cultivators when you hear stuff like that. It’s just like weed or it’s a commodity.
Jake: That’s wild. So, basically, we’re heading to a future where we’re doing all of our electricity basically like ChatGPT to do our jobs, so that we can grow and we’ll just be high all the time. [laughs]
Tobias: Mine bitcoin.
Aaron: No, you joke about this. But they estimate 10% of Massachusetts electricity right now is devoted to cannabis cultivation. Insane.
Jake: It’s all chips and weed. [laughs]
Aaron: Chips and weed.
===
Georgism vs. The IRS: How Land Value Tax Could Replace Federal Taxes
Tobias: JT is going to do his vegetables. But when we come back, for the podcast there, lots of people asking about Glass House. There are lots of people in the chat asking about Glass House. So, we’ll do a deep dive in Glass House, starting with what is Glass House, once JT’s done his vegetables.
Jake: So, this is about not throwing stones in Glass Houses. I’m just kidding. [Tobias laughs] All right. So today, if you will indulge me as I deliver today’s veggies from a little bit of a soapbox. So, it’s a surprise to no one when I say that the current tax system in the US could probably stand for a little reexamination. US tax code is currently 6,871 pages long. If it took you five minutes to read each page, which is a very standard speed for technical material, it would take you 572 hours to read the entire thing, which is about 14 weeks of full-time work. But if you add the tax regulations and the official IRS guidelines, it balloons to around 75,000 pages. That’s more like three years’ worth of full-time work, if your job is to read the most mind-numbing writing that’s ever been devised. The IRS employs 80,000 workers. And on average, Americans spend roughly 13 hours per year on tax prep and compliance.
Now, obviously, there’s a lot of economic inefficiencies, lots of time lost in this tangled web of thousands of pages. Is there a better way? Now, there might be. I’m going to put forth this old concept called Georgism, which is known in modern times also as Geoism. It’s named after this guy named Henry George. He was a journalist and economist. He’s likely the most influential economist and thinker that you might not have heard of. And in fact, he was a hero to many luminaries of the 20th century.
George was born in Philadelphia in 1839 to a lower middle-class family. He found his way to San Francisco, and he got work as a typesetter and a printer. He eventually started submitting articles, and he landed a job as a journalist and rose to managing editor of the San Francisco Times. In later life, he ran for various political positions, never winning very much, although he did beat Teddy Roosevelt in a New York election.
One day in 1871, George went for a horseback ride, and he stopped to rest while overlooking the San Francisco Bay. He later wrote in his journal, “Like a flash it came over me that there was the reason of advancing poverty with advancing wealth. With the growth of population, land grows in value, and the men who work it must pay more for the privilege.”
After a visit to New York City then, George was struck by the fact that the poor in New York City were much poorer than in his less developed California in San Francisco at the time. How could that be? Like, where did this inequality come from despite seemingly more wealth being created? Well, his observation led to a groundbreaking book called Progress and Poverty. It hit the shelves in 1879. It was the first popular economics text. It sold more than six million copies. It was like this like, he caught lightning in a bottle. In fact, only the Bible was a bigger seller in the 1890s than this book. George Bernard Shaw, Friedrich Hayek, Albert Einstein, Leo Tolstoy, all marked their first encounter with Progress and Poverty as a literally life changing experience.
So, this book tackles the issue of land ownership. It argued that the value of land should be shared among all members of society. It’s like a shared good. If this sounds communist like, you’re right, George’s writing somehow was able to inspire both thinkers on both ends of the spectrum, like Libertarians claimed some of his ideas, Communists do as well. He considered a great injustice that private property was being earned from restricting access to natural resources. So, while the productive activity that was taking place was burdened with these heavy income taxes. So, he wanted to prevent private industry basically from profiting by the mere possession of land, but it did allow for the value of all the improvements that were made to the land to remain with the investors.
So, picture this. Some rich kid inherits a building in, let’s say, New York City, maybe even he has small hands and runs for president one day. I’m just throwing it out there. The building itself is very valuable, but it’s really the land underneath that’s the primary factor. But what makes that land valuable? It’s what’s around it. It’s the schools, and roads, and parks and jobs, all these things that make the land worth more. Georgism basically says like, “Hey, shouldn’t the community get a piece of that action?” The idea is that you should keep the money that you earn through your hard work and the value of the land that you’re sitting on should be shared by everyone.
So, George was actually continuing more in line with the father of modern free market capitalism, Adam Smith. Smith broke the world down, if you go back to wealth of nations, into labor, capital and land. And for some reason, modern economics has fudged together capital and land into a single amorphous blob. Maybe it makes their elegant math work better, but here was Smith in the wealth of nations. As soon as the land of any country has all become private property, the landlords, like all other men, love to reap where they never sowed and demand a rent even for its natural produce. So, just as a thought experiment, what would it look like to reconstitute the IRS to perhaps implement Georgism, which would be a land value tax. Instead of taxing your income, your sales or even your property as a whole, a land value tax focuses solely on the land itself, the bare earth. It doesn’t count the buildings, the improvements. The idea is that since the community makes your land valuable, the community should benefit from that.
Perhaps, it’s not totally ironic that George had his insight while staring down at the San Francisco Bay. The Bay Area is notorious for its sky-high property values and massive income inequality. And so, imagine that you live in San Francisco, and you write code for Google or Facebook and billions of people use your code to search for local coffee shops or share cat pictures with your grandma, but a ton of economic value is created. And yet, how much of that do you actually get to keep? Not that much, because your rent is so damn high. Like, the landlords are sucking out all of your excess income from what you’re creating.
The median household income in San Francisco is about $147,000 per year. Meanwhile, the medium rent for a one-bedroom apartment is around $3,500 per month. The national equivalents of both of those numbers are about half. It’s not like your one-bedroom apartment in San Francisco. I’m sure, Toby, when you lived there. It’s not going to be all that nice. [chuckles] You’re really paying to occupy that space, which is very valuable beneath you in the land.
Now, I’m not naive enough to believe that transitioning from our current regulation would be easy at all. There’s so many vested interests that would torpedo this. But just for fun, what the numbers might look like. 2023, the US federal government collected about $5 trillion in revenue. When we look at the total market value of all the privately owned land in the US, it’s somewhere around $30 trillion to $35 trillion. So, if we wanted to implement a land value tax to replace all federal taxes, keep it revenue neutral, it’d be about a tax rate of 14%. We wouldn’t pay any other taxes anywhere else. That would cover it.
Critics point out that implementing Georgism on a large scale would be incredibly complex, especially if you had to make accurate assessments of land and manage the taxes across the country. But I would say, is it that much more complex than the 75,000 pages that we have to deal with now and 80,000 IRS agents? I don’t know. Imagine not having to save goddamn actual paper receipts from dinner for seven years when you go to a business lunch. That alone is reason, I think, to consider it. But one last fun fact about Henry George before I shut it down. In 1904, a board game came out called The Landlord’s Game. It was created to demonstrate George’s theories. Now, would you care to guess what it was later renamed to?
Tobias: I think we’re both going to get–
Aaron: Monopoly.
Tobias: [laughs]
Jake: That’s right. [Aaron laughs] You do pass go, do collect $200. It was Monopoly.
Aaron: That’s great. That was really great. It’s funny about that is, in cannabis, because its federally illegal, there’s a punitive tax called 280E, where the cannabis companies have to pay excessive taxation. They can’t deduct all these standard deductions. So, when you look at some of the really profitable companies, some of them are paying 50%, 70% tax rates right now.
Jake: Jeez.
Aaron: And the IRS is happily for a federally illegal business.
Jake: Picking– [crosstalk]
Aaron: And so, that’s part of the Schedule III and everything else is that there’s this crazy excessive taxation going on in the industry. It’s a very timely.
===
Glass House Farms: The Cannabis Industry’s Low-Cost Leader
Tobias: That was great, JT. In terms of this transition to Glass House, I have no idea how to do this.
[laughter]Tobias: But Aaron, tell us what it is, tell us why it’s interesting?
Aaron: So, I find it endlessly fascinating. And so, when you enter looking at the cannabis space, the largest companies out there are generally in what’s called limited license markets. That’s where they limit the amount of cultivation, retail, etc. These companies basically have oligopolies or some version of that, where there’s limited competition in states like Illinois, or New Jersey or Florida.
This is the crazy thing. Every state is like its own country. So, in Florida, it’s forced vertical integration. You cannot sell someone else’s cannabis. You have to grow it, you have to make it in the kitchen, the gummies, and then you have to own your own stores and that’s it. And in Massachusetts, you’re allowed three stores. There’s all these crazy rules is these states implement wildly different rules and have different functions, etc. Then you have California, which has had an unlimited license, where they’re like, “Everyone can grow.” But then there’s some weird stuff around, something like 60% of the California state, they’ve ceded control to the local government. It’s the same problem with building anything, where they don’t allow any dispensaries. So, one of the things that people think about is California’s legal, unlimited license, but not on a dispensary basis. There’s a lot of messed up rules.
Anyway, the problem with California is if you have unlimited licenses and anyone can grow and the environment’s great, you have lots of competition, and you have a discerning customer with a long history of knowing what’s good and what’s bad. The same thing in Oregon, Washington. And so, you have these wildly different prices.
And so, right now, you can get Green House flower California for like $500 or $600 a pound. And in my opinion, you can get mediocre to terrible quality cannabis in New Jersey for $3,500 a pound. [Jake laughs] This is also the reason why I think you have such a strong illicit market is because is if you think about the arb between that and the penalties being relatively low, the three of us should get in a private plane, load up a bunch of California cannabis and fly it. And then there’s other weird stuff, like in Virginia.
Tobias: You fly the plane, I’ll find– You fly the plane.
Aaron: Yeah, perfect. You just do the math and you’re like, “Oh, my God.” But you look at Virginia, it’s legal to consume cannabis, but the Republican governor, Republican legislature has made it illegal to sell it. [Jake laughs] Well, if people in Virginia are consuming cannabis, so it’s like–
Jake: Where is it coming from?
Aaron: Anyway, so there’s this very large, illicit market. It takes cannabis from Oklahoma or California, even Oregon and Michigan, and betting it. My favorite story that I love telling is, my best friend from high school lives in Berlin. Every morning, he gets texted a menu. He can get Spanish weed, Portuguese weed and California weed delivered to his door, okay? So, this is like, people around the world consume cannabis, and there is enough profit incentive that people can get you the weed that you want and fairly easy. So, that’s a backdrop.
When people think of weed, they think of California. And so, you have this incredibly competitive market with very low prices here in California. What Glass House has done is they said, “Well, we recognize that it’s really hard to grow.” How do you scale this? And so, what they did, they first had a couple of greenhouses right here in Carpinteria, which is just immediately south of Santa Barbara, it’s basically part of Santa Barbara, where it’s really nice temperatures, it’s cool, and they had the greenhouse and they were doing well.
But then what they did is they basically acquired this one of a kind, I believe, unicorn greenhouse. Five and a half million square feet in God’s gift to the environment in Ventura, where Ventura County passed a referendum. They legalize cannabis and cannabis cultivation, but only in existing greenhouses. You can’t grow it outdoors.
Jake: What? Did Glass House write this regulations themselves?
Aaron: Oh, well, they didn’t own it at that time, but that’s what happened, okay? Whatever you want to say. But not only that, that regulation went away. We live in California. How easy is it to build anything in the people’s Republic of California to get the approvals, get to the coastal commission. This thing is like five miles from the– The average temperature is 72 degrees. Like, 300 plus days of sun. It’s just perfect weather. If you ever drive north of LA, you just see all these agriculture fields. And so, their theory was, this is growing tomatoes and cucumbers, we think this is perfect for cannabis. They turned it on. What happened is they turned it on right when, after the COVID bump prices suddenly crashed in California.
In fact, there was a week when no cannabis was sold in California. This is crazy in 2022, I believe. It might have been 2021, actually. And so, anyway, so prices collapse, they turn on this greenhouse and they actually used the SPAC to buy it, because there was no money in cannabis, but there was a cannabis SPAC. So, anyway, they turn on this greenhouse. What it allows them to do is because they have robots that clean the roof– It’s super tall Dutch-style greenhouse. They have positive pressure that pushes air one way through. They recycle the CO2. They have ebb and flood floors. So, remember, I told you that mold is an issue. Cannabis leaves, you don’t want water hit the leaves.
So, it’s like a rice paddy, that the water will come up to the roots, and then go down and then they’ll recycle the water. They have all these million things that they’re working on, basically, precision agriculture. It hasn’t been done. A lot of these things have just not done. Now they’re doing optical sorting. They’re just starting to launch optical sorting. It creates this flywheel wheel effect where they don’t really have to pay for energy, because there’s no inflation on the sun, and the weather’s perfect or rather most of the time perfect and then they have all these things.
And so, I started doing deep dive research and research, talking to competitors. The competitors who are around the area, compete with them are like, “Oh, man, I can’t compete with the quality, the cost that they can.” One competitor even called it the Ferrari of greenhouses like, “I can’t. The quality.” And so, I’m putting this all together. And then there was one quarter where the prices were the lowest, they’ve ever been in California, and Glass House announced a 42% gross margin. The nearest competitor, who had a greenhouse in Monterrey, announced a negative gross margin. And so, I was like, “This is the proof case that you basically, in my view, you have the low-cost producer.” And this goes back to value investing.
One of the great quotes Warren Buffett ever said or it was Charlie Munger, one of them is like, “You have two copper producers, one whose cost is $1.50 a pound, and another who’s at $2.50 a pound. When the price is $2, it’s like those companies are in two different businesses.” That’s exactly what has unfolded in California. Everyone was freaking out like, “Why would all the cannabis companies were leaving California?” Because prices plunged. I was running to it. Because to me, it’s like, “Yeah, the price of oil can go negative, and yes, Saudi Arabia could lose money, but they won’t do it for long, because everyone will walk down.”
What happened is the number of licenses fell. Square feet in California fell from 82 million sq ft down to, I think we’re in the 50s now, something like 26 million sq ft has come out of the market, and probably more will continue because you just– What happens is Glass House has slowly been turning on the capacity. They’ve rent out the excess capacity to tomato and cucumbers, and they’re slowly converting more and more to cannabis. Just this past quarter, prices were actually lower than I expected. That’s why I had the lower guidance forward. But to me, the lower the price goes, the more competition gets pushed out. They announced a 58% gross margin in cultivation, at this level, at 40% capacity utilization.
The other interesting thing, the last thing is, you think about the price dynamics. $3,500 in New Jersey, $500 or $600 in California, the ultimate thing is interstate commerce. I think the interstate commerce restrictions are unconstitutional, but the states are enforcing it and there’s no real legal way. And so, the big boon for Glass House is eventually you’re going to have a national market. You’re not going to have these different things. When that happens, this is the most valuable greenhouse in the world. It can’t be duplicated. And now, the flywheel of what they’ve invested, they have processing and storage, all these things just become incredible.
===
Hemp THC: The Legal Loophole Fueling the Next Big Beverage Trend
This is technical, but in a weird way Congress legalized a version of THC that comes from hemp in the 2018 farm bill. It’s fascinating. So, you stop me if I’m going too far. But in 2018, they said, “If you’re a USDA certified farm and you harvest the hemp with 0.3% THC or less, any cannabinoid derived from that hemp is federally legal and not on the Controlled Substance Act.” And it turns out that when– I believe I have this correct, okay? This is totally absurd.
All of a sudden, all these gummies, and you may have heard the gas station weed and stuff popping up everywhere, I didn’t really pay attention to it until just two years ago legalized cannabis. They looked at the hemp rolls and they said, “Well, if it’s 10 milligrams or less, we’re going to allow hemp THC,” which is the same THC, by the way, “to be sold anywhere.” And so, what happened is I read an article that 10% of liquor store sales in Minnesota were THC drinks. And I’m like, “That can’t be right. That number’s way–” Google, what is the size–
Jake: Yeah, drink a lot of beer in Minnesota. [chuckles]
Aaron: Yeah. I’m like, “What’s the size of the US alcohol market?” It’s $260 billion. And so, that led me to launch a hemp beverage. I’m now going full bore on hemp beverages, because it’s alcohol replacement. I think it’s going to be a $50 billion revenue business. But that’s a side point. But the interesting thing going on to Glass House is it turns out that you can– And so, what you need to know about hemp is it is a genetic of the cannabis plant that produces very low levels of THC, okay? But it turns out it produces something called THCA, which when you burn, it converts into Delta-9 THC, which is basically the same thing that everyone’s consuming.
And so, what Glass House is now looking at, there are 7,000 smoke shops in Texas where it is federally illegal and state illegal to consume cannabis, but there are 7,000 smoke shops in Texas where you can get THCA cannabis. Glass House is like, “Well, wait a minute, why don’t we just turn one of our part of our greenhouse and grow hemp?” Now, all of a sudden, you start talking interstate commerce. And now it becomes really interesting. What’s going to happen over the next year or two could dramatically change things.
When I’ve run the math of a fully utilized Glass House facility, I have a stock that’s $10 that I think could produce more than $2 a share of free cash flow. And so, it’s like, “Wait a minute, this becomes very, very interesting.” This is what I love about cannabis. It’s really complex. It’s absurd, and there’s a lot of opportunity and there aren’t that many people actually diving down and doing the research.
The main thing that I see from people focused on the industry is when is federal reform going to happen, and when is the big trade and how do I quickly make money? There just aren’t as many people diving into the deep nuts and bolts of like, “Hey, how does this business work? What are the economics? What is the long-term endgame, and what’s the competitive advantage and what’s the company disclosing and not disclosing?” That’s where, like a person who loves research, stock research, I’m having a field day.
Jake: You said those $5 million in that one greenhouse, does that mean it’s like 10%-
Aaron: It’s five and a half million sq ft.
Jake: -of the $52 million in total?
Aaron: Ah, yes.
Jake: That’s pretty wild to think that like one is a 10%.
Aaron: But that’s outdoor at greenhouse. Of the outdoor and greenhouse, yes.
Jake: Okay.
Aaron: It used to be $82 million, but you can’t compete with the cost to quality. When you go in there, by the way, to take a tour of this place, first, you can see it from over two miles away. It’s so big. And then, you look down one row, and it’s a football field of cannabis uniform. And then, you turn around, and there’s another football field. And then, you look down this way, and its multiple football fields.
Jake: Really?
Aaron: It’s crazy, the size and scale of this thing.
Tobias: And so, you’ve launched a fund for the hemp drinks, not your own hemp drink.
Aaron: Oh, yeah. No, no, no, I don’t know if I said this before. I learned I’m not an operator, but maybe I said that before we started recording.
Tobias: No, you did say. Yeah. No, you did.
===
The Rise of Hemp Beverages and Craft Cannabis
Aaron: Yeah. So, I have a hemp beverage fund that’s now closed, and I’ve been investing in hemp beverages, because all you have to do is study beverages. It’s the best business model, one of the best business models that’s ever been created. You have a recipe, sales and marketing and distribution. If you can plug into the existing bottling and distribution network, once you get to scale, it’s one of the best businesses ever, because it’s almost like software. You have a code, and then you’re just distributing it in sales and marketing and supporting it. One of my favorite stories is like, the Red Bull founder. The year before he died, his 50% stake in Red Bull paid him $900 million in annual dividends. That’s a good business.
Tobias: It’s better than Zuck’s. Zuck’s dividend.
Aaron: Yeah, that’s right. But one last thing on cultivation, just to tie it back to Glass House, what’s so fascinating and will blow people’s minds is, they’ll be like, “Okay, I get what you say about scale and size with Glass House.” Then I’ll be like, “Well, my largest investment is a company called Grown Rogue, which does raft cultivation. While they do do some outdoor, they have this model of building a 50,000 square foot cultivation, and they won’t go larger.” And then you’re like, “Wait a minute, how did they compete against Glass House? That doesn’t make any sense. Why are you bullish on both?”
I want to go back to the fast fashion element of cannabis. What Glass House is doing is like Budweiser blasting it out at scale, real good quality, but at an unbeatable price. What Grown Rogue is doing is they realized, “Hey, if we turn the genetics really fast, and all we do is cultivation, and we build our own buildings and we really focus on every cost, where is the AC unit? What utility you’re hooked up to? We turn the genetics really fast, but we don’t produce a lot of it. We can capture this super profitable niche of Kraft Cannabis. It’s indoor, so it’s super high quality and we can operate at a cost no one else did.”
They’re in Oregon. Lowest prices in cannabis in the country for cannabis is in Oregon. They figured out how to do a hyper efficient model. The CEO’s office is the shittiest CEO’s office [Jake chuckles] I ever been in. It is an open-air room in the grow house with no doors. So, you’re not going to beat him on quality or cost. They have as few people in the company that do not touch the flower as possible. What they did is they figured out, “How do we be free cash flow positive at $800 flower?” They did it. Then with $5 million entered Michigan. Prices collapsed 70%. They are now producing $6 million a year of EBITDA in Michigan. Any day now, they’re about to start planting in New Jersey.
Remember I told you $3,500. They have figured out it’s almost like an awesome restaurant concept, where it’s like, “Here’s our economics for $5 million to $6 million, we’re going to build out this building, we’re going to have a local partner. All we’re going to do is produce this, we’re going to produce 12,000 pounds–” Glass House is producing something like 600,000 pounds. A company, like Grown Rogue is like, “We just want 12,000 in each state. We’re going to capture this super profitable niche. We’re going to turn our genetics really fast, hit the power user and sell out. We’re not going to produce anymore, and we’re going to go state by state by state by state by state.”
There’s only one independent analyst– There’s no sell side analysts on it. No one’s doing research. And so, imagine I told you that you have all these different prices everywhere. The most profitable in terms of EBITDA margin company is operating in the most competitive state with the lowest pricing. Do you think, in any other industry, everyone would be studying it? Everyone would be talking about it, everyone would be like, “How are you doing this?” It’s like Walmart, right? Like, if you suddenly discovered Walmart, you would want them to open Walmart in every place possible. Or, a Target, or a Chick-Fil-A, whatever.
I’m looking at this company, almost no one owns it. There’s fun independent analyst. No one’s doing any work. My numbers are like, I think it trades at four times next year’s EBITDA growing at triple digits, and they’re going to announce over– If it works out, it’s over 50% EBITDA margin, which is insane to something that is considered a commodity business. So, the basic belief on cultivation I have is at the lower end, you have Glass House. And then you have these craft cultivator that’s intensely focused like Grown Rogue, and everyone in the middle is going to get squeezed.
===
Tobias: Great pitch. Aaron, that’s coming up on time for us. If folks want to follow along with what you’re doing or get in touch, what’s the best way to do that?
Aaron: So, two ways you can go to. I’m active on Twitter, obsessed with Twitter. It’s @aaronvalue. And then, you can also read my Substack. It’s mindsetvalue.substack.com. I write a free newsletter where I try to clarify my thoughts and get feedback, etc.
Tobias: That was great. Aaron Edelheit, Mindset Capital, thank you very much. Folks, we will be back next week, same bat time, same bat channel. Thanks, JT, right as always. See you everybody.
For all the latest news and podcasts, join our free newsletter here.
Don’t forget to check out our FREE Large Cap 1000 – Stock Screener, here at The Acquirer’s Multiple:
