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Village Farms is a growth story for the cannabis age (Part 2)

The second of two parts on the Canada-based hydroponic grower's transition from tomatoes, peppers and cucumbers to cannabis

marijuana plant
Unlike many competitors entering the space, Village Farms has a history in agriculture

In the first part of my analysis of Village Farms International Inc (OTCMKTS:VFFIF) (TSE:VFF), we looked at this hydroponic grower’s transition from vegetables to cannabis. Now let’s look at how and why that’s a plus for the company and investors.

Village Farms has the benefit of a seasoned management team, one with a realistic view of both the present market and future expectations for cannabis. Unlike many competitors entering the space, Village Farms has a history in agriculture. Marijuana, after all, is an agricultural product -- an old plant with new growing pains.

Experience will separate early winners from those who fall behind.

PART 1: Vegetable grower Village Farms International takes a seat at the cannabis table

One area rarely discussed is regulators, especially regarding CBD. The product will be ingested, so the Food and Drug Administration will have the final say in the United States. For companies having no experience with regulatory bodies like the FDA, they are bound to experience some bumps and possible delays. Village Farms has the upper hand given their current business of growing and selling produce.

They’ve grown up as a company in the regulatory system.

Strategy

Beginning with its Delta 3 facility, Pure Sunfarms intend to vertically integrate production from seed and soil to harvesting through extraction and on to final product and packaging. Initially, I questioned this approach as the extraction process requires a high level of expertise plus substantial capital outlays for technology and equipment that will outdated by new technology and hardware in the future; however, once I had the opportunity to consider all the factors around this approach, I understand its reasoning.

It comes down to controlling the chain of custody. Drawing from its regulatory experience, Village Farms understands the risks that come with allowing an ingestible final product outside of your control during the production process. Should the company hire an independent third party to extract CBD from its product, they’ve introduced a variable outside their control into their final product. While vertical integration equates to assuming all the risks, it also offers complete control.

Rather than lump sum harvest product, Village Farms will utilize a rotating harvest, so a portion of their crop is harvest ever week. Given the majority of agriculture is a fixed business, costs are present whether there is an ongoing harvest or not, but this rotating harvest approach should create operational efficiencies.

Village Farms anticipates a high turnover in employees in the early going of new businesses entering this industry. This won’t be a company-specific issue, but rather an industry issue. Companies can anticipate shuffling through 1500 employees to find the 100- to 200-member “team” they need. Fortunately, with an established background in agriculture, this isn’t an issue for Village Farms/Pure Sunfarms. By employing a rotational harvesting strategy, Village Farms offers consistency to its team. This, in turn, should increase retention. Consistency will build reliability.

Partnerships at the forefront

Partnerships will remain in the forefront of the conversation for cannabis companies.

Village’s Pure Sunfarms partnership with Emerald Health Therapeutics Inc (OTCMKTS:EMHTF) (TSE:EMH) was one of necessity, not comfort. And it’s not one we’ll see repeated. Village brought too much to the table to sacrifice 50% ownership. Management knows what it has with Delta and the potential of its Texas property and Mexican partnership.

There are partnership opportunities, but they don’t rest with existing cannabis companies. Based on its current produce product line and the potential of its CBD-infused product line, Village Farms would make a perfect partner fit for a large food wholesaler like Sysco Corp (NYSE:SYY), The Hain Celestial Group Inc (NASDAQ:HAIN), or US Foods Holding Corp (NYSE:USFD).

Those who believe CBD products won’t become mainstream in large retailers like Walmart Inc (NYSE:WMT), Target Corp (NYSE:TGT), The Kroger Co (NYSE:KR), and Walgreens Boots Alliance (NYSE:WBA) are being naïve. They are already there, but the products are basic and limited. Combining Village Farm’s strategy of specialized CBD strains with the sales and distribution capabilities of a large food wholesaler would create a huge competitive advantage to reach the every-day Jane and Joe.

PART 2: Valens GroWorks aims to capture a higher-level market in the cannabis extract space

For Sysco, Hain, or US Foods, the first mover in the CBD could seize control of the market, and it won’t be long before the market embraces CBD-infused food offerings at a restaurant or in the grocery store.

Alternatively, Village Farms could bring their basic or specialized CBD strains into a partnership with a biotechnology company. We aren’t talking about medical marijuana here, but rather more unique uses of CBD in the medical field.

Village doesn’t require a partner given the myriad of advantages it already holds, but if the right opportunity presented itself, I believe the company should consider its merit. In terms of joint ventures on a smaller scale, I’d anticipate Village Farms preferring JV’s where they could maintain control. Again, it will always come down to what’s on the table.

In terms of medical and recreational marijuana, Village Farms approach appears to be the recreational market. The company acknowledges, unlike most in the space, cannabis is a commodity. Over time, it will be cost, not branding, that matters most.

Branding matters

Last month, I had the opportunity to talk with several producers, extractors, and retail sellers of recreational marijuana. All I’ve heard is how much branding matters; however, Village Farms seems to disagree. Until last month, I would’ve called them crazy, but now I’m not so sure.

During those conversations, my first question was always: what sells best?

The answer: everything. Eventually, everything sells because demand is so much higher than supply.

When I pushed for specifics, there was never a brand named. Instead, it was the level of THC (the psychoactive ingredient in cannabis) in a product. Consumers bought the highest levels of THC first. One might label it getting the most bong for your buck.

That brings us back around to one of Village Farm’s mantra: a low-cost grower of high-value crops. In summary, as supply catches up with demand, it will be the low-cost producer in the space that will generate sales. Consumers will seek value for their money.

Final thoughts

The potential upside of CBD, recreational marijuana, and medical marijuana may be this generations internet; however, what happens if it is not?

Village Farms not only answered that question, but it is that answer that genuinely separates the company from others.

If the market becomes saturated or federal regulations reverse, Village Farms can pivot. The company can retrofit their existing greenhouses to pivot away from growing cannabis or industrial hemp to meet the current agricultural demands of the market.

If roses are in high demand, Village can shift to become a low-cost producer in the space. If a change in NAFTA sparks high margin potential for tomato growers, Village Farms can shift back to something it already knows.

The possibilities are endless, but if it can be grown more profitably than industrial hemp or cannabis, then Village Farms can quickly make the change. Although I don’t envision this happening in the next decade, it is worth noting.

The cannabis/CBD market sits in its infancy. It is still about potential, and it is that same potential that makes the Village Farm story compelling and one of my preferred names in the speculative cannabis sector.

--At the time of publication, Tim Collins had no positions in the stocks mentioned.

--Contact Tim Collins: timothyjcollins@msn.com

--Follow him on Twitter @retrowallst and @darknovelisttim

Quick facts: Village Farms International Inc

Price: 6.58 CAD

TSX:VFF
Market: TSX
Market Cap: $433.96 m
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