Which ounce would your neighbor buy?

Imagine that your neighbor is standing in a cannabis dispensary, faced with two ounces of top-quality cannabis. Both are award-winning, and they have identical lab reports from the same lab. Would your neighbor buy:

  • The ounce that costs $160; or
  • The ounce that costs $ 20?
Both ounces
Which ounce would your neighbor buy? (Image from http://www.Greenito.com)

That exact choice could be coming to a dispensary near you, once the global “War on Drugs” finally comes to an end.

To understand this, we need to take a step back and briefly study the history of the cut flower industry (which grows flowers for bouquets).

  • In the early 1900’s, the production of cut flowers was always local, in greenhouses near to the cities where they were sold.
  • In the 1940’s, the emergence of refrigerated rail freight reduced transportation costs. Regions such as Florida and Colorado, which were much better-suited for some types of flowers, were able to out-compete the near-to-cities greenhouses.
  • As the cost of refrigerated transportation fell even further in the 1980’s, California’s Salinas Valley came into logistical range. Its even better combination of climate, low labor costs, and logistical connections out-competed flower growers in Florida, Colorado, and the remaining near-to-cities greenhouses. Nearly all of North America’s cut flower industry became centralized in California, notably the Salinas Valley.
  • At that same time — when Salinas’ low costs were driving its competitors out of business — the cost of refrigerated air freight brought Latin America’s even-lower-cost, even-better-climates within logistical range. They started out-competing California, and by the 2000’s, the Salinas Valley’s cavernous greenhouses became dinosaurs.

You can see the pattern: Flower production moves to wherever flowers can be grown at lowest cost (at equal or better quality), considering climate, production costs, and transportation costs. That’s why it emerged first in near-to-city greenhouses; that’s why it moved to Florida and Colorado; that’s why it moved to Salinas; and that’s why it moved to Latin America.

What drives this movement? Consumers. When faced with two identical bouquets at different prices, consumers will almost always choose the less expensive bouquet. Individual consumers are free to buy a more-expensive locally-grown bouquet; they just choose not to.

That’s why North America, Europe, Japan, China, Australia, and nearly every other country in the “temperate zone” imports tropical crops such as coconuts, vanilla, coffee beans, and chocolate, instead of growing them in expensive greenhouses. It is simply much cheaper to import them than to grow them.

Soon, it will be the same with cannabis flowers (and their concentrates).

Not that long ago, most of the top-quality cannabis in North America, Australia, and other temperate-zone countries was imported from tropical Thailand. In the 1980s, that trade was blocked by the War on Drugs, so consumers there had to learn to grow their own.

Thailand has recently entered the legal cannabis industry, and when the old blockade falls, high-quality, inexpensive cannabis imported from Thailand will once again be available to consumers in temperate-zone countries.

How inexpensive? To understand the price difference, we must first understand the cost of growing cannabis in North America.

Let’s run some numbers, focused on Salinas. Why Salinas? Because the history of the cut flower industry (above) shows that Salinas has North America’s best combination of climate, costs, and logistics, for growing flowers. If Salinas can’t produce cannabis flowers at an internationally-competitive price, then no other place in North America can, either.

What does Salinas-grown cannabis cost?

  • An article from October 2017 (seven months ago) cites a Salinas Valley greenhouse grower’s (wholesale) “price point” as being $1,300/pound, which is ($1300/16=) $81.25/ounce. Let’s assume that this price point includes a 400% mark-up, implying a cost of production of ($1300/4=) $325/pound. That’s ($325/16=) $20.31/ounce. (A Salinas greenhouse’ costs could be considerably lower than $325/pound– more like $250/pound — if it were highly automated, optimized, and not too worried about producing top-shelf quality.)
  • As a reality check, this article places the cost of producing  gram of legal cannabis in Canada at US$0.80 (80 US cents per gram). That works out to ($0.80*28.35 grams/ounce=) US$22.68/ounce. That’s slightly higher than Salinas’ cost of production, which we would expect, given than Canada’s climate is less-ideal for cut flowers than is Salinas’, so it validates our estimate of Salinas’ costs.

If Salinas’ cost of production is $20/ounce, and its wholesale price is $80/ounce, then the retail price of Salinas-grown cannabis is likely to be approximately $160/ounce (give or take $20, on average).

We can fact-check this estimated price by looking at the retail price of ounces of cannabis on the menu of Harborside Oakland, one of California’s most famous dispensaries. If its least expensive ounces are priced at $160/ounce (give or take $20), then that would validate our retail price estimate. At the time of writing, its three least expensive ounces are priced at $150/ounce, and the next least expensive at $175. This validates the predicted retail price-point of $160 (give or take $20).

By comparison, here at the Thai Cannabis Corporation, our cost of producing dry cannabis bud, at scale, is projected to be 5 cents per gram (or less). That is line with published cost estimates from growers in other low-cost tropical countries. That’s ($0.05/gram * 28.35 grams/ounce=) $1.42/ounce. Given the low prices that Thailand’s farmers earn from any alternative annual crop today, they are eagerly lining up to get their fair share of this price. Applying the same 400% wholesale markup that we assumed for Salinas, Thailand’s wholesale “price point” would be ($1.42*4=) $5.68/ounce.  Let’s be generous to North America, and put Thailand’s landed, inspected, and re-certified wholesale cost is $7/ounce.

We assumed that retailers would apply a 2x markup to Salinas’ wholesale product from $80 to $160, giving them a 50% profit margin. We could assume that they would do the same for Thailand’s cannabis, marking it up from $7 to $14. But…why wouldn’t the retailer mark it up even more, to, say, $20? That retail price would still be a lot lower than Salinas’ $160, so it would still fly off the shelves… and it would give the retailer a profit margin of ((20-7)/7=) 185% instead of 50%. So, the retail price of Thailand-grown cannabis is likely to be approximately $20/ounce.

That’s just 12.5% of Salinas’ $160/ounce retail price — 87.5% off. It is also less than Salinas’ estimated cost of production ($20.31/ounce).

Which brings us back to our original question: Faced with two identical ounces of award-winning, top-quality cannabis, with identical lab reports from the same lab, which would your neighbor choose:

  • The ounce that costs $160, or
  • The ounce that costs $ 20?

study from Deloitte Canada answered that question: 75% of current cannabis consumers would buy the lower-priced product, all else being equal, with only 15% choosing the familiar brand (see Figure 1, below).

Figure 1: From page 17 of Deloitte Canada’s report, A society in transition, an industry ready to bloom.

Notice that these results indicate that cannabis is already a commodity: price matters five times more than brand (75%/15%=5). This is exactly the opposite of what most cannabis entrepreneurs are being told (as seen here, here, and here).

Because your neighbor will buy “the $20 ounce:”

  • Your neighbor, being an average cannabis consumer (who spends $645/year on cannabis), would save (.87*$645=) $561.15 per year. That’s a monthly car payment.
  • Scott Willis of Grizzle was even more right than he realized, when he wrote that we may have reached “the peak of insanity in the great marijuana bubble.”
  • When the cannabis stock bubble bursts, most of the money that has been invested in North American cannabis production is going to be lost, just like in 1929’s Great Crash, 2000’s Dot Com Crash, and the 2007-08 Housing Crash… and just like the money invested in Salinas’ greenhouses in the 1980’s.
  • Anyone who has already invested in cannabis production in North America, Europe, Australia, etc., should sell now — before the bubble bursts — and invest the resulting profits into cannabis companies that are based in low-wage, mostly-developed tropical countries (such as Thailand). These growers are much more likely to survive the coming Global Cannabis Price Collapse.

I don’t mean to pick on Salinas’ cannabis growers. They are undoubtedly nice people, good neighbors, and fine citizens. Indeed, one of the biggest cannabis farms in the Salinas Valley, Harborside Farms, is funded by Steve DeAngelo, who has been, for decades, a truly heroic advocate for marijuana legalization.

However, consumers want the same thing from cannabis that they wanted from cut flowers: a $160 product for $20.

Once the global trade barriers fall, Salinas can’t meet that price. Thailand can. And the “flower” industry will, once again, move.

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