Medical marijuana production in Canada set for dramatic change

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Brendan Kennedy doesn’t fit the stereotypical image of a marijuana grower. Neither do his two partners at Privateer Holdings Inc., a Seattle-based venture capital firm. They are former software executives, all armed with MBAs. Mr. Kennedy, who is Privateer’s CEO, and Michael Blue, his CFO, were schooled at Yale.

They’ve worked with Disney, Microsoft and Nextel. Now they’re risking millions of dollars on pot, and the corporatization of weed. Privateer has recently made marijuana-related investments in its home state of Washington, where adults may now legally possess cannabis for recreational use, and where wholesale production and retail store sales will begin this year. But Privateer’s involvement in Washington is peripheral, limited to companies that service marijuana growers and provide consumers with information.

“We don’t invest in U.S. companies that touch the product directly,” says Mr. Kennedy, noting the existing conflicts in state and federal law. They are not so shy about Canada. Privateer’s boldest, most hands-on investment is just a 40-minute flight north of Seattle, in pot-friendly Nanaimo, B.C.

Six weeks from now, the three Seattle sharpshooters expect they’ll have hired 40 full-time workers from around the province. They’ll be growing, processing and packaging for sale medical-grade marijuana inside a $3-million, 35,000-square-foot warehouse on the Nanaimo waterfront, next to a pulp and paper mill and just down the road from a BC Ferries terminal.

Privateer’s new Canadian subsidiary purchased the building this month. Mr. Kennedy expects to spend another $6.5-million to $7-million on capital improvements, including equipment required to raise potent marijuana plants. The venture capitalists might never have come to Nanaimo — or even considered crossing the border — had they not been encouraged by the Canadian government.

On April 1, rules governing medical marijuana production in this country will dramatically change. No longer will the 37,000 Canadians currently licensed to possess cannabis for medicinal use be permitted to grow their own, or purchase from small-scale producers, as they’ve been allowed since 2001. Come April, medical marijuana users must buy directly from commercial-sized, profit-seeking operations authorized to grow and sell pot by Health Canada, in accordance with strict new regulations. Patients will still need a document signed by a health care practitioner to buy medical weed, but they will no longer require a Health Canada permit.

Health Canada cited a number of reasons to favour regulatory reform, in a lengthy analysis it prepared in 2012. It noted that recent Canadian court decisions supported its own position, “that dried marijuana for medical purposes should be produced and distributed as much as possible in the same manner as a medication.” The analysis mentioned that under the old system, registered users “generally dislike the application process, and the fact that only a single strain of marijuana is available for purchase.”

It also raised issues around security and safety for patients who grow their own: “The potential for diversion of marijuana to the illicit market due to limited security requirements, the risk of violent home invasion by criminals attempting to steal marijuana, fire hazards due to faulty or overloaded electricity installation to accommodate high-intensity lighting for its cultivation, and humidity and poor air quality.”

For the new producers, the stakes are high. By Health Canada’s own estimate, the number of licensed medical marijuana consumers will increase almost ten-fold in the next decade, to approximately 309,000, as more evidence about the drug’s efficacy emerges, and more doctors become willing to prescribe it to patients. Health Canada estimates that by 2024, the “legal marijuana supply industry” may have annual revenues of $1.3-billion.

There’s going to be money in legitimate marijuana for Canadian municipalities as well; licensed producers authorized under Health Canada’s new Marihuana for Medical Purposes Regulations (MMPR) will grow, process and package dried cannabis from secure facilities, such as the one Privateer is re-fitting in Nanaimo. Each operation will purchase local power. They will pay local business taxes. They will each require dozens of employees, from white-collar executives to horticulturalists and botanists to security staff.

It’s no wonder that communities across Canada are preparing for a wave of legitimate marijuana investment, and are rewriting local zoning regulations to accommodate the big operators. Charlottetown, Hamilton, Edmonton, Surrey and dozens of places in between are all getting ready for a potential green rush.

Privateer scoured the country for an appropriate grow-op location. The search led them all over Ontario, across the Prairies and into B.C. One town offered up tax breaks and other incentives. The Town of Kapuskasing, in Northern Ontario, sent Privateer a package describing potential grants and loans, and touting its “relatively remote location,” its “potential access to source of CO2 to enhance cannabis production,” and its “planned research greenhouse that could complement a company’s needs.”

The City of Nanaimo wasn’t “actively looking” to land a business in the medical marijuana sector, says Nanaimo Economic Development Corporation CEO Sasha Angus, but Privateer liked what the city had to offer. The Americans seemed to know their stuff, and they impressed local authorities with their buttoned-down approach to business. “These are not your Cheech and Chong type characters,” says Mr. Angus. “They are Ivy League.”

Other communities don’t share the enthusiasm for licensed grow-ops. A number of local governments in B.C.’s Lower Mainland, including Abbotsford and Delta, has decided they want nothing to do with them, Health Canada-approved or not. Delta’s municipal staff are drafting bylaw amendments that would ban the production, processing and sale of medical pot. A similar prohibition is under consideration in Abbotsford, which has more than its share of drug-related crime.

Some current medical marijuana consumers are uneasy, too, especially those who would rather continue buying their product from small, local growers, or cultivating their own. Under the new rules coming into effect on April 1, only dried cannabis may be offered for sale, and it must be mailed or couriered directly from the authorized producer to the customer, in child-proof bottles. Patients who prefer to ingest marijuana orally will have to make their own extracts and tinctures. They will be permitted to possess a maximum of 150 grams of dried marijuana, or 30 times their daily dose, whichever is less.

Lawsuits have been filed in Ontario and B.C.; plaintiffs are hoping to stop Health Canada’s new MMPR from being fully implemented. “My clients have all learned how to grow marijuana properly and in accordance to their requirements, for about $1 to $4 a gram,” says John Conroy, a B.C.-based lawyer who is helping four licensed marijuana users challenge the MMPR on constitutional grounds. “They have a right to produce their own medicine,” says Mr. Conroy.

Others say the new rules will improve — even revolutionize — cannabis production in Canada, and will benefit most consumers. While the market won’t be completely unfettered, patients will be able to shop around and compare myriad varieties of marijuana that producers have made for sale. Quality and consistency will be assured, thanks to strict production controls. And the authorized licensed producers will have to compete for business; that should keep prices down.

“Once it’s fully mature, the new system will benefit patients tremendously,” says Ron Marzel, a Toronto lawyer and marijuana advocate. “But in the short term, I think there will be a huge shortage of product.”

He notes that under the system being phased out, Canada’s medical marijuana patients were licensed to consume 190,000 kilograms of dried cannabis last year. About 60% of medicinal pot was grown by the licensed users themselves.

Can all that marijuana be replaced, quickly, by the new mega-farms? The federal government says it can. While it has received “more than 400″ authorized licensed producer applications from hopeful companies and individuals, Health Canada says it has approved only eight. And just four of the successful applicants “are ready to register clients,” according to a department spokesman.

Those include Saskatoon-based CanniMed Ltd., a subsidiary of Prairie Plant Systems Inc., the only private company contracted by Health Canada to grow marijuana under the old regulations. Prairie Plant Systems supplied about 20% of licensed patients in Canada with their marijuana. Now it must battle for market share.

“Health Canada is monitoring producers closely,” a department spokesman said in response to questions from the National Post this week. “We remain confident that there will be adequate production levels under the [MMPR].”

But according to Privateer CEO Brendan Kennedy, Health Canada officials “seemed very worried about production levels” in meetings they held seven months ago. The feds anticipated a supply shortfall and a dearth of qualified producers, he recalls.

“Health Canada had valid concerns” about the authorized license applications they were receiving last year, says Mr. Kennedy. Many displayed a “lack of sophistication” about the medical marijuana industry, or had a “lack of capital,” he says. The department “was concerned about the ability of new licence holders to meet demand.”

With all that in mind, the federal government actively encouraged his venture capital firm to invest in the Canadian medical marijuana trade, says Mr. Kennedy.

“We went to Toronto in June 2013 to meet with Health Canada and they asked us to work with some of the applicants investing in Canada,” he recalls. “They asked if we’d be interested in meeting with applicants who needed funding. I believe that Health Canada reached out to us. They asked us to come to Canada.”

Asked if Health Canada has ever encouraged parties outside the country to invest in new MMPR facilities, a department spokesman answered that “all of the discussions between Health Canada and those interested in becoming licensed producers are confidential. … Health Canada does not provide business advice.”

In fact, Privateer wasn’t the only foreign firm attracted to Canada for the new medical marijuana laws. Among the eight successful MMPR applicants to date is Toronto-based Bedrocan Canada Inc., a creation of Bedrocan BV, a well-established marijuana producer from Holland. Bedrocan Canada and Bedrocan BV are in a “joint-venture” to produce and sell medical grade marijuana in Canada.

Under the MMPR, producers must be headquartered in Canada “or operate a branch office in Canada and whose officers are all adults.” Privateer created its own Nanaimo-based subsidiary — called Lafitte Ventures Ltd. — and expects to begin hiring soon.

They’ve got their local permits, and blessing from municipal authorities. They’ve been closely scrutinized and fingerprinted by the RCMP.

The Seattle entrepreneurs are now waiting for final approvals and permits from Health Canada. Should they receive the green light, they should be up and growing in March, just ahead of the April 1 rule change.

Mr. Kennedy acknowledges that he and his partners have taken some risk, spending millions on infrastructure before obtaining a license to grow and to sell. They’ve already worked with branding and marketing experts to come up with a product name, Tilray, and an array “standard and seasonal” marijuana strains they’ll produce for sale. These include “Bubba Kush,” “White Widow,” and “Lemon Haze,” names already familiar to aficionados.

And they already have two more Canadian locations in mind, one in B.C., the other in Southern Ontario.

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