Glass House Stock: ‘The Ferrari’ Of Greenhouses

The following segment was excerpted from this fund letter.

I recently wrote a whole post about the big myth of cannabis. Our fund’s focus is on those companies that are solving the biggest problem in cannabis: how do you grow consistent quality cannabis flower at the lowest possible price, at scale? We believe that for brands to thrive, you need consistency, you need cost efficiencies, and you need scale. And this explains our intense focus on Glass House.

Glass House’s Competitive Advantages on Full Display

Lowell Farms (OTCQX:LOWLF) operates a 250,000 square foot greenhouse in Monterey County in California. For fiscal 2022, it reported this number: Gross profit for the year was negative 4.2%.

In fact, it’s worse than that because in Q4, the company earned $9.3 million in revenue, but $12.3 million in COGS, for a gross margin of -32%.

Lowell Farms’ stock currently trades for around 4 cents a share.

Why should we care about Lowell Farms’ results? Because it illustrates perfectly the durable competitive advantages that Glass House and its state-of-the-art unicorn of a greenhouse possesses over every other greenhouse or outdoor producer in California.

Glass House reported a 32% overall gross margin in Q4, but more importantly, Glass House reported a 43% wholesale gross margin, which represents its greenhouse flower production. It’s simply incredible watching one company produce a negative 32% gross margin and another produce a 43% gross margin in the same quarter, supposedly doing very similar things with what are reported to be similar assets.

As an analyst, it’s one thing to do the due diligence and hear competitors call Glass House’s greenhouse “the Ferrari” of greenhouses, and to be able to dive into the numerous advantages, which include:

1. Ebb and flood floors that allow for more efficient water use and lowers mold risk.
2. Bigger boiler capacity which leads to a better heat canopy over the plant.
3. Taller Dutch style ceilings that allow for better environment control.
4. CO2 that flows in one direction that allows better control for pests.
5. The perfect climate of Ventura County.
6. A water filtration system that would make a small city proud.
7. Onsite natural gas cogeneration that allows Glass House to buy natural gas at half the price of others.

But it is another thing to see the advantages that you have confirmed with research in cold, raw numbers when comparing Glass House to Lowell Farms.

And now Glass House wants to press its advantage and expand while others are in full retreat. In a March press release and their quarterly earnings call, management revealed that they are working on turning on an additional greenhouse of one million square feet that would add 250,000 pounds of production. It will cost approximately $10 million of additional capex and working capital to turn on this next phase. But at conservative pricing assumptions, this expansion would pump out an additional $30 million in EBITDA.

Now that is one hell of an IRR on additional capital. And this is where Glass House’s flywheel starts turning. They have a cost advantage in production, and now that they have demonstrated it, they are going to start turning on the other 80% of their Ventura facility, one greenhouse at a time. And their costs will continue to go down, and thus their competitive advantage will only increase as time goes on.

Warren Buffett and Charlie Munger like to talk about the difference between two copper producers, one whose cost to produce are $1.50 a pound and another whose cost is $2.50 a pound. When the price of copper is $2 a pound, it is as if these two producers are in different industries. Right now, Glass House is operating as if it is in a different industry than its California competitors.