Global Gardens’ Veggemo beverage targets fast-growing dairy alternative space with fresh approach

This story was originally published at www.proactiveinvestors.com on December 8, 2015 and featured in The CSE Quarterly.

With typical acerbic wit, the late columnist Mike Royko once offered his readers a simple rule for eating healthily: “If you enjoy it, you can’t have it; if you don’t like it, you can eat all you want.”

That was a little over three decades ago, when there was probably some element of truth to Royko’s tongue-in-cheek guideline. Today, however, the list of products that not only are tasty but also good for you is long and growing.

Global Gardens Group (CSE:VGM) made that list a little longer on November 5 when it released a product line aimed squarely at the highly popular almond and soy milks that many health-conscious adults view as a refrigerator staple.

Veggemo is a vegetable based dairy alternative that tastes delicious and feels so much like milk, according to the company, that even devoted milk drinkers will be hard-pressed not to give it serious consideration. Factor in the absence of bad stuff like trans fats and cholesterol and one begins to understand why the Global Gardens management team so deeply believes it has a winning combination on its hands.

That combination might never have come together were it not for a fateful meeting four years ago between now president and chief executive officer (CEO) Rob Harrison and vice president (VP) of  Marketing, Wade Bayne.

Harrison had traveled to Vancouver from Ontario to see an early version of the product at an incubator group founded by executives from Lululemon. Bayne had been invited to the office that day as well, and the two experienced consumer goods executives quickly found themselves on the same page. “We both perceived a huge opportunity,” says Harrison.

Bayne, whose background includes executive positions at names like Molson Coors and Procter & Gamble, explains that being in the right business at the right time is everything. “In an industry that is enjoying great growth, even an average company can do well, whereas in an industry that is flat or declining, a strong company will struggle,” he says.

“So, before you choose where you want to be, find an industry that has strong growth driven by factors that are sustainable.”

Harrison, who has advised the likes of Heinz, Nabisco and Nestle, claims that the dairy alternative beverage category is growing at double-digits per quarter, which compares to 1-2% growth for consumer goods overall in Canada.

And then there is dairy itself.

“You see dairy milk declining on a per capita basis for the last 25 years and people migrating to our category,” explains Harrison. “As marketers, you see exponential growth, a new category, great margins and strong demand from consumers, and we believe this shift is going to continue.”

Harrison says the alternative dairy industry is now valued at over $2 billion in North America.

In the four years since Harrison and Bayne met at the incubator, countless versions of the beverage have been created, a number of which were taken out for testing with large groups of consumers. The main tests took place in two waves: the first led to the conclusion that protein was breaking too strongly through the flavor matrix, thus causing consumers in the trials to report a slightly bitter taste.

“Protein doesn’t taste good,” says Bayne, “so you have to mask it and we spent three months getting that right.”

The next wave of testers liked the taste but said they would prefer the product to possess a little more body, “so we dialed up the texture to replicate a 1% or 2% milk,” says Bayne.

One might wonder how a vegetable-based drink manages its slightly off-white color. Bayne credits ingredients such as potatoes, organic potato starch, tapioca and a white-yellow pea sourced from Belgium for the milk-like hue. “It is not an artificial colour,” he points out emphatically, adding that genetically modified, or GMO, ingredients are similarly banned from the Veggemo recipe.

With the product perfected, the fourth quarter of 2015 was chosen for the start of an aggressive yet prudent roll-out.

“There are two things you measure in this business, and the first is distribution,” explains Harrison.

“We had set out to be in 450 stores at the end of the first quarter of 2016 and it appears the number is going to be closer to 800.”

Six months from the beginning of product roll-out the goal is to be in approximately 1,800 stores across Canada, including those run by several of the leading chains.

The roll-out continues in further stages to include chilled Veggemo (the first phase involves shelf-stable product, which is packaged in an environment such that the beverage remains fresh on the shelf for up to 14 months) and the addition of stores in the United States.

Looking a bit further out, Harrison says the company has its eye on the global marketplace, as North America accounts for only 18% of dairy alternative beverage sales volume worldwide. There are many attractive markets for Global Gardens to consider, he says, both for sheer size and, in some cases, high levels of lactose intolerance within the population.

A product can be fantastic, but if people don’t try it they will never know. Harrison and Bayne have already considered the appeal factor from multiple angles and have a game plan to ensure that consumers across the country find the product if not one way, then another. This, of course, drives the second metric Harrison was hinting at: sales per point of distribution, or how many units you are selling at each store.

Key to this is the brand and its character, which Bayne describes as “light-hearted, approachable and playful.”  A naturopath in Colorado that Harrison and Bayne refer to as a “guru” asserted that many healthy food choices brand in such a way as to appeal to hard-core health food consumers; because of this, however, they effectively alienate a large percentage of “average” consumers not drawn to a product branded in that fashion.

The packages for Veggemo’s three flavors – original, unsweetened and vanilla – are each different but share a common visual theme characterized by happy animals in fantasy-like nature settings. To say they stand out sitting amid rows of competitor’s containers, almost all featuring a white beverage splashing into a glass or cereal bowl, is an understatement.

Then there is in-store product demonstration, which begins this month.

“We will be doing product tastings at about 1,000 stores so that shoppers can come and try Veggemo before they make a purchasing decision,” says Bayne.

Prices for Veggemo, which at first will be offered only in the 946ml size, will differ from region to region and by retailer, but the company’s suggested retail price is $3.49. This is in the middle of the category and at a level that leaves a very nice margin both for the retailer and for Global Gardens, and the company’s margin can be expected to climb in later years as economies of scale and other efficiencies take root.

Research indicates that a consumer making a health and wellness purchase decision tends to be less price sensitive than an average consumer, and because Veggemo is so innovative it is essentially creating a new segment of non-dairy beverages. Indeed, at the recent Grocery Innovations Canada show, Veggemo was chosen as one of the 10 most innovative products, which is quite an accomplishment given that there were some 300 products at the show.

While one eye will always be on profit, Harrison understands that execution of the business plan is the most important thing as the company begins to establish the brand.

“The gross margin is great and the selling price is great, but it is really about the management team, the category growth and how we have positioned this product,” he explains. “We have a point of differentiation that is research-based and are selling an everyday consumer good resistant to recession.”

Investors seem to share Harrison’s belief. When the company went out to raise capital in the second quarter of this year, its target was $2.5 million. It ended up with $4.3 million.

A commitment to running lean and mean should help to make those funds stretch a long way. A team of just five people has brought the company to its current state, with an aversion to owning fixed assets serving to keep costs mostly on the variable side of the ledger. “We are a company that fits the times,” says Harrison. “Who wants to own fixed assets and a factory with lots of people when there are groups whose business it is to do that?”

Going onto shelves in the likes of Walmart, Save-On-Foods, IGA Market Place, Calgary Coop, Metro Quebec, Thrifty Foods and London Drugs there is bound to be at least one retailer close to most people in Canada carrying Veggemo no later than April. Try it. You might like it, and if you do…you can have as much as you want.

Learn more about Global Gardens Group Inc at http://globalgardensgroup.com/ and on the CSE website at http://thecse.com/en/listings/diversified-industries/global-gardens-group-inc

Golden Leaf shows way for public marijuana companies with strategy timed to perfection

This story was originally published at www.proactiveinvestors.com on December 9, 2015 and featured in The CSE Quarterly.

The rush of junior public companies into the marijuana space over the past couple of years has been fast and furious as laws regulating the drug’s use changed in Canada and some US states.

Despite the best of intentions, many of these companies have not fared well, though in fairness regulatory hang-ups undermined momentum for those focused on operating in Canada.

Golden Leaf Holdings (CSE:GLH) chose a decidedly different path by positioning itself to take advantage of regulatory change in states on the US west coast. It turned out to be a shrewd move, as the company has gone from strength to strength literally since day one.

Golden Leaf was established in May 2014 and in the one-and-a-half years since has succeeded in growing sales to over US$1 million per month. Oregon has proven to be the perfect jurisdiction for its operations, with the company having been able to legally sell its refined marijuana oil products to medical marijuana users since inception.

Recreational use was legalized in Oregon on October 1 of this year, but the only products that can be purchased through approved dispensaries at the moment are dried leaves and buds. Golden Leaf chief executive officer (CEO) Don Robinson anticipates that the second half of 2016 will bring permission for dispensaries to sell oils and edibles to recreational users, a move that would expand the market for Golden Leaf’s products by leaps and bounds.

All Golden Leaf products are based on the extraction and refining of oil from marijuana plants. The oil is sold in a variety of delivery systems, including vaporizers and edible products, the latter slated for introduction late in the current quarter or early in 2016.

“Our business model is built around the lowest cost production of the highest quality oils, based on competitive advantage, economies of scale and intellectual property,” explains Robinson.

“We think we have a different approach to the industry than other companies.”

Well-funded (the company raised a total of US$17 million in two financing rounds prior to going public on October 14 of this year) and with a strong team, Golden Leaf has proven its ability to move quickly when opportunities present themselves.

“We believe we are the biggest extractor in all of North America – we don’t know anyone bigger,” says Robinson in describing the company’s market position.

“Our growth has been explosive, from $150,000 in revenue in September 2014 to over $1 million in April 2015. We have added equipment in the last month, and by the end of this year will have doubled our output capacity and be at a monthly run rate of $2.5 million.”

Robinson explains that the company has been able to sell all of the product it makes, and that further capacity will be needed once refined products become legal for sale to recreational users. So far, Golden Leaf’s sales have come entirely from the medical use market in Oregon.

Right next door to Oregon, of course, is Washington State, where the market is twice the size of Oregon’s.

“When you put Washington and Oregon together, you are looking at a combined market of US$2.5 billion, and almost 1.4 million consumers,” says Robinson.

Keeping up with demand will require significant capital spending. “Capex for us,” explains Robinson, “is all about acquiring more machines. Each machine is close to $300,000 dollars with a two-month payback. We had three machines and added two over the summer, and by the end of the year will have 11. With each extractor you need support and auxiliary equipment because you extract with one machine and refine with another. That is the bulk of our capital spending.”

Funds have also been used to enable production of marijuana itself. “We are attempting to grow all of the feedstock for our extraction process and the reason we want to be self-reliant on feedstock is we believe it is important to be organic. You also get a better quality of feedstock if you do it yourself as opposed to buying it on the open market, where it is inconsistent.”

That claim was borne out in a November 18 press release from the company giving quality control through in-house production part of the credit for extraction yields reaching 14%, up 50% from the year-to-date average to the highest level ever experienced by the company.

From a structural perspective, part of that credit belongs to a Golden Leaf subsidiary in Israel called Green Point Science, which conducts research and development work.

“Everything that happens in Israel with cannabis is best practice,” explains Robinson. ”They have been experimenting with cannabis since the early 1970s and we are adopting their best practice in growing, breeding and greenhouse operations. In a perfect world, we would have our own strain optimized for extraction that would grow faster, with less light, less water and more disease resistance, and therefore be organic.”

Golden Leaf has grown at breakneck speed so far and with recreational use of oils in Oregon seemingly on the horizon, demand looks like something the company may never have to worry about. Still, it is hardly a bad thing that ongoing regulatory change in other parts of the country, and even nationally, will likely to add to its demand prospects.

“Four states and Washington DC are legal medically and recreationally, the states being Alaska, Colorado, Washington, and Oregon,” says Robinson. “In addition, 23 states are in some form of decriminalization.”

Then there is the national front. “The Obama administration took a big step earlier this summer and now allows research into medical marijuana,” Robinson explains.

“Up to now it has been illegal so claims as to the efficacy of marijuana from a medical standpoint are all anecdotal. Once medical studies start coming in that prove efficacy in a formal way, you will see a sea change.”

Getting back to the principle of positioning for change before it happens, Robinson points to the strength of his team and says that when it comes to management, “we have invested ahead.”

It is all about striking the right balance, mixing team members with years of experience in various aspects of the marijuana industry with executives from outside the space who bring branding and other valuable skills.

“This is going to be a very big business and we believe it requires the best of big business practice applied to cannabis,” says Robinson. “It is that marriage of talent plus ready access to capital that will enable us to continue taking advantage of opportunities as they come our way.”

Learn more about Golden Leaf Holdings at http://goldenleafholdings.com/ and on the CSE website at http://thecse.com/en/listings/diversified-industries/golden-leaf-holdings-ltd

DNI Metals sees vertical integration as key to success in tough market

This story was originally published at www.proactiveinvestors.com on February 23, 2016 and featured in The CSE Quarterly.

DNI Metals (CSE: DNI) is lining up all the pieces to become one of the world’s leading graphite producers, using a three pronged approach of exploration, distribution and refinement.

Exploration

Success begins with finding the goods, and this is a base DNI has covered, having purchased a high-quality graphite project with a mining license in Madagascar in 2014. Some of the best large flake discoveries are in Madagascar and Stratmin Global Resources PLC (LON:STGR) owns and produces there from one of the top graphite deposits in the world.

That deposit happens to be just down the road from DNI’s project, with both sitting along the same trend. DNI chief executive officer Dan Weir points out his site is also close to the main shipping port and has ready access to a paved highway.

“I believe that DNI sits on a world class graphite deposit,” said Weir, “as we are located on the same trend as Stratmin.”

Working in Madagascar has some important benefits as compared to other parts of the world, including Canada; while there is good graphite in Canada, Weir concedes, it is difficult to get at.

Currently, only one small mine in British Columbia is in production, and it can only operate for six months of the year. “Most other North American graphite deposits are hosted in hard rock. They have to drill it, blast it and grind it up really, really small, and process it – there’s a huge cost to do that,” Weir said.

Conversely, Madagascar has material which is “like going to a sandbox, where you go in with an excavator or a shovel and you dig it up and process it.”

Another benefit to being in Madagascar is that it has one of the best mining codes in the world.

“To get a permit in Canada probably takes around three to four years – it’s very difficult,” Weir said.

Weir joined DNI in November 2014, and since then the company has acquired a full mining permit in Madagascar. He would likely still be waiting for the go-ahead in Canada.

The combination of a good permitting environment and soft host rock that makes for easier processing culminates in a reasonable price tag to go into production. Weir expects to begin commissioning the facility in the first quarter of 2017, with the mine set to be operational midway through the same year.

Overall, the project is slated to cost $10 million to $15 million, which is a fraction of the spending proposed in North America by other graphite companies.

Moving toward production, DNI plans to complete a resource estimate, with drill results and a preliminary economic assessment expected by the end of this year.

In tandem, DNI is acquiring two copper-zinc exploration companies with $2.3 million in working capital that will be directed to development costs at Madagascar over the next year, as the project heads toward the construction phase.

Distribution

While the company takes the Madagascar project forward, Weir is also looking to add value in other ways.

This is where part two of the plan comes in – establishing a reputation in the graphite space.

Success in the industrial metals world begins pre-production with off-take agreements and relationships; with this in mind, Weir has established a distribution network buying graphite from Brazilian producers and selling into North America.

“I am making a little bit of money from that,” he said, “but not a lot. The whole point is to build off-take relationships with buyers of graphite, so that when we come to market for financing to build DNI’s mine in Madagascar the end users will know us, respect us, and DNI will have established a reputation of high-quality graphite and partnerships with buyers,” he said.

Refinement

The third and final stage to DNI’S vertical integration strategy is the acquisition of a laboratory 20 kilometres outside of Toronto.

DNI looks to establish this lab as a hub for innovation, not just in the mining sector, but in batteries, pilot plant development and clean tech. In the future, DNI will purify its graphite at the facility. The lab works with some of the largest companies in the world.

DNI is buying the laboratory for $4 million, and while this seems like quite a large chunk of change for a small company Weir points out that the assets and property value are around $3.6 million, making it a low-risk proposition.

The transaction is expected to be completed over the next few months, Weir said, giving the business some cash flow to help toward building the mine in Madagascar. “The shining star in this whole transaction is, what other junior mining company is cash flow positive?” said Weir.

While the company builds relationships with buyers, builds its project in Madagascar, and acquires the laboratory, there is one overhanging issue that Weir is also quick to address – the graphite price.

The graphite graph

“Graphite prices in 2012 were twice what they are today,” he said, though he is not concerned, and his reasoning is two-fold.

Firstly, new supply is unlikely to come to market in the near term, particularly in North America, where he believes that economically, the more expensive hard rock projects will be difficult to commission and put into production at current graphite prices.

“We see a lot of growth around the world,” Weir said, noting that demand from new sectors such as lithium batteries was beginning to pick up.

With a potentially world class project in Madagascar, relationships with most of the major graphite buyers in North America, its own laboratory, and a positive outlook on the price of graphite, it is no wonder that the chief executive is “extremely excited” about his company’s future.

Learn more about DNI Metals Inc. at http://dnimetals.com/ and on the CSE website at http://thecse.com/en/listings/mining/dni-metals-inc

Captiva Verde: growing greens and making money

This story was originally published at www.proactiveinvestors.com on May 17, 2016 and featured in The CSE Quarterly.

A neat carpet of green can be seen stretching as far as the eye can see, like a well-tended lawn of some grand country manor. But this is right in the middle of the California desert.

It’s just one of Captiva Verde’s (CSE:VEG) many organic vegetable farms in isolated patches across the California and Arizona desert.

Being organic, the farms deploy no chemical pesticides or synthetic fertilizers.

There is a big cultural shift as organic becomes the mainstream, with 78% of US families buying organic produce, which means it’s big business… if you can get it right.

Organic farms are 35% more profitable than the average farm and in retail stores organic prices are typically double conventional prices. Yet currently only 0.5% of US farmland is suitable for organics.

According to the Research Institute of Organic Agriculture and International Federation of Organic Agriculture Movements, global retail sales of organic food are estimated at US $72 billion. North America represents 48% of this global demand.

From renewable energy to organic farming

Captiva Verde is taking a run at this giant market. Worth just CDN $20.5 million, it is fair to say the company is a comparative minnow in the field of agriculture.

But founder Jeff Ciachurski is ambitious: “You’ve got to have a lot of guts,” he says. “You need to go in with a big operation and take the chance.”

Ciachurski made his fortune in sustainable power after he founded Western Wind in 2002 with an initial investment of CDN $250,000.

Just over ten years later he sold the company to Brookfield Renewable Energy Partners for $420 million.

As important as the project is the person behind it; the man or woman with the relentless drive and will to win.

“I made a very big success for my shareholders; in fact I was one of the few guys in the entire worldwide market place that made a whole lot of money in the wind and solar space,” says Ciachurski.

“So I’ve got a knack for finding high quality deals and ones that really take a lot of perseverance, a lot of emotional energy and challenges.”

And he thinks there are lessons he learned from his former employment that are directly applicable to the world of organics.

“There is a huge regulatory landscape you need to navigate. But we successful entrepreneurs take on the big challenges,” Ciachurski says.

Captiva Verde was founded in 2014 and is certified by the United States Department of Agriculture (USDA).

Ciachurski’s team now farms 3,700 acres, the majority of which is leased, and the group is looking to add another 2,270 acres in the southwest US for organic cultivation.

The farmland is managed by a team with extensive experience in organic vegetable farming, food processing, clean energy and land development in California and Arizona.

The isolated fields in Arizona, Imperial Valley and Tehachapi are all at different elevations for production synched to optimal climate conditions, allowing for 365 day a year harvesting and crop rotation.

If the vision above is one of man in harmony with his environment, then the state of California, with some 20,000 organic farms, reveals what happens when agriculture of this sort is done on an industrial scale.

A big risk with big money

It has been a challenge for Captiva Verde, not just meeting the exacting farming standards, but winning over retailers.

“The certification program in California is so tough. The reality of organics is that the standards are way beyond what you’d call sustainable,” said Ciachurski.

“The US is a very litigious place, California especially so. There is a very large and robust food safety program. You want to make sure the buyers know you have a top rated food certification.”

Scrutiny was intense to gain National Organic Program certification. And meeting the food standards and safety criteria can be very costly, which is often a deterrent or inhibitor to smaller, less well-funded groups.

How many small businesses could fund a four-mile fence to avoid cross-contamination from animals? Captiva was forced to bear these costs to gain USDA certification for just one 600-acre farm.

“We take 300 tissue samples per acre to test for bacteria,” states Ciachurski.

“All this can be a big setback for the smaller guys, who often have to sell at the farmers market because the big end retailers would not find their standards remotely adequate to get onto their shelves.

“That’s why you have to raise the capital; it’s a big risk with big money at the start.”

Captiva also had to convince potential buyers of produce that its farms were capable of producing enough to meet the demand from retailers such as Whole Foods and Trader Joe’s.

It was stuck for five months in the spot market, where prices fluctuate minute to minute, while it proved its output was reliable.

“The risk is no one will buy from you until you can prove to them you can grow big quantities. At one time US $9 million worth of supply had to be re-ploughed back into the ground,” Ciachurski laments.

It’s only really in the last month Captiva has found itself in the happy position of selling all its production on contract.

“That means that everything we grew already had a buyer by the time it goes in the ground,” adds Ciachurski.

So what does the future hold?

“Tremendous growth,” Ciachurski says.

The organic vegetable market is worth around US $35 billion a year and is expanding at some 12-15% annually. That rate is forecast for the next 10 years.

Captiva, meanwhile, is making remarkable financial headway.

In 2015 it reported US $9 million of losses. By November it was producing US $500,000 a week worth of vegetables but selling it at only $200,000.

As of 8 May, Captiva has 455,000 pounds of produce a week fully contracted, which brings in US $570,000 a week in sales (the equivalent of almost CDN $30 million of annual sales).

“We are the only company that even has those kinds of revenues on the CSE and the only publicly traded 100% organic farming company,” he points out.

Further expansion is on the books as Captiva looks to some strategic acquisitions.

The company announced last month that it was considering buying two companies – a large food broker and a substantial salad making operation – to expand right through the organic produce supply chain.

The acquisitions will add a further US $13 million of sales a year for the group.

“We’re a growing company in a growing market. Since October 2015 we started from zero sales to now US $1 million a month. Now, as of May, we are moving to US $2.5 million a month,” explains Ciachurski.

“We are fast making money in a dynamically growing sector, and that’s what investors want to see.”

Learn more about Captiva Verde Industries Ltd. at http://www.veg.net/ and on the CSE website at http://thecse.com/en/listings/diversified-industries/captiva-verde-industries-ltd

Laguna Blends – Combines Unique Product, Technology Edge to Put Own Spin on Network Marketing

This story was originally published at www.proactiveinvestors.com on May 25, 2016 and featured in The CSE Quarterly.

Technology companies are renowned for their rapid growth rates, but apparently even they can’t keep up to successful groups in a tried-and-true business that many of us are in contact with all the time.

Network marketing, also known as multi-level-marketing (MLM), is the practice of individual direct sales coupled with recruitment of new direct sellers by existing salespeople.  If you are thinking Amway, you’re on the right track.  With some 3 million salespeople worldwide, Amway is the MLM king, recording US $9.5 billion in sales in 2015.  Avon (NYSE:AVP) and Herbalife(NYSE:HLF) are among other big MLM names.

Laguna Blends (CSE:LAG) is the latest entry onto the MLM scene and the potential to go from zero to 100 overnight was one of the key factors that convinced its founder to go all in.  “I have put over $1 million of my own capital into the company,” says Stuart Gray, Laguna’s CEO.  “Successful MLM groups grow faster than tech companies so one of the nice things about Laguna is that we have the ability to get bigger really quickly.”

Laguna began its sales quest in March focused on the nutritional and health benefits of products containing hemp.  Hemp is known for being rich in protein, as well as omega fatty acids 3, 6 and 9, plus magnesium and other nutrients important to a balanced diet.  Gray summarizes the product category as “functional beverages” given that a hemp-infused instant coffee and four flavours of a sports drink mix called Pro 369 (after the omegas) comprise the initial product line.

Gray originally learned about the benefits of hemp as a consultant to several companies in the medical marijuana industry.  But while the health benefits of hemp strains used for food, as opposed to intoxication, were obvious, he felt that the approach to selling these products could be improved upon.

“We see hemp-based products on the shelves at many of the biggest food retailing names in the world, but in some cases the product has not sold through as well as the producers thought it would,” says Gray.  “There remains a lot of education that needs to take place as to the true value of hemp, so we chose direct marketing because it enables potential customers to really learn about what they are buying.”

Gray understands that MLM is an ultra-competitive universe and as such is relying on more than just unique products to set Laguna apart.  “We are definitely differentiating ourselves by pioneering hemp-based products that nobody else has,” explains Gray.  “But really, how we separate ourselves is through technology.  We have virtual 3D technology that replaces the need to go to hotel meetings to learn how to recruit.  Everything you need to build your business is on there.”

The objective of a company such as Laguna is to provide products, infrastructure, support and training for independent affiliates, he explains, whose role it is to then go out and build the business through sales and recruitment.

Gray says the combination of unique product and what might be the industry’s only 3D training and administration platform enabled the company to grow its affiliate network from zero at the beginning of March to 700 members in Canada and the US less than one month later.  “We have proven that we can do this,” he says.

It is not only affiliates that Gray has been able to attract to Laguna.  In early May the company announced that Ray Grimm had agreed to come on as president.  Grimm has some 25 years of experience in direct sales of weight loss and nutritional products, and is credited with leading three companies in the space to north of $50 million in sales in their first five years.

“Ray is considered a legend in this industry and he told me we have not only great products, but the best technology he has ever seen,” says Gray.  “I really think that if you look at digital disruption, we are one of those companies that changes the game.”

Another key member of the team is Stuart Kawasaki, president of wholly owned subsidiary Laguna Blends USA, who has been in network marketing since 1988.   “One of the companies he was a consultant with early on did $1 million of sales in its first year, $15 million in the second, and by year five was over $300 million,” explains Gray.

Experience is deep on the technology side as well, with Martin Carleton and Charles Carleton – early contractors to the team that built Skype – overseeing technology for Laguna Blends.  Martin also sits on Laguna’s board of directors.

The company has inventory ready to go with a retail value of about $1.65 million, so at a 40% payout on sales to its affiliates, Laguna looks set to generate good numbers as product begins to make its way out of the warehouse.

With proven management in place and product straining at the gate, Gray anticipates meaningful levels of revenue are just around the corner, following in virtual lockstep with expansion of the associate network.  “It is no different than when a stockbroker goes to a new firm, his clients follow him,” says Gray.  “If you are an MLM leader and you move, some of your people follow you.”

Given the company’s technology leanings, social media is also proving to be a worthwhile recruiting tool.  “With Laguna having the leading technology, a lot of people found us through social media,” explains Gray.  “I ask newcomers who they were referred by, because we always want to make sure that the affiliate gets credit, but in many cases they just found out through an article or a video.  MLM can now even spread through networks where people e-mail their base a video or put it on social media and it goes viral.”

Not on that dangerous edge where you are re-inventing the wheel, nor on the lost-in-the-crowd track of doing the same thing as everyone else, Laguna Blends has apparently positioned itself in something of a sweet spot by introducing modern tools and unique products to an established industry.  With an experienced executive team in place and sales underway, the company and its investors will soon find out just how many tech companies Laguna can leave in the rear view mirror.

Learn more about Laguna Blends Inc. at http://www.lagunablends.ca/your-company and on the CSE website at http://thecse.com/en/listings/diversified-industries/laguna-blends-inc

Strong second quarter for CSE leads to record first half of 2016

CSE is proud to present its most recent quarterly update video and press release below highlighting the record first half of the year at the Canadian Securities Exchange:

Growth in Trading Volume and Financings Highlight Productive Q2

CSE Posts Record Activity in First Half of 2016

The Canadian Securities Exchange (CSE) is pleased to release an update on activity of the second quarter of 2016, resulting in a record first half of 2016 highlighted by record trading volume, changes to listing requirements, and initiatives to help CSE issuers build on recent positive momentum in financing and other aspects of corporate development.

Key Statistics

  • Trading volume in CSE listed securities grew 64% compared to the first half of 2015 to 2.01 billion shares;
  • The CSE finished the first six months of 2016 with 328 listed securities, up 12.3% compared to the same period the previous year;
  • CSE companies conducted 178 financings for total gross proceeds of $123 million, up 28.4% over the first half of 2015;
  • Trading on the CSE in securities listed on other exchanges totaled 1.82 billion shares, an increase of 19.1%.

Growth in trading volume and financing proceeds during the first half of the year reflected both the increased number of securities listed on the CSE and noticeable improvement in Canadian investor sentiment across all sectors. The 2.01 billion shares traded in CSE listed securities in the first six months of 2016 puts the exchange well ahead of its pace of 2015, when a record 2.47 billion shares traded for the full year.

The CSE is proud to highlight a busy first half supporting issuer outreach to the financial community with a variety of activities. These include CSE Days held in major cities where executives enjoy the opportunity to present to audiences of financial industry professionals, retail investors and issuer peers.

The exchange also published new issues of its CSE Quarterly magazine, the most recent leading with a profile of the CSE’s top performing companies as measured by growth in market capitalization (the CSE Quarterly magazine can be viewed at https://blog.thecse.com/2016/06/01/cse-quarterly-issue-9-now-live/).

In addition, the CSE launched a new website in April. The modern format makes it easier for investors to gather information on CSE companies, and for both existing and prospective issuers to access the resources they need to make interaction with the exchange as efficient and cost-effective as possible. The CSE’s new website can be accessed at http://www.thecse.com.

Other achievements in the first half of 2016 included a comprehensive update to initial listing requirements. Proposed changes were published for comment in February and following feedback the modified rules were submitted for regulatory approval. The new requirements will become effective in Q3 upon publication of a notice from the exchange.

In the second half of 2016, the exchange will work to finish a review of continued listing requirements for listed companies. A list of proposed amendments will be published for comment in the near future.

“The CSE team is constantly working on new and dynamic ways to drive our mandate, which is supporting entrepreneurs and lowering the cost of capital for early stage companies,”

said Richard Carleton, CEO of the Canadian Securities Exchange.

“The activities we undertook in the first half of 2016 made our offering as an exchange stronger, as evidenced by growth in both trading volume and financings closed by our issuers. We will continue to support CSE listed companies with a variety of public efforts, and by working with regulatory authorities to improve the operating environment for Canadian financial markets as a whole.”

For the full-length semi-annual interview with CSE CEO Richard Carleton please click here for the transcript.

Beleave – advancing smoothly through medical marijuana approvals with eye on big sales, margins

This story was originally published at www.proactiveinvestors.com on May 17, 2016 and featured in The CSE Quarterly.

Marijuana sales reached nearly US$1 billion in 2015 for the state of Colorado, where the drug was cleared for recreational sale just over two years ago

As the social narrative and legal argument surrounding marijuana continues to evolve, an intriguing dilemma is posed for a typically conservative mainstream investment community.

Investors looking at Beleave Inc. (CSE:BE) will likely have polarised opinions depending upon their age, politics and life experience.  Indeed, the issue of marijuana’s decriminalisation and commercialisation is very much loaded.

But, whatever an individual’s standpoint on the moral or ethical merits of this emerging industry, one thing is quite clear; a pragmatic look at the business case reveals a compelling argument for the growing sector.

Marijuana sales reached nearly US$1 billion in 2015 for the state of Colorado, where the drug was cleared for recreational sale just over two years ago.  According to the state’s authorities some US $135 million was collected in taxes and fees related to the pot business that year.

Colorado is one of four US states to legalise marijuana for recreational use (the others are Alaska, Oregon and Washington).  Twelve others, including big markets such as California and Nevada, now allow consumption for medical purposes.

In Canada, the medical marijuana business has legalised progressively over the past 15 years.

But, the major turning point came in 2014 with the introduction of the Marijuana for Medical Purposes Regulations (or MMPR) by the government’s Health Canada arm.

Newly-elected liberal Prime Minister Justin Trudeau in November announced that marijuana would be legalised for recreational use in Canada during 2017.

It represents a major opportunity, particularly for Beleave.

Although there’s a lot going on around the edges for Beleave – with the company working on various research and development projects – at the moment the story is quite a simple one.

Beleave is the next man up for regulatory approval

Around 30 companies have been given the regulatory green light for medical marijuana.

And as Beleave chief executive Roger Ferreira explains it, his company is currently in the advanced stages of the regulatory licensing process with Health Canada.  Being in the final stages of the approval process, the regulatory decision is expected soon.

With the help of chief operating officer Bill Panagiotakopolous, and his construction industry ties, the company has now built at low capital costs a 14,500 square foot production facility designed to meet Health Canada’s requirements.

The facility, in Hamilton, will be capable of producing some 550,000 grams of marijuana each year and, crucially, it is designed to be scalable so that the production line can grow in lock step with the commercial side of the business.

That scalability will be key. Ferreira says initial market research to date indicates Beleave could sell out its entire capacity within a year from the start of production.

Prescribed patients on average consume between one and three grams of marijuana per day, he explains.  As such just 270 to 800 registered patients would be needed to max out the group’s supply in year-one, giving the company revenue of $4.2 million with margins of 72%.  As demand for the product increases the company has already laid the groundwork for expansion of up to 270,000 square feet with margins increasing to 83% and revenue growing past $100 million.

At the same time the demand for licensed marijuana in Canada is forecast to soar.

The number of registered patients has grown at a rate of 20,000 patients per year since the regulatory framework was brought in during 2014, and the introduction of a recreational use market is expected to see customer numbers swell further.

So what’s next in the medical marijuana licensing process?

To be green lit in Canada, a grower has to complete a three step permitting process.

First, the company needs Health Canada to approve the drug for cultivation (i.e. growing). This is what Beleave is currently waiting for.

Once licensed for cultivation the company will then be able to legally obtain already sourced seeds and ‘clones’ for planting and begin the process of growing cannabis plants.

Health Canada assesses and reviews the operation throughout as part of the new regulation process.

A separate license is then required for harvesting.  Without a harvesting license the plants cannot be cut, dried or processed in any way.  After that, a third license is required to allow the company to commercialise the product.

From an investor’s point of view this represents a critical focus for the next year.  Ideally, Beleave will want a seamless transition through each of the three stages – as bottlenecks through permitting could see harvests missed and the loss of potential sales.

The grow op

Previously, Canadian patients were legally allowed to grow marijuana for their own medical purposes.

New regulations, introduced in 2014, aimed to create larger scale third-party suppliers to deliver a safer and more medically appropriate product.

“They wanted to establish an infrastructure whereby there was a commercial base, with a lot of quality assurance oversight to ensure that the product is safe for use,” Ferreira told Proactive Investors.

“With what patients were growing themselves, in their basements, it was unclear what the quality was in terms of potency, contaminations and consistency.”  Furthermore, there are other inherent public safety concerns associated with such a system, including diversion of plant material to illicit markets, as well as the potential for gang-related violence.”

He added: “Our facility is pharmaceutical-grade in terms of quality assurance procedures and manufacturing practices. We’re taking extremely heavy security precautions, and putting in place extremely stringent reporting requirements in terms of inventory and surveillance.”

“All of that is being done to ensure a clean, safe and high quality product.”

“It is a state of the art facility that encompasses all of these things.”

Research & development is a key focus for Beleave

Ferreira, a Phd who has authored peer-reviewed papers on neuroimmune pharmacology, highlights that research and development and academia are a key focus for Beleave.

By concentrating on science he expects the business to produce a clinically efficacious drug, as well as creating consistently potent and safe marijuana products.

Central to its R&D effort is a collaboration partnership with researchers at Ryerson University, Ontario, and parts of this work is grant-funded.

“We are working on extraction and drug standardization of cannabinoids and other pharmaceutically relevant compounds in the plant material, with the aim of developing exciting and innovative IP surrounding cannabis-based pharmaceutical therapies” said Ferreira

“Standardisation of cannabis based medicines will allow them to be considered more than just a crude plant or extract, and more as a regulated substance that’s highly characterised and has a composition that’s suited to pharmaceutical use.”

He pointed out that while cannabis is being used to treat the symptoms of multiple-sclerosis, and as ad-hoc pain relief in cancer care, it still is not an approved drug.

It remains a narcotic where the evidence of its effects is mainly anecdotal.

“There’s emerging clinical evidence of its usefulness for certain illnesses,” said Ferreira.

“But, you cannot advertise it right as a specific treatment yet. It hasn’t really been proven out, there isn’t a lot of evidence data. And there are reasons for that.

“When you look at availability in the market, there are so many different strains with all these different names and varying qualitative aspects to them – to do with aroma, flavour, strength and effects.

“These things attract a consumer’s eye, but what the clinical community is more concerned with is to do with potency and therapeutic benefits.

“So we have been looking at how we can establish a production facility that, with good working practice, can ensure reliability, repeatability and a uniform product.

“And that is what is going to make cannabis a more standardised medicine, and help move perceptions away from the idea of it being a crude plant material.”

Learn more about Beleave at http://beleave.com/ and on the CSE website at http://thecse.com/en/listings/life-sciences/beleave-inc

Navigating Shifting Landscapes: An Interview with Richard Carleton, CEO of the CSE

Richard Carleton, CEO of the CSE
Richard Carleton, CEO of the CSE

The first half of 2016 has been eventful for the CSE as well as for early-stage securities markets more broadly. With a return in trading activity and prices in the shares of early stage companies, investors are once again shifting focus back to  growth stage firms.

While price action is one part of the story of any publicly listed entity, there are also other forces that influence the health, competitiveness and overall sustainability of the growth stage marketplace.

In a recent interview with Peter Murray of Kiyoi Communications, CEO of the CSE Richard Carleton discussed some of the milestone achievements at the Exchange for Entrepreneurs thus far in 2016, as well as his take on the forces shaping capital raising structures and participants.

Below is the transcript of their interview:

(PM) Earlier this year the Investment Industry Regulatory Organization of Canada (IIROC) requested written proposals for addressing market structure issues facing small-cap issuers.  What were some of the important themes identified in the CSE’s response?

(RC) IIROC asked a variety of participants in the small capitalization space – exchanges, issuers, broker dealers and other stakeholders – to comment on, and propose potential solutions to, a number of specific issues raised over the last few years within the industry.  This took place on a couple of levels, one being the technicalities of such things as short sale rules, tick size and board lots.

The CSE thought it was also important to look at the bigger picture and where the industry can go over the longer term to address what we think is a significant issue, which is a noticeable reduction in buyer interest.

When we look at what has happened to the junior capital space in Canada over the last five to seven years, the decline in commodity prices has clearly had a major influence.  For certain, it has encouraged some investors to look at opportunities outside the small-cap space.  But we think that the problems afflicting small-cap formation in Canada go beyond the decline in commodity prices.

Broad industry change is continuing to take place, a big one being the decline of the independent brokerage firms in Canada, and a rising concentration of assets under management at bank-owned dealers.  The independent firms have long been an important part of the community helping to finance resource exploration, technology research and other forms of business development important to the Canadian economy.

What we see in the current environment, however, is that many of the independent firms have disappeared, with the remaining firms experiencing extreme pressure on their business models.  These firms are an important source of retail investor interest in small-cap stocks through the support of their investment advisors, where a dealer will commit to an underwriting or participate in a dealer syndicate supporting an underwriting or capital raise.  And in the secondary market they support trading through stock recommendations and research.

That model has broken down to a significant extent over the past five years and instead what we increasingly see is corporate finance being conducted through the exempt market.  Speaking from the perspective of the CSE, we see about 90% of the money raised by our issuers coming from the exempt market.

So-called accredited investors are the primary source of capital in the exempt market.  But accredited investors in Canada only represent about 1-2% of all households.  This sharply narrows the number of investors eligible to participate in small-cap financings and, needless to say, limits the amount of money available for companies to raise.

The industry has adjusted to the decline of the independent broker by leaning more and more on the exempt market.  But at the CSE, we are concerned that this is far from a complete answer to corporate finance challenges moving forward.

(PM) What do you see as some of the solutions to reinvigorating the early stage capital formation process in Canada?

(RC) One of the things we really need to do is engage the next generation of investors.  The industry is not doing a good job of encouraging the next generation of investors to come into the Canadian equity markets.  One approach to consider is providing a very clear set of guidelines for early stage crowdfunding.  It is a potential source of modest amounts of money, say around $1 million to $1.5 million, but the funds can be acquired at relatively little cost to the companies raising the money.

The problem in Canada is that we have a fragmented regulatory regime with different sets of rules dictating how crowdfunded offerings can be marketed, depending on the residency of the potential investor.  This makes it confusing for people to know if they can participate or to what extent they can participate in a given offering.

It also makes it difficult for those managing the websites that people use to find out about different investment opportunities to carry out compliance activity on a national basis.  The whole process becomes complicated and the likelihood of making mistakes rises significantly.  You have to decide between limiting an offering to a province or group of provinces that have the same rules, or taking on the compliance risk associated with doing a national offering across Canada.

That’s a real problem that adds cost, complexity and confusion for everyone involved.

The other issue is that once a company is beyond the crowdfunding stage, there really isn’t much other than the accredited investor exemption to help companies to raise funds.

The CSE is looking very carefully at new legislation in the United States that has come into force just recently under the JOBS (Jumpstart Our Business Startups) Act.  The objective in that case was to provide a relatively simple means of raising equity capital from the public that eliminated the necessity of having to file a prospectus with the Securities and Exchange Commission (SEC) or become a reporting issuer with the SEC.

In the United States, companies will be permitted to raise up to $50 million per year and to market these offerings to individual investors subject to participation limits of $1,500 per opportunity and an aggregate of $10,000 per year for each investor.  These rules are in place across the United States and require a relatively limited amount of work on behalf of an issuer.  For companies on the CSE it would be a very cost effective means of raising capital from individual investors because our companies already meet most of the requirements to participate in such offerings.  They file quarterly financial statements, their audits are subject to annual review, secondary trading is monitored by an independent third party, plus they have continuous disclosure requirements and are regularly providing updates to the investing public.

With all of those benefits available, CSE companies are positioned well to take advantage of such funding opportunities.  In fact, we already have one company in the process of marketing an offering under the JOBS Act right now.

We would really like to see a similar mechanism put into place in Canada because it would provide a bridge between crowdfunding and full-blown prospectus-led offerings, which have to be reasonably large before the associated cost begins to make sense.

One of the key things to understand here is that instead of limiting participation to accredited investors – people with large investment portfolios or substantial annual incomes – the new rules actually present the opportunity to engage a whole new generation of investors in the equity market.  And really it is that generation that we have to bring into the market in order to provide a successful and healthy ecosystem for capital formation in the coming 15-20 years.

When I go to industry events, I am often surprised at the average age of people in attendance.  The average is quite high and that is not a sign of an industry positioned to continue supporting the needs of growing enterprise in Canada for the next generation.  We need more young people engaged and we feel that a clear-cut means of permitting them to invest in companies directly and trade the shares afterward is very important.

(PM) What specifically is the CSE doing to help ensure this new environment is fostered?

(RC) I think one of the challenges we have in Canada is the fragmented regulatory regime when it comes to equities.  It is pretty clear if you look where we are with crowdfunding rules and how different they are across Canada that we don’t have an awful lot of commitment to broadening access to the equity markets from the various securities commissions.  I think what we are going to have to do is engage the political side.

When you look at any of the provincial governments, and certainly the federal government, they frequently talk about supporting innovation, new technology development and entrepreneurship.  You can’t read a press release from any of the governments over the last little while without seeing those ideas held up as a means to promote economic growth in Canada.

The problem is that none of this is going to happen if these new companies can’t get funding.  And there is a limit to the amount of public funds that can be devoted to the space, so we are going to have to figure out ways to engage the private investor in these companies.

This is a long-winded way of saying I think we are going to have to actively engage the political side, which is exactly what happened in the United States with the JOBS Act.  That in fact was not an initiative of the Securities and Exchange Commission, but something that came from Congress as a means of promoting investment in early stage enterprise in the United States.  We think there would be substantial political will for a similar approach at the provincial and federal levels in Canada.  I think that is the path to genuinely reforming the investment process here in Canada.

(PM) The CSE recently launched a new website that clearly was created with a specific vision in mind.  How has the reaction been so far?

(RC) The response has been almost universally positive.  People really like the modern, clean design and particularly how easy it is to navigate on the website using a mobile device.

We are learning a lot about where visitors go and what types of information are most important to them.  This enables us to be responsive in making sure it is easy to get to the most popular types of information.  You can plan all you want, but when the real-life data comes in you always see things you were not aware of.

I’m also excited by our greater use of social media, which includes promoting our blog through Twitter plus posting photos, and sometimes even real-time video, of specific events.  That is an area where I think we will continue to extend our presence as the website evolves.

Actually, social media is a topic worth discussing further.  Most, if not all, dealers in Canada prevent their investment advisors from using Twitter, Instagram and other social media platforms for communicating with existing and potential clients.  From a compliance perspective, they want the ability to control and edit messages before they go out, but the immediate nature of social media makes it a difficult fit for that type of tightly controlled environment.

Now, contrast that with the US JOBS Act provisions, which allows securities to be marketed over the Internet.  That is something perhaps the older generation may not be so comfortable with, but it is how younger people get their information and shop and interact with the rest of the world.  If we as an industry are not prepared to engage with people using social media, we’re in trouble.

(PM) The new website and social media are not the only ways in which the CSE interacts with its audience.  You are doing quite a bit to help issuers tell their stories via the CSE Quarterly magazine, company-specific articles, video opportunities, an extensive blog and person-to-person interaction at CSE Days.  What is the ultimate objective of these activities, as they obviously require the exchange to commit significant resources?

(RC) We want to provide multiple platforms on which issuers can tell their stories.  One of the challenges you have as an early stage entrepreneurial company is that there are not usually a lot of specialized public relations and investor relations professionals around to help out.  Everybody at the company is too busy trying to build the business.  Whether it is development of a technology, or if it is to advance an exploration program if you are a resource company, they often don’t have the time or resources necessary to engage with those in the community who are potentially interested in their story.

As an exchange, we can help our issuers to help themselves by providing all of these different vehicles for conveying their excitement about their businesses to a broader community than they might otherwise reach.

(PM) Toward the end of February, the CSE requested comment on proposed changes to its listing requirements.  What kind of feedback have you received and how close is the exchange to implementing some of its ideas?

(RC) We received approval from the Ontario Securities Commission in late June to implement the proposed changes, so you’ll be seeing them take effect shortly.  We had not amended our listings criteria since we launched in 2003.  With the benefit of over a decade of operating the exchange, and also given the price inflation that has taken place over that time frame, we felt it appropriate to update a number of the financial measures in the original rules.  We have also provided a lot of guidance around certain types of transactions, whether it be reverse takeovers or companies creating reporting issuer subsidiaries through plans of arrangement.  We want to provide very clear guidance about what our approach is to all types of prospective applicants.

We first worked with the securities commission on the proposed amendments, and then put them out for public comment.  The comments were quite supportive and we also received some questions that were addressed through minor amendments to the proposals.

I would point out that we expect to shortly be proposing further amendments to our listings policies and requesting comment on them as well.  The new proposals will mostly focus on continued listing requirements so that we have certain financial and other measures companies have to meet if they are to remain listed on the exchange.

By and large they are not focused on the price of the shares or trading activity because that can be a result of factors beyond a company’s control.

The exchange’s list of issuers continues to expand and we are seeing more and more fast-growing, high-profile companies choose the CSE as the exchange on which they want to build their business.  It is important that we keep pace with this interest and expansion by continually reviewing how we operate as an exchange and make sure we are serving our user community in the best way possible.

Market Structure Issues Affecting Small‐Cap Issuers: CSE Submits Comments to IIROC

As part of a number of initiatives undertaken this year  to enhance the stability and integrity of Canadian capital markets, the Investment Industry Regulatory Organization of Canada (IIROC) sought comments from capital markets stakeholders on factors impacting micro and small-cap issuers.

With well over 300 publicly listed small-cap securities, the Canadian Securities Exchange (CSE) serves as an important bellwether for forces impacting this vital segment of the securities ecosystem. As such, the CSE provided its perspectives on a number of regulatory as well as operational items that could provide direction on improving capital formation for stakeholders in the micro and small-cap space.

Below is the full text of the letter submitted to IIROC detailing the CSE’s comments. All submissions, when published, will be available on IIROC’s website.

Introduction

The Canadian Securities Exchange (the “CSE”) is pleased to submit its observations and recommendations in response to the Investment Industry Regulatory Organization of Canada’s (“IIROC”) request for proposals on “Market Structure Issues Affecting Small‐Cap Issuers”.

The CSE’s view is that many of the market structure concerns voiced by small‐cap market participants over the last number of years are symptoms of a fundamental problem: an absence of buyer interest and participation in these markets. Some of the reasons for this challenge are beyond the control of industry participants. The collapse in the price of many commodities during the current business cycle, and unfavourable demographic trends in the retail investment population who have historically participated in these markets are a big part of the challenges faced by issuers, advisors and marketplace operators in the small‐cap space. The CSE believes, however, that there are a number of measures that can be adopted by the industry to address issues under our control. These measures fall into two broad categories:

  • Address the capital formation challenges faced by issuers and their advisors, and reduced participation rates from retail investors in initial finance transactions. The exempt market in Canada should be enhanced with measures similar to those now in force in the United States as a result of the implementation of Regulation A+ of the JOBS Act. Doing so would provide a bridge between the attempts to create a crowdfunding regime for very early stage capital raises and the traditional prospectus‐backed IPO market. The current exempt market, which provides the majority of small‐cap finance, is by its nature limited in scope in both the dollars that can be invested and the number of potential participants. The CSE believes that many of the market structure mechanisms proposed will not provide any long term relief to the problems identified, unless the buyer problem is addressed. Unless new classes of market participants are able to enter the small‐cap finance and trading space, we are concerned that technical changes to the trading rules will not bring about the anticipated benefits.
  • In the second part of our submission, the CSE will provide its views on many of the issues raised by industry participants and cited by IIROC in the Request for Proposal.

Importance of Canada’s Small‐Cap Finance Community

It bears repeating that Canada’s early stage public capital market is an important component of the country’s economic success. Entrepreneurs from every industry group have benefited from their ability to finance business development from the public markets at a lower capital cost than would be available from private sources. Where businesses in other countries have to rely on expensive and restrictive private sources of finance (e.g. bank debt, private equity, venture capital funds), Canadian companies have been able to raise billions of dollars at reasonable cost from public market investors. Canada’s investment dealers and marketplace operators have supported this primary capital formation process with fair, efficient and accessible secondary market trading services. Investors from all income brackets have historically been able to share in the growth of the country’s capital markets through their ability to buy and sell small‐cap stocks. The liquidity, and resulting price discovery efficiencies, that these investors contribute to the market has further supported the ability of companies to raise needed capital from the public markets. Unfortunately, the traditional primary and secondary market model for small‐cap finance in Canada has broken down. The days of an IIROC member investment dealer advising a company and assisting on the placement of its initial distribution of securities under an offering document, while supporting secondary market interest through the provision of research coverage and investment advice via a network of advisers are irretrievably past. The vast majority of funding raised by companies listed on the CSE and the TSX‐V now comes from the exempt market. Advisors at IIROC member investment dealers are increasingly less likely to recommend client participation in both primary and secondary market small-cap investment. Secondary market trading activity comes principally from retail investors through the discount brokerage networks. Dealers are committing less and less capital to market making and other proprietary secondary market trading activities. While we will leave it to the practitioners from the sell side to enumerate the reasons for the shift, we do not believe that any of these trends are positive for the Canadian capital markets.

In current small‐cap finance, the principal source of exempt market funds is the accredited investor exemption. Covering a minute percentage of Canadian households (approximately 1 – 2%), accredited investors account for a major percentage of funds raised by CSE issuers. The CSE believes that to address the capital formation challenges faced by small‐cap issuers, access to the exempt market should be expanded. At the same time, the industry needs to collectively come to an agreement as to the role that new forms of investor engagement can and should play in the capital formation process. Many registrant firms, citing compliance concerns, will not permit their advisors to use social media to communicate with clients and a broader investor audience. Small‐cap issuer firms and their advisors are also reluctant to employ social media for similar reasons. Given that an entire generation of potential market participants consume news and information via social media sources, the industry is cutting itself off from the future. Accredited investors skew older than the population as a whole (which is itself aging rapidly), and ultimately represent a declining pool of market participants. Unless we can collectively engage a younger, less affluent, group of market participants, the public capital formation process is doomed to irrelevancy.

Small-cap investors may need to brace for lower returns There is also an important public policy reason for broadening participation rates in the small‐cap finance and trading markets. A report published by the McKinsey Global Institute on May 2, 2016, (Diminishing Returns: Why Investors May Need to Lower Their Expectations) suggests that investment returns in developed markets in North America and Europe are likely to be significantly lower in the coming 20 years than they have been in the preceding 30 years. The two principal reasons cited in the study are the prospects for lower overall growth in these economies and the lack of population increase. If this forecast is accurate, investors seeking higher than developed market returns will have look to investments in the small‐cap markets. If we continue to, effectively, limit participation in the small‐cap capital formation process to the accredited investors, we are denying the opportunity to access these investment opportunities to the vast majority of potential investors. This harms not just the investors themselves, but the companies looking to raise growth capital from the public markets.

To build a new constituency of younger and engaged small‐cap market participants, the CSE recommends the following steps be taken across the industry:

  1. Harmonize the crowdfunding rules across Canada. The current crowdfunding regime in Canada is too complicated: the steps required to ensure a compliant national offering are extensive, and eat into the modest potential proceeds of the process. The likelihood of a company unintentionally breaching the guidelines in a particular province or territory is high. The fragmented rules also raise compliance costs for portal operators hoping to conduct business across multiple jurisdictions. Economies of scale are more difficult to achieve, raising capital costs for their clients. The United States, in contrast, has a set of rules in place under Regulation A of the JOBS Act that provides for a clear set of guidelines across all 50 states.
  2. Implement a new means of prospectus‐exempt financing modelled after Regulation A+ of the United States JOBS Act. Unless we extend participation in the exempt market beyond the accredited investor exemption, the small‐cap finance industry will fail to gain the engagement of a new generation of potential investors. The success of television shows like “Dragon’s Den” in Canada and “Shark Tank” in the United States suggests that there is an appetite for entrepreneurial stories that extends far beyond the small segment of population represented by the accredited investor class.
  3. Regulation A+ permits issuers to promote participation in their fundraising initiatives through a variety of non‐traditional means. Canadian regulators, investment dealers and advisors, and small‐cap issuers have to come to grips with appropriate uses of social media and other communications media to engage with the broader investor population. As an exchange, the CSE can provide guidance and specific training to its issuers in these opportunities, if the rules are well understood.

If we are unable to engage a new generation of investors, whose numbers and potential investment resources are significantly larger than the few accredited investors relied on by the industry currently, then all of the technical measures designed to improve the operation of the small‐cap markets will prove irrelevant. While IIROC cannot alone implement any of these changes, the organization can be an important focal point for reform in assisting the industry in developing new means of engaging with the broader investing public.

Marketplace Operation Issues

As indicated in the introduction, the CSE has a number of views and comments on the marketplace operation issues cited in the Request for Proposal.

Short sale proposal

The CSE is sympathetic with issuers and their shareholders who believe that the current short sale rules, combined with the absence of buyer interest in many small‐cap stocks, provide a low risk opportunity for short sellers to profit. Allowing the short sale to create a new downtick, particularly in the case of sub‐10 cent stocks, results in a material decline in the market cap of the company. When the short position is covered, ideally (from the short’s perspective) at a still lower level, an even larger slice of the market cap of the company has disappeared. This is particularly frustrating for companies that are attempting to conduct a financing. The ability of companies to raise funds at greater than 5 cents per share (the minimum threshold for TSX‐V and CSE‐listing companies absent an exchange exemption) can be compromised by short selling pressure in the secondary market.

The CSE is prepared to support rule changes that will place restraints on the ability of short sellers to create a downtick on the initial trade. We do not support, however, a re‐institution of the former rules that were enforced at the trading system level of the exchanges. Bringing back the former rule, which involved a significant amount of programming and testing, would take a lengthy period of time to institute. In our view, the rule should be that a declared short sale may only be entered when accompanied by the “passive only re‐price” tag. The tag will enforce the requirement that a short sale has to be booked; it may not cross the spread to execute. If an order crosses the spread to trade against the short sale order, the likelihood is that the new sale price will represent an uptick from the last traded price. All of the Canadian markets currently support the passive only re‐price tag; instituting the new rule would not be held up by a lengthy technical implementation process. We would also support the standard exemptions (for example, exchange appointed market makers should be able to sell short without restriction), as were present in the former short sale rules. At first blush, we do not believe that firms using the “short mark exempt” tag (“SME”) should be exempt from this requirement. In general, these firms are computer aided, proprietary, high frequency trading firms that are not generally active in the small‐cap markets.

Settlement discipline

IIROC should examine whether firms are properly enforcing the short sale covering requirements. As a general rule, small‐cap stocks are not available for loans, nor are they margin eligible. For many stocks, there may be no assurance that a short position may be covered within the time limits required under UMIR. If firms are not enforcing the requirements properly, the economics of predatory short selling activity would improve to the detriment of the issuers, their shareholders and the broader market.

Tick size

We do not believe that modifying tick size for low priced stocks would have a material impact on liquidity or price continuity. The experience of the broader market when decimals were introduced suggests that overall liquidity would not change, but order size at each increment would decrease. Because more price levels would have to be accessed to fill orders, volatility would increase by reducing price continuity. Our experience for CSE‐listed stocks is that, in any event, the typical spread for the majority of small‐cap stocks is not at the minimum half‐cent or penny increment. Proponents of smaller tick size suggest that the measure would reduce the impact of short selling activity. In the CSE’s view, instituting the “passive only” requirement for short sales would have a more powerful impact on the identified problem. Proponents of larger tick size suggest that their plan would increase potential profits for market makers and other firms committing capital to trade a particular stock. The CSE suggests that IIROC and industry members study the results of the “Tick Pilot” in the process of being implemented in the United States before considering amendments to UMIR’s tick size provisions.

Board Lot size

Increasing board lot size is cited by a number of parties as a means of restricting short sale activity in small‐cap stocks. As described above, the CSE believes that the better measure is to prevent a short sale order from crossing the spread to execute the trade. Increasing the board lot size would have a significant negative consequence: many retail shareholders might find themselves holding an odd lot position in the stock. Odd lots receive no price protection in the secondary market, and, as a result, may trade at any price without violating UMIR or the national instruments. Execution quality for odd lots is a regular customer service issue for dealers: the CSE often deals with complaints from clients on the price that they received when trading an odd lot. The CSE has appointed odd lot market makers to address this concern, as odd lots orders are now automatically executed against the market makers book at the bid or the offer price. The fact remains, however, that handling customer odd lot orders effectively is a challenge for retail oriented investment dealers. Expanding the number of client odd lot orders would be harmful to the goal of increasing investor confidence in the fair and efficient operation of the small-cap markets.

Electronic trading

A number of industry participants have cited the advent of electronic trading as a major disruptor to the fair and efficient operation of the Canadian small‐cap markets. The CSE has supported research efforts by IIROC and other entities over the years aimed at identifying the impact of market participants who use computer driven strategies on the markets. From a CSE perspective, we have not been able to identify significant participation by these traders in the small‐cap names. We know these accounts from their activity in the highly liquid Canadian large‐cap stocks that the CSE posts alongside its listed companies. The CSE is in a position to say that these firms are not active in the CSE‐listed market. In general, the small‐cap market is simply not liquid enough to support strategies which effectively require the trading account to be flat at the end of the day.

Day trading activity

An area that has not been carefully studied to date is the impact of so‐called “day trader” activity on the operation of the small cap markets. Distinct from the high frequency trading firms, the day traders are generally individuals trading from their own account through a small number of firms established specifically for the purposes of supporting this kind of trading activity. Although these individuals may use computers to aid their trading, they do not rely on low latency strategies to achieve their trading goals. They also, unlike the high frequency traders, appear to be prepared to hold significant positions in a particular stock over a period of days. The CSE would welcome further study of the activities of these day traders, and encourages IIROC and the securities commissions to encourage this effort.

Conclusion

The CSE thanks IIROC for the opportunity to discuss these vitally important issues in an industry forum. As we have stated throughout this paper, our basic concern is that modest reform to the trading rules will not address many of the issues cited by market participants in the current state of the small‐cap markets. Unless the industry, which includes IIROC, the provincial securities commissions and (shortly) the CCMR, regulated dealers of all types, advisors, and issuer companies, is able to develop a model capable of engaging a new generation of potential investors, all of our mechanical changes to the markets will not produce the intended results. The CSE supports the development of a new, significantly broader, exempt market with two key components:

  • harmonized crowdfunding regulations across Canada, and
  • a new category of offering modeled after Regulation A+ of the United States JOBS Act, enabling companies to raise larger amounts of capital from a broad group of potential investors

VirtualArmor – advanced network and cybersecurity

This story was originally published at www.proactiveinvestors.com on May 26, 2016 and featured in The CSE Quarterly.

VirtualArmor debuted on the CSE in November of last year at $0.25.  It sat quietly for its first couple of months before starting to build a following that has since seen the stock close as high as $0.75 (a 200% gain), and more recently at $0.65 (up 160%).

A basic analysis of the company yields some familiar themes, including experienced management and rapid growth underscored by hard-won advantages in a large, fast-growing market.

Founder and Chairman Christopher Blisard explains the challenges facing every entity with a presence on the Internet, and thereby the opportunity for VirtualArmor, in a manner hard to dispute.  “Where we are going as a world is that everything is being moved to the edge,” Blisard explains.  “You as a consumer or business want everything available all the time at any location.  We’ll continue to grow because technology is pushing the boundaries of where data is stored and those areas can become very vulnerable very quickly.  You really have no choice but to call companies like ours to take care of your problems.”

Established in 2001, VirtualArmor has crafted a business model over the years that Blisard says literally has no peer within the industry.  It involves working closely with hardware manufacturers so that the VirtualArmor team can go beyond providing a security overlay “a mile wide and an inch deep” and get inside the actual hardware, where the most talented of hackers often go to lay their traps.

“We work hand in hand with the manufacturer, plugging their software into our platform so we can go incredibly deep into every piece of equipment we are managing on your network.  It is not just a reactive environment at that point, but also a proactive environment.”

When VirtualArmor discusses security with a potential client, it insists on bringing the hardware that will serve as the backbone of the entity’s computer network.  Instead of trying to fix the myriad bugs inherent in a system that should have been designed better in the first place, VirtualArmor brings in what it knows will work.

Looking at the financial picture, accrual earnings were skewed in 2015 by non-cash items related to the go-public effort, but cash flow was positive for the year, and that’s the number that really counts.  Fiscal 2016 should be more indicative, and thus far is shaping up nicely.  The company announced on March 8 that it had booked US $2.4 million in sales in the previous 90 days.  Given that revenue for full-year 2015 was US $7.4 million, VirtualArmor is so far on pace to beat handily year on year.

Matthew Brennan, Vice President of Sales, points to the importance of convincing investors that growth in revenue and earnings is sustainable.  “When you have an organization as successful as ours and all of that revenue came from two salespeople, to know we are going to end the year at between six and eight salespeople suggests you will see things move in a positive direction,” he says.

Blisard adds that part of the benefit of listing on the CSE has been to broaden the understanding of VirtualArmor and give it new tools to conduct the full extent of the expansion it envisions.  “Looking at 2016 to 2017, the objective will be to expand our reach internationally,” he says.  “That includes going into Canada and Europe, and particularly the London market.”  Blisard goes on to explain that the company has a 10-person Security Operations Center, or SOC, just outside of London that can play a very helpful role in landing and serving local customers.

The revenue outlook is further enhanced by the stickiness of the client base, which is actually very easy to assess: “We have never lost a managed services customer and our longest one has been with us for 10 years,” says Blisard.

Also helping the share price was the announcement March 16 that the company was cancelling just under 3 million of its shares outstanding, and that several third-party shareholders had agreed to put a total of 3 million shares into escrow.  The resulting reduction in dilution, not to mention clear vote of confidence, set a positive tone that the stock price responded to immediately.

Blisard is happy with the way the stock has performed to date but points out that he knows education is a process and that it will take time for the company to build the following it thinks it ultimately deserves.

“For the Canadian markets a company like this is unique,” Blisard explains.  “The investment community understands the importance of cybersecurity in their lives.  The people we talk to understand the way our company is structured, how it drives revenue, how it drives profit, and where it sits within the cybersecurity world.”

Concludes Brennan, “It is very important that an investor understands there is a roadmap.  We made a good decision in not growing too quickly, taking our proceeds and placing smart bets on particular territories and hiring the right people.  I think it is key that the investment community understands this.”

Learn more about VritualArmor International Inc. at http://www.virtualarmor.com/ and on the CSE website at http://thecse.com/en/listings/technology/virtualarmor-international-inc