Cannabis retailers test smaller ‘express’ stores to reduce overhead costs as competition soars

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Chris Jones says he operates the smallest cannabis store in Canada. Located in Brampton, Ont., just outside Toronto, it is 350 square feet in total – roughly equivalent to the size of a small bachelor apartment. But the actual retail space, where customers can see products on display and order them, is a mere 80 square feet.

“I designed it like a tiny convenience store. The idea is that customers can dash in and out in under three minutes to buy what they need,” Mr. Jones said.

Mr. Jones’s layout is particularly unique for a legal cannabis shop. He founded the eight-store Cannabis Xpress chain, and not only are his stores small, they have a utilitarian design resembling a 7-Eleven, but simpler. By contrast, many of the hundreds of cannabis stores that have mushroomed in Ontario over the past year are larger and architecturally fancy – think LED accent lights and sleek glass display cabinets – designed to evoke a minimalist, luxury dispensary feel.

The Toronto flagship store of the corporately owned Tokyo Smoke chain, at Yonge and Dundas Streets, is three storeys and 6,500 square feet. Superette, another chain, has stores themed themed to look like retro supermarkets, with a pop-art aesthetic. It hired high-end architects and designers to craft the look.

But Mr. Jones is convinced he has the right retail business model – one aimed at keeping operating costs as low as possible while maintaining efficiency. Like other industry experts, he believes there are too many cannabis shops in Ontario and many will not survive the next few years. “The ones that will make it are those that adopt an express model – enter, buy your weed, exit. None of that fancy stuff,” Mr. Jones declared in an interview with The Globe and Mail.

As of mid-December, there were 1,291 cannabis stores in Ontario. The combination of the COVID-19 pandemic and the province’s messy retail licensing process after recreational cannabis was legalized in late 2018 meant a significant number of stores didn’t open until 2021. Data provided by the Alcohol and Gaming Commission of Ontario (AGCO) show that 338 retail store authorizations – licences to open cannabis stores – were issued in 2020, and a whopping 1,223 licences were issued in 2021.

In big cities, some neighbourhoods now have dense and highly competitive clusters of weed shops. Ownership of them ranges from private independents to well-capitalized, publicly listed retail chains such as Canna Cabana and Value Buds.

Attaining and then sustaining profitability in this highly competitive environment is challenging because all legal cannabis stores across Ontario sell the same brands of pot, and all have to rely on the province as a wholesaler, eroding their bargaining power.

“The big retailers have been doing well for the past two years. I think now, however, we are at a point where the market is becoming too saturated and even the big retailers are seeing sales per store go down,” said Frederico Gomes, an equity analyst with ATB Capital Markets.

High Tide Inc., which operates the Meta Cannabis and Canna Cabana retail chains, saw its gross margin (basically net sales minus cost of product sold) dwindle by about four percentage points in the first seven months of 2021, even as its revenue increased because of new stores opening. The company owns more than 100 stores across Canada.

Nova Cannabis Inc., which operates the Value Buds retail chain that only sells low-cost weed, saw its gross margin decline by about 9 per cent in the first three quarters of 2021. But like High Tide, its revenue increased because of a greater number of stores.

In a report released earlier this year, David Lobo, interim chief executive officer of the Ontario Cannabis Store – the province’s cannabis wholesaler – said the rapid increase in the number of stores would “likely result in some retailers being faced with increased competition and a crowded marketplace, which could result in some closures and market right-sizing.”

So far, however, there are no definitive statistics on the percentage of cannabis stores that have closed in Ontario, and across the country. In response to a query from The Globe about closures in the province since legalization, the AGCO said eight store owners have applied to have their operating licences cancelled to date, implying that those stores had to shut.

There are also anecdotal examples that this trend has begun. In November, one store in Hamilton belonging to the Spiritleaf cannabis chain shut its doors. There were also a number of store closures in the beach town of Wasaga Beach, according to Mr. Jones, who has a shop there.

Each of Mr. Jones’s Cannabis Xpress stores employs just one budtender. He says his eight shops are all profitable for two reasons: low labour costs, and he didn’t sign expensive leases with landlords during the January, 2019, rush to secure leases in order to participate in the provincial retail licence lottery (which was scrapped by mid-2019 after industry uproar over the cumbersome process).

There are some signs that the low-cost store model is catching on among bigger retailers. Superette opened a store in downtown Toronto called Sip ‘n’ Smoke, a 690-square-foot express cannabis shop selling prerolled joints and cannabis beverages, and geared toward consumers who already have a sense of what they want to purchase.

Mihi Cannabis, a mid-sized cannabis retail chain based in Burlington, Ont., announced this past summer it would open new 200-foot stores within PenguinPickUp locations across Ontario. At the time, Mihi CEO Kevin Reed told The Globe the first store would open in July, but to date no stores have opened, and the company is still in the midst of filing to go public.

In March, Edmonton-based Nova Cannabis completely revamped its business model by rebranding its existing cannabis stores, which sold all grades of weed, into Value Buds stores selling only discounted weed. “It was designed to be disruptive and pull customers from the illicit market into the regulated market,” Nova CEO Darren Karasiuk explained.

One reason why Nova chose to focus on discount stores is because the company believed demand for legal cannabis would come from people already consuming weed on the illicit market. “There was this idea in the beginning that all this money should go into building premium stores to attract people who had never consumed cannabis and were going to give up their pinot grigio for ‘pink kush.’ That has turned out to not really be the case,” Mr. Karasiuk said.

The latest data from the Ontario Cannabis Store, based on Statistics Canada data and public surveys, back up Mr. Karasiuk. It shows that 54 per cent of total cannabis sales in Ontario from July to September were made through legal cannabis channels. In 2018, the legal market generated just 5.4 per cent of total cannabis purchases.

In a sense, the Value Buds concept is similar to what Mr. Jones is trying to accomplish with Cannabis Xpress. “Our stores are designed to be as optimal as possible in terms of customers entering and exiting quickly. You can order your purchase on a screen in-store and pick it up almost instantaneously,” he said.

Value Buds stores have performed far better than Nova Cannabis stores since the conversions took place, Mr. Karasiuk said. “We’re talking an increase of three times in sales each store, on average.”

But even then, margins are thinning.

Mr. Gomes is slightly skeptical about the express convenience shop business model. “Many stores have one budtender and operate at a pretty low cost. I think the biggest problem for retailers, beyond too many stores, is you have the same assortment of products in every store and you don’t have bargaining power over your supply because you’re buying from the province,” he said.

Ultimately, Mr. Gomes believes, large retailers are in the best position to resist closing, regardless of whether they are premium stores or express-style discount stores. “The chains are the ones that have access to capital, they are likely to survive the competition over the next few years. But it will continue to be a tough market.”

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