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1. June 2020
Global Market Watch News Production Trends & Insight

Market Insight: Strategies for Managing the Impact of COVID-19 on the CBD Industry

As a result of the ongoing COVID-19 crisis, many countries around the world are now firmly in recession, and with the impact of continued social distancing and lockdown measures still very much unknown, planning for different recessional scenarios will be essential for companies across the CBD industry.

Understanding Recession Curves

Understanding the potential shape of this recession and its impacts on global economies can help businesses prepare for different rates of recovery.

The most common types of recession are V, U and L-shaped:

V-shaped Recession

In a V-shaped recession, the economy suffers a sharp but brief period of economic decline with a clearly defined trough, followed by a strong recovery. V-shapes are the normal shape for recession, as the strength of economic recovery is typically closely related to the severity of the preceding recession.

U-shaped Recession

A U-shaped recession is longer than a V-shaped recession, and has a less-clearly defined trough. GDP may shrink for several quarters, and only slowly return to trend growth.

L-shaped Recession

An L-shaped recession or depression occurs when an economy has a severe recession and does not return to trend line growth for many years, if ever.

A less common type of recession is W-shaped:

W-shaped Recession

In a W-shaped recession, (also known as a double-dip recession), the economy falls into recession, recovers with a short period of growth, then falls back into recession before finally recovering, giving a “down up down up” pattern resembling the letter W.

COVID-19 Recession Dynamics

The International Monetary Fund has suggested that COVID-19 has resulted in countries facing multiple crises – “a health crisis, a financial crisis, and a collapse in commodity prices, which interact in complex ways. Policymakers are providing unprecedented support to households, firms, and financial markets, and, while this is crucial for a strong recovery, there is considerable uncertainty about what the economic landscape will look like when we emerge from this lockdown.”

In a recent report the IMF predicted that a possible scenario for global recovery could be as follows: “Under the assumption that the pandemic and required containment peaks in the second quarter for most countries in the world, and recedes in the second half of this year, we project global growth in 2020 to fall to -3 percent. This is a downgrade of 6.3 percentage points from January 2020, a major revision over a very short period. This makes the Great Lockdown the worst recession since the Great Depression, and far worse than the Global Financial Crisis.

“Assuming the pandemic fades in the second half of 2020 and that policy actions taken around the world are effective in preventing widespread firm bankruptcies, extended job losses, and system-wide financial strains, we project global growth in 2021 to rebound to 5.8 percent.

“This recovery in 2021 is only partial as the level of economic activity is projected to remain below the level we had projected for 2021, before the virus hit. The cumulative loss to global GDP over 2020 and 2021 from the pandemic crisis could be around 9 trillion dollars, greater than the economies of Japan and Germany, combined.”

Strategies for Managing the Impact of COVID-19 on the CBD Market_Output Losses

Unlike the 2008 ‘financial crisis’ recession, where the impact of output losses was predominantly experienced by advanced economies, the impact of COVID-19 is being felt worldwide and as a result developing economies are just as likely to be negatively impacted by recession.

Strategies for Managing the Impact of COVID-19 on the CBD Market_Global Crisis

Second Wave of COVID-19

The IMF’s outlook predictions look gloomy, but they also only take into consideration a single lock-down event. With many experts predicting a possible second wave of COVID-19 outbreaks as we move into the end of 2020, any resurgence of the virus and accompanied lock-down measures could potentially see economies experience a double-dip recession curve (w-curve) with the financial and social ramifications continuing well into 2021, and beyond.

Even under best-case recovery scenarios, many industries will remain severely impacted for a considerable length of time. Retail, tourism and logistics are industries which could potentially change forever and the CBD industry will need to adapt accordingly.

Flexibility of Regional Economy

The flexibility and dynamism of an economy is a well-known factor in determining how an economy rebounds from this crisis. For example, North America is known to have a flexible labour market, where the rates of hiring and firing of workers are higher than other countries. This flexibility allows an economy to bounce back quickly from a shock like Covid-19. Indeed, this flexibility is one reason why the US recovered from the global financial crisis faster than countries in Europe.

COVID-19 and the CBD Industry

While many CBD businesses have seen positive impacts from COVID-19, with online sales soaring and new opportunities from growing health & well-being and hand sanitizer markets, the industry has still been impacted in a range of strategically crucial ways:

Logistical Barriers

Lock-down measures and international travel restrictions have majorly impacted logistic and supply chain elements across the cannabinoid industry. Manufacturers and brands that had previously replied upon overseas suppliers for essential raw materials, ingredients, processing chemicals, and manufacturer/extraction equipment have in some cases been forced to change and adapt supply chains to build resilience and mitigate the impact of COVID-19.

Social Distancing

Many CBD companies have managed to continue production despite lock-down measures, however this has still required novel, managed, processes particularly in relation to ensuring staff safety and managing potentially infected workforces. As workplace social distancing becomes the new normal these requirements will continue to be necessary. This workplace adaptation requires significant capital investment, which has been an unpredicted cost for many businesses.

On a positive note, social distancing will have a longer lasting impact on the service sector of the economy, where people tend to be in close contact (e.g. in a restaurant), than it will on manufacturing.

Changing Sales Mix

Despite online sales soaring, bricks-and-mortar sales have dropped for many CBD brands. As the retail sector faces the additional burden of COVID-19, many retailers that were operating in difficult circumstances pre-COVID are now going bankrupt. In turn this is reducing the proportion that bricks-and-mortar sales represent for many CBD brands.

Health & Well-being Trends

As people seek new ways to bolster their health & well-being sales of CBD products have risen considerably, particularly via online channels. The challenge facing brands going forward will be retaining those customers. Online customers tend to demonstrate less brand loyalty and are more driven by price. Engaging with customers effectively online will become ever-more critical for the brand success of businesses across the CBD industry, during and post COVID-19.

Reduced Liquidity

Deal activity and investment has significantly reduced across the CBD industry during the 3-months of lockdown measures. Liquidity across financial markets has reduced and competition for capital investment will remain high for the foreseeable future.

On a positive note, the CBD and medical-cannabis sectors are both showing positive long-term viability, over and above the wider cannabis market. 2020 Q1 reported results have shown strong signs of growth across the cannabinoid-derived pharmaceutical and CBD-based health & well-being sectors, and as a result investors are beginning to show renewed interest in deal-making.

Regulatory Impact on Working Capital

Although regulatory changes have not been directly driven by COVID-19, the impact of the increasing CBD regulation will definitely factor into the interim-plans of many businesses looking to implement strategic plans for the next few years. Novel food authorisation is placing a significant financial burden on manufacturers, and with these requirements still requiring investment, growing regulatory requirements are sure to place additional strains on working capital

Adaptation Strategies

The CBD industry now faces decisions about the best way to move forward and plan for potential short-term and longer-term impacts of COVID-19. Businesses that are best prepared for economic recovery, alongside potential double-dip scenarios, will ultimately stand the best chance of performing well, during this period of uncertainty.

There are 3 main strategies that companies can adopt:

Retrenchment strategies involve cutting operating costs and divestment of non‐core assets.  These appear to be the most common approaches adopted by businesses to deal with recession conditions, especially in the short‐term. Across the wider economy analysts report divestment of businesses, closure of establishments, reductions in employment, expenditure cuts on a wide range of activities including R&D, marketing and employee training.

Investment strategies involve expenditure on innovation and market diversification. Recession is regarded as an opportunity to implement strategic change that would otherwise not have occurred.   Many of today’s household names launched successful businesses during recessions. The evidence on businesses adopting investment strategies to manage through recession, however, is patchy.   Such strategies are risky and many firms are likely to be too preoccupied with short‐term survival to think about innovation and growth, or lack the resources to implement such strategies effectively.

Ambidextrous’ strategies combine retrenchment and investment. It is likely that most firms adapt under recession conditions through judicious cost/asset‐cutting behaviour and through investment in product innovation and market development. Choosing the appropriate investments to make and costs to cut takes on additional importance during recession when market selection pressures are at their most severe.

Recessions present businesses with a dilemma.  On the one hand, firms experience pressures to cut costs in order to maintain survival in the short‐run at the risk of reducing capacity to such a degree that the firm is unable to adapt adequately when recovery comes.    On the other, businesses might also face pressures to maintain greater capacity, and thereby incur higher costs in the short‐run, in order to retain the capability to adapt when the upswing comes and realise opportunities for long‐term value creation.  It is possible to distinguish between the ‘statically efficient’ firm, one making the most efficient use of resources in given circumstances, with the ‘dynamically efficient’ firm, one capable of surviving changing circumstances.   Clearly, businesses must be able to be both statically and dynamically efficient if they are to endure. 

Author: Matthew Driver, Senior Consultant

Market Analysis | Insight & Trends