A close reading of cannabis news so far in 2018 is enough to cause headline whiplash. One headline says that investors are running for the hills, while another says that stocks are soaring and legal cannabis is here to stay.
Cannabis industry insiders tell AgFunderNews that the most confusing element of the events of the last nine days is that it’s all true, all at the same time.
“Most dedicated cannabis investors have expected some sort of action. It’s never a dull moment in the cannabis industry. You should expect change,” says Patrick Rea, cofounder and CEO of Colorado-based cannabis startup accelerator Canopy.
Rea says this uncertainty only spooks investors without much experience in the industry.
“Those that have already been exposed or spent a lot of time analyzing cannabis in California will stay and those who are new to it are freaked out,” he says.
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Twenty-nine US states have legalized medical cannabis and eight, along with the District of Columbia, allow recreational use of cannabis, according to NORML, an advocacy organization supporting legalization.
On January 1, California became the largest regulated, commercial market for cannabis in the world. And on January 4, Attorney General Jeff Sessions rescinded the Cole Memo, an Obama policy that directed federal law enforcement to allow states with legal cannabis to operate with minimal federal interference.
Sessions did not supply any new guidelines and so legal cannabis industry stakeholders are unsure how the ongoing paradox of state-based legalization in the context of a federal ban will play out in the Trump era going forward.
Upside of a Crackdown
There is a somewhat popular opinion in industry circles that mainstream investor hesitation is a good thing for dedicated cannabis investors, Rea told AgFunderNews,
“Some would argue that increased uncertainty is positive for investors because it adds complexity to the business equation, which will keep certain investors and entrepreneurs and large corporations out of the market. It’s no secret there are large companies and large investment groups that are studying and analyzing to get involved in the US cannabis industry. This action may give them more pause,” says Rea.
The entrance of larger investors, including mainstream VCs, could drive up valuations and make deals more competitive.
“I’ve even heard some people in the industry say this uncertainty is good because it cleans out those who don’t understand the industry,” says Gavin Kogan, cofounder the Salinas, Ca-based cultivator, processor, and distributor of cannabis Grupo Flor.
Kogan is raising funding right now, and though he sees the logic in keeping the investor pool small, he also acknowledges that the status quo can’t last forever if legal cannabis is to grow as much as supporters would like.
“Our industry requires so much capital to meet the regulatory burdens. Without that capital this experiment is going to fail,” says Kogan, who added that his investor meetings are mostly with high net-worth individuals and family offices. Mainstream funding in the US hasn’t reached deep into cannabis operations, he says.
“The traditional VCs that are involved in this space are invested in ancillary businesses,” says Korgan — ancillary businesses like Eaze, a cannabis delivery service that has raised $51.5 million from mostly Silicon Valley and New York VCs.
Even with adequate funding, getting cannabis users to change from an unregulated, illegal market to the legal market is not an automatic conversion says Kogan.
“If you’re trying to get people to transfer their interest from a black market to a regulated market there needs to be an incentive. There is a misconception that if you let them operate free of criminal threat, they’ll come to it in droves,” he says.
Kogan is concerned that with the high cost of compliance with California regulations, legal cannabis prices may remain too high to incentivize legal use. He continued that anyone assuming that cannabis retailers are experiencing a financial windfall is likely mistaken due to the increased costs of doing business.
“We’re just getting hammered. I don’t know anybody that’s making any money,” says Kogan who went on to say that technological upgrades are not within the budgets of most growers, who are facing downward pressure on wholesale prices, which may bring down the quality of crops.
“How are you going to be able to sell cannabis that is pesticide-free, safe, and looks good and keep your margins? I don’t think that cultivators are keen to spend a lot of money right now. They’re very scared of their prices dropping and their margins getting cut,” he says.
Still, Kogan says that the dispensaries he knew increased their sales by many multiples on the January 1 and that’s not likely to stop.
“We’re all very excited about what we’re doing and we’re doing our best to figure out the complete tax collection and remittance situation that they’ve set up.” And as for federal government interference, Kogan is certain that the state of California will support any legal operator challenged by federal action.
“We will sue the federal government to stop them from intervening in our state. if the attorney general decides to go after an operator in our state, they’re going to get hit with a lawsuit.”