By: Zachary Venegas
Analysts have predicted upwards of 20,000 business licenses and a potentially $21+ billion market in California alone by 2021. The massive growth implicit in such projections seems a far cry from the operating tempo of the legal industry’s current rollout. Even so, examining other states that have implemented medical and adult-use cannabis programs in the last few years may offer us some valuable insights.
With sporadic rounds of licensing and rapidly increasing consolidations at the plant-touching level, the cannabis industry grows in phases quite unlike any other industry in the developed world. The inconsistency in regulatory frameworks, delays in rolling out laws and licenses, and gaps in critical infrastructure, create a complex challenge for business operators trying to maintain the smooth increased revenue growth year-over-year that investors expect in U.S./Canadian business, particularly in public markets.
Many businesses (and investors) were banking on the inevitable flood of licenses in California that was supposed to start January 1, 2018; setting up offices in the state, developing state-specific products to ensure compliance and ease of use, and creating an infrastructure focused on serving what is expected to be the largest cannabis market in the world by more than tenfold. However, as California continues to delay the formal licensing and implementation of regulatory structures, businesses of all kinds are in a holding pattern until the momentum picks up.
Colorado’s medical and adult-use programs, though not without their own hiccups, are widely seen as practical, balanced, and successful (the Cowboy ethic survives yet!). Yet the Colorado market has seen waves of boom and consolidation similar to any other new industry, despite the arrival of the expected growing customer demand. For example, just five years into Colorado’s adult-use program more than 33% of dispensaries operate as part of a chain. Independent retailers are being forced to sell or go out of business largely due to the downward pricing pressures inherent in the commodity business that is the core of legal cannabis, as well as infrastructure and tax inefficiencies that make capital formation inefficient, expensive, and slow.
While California will undoubtedly be unique and is certainly the Mother-of-All-Markets, some of the market dynamics that we have seen will surely hold true, making the mantra of “Once California opens….” as a panacea for land-grab business plans and technology solutions looking for problems less convincing. We might expect that firms focused solely on California will have to contend with slower-developing businesses. That will require larger amounts of capital for longer periods in order to become stable cash generators, and some may be forced to quickly adapt as capital formation becomes an initial competitive advantage.
Consolidations, businesses closings, and the phase-out of illegal operations roil markets on at a velocity greater than any other market we have seen due to the sheer magnitude of demand and intensity of competition. As a result, ancillary providers must be prepared to deal with the cash flow and payment issues of their clients and build in pricing flexibility around the inevitability of consolidation, as well as the impacts that these have on growth.
Consolidation aside, most businesses forecast their revenue based on expected growth from the industry as a whole and pay little heed to the way in which markets have actually developed. Given that market development is a largely political process, overall growth is often a poor proxy for localized, operational growth. In 2018, revenue projections often included states like Ohio and Massachusetts, and the aforementioned California, all of which are facing significant delays and thus, a lack of formidable business opportunities in the short-term.
Planning for the vagaries of the newer markets with an eye on older markets would seem to imply that thriving in newly developed markets might require some mature-market capabilities, like M&A and Turnaround Management. Uneven market development and expensive funding makes the ability to acquire and optimize businesses that have real strategic value but more limited current cash flow a necessary skill.