Many California cannabis entrepreneurs would like to forget 2021. The second half price implosion of flower combined with an unexpected dip in the market’s growth trajectory left even the most resolute of CA’s participants questioning their future. The driver behind these challenges is best summed up by a lack of access to capital. Unfortunately, capital to fund operations, whether internally generated or from external sources, is inaccessible for most CA operators. Three factors drive this.
But have the winds of change started to blow?
Tax reform: While there is no magic bullet fix for CA’s burdensome regulatory environment (at least that doesn’t need 2/3rds voter approval), help may be on the way. While several initiatives are being discussed, one major area of focus is eliminating the cultivation tax that is crippling the supply chain. By way of example, the current flat tax on a pound of cannabis is approaching the cost of a pound of outdoor-grown flower. The removal of the cultivation tax is the number one priority of the California Cannabis Industry Association (CCIA) today and would represent a welcome development to the industry. (Note – the CCIA is also focused on expanding access to legal cannabis by reducing the number of retail “deserts”. A possible 200 new retail doors in 2022 could drive an additional $1B in revenue). Governor Newsom has pledged to support the cannabis industry and the hope is that the changes being discussed will be implemented in the second half of 2022.
SAFE Passage: Will the SAFE banking make it through the Senate? This is the million-dollar question. Those in the know are “optimistic” that we will see something pass in 2022 before the mid-terms. CA operators will be high on the list of beneficiaries. Why?
Recall also that most of the MSOs in 2016-2018 pitched themselves to investors as CPG companies and that owning retail was a necessary requirement to build their brands. Fast forward to 2022 and that transition is just now starting to play out and will be fascinating to watch. For example, in markets that have imposed retail caps (MA/NY), MSOs will have to compete to get their products on the shelves of retailers that happen to be their competitors. Vertical integration has its benefits but successful competition in the trenches is not one. Further, building a national brand without significant penetration in CA would be extremely challenging. Herein lies an opportunity for CA brands to capitalize on their “authenticity” in the face of better capitalized competitors.
Given the events that have transpired since January 2018, California operators are rightfully jaded. However, if a few things change, likely in the second half of 2022, CA operators could very well return to a position of strength in this still very nascent industry. So there is light at the end of this seemingly interminable tunnel. Let’s hope the light gets brighter and shines on Cali. The entire industry will be better off if so.
Erik Ott is the founder of Ott Growth Advisors, a boutique investment bank specializing in Corporate Development and M&A. Ott also serves on the Board of Directors of BGP Acquisitions Corp, a $115m cannabis SPAC trading on the NEO exchange. Prior to founding Ott Growth Advisors, Ott was a founding partner at KO Acquisitions, Inc. and investment bank specializing in M&A in the State of California.
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