Why marijuana is the next great American industry

IRIS DORBIAN
FEBRUARY 04, 2014
THE WALL STREET JOURNAL
IT’S the classic entrepreneurial story.
In 2010, Jake George saw a market waiting to be served and staked everything on a start-up: He and his wife, Lydia, sold most of their assets, downsized to a smaller apartment in Issaquah, Washington, and came up with $10,000 to fund GreenLink Collective.
The gamble paid off. Sales have doubled each year, Mr George says, and the couple has opened a second branch.
A classic story, except for what Mr George sells: marijuana.
It’s legal in less than half the country and still illegal under federal law. It comes with cultural baggage and controversial associations. But a growing number of entrepreneurs like Mr George are trying to turn cannabis into big business.
Many are driven by a missionary zeal about the drug’s medical benefits or a passion for its recreational use. But others see it as simply a great business opportunity – betting that demand in the legal market will rise and the stigma will shrink.
Industry advocates are making heady predictions. Annual revenue for legal cannabis could run between $4.5 billion and $6 billion nationwide by 2018, up from $1.3 billion to $1.5 billion in 2013, according to projections by MMJ Business Daily, an online trade publication that covers the industry.
ArcView Group, a San Francisco-based investor network focused on the cannabis industry, estimates that the national legal marijuana market will grow 64 per cent to $2.34 billion in 2014 and will reach $10.2 billion in five years.
“There is definitely money to be made,” says Beau Kilmer, co-director of the RAND Drug Policy Research Centre, a non-profit research organisation that studies drug-related matters and trends. Counting both legal and illegal sales, he estimates, “current retail spending on marijuana in the US is in the tens of billions of dollars,” and “a fully legal market would be expected to generate billions of dollars in gross revenues.”
But he – and some state officials – caution that it’s impossible to predict such an untested market. A lot of the current spending on illegal marijuana compensates growers and dealers for the risk of arrest and incarceration, which would disappear under legalisation, Mr Kilmer says. And if marijuana could be grown openly like other agricultural products, prices would fall further with economies of scale. “At this point no one knows for sure,” he says.
Moreover, cannabis entrepreneurs face roadblocks other fledgling businesses don’t. Banks, landlords, community leaders – even entrepreneurs’ families – often look askance at the companies. It’s hard for these businesses to find places to operate, get the money they need or even feel completely secure doing business.
A Changing Field
Currently, 20 states and the District of Columbia allow marijuana use for medical purposes, and there are plans to push for legalisation elsewhere, including New York. But Colorado and Washington are far ahead of the pack in trying to turn cannabis into a mainstream industry.
In November 2012, voters in both states approved ballot measures that allow the recreational use of marijuana – the I-502 initiative in Washington and Amendment 64 in Colorado. The states have been working to establish a framework of laws to monitor the industry from seed to sale, treating it legally on par with alcohol or cigarettes.
Both states have some rules in common. Most important: All towns, counties and cities have the authority to decide whether to permit a cannabis business within their community. But there are differences. For example, I-502 stipulates that Washington’s Liquor State Control Board will regulate the industry, issuing licenses and making sure businesses comply with laws, while Colorado has entrusted the task to its Department of Revenue’s Marijuana Enforcement Division.
In Colorado, dispensary owners must also grow their product. In Washington, medical-marijuana businesses can do both, but recreational-cannabis ventures must choose to be either a producer/processor or a retailer. Washington levies a 25 per cent tax on recreational sales, while in Colorado, on top of the existing 2.9 per cent state sales tax and any local taxes, there’s a 10 per cent state tax on all retail marijuana sales and a 15 per cent excise tax on wholesale.
Colorado’s retail cannabis establishments opened January 1, and Washington’s will follow soon. Other states where medical marijuana is legal aren’t as far along. Some, like New Jersey, have only a handful of dispensaries serving medical-marijuana patients. Others, like California and Oregon, have a plethora of dispensaries but no central or statewide regulatory hub. Anyone in those states can currently open a dispensary without a license, and local towns and cities that house the dispensaries often set and implement their own rules. (Oregon recently passed a law that will regulate medical-marijuana dispensaries, which takes effect in March.)
Meanwhile, nine states where medical marijuana is legal – Alaska, Hawaii, Montana, Connecticut, Massachusetts, Illinois, Nevada, Delaware and New Hampshire – don’t have active retail markets. Sometimes state law forbids them; in other cases, there just isn’t interest. People can grow the drug for their own medical use, as can registered caregivers, but there aren’t retail storefronts for it. Some experts believe that will change this year when new laws take effect in several of the states.
For its part, the federal government said in August it won’t interfere with marijuana sales in states where they’re legal, except when the operations are fronts for a drug cartel or are selling the drug illegally to minors, among other things. Jared Polis, a Colorado Democrat, introduced a bill that would take away the federal government’s power to regulate marijuana and allow states to handle it the way they do alcohol. The bill has been referred to the Judiciary Committee, he says.
(Late last year, the federal Drug Enforcement Administration raided several Colorado marijuana dispensaries. In a statement, the agency said that the investigation was continuing but that there were “strong indications that more than one of the eight federal prosecution priorities identified in the Justice Department’s August guidance memo are potentially implicated.”)
The New Profile
Cannabis advocates are betting there’s a big base of users who will respond strongly to the efforts in Colorado and Washington. Already, lots of newcomers have entered the cannabis field, say entrepreneurs in the industry. “It’s really fascinating the kind of investor that now wants to get into this industry. A lot of people are looking at this as the next great American industry,” says Jay Czarkowski, co-founder of medical-marijuana dispensary Boulder Kind Care and currently managing partner of Canna Advisors, a Boulder, Colo., consulting firm that helps would-be cannabis professionals start businesses.
Jake George of dispensary GreenLink Collective Erik Johnson for The Wall Street Journal
Troy Dayton, co-founder and CEO of ArcView Group, says his company hosted an event in November 2011 in which aspiring cannabis entrepreneurs could pitch to investors. Not only was there a dearth of pitches but the pitches were unsophisticated, he says.
But late in 2013, he says, ArcView hosted a similar event and received 100 applications for 12 slots. And, he says, the pitches were far more professional and sophisticated. One idea that attracted investors: a social network for the medical-cannabis community.
Brendan Kennedy, a co-founder of Privateer Holdings, a Seattle-based private-equity firm focusing on cannabis companies, also says the pitches he’s seeing from prospective investment targets are “much more professional than those we saw three years ago.”
Currently, Privateer has one portfolio company: the website and mobile app Leafly, where users can review strains of cannabis and rate dispensaries. “We liked the fact that it was a clean, mainstream site that was approachable and smart,” explains Mr Kennedy. “There are no pot leaves all over the site. None of the cliches.”
When Privateer bought Leafly in 2011, it had about 180,000 visits a month and “essentially zero revenue,” he says. Now monthly revenue is $125,000, and last August it garnered three million visits, he says.
Other experts and officials urge caution when speculating about the prospects of the industry. Brian White, spokesman for the Washington State Liquor Control Board, says his state hopes that legal cannabis could become a significant revenue source. But he says, “No one knows for sure how much revenue will be generated by legal marijuana sales. In fact, our Legislature has not booked revenue from sales.”
Many entrepreneurs are determined that if the market does take off, they’re going to be there to reap the benefits. Consider Mr George.
A Washington state native and former electronics sales rep, he was inspired to get into the field after a visit to a local dispensary in 2008 to fill a prescription for medical marijuana. He thought it would be a professional setup, but found “multiple people at one time talking to a doctor in somebody’s garage,” he recalls. “I had a woman next to me, an elderly woman in a wheelchair, she was crying and having an uncomfortable experience.”
It moved him to try to offer a better alternative. The business he opened – with a garden to grow plants, a retail storefront and a bakery to turn the drug into food for patients who don’t smoke – does a lot of things any small business does. It offers incentives like patient loyalty cards and promotes itself online at Leafly.
But he faced hurdles, most notably finding a bank – a problem that comes up often among cannabis entrepreneurs and is acknowledged by state lawmakers. Mr George says that his business must operate on cash only. No bank will let him open an account because of his cannabis connection, he says, and without one, he can’t accept credit- or debit-card transactions. (He says he works with a bank he declines to name, but it isn’t a traditional account.)
Mr Czarkowski and his wife, Diane, didn’t have a connection with cannabis when they got into the business. They ran a real-estate and construction business in Boulder that crashed during the real-estate collapse. Then they decided to change course. “When we first came across this idea – we weren’t marijuana growers or drug dealers or potheads – I had a gut feeling that this would be a solid business opportunity but we knew nothing about it,” Mr Czarkowski says.
With $50,000 as seed capital, they started Boulder Kind Care, converting one of their real-estate properties into a dispensary and another into a grow operation. Ms Czarkowski says that even though the couple had taken out multimillion-dollar construction loans for their real-estate business and paid them off, and though they held many personal and business accounts with their bank, the lender eventually shut down all of their accounts “after they found out that Boulder Kind Care was a medical-marijuana business.”
They tried bank after bank until finding a local lender that would take them on, she says. After that, the business took off. By 2012, she says, Boulder Kind Care was on track to bring in revenue of $2.4 million before she and her husband sold their majority shares – for an amount they won’t disclose – and started Canna Advisers.
Setting Up Shop
The banking concerns may be easing. At least one big lender has said it will work with the industry: In September, Bank of America in Washington announced that it would accept marijuana-related businesses in the state as clients. There are political efforts under way, too. For instance, Attorney General Eric Holder recently said the federal government will establish guidelines to let legal cannabis enterprises gain access to banks.
The official rules of Visa and MasterCard prohibit the use of their debit and credit cards for marijuana purchases, but some Colorado merchants let customers use them regardless because the card giants have quietly decided not to enforce their rules, according to people familiar with their strategies. Instead, the people said, the companies are following the lead of the federal government, which has said it won’t challenge state laws that decriminalise the drug.
A MasterCard spokesman adds, “When it comes to this issue we’re facing a situation where there’s an inconsistency between federal and state laws. As such, we’re now seeking guidance from the federal government.”
Yet plenty of roadblocks remain. Simply getting office space can be a big issue: Many in the industry say towns are wary of having dispensaries nearby.
“Finding a place to open a dispensary was and is very difficult,” says Ms Czarkowski, adding, “Many landlords will not rent to this industry. They are limited even further by zoning restrictions and the 1,000 feet (305m) from any school/daycare restriction.”
Genifer Murray saw those problems first-hand. A former business-development manager for an online-payments company, Ms Murray was inspired to get into the cannabis field in 2010, after a chance conversation with an acquaintance. “I just started talking to this guy and he found out I was a scientist,” says Ms Murray, who has a degree in microbiology. “He felt me out to see if I was pro-cannabis, and then he told me about testing the potency of cannabis,” to make sure the strains are effective but don’t harm people.
After doing due diligence, she started her own testing operation, CannLabs. But she says her searches for office space in Denver were long and frustrating. Three landlords, she believes, took advantage of her – one didn’t tell her the building was in foreclosure, for instance. They knew cannabis was frowned on and she wouldn’t complain to authorities, she says.
In fact, “I was scared to death the first six months of being arrested,” says Ms Murray. Even though the business was legal in the state, it was still illegal at the federal level – and right before she opened, another testing lab that applied for certification got closed down by federal agents, she says.
Today, she’s more optimistic. Even though she’s leaning on her 401(k) to keep her five-person business afloat, she says she’s close to landing investors and thinks business may take off. Currently, she estimates, “only about 7 per cent of the industry” tests their cannabis products, for a variety of reasons, such as lack of funds. But testing will become mandatory this year – which she thinks will bring a surge in business.
Middle of the Road
For all the problems many cannabis entrepreneurs face, some say their businesses are treated as basically mainstream. Dan Williams, president of Denver-based Canna Security America, which offers security services to cannabis operations, says he hasn’t had troubles with federal agents or banks. “We have a very strong relationship with our bank,” he says. “I think it’s because we’re an ancillary service provider and we don’t actually handle any cannabis.”
After running a security company in Connecticut, Mr Williams moved to Colorado, where he worked for another firm before striking out on his own. His first client was a cannabis dispensary. “He referred me to three of his friends, and they referred me again, and before I knew it we were specialising just in the cannabis industry,” he says.
Along with his business, he says he helped draft Colorado’s cannabis security-regulation standards and is helping develop standards in Washington and other states.
To be sure, at the start his business raised some eyebrows. “I’m from Connecticut,” he says. “When I started this and it was getting momentum, people would say [to me when I went home], ‘Are you dealing with a lot of criminals? Where are you guys installing this stuff? In the basements of clubs?’ ”
But the only real snags, he says, have been “keeping up with the exponential growth of the industry.”
The Wall Street Journal