The Financial Impact of Cannabis Rescheduling

Market insight and projections from a prominent financial analyst.

financial impact

Ever since August 2023, when the Department of Health and Human Services (HHS) recommended moving marijuana to a less-restrictive schedule under the federal Controlled Substances Act (CSA), the industry has anticipated concurrence from the Drug Enforcement Administration, where scheduling authority resides. In mid-May, confirmation arrived in the form of an announcement from the Department of Justice, of which the DEA is a division. Though the timetable remains vague, the move marks the most significant controlled-substances reform since the CSA was signed into law by President Richard Nixon in 1970.

Most of the major multistate operators’ stocks jumped as much as 15 percent on the day the announcement was made. Since then, attorneys, business leaders, and analysts have speculated nearly endlessly about what the classification change will mean for state-legal markets, banking, and federal legalization.

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Arguably, the most dramatic impact cannabis rescheduling could have is removal of Internal Revenue Code Section 280E’s prohibition on deducting normal business expenses from federal tax obligations. Viridian Capital Advisors highlighted a few potential ramifications:

  • Cash flow increases as tax burdens decline. The ten largest companies alone would save more than $700 million annually; the industry as a whole could save more than twice that amount.
  • Mergers and acquisitions accelerate. The valuation gap between large and small companies may grow as the markets rally, creating an expanding opportunity for the most prominent companies to complete accretive acquisitions.
  • Stocks rise. Viridian analysts expect the market to rally beyond the 15.73x multiples that followed the reintroduction of the Cannabis Administration and Opportunity Act in May, possibly reaching the 18.35x achieved three years earlier after the House of Representatives passed the SAFE Banking Act for the fifth time.

Removing the yoke of 280E from the industry would dramatically impact how companies are valued going forward, which has implications for both investors and lenders, according to Viridian founder and President Scott Greiper.

“It would significantly increase the value of businesses, because the most consequential metric as to how a company is valued — I don’t care if it’s public or private — is free cash flow,” he said. “If you’re dropping a billion and a half dollars of free cash flow to these cannabis companies, they are much more financeable. Lenders always look for two things: They look for a company that could pay back the interest and the note, or a company that has sustainable cash flow. That increases a company’s attractiveness to lenders and equity investors, because it means the company is in growth mode.”

Having more cash flow might put small and midsize companies in a tricky position, however. On the one hand, they would be able to invest in new technologies, larger grow rooms and extraction machines, or whatever other equipment and services they need to scale their operations. On the other, larger competitors would be able to scale up and drive down wholesale and retail prices, muscling their way toward larger market shares and crowding out smaller operators.

“I think what you’re going to see is continued consolidation of the second- and third-tier companies, because they’re just not going to be able to get the funding to keep up on scale—meaning they’re not going to be competitive in the market from a price perspective,” Greiper said.

Another likely consequence of cannabis rescheduling, according to Greiper: Multistate operators (MSOs) continue to grow and consolidate their power via acquisitions.

“About nine out of every ten acquisitions were done by a public cannabis company, principally the MSOs, because that’s their business,” Greiper said. “They move from state to state, typically by acquiring existing operators. So with the public MSOs, the top ten, if they’re sitting on an extra $700 million in cash, it just puts them in the position of a more powerful buyer—not only because they have more cash on the balance sheet to use for an acquisition, but also their stock prices may have doubled.”

Of course, all these projections are theoretical because, as with everything else in Washington D.C., the cannabis rescheduling process will take many months. Any change that eventually emerges from the DEA may need to wind its way through other agencies and congressional committees in addition to a public comment period that could last as long as ninety days. After that, the DEA may need to make adjustments to the policy or promulgate regulations for compliance and enforcement before a final rule is published in the Federal Register.

Although the Biden administration appears to be pushing to complete the process before November’s presidential election, some pundits have predicted cannabis rescheduling won’t happen until very late this year or early in 2025—assuming the election doesn’t usher in a new administration with a different agenda. 

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