In December 2019, the industry’s mood was cautiously optimistic. Although cannabis stocks had collapsed and capital dried up, there was reason for optimism: A dozen states had legalization bills on the docket, and the SAFE Banking Act seemed about to pass in Congress.
A few months later, the coronavirus pandemic put almost all legislative efforts on hold, but the industry got an unexpected boost when dispensaries were deemed “essential businesses” by states coast to coast. The move provided important validation and gave cannabis companies across the United States newfound confidence in both recreational and medicinal markets.
As new licensing opportunities open in the Midwest and on the East Coast, cannabis operators are staking their claims and making big bets on new markets that are only beginning to take shape. While some of these markets have high barriers to entry and limited licensing opportunities, other states have implemented more flexible regulations and are letting the free market do its thing.
Cannabis 2.0 is taking shape in 2020, which will be remembered as a momentous year for an industry that has struggled for decades to earn legitimacy. In a business that has no shortage of ironies, it shouldn’t surprise anyone that a global pandemic provided the impetus for the American cannabis industry to find its legs.
Regulations shape the game
When Colorado established the first U.S. recreational cannabis market in 2014, the act set an early standard for the rules and regulations legal cannabis companies must follow, but legislators and operators realized the industry would be a work in progress for a significant time to come.
“I’m a fan of what Colorado did, and the way they set it up was to keep revisiting it every year,” said Diana Anglin, a compliance expert and chief operating officer at Denver-based CannAmerica, which has partnership agreements for its edibles brand with companies in several states. “It was a new industry, and they tweaked things along the way.”
Anglin contrasted Colorado’s approach with California’s. In the latter state, the medical side of the industry has a twenty-five-year history, but the rules changed dramatically when Proposition 64—which legalized recreational use—was approved by voters in 2016. Anglin and many others believe California has gone overboard with regulations and taxes, making it difficult for operators of all sizes to survive, much less compete with a longstanding and monolithic black market.
Many people in the medical cannabis movement voted against Prop 64, fearing large corporations would dominate the field and force out the mom-and-pop growers and dispensaries that had built the industry. In many respects these fears have proved correct: Today, most of the largest multistate operators—Cresco, Acreage Holdings, MedMen, Green Thumb Industries, and Curaleaf—have a strong presence and market share in the Golden State. MSOs and large companies have an added advantage in California, because cities have set strict limits on the number of dispensaries they license, resulting in limited shelf space on which big producers and distributors can buy prime placement.
“Systems that work for businesses and provide good tax revenue for the state are ones that work collaboratively with the licensees.”Diana Anglin, COO, CannAmerica
In Oregon, by contrast, state regulators made it relatively easy for small businesses to secure a license and set up shop. Portland, an Oregon city of 660,000 people, had about 150 dispensaries after the first few years of adult-use legalization, whereas Oakland, a California city of similar size, had only a dozen dispensaries three years after adult-use legislation passed.
“Systems that work for businesses and provide good tax revenue for the state are ones that work collaboratively with the licensees,” said Anglin. “I think Oregon’s got a few crazy rules, but they work collaboratively really well. That is something we’ve seen firsthand here in Colorado, too, and I definitely appreciate it.”
States with limited licensing, strict regulations, and tight rules enforcement generally enjoy markets with stable product prices and more predictable returns for companies that invest millions of dollars into licensing and building out their vertical operations (cultivation, extraction, and retail). Consequently, these are the markets into which investors feel the most comfortable putting capital, knowing returns on investment will be steadier over the long haul.
“As a businessperson, a limited license framework is incredibly attractive, especially on the cultivation, manufacturing, and distribution side,” explained Cresco Labs co-founder Joe Caltabiano, who resigned from his role as president earlier this year and now is investigating investment opportunities. “I think, long term, that’s how you as an industry protect quality.”
Caltabiano said the key factors he evaluates when looking at a potential investment are limited licensing frameworks, large populations, and future regulatory change. “I think some of the more attractive markets right now are Pennsylvania, Florida, and Arizona, with Pennsylvania and Arizona being kind of leading candidates for an evolution of their programs,” he said. “That’ll be a material improvement, going from medical to adult use. I think Arizona is a very strong limited license market that will be supply-constrained and really have a great opportunity for growth.”
The downside to limited licensing environments is it’s prohibitively expensive for smaller businesses to apply for and secure licenses, and that creates yet another barrier for people of color to stake a claim in the industry. Even when social equity programs are built into the regulations, very few of them have been successful. As a result, MSOs and large companies dominate the industry in almost every state.
“Social equity is something that is a huge priority for me at our company, but to be honest I don’t see good social equity in any programs yet,” said Anglin. “It’s been disappointing, but it takes a lot of money in a lot of these places like Illinois, which requires being connected to people with money, so that’s already a barrier for people of color. And then what happens is those connected people get more licenses, which is what’s happening here in Colorado. Existing license holders are taking over the lion’s share of what’s happening, and people of color are not getting opportunities to start or expand businesses.”
Scouting the most promising new markets
When cannabis companies and investors evaluate new markets, they consider licensing and regulations, population, market saturation, and a number of other important variables. Arcview Market Research and BDSA projected the top ten U.S. states in annual cannabis sales in 2020, and Michigan, Florida, Illinois, and Massachusetts led the pack among emerging markets.
- Michigan: $1.21 billion ($299 million recreational, $909 million medical).
- Florida: $1.2 billion (all medical).
- Massachusetts: $682 million ($451 million recreational, $231 million medical).
- Illinois: $543 million ($270 million recreational, $273 million medical).
In all those states, licensing fees for cultivation, extraction, and dispensary permits are costly, and tight caps are expected to remain in place for the near future. Green Thumb Industries (GTI) is a multistate operator headquartered in Chicago, with retail operations in Maryland, Massachusetts, Nevada, New Jersey, Ohio, Pennsylvania, and Florida. Chief Strategy Officer Jennifer Dooley acknowledged licensing and startup costs are significant in Illinois, but the market projections justify the investment.
“When we think about where we put that next dollar and how quickly we can get our investment back and how confident we are in that investment, Illinois is a perfect example,” she explained. “We know there’s a lot of upside yet to be had and we already have a strong market share, but there is still room to grow and lots of things to improve on. So, we’re expanding our production and supply capacity, with our second production facility really starting to ramp up.”
Gage Cannabis Co. is one of the biggest operators in Michigan, with a vertical business that includes cultivation, extraction, and four retail stores, with plans to open another six by the end of the year, according to Graeme Davis, the company’s marketing manager. Michigan has had a medical cannabis program in place since 2008, and that side of the market remains dominant. Davis said recreational has been slow to activate, in part because limited licenses are available.
“The municipalities are compliance hurdles you have to go through in order to get a license, so it does create a barrier, and the amount of money we spend on lawyers to get these licenses is crazy. It’s not accessible for everybody,” he said. “In Detroit, they have actually been pretty conservative. You would think they would be one of the first cities to want the economic benefit of the cannabis industry, but it’s actually been quite the opposite. They really want to do this properly and slowly, so it’s interesting.”
One of the strategic ways companies in emerging markets can get a leg up on the competition in the early days is by partnering with existing brands that are established on the West Coast and in Colorado. Gage partnered with California-based Cookies to open a Cookies store in Detroit this year; the deal means Gage is the exclusive provider for one of the first dominant flower brands in the industry. “The partnership really accelerated our own capabilities on the cultivation side, especially in those early days,” said Davis. “They helped us get set up, and we’re really appreciative of their team and the relationship we have.”
Sluggish start on the East Coast
Of all the regions in the country, the East Coast may be the most cautious in its approach to establishing new cannabis markets, and all the MSOs are licking their chops for the opportunity to establish operations in a region that eventually is expected to supplant California as the most lucrative market in the U.S.
New York and New Jersey have had limited medical programs for several years, but recreational markets have been stalled due in part to concerns about implementing effective social equity programs. That’s good news for the states that already have moved forward with adult-use programs, namely Massachusetts and Pennsylvania, where companies are patiently waiting for regulators to open the market to more recreational and retail licenses.
“In Massachusetts, it seems like they’ve stumbled a little bit in their regulations, but we love the market,” said GTI’s Dooley. “It’s had some starts and stops, from both the regulatory perspective and getting into the second phase of opening. There’s a lot of local nuance with the regulations, so you really have to be committed to working through it, but it’s an adult-use market in the high-density New England area.”
Massachusetts-based MariMed Inc. operates vertically in Illinois, Maryland, and Massachusetts, as well as cultivates in Kentucky and Nevada. The company currently has one dispensary open in Massachusetts and several others going through the licensing process.
“One of the hardest things in this industry is putting your horse blinders on and staying focused on the task at hand,” said Chief Operating Officer Tim Shaw. “If you spread yourself too thin, you’re going to do a lot of things mediocre. We’re focused on trying to be excellent every step of the way.”
Shaw said the company primarily is focused on Massachusetts, Illinois, Michigan, and New Jersey. But like many other MSOs, it also is keeping its eye out for smaller companies that are struggling and looking to make a deal. “We’re always in discussions with other groups that are raising the white flag or just need help and want to be a part of something bigger,” he said. “So there’s those opportunities coming across here and there, but we’re really excited about Pennsylvania, New Jersey, and even some of the northern states we think would be a good fit, like New Hampshire, which is coming on board with adult use in the near future.”
Oklahoma: the wild, wild West
While most states have some type of social equity program built into their cannabis regulations, very few (if any) have been successful at program implementation. People of color currently represent an exceedingly small percentage of stakeholders in the industry. Oklahoma is one of the few states that has made it easier for POC to start a small business, primarily due to its inexpensive free market and laissez-faire approach to regulations and licensing.
Although the state allows only medical cannabis operations, in just the past two years Oklahoma has issued more than 10,000 licenses, and more than 300,000 patients have signed up for medical cannabis cards—about 8 percent of the population. Moreover, in May the legislature drafted a bill that would allow out-of-state individuals to apply for a ninety-day patient license. With no licensing caps and a quick and inexpensive process, Oklahoma has been a boomtown for small producers and patients.
“One of the hardest things in this industry is putting your horse blinders on and staying focused on the task at hand.”Tim Shaw, COO, MariMed Inc.
“As far as emerging markets right now, our favorite is Oklahoma,” said Dan Anglin, chief executive officer at CannAmerica. “It’s a pretty wide-open state. They opened it up before they established seed-to-sale tracking, so it’s a bit unusual and it really has created a very exciting opportunity for businesses. I think a lot of folks didn’t race to Oklahoma because they felt the very low cost to be licensed was going to make it a free-for-all.”
Dan Anglin believes Oklahoma’s model is good for the industry and hopes the free-market approach will be replicated in more states.
California-based CitizenGrown, which hopes to democratize the supply side of the business, has found a welcoming environment in Oklahoma. The company has a bold vision for the future of cannabis cultivation that has a strong social justice angle. CitizenGrown currently is fine-tuning the design for a sophisticated grow box that will employ automation and remote cameras to help novice growers learn the craft, and then bring their new knowledge into their homes as an income stream. The company will target people of color and low-income communities for its citizen growers. As crops are harvested, the company plans to pick up the product and sell it to dispensaries and wholesalers, sharing the profits with the growers.
After some fits and starts on the West Coast over the past few years, the company has set up shop in Oklahoma City and sees vast potential in the state’s flexible, progressive regulatory framework.
“CitizenGrown is fortunate with our position in Oklahoma and the barriers to entry were minimal, and it’s still super cheap to get a license…anyone can get a license to grow,” explained Chief Executive Officer Deepa Sood. “Having learned from our lessons in California and Oregon, we saw possibility in a regulatory landscape that was completely different from what we had seen before.”
Sood explained that for CitizenGrown’s mission and unorthodox business strategy, Oklahoma represents a unique and appealing operating environment. With one of the highest incarceration rates in the country, many for petty drug crimes, Oklahoma also is a prime spot for criminal justice reform. With an open-minded attitude for agricultural innovation and supportive state legislators, she believes the state has a promising future in cannabis and could be a model for others if its approach proves successful for businesses and consumers and provides a meaningful new source of tax revenue. Like California, however, Oklahoma will have to contend with a growing black market that has found an unlikely home in a conservative state with loose regulations and lax enforcement.
“One thing we’re predicting is the pros will outweigh the cons, and small players will create opportunities for new brands to spring forth and stronger brands to consolidate,” she explained. “We are looking to Michigan next, and Michigan is looking at Oklahoma as a test-case in terms of more lax regulation, with more focus on quality control versus gateway credentials.”
It’s noteworthy that the cannabis industry has become a major source of tax revenue in states where medical and recreational markets are established. As the COVID-19 pandemic takes its toll on business tax revenues, politicians may start to view cannabis as essential medicine for their ailing state budgets.
“When we became an essential business, it really cemented cannabis as part of the Illinois infrastructure forever, and it insulated us from any type of federal changes,” said Caltabiano. “You’ve got this incredible velocity at which change is occurring and I think that will springboard home delivery and more relaxed guidelines, allowing more stores in urban environments and mainstream locations. So, very delicately, I would just say COVID is the best thing that could have happened to Illinois cannabis, because it’s really sped up everything, which is fantastic for an emerging market and an emerging industry.”