As more states legalize medical and adult use, the elephant in the room remains: The illicit market still accounts for the majority of cannabis sales, often by a wide margin.
For many years, the prevailing opinion has been until the plant is legal on the federal level—and companies can take advantage of the significant tax breaks every other industry enjoys—the illicit market will have a significant price advantage over legal companies. But looking at recent retail trends, there are signs of a shift over the past few years. According to a New Frontier Data report, the illicit market in the United States has been shrinking, albeit slowly. Estimates for the illicit market were $66.3 billion in 2019, $66 billion in 2020, and $65.4 billion in 2021.
New Frontier’s 2018 and 2021 surveys provide some insight into consumer trends over the early years of adult-use legalization, particularly how many “legacy” users are migrating into the legal market. The report also predicts the percentage of users who will migrate to the legal market over the next few years:
- Colorado: 87 percent of consumer demand was met by legal sources in 2020, and that number is expected to rise to 95 percent by 2025.
- Oregon: 74 percent of consumers purchased on the legal market in 2020, with 89 percent expected to do so by 2025.
- Maryland: 37 percent of demand was satisfied by legal retail in 2020, with expectations the number will reach 74 percent by 2025.
In a recent newsletter, analysts at private equity firm Merida Capital Holdings explained the reasons consumers have been choosing to buy legal products. “We expect the transition of heavier users will continue to accelerate as they discover the CAQS [choice, access, quality, and safety] advantages within the legal market,” the analysts noted. “Legal laboratories, some of which have ties to public companies, have the capital to spend millions on equipment that results in far superior concentrates than those from illegal labs. The illicit market simply cannot match that. Product price is the illegal market’s only lasting advantage over the legal market, and this advantage is quickly diminishing.”
In its surveys, New Frontier also focused attention on high-frequency consumers—those who use cannabis at least daily and reside in legal, regulated (both medical and adult-use) markets. The majority (71 percent) of high-frequency consumers who purchase from stores reported they acquired their cannabis only from licensed sources. These consumers reported spending more per purchase in 2021 than in 2018: 39 percent reported spending $100 or more per purchase in 2021, compared to 29 percent who reported the same in 2018.
One factor in the success of any new state getting its legal industry off to a running start is making sure there are enough licensed operators up and down the supply chain to fulfill the demands of the market. Merida cofounder and Managing Partner Mitch Baruchowitz, who has been part of the industry for more than a decade, said one of the quickest ways to establish a steady supply chain in a new market is to have large, well-funded companies laying the foundation for smaller companies to come in and set up shop.
“It’s funny that activists are still negative about multistate operators, because they are the ones creating a fertile ground and providing the biomass for mom-and-pop companies,” he said. “They plow the ground so there’s at least a rutted dirt road for other people to travel on.”
In 2022, it’s difficult to assess which states have been the most successful in establishing a legal industry, but Baruchowitz has a simple way of determining which states are winning.
“If you have the best operators in the world and you still have $80 billion in illegal consumption, what’s the point?” he asked. “How do you regulate [products]? How do you make sure edibles are properly dosed? How do you make sure the products don’t have mold or contaminants? The only way to get that is for consumers to transition out of the legacy market.
“I have one metric, and truthfully I think it’s the only metric: the illicit market transitioning into the legal market,” he continued. “Financial firms or stakeholders don’t necessarily focus on this metric, and maybe that’s a flaw. But the illicit market transitioning into the legal market should be the only metric, because the goal is to have a safe, legal, regulated industry that encourages consumers to come into it.”
