An oft-told story from the pioneering days in the cannabis industry involves Kayvan Khalatbari and a business partner founding their medical cannabis dispensary in Denver “with $4,000 and half a pound of marijuana.”
Khalatbari’s dispensary, Denver Relief, went on to become one of the country’s most well-known dispensaries. His experience wasn’t unique either. Stories like his abound from the industry’s early days, when all an ambitious entrepreneur needed was a small amount of starting capital and some grit to get their business off the ground.
However, the barriers to entry in today’s cannabis markets far exceed what most mom-and-pop cannabis operations would be prepared and capitalized to undertake. In today’s world, Khalatbari’s $4,000 wouldn’t even cover the necessary license-application fees in any market let alone be enough to hire the army of attorneys and lobbyists and architects and security experts and operational advisors necessary to license, plan, build and operate a store. Nor would it be enough to cover the one to three years of carrying costs for operating in slow-growing markets or in highly-competitive markets with razor-thin margins.
So, what are mom-and-pop operators to do?
Most of the answer comes down to finding access to capital that can get an operator over the initial hurdles, get a store stood up, and hopefully thrive. Just like any other entrepreneur would do. But in the cannabis industry, banks won’t lend money, institutional capital is still on the sidelines, and angel investors are more likely to limit their cannabis investments to more experienced operators who carry less risk of operational failure. As I outlined in a previous column, without traditional lending sources, the difficulty in accessing capital can hamstring the local entrepreneurs who find themselves competing against the better capitalized Multi-State Operators, or MSOs.
For those who do manage to find funding sources, they are often at a competitive disadvantage in their operations, since they find themselves competing with the MSOs, which by now can draw on a deep well of operating experience and talent. It is becoming the cannabis equivalent of an independent operator opening “Betty’s Burger Joint” in a crowded market where they must compete with Five Guys, Shake Shack, In-N-Out Burger, and McDonalds. Sure, the small operator may be able to raise the capital to open their store, but what are the chances they will ultimately succeed when competing with better capitalized, more experienced operators?
However, there is one reliable source of support in the cannabis industry: those same MSOs, which have large valuations, ample balance sheets, and are looking for opportunities to proliferate their brands in nascent markets and demonstrate growth to their investors. Partnering with MSOs provides several benefits for the moms-and-pops of the cannabis world.
First, they provide access to immediate capital for the $200,000-$1,500,000 of start-up and build-out costs a dispensary would need to get started in most significant markets. They provide access to the capital required to obtain and carry the real estate for the operations – anywhere from monthly rent (that is always more than market rate due to the use) to a multi-million-dollar purchase; again, banks are not offering mortgages for sites housing cannabis operations.
Next, the MSOs provide battle-tested operating platforms that allow entrepreneurial partners to benefit from the years of research and development that have gone into things like securing zoning permits, designing security systems, refining point-of-sale systems, developing HR policies, getting hiring right, securing payroll services, and the like. Through management-services agreements with MSOs, local entrepreneurs also benefit economically from the economies of scale that come from the MSOs’ buying power for shared services among the operations they support.
MSOs also offer branding and marketing support that position an operation to take advantage of a recognized brand’s momentum and deploy it in a new market such that they can successfully compete against other stores that potentially acquired marketing and branding acumen through their own MSO relationships. We’ve seen this on the product marketing side for quite some time as producers on the East Coast license successful brands from the West Coast to bring them to new markets.
In many cases in our own company, the leaders of the companies we are supporting also contribute their skills and expertise as part of a larger operational leadership team, helping to grow operations across a larger portfolio of peer dispensaries.
This isn’t necessarily the right path for every cannabis entrepreneur, but for those who are interested in exchanging some economics to gain support on the operations side, while also maintaining leadership of the growth of their operations, partnering with MSOs can be a good fit.
It’s worth discussing, however, that not all regulators see it that way.
For example, Massachusetts has essentially closed the door on any MSO seeking to provide management support to more than three operations. Intended to limit the stress on local entrepreneurs from well-resourced MSOs, this policy does a tremendous disservice to the very people the Massachusetts regulators are trying to help because it takes away what is by far the most realistic source of financial and operational support for these applicants and makes it much harder for them to succeed. This especially impacts social equity and economic empowerment applicants who are less likely to have access to their own network of high-net-worth friends and family or angel investors.
We need to rethink what success for smaller mom-and-pop businesses means at this stage in the industry. If our definition of success for local operators is just that they’re able to operate a business that can successfully compete against the major players in the industry, that will be a challenging benchmark to meet. On the other hand, if our definition of success is that these entrepreneurs are able to meaningfully participate in the growing cannabis market and create legitimate wealth for themselves upon exit, then we should allow them to participate in any way they determine is best for them, whether that means going it alone, sharing in the upside through management or licensing agreements, or even selling portions of the license before they get operational. Many retail licenses in limited-license states will sell for between $1 million and $5 million before a single dollar is spent on development or build-out costs. That kind of money is life changing.
None of this is to argue that states should not create avenues for locals, mom-and-pop operators, and social equity applicants to win and hold licenses. In fact, I would argue strongly that they should, as they ensure less capitalized and underrepresented populations can gain a meaningful ownership stake in the industry, no matter the path they take to operate their licenses.
But given the realities of the cannabis business landscape today, especially the lack of access to institutional capital and extreme difficulty in raising money from angel and individual investors, we need to rethink how we define success for smaller operators in the space. If our only definition of success is for a local operator to successfully compete against the larger multi-state companies, we are setting ourselves, and these operators, up for failure.
In the current regulatory climate, we must expand our definition of success to include having created an avenue for these operators to meaningfully participate in the industry, whether by hitching their wagon to a larger player and reaping the upside rewards, or becoming multi-millionaires through an exit.
Read more from the source: Forbes.com