Have you heard about the economic downturn?
Over the last two weeks I talked to a dozen different cannabis investors and advisors to ask them what they’re seeing in the market. Mostly, I heard four things: the downturn will hurt new, smaller businesses most, social equity licensees are going to hurt for cash more than anyone, we should expect lots of licenses to go for sale by the end of the year, and companies with operating expertise already in place will likely attract investor interest.
“I sense this shift in the last month where things are drying up, I’m hearing more and more negative sentiment not just from plant touching, but ancillary businesses as well,” Jay Czarkowski told me. He’s the founder of CannAdvisors, a company that consults for applicants looking to obtain licenses and start up their businesses.
In his line of business, Czarkowski has worked with many dozens of cannabis companies and poured over their financials. He believes that mature markets will have a harder time in a recession. In these states, there is more competition at retail, prices are likely to be lower, bringing down margins.
“It certainly depends on where you’re located, the worst cases are struggling businesses in Colorado. They have little chance to raise money, as strange as it sounds, there are many businesses struggling there,” he said.
But that doesn’t mean licensees in newer markets will have it easy.
“New licensees are overwhelmed. They need capital, and they are vulnerable to vultures that will take advantage of their position,” said Brian Whitehead, a cannabis investor and strategy advisor who has helped organize social equity incubators.
Whitehead says social equity licensees are particularly vulnerable, since many are already starting the process with few connections to potential investors. He expects many social equity licensees will either be pressed to sell their license at a relatively low valuation to get quick cash, or be pressed into bad operating agreements for similar reasons.
Managers of investment funds targeted at cannabis tell me they’re having a hard time raising money too.
“Most of our clients are down, on paper, 25 to 30% on their investments. That’s making a lot of people nervous and closing up their checkbooks,” said one private equity fund manager.
If you’re a smaller cannabis company in a mature state, Czarkowski said, potential investors will doubt that you have much room to grow and likely take a pass on your business.
“Everybody I’m talking to is having a hard time raising capital. It’s a tough time out there. People are getting focused on fundamentals,” said Kris Krane, a cannabis operations consultant and the former president of 4Front.
“One thing we’re seeing more of among investors is operator availability. How likely are they to be good operators, in cannabis or elsewhere? A few years ago, people invested just in licenses, with the idea you can invest in just about anybody and you’re likely to be successful. But now there’s more sophistication among investors where operators really matter,” said Krane.
Most of us probably know of a cannabis business or two where you wonder, how are they in business? Those days are coming to close, says Krane, because if your business is leaking too much cash, and you don’t have the operational expertise to right the ship, investors have lost interest in bailing companies out – no matter what their size.
“Some name brands are really going to suffer this year. You might see mid-tier companies sold for parts by 2023. They have so much debt coming due, and they need to restructure. There aren’t that many options available to them,” warned Krane.