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Why Investors Are Turning Toward Cannabis in 2017

The marijuana industry has come a long way in the last 5 years. The cannabis market as-a-whole is one of the fastest growing industries in North America, and is quickly becoming one of the most profitable. States that have passed some form of legalization are reporting gross sales in the billions, and these numbers will be increasing as more states legalize marijuana.

Many investors are turning toward the cannabis industry to supply capital to this cash starved industry. Whether from venture capital firms or private money investment, the marijuana space is seeing more investment from private non-bank sources than ever before. Despite marijuana being illegal at the Federal level, investors are enamored with the higher returns and the appeal of the growing industry.

Continued Research and Positive Reception
Marijuana-related products continue to gain popularity for both medical and adult use. The largest contributor to the cannabis market’s expansion is the mounting medical research showing its benefits. Able to help with ailments ranging from anxiety to cancerous tumor growth, cannabis and derivative products like CBD (Cannabidiol) oil are now receiving recommendations from doctors in many states. Attention to its medical benefits is gaining worldwide acceptance.

There are 28 states that have now legalized some form of marijuana use, where 8 of these states do not require a medical recommendation. There were 4 additional states which voted to legalize adult use in the November 2016 Elections, which has only proven to be an economic boom for states like Colorado that have had increased employment, increased tourism, real estate values and other economic benefits. Colorado reported nearly $1 billion in cannabis product sales in 2015, and the figures for 2016 are expected to be larger.

Banking Challenges
One of the largest issues marijuana businesses are faced with is the difficulty and cost of obtaining banking and traditional loans to expand their business. Despite being legal in some form in 28 states, it remains difficult for cannabis-based businesses to open a business bank account, obtain a loan, or open a line of credit. This is where private investors provide value to the industry.

Private capital is one of the preferred options available to the business owners, who want to maintain control of their company without further diluting their equity.  Dynamic Alternative Finance has been able to secure more than $25 million in funding for cannabis-based businesses in the past 2 years. The need for capital continues to grow as more businesses are expanding into other states and larger facilities.

High Returns from Sound Investments
One of the reasons investors are looking at the marijuana industry is for the above average returns and the profit potential. Investors can receive monthly cash flow and obtain returns in the 12% and higher range. The cannabis industry is constantly evolving and investors are providing new and innovative products to serve this need for capital to expand their business.

Several of these cannabis businesses are large, multi-location, vertically-integrated operations with multiple product offerings. At Dynamic Alternative Finance, we arrange financing for established marijuana businesses that require more than $250,000 to expand their operations.

The Opportunity is Only Growing
The opportunity for investors is expanding as more states legalize marijuana and cannabis business owners have a need for equipment, real estate and working capital loans. Continued legalization of cannabis and related products means that not only will more companies open in the market, but more companies will decide to move into the market. Food and beverage companies are starting to explore and expand with marijuana-infused offerings and tobacco companies are investing in cannabis vape brands. Cannabis derivatives like CBD are presenting companies the opportunity to include the health benefits of marijuana in their products, without the psychotropic effects.

Recent Transactions with DAF

At Dynamic Alternative Finance, we help business owners acquire the funding they need to expand and grow their business when traditional resources aren’t available. Most recently, we have helped businesses with expansion projects, inventory woes and final touches before opening. Read more about each below:

Cannabis Company Expansion $350,000
A vertically-integrated marijuana company wanted to expand past it’s 2 stores and grow operation without searching for equity capital. We were able to arrange a $350,000 deal in less than 3 weeks.

Marijuana Storefront Build-Out $350,000
A vertically-integrated cannabis company wanted to open a 4th store in the Denver area without diluting their equity. We were able to secure a $350,000 working capital loan for the build-out of their new location. They were drawn to the speed and flexibility of the lender, and the ability to obtain exceptions during the underwriting process.

Grower’s Working Capital $325,000
A wholesale adult-use cannabis grower in their first year of operation needed additional capital for marketing, equipment and supplies. Losing money, and unable to invest resources in raising equity capital, we were able to secure a $325,000 private money real estate loan using equity in the real estate and green house as collateral. This deal closed in a mere 10 days from the first call.

The PATH Act and Your Marijuana Business

At the end of 2015, the Protecting Americans from Tax Hikes Act (PATH) was signed into law, allowing marijuana-related business owners to once again take advantage of depreciation and energy tax benefits. The new package provides a set of incentives that could greatly reduce tax costs for qualifying businesses.

Section 179
The first benefit for cannabis businesses that made equipment, asset and building improvements in 2015 is the Section 179 deduction. These businesses can now expense a combined $500,000 for production equipment (new or used), off-the-shelf software, and up to $250,000 in leasehold improvements. This deduction phases out dollar-for-dollar for equipment and improvements costing more than $2 million, and carries the stipulation that these upgrades need to have been “in service” by December 31st of the tax year. The example below demonstrates how beneficial this deduction could be for tax savings.

Assuming upgrades were “in service” in 2016, the following cost savings could be applied to a purchase of $500,000 in equipment:

   $500,000 in equipment
–  $175,000 assuming a 35% tax rate
= $325,000 true equipment cost

Bonus Depreciation
The next development to come from the PATH Act is bonus depreciation. Bonus depreciation is the provision that allows businesses to expense off a portion of an asset in the year it is added. This has proven to be very helpful for businesses with large amounts of qualifying equipment, as they are able to save large amounts of tax in the year of purchase. A gradual phasedown has been implemented. The bonus depreciation plan through 2019 breaks down as follows:

  • As of January 1, 2015 through December 31, 2017: 50%
  • As of January 1, 2018 through December 31, 2018: 40%
  • As of January 1, 2019 through December 31, 2019: 30%

These rates mean that production equipment and improvement purchases with less than 20 year lives will be able to be expensed at 50% of the asset price in the year of purchase through 2017, 40% in 2018, and 30% in 2019. While this section does carry certain stipulations around qualified assets, it is a great opportunity for companies to invest in necessary equipment for a significant amount of savings.

Qualified Leasehold Improvements
Another significant piece of the PATH to help marijuana businesses saving on taxes comes via qualified leasehold improvements. Depreciation lives are reduced to 15 years, instead of the 39 year schedules normally applied. This means that after Section 179 and bonus depreciation deductions, a business will be able to accelerate remaining tax value of improvements over 15 years instead of 39 years. This rapidly reduces the timeframe in which a business can depreciate an asset and enjoy the tax benefits more quickly.

Energy Tax Incentives
The final benefit to cannabis business owners to come out of the PATH Act is the extension of the Energy Efficient Commercial Buildings deduction, or Section 179D. Now available through December 31, 2016, this is a deduction of up to $1.80/sf available to those investing in energy-efficient improvements that aim to reduce energy use within the building envelope (insulation, doors, windows, etc.), air conditioning and heating ventilation, and energy-efficient lighting. To qualify for the deduction, the building’s energy systems must be a specified percentage more efficient than the American Society of Heating, Refrigerating, and Air-Conditioning Engineers (ASHRAE) 2001 standards. It should be mentioned that these incentives are different than Energy Investment Tax Credits, which pertain to alternative energy sources like solar, geothermal, and wind.

Issues in the Marijuana Industry: Real Estate

real-estate-300x157As more states legalize some form of marijuana use, business owners are finding new barriers to entry in the
industry. One of the biggest involves the search and procurement of real estate. Acquiring an operation license is only the first step in what can be a long, tedious, uphill battle toward a successful cannabis operation.

Lack of Lending and Mortgages

Since the growth, sale and distribution of marijuana is still illegal at the Federal level in the U.S., financial institutions have steered clear of businesses with involvement in the cannabis industry. Banks face criminal prosecution, asset forfeiture and large amounts of liability if they are found to be involved with illegal businesses. It is because of this that marijuana-related businesses do not have access to traditional forms of lending and mortgages. Without access to the capital processes that other businesses have, many have to find other ways to raise funds.

Risk of Civil Forfeiture

As any association with a marijuana-related business is deemed illegal by the Federal government, many landlords and property managers are hesitant to lease space to them at the risk of civil forfeiture. Just like with banks, any property associated with the marijuana business can be subject to asset seizure, though the Federal government has several guidelines which state that they will not spend resources pursuing state-legal and compliant marijuana businesses. Despite these guidelines, some property owners don’t want to carry the risk of this even taking place. Those who do, however, are indulging in the increased rent and property values in areas like Denver, where warehouse prices have doubled (and in some cases even tripled) in the last five years.

Finding Conducive Property

leasingFinding real estate that works for the growth and sale marijuana can be very challenging. Zoning and restrictions regulating the distance from schools, day care centers, rehab facilities and other make it difficult in a mature market like Denver. Business owners who want to get into the industry now are buying existing locations, since they are already “grandfathered in” and have met proper distance and zoning requirements.  Most marijuana production facilities are large, open spaces that require ample ventilation and can sustain lighting and watering systems. Finding property that meets all of these criteria can certainly be a challenge, and has even led to the emergence of marijuana-focused real estate brokers and agencies.

An Industry Stigma

Even when business owners are able to overcome the challenges described above, they still face a stigma about marijuana and the cannabis industry. People still associate marijuana-related enterprises and their owners with a lazy, laid back, “stoner culture” mentality. These business owners find it difficult to be taken seriously, and being an illegal substance in the eyes of the Federal government doesn’t help. These barriers have driven marijuana businesses to band-together to not only change the perception of the industry, but to make the process easier and more conducive so that everyone can be more successful.