In the Weeds: CPAs and Legal Cannabis
Cannabis businesses need finance talent, but is jumping into this complex and rapidly growing industry right for you?
By Jon Paul, CPA |
Digital Exclusive - 2020
Cannabis is perhaps the fastest growing industry internationally, still in its adolescence, and the industry needs great finance talent to handle this exceptional growth. Developing cannabis industry expertise can pay dividends in your career for decades, but beware: It’s not like any other industry out there. Despite having worked in a wide variety of fast-paced industries throughout my career, I had no idea what I was really getting into. Even so, I’m glad I took the plunge two years ago. Here’s my take on what makes it so different, why it’s a great industry to be part of, and how to decide if it’s right for you.
What makes cannabis different from other industries?
Cannabis has enormous promise but comes with enormous challenges. Most of the hurdles it faces stem from the fact that while many states have legalized recreational and/or medical cannabis, it’s still illegal at the federal level.
I joined the cannabis industry in June 2018, brought on as outsourced CFO to take Plus Products in California public in Canada that fall, and later became permanent CFO. On the way to the airport to start my new role, I called a friend in the industry. He gave me one invaluable tip: know IRS code 280E backwards and forwards. Cannabis is federally illegal as a schedule one drug (like heroin, for example), despite being legal in many states. This means cannabis businesses are taxed on gross margins and cannot deduct SG&A expenses or interest, even if they are losing money.
Because cannabis is still illegal federally, most major banks will not service cannabis businesses. There are limited local options like credit unions and state-chartered banks, as well as cannabis banking networks. This is not banking as you know it—the approval process can be arduous, fees high, and servicing and reporting more difficult. You may have to switch banks on short notice, credit cards can be hard to come by, and loans impossible.
For the same reasons, cannabis businesses usually operate with cash only. Cash gets passed throughout the supply chain from dispensaries all the way to growers. It’s time-consuming to collect, count, secure, and unload this cash. Fortunately, cannabis banking solutions are emerging to allow digital transactions, but the industry has a long way to go.
Coverage providers willing to cover cannabis businesses are rare, and those that are willing to underwrite may charge much higher premiums. Most difficult of all is directors and officers (D&O) insurance for public companies. Rates and deductibles are extremely high and carriers are very selective.
Many service providers have been taking a pass on cannabis while it’s still illegal at the federal level. You may not be able to work with your favorite software system, payroll provider, or audit firm (including the Big Four).
In states where cannabis is legal, it’s usually local communities that decide if they want cannabis operations in their back yard. As more states legalize recreational cannabis, some towns are voting not to allow adult-use dispensaries. Cannabis facilities may be in very remote places and their rent tends to be very expensive, since landlords consider cannabis riskier and there is a smaller pool of available properties.
Cannabis does not have a strong institutional investor following, which can lead to dramatic swings in valuations. Many public cannabis firms are down 90 percent or more from their peak valuations in the spring of 2019. IPOs have dried up the past three quarters, but special purpose acquisition companies (SPACs) have raised billions for acquisitions.
Cannabis firms cannot go public in the U.S. but can in Canada on the Canadian Stock Exchange. You’ll be subject to IFRS accounting rules rather than U.S. GAAP. Be careful not to trip Foreign Private Issuer (FPI) rules or you’ll end up subject to Sarbanes-Oxley. You can still file consolidated U.S. returns by inverting your Canadian parent—but don’t trigger a taxable event.
Because it’s federally illegal, cannabis cannot be shipped across state lines. To enter a new state, you must obtain a local license and build or acquire new facilities, or partner with someone who has a license. This makes it harder to expand and scale up.
There are still a lot of unregulated competitors. In California, as much as 70 percent of the market is illegal. Obviously, illegal competitors can provide better prices and not have to jump through the same regulatory hoops as legitimate cannabis businesses.
So why do people enter this crazy industry—and love it?
A semi-legal, constantly evolving industry isn’t for everyone, but those who see its promise and like a challenge will find there’s a lot to love.
If the why matters to you, you have come to the right place. While research is still nascent, early findings suggest that cannabis can be effective in managing chronic pain, PTSD, and more.
Despite a COVID-19 slowdown, signs point to more states (and likely the federal government) legalizing cannabis. In states that have already made that move, illegal competition is likely to decline and sales are incredibly strong.
When cannabis becomes federally legal, banking and other services will open up. Capital will flow in once lending becomes available. Consumer goods, pharmaceuticals, and other industries will be eager to get in the game. Once the legal hurdles are down, interest in the industry from all quarters will balloon.
Think about the internet 20 years ago versus now—could you ever have imagined how intertwined it would be in all aspects of our lives? Some experts predict that cannabis will become similarly embedded in our lives and many of the products we consume.
The industry is transitioning from the early stages of growing revenue at all costs to more sophisticated financial strategies and planning. Cannabis businesses are looking for finance experts who can help them grow wisely and sustainably.
Is the cannabis industry right for you?
If the hurdles don’t faze you, and the industry’s potential excites you, here are the skills and personality traits you’ll need to succeed in the weed business.
Are you good at networking? You don’t—and can’t—know it all; cannabis is too specialized. Join cannabis groups. Attend events. Keep up with industry news. Community matters in this industry. Build your network—the good news is we are very open to helping each other.
Are you the type who can shift gears easily? Things change very quickly. Your days will end very differently than you thought when you woke up. Can you be productive, or does this throw you off?
Can you move at a fast pace? Things happen quickly in this business. Opportunities come in a flash, and someone else will pounce if you pause to think it over.
How well do you tolerate ambiguity? Can you let go and move on or do you get stuck? Cannabis is a new industry, and each state and community is ever-evolving in how they approach it There are a lot of unknowns and a lot of decisions that end in “wait and see.”
Cash Flow Knowledge
Can you work the cash? Are you good at getting customers to pay, managing accounts payable, and working capital? Keeping the cash balances up has never been more important. It’s a bonus if you know how to work the pre-public equity stages, real estate leases, and banking relationships (someday, maybe even structuring bank loans).
Are you a rock star at projections? Can you get your arms around new business models and figure out how they fit in? There are mergers, alliances, new product lines, geographic expansion, vertical integration, core business changes—plenty to model.
Opportunities of this magnitude are rare. The cannabis industry is still in its infancy. Come learn the business, build special skills, make connections, and develop an expertise not many have. If this is the right fit for you, it can be a game changer that will alter your career path for years to come. I dove in and never looked back. If all of this sounds exciting, use these pointers as a jumping-off point—the industry will welcome you with open arms. After all, we need great finance talent to keep growing!
Illinois CPA Society member Jon Paul, CPA recently finished two years as CFO of Plus Products and has spent his career as CFO/consultant to rapidly growing entrepreneurial firms. He is currently writing a book, “Thriving in the Cannabis Industry,” and founded Value Added Finance Resources.