Cannabis Startups 101: The Sessions Effect on Company Financing in 2018

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marijuana investment venture capital
More room for cannabis-specific funds and investors.

Investor interest in the cannabis industry was at an all-time high in 2017 in anticipation of full legalization in California in 2018. The number and dollar figures of deals were up, and packed houses at our investment forums in San Francisco and Los Angeles served as anecdotal evidence of the same. The exponential expansion of available funds was set for 2018, when the institutional capital—venture capital (VC) and private equity funds—were preparing to allow future funds to invest in the cannabis industry. These funds would primarily invest in “ancillary businesses,” but the ripple effect of all that available capital in the industry would have meant more for direct operator cannabis businesses as well.

President Trump’s election did little to slow the enthusiasm throughout 2017, as investors took at face value the words of then-candidate Trump, who claimed to be “in favor of medical marijuana 100%” and to think adult-use “should be up to the states, absolutely.” Further, prior to Senate confirmation, his Attorney General, Jeff Sessions, apparently assured Senator Cory Gardner of Colorado, among others, that he would not interfere with the Cole Memorandum or states implementing their own regulatory systems for adult use cannabis.

The timing of the Sessions Memo—coming immediately after California’s legalization took effect—appears to be a demonstration of federal power to counteract California’s legalization efforts. Just as importantly, it’s an effort to prevent the vast expansion of capital that would flow into the industry. California is, after all, the venture capital capitol of the US, full of smart money willing to take reasonable, calculated risks.

However, so long as cannabis remains federally illegal under the Controlled Substances Act, and the Department of Justice (DOJ) remains ambiguous as to its prosecutorial priorities, institutional capital will stay out of the cannabis industry. Even with immense opportunities available, the possibility that marijuana holdings may threaten a fund’s overall portfolio and make their limited partners nervous means the potential rewards no longer justify the risks. Those analyzing investment trends have already noted that VC interest in cannabis isn’t living up to expectations in 2018. Given the lag in fund formation (because a fund’s limited partners would need to explicitly agree to allow investments in the cannabis industry), 2018 Q2 and Q3 would be the real indication of VC interest. But we in the industry already know the verdict: institutional funds of the Sand Hill Road variety, by and large, are staying out.

What this means for your business, if you’re raising funds in 2018:

  • Cannabis-specific funds (those able to raise funds) could be the big winners: they’ll have their pick of deals and can drive better terms.
  • Individual investors (high-net worth individuals) will continue to be the primary source of funds for direct operators in 2018.
  • A state-wide, comprehensive banking solution is not as close as we believed.
  • Multi-state expansion plans will be problematic—the Sessions Memo could have a detrimental effect on the legal defense in suits alleging Federal RICO violations.
  • Medical continues to be a safer option, for now. The Rohrabacher-Blumenauer Amendment provides a safe haven in California, where courts have ruled that it prohibits prosecution of medical cannabis businesses. Whether or not Rohrabacher-Blumenauer is extended (or expanded) will have a major impact on investment and business strategies in 2018.
  • Pressure for a legislative solutions towards legalization will continue, because: A) it’s popular among the electorate, B) local governments need the tax revenue, and C) these solutions normalize an industry that industry experts say will create more jobs in the US than the manufacturing industry by 2020. These political realities are turning cannabis agnostics into industry advocates – for example Senator Gardner, who has gone from an opponent of legalization five years ago to staking his political future on opposing Sessions’ attack on cannabis.

We are only one month into the new year, so expect plenty of twists and turns along the way. For now, though, it is undeniable that the recent DOJ reversal has impacted VC and private equity interest with respect to marijuana industry investment.

Source: https://www.cannalawblog.com/cannabis-startups-101-the-sessions-effect-on-company-financing-in-2018/

 

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