In January, Attorney General Jeff Sessions rescinded the Obama-era Cole memo, which stated that Federal prosecutors would not interfere in states that had legalized marijuana.
That opens the door to Federal prosecution and asset seizure, even in states that sanction marijuana sales, but it’s not stopping one major player in the cannabis industry from an aggressive growth strategy.
Think of MedMen as the Berkshire Hathaway of legal pot, a $1 billion holding company that buys and operates marijuana dispensaries and production facilities across three states.
MedMen currently operates dispensaries in downtown Los Angeles, Beverly Hills and Venice, a 45,000 sq. ft. greenhouse cultivation and production facility in Reno, Nevada, a similar operation under construction in Desert Hot Springs, California, a Las Vegas dispensary, five management contracts for four MedMen branded dispensaries (West Hollywood, Santa Ana, LAX and Los Angeles ) and a cultivation facility in Los Angeles, and a cultivation and production facility with three (soon four) dispensaries in New York.
MedMen spokesman Daniel Yi says that the Attorney General’s actions are concerning, but that the overall trend is toward legalization.
“Currently you have 30 states that have legalized medical marijuana. You have eight states including California, the largest state in the union, which have legalized adult use. California is expecting to collect upwards of $1 billion in tax revenue at the state level, not counting county and municipal level. You have to look at the momentum,” he says.
Yi also points to public opinion research, like a recent Gallup poll, that shows a majority of Americans (64%) in favor of legalization, and a Yahoo/Marist poll from April 2018 that reported some 86% of Americans in favor of medical marijuana.
Against this backdrop, both law makers on both sides of the aisle have been reluctant to return to full criminalization. The Rohrbacher Blumenauer rider attached to the Omnibus Budget Bill prohibits the Justice Department from using federal dollars to prosecute state-sanctioned marijuana operations; it’s been extended three times, most recently through December 8, “2017."
All this means that, despite the noise, companies like MedMen aren’t really worried about renewed criminalization. “The reality on the ground hasn’t really changed and we believe that the momentum is just carrying us forward. We feel very confident that the federal prohibition will eventually end,” says Yi.
MedMen is so confident about the future that it is planning an IPO for later this year. The company is seeking listing on the Canadian Securities Exchange, a fully automated electronic stock exchange based in Toronto and focused on small- and micro-cap stocks.
Yi says that the offering will provide easier access to capital to fuel his company’s rapid growth. “Just to give you an idea of our expansion, we started 2017 with about 80 employees and we closed 2017 with close to 300 employees — and in January of 2018 we doubled that number again to 600 employees."
"It’s almost unbelievable how fast this space is growing and then how fast MedMen is growing because we are acquiring assets,” says Yi. “Private equity fundraising worked well for us, but here was an opportunity for us to be, again, ahead of the curve. We pride ourselves on being ahead of the curve, so here was an opportunity to go and raise funds much faster.”
Banking and financing challenges
Since legalization began, marijuana companies have had difficulty accessing capital from traditional sources. Bank loans and other forms of commercial debt financing are hard to come by. And even wire transfers — to send and accept payments — are tricky since federal laws outlaw the drug and put it on par with cocaine and heroin. For this reason, experts estimate that 70% of marijuana businesses in early adopter states like Colorado, California and Oregon are run entirely with cash.
Yet even this may be changing, according to Yi. “Banking is a challenge, no doubt about it, but it’s not impossible,” he says. “The Treasury department a few years back put out guidelines on how financial institutions can bank state-sanctioned marijuana operations, and it had mainly to do with money-laundering issues.
Basically what the Feds are worried about is money laundering and making sure that everyone pays their taxes. If you follow their guidelines, there’s nothing that prohibits you necessarily from banking marijuana in states where marijuana is legal. The challenge though is all the compliance.”
Large, national money-center banks typically don’t want to dedicate resources to creating marijuana banking compliance departments, since states where the substance is legal make up just a small part of their customer base. Yet smaller, more local banks often find it worth their while.
“It’s common in Colorado actually. All the credit unions pretty much in Colorado are in the cannabis space,” says Yi. “So that’s how you get banking services. You work with those regional banks that welcome the business because, quite frankly, for them it’s a huge niche.”
Capital raising is also complicated, but companies like MedMen have found a niche with private investors. MedMen Capital, the financing arm of MedMen, has raised $150 million via two private equity funds in the last two years, the majority of it from family offices.
“There’s a lot of interest from family offices and to a certain extent from institutional investors into the cannabis space,” says Yi. “Obviously given the fact that it’s a federally banned substance, that makes it nearly impossible, if not completely impossible, to raise commercial loans."
"There are limited ways to raise capital in this space. So private equity was a great vehicle and it remains a very good vehicle today to raise capital to build infrastructure in the cannabis space.”
The appeal to private investors
Family offices and private investors are drawn to the cannabis industry’s dramatic growth potential. According to New Frontier Data’s Cannabis Industry Annual Report, the legal cannabis market was worth an estimated $6.6 billion in 2016, and annual sales projected to grow at a compound annual growth rate (CAGR) of 16% to reach more than $24 billion by 2025.
“Many people are investing in the space, but the family office investors who are most interested are those which are familiar with agriculture, warehousing, or have navigated more heavily regulated business channels before and have done well there such as alcohol and tobacco,” explains Richard C. Wilson, who advises on over $5B of family office assets and is CEO of the Family Office Club.
Even if the Justice Department doesn’t intervene, the cannabis market has attracted so much interest lately that some investors worry about valuations. “I have seen many startup cannabis companies getting $20 million and $50 million plus valuations with only a little progress to show for it, and most of the valuation being on the excitement around the space,” says Wilson.
He adds that initial rounds of capital typically come from friends and family — who may have an inflated idea of value. “There is often a huge gap between what un-informed golf club HNW friends will pay for access to a deal vs. a wise family office. That is happening now fairly often but can get solved via debt notes, warrants, down rounds, special provisions on a share class, etc.,” he adds.
So in addition to the legal risks, there may also be financial exposure. “There’s a risk that you are far overpaying for a startup company who doesn't have sales yet. If the space gets too hot you are better off waiting to see who survives and then buy their proven cash flow down the road when things settle down potentially - but nobody knows if or when that could happen,” says Wilson.
Not for everyone
Given the proliferation of seminars and conferences, alternative investment vehicles (a trio of marijuana-related ETFs launched in January) and research on the topic, you might think that private investors were swarming the cannabis industry. But even in the family office sector, many organizations are wary of the legal, reputational and investment risks.
Even MedMen's Yi admits, “This is not an investment space for everyone. There are people who will never get into this space until the federal prohibition ends.”
“It is a tricky space to navigate, but therein lies the opportunity,” he adds. “There’s no other industry today that gives you the potential to do a rate of return of in the 25% to 30% range. So it’s your classic risk and reward when it comes to investment. Yes, the risks are higher, or perceived risks from our standpoint. But if you believe in the long-term viability of this industry, the potential returns are huge.”