Category: Regulation

*Okay, no one said that.  But this is the story of my getting into the pot business (sorry, no Mexicans and only tangential references to ass sex) and commentary on regulatory issues from a libertarian perspective.

1. 

   Organic, Hydroponic, Outdoor, Indoor (Why weed, philosophical considerations)

My career has been in IT, Operations, and Finance for Food & Beverage manufacturing.  I’ve got a bunch of certifications that prove I can manage a project and make improvements and create models.  But the winter of 2016 was one of discontent. I realized that if I continued working in a cubicle / office at a large corporation, I was going to splatter someone’s brains all over the beige fabric cube walls.  And since I am too ornery for suicide and too pretty for prison, I decided to get out of Cubeville. My performance had suffered, and I wasn’t fitting culturally at work anyway, so when they offered me a chance to leave, I took it.

My business partner is a friend from the kink community.  His career has mostly been IT startups.  And two years ago he started doing research into becoming a canna-business owner.  When I lost my last job, he invited me over to hang out, showed me the operation, and then talked to me about my plans.  At that point I wanted to simply take a month off; period.  I haven’t had a vacation except for family visits, in over 5 years.

I started helping with his small med grow just to have something to do and get out of the house.  The month elapsed and we started discussing it in earnest.  What it would take to get involved money wise, plans, the pot market itself, the various options and strategies.  I started thinking about it more and doing some of my own research.  I had, by that time, decided I wanted to start my own business and this seemed like a good opportunity.

I’m not a pot user.  In 42 years old and I’ve used pot maybe 10 times, all within the last few months.  But that’s okay.  I see its uses for both recreation and medicine as valid.  One needs pleasures in one’s life, and while I think pursuing them in some moderation is better, others may have different priorities.  I think that whatever risks come with using marijuana are small enough and manageable enough that I am satisfied morally about selling it as a legal product.  Were, say, heroin to be legalized, I wouldn’t feel the same way as there does not seem to be a way for one to use that drug and stay productive.  That was critical for my personal decision making – can people use pot and still function or even improve their functioning?  I think so.

I also realized I was enjoying myself when I was helping out my friend (and now business partner).  We were building things, figuring out how to get things working, digging in the dirt.  I’d come home tired and dirty and happy.  I spent 20 years trying to get away from anything agricultural because I grew up in a rural area and thought success was wearing a 3 piece suit.  But success is enjoying your life and the people in it.

On a business level, cannabis is at an interesting place.  I worked in the craft beer industry for a few years and investigated the craft distilling industry as a potential business and I found the history informative.  Those families that acquired distributor licenses when the 22^nd Amendment was repealed have businesses now that that are worth 100s of millions of dollars.  They got in early and they are still reaping the rewards generations later.  It’s also interesting to look at wine in the late 70s – early 80s, craft beer in the 80s and early 90s, and craft distilling since the early 2000s.  The early movers into those markets are doing well and have strong businesses.  Now’s the time for getting into the legal cannabis market.

2. Growing Cannabis; Clone to Flower (Startup Life, Entrepreneurship)

I didn’t chose the startup life, the startup life choose me.  I use that quip sometimes when I have a play partner ask when I can tie her up again and I have to beg off due to running the business.  It’s true that running your own business can suck; your boss is usually a dick that rarely wants to give you any time off, and sometimes the sonovabitch doesn’t even pay you, you have to pay him.

My wife and I have always been white collar folks, making excellent money.  Further, we lived well within our means and don’t have kids.  Which translated to us rarely having to worry about money.  We made way more than we spent, even after savings, so we had a huge cushion.  Part of being an entrepreneur is that I’ve had to give that up a little bit.  My wife still has her white collar job and makes enough to support us easily.  But that carries its own struggles with it.

First and foremost I was brought up to, at the least, do my fair share for my family, to be the breadwinner.  Yes, yes, I’m a cis-het shitlord.  Whatever.  So there’s some ego issues with being dependent on the wife’s income for the bills.  Also, since she is fascinated by arcane Jewish rules despite not being a Jewess, she claims that since I am technically unemployed, I owe her sex twice a day. I do my best to fulfill that obligation despite not being Jewish, so that keeps her happy with the arrangement. Be that as it may, it’s also a calculated risk, that if this hits as well as it could, in a few years the business will support us in a way that would mean a lifestyle of wealth and time to enjoy that wealth.  In the meantime, we are budgeting and making sure we continue to live within our means and it is well worth it.

And that calculated risk I mention does have a huge potential payoff.  This is something an entrepreneur has to learn to deal with; risk calculation.  Which sounds kind of scary, but is fairly simple if you understand a little math.  What’s the potential worst case scenario?  What’s the best case?  What are the odds of each?  Apply dollar amounts to the first two and multiply them by the answer to the last question.  If there are things you can do to improve the odds adjust for that, then compare your values and that should help make the decision.

I don’t want to get into specifics of how much I’ve invested, but I’ll walk through the math.  I’ll also talk a little about where the investment money came from.  We moved to Portland 4 years ago and bought a house at a relative low in the market.  A couple of years later we moved out to the suburbs but kept the original house.  Due to the house’s location, when we sold it this spring, we made a substantial sum of money.  The profit was about 5x of what we expected to make in that period of time. Even after paying off some remaining grad school loans, tucking some away to fatten up the retirement account, the amount needed to invest was less than the remainder.  It’s essentially a large windfall, or as I refer to it, we’re playing with house money.

So even if we lose that money it doesn’t damage us long term.  There’s an opportunity cost, of course.  We could have put that money into paying down our existing house, or invested it in some other enterprise.  But anything we do with it would have some risk.  The other potential cost is the salary I’m forgoing for the next two years while I try to launch this.  That’s my downside number.  Let’s call it $100k just to use a round number.

The upside, of course, is if the operation is successful.  Since the partnership is 50/50, I simply need to calculate what the expected revenue will be over the next two years and what the profit is going to be.  Right now, even the really poorly run ops are making about a margin that is about twice what a well-run food manufacturer makes, and about 25% more than a well-run alcohol producer.  For the sake of discussion we’ll put the amount of money I can expect from the profits at $1.5mm.  Again, not a real number, but it is proportional to the real number.  This also ignores the longer term, and options for integrating the vertical by spinning up a processor and our own retail outlets, as well as some other strategies we have for expansion.

Alright, the risk is losing $100k versus winning $1.5mm.  So what are the odds of each happening?  That’s the real important part of the decision.  Let’s assume the failure rate is 90%.  In reality about 67% of cannabis businesses in Oregon have failed.  The vast majority were due to failure to comply with either reporting requirements or basic shit like tracking your employees’ hours and properly paying them, which even some fresh off the boat immigrant can manage when starting a restaurant.  So that failure rate is low, but for determining expected value, I think it’s a good number.

Multiply $100k times .9 and that’s $90k.  Multiple $1.5mm times .10 and you get $150k.  Subtract the $90k from the $150k and my expected value is $60k more than if I don’t take the gamble.  That makes it a risk worth taking.   That ignores that it is difficult to value the experience of trying to start my own business and the freedom and flexibility it provides me.

Any entrepreneur needs to think in those terms, and unless you are starting a lifestyle business, you also need to think of terms of longer term potential.  My guess, taking in the past closest benchmark industries (alcohol, primarily), looking at the current demand, and at the future possibilities is that this can be huge.

The market for legal recreational and medical marijuana is massive.  In Oregon at least, the demand is higher than the current level of supply.  That gap is closing, but it’s going to take a few years for several reasons.  Most of the early entrants were black market or med growers who had been growing enough to make a house payment.  They are good growers and make some excellent weed.  But their business sense is limited.  They’d get hooked up with an outside investor that had the money, but no knowledge of growing or interest in being intimately involved.  They could smell the opportunity, but didn’t want to be heavy lifting investors.  So they wrote a check for $1mm or $2mm.  And in a year, they are out of business because the grower burned through the cash.  Or they can’t comply with the regulations.

We think our competitive advantage is that my partner and I have grown the product and developed our basic process along with an experienced grower.  We believe that we can bring an analytic, process based approach to growing that few others can.  Which will allow us to get big enough so that when the market hits saturation and prices start falling down to commodity levels, we have higher margins than average and are able to weather those changes while also scooping up smaller grows.  The margins decreasing will only help us as it puts pressure on less well-run organizations.

We also plan to invest heavily in vertical integration.  Once the first Tier 1 is fully operational, we’ll open a processor.  Then we’ll start the franchise part of the business.  There are lots of good growers that either don’t have the cash to get the land, or don’t have much business sense and know it.  While we can’t own more than one license of the same type, we can lease the land and provide services to other growers and/or investors.  We’re working on the details of that, but it lets us expand legally.  Within five years we expect to have our Tier 1 grow, a piece of 3-5 more Tier 1 grows, a processor, and some retail outlets and a testing lab all under our umbrella.  We have specific landmarks and decision points along the way.  But we are building an enterprise.

Which brings us to exit strategy.  Which is venture-speak for ‘how are you going to really get paid off for this investment?’  Are you going to sell it to someone else? Keep running and growing it? Own it but let someone else run it?  The answer is; we have plans for each eventuality.  I’ll talk more about this in the last section.

3. 

   Medium and Nutrition (Specifics about Weed growing)

Cannabis is a weed.  So it should be easy to grow.  And that’s true.  You really only need some dirt, some water, and some light and you can grow a marijuana plant.  But there is a difference between growing a single plant and running a farm, both in terms of quantity and quality.  It takes skill, art, and science to grow large quantities of high quality product in a given space.  Like any other similar enterprise, it’s all about yield.  And keeping costs down for each pound you produce.

So every ounce of marijuana starts as either a seed or a cutting.  Either way, once the seed or the cutting has roots, it’s placed in a growth medium.  That can be soil or hydroponic.  We grow in a soil like medium called Tupur.  It’s made primarily from shredded coconut shells.  It provides a medium for the roots of the plant, but no nutritional value like various other types of soil.  The advantage of that is that we can feed more often than if it were in soil and at lower PPM of the nutrients.

That helps in the next stage which is vegetation.  The objective in this stage is to grow the plant and strengthen it to prepare it to go into flower.  Flowering is determined by the number of hours of darkness the plant experiences each day.  The plant will stay in veg as long as it has more than about 13 hours of sunlight.  There are some differences between strains and the easy way is to just keep them under the right kind of lights 18-24 hours a day.  The longer in veg the bigger the individual plants become and the more they’ll yield when they go into flower.  It also allows for different styles of growing; trees (tall), pineapple (bushy), or various types of trellising.  There is a trade-off; the longer spent in veg, the longer until you get your final flower.  So there’s some balancing we’re still figuring out on that.

Once it is time to go into flower, the grower needs to see that the plants are in total darkness for a certain amount of time.  Usually 12-13 hours.  This is the natural state of things in the fall when the plants normally flower on their own.  But it can be induced artificially outdoors by having green houses with systems for blacking out the green house, or indoors by simply turning off the lights.  Flower usually lasts for about 8-9 weeks.   Though for some pure sativa strains that time can as much as double.

In flower is where the bud begins to form and grow.  The signs one is looking for are solid, dense buds, for the trichs or sugar on the leaves close to the buds and the buds themselves, and looking for other signs on the buds related to the color and density in the buds.  There is some art to this and if you harvest too soon it can impact the levels of THC and CBDs, as well as the taste and the quality of the smoke.  Harvest too soon and the smoke can be not as smooth or be “speedy” meaning you get amped up instead of relaxed.

When the bud is ready, it is time to harvest.  This involves cutting down the plants so that the buds can be dried and cut away from the branches and remove the unwanted stems and leaves.  The bud also needs to cure a little while to make it the smoke smooth and maximize flavor.  Each bud has to be trimmed and the old school way is to hand trim it so you leave just the right amount.  For large harvests though, machines are used.  Slightly lower quality, but much more efficient even than orphans. Once the cure is finished, it is time to sell.

Selling for a producers is wholesale.  You’re usually selling pounds at a time to dispensaries.  There’s some sales effort involved, but much of that is simply taking samples to the buyer at a dispensary, smoking it with them, and then arranging the order and delivery.  The three biggest factors are the amount of THC and CBDs, the way it looks when displayed (bag appeal), and lastly how it actually smokes.

4. Insect & Pest Prevention (Taxes, Regulation, and Weed)

Regulations surrounding weed are interesting.  They fall broadly into three types in the state I’m in.  First are the types of license, second are zoning related for getting your license, and the rest are operational regulations for keeping your license and being able to sell your product legally.  The industry is over regulated, but then, virtually every industry is.  And in some ways, pot is less regulated than beer, wine, and liquor if you put aside Federal laws.  It’s also less regulated than the food manufacturing industry.  The regs are cumbersome and immoral because FYTW and god forbid people actually /enjoy/ themselves, but that’s true for many products.  In this section I’ll try to review the basic regulations and how they interfere liberty and some of the unintended consequences I think they bring about.

License Types – One can have either a med license or a recreational license.  With med you pay an extra fee on your med card and designate a grower.  Depending on where you are, you are allowed a certain number of plants in flower at any given time.  There is no real limit on the number not in flower or on the amount produced.  You can stack cards, meaning get someone with a card to designate you as a grower, but there are limits on the maximum number of cards you can stack.  Other than that, there is not much regulation or reporting required.  And if someone reports you, the cops have to call and schedule an inspection when it is convenient for you.

Recreational is a different game.  It is more complex and brings with it more reporting and regulatory oversight.  But that plant limit goes away and is replaced with square footage limits. In Oregon, there are no limits on the number of people who can have a recreational cannabis license for any of five categories; Producer, Processor, Wholesaler, Retailer, or Research.  The same person or group can have all five if they like.  And there are different types of sub-businesses.  For example, a seed bank is considered a producer.  A lab is considered a processor.  A home delivery service is a retailer.  The exact same ownership group can’t own more than one license of the same type, but there are ways to burn that bridge.

Zoning – The way zoning plays into is that each county is able to have its own zoning regulations related to the various types of licenses.  So they can designate various zoning types as allowing only producers and whether it is only indoor or outdoor producers.  Any interesting side thing is that the difference between indoor and outdoor is whether the structure has lights.  So if you have a greenhouse with no lights, it is an outdoor grow.  If you add lights, you are an indoor grow.  The reason that matters is both zoning and that a Tier 1 license (the current largest) allows for 40k sq ft of canopy in flower outdoors.  Indoors each sq ft of canopy counts for 4 of those sq ft.  So effectively it is 10k sq ft. of indoor space allowed.  Or you can do a mix of say 5k indoor and 20k outdoor.

There are also zoning laws related to minimum property size, how close to the property line the grow can be, what kind of odor remediation has to be done, visibility of lights, and the kind of fencing and access control that are required.  Those all vary for the different kinds of rec licenses.  There are other oddities such as you can have a Producer license for land that is considered Agriculture only and it will satisfy that requirement, but you can’t count the income from that toward your tax status.  This is one area where the zoning is slightly more complicated than other agri businesses.

Operational – The real regulations come in as part of applying for the license and keeping it.  The biggest are all around reporting.  The weed has to be tracked individually by plant, including the state of life it is in, and any changes made to it.   So, for example, plant 001 has to be trimmed.  You have to account for the weight of how much of that is disposed, and if any clones are made from it, you have to track that as well.  Once harvested the weight of the flower and any waste or other byproducts have to be tracked.  All those numbers have to be reported to the agency monitoring compliance, the OLCC.  When you sell any product to another rec license holder, you have to track that as well, so that there is ‘seed to sale’ visibility and prevent weed going into the black market.  This is actually common in the food, beverage, and alcohol industries, at least the tracking if not the reporting.

To add to that, the entire grow operation has to be covered by cameras that run 24/7.  Again, this is to make sure you aren’t slipping stuff out the back door into the black market.  The recordings have to be made available to the OLCC at their request for spot checks.  It’s also security for the rec operation as it helps with dealing with any thefts. Slipping stuff out the back door is really dumb.  As we all know, the back door is for going in.  *ahem* When people do this, they are risking 100s of thousands of dollars of revenue for a couple of extra grand by selling to the black market.

The last of the big three are testing requirements.  For every 15 pounds of product, you have to take random samples and send them to a lab for testing.  The testing provides proof that you haven’t used any banned pesticides and that your weed is ostensibly safe to consume (compared to literal Mexican ditch weed, most of the stuff on the banned list could be safely used).  It also provides information on THC and CBD content that has to be placed on labels for packaging.

There are some other minor things related; you can’t have barb wire on your fencing, you can only have so many visitors per year to a grow operation, and a few other things.  But the other three are the big ones.  Compared to other industries, they are a little intrusive, but not as complicated.

From a libertarian perspective, the zoning, the size limits and the like are all ridiculous.  Those are things which can be worked out by individuals. The monitoring to prevent the black market is, of course, ridiculous.  Any adult who wants to buy should be able to buy however much they want from anyone willing to sell it.  And the testing reqs are things the free market would demand anyway.  So they simply add cost to the entire enterprise without much real value.

5. Harvest, Trim, Cure and Sell (Where I think this is leading)

From a macro perspective, I think full legalization of marijuana / cannabis is on the horizon.  While Sessions has a hard-on about it, I am not particularly worried that he’ll go after legal producers in states where it recreational is legal.  Oregon makes far too much tax money from weed to cooperate if the feds go after their legal producers.  But the state does have incentive to cooperate in going after black market producers.  Which allows Sessions to beat off about stopping the demon weed and the states to force more of the black market producers toward getting legal so they can get that sweet, sweet lucre.  Extortion 101.

Beyond that, the real question is when it will be removed from Schedule 1.  My estimate is sometime in the next 8-12 years.  We’re down to only 2 states where marijuana possession is fully criminalized.  All the rest range from being fully legal for both medical and recreational (8 states) to simple decriminalization.  The holdouts are really the Midwest and the south east.  My guess is that once Texas and/or Florida allows rec or one of the south east states (NC, SC, VA, TN, AL, GA) allows med and/or rec that’ll be the final nail in the coffin.

There’s also growing pressure from various corporate interests.  Monsanto is huge in the space at providing lights and nutrients and the rest of the infrastructure and equipment.  There is interest from the tobacco companies as well, but they can’t get involved until it is legal nationally.  Pharma is opposed at the moment, but I think if you ever see Merck or Bayer get onboard that could help speed up the change.

As I mentioned earlier, cannabis wholesale prices are going to fall as more competitors enter the market.  As that happens, you’ll see the standard consolidation.  The enterprises that are well run and forward looking will start opening operations in new states that open up their laws.  They won’t be able to transfer between states, but they’ll be well positioned to gobble up the smaller operations that have good growers, but poor business practices.  And the ones that survive that sorting out and are large enough to be operating profitably once national legalization happens will be acquisition targets for the Monsantos and Mercks and RJRs.

I don’t think the regulations will ever be less than they are now.  Unfortunately, I simply don’t see a libertarian moment occurring that will bring the overall level of regulation down.  The best the cannabis industry can hope for is a similar level of regulation to the alcohol industry, unfortunately.   Which proves we don’t live in the best of all possible worlds, but it would be an improvement over the current situation.