Marijuana 2.0

Like most forms of agriculture, growing cannabis for a living takes a great deal of skill, knowledge, fortitude and dedication. The hours are long. The competition is relentless. The taxes are onerous. The rules and regulations are constantly changing.

It’s not a career path for the weak of will.

Three months ago, Marijuana Venture began formulating this Marijuana 2.0 series on the lessons learned from the past four years of recreational cannabis sales. The idea was that business owners and managers in the newer markets — including California, Nevada, Massachusetts and others on the horizon — could learn a ton from the more mature markets in Colorado, Washington and Oregon. While each market is unique, there are enough similarities to understand where the pain points will emerge.

High Canyon’s commercial greenhouse allow the company to operate with a much lower electrical bill than its indoor counterparts.

The Fall

To some degree, being good at business is about having the ability to predict the future. If you know where the market is going, you can get there well ahead of the competition. But it’s less about being Nostradamus and more about the ability and willingness to see trends, to adapt to those changing market conditions and to do so more efficiently than other companies.

There are a multitude of areas in this industry that are nearly impossible to predict. People can plan for the future, but there’s really no way to know for certain when legislative changes will happen to allow expanded legalization in the United States, eliminate some of the burdensome tax rules, allow interstate commerce, unify cannabis regulations across the country or remove some of the limitations on the number of licenses available.

But the economics of farming are not one of those unknowns. When it comes to the cultivation of marijuana, the writing is already on the wall: the wholesale price of cannabis is falling precipitously, and it’s never going to return to pre-legalization prices.

According to Cannabis Benchmarks, wholesale prices in Washington and Colorado began a dramatic decline 18 to 24 months after the launch of their recreational programs. Oregon’s price crash began sooner, with a noticeable drop beginning just one year after the first licensed rec shops opened in late 2016.

“The Oregon market definitely needs to shake out,” says Eli Bilton, CEO of Attis Trading Co., one of the largest producers and retailers in the state. “Now that the licenses have been limited, it will take some time for that to happen. I think it will be a couple years before we actually see it stabilize.”

From the first quarter of 2016 through the second quarter of 2018, Cannabis Benchmarks’ U.S. Spot Price Index fell from an average wholesale price of $1,951 a pound to $1,273. Meanwhile, the three largest and most mature markets — Washington, Colorado and Oregon — fell even faster than the national average. By mid-summer, wholesale cannabis in Washington dipped below $700 a pound, while Oregon was at $856 and Colorado was at $882 (despite Colorado having a regulatory structure that is better suited to limiting oversupply than Washington or Oregon). For a variety of reasons, including the high cost of electricity and unique market conditions, Alaska remains an outlier among recreational states with a wholesale price north of $4,000 a pound.

Perhaps even more daunting than sales numbers in Oregon is the sheer quantity of cannabis on the market. According to an Oregon Liquor Control Commission report, state-licensed businesses have more than 800,000 pounds of usable marijuana in inventory, while selling just 16,000 pounds in the top-selling month. Keep in mind that in October 2017 alone, Oregon producers harvested nearly 2.5 million pounds of cannabis (wet weight) in a state that has just 4.1 million residents. Harvest totals from October 2018 were not available at the time of this publication.

“We’ve seen prices like we’ve never seen before,” says Tyson Haworth, owner of sofresh farms in Canby, Oregon. “You can go into any retailer and get a dollar gram now. I think it was 67 cents down the street for a gram of really not-that-bad weed.”

Wholesale prices in California have also been trending downward, but the tumultuous early stages of its adult-use program have kept prices on a bit of a roller-coaster. Yet, the message should be clear for California growers: If you’re basing your business model on getting $2,000 a pound … stop! If you’re expecting $1,000 a pound, you might be able to get that price for a while, but it won’t last. And if market conditions play out similarly to what has happened in the pioneering adult-use states, it won’t matter how many proprietary strains you grow, how “superior” your quality is or how good your branding is. Those factors may be important for the success of your business, but they’re not going to insulate you from pricing pressure.

The only question that remains is how low the prices will go. Where exactly is the bottom of the market? And how long before we get there?

A flower grown at High Canyon’s greenhouse in Pueblo, Colorado.

Timing

Based on trends in Colorado, Oregon and Washington, cannabis growers in California have two to eight months to capitalize on “high” prices before market forces really begin to significantly drive down the value.

However, other states probably have more time before prices plummet. States with high barriers to entry and limited licenses will see wholesale prices hold steady for longer than the open markets on the West Coast and in Colorado.

It’s easy to split states into one of two categories: the free-market recreational states and the tightly controlled medical states. This fairly simplistic way of looking at the landscape leaves states like Nevada and Massachusetts somewhere in the middle. And what will happen when extremely limited medical states like New York and New Jersey eventually allow adult-use sales?

To some degree, it’s a question of how committed each state is to eradicating the black market — and how much lobbying power the existing cannabis companies have.

But market forces and political activity aside, science and technology will also play a major role in continuing to drive wholesale prices down. And competition within the tech sector will also make new innovations more affordable to a wider range of producers.

“Huge investments are being made in indoor cannabis cultivation, particularly in California and Canada, as investors and entrepreneurs enter the Green Rush,” Phil Gibson, vice president of marketing for AEssenceGrows, wrote in the May 2018 issue of Marijuana Venture. “Legal cannabis businesses have ignited an economy-of-scale investment firefight. Innovative entrepreneurs are striving for anything to get a leg up on the competition. And as the cannabis market grows to hundreds of billions of dollars, vertical farming benefits, driving accelerated investment and innovation in this precision indoor method of farming. … According to University of Arizona professor Joel Cuello, for every five years over the coming decades, technically dense vertical farms will achieve a doubling of crop production. The commercial produce output will increase by more than 100% in 20 years if Cuello’s law holds true.”

Attis Trading Co. CEO Eli Bilton says the company has reduced its outdoor cost of production to $20 a pound.

Efficiency

If there’s one theme growers can take from this, it’s the importance of efficiency.

For one reason or another, perhaps due to the artificially high pre-legalization prices, many producers have not prioritized efficiency, according to Kelly Ogilvie, CEO of DeepCell Industries, a tech company that invents cannabis products and licenses them to manufacturers.

“There isn’t the relentless focus on lowering costs of goods sold and focusing on margin (in cannabis) as there is in other industries,” Ogilvie said in an interview earlier in the spring.

Rich Cardinal, of the consulting firm Next Big Crop, believes cannabis growers will need to increase their efficiency faster than most people realize.

“By 2025, or maybe even as soon as 2020, this industry will be based around per-pound production costs in the $100 range, or potentially lower, and companies that can’t compete at that level will be swiftly left in the dust,” he wrote in the July 2018 issue of Marijuana Venture.

One person who has embraced the extreme efficiency necessary to thrive in Oregon’s saturated market is Bilton. While he’s fortunate to have five of his own retail stores where he can sell a lot of his product, Attis Trading Co. also sells outdoor and greenhouse-grown cannabis to about 200 other retailers across the state. Bilton says he’s been able to bring his outdoor production costs down to $22 a pound, while maintaining the high level of quality retailers and consumers demand.

The ever-changing regulations have been one of the biggest challenges for Bilton, but he sees many growers struggling for a variety of reasons. Many don’t plan well, so they don’t have the facilities needed to properly dry and cure the harvested plant material. They buy the wrong equipment. They put greenhouses in the wrong locations. Facilities aren’t designed to maximize workflow and minimize labor needs.

But most importantly, they’re not paying attention to the cost of goods sold.

“They don’t use Big Ag techniques; they go to the local hydroponics store on the corner,” he says. “It’s not scalable. There are a lot of people still using old technology, like double-ended halides, instead of LEDs. They’re not very efficient and it’s a big reason they’re failing.”

An aerial view of Attis Trading Co.’s outdoor farm.

Evolving Trends

In Colorado, High Canyon co-founder Nicholas Palmisano says his company has been able to survive by keeping its overhead low and using minimal electricity in its commercial greenhouse. High Canyon is a standalone cannabis producer without the benefit of having its own retail stores to sell product.

The Pueblo-based company is not trying to be the biggest grower in the state. Instead, High Canyon grows about 20 pounds a week to supply five regular retail clients and a handful of occasional customers.

Until he landed his current crew, Palmisano had problems finding quality employees.

“It seems like this industry attracts a lot of people who aren’t as reliable,” he says.

In addition to the hybrid greenhouse, High Canyon uses automated black-out curtains and drip irrigation to keep its production costs low and combat the steadily falling prices. Palmisano says he’s typically able to get $800 to $1,000 a pound.

However, he’s also seen two major shifts in buying trends, at least from his perspective as a cultivator who does not ultimately interact directly with the end consumer.

One is a shift away from hand-trimmed buds and more acceptance of machine-trimmed cannabis.

“I thought hand-trimmed was going to be the thing forever, but now apparently they’d rather save a hundred bucks a pound,” he says, adding that he thought many retailers were “too picky” in the past, but have now seemingly come around to the other side of the subject.

He’s also noticed that people seem to be less interested in specific strains, flavors or smells as they were a couple years ago.

“Now they just want something that’s 25% THC or higher for a certain price,” he says.

Being a modern, legal cannabis farmer requires people to not only spend countless hours growing the crop, but also to spend an equal amount of energy keeping up to date with regulatory changes, new technology, political lobbying efforts, consumer research and analytics, marketing campaigns and product development.

But nothing looms larger than the downhill trend of wholesale prices. Everything else could be for naught if a company can’t keep up with the changing tides.

“In this industry,” Bilton says, “and probably in most industries, the most efficient man is the last man standing.”

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