The voters have the easy part. For them, it’s a simple yes or no vote to legalize either medical or adult-use cannabis in their states. But that’s when the hard work really begins: developing a regulatory system that brings the black or gray market into the light.
It’s been more than four years since Washington and Colorado began allowing recreational cannabis sales and nearly three years for Oregon. In that time there have been trials and tribulations, successes and failures and rewrites of the regulations in all three states.
Since the first recreational sales began, the pace of the legalization movement has accelerated dramatically. But with new regulatory programs and legalization initiatives being adopted seemingly every month, there is no point of reinventing the wheel when there are precedents to learn from and follow.
Getting a new state regulatory system set up quickly — as most voters, businesses and consumers want — can be simplified by focusing on what already works and what doesn’t. Regulators and entrepreneurs alike can get a glimpse of the future in states like California, Massachusetts and Maine — and to look further down the road, Oklahoma, Michigan and Vermont — by learning from the past and the states that blazed the trail.
“While our systems may be different, the challenges are very similar,” says Rick Garza, director of the Washington State Liquor and Cannabis Board. Garza oversaw the opening of the Evergreen State’s market in 2014. “I tell all the states and anyone we talk to: Take time to figure out what you think is going to work best for you.”
“It’s going to be harder than you think, take longer than you think and cost more than you think,” says Shannon Gray, marijuana communications specialist for the Colorado Department of Revenue.
“You always need more time,” echoes Steven Marks, executive director of the Oregon Liquor Control Commission, the agency that oversees that state’s marijuana program.
The Vertical Debate
However, the regulators do not all share the same opinion on exactly how to set up a system.
Washington, for example, is different from the other two states in how it deals with vertical integration. While allowed — and to some extent encouraged — in Oregon and Colorado, Washington’s regulations specifically prohibit retailers from also owning a cultivation or processing license.
According to Garza, that has resulted in his state having a model that is better for the consumer because it leads to a wider diversity of products and brands on the shelves at retail stores.
“Because we don’t allow the supplier/processor to have a retail presence, we have a lot more product on our shelves than most states do,” he says. “If you go to Colorado and then Oregon and then come to our stores, you’re going to see more variety of product.”
However, Garza admits allowing vertical integration made it easier for the other states to get their market off the ground quicker.
Not surprisingly, the regulators in Colorado and Oregon recommend vertical integration. In Colorado, the state’s medical system requires vertical integration, while on the adult-use side, it is no longer required, though individuals can own both a cultivation and a retail license. (Colorado initially required cannabis businesses to be vertically integrated, but repealed that mandate after about 10 months of sales.)
“For us it’s definitely working,” Gray says.
In Oregon, it is also allowed, but not required.
“Vertical integration is good way to build business models that are sounder for those folks in the business because you get a chance to see your product through from processing to retail,” adds Marks.
He also says that whether a state has vertical integration or not, a large amount of consolidation is to be expected as the industry grows, the prices fall and the product becomes just another commodity.
Dealing with an existing medical system is often an issue for regulators in states that create a recreational market. So far, no state has legalized adult-use cannabis without first having some form of medical marijuana legalization.
In Washington, for example, the medical market was mostly unregulated. After a year with both systems operational, the Legislature combined the two markets into a single regulatory framework, which Garza says makes it simpler for his team. Garza says people were already using medical cards to purchase for recreational use and the majority of consumers are not medical patients.
While there is a different tax structure for both sides of the market and the bend toward a mostly recreational market sometimes makes it difficult for medical patients to find high-CBD products, from the regulatory side of things, a single system makes more sense, Garza says.
“I don’t know why they should be separate,” he says.
Though the Oregon medical market was more structured and regulated than Washington’s, Marks says the same thing, adding that there is no need to have two agencies regulating the growth and production of cannabis. But he says the reality was that during the first year, the state’s medical market was “embedded” and “very invested in the Legislature.” Since then, lawmakers have worked to bring the two markets together, including the creation of a joint marijuana committee between the two houses of the Legislature. For example, Marks says the medical side now has full tracking, but not full licensure.
“Given the strong divide, we’ve done a great job of moving it together,” he says, but admits the transition has not been “eloquent.”
In Colorado, both the medical and recreational markets are enshrined in the state constitution, so regulators are prevented from combining the markets into a single regulatory framework.
“The dual system is just the way it is here,” Gray says, but adds that they do try to “harmonize” the two frameworks whenever possible.
There are, however, distinct differences between the programs, including the tax structure in which medical marijuana purchases are subject only to the state’s sales tax while recreational purchases are exempt from the state tax but face a 15% tax at the register and a 15% excise tax on producers.
View from the Outside
While regulators may have the inside track on what has been created in each of their states, they can sometimes be too close to the issues.
For more than four years now, Greg James has watched the markets grow and evolve from his position as publisher of Marijuana Venture, the No. 1 business publication for the cannabis industry. Prior to founding the magazine, James ran a highly successful software and publishing company that twice landed on Inc. magazine’s list of fastest-growing companies in the United States.
At Marijuana Venture, James works with growers, processors and retailers in all of the legal markets and has heard their concerns and complaints, and he’s seen what works and what doesn’t.
“It seems to me they’re all learning as they go and moving toward models that resemble other consumer goods,” James says, but notes that in his opinion, the rules in Washington and Colorado are too restrictive.
“I think it should be a fair and open market, like every other business,” he says. “Keeping it artificially profitable by restricting licenses and allowing vertical integration is anti-capitalist and anti-competitive.”
James says he understands why some businesses would want such regulations, but that they end up hurting consumers and depressing innovation in the industry.
“Imagine if the government kept the price of cherries or tomatoes artificially high to protect the profit of growers,” he says. “You’d have outcry from watchdog groups who advocate for free and open markets.”
As for vertical integration, James — who lives and works in Washington where it is not allowed — says while it can help some businesses, it hurts consumers.
“Consumers invariably get hurt when industries go vertical and control too much,” he says.
James points to other agricultural industries as to why vertical integration doesn’t make a lot of sense in the cannabis industry.
“If you talked to a rancher and suggested he slaughter his own cows, butcher them and take them to a grocery store for sale, he’d think you were crazy,” he says. “My advice is simple: if you’re a cultivator, stick to growing and leave the rest to distributors.”
James also says from what he has seen, the idea of setting up different medical and recreational markets is unnecessary as legalization of medical marijuana is usually a stepping stone to adult-use.
“In my view, all we really need is adult-use recreational marijuana,” he says. “Doctors can prescribe or advise on what forms of cannabis to use for medical patients and they can get it at rec stores.”
But like the regulators, James says the key is to study the states that have already been through the process of establishing regulations.
“There’s a lot that can be learned from simply taking a good look at the states with up-and-running, legal, adult-use marijuana,” he says.
— Brian Beckley
To Cap or not to Cap
Another area where the legal states differ is in whether to cap the number of licenses on producers, which Washington does, but the other two do not. And while each state has problems of oversupply and falling wholesale prices, they all look to deal with the issue in different ways.
In Colorado, for example, regulators at least have some control through the state’s relicensing process, which allows the state to proactively change the number of plants a producer can grow as a way to control the amount of cannabis on the market and, therefore, the price.
“We can make a true determination if they are eligible for a plant count increase, and same again on the decrease level; if they are not moving the product in a way that warrants an increased plant count we can either deny that application or reduce them down a tier,” Gray says.
Colorado has five tiers of cultivation licenses available, and the ability to proactively move cultivators is unique to that state’s system.
Oregon, meanwhile, has purposefully taken a free-market approach, preferring to let the market shake itself out.
“Overall I think the market will provide for a strengthened system,” Marks says.
However, Marks also points out that Oregon voters did not want to lose the “craft medical producers that were an important feature of Oregon’s landscape,” during the semi-regulated years. He admits that initially he thought it would be better to build the market slowly and would perhaps have created a two-step approach with in-state operators getting the first crack at licenses before allowing out-of-state parties to apply. However, he says that even if he could he would not go back and create caps on the number of licenses.
“The horse was out of the barn in Oregon,” he says, adding, “The market is going to shake out Oregon quicker in supply and demand than the regulators or our Legislature can conceive.”
Marks says that an open system will create a stronger market and is a better for the overall quality of product, which is what consumer markets ultimately demand. However, though the state still has no plans to cap the number of licenses available, as of June 15, the state was temporarily halting new applications in order to clear a backlog.
One place where Garza says he would do it differently if given the chance is in the way municipalities are allowed to opt out of recreational sales. In Washington, cities and counties are allowed to ban marijuana sales within their jurisdiction — which Garza says he supports — but the state has a mandate to issue licenses to qualified applicants, whether there is a local ban or not. That has created confusion and some conflict when state-licensed operations are not allowed to begin growing or selling.
Garza says that if he could, he would rework the regulations so a local license is required before the state issues one and, like is done with alcohol, would require a vote of the people in areas that wish to ban cannabis businesses.
Colorado, meanwhile, already has a dual license requirement and many cities in that state have opted out of the program. Gray says it works well in Colorado, which has a “rich, home-rule history,” but would not make a recommendation either way to other regulators that ask, instead encouraging them to do what they think is best for their constituents.
Marks says his “greatest regret” in Oregon’s regulations comes in relicensing.
“Relicensing has been a bear for us because of all the changes in ownership and consolidations,” he says.
The state has to approve all facilities and changes in the license and that has created difficulties for the agencies as more and more cannabis companies consolidate and facility ownership changes hands. Oregon Director of Statewide Licensing and Compliance Danica Hibpshman says it is important to perform due diligence on potential owners, but at some point “the market is going to go crazy” and licensing structure needs to be prepared for it when it comes to renewals.
Marks says it is important for licensing agencies to look at how well capitalized businesses are before issuing, though he says not checking that initially gave “hope and opportunity” to everyone in the state.
Colorado regulators also made changes to their renewal system, putting appointments in place to prevent the long lines that would spring up come time to renew.
But for all the differences between the systems, there are some commonalities as well.
The regulators all mention making sure there are labs available to test product and making sure to gather baseline research on things like teen use and driving while high to better see how the industry changes things within state boundaries. Garza, Gray and Marks all three offer the same advice on where to begin the process: communication.
All three of the states that led the way into the adult-use economy began with a medical marijuana program and regulators say it’s important to make sure the rule-making process gets the buy-in from the biggest players in that market. If the goal is to cut down on black market sales, ensuring that the regulations are something current growers can live with is key.
“What we did really well … was work with the marijuana community to form our rules,” Marks says. “We had an embedded outdoor grow community that was very prolific.”
Getting the buy-in from medical growers — usually a less regulated market than adult-use sales — is key to prevent diversion and ensure that the new industry is not undercut by bad actors.
“Create a public dialogue,” Garza says. “In other words, take time to go out and meet with the public, to understand what they believe is important. And then take your time driving your regulations to address the issues that you’ve heard.”
Get it right
In the end, the important thing for regulators in states establishing an adult-use infrastructure is to take their time and make sure they are not rushing regulations into place in order to placate voters who want stores to open as quickly as possible.
In Colorado, for example, edibles were still illegal when the adult-use market opened because regulators were still “learning quite a lot,” according to Gray. Today, Colorado regulators better understand the products and the need to make sure the THC is spread evenly, with regulations on serving size, THC limits, prohibiting certain shapes that could appeal to children and ensuring that each product is marked with the state’s symbol for THC products. And the market today is thriving, even if it took a bit longer to get to there.
It’s a lesson Garza has also taken to heart and he says he makes clear to any other state regulators who contact him looking for advice.
“Another month or another year is going to be okay, so be thoughtful,” Garza says. “No one will remember how long it took. They’ll remember if you screw it up.
This article is Part I of a three-part series looking back at the past several years of recreational cannabis sales and the advice that can be imparted from the people who were actively involved in the process. The October issue of Marijuana Venture will look at the retail sector; November will address the production side of the industry.