What You Need to Know About Cannabis Lending

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The cannabis landscape in America is changing, and in only a few months’ time, you will be able to purchase marijuana for recreational use in several States legally. With marijuana now legal in some form in 29 States, it is not hard to see the developing trend. Congress is now considering several pieces of legislation making it easier for states that have chosen to legalize marijuana to carry on cannabis-related business without fear of federal interference.

The Cannabis Business Boom

Over the next few years, there are very few sectors of the economy projected to grow by triple-digits. Analysts are predicting the legal marijuana industry will grow 500% over the next five years. It is extremely rare when a new business is presented with a vast customer base waiting for its products and overwhelming growth potential. The fact is, the marijuana industry will explode over the next decade. Is the time right to cash in on its potential?

Some States that voted to legalize marijuana last November are now finalizing state regulations and guidelines ahead of implementation on January 1, 2018. What that means to the savvy investor is that opportunity awaits. Existing dispensaries are working to secure capital for expansion of the business; current non-cannabis business owners are exploring moving into the space; while new entrepreneurs are gearing up to borrow the funds that will allow them to enter one of the most lucrative industries in the nation.

What the Federal Government Says

A common misconception among investors looking to cash in on cannabis is that the federal government is saying “no, no, no” to the industry. The fact is that while marijuana is a Schedule 1 drug and still illegal at the federal level, the US Attorney and Department of Justice have taken a “hands-off” approach to state-legal marijuana sales as long as the state has a “well-regulated” licensing scheme. In various memoranda, the DOJ has essentially decided to forego criminal prosecution against cannabis professionals and the marijuana industry, provided they are complying with the states’ regulations. While the Trump administration ponders their approach to legalized marijuana, state lawmakers are hard at work, presenting more than a dozen bills that would help pave the way for unfettered cannabis business.

Also, the United States Treasury Department has created a program, through FinCEN and the Bank Secrecy Act, to allow state financial institutions to provide financial services to the cannabis industry while complying with FinCEN regulations. These developments indicated that the federal government is actively working behind the scenes to make conducting business easier for marijuana companies in legalized states.

Participate in the Marketplace with Confidence

Let’s start by focusing on how to properly make a cannabis-related loan. There are certain aspects about lending to a business with a cannabis component that need to be addressed.

Collateral – Understanding that cannabis businesses typically cash flow, and most of them quite well, investors must still consider the underlying collateral, namely, real estate. The primary factor in most cannabis loans is going to be the value of the property. There are other factors associated with the property that we will explore later that should also be considered.

Loan Covenants – Due to the state of legal affairs surrounding cannabis businesses, you need to take extra caution with regards to loan covenants. Your covenants need to be strong enough to enforce the recoupment of your investment and protect you against unforeseen actions.

Follow Up – Protecting yourself with liens and loan covenants is one thing, but follow up is just as important. Catching up with your borrower to ensure operations are proceeding normally, can help a lender head off any problems before they arise.

How Marijuana Business Loans are Structured

Recently, some mainstream financial firms have taken interest in financing marijuana businesses. You may see cannabis companies that have no access to bank capital, yet have very strong financials, and that leads to opportunity. As banks reject the business, private lenders and hard money can capitalize by filling the void. Cannabis businesses are not only willing to pay a premium for access to essential capital, they expect to.

Some lenders are even taking the approach of a combination of debt-equity financing to structure loans that are both secure and provide a higher, double-digit rate of return not seen in traditional private mortgage lending.

To provide a debt/equity funding solution, lenders require a cannabis business to:

• Be incorporated (S-Corp, LLC, Ltd.)

• Be a dispensary or growing operation that has been in business for at least six months

• Have a business banking account

• Have monthly gross sales above $10K

• Qualify based on personal credit

Much of the private lending now available to cannabis companies is structured similarly to small business finance or commercial loans. The company qualifies based on their monthly revenue, and a repayment plan is organized with weekly or bi-monthly payments. Dispensaries or cultivation operations that have been in business for even a short amount of time are usually pulling substantial cash flow and therefore have no problem meeting payment obligations. Due to the restrictions placed on the industry by the big banks, business owners turning to private capital are more than willing to pay higher fees and interest rates to satisfy their funding needs.

Participating in a $20 Billion Marketplace

Financial analysts agree that the cannabis market is about to emerge as one of the greatest American economic opportunities in recent history. Within only a few years’ time, marijuana will become the biggest agricultural cash crop in California. While those engaging in cultivation and distribution stand to make substantial gains, it is ancillary products such as lending that will drive this multi-billion dollar industry.

Commercial lending for marijuana business is a niche industry that requires a fair bit of due diligence on the borrower, on their business, proper evaluation of the collateral property, as well as the regulatory requirements attached to the industry. Most private lenders who are dealing in this space, do so with the help of a legal team that understands the intricacies of the industry and knows how to conduct a proper risk assessment to protect investors from pitfalls.

While marijuana business lending is not for everyone, if structured correctly with proper risk aversion, a private investor can be confident that they are compliant with state laws as they profit from a legal business that is growing faster than any other economic sector.

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