In November, 2016, voters in California overwhelmingly approved Proposition 64, legalizing recreational cannabis across the state. California joins eight other states and the District of Columbia in passing recreational marijuana legalization initiatives, and the recreational market has been booming ever since. The law went into effect on January 1, 2018.
Now, four months after the law made recreational cannabis officially legal, how is the state’s market handling it? The answer to that question varies, from questions about policies to surging profits and confusion about the licensing process. In general, though, the state is experiencing substantial growing pains, and many steps will be needed to be undertaken before the market truly stabilizes. In this article, we will discuss some of the problems facing California’s recreational cannabis producers and retailers, not to mention consumers, and provide insights into the work being done to erase an uncertain future for the cannabis market.
Problems for California’s Recreational Market
At a California Cannabis Industry Association conference held in Sacramento earlier in 2018, cannabis business owners aired their many grievances, decrying real and perceived problems by the dozen. Some of the problems facing the nascent recreational market in California include:
- Too few retail sales locations to get product to customers
- Licensing agencies falling behind on approving new recreational licenses
- Distributors that are not following the rules and statutes, undercutting those that comply fully with existing laws
- Not enough laboratory analysis/assay capacity for quality assurance purposes
- Supply chain deficiencies, including insufficient product to keep retail shelves stocked
Part of the overall problem stems from California’s prohibitively high licensing and taxation rates. High license fees are tending to keep legitimate business interests from becoming established, slowing down the process of opening retail locations. High tax rates on the sale of marijuana products has encouraged a resurgence in black-market sales, as products are substantially cheaper for consumers than would be found in the licensed retail outlets. Lawmakers in the state have banded together to co-sponsor a bill temporarily lowering the tax rate to put an end to black market cannabis sales and to spur legitimate retail sales.
Another problem, or series of problems, arises from the regulatory agencies tasked with setting regulations for licensed operators to follow. Despite a year or more of preparation, the California Bureau of Cannabis Control and the state departments of public health and of food and agriculture have not released their final regulations. In fact, those regulations are not expected to be implemented until the end of 2018. In the meantime, lawmakers have proposed a large number of tweaks to the existing statutes, creating an atmosphere of chaos and confusion.
Local Barriers to Entry
Local government initiatives have further clouded the prospects of the legal cannabis industry. Although the recreational legalization initiative is statewide, provisions in that law allow for local jurisdictions to set their own regulatory requirements. Some municipalities have forbidden cannabis operators from doing business in those cities. Others have placed prohibitively high licensing and business registration fees on cannabis entrepreneurs, causing many to simply give up before undertaking the expensive process of getting registered.
Like the high retail sales tax rate and state licensing fees, local governments setting high costs of entry to the market has only served to create a flourishing black market throughout California. This is especially ironic, since the reasoning behind establishing recreational cannabis legislation was to eliminate black market operators by creating a strong and profitable legal market. It is clear that those good intentions have backfired. As of the end of March, 2018, there are just over 4600 temporary licenses granted for cannabis operators in the entire state; this paltry number is in stark contrast to the estimated tens of thousands of gray- or black-market operators without licenses.
One of the largest concerns for the legal marijuana industry in California is that less than a third of all municipalities in the state have adopted some form of legal authorization for cannabis businesses, including both medical and recreational operations. This effectively shuts out 2/3 of the state in finding locations to begin doing business. Without local approval, there is no path forward for a state license to be granted to cannabis businesses, stifling the market even before it has had a chance to establish roots. Local governments have few incentives to streamline the process; as mentioned earlier, the state regulations gave substantial leeway to local municipalities to create their own regulations or to forbid cannabis business operations. There is no specified timeframe, and many entrepreneurs and industry analysts accuse those local governments of creating unnecessary delays for no real reason.
Supply-Chain Issues Affecting California’s Cannabis Market
Two other problems are facing California’s recreational cannabis market, and both have to do with supply-chain concerns. First, California’s regulations specify that retail sales locations will be required to sell only those products that have met testing standards set by the state. That stipulation goes into effect in July, 2018. The problem here is that laboratories are not yet set up in sufficient numbers to handle the required testing. In fact, only about 20 labs have obtained the necessary licenses from California authorities. This is wholly insufficient to handle the testing needs for thousands of cannabis operations, and is expected to create a product shortfall across the entire market unless lab licensing rapidly expands.
Distribution is another huge concern, with less than a hundred large-scale distribution operations servicing cannabis businesses in California. This weak supply-chain system will only struggle in the coming months; industry analysts point out that many distributors are not charging the required excise tax to buyers (at a 15% tax rate), misguidedly believing it is the retailer’s responsibility to collect the tax. When distributors are served with exorbitantly high tax bills due to their error, it will cause many distributors to pull out of California operations. California is racing to establish a comprehensive supply-chain tracking and tracing system, which, once operational, will shine a spotlight onto distributor practices falling outside of accepted norms. If distribution is curtailed, this could potentially compound product stock problems faced by retailers.
It is clear that much needs to be done to ensure California’s cannabis industry can do business. With the necessary tax and regulation reform, the largest cannabis market in the United States can once again move to profitability as retail sales expand statewide. Time will tell whether lawmakers and regulatory officials are up to the task of protecting this lucrative retail market in time for it to flourish rather than fail.