Legalized Marijuana Resulting in Real Estate High

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The Real Estate Bloom
The real estate industry is booming in states where marijuana is blooming—that is, in states that have legalized the medicinal and recreational use of marijuana. Here is a quick overview. In November 2016, voters in California, Maine and Massachusetts, all approved the legalization of recreational marijuana use. On January 1, 2018, California’s law will go into effect, and the state will start issuing temporary licenses to cannabis businesses. On December 6, 2017, Los Angeles approved a series of cannabis regulations, making it the largest city in the United States with legal recreational marijuana. Massachusetts will implement retail marijuana sales on July 1, 2018. While Maine has plans to open retail marijuana stores in the summer of 2018, it is unclear exactly when their laws will go into effect.

With a number of states having already legalized medicinal marijuana the demand for cannabis continues to be on the rise. With an increase in demand for the product comes an increase in the need for production facilities. Real estate investors have jumped on this market, which has proven to be a quite profitable, yet a risky venture.

Marijuana retailers have been increasingly seeking high-end store fronts to sell their product. However, due to the difficulty in obtaining licenses to operate dispensaries and the amount of local and federal regulations involved, the biggest demand has instead been for cultivation space.

Growing marijuana outdoors is by far the least expensive cultivation option. However, outdoor growing is only possible in conducive weather climates, which includes good sun exposure, high temperatures during the day, warm nights, and low humidity levels. Moreover, outside cultivation, especially in California, is susceptible to wild fires. The wild fires that ravaged Northern California in October 2017 destroyed approximately 21 marijuana farms, including farms in Mendocino, which is one of three counties in the “Emerald Triangle.” Additionally, many municipalities have banned the growing of marijuana outdoors. As such, many growers have moved their operations to indoor facilities.

Indoor marijuana cultivation allows for a year-round crop, thus eliminating the issue of adverse environmental conditions associated with outdoor cultivation. Indoor growing additionally allows for a more stable product. Because a grower can control every aspect of the procedure, they are able to protect their crop from unwanted influences. The level of control involved in indoor growing also creates an ideal situation for growers to produce a unique and consistent product by being able to manipulate a variety of factors to accentuate traits that consumers of cannabis desire. Moreover, marijuana that is grown indoors has higher concentrations of tetrahydrocannabinol (THC). However, although indoor growing is effective, it is the most costly cultivation option due to the necessity for high-powered, artificial lights, which has led to some growers moving to a hybrid option—the greenhouse.

Greenhouse cultivation is less expensive than indoor cultivation due to a grower’s ability to utilize and manipulate the sun’s rays and thus cutting down on the energy costs associated with indoor growing due to the elimination of the need for artificial lights. Instead of buying empty, agricultural land, growers have been buying or leasing out industrial facilities, which they then retrofit into a fully operational grow facility. Some such facilities are modified into advanced greenhouses, which are fully equipped with manipulation tools such as supplemental lighting, climate control equipment, and the ability to block out incoming light. Retrofitting existing buildings provides a quicker means for beginning operations, and because speed-to-market is key for success in the marijuana industry, many growers have gone this route despite its costs. These factors, plus the anticipation that many cannabis consumers will do their shopping online through retailers such as Amazon.com, has made the demand for industrial space higher than the demand for vacant, agricultural land.

Industrial space has been in the highest demand due to both marijuana growers and manufacturers seeking out industrial warehouses to cultivate and process their product. Although temporary licenses for “cannabis commercial activity” will not be issued in California until January 1, 2018, the Golden State has been experiencing a “land rush” for light industrial warehouses, with prices skyrocketing over the last couple of years. In the Bay Area, growers are paying at least $2 per square foot for warehouse space. In Sacramento, warehouses and light-industrial buildings are selling for twice their usual asking price. In Salinas, a company paid $3.4 million for 47 acres of land containing several dozen greenhouses. While California is still in the infancy of its marijuana real estate boom, the legalization of marijuana in Colorado provides a forecast for what the future has in store. Colorado legalized the use of recreational marijuana in 2012. Between 2014 and 2016, the average effective rental rate for marijuana-growing sites in Denver was $14.19 per square foot on a triple net basis. In 2016, industrial warehouses occupied by marijuana businesses sold for $115 per square foot, which, according to CBRE, represented a “25 percent premium over traditional class-B and class-C industrial spaces.”

How are landlords and property owners able to charge such a premium? Warehouses provide the amount of space and climate control capabilities that marijuana tenants require to operate their production. Warehouses also provide a private and relatively secure space. Zoning restrictions have also decreased the pool of viable warehouse production facilities, making those in marijuana-friendly zones a valuable commodity. As explained above, because greenhouse cultivation is less expensive than indoor warehouse cultivation, owners of dilapidated greenhouses are also seeing an increase in demand for their property. Additionally, inherent risks exist that come with getting involved in the marijuana business, including the business being vulnerable to federal seizure, a lack of financial backing, and the potential for money laundering due to rent being paid from the sale of an illegal federal drug. Such aforementioned factors allow landlords and property owners to charge premiums for tenants who are cultivating, producing and selling marijuana.

While it is undoubtedly true that this resulting real estate boom is a positive for the real estate industry, it does not come without risk. In the next part of this series, we will be discussing the legal and operational risks that come with owning and leasing property that is being used by marijuana businesses.