California rang in 2018 as the largest legal marketplace in the country for recreational marijuana when it implemented the Medicinal and Adult-Use Cannabis Regulatory Safety Act (“MAUCRSA”). As we discussed in Part 1 and Part 2 of this blog series, while California’s real estate industry is budding with recreational marijuana, negative side effects are inevitable. In this Part 3 of our five part blog series on the legalization of marijuana and its correlation to the real estate industry, we discuss what has changed since January 1st, what still needs to be done, and how the real estate industry has been impacted.
California had high hopes that the MAUCRSA would create a successful, regulated system for recreational marijuana businesses to operate, thereby making access to marijuana safer and easier for consumers. However, the MAUCRSA has instead resulted in challenges to the industry by bringing a “loosely organized industry into a tightly controlled system with high upfront costs, a litany of rules and steep taxes.” The majority of these challenges stem from the lack of state and local licenses that have been issued. Under the MAUCRSA, a cannabis business must obtain a state license to operate legally. However, in order to be issued a state license, an applicant must first obtain a local license, which has proven to be the most difficult step in the process, as the MAUCRSA allows local governments to adopt their own regulations, including opting to ban commercial, recreational marijuana activity altogether. This flexibility has ultimately resulted in industry entry barriers across California’s 482 cities.
In Los Angeles, marijuana retailers are restricted to specific commercial and industrial zones and must be located at least 700 feet away from sensitive sites. The Los Angeles Planning Department estimates that “these restrictions will effectively limit the number of storefronts carrying recreational marijuana to 390 citywide.” Growers and manufacturers are restricted to industrial zones and must be located at least 600 feet away from schools. Other California cities have not been so green friendly. In fact, only 14% of cities have authorized the sale of recreational marijuana. In Los Angeles County alone, 88 municipalities have banned marijuana dispensaries and cultivation facilities. Just south of Los Angeles, the only city in Orange County that currently allows any type of commercial, recreational marijuana activity is Santa Ana.
This trend continues statewide, and many cannabis businesses do not have local licenses.
A domino effect is occurring due not only to the local license limitation, but also due to stricter testing standards, as discussed more thoroughly below, which will likely result in a cannabis shortfall come as early as July.
It is estimated that only about 20 testing labs have obtained state licenses. In February of this year, 214 state retail licenses were issued, which represents just 7% of recreational marijuana retailers in California. By March 12 of this year, less than 3,000 marijuana cultivation permits were issued, which represents only about 1% of California’s marijuana growers. This 1% consists primarily of large, corporate growers, which some argue is the result of overburdening local regulations driving out small farmers. With large corporate growers pumping out marijuana product, the amount of licensed testing labs is not enough to move the product to the market in time to meet the demand. Industry observers are skeptical that a supply shortage is imminent, resulting in an increase to the price of marijuana, which has already rose $15 to $25 per gram due to the statewide 15% tax under the MAUCRSA. Licensed businesses are already struggling to compete with the black market, where cannabis is abundant and cheap. Moreover, the threat of the federal government, as discussed in Part 2, has heightened after U.S. Attorney General, Jeff Sessions, rescinded the Obama-era policy described in the Cole Memorandum.
California lawmakers have recognized these challenges and are working on solutions. Recently, a bill was announced that would drop the state tax on cannabis to 11% and also suspend a separate tax for cannabis cultivation in California. If enacted, this bill has the potential to amount to a 9% price drop for cannabis consumers. This bill is one of 40 marijuana-related bills that have been introduced in the Legislature. California is also conducting a feasibility study for the implementation of a state-run bank to combat funding issues.
Despite these hurdles, cannabis players have recognized that these issues are temporary and that, once resolved, “revenues will grow and mission-critical tax dollars will quickly accumulate to the delight of all stakeholders.” In fact, the burdensome local regulations, by limiting the amount of available cannabis realty, have made properties in a cannabis- friendly locations an even more valuable commodity. For example, Terra Tech recently purchased two properties in Southern California with a markup of almost 25%. In mid-March, Marapharm Ventures Inc. announced its final plans for its first cultivation facility in Desert Hot Springs, California, approved with a Conditional Use Permit for cannabis cultivation, processing, and extraction. The facility will include approximately 2,036 square feet of processing/extraction space and 12,782 square feet of indoor grow space. MedMen, a marijuana retail goliath, reports that their stores have had triple the amount of foot traffic and sales. Additionally, innovative business models, such as cannabis yoga, cannabis lounges, and delivery services, are sprouting up along the coast. And leave it to Los Angeles, which has already made more than $2.4 million in permitting fees, to add an extra flare of luxury with high-end businesses such as Lord Jones, a cannabis-infused product maker, set to open its store in 2018 inside The Standard Hotel.
The California cannabis market is still hot. But, without solutions, the instability surrounding the recreational marijuana market could result in many businesses being forced to close their doors. Other states that have legalized recreational marijuana have experienced similar turbulence, but have ultimately come out on top. How are these states different from California? Can California learn from its predecessors? In our next blog post, we will take a closer look at other recreational cannabis states, their regulations, and where the current status of the industry stands across state lines.