Jerred Kilow, Sherman Oaks dispensary manager, and hundreds other cannabis retailers hoped that Proposition 64, which legalized marijuana sales in California in 2016, would give a huge boost to the industry.
“There was an existing, mature industry that was thriving before Proposition 64,”Kiloh is the owner of Higher Path in Sherman Oaks, as well as another dispensary located in the Bay Area. He said that legalizing marijuana sales would make it easier for people to use the drug. “the purpose and intent of Prop 64 was to reduce the size of the illicit industry”You will also be able to bring in more revenue to the legitimate sector.
However, things have become worse for local cannabis dispensaries. The law went into effect in 2018, but there were delays in licensing and a wave bans on cannabis retail sales. Many cannabis businesses had to close down.
More recently, though, licensed cannabis retailers have found themselves in a struggle for survival against a thriving black market whose players don’t have to pay high taxes and comply with stringent regulations.
According to the United Cannabis Business Association (a Sherman Oaks trade group led by Kiloh), there were an estimated 8 000 cannabis retail outlets in California during 2017, before the law was implemented. The estimate was derived by the website Weedmaps.com. This website attempts to map every marijuana business.
The association stated that today, there are about 850 licensed dispensaries across the state. This is an astonishing drop of nearly 90% in just five year.
According to the October report by the Los Angeles City Department of Cannabis Regulation, 525 temporary approvals had been granted for cannabis businesses in the area. It is not clear how many of these are retail storesfronts or how many have opened.
“We fought so hard to get us from the underground market and into the light,”Javier Montes is the managing partner and owner at the Wilmington-based Delta IX THC dispensary. “But then, for the industry to come to the point of extinction – after all the effort we have put in building our businesses, complying with the regulations, paying the taxes – it’s exhausting.”
Black market is thriving
Proposition 64 was put on the November 2016 election ballot. As part of the deal, cannabis retailers were required to pay 27.5% in state excise taxes on top sales taxes and any municipal business taxes. Los Angeles has the highest cannabis company tax rate in California, at 10%.
“For every dollar in product sales, I pay 46 cents of that dollar in state and local taxes,” Montes said. “No other industry has to pay anything close to that amount.”
While cannabis retailers have largely passed these taxes on to their customers, there is a significant obstacle: the black marketplace. These operators do not pay these taxes and they do not comply with the many packaging and testing regulations that are required for legitimate businesses.
“In Los Angeles County, the black market price for cannabis is as much as 60% less as the price charged by licensed sellers,”Kiloh said.
This gap was almost immediate after the 2018 implementation Proposition 64. The black market price was largely unchanged, but prices at licensed dispensaries rose by 30% to 50% overnight.
This price spread has led to customers fleeing licensed dispensaries and moving to unlicensed shops. In some cases, they even purchased marijuana on the street.
Kiloh stated that a majority (14 billion) of state-wide cannabis product sales now take place in unlicensed establishments.
“My first quarter sales have dropped 15% over the past year, almost entirely due to the black market,”Carlos De La Torre, the owner and chief executive at Cornerstone Research Collective Inc. (an Eagle Rock dispensary), said.
Kiloh claimed that his sales have declined by roughly 30% over the last year, while Montes stated that his sales dropped by roughly 20%.
“I don’t blame the customer,” Montes
said. “Who wouldn’t go to where the lowest price is?”
For dispensary owners, it’s not just the amount of taxes taken out of their revenue. The excise taxes generally have to be paid up front, upon purchase of the inventory – unless the distributor makes an exception. The dispensary owners face cash flow problems if sales drop.
“You end up paying taxes for the product and then some of the product goes unsold because your customer volume is falling,”Kiloh said. “This places a higher debt burden on dispensary owners. That’s a major reason why a debt bubble is building in this industry.”
All dispensary operators who reached out to this article said that they know of dispensary owners who have sold their businesses, often at distressed values, but none claimed they were ready to sell their dispensaries.
Kiloh said there’s no official tally of the number of cannabis businesses that have either been put up for sale or have sold.
Kiloh, along with others, believe that the end result will be a consolidation of the industry.
“There have been a couple of brands that have a critical mass of dispensaries, most notably Kiva (Brands Inc. of Oakland) with 700 dispensaries throughout the state, and a few vertically integrated cultivators that have emerged over the past couple years,”Kiloh said.
For months, cannabis dispensary owners, distributors, and cultivators have been pushing state lawmakers to cut taxes and increase enforcement against black market operators.
They held a rally at Sacramento in December to demand a range tax cuts. These included the elimination of the cultivation tax, reducing to 15% the excise rate, and requiring that excise taxes only be paid once a cannabis product is sold.
In previous legislative sessions, many of these reforms had been pushed by the industry, but they failed. Kiloh expressed his delight that similar reforms have been taken up by several legislators and the office of the Governor this year. Gavin Newsom.
There’s also a push at the local level to put a measure on an upcoming Los Angeles city ballot to lower and restructure the 10% business license tax the city levies on cannabis businesses.
These dispensary owners assert that tax relief alone is not enough. What’s also needed is stepped up enforcement against illegal dispensary operators. These illegal dispensary operators have been subject to occasional law enforcement raids, but it has not been enough.
Contrary to popular belief the black market isn’t just the typical street drug dealer. There are also hundreds of shops that look like licensed dispensaries but don’t pay taxes or comply with regulations, Montes said.
“People walk into these stores and can’t tell the difference between them and legitimate businesses, except that the price for the product is a whole lot cheaper,” Montes said. “More enforcement has to be a priority and well-funded so that we stop playing whack-a-mole and stop illegal businesses from reopening,”He said.
Are there new businesses?
Despite these pressures, some entrepreneurs in the cannabis industry are still looking to open retail dispensaries.
Luis Rivera is the owner of SeeCanna in Studio City. This cannabis delivery service was established in December. Rivera, who was previously a consultant in the cannabis industry, stated that he has applied to the city of Los Angeles for a retail cannabis dispensary at his Studio City office.
But there’s a catch: Rivera is counting on some of the taxes the industry now faces being cut to make his businesses successful.
“I’m very optimistic that this year, we will see some success on this front,” Rivera said.
And if the tax cuts don’t happen?
“If they don’t happen, then the industry is done and I probably will have to sell to some big operator,” Rivera said.