Cannabis Banking Restrictions Altitude Investment Management

Cannabis Banking Restrictions: An Investor’s Biggest Opportunity

The federally-illegal status of cannabis creates many barriers for those in the industry, but few loom so large as the issue of banking. Many banks will not work with cannabis companies, even ones that do not touch the plant, for fear of losing their FDIC insurance or worse.

The consequences of lack of access to banking are huge, and they’re an everyday reality for cannabis businesses, even for those operating legally within their state. Cannabis companies cannot benefit from conventional loans or open lines of credit. Business is largely conducted in cash, because many cannabis companies can’t even open bank accounts. These problems can create security vulnerabilities, slow down business growth, and complicate the creation of new startups, but they also represent a major opportunity for investors to fill the void.

How Federal Prohibition Impacts Cannabis Banking and Financing

To be clear, there is no rule against banks working with cannabis businesses that comply with state law. Rather, the federal government requires banks to submit regular “suspicious activity reports” and to comply with a tight set of regulations. As a result, bank compliance officers would have to submit a tidal wave of paperwork to the federal government every time a cannabis business made a deposit. Moreover, because state governments collect tax revenue from cannabis businesses, this oversight may extend to government-held accounts. The result is an unmanageable bureaucratic nightmare.

Beyond the costs of following these guidelines is the risk of fines and criminal charges. Failure to comply with the web of federal regulations could result in serious consequences for a bank, such as loss of their FDIC insurance. As a result, many banks find it easier to simply refuse service to cannabis businesses than risk running afoul of the federal government.

As a result, much of the cannabis industry deals in cash. In both business-to-business and business-to-consumer interactions, there is seldom an alternative to dealing in dollars. That means customers have no choice when it comes to payment – forget debit and credit – and businesses are burdened with the task of securing mountains of cash.

It’s not just cannabis banking services affected by prohibition, either. Banks are also averse to extending financing to cannabis businesses, seeing the dubious legal status of the industry as a major risk. As a result, conventional lending is generally cut off even for entrepreneurs with good credit and strong cash reserves. Cannabis businesses can also forget about opening a line of credit to scale up quickly. For capital-intensive businesses in the cannabis industry,  this is an especially devastating blow.

How Do Investors Fill The Void?

Despite these financial obstacles, the cannabis industry has managed to become one of the fastest-growing industries in North America. Given the immense need for capital for core businesses like cultivators, laboratories, and dispensaries, private investors and funds have stepped in to fill the voracious demand.

In Canada, 63% of licensed medical cannabis companies said they were very likely to seek private capital from U.S. firms to support their growth plans ahead of nationwide adult-use legalization. In the U.S., private equity funds and venture capital firms have raised hundreds of millions of dollars for cannabis businesses to date. The federal prohibition means the public market remains highly restricted in the U.S., but that hasn’t stopped private investors, family offices, and high-net-worth individuals from supporting startups with much-needed capital.

The cannabis industry’s immense growth promises big returns on investment, and the dearth of cannabis banking and financial services makes it an even more attractive opportunity. North America is poised to be one of the biggest markets for cannabis in the world, eclipsing $9 billion in sales in 2017. That number is projected to grow to $20.8 billion in 2021, according to industry data firm The Arcview Group. Overall, the U.S. legal cannabis industry alone is expected to drive $40 billion in total economic output by 2021.

Even As Cannabis Banking Improves, Private Investment Remains At The Forefront

As legal cannabis becomes more common, there are signs that banks and credit unions are slowly warming up to the industry. From January through September 2017, the number of financial service providers banking with cannabis businesses increased from 340 to 400. While this is a modest improvement, it is hardly enough to meet the rapidly-expanding needs of the entire industry.

Banking and traditional financing is sorely needed in the cannabis industry, even as more states are likely to approve medical and adult-use programs this year. With no clear federal cannabis reform on the horizon, these modest increases won’t come close to meeting the rampant need for cash. Private investors will remain the top source of liquid capital in the cannabis industry for the foreseeable future.