After an estimated $5 million in sales the week after the New Year’s Day launch of Colorado’s adult recreational marijuana industry, investor interest in the cannabis sector is higher—and more direct—than ever.
In the wake of a U.S. Justice Department decision to back off on marijuana prosecutions in states where the substance is legal, forward-looking investors are starting to invest in businesses that cultivate and sell marijuana plants and in companies that produce products made from the plants.
“A lot of the increase in interest has occurred in the direct businesses. The pie has gotten bigger,” says Troy Dayton, co-founder and CEO of San Francisco-based ArcView Group, which runs the ArcView Angel Investor Network. Founded in 2010, the network matches accredited investors with entrepreneurs seeking funds for cannabis-related businesses.
An example of a direct business that ArcView members recently funded is Medicine Man Denver, which operates the largest single medical marijuana dispensary in Colorado, according to its Web site. The company, a 2012 High Times Cannabis Cup Winner in the “Best Sativa” category, opened its store for recreational sales on January 1. Medicine Man pitched ArcView investors several months ago and raised over $1 million in unsecured debt, according to Dayton.
Six months ago, ArcView permitted only ancillary cannabis businesses to pitch to investors at its Shark Tank-style events. These businesses don’t grow, process, distribute or otherwise handle marijuana plants. Ancillary businesses that have been funded by ArcView investors include horticultural equipment manufacturer Radiant LED Growth Systems, consumption device/vaporizer maker Uptoke and security services provider Canna Security America.
Because selling and possessing marijuana remains illegal under federal law, most investors still prefer to back ancillary businesses. However, the U.S. Justice Department announced last year that it would defer to states such as Colorado and Washington that have legalized marijuana use for adults and established tight regulatory schemes.
“That’s big,” Dayton says of the new federal policy. “It’s changed how investors see this industry in terms of risk profile. There’s a lot more money flowing into the direct businesses now, which tend to deliver a faster, more reliable return.”
One reason direct businesses can be more profitable in the short run is because legitimate growers and retailers must receive state-issued licenses that are difficult to obtain and issued in limited numbers.
“Once businesses get those licenses, they’re pretty likely to do well. But they need capital to expand their operations and meet the demand for product. They’re willing to give 20 percent, sometimes 25 percent, interest rates to investors who lend them money because they can’t go to traditional banks,” says Dayton.
Magic Market
Cannabis is the fastest growing industry in America, according to a 250-page report ArcView Market Research released in November. The report projects that the industry will grow from $1.44 billion in 2013 to $2.34 billion in 2014, a 64-percent increase.
Despite federal prohibition, 20 states and the District of Columbia currently permit the use of marijuana for medical purposes. Colorado and Washington are the first states to legalize adult recreational use, with recreational retail sales in Washington expected to start later this year. As legalization spreads to other states, the ArcView report predicts a five-year national market potential of $10.2 billion in 2018, which represents a whopping 47.9-percent compound annual growth rate from 2013.
Intrepid Investors
Besides providing angel capital, wealthy clients can also invest in one of several private equity firms in the cannabis space. The managers of the just-launched High Times Growth Fund told The Denver Post they hope to raise $100 million over the next two years to invest in cannabis-related businesses.
Established private equity firms include Denver-based Mjardin, Newport Beach, Calif.-based Ghost Group and Seattle-based Privateer Holdings, reportedly the first private equity firm to invest in the legal cannabis sector.
Privateer closed its first investment round last year and plans to raise another $25 million to $50 million in April, according to chief financial officer Michael Blue. The firm acquired its first portfolio company in 2011, an online startup with over 80,000 user-generated reviews of 500-plus strains of marijuana. “Our flagship company, Leafly.com, is completely redesigning the Web site, releasing new iPhone and Android apps this week. We’re launching a French version of Leafly this week as well,” says Blue.
While there are about 20 public companies that sell products and services primarily aimed at the medical marijuana industry, many marijuana-related stocks are volatile and thinly traded with small market capitalizations. Bloomberg News reported last week that speculators have caused shares of several marijuana stocks to soar over 100 percent, and in one case over 1700 percent, since recreational sales began in Colorado. Finra was concerned enough to issue an investor alert in August 2013.
“This is still a pretty immature industry,” says Dayton. “There are a lot of scammers out there. In any gold rush, there are going to be some huge winners and some huge losers.”
