The Worst “What If”

Why Cannabis Businesses Fail

by Carisa Rowe

Making the choice to launch a small business is one of the most exciting and terrifying times in an early-stage entrepreneur’sM There are innumerabl li e fe. “what ifs”; imaginary situations that develop into fantasies about inconceivable success and nightmares about failure. The number of considerations for success can be daunting but many U.S. workers are eager to change their professional trajectories.

Business ownership provides an alluring autonomy for industrious folks willing to step up to the unique challenges of building one’s own empire. Business ownership is a numbers game. The Small Business Administration reflects that 20% of new businesses fail before their first anniversary. By year five, 50% of the companies had closed permanently with only a third remaining in business at the ten-year mark. Success rates in small business ownership are bleak but the promise of personal and professional freedom coupled with a sense of financial control make the gamble worth the risk. Entrepreneurs interested in joining the cannabis industry have big visions, too – visions that range from community wellness to legislative and punitive reform, to wealth and notoriety.

Definitive statistics regarding the success and failure rate of cannabis business in the United States are unavailable as new markets open with every legislative session.

The most comparable infrastructure and staffing model to the cannabis industry may be food and beverage. Both industries provide a service-based consumer model with massive overhead, including expirable goods, stringent regulatory oversight, and market fluctuations that are often dependent on mother nature.

The food and beverage industry offers insight into the risks of building a brand in a heavily saturated, highly competitive, mood-driven market.

Industrialists wanting a cut of cannabis should bear in mind that 60% of new restaurants close within one year and 80% shutter their doors by year five. These great risks pale in comparison to chasing passion. As legal cannabis markets launch across the country, fervent ganjapreneurs stake their claim for a little piece of the “pot” , as it were. Normal corporate considerations are at play, of course. A successful business is a well-defined one and those companies that realize their dreams understand the value of a solid business plan and structure, to protect all invested parties.

Winning teams have strong, fully funded financial forecasts with reinvestment into the company, the marketplace, and the workforce. Businesses with loyal customers have taken advantage of their location by investing in their communities and evolving to provide services and goods based on consumer demand. By getting the combination of these factors just right, or dialing them in quickly, there is great reward to be had. In cannabusiness, these things are just the beginning.

Cannabis business owners have contingencies in addition to the rigors of launching a traditional business. Location is key in all business, but this consideration carries much weight in this industry where consumers must feel at ease coming to shop. Hard to access parking lots or storefronts in lowly populated commercial districts do not have reliable natural traffic.

Dispensaries must be visible from the roadway and maintain curb appeal to draw in shoppers. Stores in neighborhoods with high crime will struggle to draw in shoppers due to the stigma of criminality that lingers around cannabis use. The saturation of storefronts in a particular commercial district creates even steeper competition for clientele. Back-end businesses such as processing companies and cultivators must consider local ordinances, permits, and regulations when choosing to set up shop at a particular location. Delivery drivers, salespeople, and industry peers will need to be able to come and go from the business with relative ease, to keep the wheels of the machine turning. The relative distance to the nearest supply house and the abundance of resources on site will have an impact on the success of the location.

All too often in the excitement of building a new business, entrepreneurs overlook these important factors as they move through start-up decisions, particularly when in pursuit of affordability or a “good deal” .

Businesses who idealize a location’s potential or the practicality of amenities often find themselves struggling to realize all the potential they’d imagine. For a vast majority of business owners, particularly in the highly competitive cannabis market, an ill-fated location creates innumerable hurdles that lead to low profitability and, ultimately, closure.

Among the major issues affecting the longevity of a business is the matter of tax liability. In all manner of commerce and service, The Man must receive its due. In cannabis commerce, The Man is backed up by an aggressive tax code enacted during the Reagan administration.

Tax code 280e came into existence after an astute drug trafficker filed deductions on his taxes for “ordinary and necessary business expenses” such as mileage, a scale, packaging materials, long distance phone charges, and a small amount of rent for using his home office to conduct operations.

The following year, the IRS had enacted this infamous tax code preventing Jeffrey Edmondson from receiving tax breaks for his business expenses related to illegal drug sales. From 1982 forward, only the cost of goods sold could be deducted as a business expense when filing taxes. In legal markets, states’ rights supersede the Schedule I status of cannabis and provide some protections for the conduct of cannabis but there is no haven from tax code 280e.

For businesses unable to claim costs of goods sold (COGS), the effective tax rate is roughly 70%. For companies with poor financial structuring or improperly informed bookkeepers and accountants, outstanding taxes become an insuperable financial problem that outlasts the business.

New businesses struggle with brand identity, often undergoing many evolutions before settling on a final vision. In the hyper-competitive cannabis market, brands must put in extra effort to stand out from their peers. Logos must be professional, not too gimmicky, and easy to read.

The color palette, the look and feel of packaging, and the overall vibe that a company wants to convey are all reliant on the logo to entice consumers to the brand. High quality design and printing carry extra value in the consumer’s subconscious mind.

Neglecting image has caused many brands to fall behind the pack, leaving them positioned as low value and relegating their product to bottom shelf status. Brands must establish an identity that is true to their values and work ethic. Companies who haven’t yet established a voice and reputation for strong communication will be early on the chopping block as natural attrition balances the market.

Entrepreneurs often get so caught up in getting to the next stage in the process of building a company that they forget to establish a community to support their empire.

Businesses need consumers who return and who recommend the product or service to their peers. For consumers to come back and bring their friends, they must trust the company and believe that the company is invested in them.

As a successful brand, companies should be explaining their products, pointing people to more resources, and inviting engagement. Storefronts, laboratories, and grows who are not investing in their roles as community leaders have been feeling their profitability and loyalty wane. Together with brand identity, company culture ranks among the most important factors for success. Entrepreneurships should invest in the success of their team members with sufficient pay and benefits, competent training, and an atmosphere that is fun and rewarding.

Companies gain much loyalty from employees who are empowered to do their jobs, able to meet their financial needs, and encouraged to have a good time at work. Employee loyalty breeds customer loyalty and sales growth by fostering trust.

There is little marketing that beats a good reputation and employee experience is tantamount to customer experience when potential clients are choosing new services or products. Companies who neglect to show gratitude for the efforts of their staffs are watching good help leave for greener pastures and take paying customers with them.

Companies with strong leadership, a healthy company culture, happy employees, and loyal customers but still fail due to compliance issues. Cannabis entrepreneurs should expect hurdles that would make an Olympian think twice.

Outside of normal business regulations and licenses, cannabis companies must also register with multiple oversight agencies, including the Drug Enforcement Agency, the state’s pharmaceutical oversight agency, the state’s cannabis oversight agency, an inventory tracking service, local municipalities, and more depending on what is produced and what is used to produce it. Cannabis businesses are subject to enhanced scrutiny from the IRS, the ATF, and the FBI resulting in expenses that can be hard to forecast. Local municipalities are quick to hop on the gravy train, enacting ordinances that require excessive building modifications that can stymie progress in buildout or expansion.

The regulations are constantly evolving and the process to compliance is often confusing with minimal guidance. Small mistakes can cause entire investments to collapse, even leading to imprisonment for would-be tycoons.

There’s never just one reason for the closure of a business. A business is the manifestation of a million dreams. It is one hundred “what if” moments and ten answers every time.

Plenty of businesses will answer the question correctly every time and still never achieve success. Thankfully, brave entrepreneurs are undeterred knowing the cards stacked against them.

For cannabis magnates in the making, the “what if” is irresistible. After all, “what if” is just another way to express hope and all the fear, risk, and determination it takes to keep hope alive.