The Cannabis Industry: Growing Pains for Now, but Success Will Come

While marijuana is currently prohibited in Texas, it is only a matter of time before medical and recreational use is legalized, as the last Viewpoint series produced by the Baker Institute Drug Policy Program argued. When this happens, it will make the cannabis industry open for business in Texas. As we can see from the experiences of states that have legalized recreational and/or medical cannabis, the industry has strong potential for growth. It also faces significant challenges. The future direction for the marijuana industry is important to consider for entrepreneurs, investors, policymakers and the public. In this Baker Institute Viewpoints series, which runs through Friday, five experts on the marijuana industry examine the question, “What does the future hold for the cannabis industry, in Texas and beyond?”  

Cannabis is illegal in Texas. But that doesn’t mean investors in the state aren’t taking a serious look at the financial potential of the cannabis industry. On October 5 and 6, Houston hosted the Marijuana Investment Conference, a space for cannabis entrepreneurs to pitch their ideas to potential investors. The majority of the investors were Houstonians, but the majority of the entrepreneurs were from out-of-state — Colorado in particular, although a few were Texas-based.

Representatives of the Baker Institute Drug Policy Program, in partnership with the South Texas College of Law, went to the Marijuana Investment Conference to talk to industry insiders about how they envisioned the future of the cannabis industry. Several common themes emerged. All of the attendees we talked to were excited about the profit potential for the emerging industry and cited the additional tax revenue and economic development opportunities as the greatest economic benefits to legalization. Not surprisingly, they also also favored a free-market legalization model, as distinguished from full state regulation, which is to be implemented in Uruguay in 2015. (Under the Uruguay model, the government will regulate marijuana production, sale, and consumption. Growers, sellers, and consumers will have to register with the Uruguayan government.) However, even though there was strong support for the free market model, several attendees also stressed the importance of the industry’s not becoming dominated by corporations and large-scale production. They also favored high-quality product standards, organically certified cannabis, and stringent testing for mold, mildew and other contaminants.

In addition, many of the attendees predicted that the indirect goods and services needed by the cannabis industry — including growing equipment, consumption items such as vaporizers, product testing methods, real estate professionals, security companies, and banking and legal advising — stand to bring greater financial gain than products related directly to the cannabis plant itself, such as seeds, edibles, and smokable and vape-able products. As one individual put it, there is “massive potential” in the ancillary products for the industry.

One of the only areas in which there seemed to be disagreement was over how heavily the cannabis industry should be taxed. While some attendees thought the recreational industry is too heavily taxed in Colorado and Washington, others saw Colorado’s tax structure as reasonable, arguing that it gives legitimacy to the industry and will help win more government support. Still others thought the taxes are acceptable, but that more of the taxed money should be directed back to the industry. Those who thought legal cannabis is too heavily taxed stressed that high taxes encourage the continuing existence of the black market and curb industry growth.

For the cannabis industry to succeed, it needs product demand, growth potential and good management. The demand exists. The National Institute on Drug Abuse finds that cannabis use has been increasing in the last decade, and that in 2012 roughly 18.9 million people consumed cannabis at least once in a 30-day period. This results in a market in which each person spends over $1,800 per year on cannabis products, according to ArcView, a leading cannabis company. ArcView also estimates that the U.S. market for illegal cannabis is between $18 and $30 billion, significantly outpacing the current legal market value of roughly $1.44 billion.

All of this translates into a sizable market potential that has significant room for growth, and for taxable revenue. We are seeing this play out in states that have legalized cannabis. In Colorado, people purchased over $33 million of recreational cannabis and another $32.3 million of medical cannabis in August 2014. Since January 1, the state has collected more than $45 million in taxes, licenses and fees. In a recent report, the financial website Nerdwallet estimated that if all states and Washington, D.C., legalized cannabis the total revenue would be above $3 billion. Texas has a below average cannabis user base, with only 3.3 percent of the adult population reporting cannabis use in the last 30 days. But with the country’s second largest population, that 3.3 percent still translates into substantial sales and revenue.

While the demand and growth potential exist, the industry still needs good management. One area for improvement will be successfully integrating the cannabis world with the business world. As one person stated, “It’s hard for investors to find entrepreneurs in the industry with good business acumen.” Several investors also indicated their weariness of entrepreneurs who appear to be “stoners.” From the entrepreneurs’ perspective, typical investors know very little about the cannabis industry. The unfamiliarity on both sides can present communication barriers for cannabis entrepreneurs and the investors who are accustomed to more traditional markets. This is another example of an industry’s growing pain, but it is one that will improve with time and greater exposure.

Industry management issues are a secondary challenge compared to current regulatory and legal obstacles. Several entrepreneurs and investors cited the legal issues resulting from cannabis’s status as a Schedule I drug under the Controlled Substance Act, the regulatory uncertainty, the lack of standardization in the industry, and the lack of financial and legal services as the greatest road blocks. At this point it seems quite likely that cannabis will eventually be legal throughout the country. Until that happens, however, states will continue to create their own structure for cannabis regulation as they legalize medical and/or recreational use. This creates a patchwork structure that may require overhaul in some states if/when the federal government eventually does decide to legalize cannabis. Any burgeoning industry encounters considerable growing pains, but those facing the cannabis industry are particularly complex due to the incongruence between federal and state law and the piecemeal way in which legalization is taking place.

Katharine A. Neill, Ph.D., is the Alfred C. Glassell III Postdoctoral Fellow in Drug Policy at the Baker Institute. Her current research focuses on state sentencing policies for drug offenders and the legalization of medical and recreational marijuana. Neill’s other research interests include criminal justice policy, the private prison industry and the use of public-private partnerships to deliver public services.

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