Pubdate: Sat, 08 Nov 2014
Source: Economist, The (UK)
Copyright: 2014 The Economist Newspaper Limited
Author: Schumpeter


The Legal Cannabis Industry Is Run by Minnows. As Liberalisation 
Spreads, That May Not Last

"FRESH and fruity, right?" says a bright-eyed young man behind the 
counter, wafting an open jar of something called "AK-47" under 
Schumpeter's nose. "Whereas with this one",-unscrewing another jar, 
fanning the scent up to his nostrils and closing his eyes in 
concentration-"I'm getting notes of dill."

Drug dealers aren't what they used to be. In Colorado, which in 
January became the first place in the world fully to legalise 
cannabis, buying a joint feels more like visiting a trendy 
craft-brewery than a drug den. Dispensaries along Denver's "green 
mile" are packed with young, bearded men earnestly discussing the 
merits of strains with names like "Bio-Jesus" and "Death Star". Some 
varieties claim to be inspirational, while others say they promote 
relaxation, or "couch-lock", as the tokers call it.

Colorado's pot industry expects to rack up sales of $1 billion this 
year. Across America the market is reckoned to be worth about 40 
times that much. Most of it is still illegal, of course.

But slowly, entrepreneurs are prising it out of the hands of crime gangs.

Nearly half the 50 states permit the sale of marijuana to medical 
patients, which in practice may include anyone willing to fake a back 
problem. This week Oregon and Alaska joined Colorado and Washington 
in legalising it for recreational purposes, too. If other countries 
legalise, as Uruguay already has, it could open up a global cannabis 
market worth perhaps $100 billion a year (by the best guesses, which 
are stabs in the dark).

Who will corner that market?

In Colorado a gold rush of excitement has seen hundreds of tiny firms 
sprout up. Just as everyone in San Francisco seems to be designing an 
app, everyone in Denver has an idea for a canna-business. 
Pot-friendly ski-chalets, taxi services and wedding planners are taking orders.

Non-smokers can sign up for cannabis cookery courses.

For the truly lazy, there is the option of lying back and being 
rubbed down with weed-infused massage oil.

Despite the boom, no big force has yet emerged.

Even Colorado's biggest retail chains, such as LivWell, Strainwise 
and The Clinic, have fewer than ten branches each. No firm has much 
more than about 7% of the cultivation or retail market, reckons Mike 
Elliott of Colorado's Marijuana Industry Group. At first sight this 
fragmentation is odd. Cannabis-farming benefits from economies of 
scale just as any other form of agriculture does. And you might think 
that when taking a mind-altering and potentially harmful substance 
people would prefer a trusted brand over a small upstart, as they 
overwhelmingly do with cigarettes.

What would it take to build a Marlboro of marijuana, then? Most of 
the obstacles are regulatory. Until recently Colorado's dispensaries 
were obliged to grow at least 70% of the cannabis they sold, and 
cultivators had to retail at least 70% of what they grew. The idea 
was to make it easier to keep track of the drugs-"from seed to sale", 
as the state government puts it-and avoid creating excess supply, 
which could feed the black market.

But one consequence is that firms have been unable to specialise. 
Some companies are good at farming but not at selling; others have 
nice storefronts but lower-quality products. No company has grown as 
fast as it might have, were it able to focus on one thing.

Cannabis businesses have been financially hamstrung, too. Getting a 
bank account is difficult, since even local banks must obey 
regulations laid down at the federal level, at which cannabis is 
still outlawed.

About one-third of the industry is completely unbanked, according to 
Mr Elliott. Last month hundreds of bank machines inside cannabis 
dispensaries in the legalised states were unplugged, after the South 
Dakota-based bank that ran them got cold feet about its legal position.

Banks are unwilling to offer loans to businesses that could, in 
theory, be shut down at any moment by the Feds. Equity financing is 
tricky too, since both Colorado and Washington have imposed residency 
requirements on the owners of marijuana businesses-including anyone 
with an equity stake.

The federal ban also makes it hard to do business in more than one 
state. Take Dixie Elixirs, which makes pot-infused drinks, chocolates 
and other comestibles. In its Denver factory, which looks like a 
collaboration between Walter White of "Breaking Bad" and Willy Wonka, 
technicians in beard-nets stir cauldrons of molten marijuana-laced 
chocolate. Dixie is planning to expand into other states-it wants to 
be "the PepsiCo of the cannabis industry", says Chuck Smith, its 
chief operating officer.

But the federal ban means it cannot send its products across state 
lines; instead it will have to build a factory in each state where it 
does business. "The economics of the product have to work at all 
scales, from California to Connecticut," says Mr Smith.

Welcome to cannabis country

It may not be long before these obstacles fall. Even without 
inspiration from a drag of Bio-Jesus, it is not hard to imagine a 
future in which the federal ban is eased, now that voters in so many 
states have backed liberalisation. The innovative pot entrepreneurs 
in places like Denver would welcome that. But should they? If and 
when the federal ban is dropped, it will not just allow them to 
expand. It will decontaminate the product's image, clearing the way, 
in time, for other firms to risk their reputations in the market.

As happened with alcohol after the end of Prohibition, and has also 
happened with tobacco, the pot industry would probably come to be 
dominated by a few giant corporations.

Would household names really consider selling cannabis?

They already have. In 1969 a Philip Morris executive wrote to the 
Justice Department, requesting a sample of marijuana for testing.

In 1970 British American Tobacco put together a blueprint for a 
"cannabis-loaded cigarette". Cannabis is certainly controversial. But 
then so is lung cancer.

It may well be that the executives best placed to make a mint from 
marijuana, once it is fully legal across America, are the Marlboro 
men themselves.
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MAP posted-by: Jay Bergstrom