7 Financial Fundamentals for Cannabis Business Success

Features - Business

Experts explain how to avoid common mistakes and set yourself up for long-term profitability.

March 6, 2019

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As the cannabis industry becomes more regulated, the need to perform and act like any other legitimate enterprise is paramount to success. This will test many business owners, especially those with little to no financial industry background. Here, several cannabis industry experts share tips on avoiding business mistakes young companies make, and how to handle a variety of challenges.

1. Business Strategy

Your business strategy is where you will tell your “business story,” which defines your path forward with near- and long-term business objectives, says Terry Gibson, a consultant at the financial services and accounting firm RoseRyan.

The cannabis market has a lot of moving parts, and within that market there are areas to fill that may align with a company’s strengths better than others. Gibson notes that, generally, the narrower the focus, the better advantage a business will have for scalability.

“Very few people are going to be able to check every box,” he says. “In your strategy, try to define where you fit in and why you fit that area. What niches are you going to go after today and in the future?”

While some business owners have a sky-is-the-limit approach, not every cannabis cultivator may be looking to scale. Troy Prill, chief financial officer for Colorado-based, vertically integrated cultivator and retailer Strawberry Fields, suggests there is nothing wrong with starting a “mom-and-pop” operation that covers your expenses and lets you live your lifestyle. He compares these smaller businesses to vinyl record stores in the music industry.

“They do it because they absolutely love vinyl as their favorite thing in the world,” Prill says. “iTunes is in the industry for making money, and these people are in the (vinyl) industry for providing an awesome vinyl record to go buy. You could say the same thing about any boutique marijuana store or cultivator.”

Prill says business owners should understand that if you’re running your business out of passion and not scale, you won’t have the same potential for making revenue as some of the bigger, commercialized businesses moving into the space. Regardless of how small or big you want your company to be, you’ll still need to have a basic understanding of what matters to keep the doors open.

2. Track and Analyze Key Metrics

Any business has key statistics that need to be tracked. Metrics allow you to demonstrate critical success factors and areas on which to improve, and identify how far you are straying from projected operating costs. According to Gibson, stats like average yield and how much product you can generate per acre can be crucial to a cultivator’s understanding of how to run his business.

Additionally, these same key metrics will be used as part of an evaluation process by interested third parties, such as investors. Investors do their homework on the competition, local grows and dispensaries in the region. They’ll know what metrics competitors are using and compare that to your product.

“Being crisp on your metrics, having that information available and explaining how you use that to run your business builds your credibility with [investors],” Gibson says, “and then gives them a basis for evaluating whether they want to invest in you or someone else.”

Prill says the key to keeping meticulous records is to rely on software. Accounting software, enterprise resource planning (ERP) systems, Business Intelligence, and Office-type software programs are all key to keeping records in line, he says.

After you compile your statistics, you’ll need to interpret them yourself or hire someone to do it for you. Analyzing your data correctly can point out critical inefficiencies (think about your yield per square foot) that could make all the difference in sustaining your business, according to Prill. “It’s such a competitive industry in every single micro-economic market of each state, it’s impossible to survive without being as lean as possible,” he says.

Chris Vane, director of business development at RoseRyan, notes cannabis industry operators are increasingly requesting regional data—which products are selling best and how they can make changes to their own product line to feed demand.

“We can grow 50 strains … or we can grow five that are going to be the most successful [strains that] dispensaries are buying,” Vane says. “I see the world moving to an information type of service really quickly.”

Dean Guske, a Seattle-based certified public accountant (CPA) who services hundreds of cannabis clients across the country, warns that a lot of people in the business get excited from the revenue (top line) they bring in and aren’t necessarily accounting for all of their expense obligations, such as taxes. Your bottom line is your net income after taxes.

“Don’t manage your business based on your top line,” says Guske.

3. Get Your Books in Order

RoseRyan, Guske and Prill all noted the priority of taking seriously your financial framework and processes. Businesses in the cannabis industry can be under particular scrutiny from governing bodies like the IRS, which enforces tax section 280E. This line item makes it difficult for cannabis companies to deduct expenses from total income, a situation that won’t change until marijuana is reclassified from Schedule I.

“You can’t write off your rent or your payroll all the time,” Prill says. “It’s completely plausible to be able to make $5-million revenue in this industry and come out writing a check just to keep your doors open.”

Many cultivators have been working their grows for years prior to legalization and never had to deal with regulatory requirements. Guske describes how many cannabis companies struggle to adapt to the new business climate with basic “blocking and tackling”: paying taxes, hiring employees, human resources issues and dealing with regulatory compliance.

“It’s one thing for you to grow weed in your two-car garage,” said Guske. “But once you decide that you want to scale up and, say, do a 30,000-square-foot indoor grow, well now all of a sudden you probably need $5 million to do that. ... How do you organize yourself to do business matters? What kind of entity do you want to run your business in? I think people just ignore that.” (For more on corporate structures, read “Structured for Success” in the Jan./Feb. issue of CBT sister publication Cannabis Dispensary: bit.ly/corporate-structures.)

It’s important to be on top of your accounting and finances as competition steps up, or else (as all the experts noted) smart, well-financed entrepreneurs and people from other industries moving into cannabis will siphon business away from entities that aren’t as organized.

“The train is coming down the tracks, and a lot of these guys are going to get left behind or run over,” Guske says. “You’re going to see more and more of these people muscle their way into the industry.”

4. Build a Good Ecosystem

All experts also noted the best way to become organized is by surrounding yourself with the right personnel.

“Hiring the best CPA you can afford, hiring the best lawyer you can afford are some of the best things you can do for your company,” Prill says.

Natee Meepian | Adobe Stock

Prill also discussed how a good CPA and a lawyer well-versed in the industry will save cultivation business owners time, energy and money that can be used elsewhere in an operation. For example, each state has different laws regulating and taxing cannabis, so having a lawyer and CPA who know the ins and outs of the state in which the business is located will help to avoid mistakes you might overlook while wearing several different hats as a start-up business owner.

While a good accountant and lawyer should be top-priority investments, Gibson and Vane advise that businesses should eventually fill out roles covering valuation, finance, marketing and other facets. You’ll need to lean on these employees and advisors at critical times, which makes it important to know you can trust them.

To find a good financial advisor, Vane says you should look for the advisor’s long-term vision, background and planned strategy. Have they thought through various options? On the other hand, Vane says to watch out for advisors who focus on the short term.

“They want to take advantage of you from a price perspective,” Vane says of short term-minded advisors. Business owners should be asking these people, “What are they trying to do quickly and why?” Vane says. “Because that’s not a part of your long-term vision.”

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5. Have Communication and Operational Procedures in Place

Other common mistakes for cannabis companies, and any young companies, are miscommunications and not having procedures put in place.

Processes not understood company-wide, such as purchasing procedures, will have a detrimental effect on your business. For example, Prill says, officials will want to see the paper trail from the purchase of a pack of markers.

“If you don’t have that in place, get it in place now,” Prill adds regarding purchasing procedures. “It’s kind of rudimentary, but it’s so important.”

Prill also notes that keeping more than one person responsible for any transitional task is important. Internal controls such as time logs, signatures, and dual-approval for purchasing and cash-handling are paramount.

“If [the processes are] cumbersome, you’re going to waste your time, you’re going to waste your money on nine different bookkeepers because you’ve got a crappy system,” Prill says. “It might take that many people to make up for the inefficiencies.”

6. Brand Correctly

While all the above should be considered business essentials, branding still plays a significant role when done right. On an industry level, Prill observed that dispensaries and cannabis grows excel at branding their products.

“It’s proven: Packaging sells,” Prill says.

Know what your product is about, what you want your product to look like, how you want your customer to feel when they see your products or walk into whatever shop you have. Your brand ties back to your vision, which third-party companies and investors will look at to evaluate you as a competent business leader.

7. Create a Contingency Plan

Gibson and Vane also advise companies to create a contingency plan to prepare for volatility in the cannabis market. What happens if the price per pound of cannabis drops 25 percent? Do you have access to capital in case such volatility cuts revenues? These are conditional “what-if” scenarios that need to be thought out and outlined as a contingency model to help get your company through hard times.

“Plan to raise more money than you need,” Gibson advises. “You want to be able to demonstrate that you’ve thought about that and you have got some staying power should things get tough for a while.”

Sam Fiske is the executive producer at Technori and a freelance writer based in Chicago.