© Paul

Not all good ideas remain good ideas over time. A good business idea 15 years ago might be a terrible idea today. It all depends on how industries evolve. The cannabis industry has changed exponentially over the years, particularly with legalization in its various forms. During this evolution, many of your former competitors have become legal.

What Were They Thinking?

They were thinking about a number of things, including access and obligations. In favor of going legal, let’s consider the concept of access; and against legalization, let’s consider the concept of obligations.

Access is great. Legal marijuana businesses have access to customers and to markets that support access to investment money, all at a scale far beyond the black market.

Obligations, on the other hand, are not great. Laws, regulations and politics that never mattered suddenly matter a lot. For you, however, the potential access and obligations matter mostly in terms of what your competitors are doing in your most important markets. Competitors going legal create the biggest challenges.

Some of your black-market competitors will sell their businesses, but then will face the challenges of handling the money they received for an illegal operation without being accused of money laundering. If you stay in the business, you will face a wave of legal competitors. Some will have been around for years and will have made the transition from the illicit market to the regulated one; some will have bought into existing operations; and some will have started from scratch. In comparison to black or gray market competitors, your legal competitors will have greater access to investment money, customers and markets, and to various business services than those operating outside of the regulatory system. Some legal businesses will have access to banks, and some will have lobbyists. All will have to put up with laws, regulations and politics in a new and different way.

Regulation’s Impact on Medical and Adult-Use Marijuana

It is likely that legalization will proceed in two distinct directions. Medical cannabis will probably be treated like some form of medicine and be regulated primarily by the U.S. Food and Drug Administration (FDA). Recreational marijuana will probably be treated like an alcoholic beverage and be regulated primarily by the regulatory authorities in individual states.

But the states will not act in a consistent way. For example, Oklahoma voters had not repealed alcohol prohibition until 1959, while others, such as Georgia and North Dakota, repealed it in the early 1930s.

Having said that, one might ask: “What happened to the thousands of illegal stills and speakeasies after the end of Prohibition?” During that time, the alcoholic beverage industry was characterized by significant overcapacity. One way or another, following the end of World War II, the thousands of illegal and legal producers and retailers either consolidated or disappeared.

Further, today, whether we order a 13.5-percent Pinot Noir or an 80-proof vodka, we expect the product to be exactly what the label says it is. We clearly expect our aspirin and cough syrup to be not only effective, but also free of contaminants, and we expect our alcoholic beverages to be equally free of contaminants and to taste exactly like they are supposed to taste.

Based on the path that the alcoholic beverage industry followed post-Prohibition, we can expect to find ourselves-in the short run-in an industry characterized by overcapacity and falling prices, followed by a period of significant consolidation.

Legal competitors will not have easy lives. To secure investment money by becoming legal, many businesses will need to “invest in,” which means pay, exorbitant taxes out of their own pockets. IRS section 280E (the tax code section that stipulates the cost of goods is deductible, but the cost of sales/distribution is not) is slightly more beneficial for growers than for dispensaries. But one way or another, all newly legal business also will need to invest in legal and accounting services to navigate the still-federally illegal industry.

What the Future May Hold

The 2013 and 2014 Cole memoranda, the 2018 Sessions Memo (which rescinded the Cole memoranda), the Rohrabacher-Blumenauer Amendment and our industry’s various other legal guideposts will fade into the sunset, to be replaced by a host of other key regulations. Lobbyists will seek advantages for their clients, whether their clients come from our industry or not. Whether one believes that lobbying will be good or bad depends on whether the lobbyists will be trying to advance anti- or pro-cannabis agendas.

As the industry’s legal competitors spend money to comply with legalization’s requirements, our industry will look less and less like it does today. Third-party testing will become obsolete as serious testing moves in-house to match current practices in the rest of the food and drug markets. The quality requirements will force cannabis businesses to hire new personnel with appropriate scientific skills. As testing moves into our organizations, it will be followed by a host of technical auditors with agency badges who will audit our in-house scientists’ work.

We will all learn more than we ever wanted to know about the Code of Federal Regulations (CFR)—"the codification of the general and permanent rules published in the Federal Register by the departments and agencies of the Federal Government,” according to the Government Publishing Office. The pharmaceutical industry pays attention to various sections of CFR’s Title 21 (the code of federal regulations for food and drugs) for supplements, over-the-counter and prescription drugs. The alcoholic beverage industry pays attention to CFR’s Title 27 (which prescribes federal regulations for alcohol, tobacco, firearms and ammunition excise tax (FEAT)). Various agencies issue various forms of guidance with respect to the code of federal regulations. And again, each state will continue to develop its own regulations.

Beyond the various federal and state regulatory structures, the pharmaceutical industry also participates in the United States Pharmacopeia (USP), which should be considered an extremely significant pharmaceutical industry-based organization. The USP already has a cannabis committee with a limited scope (identity, composition and purity). The unavoidable point is that the USP’s cannabis committee exists, as do the cannabis committees of many state bar (lawyers’) associations, to address both the needs of our industry and to address the needs of the consumers and patients.

What Does It Mean for Our Future?

Is any of this good? Is all of it bad? In the end, these are not relevant questions. With time, the competition will operate at a size and scale impossible to imagine today. The market will extend beyond the dozens, even hundreds, of dispensaries across any state to the tens of thousands of retail distribution points across the nation as producers attempt to offer their products to consumers through each and every available channel. The competition will attempt to serve millions of consumers across the nation and around the world. The competition will have financial power and, consequently, political influence. Expect producers to use both their purses and political connections to demand access to consumers through these retail channels, and retailers to demand access to this new set of consumer products.

Do we have any options? Can we make any decisions that have any influence at all? Once again, we might look at the pharmaceutical and alcoholic beverage industries for ideas. Each of these industries faced massive new regulatory regimes beginning in the 1930s, and each has survived.

We should note that neither the pharmaceutical industry nor the alcoholic beverage industry consists of a single, massive player. Each has large players and small players, and each (fairly regularly) goes through periods of small producer-based innovation and consolidation as larger players purchase smaller players.

We will not all dissolve into a single, massive enterprise, nor will we all join a single, massive trade organization. We will, however, probably find ways to advance our common interests.

However, as relatively mature industries, each has several national trade associations to which producers and retailers-both large and small-belong. And the trade associations tend to have a technical or scientific focus, a commercially oriented focus, or a decidedly political focus.

Each of these pharmaceutical and alcoholic beverage industry trade associations has developed to the point to where its leadership seeks out individuals primarily interested in industry development, in contrast to personal gain. Long ago, these trade organizations recognized that their rooms full of people who tried hard to sell something to each other rarely produced anything for anyone.

Nevertheless, like the individuals and companies in our industry, the individuals and companies in the pharmaceutical and alcoholic beverage industries face many common problems. Each of these industries’ professionals and companies have learned to manage many of their challenges cooperatively in a way that benefits all. And they are no more intelligent than we are. They merely ran into their respective problems about 80 years before we did. Like them, we will not all dissolve into a single, massive enterprise, nor will we all join a single, massive trade organization. We will, however, probably find ways to advance our common interests.

And the sooner, the better.

Thomas Schultz is president, Connecticut Pharmaceutical Solutions (CPS), CTPharma.com.

Rino Ferrarese is COO, Connecticut Pharmaceutical Solutions.

The authors do not provide legal, accounting, or tax advice. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for legal, accounting or tax advice. You should consult your own legal, accounting and tax advisors before acting on any related matters.