In fast-moving cannabis investing, family offices hit obstacles
By Iris Dorbian, Buyouts
· Families pioneers in cannabis-investing space
· Families more flexible than PE but also slower to move
· Some FOs lean to peripheral areas: factory real estate, services
Family offices have been eager and leading investors in the growing cannabis market, using their advantages over traditional PE to explore opportunities.
But investors and family office executives say many FOs also face obstacles as they try to put their money down in a complex logistical and legal environment.
Family offices are “not equipped to deal with this new deal flow, and the intricacies involved with the cannabis industry, based on their current team structures,” said Michael Gruber, managing partner at Salveo Capital, a cannabis investment firm that has worked with FOs on various deals.
‘Misinformation and confusion’
“This is a far more difficult industry to operate in than anyone gives it credit for,” echoes G. Ryan Ansin, president of Family Office Association, a private membership group of 300 single-family offices.
“It’s very complex, and on top of that, the government and regulatory underwriters don’t truly understand the complexities of this plant or this space. So there’s a lot of misinformation and confusion.”
Families have a decided advantage over private equity firms and traditional institutional investors, since they’re not beholden to limited partners and regulators, giving them complete control over what they invest in.
And the cannabis industry is growing like, well, a weed. ArcView Group and BDS Analytics report that the industry, combining the medical and recreational markets, is estimated to pull in $22.2 billion by 2022 compared with the current projection of $13.1 billion for 2019. Some 33 states and Washington, DC, now have legal medical cannabis markets while 10 plus DC permit recreational use.
That’s a potent combination to motivate family offices.
But the cannabis industry remains fragmented and risky. The stuff is still illegal at the U.S. federal level. And for growers and processors, it’s an expensive capital investment.
Deterrents to investment
Data on cannabis investments by FOs is unavailable; that’s unsurprising given the tight-lipped nature of the group. But what’s clear is that families face a number of deterrents to investment.
Morgan Paxhia, founding partner and chief investor of cannabis-focused Poseidon Asset Management, says families tend to work more slowly and methodically than other investors.
Although these are great traits when a family is investing for generations, they don’t work as well in today’s high-octane funding climate.
To prove the point, Paxhia recounted a recent deal in which a family office missed the pro-rata deadline and was trying to jump in at the last minute, thinking it would still get a full allocation.
“A year ago, it wouldn’t have been a big deal, but now it’s becoming more competitive as capital flow picks up,” said Paxhia.
On the other side are the exorbitant costs that launching a cannabis operation entails.
“Whether you’re cultivating or dispensing, it’s an extraordinarily expensive endeavor,” said Ansin, himself a cannabis entrepreneur as co-founder of Revolutionary Farms, an indoor cultivation facility in Fitchburg, Massachusetts.
“You need extraordinary security; you need very high technology. All of these things create a scenario where there’s a lot more capital at risk than anyone thought there would be coming into each vertical of the industry. And almost no one has the ability to personally guarantee these investments and almost no one will.”
The idea of investing in something that remains illegal, risking a family’s reputation, may also be putting off some families.
“No one family is like any other family,” said Ansin. “Almost no one has the ability to personally guarantee these investments and almost no one will. And if you’re coming into the ground floor in a particular state, it’s likely you’re coming into a company that hasn’t even been licensed yet. It’s just an idea on a piece of paper.
“But there are people in each state that have been working for three to eight years to try and do this legally. And other folks, whether they are politically connected or some other way, they’ve greased the skids and gotten in. So all of these things are very risky.”
But would older family members be less inclined to invest in the field versus younger members, who’ve grown up as the concept of legalization has taken hold?
“No,” said Ansin. “They may be more inclined to purchase but I do not see any more interest per years old or generation. People want to make money.”
Some families try to skirt these issues by investing in areas peripheral to the plants, such as real estate where facilities are built or businesses that provide ancillary services, Ansin said.
That’s not to say that family offices haven’t indulged. Scot Crow, a PE and M&A lawyer at the Midwest law firm Dickinson Wright who counts both FOs and cannabis businesses as clients, has seen families making early investments into vertically integrated companies. These businesses grow, process and sell marijuana.
He has also noted a lot of dollars pointing toward the red-hot cannabidiol market. Proponents claim that CBD, an active ingredient in cannabis, provides relief to patients without getting them high. That’s unlike THC, another active ingredient in the plant.
According to Ansin, FOs are investing around $250,000 initially and increasing the figures to $1 million within a year, with much of those sums pouring into REITs. For PE funds, investments are larger, ranging $2 million to $5 million.
And rather than go it alone, more families are teaming up with other cannabis investment firms to grab more of the profit pie.
Said Paxhia: “Getting good deals done is going to be a lot more challenging, and for some of these families, if they’re not able to move, they will be missing out.”