This article is the third in a series called, “So you want to start a canna biz?” created in partnership with Good Tree Capital. Here, we’ll cover is how much it costs to open a cannabis business, including fees, applications, and other specifics of the cannabiz.
Total revenue – Total costs = Profit
Earlier in our canna biz series, we introduced future cannabis business owners to an important formula for making a profit. But while the equation for running a successful business is fairly simple, optimizing the inputs to costs is not.
Savvy business owners contain costs while maximizing revenue. And because every cannabis business incurs costs before earning revenue, it is important to take a deep dive into the largest cost drivers and develop tools for containing them.
To get to the bottom of cannabis business costs, Good Tree Capital canvassed real borrowers—and the internet—to get a sense of how much cannabis operators were paying for some of the big-ticket items.
With so many unique variables at play, the table below was created to offer general, directional guidance on the cost of starting a cannabis business, but remember, they will vary depending on business type and location.
The cost of opening a cannabis business
|Application fee (non-refundable)||$2,500||$30, 000||$100,000|
|Annual registration/renewal fee||$5,000||$60,000||$100,000|
|Real estate||$128/sq ft||$240/sq ft||$393/sq ft|
|Utilities||$1.75/sq ft||$2.10/sq ft||$2.50/sq ft|
|Renovations||$57/sq ft||$60/sq ft||$77/sq ft|
|Marketing||3% of sales revenue||5% of sales revenue||9% of sales revenue|
(Sources: Good Tree Capital and Cova)
Virtually every business has to account for the cost of utilities, marketing and inventory, but cannabis businesses have to make special considerations for startup costs, real estate and taxation in particular.
You have to spend money to make money
What differentiates cannabis businesses’ startup costs from that of your typical new business is that these costs don’t guarantee your business can open.
Applying for a cannabis license is not only a very expensive process, but these expenses must be incurred before you know if you will be granted a license to operate and sell products. State application fees alone can run into the six figures, which are not only non-refundable but don’t account for the other cost inputs necessary for creating a compelling application.
Creating a cannabis application
Cannabis license applications require business plans that provide detailed floor plans, security systems, financial projections and incorporation documents, to name a few. As an example, a strong application will need a security plan that gives the State confidence that there are measures that restrict minors from obtaining cannabis products and protect the business and broader community from criminal actors who see an easy target. You may be able to rig up some cameras and an alarm system yourself, but that might not fly if you want your application to be successful.
Don’t forget about security
You will have a higher chance of success by working with a security expert who will make sure all boxes are checked: controlled entry and exit, multiple camera feeds and footage storage, cash and product vaults, break-and-enter alarm systems and a number of other items that will need to be planned for and, eventually, installed. In order to create a well thought out business plan, you will also need support from other professional service providers, including lawyers, general contractors and accountants.
While this may feel like a gamble, it underscores the importance of planning for these costs and developing strategies to minimize and delay the expense.
It goes without saying that you cannot submit security systems and floor plans for an imaginary space. Most states require you to identify your proposed location as a part of the license application.
Finding the right real estate for your cannabiz will come at a cost
The dynamics of the application process – coupled with soaring demand in newly legalized states – leads to a dramatic increase in the price per square foot charged to a cannabis business owner versus what would be charged to the beauty salon owner for the same property. If you wanted to open a beauty salon, then you would be free to locate your salon anywhere with available commercial space. This is true for most customer-facing businesses, but certainly not for cannabis.
States place restrictions on where licensed cannabis businesses can operate, which creates a scarcity of supply of eligible commercial properties.
The City of Lynwood, California offers a great case in point. In the first few months of 2016, before California legalized adult-use cannabis, the cost of an industrial building (perfect for growing or manufacturing) was roughly $106-$120 per square foot. Following legalization, the price for the same Lynwood-based industrial properties spiked to over $300 per square foot, a 3x increase. Cannabis businesses will face this basic dynamic in cities and towns across the country.
One solution to this problem is to purchase the property outright. The upside to this approach is that you are more likely to avoid meddlesome landlords who might have a problem leasing to cannabis operators.
You might also be able to avoid the price-gouging faced by renters and, as the new owner of the property, you will benefit from the massive increase in property value. The downside to this approach is that it requires a large upfront cash outlay to finance the purchase, tying up cash at a critical and uncertain stage of the business.
If leasing the property is your only option, you will need to be transparent about your business when negotiating with the owner. Assuming the property owner does not have an issue with your business model, then you would be best served by negotiating a conditional contract that begins payments once you have received a license from the State or once your business is up-and-running. You may even want to think creatively about possible revenue sharing agreements to reduce the upfront cost of leasing the property.
Cannabis is among the highest taxed industries in the nation
All businesses must meet their federal, state, and local tax obligations in order to stay in good standing. However, taxation requirements are different for cannabis businesses and impact costs in a very significant way.
Business owners must consider and understand the impact of Section 280E of the IRS tax code, which prohibits marijuana businesses from taking traditional business deductions because the plant is listed as a Schedule 1 drug under the federal Controlled Substances Act.
What does this mean exactly? Take a look at the comparison chart below:
Taxes for cannabis businesses compared to other industries
|Cannabis business||Traditional business|
|Cost of goods sold||$650,000||$650,000|
|Deductible business expenses||$0||$200,000|
In this illustrative example, a cannabis business owner is not able to write-off deductible business expenses such as rent, utilities or marketing. Cannabis businesses are taxed on their gross income, whereas traditional businesses are taxed on their gross income minus those deductible business expenses.
The example cannabiz pays over 2x the taxes of the traditional business, making cannabis among the highest-taxed industries in the nation.
Hire help if you can
Our advice is to hire a smart CPA who has extensive expertise in cannabis accounting standards and cannabis tax law. Their knowledge will provide you with the tools to structure your business in a way that minimizes your tax expense.
Not exactly a “green rush”
As you can see, operating a profitable cannabis business isn’t a given. Some massive multi-state operators still have not figured out how to crack that nut. So, having a strategic plan for reducing startup and long-term costs will be one of the most important inputs to putting your business on the path to profitability and growth.