What You Need for a Cannabis Startup

There are complex licensing structures and restrictions in the cannabis industry. Even a small cannabis dispensary requires a lot of capital.

Before getting into a marijuana startup, talk to a cannabis law attorney about your legal options.

The California Cannabis Industry

Since November 2016, when the state of California legalized adult use of marijuana statewide, the cannabis industry has taken off. “For most people,” says Katy Young, a business litigator at Ad Astra Law Group in San Francisco, “it’s just so hard to get involved. The reality of being a cannabis business owner is pretty bleak.”

“While there certainly is opportunity in that environment, it is one that can get very legally complicated very quickly,” adds Rebecca Stamey-White, who practices administrative and business law for the alcohol and cannabis industries in San Francisco. “Obviously, we’re still dealing with federal illegality.”

“In the beginning, cannabis entrepreneurs need a lot of help to understand what the regulatory system looks like in California,” says Kimberly R. Simms, a San Diego business attorney who advises legal cannabis companies.

“It’s a lot of initial consulting on explaining the landscape, setting up corporate entities, and working to get their licensing. The other path is to look towards taking over operations that are already licensed and structuring that deal in a way that makes the most sense — from a corporate and tax perspective, as well as making sure that the deal structure contemplates any restrictions on the transfer of licenses at both the state and local level.”

Know the Relevant State and Local Cannabis Regulations

In California, marijuana businesses are regulated at both the state and local levels. Any company selling cannabis-related products in California needs a state license from California’s Department of Cannabis Control (DCC). However, cannabis operations must first get local authorization before applying for a state license.

Different cities have different rules on what exactly a business needs to do to get a cannabis permit.

Dual Cannabis Licensing in California

California has a dual licensing process that “goes from the bottom up,” says Simms.

“So your local says a permit must come before you apply for the state. Every city and county gets to make its own rules, so there’s a lot of work to help folks navigate which city or county might allow the commercial cannabis entity they’re interested in. Then we look at things like land use and zoning, and local tax rates.”

Municipal Authority Over Cannabis Businesses

Under California state law, local governments have significant power to restrict these businesses. Indeed, municipalities can even prohibit marijuana businesses outright.

Under the Adult Use of Marijuana Act, municipal governments passed local rules to regulate (or prohibit) cannabis activity. Along with many other cities, San Diego created a system to allow certain cannabis businesses to operate. The San Diego Municipal Code sets requirements for marijuana companies to open up within city limits.

Another problem is the lack of open opportunities. “It’s important to understand that many cities have limits or caps on how many operations they will license,” Simms says. “The city of San Diego, for example, limits its cannabis production facilities, or non-retail operations, to a maximum of 40 citywide, and that maximum has been reached.”

You Must Apply for and Obtain the Proper License

There are different licenses depending on the type of cannabis business. Commercial cannabis licenses include:

• Cultivation licenses
• Transportation/distribution
• Manufacturing
• Testing laboratories
• Retail cannabis
• Event organization

“Recently, many cities that have opened up licensing are proceeding with a merit-based application.” This means there is often a benefit to those who already have operations/experience in the industry, Simms notes.

Merit-based applications can be a daunting task. “I’ve worked on applications with clients that are 100-plus pages,” she adds. “Applications often include a business plan, including all standard operating procedures, a community benefits plan, labor and employment plan, safety and security plan, neighborhood plan, and equity plan — followed up by an in-person interview. You’ve got to give yourself a month or two to prepare something like this, not to mention finding the appropriate location.”

Cannabis Licensing and Zoning Restrictions

Every city will put forth its own set of requirements and zoning restrictions. Similarly, non-retail license applications are often limited to industrial zones, sometimes with similar separation requirements.

For example, there is a state-minimum 600-foot buffer from schools, day care centers, and youth centers. However, local jurisdictions can impose stricter limits. The City of San Diego requires a 1,000-foot separation from schools, playgrounds, libraries, and other sensitive uses.

Which brings us back to the zoning problem. “Finding a properly zoned location is challenging, competitive, and costly. For someone who’s looking to get into operations in the next six months, then trying to find that perfect property and go through the land use and zoning process is probably not the best bet,” Simms says.

“If someone is looking to move quickly, I often will recommend trying to find a location that’s already permitted so that we can structure some sort of transaction where they take over the operations.”

Regulation of Hemp and CBD

In addition to recreational and medical marijuana, hemp and CBD introduce even more regulatory points of view.

“All CBD is not created equal. If you’re interested in creating a CBD product, you need to pause before you sink money into the marketing and development. The federal government has a lot of opinions; county health departments have a lot of opinions; the FDA has a lot of opinions. So you need to navigate those deals much more carefully,” says Simms.

“Hemp is an area that is ever-changing, and there’s a lot of grey area right now. There are very big differences between marijuana and hemp, with CBD being the hot topic right now. Its source can completely change the set of rules.”

Startup Costs of Recreational and Medical Cannabis Businesses

The application process comes with significant licensing and application fees. There are state and local license fees just to get started. This includes an annual operating permit fee, application fee, retailer license fee, and annual renewal fee.

Complying with all those cannabis legalization regulations has high operational costs. “In California, it’s very expensive to start a cannabis business,” says Young. “Probably $2 million operating capital at the outset. That is because you have to apply for a state and local permit to conduct commercial cannabis sales, and that application requires that your entire business plan be laid out in the application.”

“The filing fee alone can be tens of thousands. Taking into account all the work that we need to get done to prepare a competitive application, you’re looking at a couple of hundred thousand dollars out the gate to even have an opportunity to apply for a license.”

Licensing costs are similar throughout the supply chain, for cultivation and dispensary licenses. How long it takes to get one also depends on the locality, Young adds. “I have one client in California whose application has been in for over a year, and the city council persists in refusing to make a decision.”

How Long Will It Take?

“The local component can take the longest. If you’re not buying an existing business and you’re starting from scratch, it’s not unheard of to take a year. The fastest I’ve seen is six or seven months,” says Simms.

“So imagine you rent or own a space, you have a time when you can’t actually operate. Do you have enough capital to survive during that time?”

Setting the Right Structure

Given these difficulties in new licensing requirements, Simms says several clients explore purchasing an existing company and license. Regardless, though, you need a solid business structure and plan in place to ensure that all legal requirements are satisfied.

“It’s not something you’re going to put together overnight,” whether you are applying for a new license or obtaining an existing license. “And if it is something you think you can put together overnight, mistakes will inevitably be made. There’s just no doubt about that.”

Climate and Cannabis Products

Climate change has added more unpredictability to any type of farming, including cannabis cultivation.

“People can lose entire crops due to an unseasonably cold freeze out of the blue,” says business litigator Peter Simon, with Beyers Costin Simon in Santa Rosa. “Also, fires can devastate a lot of growers. I have a number of people that lost everything.”

Indoor grows can be more productive and consistent, he says, but they generally require a larger capital investment. And there is more risk. “If something goes wrong—disease or an infestation of mites,” he says, “it’s going to spread much faster in that indoor area.”

Be Ready To Seek Professional Guidance

“A lot of people don’t understand how challenging it is to run a marijuana business. There are so many state and local regulations, and it’s not an easy industry to operate in. We have a lot of issues that we run into that make running a business very challenging,” Simms says. “It’s profitable, but the cannabis industry still faces many uphill battles that are critical to understand before jumping into operating a cannabis business.”

A good legal counsel will serve, essentially, as your general counsel. They’ll handle the bulk of a business’s needs, and partner with outside experts when a situation calls for it. “I’m quarterbacking whatever it is they’re working on,” Simms says. “Oftentimes, that means figuring out the problem and the best additional counsel to bring in. Sometimes that’s intellectual property, sometimes real estate, sometimes securities or mergers-and-acquisitions.”

At the most basic level, three things any hopeful cannabis company needs are: access to significant funds, state and local licenses, and reputable legal counsel. “I couldn’t stress the importance of finding an attorney experienced in cannabis enough,” Simms says.