Cannabis is an expensive industry to be a part of, and cannabis operators seeking to make a profit sometimes have to get creative. As this highly-regulated industry continues to stabilize, savvy entrepreneurs are using all available resources to stay competitive.
Not all cannabis operators are able to grow their business profitably exclusively through sales. It takes a massive initial investment to start up in this market: experts estimate you need between $500,000 - $700,000 to start your business in the cannabis industry.
As you begin to purchase or lease real estate, licensing fees, and partnership agreements, these investments create the opportunity for alternate revenue streams.
Licensed operators with excess space and capacity can improve their cash flow by sharing their footprint with other market entrants.
How can you build alternate revenue streams with real estate & cannabis licenses?
Let’s say you are a licensed cannabis operator with a manufacturing facility that has a huge floorplan. There are certain fixed overhead costs: rent, security, utilities, and insurance.
How can you mitigate some of these costs to improve your cash flow?
Our experts suggest you consider your real estate as an investment opportunity.
Bring other operators under your license or form a joint venture with a cannabis partner to invite them to operate in your space. This agreement can cover some of your fixed costs.
Note that you may not sub-license cannabis licenses (at least in California), so the agreement you arrange must be a revenue-share agreement on the products produced under the license. Additionally, create a section with lease terms to cover how both parties will utilize the space.
One example of how this works is our cannabis coworking space. Under this style of arrangement, your tenant is on a cannabis business license; you’ve notified the BCC of your new, non-equity holder partner on the license who has a financial interest. The tenant undergoes a LiveScan to get on the license.
Then, the tenant pays rent in a sublease agreement. This arrangement protects your minimum costs from eating up your cash reserves, diversifies your revenue streams, and creates an environment where operators and entrepreneurs can learn from one another.
Business Example: Renting Your Cannabis Space
Pretend you are a cannabis manufacturer with a 10,000 square foot facility. Your goal is to have three to four tenants to cover all of the operating expenses of your business. This will allow you to manage your cannabis operation without the stress of having to budget for monthly bills.
With the space you have, you estimate that you can fit five tenants at 2,000 square feet an operator. But, you count as one of those tenants, so there are four spots left – we’ll call those packages.
To calculate the value of each of those packages, add up your overhead costs: licensing fees, legal costs, rent, security, utilities, insurance, and the wages of your overhead payroll managers for manufacturing and the warehouse. Say that comes out to $24,000/month.
That number is then divided amongst the four packages. That comes out to $6,000/package/month.
Now, from there we suggest that you mark-up the square footage at a premium of 40-100%, and you’ll be able to make a profit with ease. This brings you $8,400-$12,000/month for each package.
Key Considerations for Leveraging Real Estate & Licenses
There are some caveats to using this strategy to improve your cash flow.
First, if you have distribution on your license, then you must be very careful: if a tenant does not collect or remit the proper taxes on your behalf, you are opening your business to unexpected tax liability. We suggest that micro businesses not allow other operators to use their distributor license to minimize their risk exposure.
Missing your cannabis excise or cultivation tax can come with steep penalties: failure to meet the just excise tax deadlines with the CDTFA can result in a 50% penalty on unpaid liability. Not knowing the rules does not absolve you of your responsibility. And, you cannot get an immediate abatement, meaning you will need to pay off the principal and any interest which is typically 6-9%, then apply for an abatement; which is not guaranteed to be granted.
Next, our experts also strongly recommend instituting a centralized accounting and compliance (METRC) system. This will ensure that any tenants operating under your cannabis license handle cannabis products in a compliant manner. The more tenants you have, the more risk that adds onto the license; just one rogue operator could sour the entire license if they are not being closely watched.
At a minimum, you should have centralized and transparent accounting and compliance. It’s an industry best practice to appoint a manufacturing and/or warehouse manager who handles all of the METRC info. We strongly suggest that you require that tenants use your same accounting firm. Your tenants should at least share with you their monthly P&L on products that are generated under your license.
Next, get proof of funds, background checks, and references before signing any large deals.
Since we have been in this specific scenario before, we know that many potential operators will say they have the money, but will only have one to two months of rent on hand. While that’s not a worst-case scenario, it’s also something you must learn upfront. If your partner does not have positive cash flow or is not well-capitalized, then how will they pay the rent moving forward? Many people talk a big game until it's time to write the checks.
When negotiating with a potential new tenant, recognize that you are approaching the negotiation from a position of strength. As the primary license and real estate holder, you don’t need to work with anyone; your goal is to find the RIGHT person with whom to work. Tenants are granted commercial tenant rights in California which may make it harder for you to end the agreement if they do not perform their end of the contract. Work with a lawyer to understand exactly what those rights entail for your state before you sign an agreement.
Lastly, during this process, you may come into contact with interesting entrepreneurs and business opportunities that might not be right for a tenant partnership. Recognize that there are other ways to work together in this industry. White labeling is one option, or maybe you choose to work as a distributor for their products or service. Don’t take on a tenant just because you like their business idea. Make sure you find a trusted, long-term partner to share your space.
Contact us today to help you make the best use of your underutilized cannabis licenses and real estate.