How to get financing for a cannabis business
This article is the fifth in a series entitled, “So you want to start a canna biz?” created in partnership with Good Tree Capital. This article focuses on getting the money to start your cannabis business.
Funding is the biggest barrier to entering the cannabis industry, so it’s important to structure your approach to overcome it as a challenge. It doesn’t matter if you are a local bodega, a restaurant chain, a cannabis grower, or one of the Big Four tech companies, there are really only three ways to finance a business growth:
- Reinvest the profits of running your business
- Get into debt with a lender
- Sell a stake in your business to an investor.
Previously, we briefly discussed each method of financing. Now it’s time to explore further.
Profit, debt or equity?
Before you read on, you should be clear about where your business is at and what you can afford to do.
- Has your business already made a profit? Companies do profits when the revenue from sales exceeds the cost of generating those sales.
- Or will you have to use the debt? Debt usually comes in the form of credit cards or business loans and must be repaid.
- Your third option is equity. Equity the funding does not need to be repaid. Firms raise capital when they sell a percentage of their property to an outside investor.
If your business is up and running and you are making a profit, congratulations! You seem to have a good thing going. We’ll continue to focus on how new or existing cannabis businesses should consider raising debt or equity, or both, and getting back to profitable businesses at the end of this article.
With the federal cannabis ban, the supply of debt and equity is severely constrained. Most banks aren’t even willing to provide cannabis licensees with bank accounts, let alone credit cards or loans to help them run their businesses.
How much does it cost to start a cannabis business?
The availability of equity funds is also limited. Private equity investors, including venture capitalists and angel investors, are often constrained by stigma or by situational social governance policies that prohibit them from investing in cannabis.
When supply is low and demand is high, prices skyrocket. Low-risk cannabis companies looking for loans will often pay north of 25% of the APR for loans that would cost comparable-risk non-cannabis companies a quarter of that amount.
How to get a canna biz loan
You can avoid predatory lending by first assessing the strength of your loan or credit application. Someone who loans you money and expects it to come back to you is asking if you make enough monthly sales to make monthly loan payments and if you have consistently paid your obligations consistently.
They will also want to see any business or personal property that can be foreclosed to recover the value of the loan if you fail to make your monthly payments.
The Small Business Administration provides a helpful topic on how to make the best possible case for a loan. Although the SBA does not lend to cannabis companies, the Financial Crimes Enforcement Network (FinCen) reported that 723 banks and credit unions (6% of the total) across the country provided banking services to cannabis companies in 2019. .
FinCen has stopped publicly reporting which banks and credit unions have deposited with them, so if you want to know which banks and credit unions in your state offer services to cannabis companies, we suggest you submit a request under of the Freedom of Information Act with FinCen to disclose reporters. .
Other sources of capital for a cannabis business
Another interesting source of capital is an innovative model emerging from Illinois. While legalizing cannabis for adult use, the state also created a $ 30 million Cannabis Business Development Fund to be used to provide low-interest loans to holders of social capital licenses. in the state.
The intention was to ensure that individuals from disproportionately affected communities have a source of capital to revive and develop their businesses, putting them on an equal footing with multi-state operators with deep pockets. . Washington, Colorado, and a number of other states are considering similar programs.
The portrait you paint for a bank lender or government agency should be the same as the portrait you paint for more informal lenders, such as your mother or father, former boss, business partner, or wealthy uncle.
Friends and family
We encourage you to look beyond institutional financiers and engage with people who believe in your business plan. It is advisable to rely on family and friends to provide you with loans (especially at an early stage) with the benefit that they fully understand and appreciate the risk of lending money to your business.
In fact, a common misconception in equity financing is that the only viable investors are from multi-million dollar venture capital firms. The reality is that most of the early investors in corporate stocks are usually made up of supportive family and friends.
While a huge injection of funds from an investment group is great, it’s just as effective to receive investments from peers and like-minded individuals who believe in your idea and want to support what you are building.
Determine the capital issues
While debt investors deploy capital for immediate return, equity investors are not looking for short-term repayment. The goal of an equity investor is to support the growth of your business so that its investment increases in value as your business matures.
To own a stake in a business is essentially to own part of the business, and these stakeholders are usually there for the long term, expecting their investment to enhance the success of the business.
Cannabis Business Models 101
New business owners run the risk of both significantly overvaluing their business and significantly undervalues their business. Overpricing your business discourages savvy investors and those who think your business is too expensive. Undervaluing your business can cause you to lose the majority or sacrifice control of your business in the long run.
Before selling any part of your business to anyone, it is essential to determine the value of your business. The only way to determine the value of an investment is to look at it in the context of the total value of the business.
Ways to determine the value of your business include:
|Use the sum of your expected costs to launch your business||For pre-operational businesses, you can look at all the costs you will incur to get up and running. Investors’ equity will be proportional to the percentage of costs covered by their capital.|
|Calculate the value of all assets||Add up the value of everything your business owns (license, inventory, real estate), then subtract any debts or debts (loans, accounts payable, taxes)|
|Use an annual sales valuation multiple||First determine your annual revenue, then use a multiple to determine the value of your business model for a certain level of revenue. Find multiples based on similar metrics for sales, growth and valuation of cannabis companies|
|Use your price / earnings ratios||Estimate your price / earnings ratio to determine your value based on your projected annual earnings|
|Perform discounted cash flow analysis||A discounted cash flow analysis is a future projection based on a company’s annual cash flows. To determine this, use a “net present value” calculator.|
If you successfully use debt and equity to fund your business, then you can unlock the third type of finance that businesses use – profits.
The ultimate goal of all businesses is profitability, and after a few years of stable operations, the profits generated by your business can be reinvested in the business.
Once growth and development are supported by the cash flow the business generates through its operations, the business becomes truly viable and is positioned to evolve and grow.