California’s legal pot industry faces year of decline because of coronavirus, Newsom warns

California’s legal marijuana industry faces a year of declining sales as a result of the pandemic-induced recession despite an initial spike in consumer demand after dispensaries were deemed essential businesses, according to details outlined in Gov. Gavin Newsom’s proposed budget.

Newsom projected in January that the state’s cannabis excise tax would bring in $479 million this year and $590 million in the fiscal year starting July 1, but his revised budget now forecasts just $443 million this year and a decline to $435 million next year.

“While similar products like alcohol and tobacco tend to be recession-resistant, the forecast assumes that cannabis businesses will be more negatively impacted by the COVID-19 pandemic,” the budget says. “Cannabis businesses have less access to banking services that could provide liquidity, have a younger consumer base likely to be disproportionately affected by the COVID-19 recession, and still must contend with competition from the black market.”

In an attempt to help the state’s legal pot industry weather a downturn, the Newsom administration has relaxed some restrictions on how cannabis firms operate, deferred license renewal fees and extended the deadline for filing first quarter tax returns.

Industry leaders say they are bracing for economic turmoil caused by the coronavirus pandemic, which led Newsom more than two months ago to issue an order for California residents to stay at home to stem the disease’s spread.

“It’s a pretty dire situation at this point,” said Jerred Kiloh, owner of the Higher Path cannabis store in Sherman Oaks, and president of the United Cannabis Business Assn., which represents many Los Angeles-based retailers.

“The illicit market is just going to have another leg up this year,” he added. “When people have less disposable income they are going to look at the lowest cost option.”

The darker projections are a setback for a market championed by Newsom, who was the leading proponent of Proposition 64, the 2016 ballot measure that legalized the sale of marijuana for recreational purposes in California.

Since the state began licensing growing and selling cannabis in 2018, the legal industry has struggled to overcome impediments that include bans on sales by most California cities, high taxes and competition from a much larger illicit market that can offer lower prices.

But when Newsom issued his stay-at-home order that forced many businesses to close, he exempted marijuana sellers as “essential.”

There was an immediate run on cannabis products as consumers stockpiled pot in anticipation of a possible future shortage amid concern pot shops might also be forced to close.

“We initially saw a spike in sales that was attributed to panic buying,” said Josh Drayton, a spokesman for the California Cannabis Industry Assn., who noted that sales have “leveled out.”

Drayton said the future is “very unpredictable” but that he has not seen enough data to support the idea of a downturn, and others say they think sales will continue to increase.

BDSA, a firm that analyzes industry trends, still thinks California’s market will grow, from $2.9 billion last year to $3.6 billion this year.

Illicit sales totaled $8.8 billion in 2019, according to Tom Adams, principal analyst of the financial research and consulting division of BDSA.

“But slowly and surely we expect [legal sellers] to chip away at that enormous illicit market, which only has after-tax price as a competitive advantage,” Adams said.

California retailers including Kiloh say the governor’s estimate of a decline in cannabis tax revenue is consistent with what they see in the severe, longer term damage the pandemic has inflicted on the state economy.

While the number of individual purchases has climbed, the volume of products purchased is going down, Kiloh said.

Newsom has estimated that the state’s unemployment rate this year will be 18%, and Kiloh said one of the hardest hit groups is young people, including college students, who represent the largest demographic of cannabis customers.

Some 60% of workers ages 16 to 24 have a high risk of unemployment compared with 42% of workers ages 45 to 54, according to a report last month by the Los Angeles nonprofit research group Economic Roundtable.

While the state has begun reopening many parts of the state economy, the governor’s budget proposal predicts that the cannabis industry will continue to struggle. That conclusion is based on assumptions “that recognize an economically fragile consumer base, a persistent illicit market and the continuing challenge the industry faces in accessing traditional banking liquidity solutions,” said Nicole Elliott, the governor’s senior advisor on cannabis.

The industry has also been hurt by a large drop in visitors from outside the state.

“Especially in places like San Francisco, San Diego and Los Angeles, 30% of our business is tourism,” Kiloh said. “When you see a 30% reduction in tourism, that’s big.”

The impact of declining sales would be devastating for an industry that already faces unique challenges, Drayton said.

“As with all businesses, if we do see a decline in sales we can anticipate layoffs, closures and an increased lack of access to regulated, tested, and taxed cannabis,” he said.

Elliott said the state has begun taking steps to help the industry weather tough times. State agencies recently announced that licenses expiring in May and June can receive 60-day deferrals of their license fee payments, which can run into six figures.

“The license fee deferrals are intended to provide immediate financial assistance to state cannabis licensees impacted by COVID-19,” said a statement by the state Bureau of Cannabis Control.

Kiloh noted that the state action only delays the collection of license fees and that cannabis firms still have to come up with the money eventually, even as they struggle in a recession.

State officials said the deferral was offered because the cannabis industry has so far been excluded from federal or banking-dependent assistance for small businesses because cannabis remains a Schedule I controlled substance under federal law.

State agencies have also relaxed rules requiring sales in secured buildings so that pot shops can provide curbside pickup of purchases.

Other rules that can be temporarily waived for businesses that apply include a requirement for a signature from customers when receiving deliveries, allowing retailers to accept expired drivers licenses after the DMV temporarily shuttered field offices due to the pandemic, and permitting the sale of non-cannabis products that are virus related, including hand sanitizer, that previously could not be sold in pot shops.

The state tax agency has also offered payment plans for cannabis businesses struggling to pay sales and use taxes, and extended the deadline by which most operators must file their first-quarter 2020 tax returns.

Elliott also said that if cannabis businesses can find an eligible lender, they may access the $50 million in the IBank’s Disaster Relief Loan Guarantee Program and a similar amount from the Small Business Loan Guarantee Program proposed in the governor’s budget for next year.

Still, the industry is lobbying Congress to access some of the much larger pool of federal financial assistance being offered to other small businesses hurt by the pandemic.

Without federal help, Drayton said, “Our businesses will continue to deal with the same hardships as other small businesses without access to financial relief programs nor the financial tools afforded to other industries.”