Sean Berte and Armani White are the poster children for cannabis social equity businesses. Boston natives both, the duo set out to use the well intentioned social equity regulations to obtain a license and open a store in their hometown.
White, 50% owner of their planned Firehouse dispensary in Boston’s Hyde Park Neighborhood, is a local African American community organizer in Roxbury, one of Boston’s only remaining majority Black neighborhoods in a rapidly gentrifying city. When he was an undergraduate at Wesleyan University, local police showed up at his dorm room to inquire about laptop thefts in the building. Armani, one of the only African American students in his class, knew nothing about the laptops, but was arrested anyway because the police found a gram of marijuana and a grinder on his desk. The experience inspired him to work for criminal justice reform and also qualified him as a priority social equity applicant under Massachusetts’ licensing program.
Armani’s partner Sean Berte is a 7th generation resident of the long predominantly Irish Catholic Boston neighborhood of Roslindale. The son of a police officer, Sean became a Boston firefighter after leaving the US Marines, but discovered in his 20s that his true passion was cultivating cannabis. This led to Sean eventually being arrested, indicted, and serving nine months in federal prison for the manufacturing of marijuana plants, a harrowing experience that eventually qualified him for social equity status in Massachusetts.
The duo spent the first couple years of legalization working as local activists helping other social equity and economic empowerment qualified applicants fill out their paperwork and go through the process of qualifying with the Massachusetts Cannabis Commission. They went on to apply themselves, using their local support and connections to secure approvals from the city of Boston and the state of Massachusetts. (Disclosure: This author has assisted the company as a volunteer advisor). They beat out some of the largest multi-state operators in the country to have the right to open in the Hyde Park neighborhood, nestled between their home neighborhoods of Roxbury and Roslindale, quite literally the area where the traditional Black and white Irish neighborhoods converge.
You couldn’t draw up a more quintessential social equity success story. Yet nearly five years after receiving their approvals, Firehouse remains unopened. Despite receiving all needed approvals, aided by a well-meaning licensing program that prioritizes applicants like Sean and Armani, the lack of access to traditional banking and financial services has proven to be a far greater barrier than any licensing regime. Rather than being emblematic of a successful social equity licensing program, the pair have become a symbol of how Congress’ failure to pass banking reform for the cannabis industry has crushed entrepreneurs of color and those who have been the victims of cannabis prohibition.
The reality is that far too many social equity applicants have managed to obtain a license, but find themselves having to sell the license before they become operational, or in many cases in more challenging markets, walking away from the license altogether because of lack of access to capital. Others have gone deep into debt and whittled away their family savings trying to get their businesses operational.
Without access to traditional banking and institutional capital, very few sources of funding exist for startup social equity licensees. If these services were available to cannabis businesses, a state licensed company like Firehouse likely would have received a CapEx loan shortly after winning their license (long before current interest rate hikes), likely backed by the Small Business Association, in the 5 – 8% interest range. But under our current system, these loans simply don’t exist for cannabis businesses.
Instead, the only options available to fund the startup costs for a cannabis business, costs that can run $1 – 2 million for retail dispensaries and far more for cultivation facilities, operators must seek out angel investors, larger cannabis operators, or a small number of cannabis investment funds.
But angel investors are not common, and typically available to people with access to high-net-worth individuals within their social circles and business contacts. Since social equity licensing is designed for individuals from communities that have been disproportionately impacted by marijuana prohibition, equity licensees are far less likely to have access to angel investors in their family, friend and business networks.
Most angel investors are individuals with money to invest. While they are typically millionaires, most are not worth hundreds of millions or billions of dollars. This makes many angel investors understandably cautious about making investments they see as “risky,” and are more likely to invest their limited capital in businesses with a track record of operating success. In an industry that is now more than a decade old, angel investors have an array of experienced operators to choose from, both public and private companies, making it far more difficult for startup businesses with little to no operating history to compete for these scarce dollars.
When an individual is willing to take a chance on a start up, they often insist on valuations highly favorable to the investor, in an attempt to increase their investment upside to justify their risk, while also recognizing that licensees have few other options available to them.
Sean and Armani experienced this firsthand. After months of negotiations with an investor who seemingly shared the duo’s passion for empowering equity applicants, they ultimately insisted on a valuation that would have resulted in the owners being diluted down to a small minority share of the company should they ever try to expand beyond one retail store, effectively ensuring that the investor, rather than the operators that social equity programs intend to empower, would ultimately own a controlling share of the business and reap the lion’s share of the profits. The situation could also have found them running afoul of Boston’s social equity rules, which prevent equity licensees from selling a majority interest in their business. Rather than accept this situation, the duo passed and moved on to pursue other options.
Many large cannabis companies, better known as multi-state operators (MSOs), have attempted to help the situation by agreeing to invest their own capital in social equity operators, with some even going so far as to start their own social equity incubator programs. Typically these investments come with a small piece of equity in the business, as well as perks like shelf space agreements for their products, allowing larger companies to access more market share in states where they may be limited to controlling a handful of licenses. Handled properly, these arrangements can be a win-win for the equity licensee and the MSO. But sometimes the fine print of the agreements are predatory, with the MSO enjoying the lion’s share of the economics and the equity licensee relegated to a Black front person for the business.
But as the cannabis capital markets have tightened over the past two years, even the most well-meaning companies have scaled back their funding of third party businesses or eliminated their social equity incubator programs altogether. In many cases this isn’t done because of a philosophical lack of support for equity programs, but a need to tightly manage their spending in an economic environment where raising capital has become challenging and expensive.
This is a familiar story for White and Berte, who were fortunate to have a connection to a mid-sized MSO that incubated the project with capital and guidance in its early days, also covering real estate holding costs as Sean and Armani searched for investment. “We’re very fortunate to have had the support of an experienced operator to guide us through our long journey to obtain our license,” recalls Berte. “Very few equity applicants in our position have had an opportunity like that.”
However, when the cannabis capital markets got tight, their backer was forced to make difficult internal spending cuts, which included ending all spending on non-core projects. This unfortunately included the social equity incubator program. “It is an unfortunate situation, but we don’t blame them for this decision,” says White. “Like many cannabis companies, they had to focus on their own operations just to survive as a company. But we wouldn’t be where we are today without their support.”
White went on to commend the company for continuing to serve as their landlord, rent free, while they searched for new investors. “It is hard to understate how helpful this has been for the business. Without this real estate support we likely would not be here today. We would have had to fold up shop and attempt to sell our license for pennies on the dollar.”
This leaves cannabis investment funds and companies focused on real estate-based sale leaseback financing deals to fulfill much of the investment demands for these companies. But this comes with its own set of challenges.
First off, there simply are not many cannabis focused funds, and for the few that do exist the total capital they have to deploy is a small drop in the bucket compared to the institutional capital funds currently sitting on the sidelines of the cannabis industry due to the lack of a law allowing access to the banking industry. Because of these dynamics, capital that is available tends to be expensive, in the form of double-digit debt, high equity percentages, or both.
Even funds that genuinely care about the success of social equity businesses and believe in the operators often have a difficult time coming to terms that are acceptable to both investors and operators. This is because these funds also have a limited pool of high-net-worth investors who expect certain returns on their capital investment into the funds. After all, if an investor can see 8 – 12% annual returns with a typical non-cannabis money manager, they will reasonably insist on significantly higher returns putting their money into an industry that carries inherent risks, being federally illegal, particularly if their capital is being put into funds that want to focus on riskier start up and equity businesses.
Poseidon Asset Management is one of the few cannabis-focused investment funds operational in the industry today. They have attempted to crack the code for how to fund start-up social equity businesses while being able to provide their investors with the returns they need and still having enough left over for the fund itself to make money. But like the handful of other cannabis funds who have looked at start-up social equity investments, Poseidon has struggled to find a formula that works. “I believe the architects of the social equity programs are doing their best to create advantages for the individuals they want the programs to serve,” said Poseidon fund manager Patrick Rea. “Still, unless changes come to the other headwinds every cannabis business faces, the potential for low/no investor returns is hindering further investment in social equity entrepreneurs.”
After running through numerous options for four years, White and Berte found a real estate investor group, veterans of larger cannabis focused REITs, who want to focus their funding on social equity businesses rather than the larger companies that are typically the beneficiaries of these kinds of real estate backed deals.
But real estate funding only goes so far. It can cover all of the costs associated with the build out of the retail store, but that still leaves operators short on funding for all additional startup costs like salaries and inventory associated with opening a retail store. Completing this last mile (or last million) of funding proved more challenging than expected.
“We’ve spoken with a number of cannabis focused funds, many of whom genuinely believed in us and wanted to do our deal,” explained White. “But in each case we were unable to find a deal structure that works for both parties. As a single store licensee with no operating history, these groups have had a hard time figuring out how to guarantee the returns expected by their investors without diluting Sean and I down to virtually nothing or strapping us with an interest rate that would choke all the profits out of the business.”
Eventually, White and Berte were able to finalize terms with a different real estate focused local investor group that was willing to purchase the real estate and finance all start-up costs of the operation at a valuation that worked for both parties. But it took the pair nearly five years to find a unicorn investor willing to finance the entire project at a non-predatory rate, and the project nearly collapsed multiple times in the process. To their credit, throughout all of this they never wavered in their goal of providing a genuine locally focused cannabis retail experience for their communities.
But the reality remains that the vast majority of social equity licensees do not have the kind of network that this duo enjoys. Through their years of advocacy work, they’ve been able to call on contacts within the cannabis industry and the local political and regulatory community. If raising capital has been this challenging for them, imagine the difficulty facing someone without any connections who is simply trying to transition from the legacy market to the regulated market. It is no wonder that even in states with the most robust social equity programs in the country, like Massachusetts, New Jersey, New York, and Illinois, very few have actually opened their doors, and many have sold or walked away before swinging a single hammer, let alone growing one cannabis plant or selling a gram from their store.
So what is the solution? States can of course provide grant funding for social equity licensees, as they’ve done in New York State. But with the high cost of starting up, especially for cultivators, even with the best of intentions, states can only fund so much. The majority of licensees will still find themselves with substantial funding shortfalls and unable to get their business up and running.
The only true fix to this problem is for Congress to pass legislation, such as the SAFE Banking Act, recently reintroduced in the US House and Senate, that would open full access to the banking system and institutional lending. Ideally, such legislation would include equity focused provisions, such as incentivizing the Small Business Association to prioritize loans to social equity and small cannabis business operators. But even SAFE Banking as currently proposed would open new sources of capital to the cannabis industry, including allowing small business owners to seek out traditional startup and CapEx loans from local banks and credit unions.
The bill has passed the House of Representatives five times, but Senate leadership has yet to shepherd it through that chamber despite Senate Majority Leader Chuck Schumer stating it was a policy priority in the last session. The bill ultimately failed because of disputes primarily among Democratic lawmakers over how much further the bill should go than just providing banking access.
These political squabbles are cold comfort to aspiring social equity cannabis entrepreneurs like Armani White and Sean Berte. While Congress debates and delays over the legislative details, equity licensees and small business owners continue to struggle to find the money needed to open their businesses, and countless have simply given up and walked away from their dream of operating a sustainable business in the industry. Without long overdue banking reform at the federal level, state based equity programs will continue to flounder, despite the genuine best intentions of the state legislators, governors and regulators who adopt and oversee these laws.
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