SF Cannabis Report Spells Trouble for Retail Hopefuls

New SF “City Performance” review analyzes two years of adult-use sales in the city.

When it comes to sample sizes, we now have two years of data to analyze in determining what’s working — and what’s broken — in San Francisco’s cannabis industry.

Last month, a review issued by the city’s Office of the Controller arguably gave the public the most comprehensive analysis to yet emerge on the subject. Mandated as a stipulation of cannabis ordinances passed by San Francisco’s Board of Supervisors in 2017, the report was prepared by the Controller’s City Performance Team (CPT) and includes recommendations on matters ranging from equity to taxes to public safety.

One area of note in the 105-page review concerns the backlog of equity applicants and a potential risk for an oversaturation of retail operations in the market.

As of December, there were 212 cannabis businesses currently permitted to operate in San Francisco and 277 equity permit applications in the queue. Of the 212 permitted businesses, the report notes, “the actual number currently operating is likely closer to 118.” Among them are 37 licensed cannabis retail storefront operators (which are permitted separately from delivery, cultivation, manufacturing, etc.). In each case, these 37 businesses were either previously medical dispensaries or in the process of becoming one prior to the onset of Proposition 64.

While two equity candidates (Berner’s on Haight and the Castro’s Eureka Sky) have been approved since the CPT review was released, concerns in the report over how to alleviate a backlog of nearly 300 equity applicants remain entirely valid. Despite the fact that equity permits are the only type of cannabis permit currently allowed to be issued by the city, the report’s authors still question how there can possibly be a positive outcome for the 133 applications (of 277 total) hoping to open retail establishments.

“There is such a high number of storefront retail applications,” the review states, “that this activity may not be viable for many of these equity applicants, who may be expending resources to reach a market that may already be saturated.”

If 73 percent of the equity applications San Francisco has received all indicate storefront retail as an intended activity of their business, there’s simply not enough space — or business, quite probably — to sustain even a fraction of the dispensaries still hoping to open their doors to the city in the next few years. By comparison, only 17 percent of applications are targeting manufacturing permits, while 0 percent are seeking permits for testing laboratories.

In response, the CPT makes several recommendations to the Board, including considering a “moratorium on new storefront retail applications” and “offering incentives to change pending storefront retail applications to other business activities.” The report further concludes that the current average equity applicant can expect to wait 18-24 months before receiving a permit — a period of time during which they are actively hemorrhaging funds while awaiting permission to operate.

Thus, it likely comes as little surprise to learn that in order to cover costs during the wait, “many equity applicants are incurring debt and/or selling ownership shares in their business to investors who can provide capital.” This is how bigger players are “skipping the line” so to speak: funding equity applicants who would otherwise be forced to throw in the towel as a means of gaining an ownership stake.

“This is currently the primary mechanism by which large investors/companies are entering the cannabis market,” the report says. “Equity applicants who do not receive external financial backing are the least likely to be able to float their business location costs through the lengthy application process.”

To fix this issue — which stands in stark contrast to equity’s true intent — the CPT recommends the Board (as well as the Mayor and City Attorney’s Office) utilize San Francisco’s Community Reinvestment Fund to provide technical and financial assistance — such as no-interest loans, grants, and viable banking options — to equity applicants.

Meanwhile, the city’s existing cannabis businesses weathered a 16 percent decrease in taxable cannabis sales between Q2 2018 and Q1 2019, falling from $61 million to $51 million. CPT’s solution is a bit vaguer for this matter, encouraging San Francisco officials to “adopt strategies and investments, where required, to halt the illicit cannabis market.” Strategies like lowering taxes, perhaps?

Overall, it appears that an urgent solution to ease stress on the pipeline of equity applicants as well as better education and incentives to pursue non-retail cannabis permits will be two of the top cannabis tasks facing the Board of Supervisors. Whatever they decide, it’s clear there are still many miles left to go if they hope to successfully shepherd San Francisco through its early years of adult-use sales and growing pains.

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