Business is about competition. To be successful, a business needs to lure existing customers away from another business or it needs to create new customers. The same holds true in the cannabis industry. In every state that legalizes cannabis, legal businesses have to either lure customers away from the illicit market or attract consumers who are new to the cannabis market. In all situations, it is consumers, in the end, who decide whether the black market or the legal market thrives.
In California, the world’s largest cannabis market, the legal cannabis economy is not faring well compared with the illicit one. In 2019, according to the Tax Foundation, a D.C. policy nonprofit, only 26% of cannabis sales in California were conducted through licensed retail or delivery establishments, meaning 74% of sales involved consumers using the illicit cannabis market.
There is much speculation about why the legal market in California is having trouble: The taxes are too high, there’s not enough enforcement, the regulations are too burdensome. Although these might be true, a more general (and simple) explanation is that consumers don’t have enough access to legal businesses in California. You can’t convert a consumer from the “traditional” market to the legal market if there is no legal market.
State officials step up enforcement efforts
The Bureau of Cannabis Control is about to get reinforcements in its battle against the state’s surprisingly strong illicit market. July 1 marked the beginning of a new fiscal year that will see the agency add 30 investigators to the 58 currently working the beat.
“It’s a huge priority for us,” says Alex Traverso, a spokesman for the BCC. “In order for the legal market to be successful, you can’t have it constantly undercut by the illegal market.”
Traverso says he has no specific numbers on the illicit market, but the BCC receives thousands of complaints each year about illegal businesses, many from the legally licensed shops whose business they are stealing.
“We’re trying to play catch-up,” he says. “I think we’re making progress.”
In December alone, for example, the agency, along with local police and other state and local enforcement agencies, took down 45 illegal operations in Los Angeles, which Traverso says has the highest concentration of illegal shops.
Traverso says the closing of illegal retail stores and cultivation operations ultimately helps the consumer as well, because 75% of the sample products seized during December’s operation failed state testing, making them potentially harmful for consumers.
Traverso says one of the ways consumers in California can tell a licensed shop from an unlicensed one is that legal stores will have a QR code on the door that will direct a consumer to information about the store’s license.
“If you don’t see the QR code on the door, that’s a sign right there,” he says.
— Brian Beckley
The only way to minimize the illicit market is to create a system in which the legal market is able to compete with the illicit market. California’s medical marijuana and adult-use laws have not achieved that. There are not enough licensed cannabis businesses to serve the state, so the illicit market remains strong. The answer, then, is to increase the number of licensed cannabis businesses.
At the state level there is no cap on the number of licenses that may be issued to cannabis businesses. However, with about two-thirds of localities in California banning or not yet allowing commercial cannabis activity, there is only one licensed retailer for every 35,147 adults 21 and older. For contrast, Oregon has one dispensary for every 5,567 adults, and Colorado has one for every 4,240 adults. If California consumers can’t access legal cannabis as easily as cannabis sold on the illicit market, there is no fair competition between the two.
And besides not being able to do business at all in most of the state, even when permitted, cannabis businesses are often held indefinitely in limbo by locals. For instance, according to the San Francisco Office of the Controller’s late-2019 report, a cannabis applicant can expect the city’s Office of Cannabis to take 18 to 24 months to review their application, during which time applicants must continue paying Bay Area rent for empty commercial space because the premises cited in the application cannot change once the application is submitted.
The quickest and most obvious way to create more available licenses in California would be to change the current cannabis statutes from ones in which cities and counties may opt-in to one in which they must opt-out. That is, instead of a baseline in which cannabis business activity is banned unless localities pass ordinances allowing it (as it is now), there could be the baseline of cannabis activity being legal until a city or country comes forward and bans it. The California Legislature could also decide it is a matter of statewide concern and remove power from localities, granting it instead to the state.
As far as taxes are concerned, it may not be true that the reason the legal market in California can’t compete with the illicit market is that the excise taxes are too high. Washington state levies a 37% tax on cannabis retail sales — collecting roughly the same in tax revenue as California despite its being a much smaller market — but has still managed to convert most cannabis consumers to the legal market. In addition, a 10% decrease in state taxes would only equal a roughly 3% decrease in the retail price of cannabis according to Dan Sumner, head of UC Davis’s Agricultural Issues Center (Sumner headed the team of economists who prepared the California Bureau of Cannabis Control’s economic impact analysis during its 2017 regulation promulgation). A 3% decrease in price is not likely to make a dent in the illicit market’s share of consumers.
But couldn’t the state ramp up enforcement? California is making efforts in that arena, but it’s a big job. As of last month, the Bureau of Cannabis Control has a backlog of 1,860 cases regarding unlicensed activity still awaiting investigation and has requested 87 new peace officer positions for its enforcement unit for the next fiscal year. For some perspective, the enforcement unit seized 3,600 pounds of illegal cannabis goods from just 158 closed cases in 2019.
The issue of enforcement on unlicensed cannabis businesses might be helped by the upcoming consolidation of the three licensing agencies into one state agency, allowing for what the Governor’s Office calls “centralized enforcement,” but there’s a lot of work and that’s a large backlog.
In the end, the only way to minimize the illicit market is to create a system in which the legal market is able to compete with the illicit market. Some states have succeeded in taming their black markets by regulating the activity solely at the state level. California might be wise to do the same. Cannabis businesses in California, both legal and those wishing to be legal, need to organize at the state level and insist on changes that create a market in which the illegal operators are the ones taking the big risks, not the legal ones.
Alexandra Stupple
Alexandra StuppleAlex is an attorney and advocate based in Oakland. She was the first attorney hired by the Bureau of Cannabis Control and served as in-house counsel for two of the three cannabis licensing agencies, working on State regulations since March 2015. Subsequently, she immersed herself in the private-sector advocacy world of Sacramento before returning to Oakland.
Providing a plethora of legal services for all types of clients as well as results-driven advocacy in Sacramento for cannabis businesses in California, Alex has maintained a strong track record of defending State-regulated licensees against discipline, advising licensed companies, and making changes happen. Contact: alex@stupplelaw.com