Reading the Leaves: Financing Trends in the Cannabis Industry
On July 22, 2020 Leaflink, a B2B cannabis marketplace, closed a $250 million senior secured credit facility with an undisclosed private lender. In the press release, Leaflink described the deal as “one of the largest debt financing deals completed in cannabis to date and…an important milestone for the industry.” When most people think of cannabis industry financing for retailers or operators, rather than debt financing, they think of sale-leasebacks with a cannabis real estate investment trust (REIT). Leaflink intends to use the money to provide supply chain financing options to its retailer clients through its new platform Leaflink Financial. This blog post gives a brief overview on why sale-leasebacks are ubiquitous and why debt financing is on the rise.
Problems with Traditional Financing
Marijuana is illegal under federal law. As such, cannabis-related businesses face stiff competition from illicit markets, and have limited access to U.S. capital markets and traditional financing. Businesses directly engaged in producing or selling marijuana, for example, were ineligible to receive PPP loans, despite being deemed essential in many states. Equity deals are also waning as stock value is dubious. Canadian cannabis stocks have performed poorly over the last 2 years partly due to strict regulations and criminal competitors despite sales being legal in Canada. These are vestiges of longstanding illegality. U.S. companies would likely face the same outcome even if Congress legalized marijuana in 2021.
Cannabis operators have restricted financing options and many struggle with liquidity issues. In a sale-leaseback, a cannabis operator sells property (i.e., greenhouses, warehouses, dispensaries, etc.) to a REIT and then leases it back. This allows an operator to get fast cash without diluting ownership interests. However, sale-leasebacks have their own unique drawbacks. A sale-leaseback is ultimately the sale of an asset, even if operations remain the same. There are only a handful of cannabis REITs for operators to work with considering the industry’s age. Lease terms tend to reflect the general lack of options and the inherent risks in working with cannabis-related tenants (as previously discussed in this blog). Leases are often long-term (15 years or more) net leases with high cap rates, and adding rent as an expense reduces EBITDA.
Obtaining a short term loan is generally more preferable than getting locked into a long-term, high-cost lease for a cannabis operator, but the same endemic barriers apply to debt financing. Cannabis is a fledgling industry with few experts. Valuating collateral is a much more difficult task for lenders without the wealth of background knowledge typically available in a deal. Federal law also restricts the field to private lenders despite bipartisan support for the SAFE Banking Act. Despite these factors, in order to get a loan, cannabis-related companies basically need to show lenders cash and positive balance sheets. This disqualifies most operators, but ramping up debt financing seems like the next logical step for thriving, multi-state operators. Indeed, Curaleaf, one of premier multi-state operators in the U.S., closed a $300 million loan early this year and a $5.5 million sale-leaseback in July. For the vast majority of small cannabis operators and retailers precluded from such loans, Leaflink has the potential to broaden access to liquidity.