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Top 3 Reasons Why the Marijuana Industry Is Coming Down From Its High

Last Updated September 23, 2020 1:15 PM
Kiril Nikolaev
Last Updated September 23, 2020 1:15 PM
  • Marijuana stocks have taken a nosedive this year.
  • Access to financing, heavy taxes and black market prices have contributed to the struggles of pot businesses.
  • The good news is that industry regulation is looking good.

A year ago, the cannabis industry was dubbed as the next gold rush. Pot stocks such as Tilray (NASDAQ:TLRY), Aurora Cannabis (TSE:ACB), and Canopy Growth (TSE:WEED) surged to their all-time highs as investors rushed to get a piece of the action. Unfortunately, 2019 has not been so kind to the once blazing industry. A combination of factors have pushed the industry deep into bear territory. Here are three reasons why the marijuana industry is coming down from its high.

1. Lack of Access to Basic Financing

The United States is one of the biggest cannabis markets in the world. While some states have legalized the use of marijuana for medical and recreational purposes, the federal government has kept its foot down. It continues to classify cannabis as a Schedule 1 substance.

Schedule 1 classification of drugs
Schedule 1 classification of drugs in the United States. | Source: Soapboxie 

As a Schedule 1 drug, there are huge consequences for companies who sell cannabis. For instance, marijuana business owners have little to no access to basic financial services. It is difficult for them to secure loans and get checking accounts. This is because banks are under the jurisdiction of the Federal Insurance Corporation (FDIC) and may be slapped with criminal charges for doing business with a cannabis company.

Many pot businesses had to rely on equity to fuel growth. However, stock market valuations have dropped big time. The North American Marijuana Index has plunged by over 63%  from the all-time high. As a result, cannabis businesses are struggling for cash.

2. Marijuana Companies Pay Exorbitant Taxes

Even though selling pot is illegal in the eyes of the federal government, business owners in the U.S. still pay federal taxes. These companies cannot deduct a huge chunk of their business expenses at the federal tax level, which means their income tax rates can climb as high as 90% . On top of that, many cannabis businesses also have to pay state taxes.

Taxes paid by pot companies at the state level
Taxes paid by pot companies at the state level. | Source: Quartz 

The exorbitant taxes have an effect on the price of the product and the expenses are passed on to consumers. Consequently, many prefer to purchase from illicit dealers who sell at lower prices.

3. Pot Companies Struggle to Compete Against Black Market Prices

With heavy taxes being levied on legal cannabis, customers are pinching pennies by buying from illegal dealers. In California, legal weed revenue is estimated to amount to $3.1 billion in 2019. In contrast, the black market is expected to generate $8.7 billion  in sales this year.

The Canadian market offers a more complete picture on how the black market is undercutting legal business owners. On average, the black market price of weed in Canada is $7.63 CAD per gram. In comparison, legal cannabis costs $10.91 CAD per grab. That’s a whopping 43% difference.

Illegal marijuana has a leg up in price against legal sellers
Illegal weed has a leg up in price against legal sellers. | Source: Quartz 

The Good News: Regulatory Outlook Is Improving

While the industry struggles, help appears to be on the way. Regulators are loosening their grip, which makes the marijuana industry attractive to investors. We spoke to Mati Greenspan, market analyst at eToro, and he’s optimistic on pot stocks. He told CCN.com,

It seems likely to me that the regulatory landscape will only improve from here. Regulatory clarity makes for stable investments.

He added,

California and other states have done a great job of commercializing the cannabis industry and that’s something I want to put my money on.

In other words, the analyst is bullish on the pot industry. Despite the challenges mentioned, it is quite possible for cannabis stocks to reclaim their highs.

Disclaimer: The above should not be considered trading advice from CCN.com.