The traditional business debt financing option now fuels the future of cannabis, delivering strategic returns for investors
Oftentimes, cannabis investors have usually focused on stock investments. Early believers were diving into space, encouraged by unbridled speculation of future legalization. The rise of debt financing in the industry is just the latest opportunity to attract new investors into the space.
In today’s low-yield environment, investors are faced with a limited amount of attractive debt investment opportunities. Investors looking for a return usually have to look into distressed investment opportunities or illiquid markets. It is not surprising, then, that investors are beginning to explore the cannabis industry to find higher returns without taking the risk of distressed investments. For traditional debt investors, lending to the cannabis industry provides an opportunity to add exposure to a growing market with greater structural protection and lower risk than traditional equity investments.
Unlike equity investments, if a company defaults on debt, there are ways to recover the investor’s capital. The assets of the borrower, which can be in the form of licenses, equipment and inventory, can be sold to recover the money owed to the investor. The result is an opportunity that can increase the odds of ROI in a short period of time on short-term loans while backed by fixed assets.
The recent increase in mergers and acquisitions in the cannabis industry has provided a growing and healthy offering of debt investment opportunities to investors. As more lenders open their checkbooks to pay off debt capital for cannabis businesses, interest rates have begun to drop, and the growing appeal of these loans to cannabis entrepreneurs has bolstered investors’ faith. Today, investing in cannabis debt has become a very stable way for investors to enter the space, and more investors than ever are relying on it to add cannabis exposure to their portfolios with much less volatility compared to investing in stocks.
The attraction of debt financing for cannabis companies has never been stronger, as more companies consider it an undiluted source of capital. Cannabis company founders realize the potential expansionary value of potential exit opportunities. These exits can be over $100 million, which means every drop of equity has value. But to reach this potential, capital injections are required for continued growth. Debt financing offers the solution to finance this growth, without sacrificing equity that could be worth millions of dollars in the future.
Despite the increase in cannabis debt issuance, there is still a large pool of institutional investor demand that may boost the industry. Unconventional forms of financing will continue to thrive as federal legislation swings through the lengthy legislative process. Even once federal legalization occurs, larger financial institutions will likely still see cannabis as a high-risk space, making the cost of capital higher in this industry than in other markets.
All of this, federal legalization is just one of the many challenges investors face when working in the cannabis business. Banking restrictions will continue to be a challenge as cannabis matures, and the complex web of different state and local regulations will continue to be a burden on the industry.
The rise of debt financing is certainly an encouraging and significant moment in the history of the industry and will enable companies to expand and stay agile without sacrificing growth opportunities. Debt capital is a tool that has been a mainstay of how traditional businesses operate and is finally becoming widely available to cannabis companies of all sizes.
George Mancherell is the CEO of Bespoke Financial Inc. Founded in 2018 as the first licensed commercial lender focused on the cannabis industry.