“We aim to help the legal producers compete against illegal production”
August 20, 2019
Volume 2019; #1
Review of the Illegal Marijuana Industry
In the wake of widespread legalization of marijuana cultivation and recreational use in many states, the effectiveness of legalization in shutting down illegal side the marijuana market is still inconclusive. This is partly due to the lack of organization and foresight by the state governments, but also to lack of information about the legal and illegal marijuana markets. Make no mistake about it, the illegal marijuana market is the biggest risk factor in the development of the legal marijuana market. Legal growers and other licensed participants in the cannabis markets should take notice.
A review of production and sales in California provides insight into legalization’s progress. California is grappling a lack of foresight, planning and organization for the state’s legalization of recreational marijuana. While states like Nevada have seen tax receipts 40% higher than expected according to a new Pew Trust research study, California (with the largest cannabis market in the world) has seen tax revenues come in 45% below projections.
There are a few factors contributing to the lower than expected tax revenues in California. First, the cost for growers to become licensed is very high with long wait times. Even when the licensing process works, there can be unexpected hurtles. One small grower in Humboldt County spent thousands of dollars on designs and everything was approved until the last piece - the environmental approval. The environmental agencies demanded changes to the water retention pond that would have cost another $100,000 – money the grower did not have. There thousands of similar stories in California and this explains why only 8% of the 68,000 growers in the state have gone through the licensing process (from NBC Bay Area News below).
Adding to the licensing problems for growers are the taxes and licensing fees for retailers. “California is on track to post a record $3.1 billion in licensed cannabis sales this year,” writes Patrick McGreevy in the August 15th article from the LA Times. He goes on to write that a total of $8.7 billion is expected to be spent in the illegal cannabis market on 2019 – nearly three times the amount spent in the legal markets. McGreevy quotes Tom Adams from BDS Analytics, that the legal market is gaining ground “despite these huge levels of taxation and regulatory woes that we think add 77% to the cost of a gram in the legal market versus what it costs on the open market.”
However, California and the other states have not turned the tide of the battle against black market marijuana. Trends in the black market could unwind everything that regulators have striven to implement; safe marijuana with known potency, free from pesticides and other contaminants. A deeper look at the data shows that many illegal grows are managed and financed by international criminal elements that cultivate their crops with little regard for the environment or their clients. Calaveras County decided to completely shut down all marijuana cultivation as a result of the challenges with enforcing county and state laws.
Despite the legalization in many states, the illegal cultivation and sale of cannabis continues to be a problem. The extent of this illegal activity can be seen in the recent raids on unlicensed cannabis shops and busts of illegal grow operations in California. Challenged by the growth of the cannabis industry, the state continues to grapple with illegal growers and unlicensed sales.
In a recent article (July 22, 2019) in the Los Angeles Times, McGreevy details the challenges faced by the state Bureau of Cannabis Control (BCC). He writes, “In 2018, the first year of licensing, the state Bureau of Cannabis Control worked with local law enforcement to serve six warrants on unlicensed pot shops and seized some 1,594 pounds of Cannabis, worth $13.5 million ($8,469 a pound). During the first six months of this year, the bureau has served 19 search warrants on unlicensed sellers, confiscating more than 2,500 pounds of illegal marijuana products with a retail value of $16.5 million ($6,600 a pound).”
NBC News, see the link below, reported on May 15, 2018 that local and federal authorities in Sacramento “descended upon 74 marijuana grow houses” that were “underwritten by Chinese organized crime.” The article quotes federal and local officials to report that “Chinese, Cuban, and Mexican drug rings have purchased or rented hundreds of homes and use human trafficking to bring inexperienced growers to the United States to tend them.”
The article further states that “While California and Washington have mainly seen organized criminals from China buying homes and converting them to grow houses, Colorado has largely been grappling with Cuban and Mexican-led cartels according to Sheriff Bill Elder of the El Paso County Sheriff’s office in Colorado.”
Further highlighting the criminal side of these operations is the number of firearms seized at illegal grow operations. This is one area where legalization seems to have helped. The graph uses data gathered from the DEA to show that the number of firearms seized in 2017 and 2018 are significantly below the pre-legalization levels for the state and the nation (mostly because most of the firearms are seized in California). However, weapons are still a problem on July 18 of this year authorities seized 71 firearms in one operation that also arrested 49 people and disposed of 47 tons of marijuana plants from illegal grow operations in Perris, a city in Riverside Count to the east of Los Angeles. The firearms ranged from pistols, to shotguns, and some military-style assault rifles.
Source for California Cannabis Busts: https://ktla.com/2019/07/18/27-people-arrested-nearly-15-tons-of-marijuana-seized-in-perris-drug-bust-sheriffs-office/
Destruction of Forests and Wildlife
The developments on public lands and in National Forests are even more worrisome. Probably the most alarming development has been the near destruction of sections of pristine forests and near eradication of some species of wildlife in the Emerald Triangle, an area marked by Mendocino, Humboldt, and Trinity counties in the north near the border with Oregon.
The Emerald Triangle is a world center for marijuana cultivation. A Proper High (https://aproperhigh.com), a January 15, 2019 blog, reports that “weed plants have been rumored to grow to actual trees (sometimes reaching more than 15 feet tall) thanks to some of the most ideal natural conditions on the planet.” The article states that the Emerald Triangle is to weed as Napa is to wine. The area has “rich soil” and a “Mediterranean climate” with a “morning marine layer” that cover the hills in a “dense, plant-nourishing fog.”
Criminal elements have taken note of this ideal climate. Rather than growing cannabis in Mexico (or other countries) and smuggling it into the US, the cartels have found it easier to smuggle people into the United States and place them in homes or in remote locations the U.S. National Forests. They are given kits with black plastic piping, power tools to dig and cultivate, and, most worrisome, containers of some of the most potent poisons on the planet for killing insects and rodents. One poison found at some sites, carbofuran, is illegal in California and so potent that a quarter of a teaspoon can kill an adult, 600 pound, male African lion. (Source: Dr. Mourad Gabriel, Director of Integral Ecology Research Center, NatGeo video, “Illegal Marijuana Growers Poison Forests.”)
The illegal growers are killing large and small animals - not only rodents that eat the plants, but bear, deer, Pacific Fisher and other apex predators. The NatGeo video does not identify the country or cartel, but the video of the busts shows Spanish speaking men being questioned by the U.S. Forest Service Enforcement Officers at one illegal grow site littered with bottles of poison.
Marijuana growing in public forests has been going on for more than 30 years, but recently it has been growing dramatically. “In 1998, the majority of the grows were less than 300 or 400 plants per site, now they are anywhere between 1,000 to 40,000 plants per site,” according to one forest service representative who asked to remain anonymous. They are rerouting streams, contaminating the soil and groundwater over multi-year periods. They clear vegetation, they divert water, they kill animals, and poison the ground.
In addition, they are leaving enormous amounts of trash. The website Active Norcal reported that the Integral Ecology Research Center joined the Fish and Wildlife “to remove 4,645 pounds of trash from seven illegal marijuana sites in the Klamath National Forest” between April 5th and 12th, 2019. Included in the cleanup was “6.7 miles of large, plastic irrigation piping.”
Illegal Grows on Private Land
Illegal grows on private lands are also threatening the legal pot industry. In July 2019, the Mendocino County Sheriff’s office and other related regulatory bodies completed “Operation Clean Sweep” in the Spyrock area of Mendocino County. They served 28 search warrants in the areas of Covelo, Dos Rios, Woodman Creek, and Iron Peak Road according to the July 25 edition of the Mercury News. They removed 42,638 cannabis plants, cited “603 independent acts of environment-based crime, 142 acts impacting water quality, 197 independent acts impacting water rights, and 264 California Department of Fish and Wildlife violations.” The sheriff’s office also said that “they found water pollution from trash, pesticides and generator fuel, illegal grading of land to include unnatural damming of watersheds.” According to the Ukiah Daily Journal article, the pre-identified sites did not have permits for cannabis cultivation nor for deforestation and tree removal.
The concern about chemical laden pot is real. In February of 2017, NBC4 in (@NBCLA) reported that they had found that 90% of the cannabis products that they purchased in legal pot shops contained poison compounds; Bifenazate, Tebuconazole, Spiromesifen, Myclobutanil, Malathion, and Carbaryl. Scientists told the NBC4 team that “some of the chemicals can damage your organs and nervous system and cause respiratory disease and even cancer.”
Since then, the state has banned many chemicals and poisons from cannabis production. NBC4 ran the same experiment in February 2019, and reported that they had found many of same chemicals in 30% of the samples purchased in a news release dated February 25, 2019. They also reported that 175 dispensaries are licensed in Los Angeles, while 350 are illegal.
In all fairness, the deck has been stacked against thousands of smaller growers. The state and local draft laws and regulations meant for large corporations with no thought or planning on how to help the growers. For instance, the California cannabis industry has a inadequate legal structure, minimal enforcement due to years of dismantling of the Campaign Again Marijuana Planting, and no banking or finance system for cannabis growers.
Still, growers need to wake up and smell the roses. This isn’t 1999 anymore. The cannabis market and the rules have changed dramatically over the past two years. Making marijuana legal doesn’t mean that there are no rules. California and other states are facing regulatory challenges that no one could have imagined. No one expected cartel-sponsored illegal grows to be big problems in the states with the most liberal marijuana laws. Growers need to adapt; they need to rethink the coop or collective mode and create other organizations that can help them with government regulations and the financing needed to help mom and pop operations meet the complicated licensing regulations and the strict environmental laws.
The laws and enforcement actions are designed to protect the economic investment of legal growers and protect consumers from poison-laced cannabis products. Small mom and pop growers must follow the environmental rules just like the wine companies and large corporations. Small operations must be clever with marketing and learn how to brand their market and establish their niche. They can’t flout the law seek to cut costs by destroying the environment and using banned chemicals. Finally, growers must put on a “new set of glasses” that will allow them to see the challenges faced by law enforcement and learn to cooperate with the law to eliminate illegal grows and the growing influence of drug cartels.
The state needs to understand their “public” better and prepare better for market developments. While few would have predicted that Chinese drug cartels would have chosen to buy houses for cash and ship employees through Europe to Mexico to then enter the US to grow pot and fewer would have thought that the Mexican drug cartels would switch from smuggling pot across the US border to smuggling humans and growing pot in our national forests. However, it would not have taken much deep thinking to realize that many marijuana growers in California, and other states, are by design smaller mom and pop organizations. The state and local governments could have been better prepared to administer the process and provide guidance and financial assistance to smaller growers.
Vernon Budinger, CFA, CAIA
Over 30 years of professional financial management experience.
Neural Profit Engines