High Cannabis Prices and Overregulation in California Bolster the Black Market

The marijuana industry in California is facing significant problems with minimal plans in place to solve them. Legal adult-use marijuana sales began in January 2018, but at the end of the year, the illegal market was still thriving while legally licensed businesses were struggling.

As research conducted by Eaze in July 2018 showed, unlicensed cannabis businesses were going strong in California six months into legal adult sales, and the majority of consumers had no plans to switch to the legal market:

  • 1 in 5 Californians over the age of 21 had purchased marijuana from the illegal market between April and July 2018.
  • 84% of those Californians stated they were highly likely to continue to buy from the illegal market because prices are lower and there is no tax.
  • 85% of those Californians stated they were completely or very satisfied with their experience purchasing from an illegal provider.
  • 1 in 6 California marijuana consumers (17%) purchased marijuana from an unlicensed source after state legalization because local laws restricted access to legal cannabis.
  • If the state decreased the tax rate by 5%, 23% of illegal market consumers would switch to the legal market. On the other hand, a 5% increase in the tax rate would drive nearly one-third (32%) of consumers who purchase exclusively from licensed and legal providers to unlicensed and illegal sources.

This research tells us a few key things about the problems plaguing California’s legal marijuana market:

  1. Under-saturation of legal marijuana retailers due to local overregulation
  2. Additional access problems due to overregulation by the state
  3. Overregulation at both the state and local levels creating high prices and taxes which make legal marijuana unaffordable.

Let’s take a closer look at each of these problems.

Local Overregulation Creates Access Problems

Local municipalities in California are allowed to ban marijuana retailers and dispensaries from operating. As a result, many cities don’t allow these businesses, which creates an under-saturated market and leaves many consumers without convenient access to marijuana products.

Based on data from the Cannabiz Media License Database, only 147 of the 482 cities in California had at least one licensed retailer or dispensary as of December 31, 2018. That means 70% of cities in California do not have a licensed retailer or dispensary for residents and tourists to purchase marijuana products.

Kenny Morrison, president of the California Cannabis Manufacturers Association told Bloomberg that the illicit market outnumbers the legal market by five to one. Why travel to another city when there are so many ways to easily access marijuana from the illegal market?

The table below shows data for the 10 largest cities in California. By comparing population data to the number of marijuana retailer/dispensary licenses active in each city as of December 31, 2018, it’s clear that even in the most populous cities, local rules can negatively affect consumer access to marijuana products.

california cannabis licenses top 10 cities

Using conservative estimates for the potential number of customers (2.5% of the population and 5% of the population – not including tourist consumers), you can see that two of the largest cities have zero retailer/dispensary locations for tens of thousands of resident consumers while others could have one licensed business for 6,000 or more resident consumers.

Looking at the data from a different perspective, the city of Los Angeles is 502 square miles and has just 82 license retailers/dispensaries. The city of San Diego is 372.4 square miles and has just 17 licensed marijuana retailers/dispensaries. It’s safe to assume that a large percentage of residents in those cities have to travel considerable distances to get to a licensed retailer/dispensary.

California’s recent decision to allow statewide marijuana delivery (even in communities where local rules ban marijuana retailers) will help many consumers living in jurisdictions with limited access, but it doesn’t completely solve the problem.

State Overregulation Creates Different Access Problems

As you’d expect, licensed cannabis cultivators, manufacturers, distributors, testing labs, deliverers, and dispensaries/retailers are only allowed to buy, sell, and distribute marijuana and marijuana products with other licensed businesses.Now, consider the number of active licenses in California as of December 31, 2018 per the Cannabiz Media License Database (10,941 not including event licenses):

  • Cultivator = 6,970
  • Distributor = 1,401
  • Manufacturer = 1,264
  • Dispensary/Retailer = 641
  • Delivery = 315
  • Microbusiness = 293
  • Testing = 57

What jumps out at you from those numbers? Take a look and think about how many testing labs are available to test all of the marijuana products from the 641 licensed retailers and dispensaries. It’s not surprising that there was a testing backlog after new testing regulations launched in July 2018.

What about the number of cultivators? Many of the 6,970 cultivation licenses are small grow licenses obtained by large companies with deep pockets looking to expand their reach and market share by acquiring multiple small licenses (there is no limit on small grow licenses while there are limits on larger grow licenses).

Hezekiah Allen, former executive director of the California Growers Association, has said that at least half of the state’s 50,000 cannabis cultivators have been driven back to the black market (or never left it) by overregulation. In other words, the 6,970 active cultivator licenses represent a very small percentage of all marijuana cultivation happening in the state of California.

The same is true of marijuana retailers. Only a small percentage are licensed compared to the number that continue to operate in the illegal market. The money required to invest in licensing and the onerous regulations keep most retailers out of the legal cannabis industry.

Based on data from the Cannabiz Media License Database, active retailer/dispensary licenses can only be found in 40 of California’s 58 counties, which means one in three counties have no licensed retailers or dispensaries. The table below shows what this means for the 10 largest California counties by population.

california cannabis licenses top 10 counties

In the county of Fresno (6,011 square miles), there is one licensed dispensary/retailer for all 1,007,229 residents (not including tourists). This is just one statistic that gives you an idea of how overregulation at the state, which forces many marijuana businesses to stay out of the legal market, is impacting consumer access to legal marijuana and bolstering the black market.

State and Local Overregulation Creates Pricing Problems

Both state and local governments in California contribute to high prices for legal marijuana. Overregulation causes businesses that want to obtain and keep active licenses to invest high amounts of money in compliance. Those high costs trickle down to consumers in the form of higher prices.

In addition, both state and local governments in California can add taxes to legal marijuana sales, and those taxes (which black market consumers don’t have to pay) can add up quickly. Together, local and state taxes can equate to more than 45% in some jurisdictions when you add local taxes, state excise taxes, and sales taxes. The state also charges a cultivation tax of $9.25 per ounce, which is just one more cost that trickles down to consumers and increases the prices they have to pay for marijuana.

As the results from the Eaze study discussed at the beginning of this article explain, taxes have a direct effect on whether or not California consumers will buy marijuana from the legal or illegal market. Remember, the study found that 84% of consumers would continue to buy from the black market because prices are lower and there is no tax. As long as the price discrepancy caused by regulation continues to be so large, the black market will continue to thrive and the legal market will continue to struggle.

Can California Solve Its Cannabis Industry Overregulation Problems?

California’s black market problems can be solved. First, businesses operating in the black market need enough incentive to join the legal market. Second, changes should be made so consumers can access marijuana products regardless of where they live in the state, which means local rules that allow cities to ban legal marijuana businesses need to change.

Third, marijuana advocacy is essential to educate Californians who can be the catalysts for change, including change that will lead them to vote against politicians who create barriers to the legal marijuana industry in their communities.

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