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Fluresh LLC plans to turn a portion of the former Benteler Automotive plant in Grand Rapids into a growing facility and retail provisioning center. Fluresh LLC plans to turn a portion of the former Benteler Automotive plant in Grand Rapids into a growing facility and retail provisioning center. COURTESY RENDERING

ALL VERY HIGH: Risks, rewards, barriers-to-entry elevated for Michigan cannabis investors

BY Sunday, August 18, 2019 05:35pm

GRAND RAPIDS — Brandon Kanitz walks through a cavernous area of a former auto-parts manufacturing plant, pointing out areas that in the months ahead will become growing rooms for marijuana plants.

One room will go to grow large marijuana plants, another is for smaller plants, Kanitz explains.

If all goes according to plan, Kanitz and his partners at Fluresh LLC hope to transform a portion of the one-time Benteler Automotive facility on Grand Rapids’ southwest side into a growing facility and retail dispensary for medical marijuana by early 2020.

Backed by private capital, Fluresh plans to invest up to $40 million in the facility that’s expected to employ more than 80 people, plus another $37 million on a similar facility in Adrian, about 30 miles southwest of Ann Arbor. Investments in the two projects combined could reach nearly $100 million, including $20 million for operating capital.

In West Michigan, Fluresh will operate the grow and provisioning center and lease the space from a separate LLC that partners are setting up to hold the real estate, located in an industrial neighborhood south of Hall Street, just east of U.S. 131, Kanitz said. Fluresh this month received zoning approval from the Grand Rapids Planning Commission for the site.

Fluresh’s plan illustrates how an entirely new investment opportunity has begun to emerge for investors willing to assume the risk of investing in cannabis companies in exchange for potentially high returns. The interest comes despite marijuana remaining illegal under federal law, although it’s now legal in 33 states for medical or recreational use.

In the budding U.S. marijuana industry, Kanitz sees a business sector with high regulatory requirements that will limit the number of competitors in markets where it’s legal.

“The cannabis industry represents a huge addressable market, has strong economics, and the regulatory and capital requirements create high barriers to entry,” said Kanitz, managing principal at investment firm Thornapple River Capital LLC in Grand Rapids.

“While uncertainty remains given federal prohibition, we believe the risk to be more headline than reality, and the potential upside creates an attractive risk/reward for investors,” he said.

Another example of how cannabis has been attracting investors comes from Pitchbook, which reported in July that venture capital firms alone invested $1.2 billion in U.S. cannabis startups in 2018. Cannabis VC investments as of mid-July easily surpassed that amount, approaching $1.6 billion through nearly 140 deals, according to Pitchbook.

Wealth management and investment advisory firms contacted by MiBiz declined to speak to the issue.

Matt Johnson, an attorney at Warner Norcross & Judd LLP who chairs the firm’s business practice group, has seen an emerging interest in investing in cannabis. Prospective investors are drawn by a “potential for significant returns,” he said. 

“Folks are interested in it, and we’ve had several of our clients that wanted to look into and explore their options for investing in the industry,” Johnson said. “Some of the more entrepreneurial folks believe that the cannabis industry is potentially the next boom investment.”

Grandview Research expects legal cannabis in the U.S., an $11.9 billion industry in 2018, to expand at a compound annual growth rate of 24.1 percent from 2019 to 2025. The research firm projects medical marijuana to expand as a 12.7 percent compound annual growth rate during the same period.

Yet with the potential for high returns comes risk in that marijuana is still classified as a controlled substance under federal law. Should the federal government decide to take action against a cannabis company and seize its assets, investors would lose as well.

“You could lose your entire investment if the federal government seeks enforcement action. It could come in and seize the company’s assets, which would include your investment,” Johnson said.

The lack of banks willing to enter the cannabis industry because of the federal prohibition could also present a practical risk for investors. Banks could opt to drop a client who invests in marijuana because of the potential risk from accepting deposit or funds from an activity still considered illegal federally.

“The last thing you want to have happen is have a small part of your portfolio of investments ruin your entire banking relationship,” said Johnson, who details the upsides and potential risks involved in cannabis investing when a client asks.

“Investors just need to understand the risks associated with the investment so they go into it capable of being able to analyze the whole process,” he said. “It’s a determination for each investor as to what level of risk they’re willing to bear.”

Risks, both legal as well as reputational, and federal prohibitions pose the largest barriers for cannabis entrepreneurs seeking to raise private capital.

Kanitz notes that the real estate company, Steele Partners LLC, that will lease to Fluresh has gotten more interest from prospective investors with “meaningful money” than Fluresh itself. Banks, because of the federal law, generally avoid lending to cannabis entrepreneurs and few private equity firms are investing in the sector, despite the promise of high returns.

“It’s tough,” Kanitz said. “There are far more companies looking for capital than sources of capital.”

Mark Krytiuk, the CEO of Toronto-based Nabis Holdings Inc., describes a difficult capital market in the U.S. for cannabis entrepreneurs. Nabis plans to invest about $32 million to open dispensaries and cultivation facilities in Michigan cities including Constantine, Bangor and Battle Creek. 

Of the more than $40 million the company has raised to date from individual and institutional investors, “very little” of it – less than $500,000 – came from U.S. investors. Most of the rest came from investors in Canada, which legalized recreational marijuana nationwide in 2018.

In the U.S., “a lot of institutions” and “even family offices and private investors are still scared,” Krytiuk said. 

“Right now, the federal law gets in the way,” he said. “It’s a scary thing to invest millions of dollars into something that the DEA can come in and shut you down. That’s one of the biggest fears.”

That’s why market capitalizations for Canadian cannabis firms are seven times higher than U.S.-based companies, he said.

Nabis Holdings holds licenses in Michigan, Arizona, California and Washington. Despite the capital barrier to overcome, the company seeks a role in the U.S. because the cannabis market “is such a large market with a huge upside potential,” Krytiuk said.

Should Congress ever change the federal law to allow banks to serve cannabis companies or to make cannabis legal, Krytiuk expects many more investors will quickly enter the market.

“The biggest and best market is the U.S.,” he said. “The banking system’s great, but it’s more the capital markets that it really opens up and really allows investors to come in and feel safe about what they’re making their investment in.”

As Nabis moved to enter the American market, company executives met with representatives from large banks in the U.S. that Krytiuk describes as “kind of sitting on the sidelines looking at the U.S. cannabis space, keeping an eye on it and talking to people, and just waiting for the day that they can actually participate.”

“As soon as they do participate, you’re going to see a huge surge in what the U.S. market is,” he said.

Just allowing banks to get into the cannabis business would open up debt markets to entrepreneurs and lower the cost of capital, Kanitz said.

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