President Joe Biden’s order last Thursday to review cannabis’ drug schedule classification resulted in the biggest ever one-day stock market surge for weed stocks. But beyond the markets’ initial enthusiasm for cannabis’ possible declassification, Pres. Biden’s move did not clarify future pot industry capital flows.
For years cannabis industry proponents have called for a litany of changes to federal law that restrict industry success, ranging from lifting Internal Revenue Code Rule 280E, which voids a broad series of normal business tax deductions for cannabis businesses, to decriminalizing the plant so institutions and pension funds can invest in cannabis.
But the processes for changing those rules and laws are complicated, and bankers and securities lawyers tell Grown In the path forward will likely take a lot more than just descheduling.
The “schedule” referred to by Pres. Biden is a list first created by the Controlled Substances Act of 1971 that includes five stops, ranging from items in Schedule I, like heroin, that have a “high potential of abuse and no accepted medical use”, to items in Schedule V, such as codeine, with less abuse potential. Listed as a Schedule I drug since the inception of the list, cannabis has been the subject of multiple attempts to deschedule.
The schedule of drugs has a wide impact on federal law: It determines many drugs that can be prosecuted for possession, determines organizations over which the Drug Enforcement Agency has oversight, and which businesses Internal Revenue Code Section 280E impacts.
But federal criminal law regarding marijuana has complications beyond the schedule of drugs, since in multiple cases, marijuana posession penalties are directly written into law, meaning that even if cannabis were descheduled by administrative action, legislative action would still be required to federally decriminalize cannabis.
However, there is clear, good news about descheduling: If cannabis were removed from Schedule I or II, Rule 280E would no longer apply, allowing cannabis businesses to assume normal tax deductions, a boon worth hundreds of thousands of dollars a year to even the smallest cannabis companies.
Because, even after descheduling, cannabis would remain federally illegal, it is hard to say how much banking would change, say finance professionals.
“I don’t think the big financial institutions [will bank cannabis], but there are others that are more nimble and less high profile who will begin to bank cannabis companies,” said Mark Cozzi, a private equity and cannabis investor. “I wouldn’t expect a pension fund or conservative annuity, but savvy, forward-thinking institutions. That’s how I think this will unfold.”
One bank executive, speaking on background, anticipated that if cannabis were descheduled, smaller banks, like agriculture banks, might begin to lend to cannabis. Allowing cultivators to borrow against expected crops, like commodities farmers do, would free up huge amounts of cash and allow cannabis operators to reinvest in their businesses faster, speeding up business growth.
And when it comes to freeing up cash, the biggest potential source of investors are the big equity markets, like the New York Stock Exchange and the NASDAQ. Currently, plant-touching cannabis companies are barred from listing on the American exchanges, limited to places like the Toronto Exchange, which is much smaller and less liquid.
What would it take to allow listings on an American exchange?
“There’s a litany of things you have to do to get on the New York Stock Exchange (NYSE). On this matter: It’s a pretty Democratic city and progressive. The President making a move like this would put some internal pressure on the NYSE,” said Howard Mulligan, a securities attorney that advises cannabis companies at law firm Greenspoon Marder in New York.
Both NYSE and Nasdaq are political entities, says Mulligan, who says their rules allow listing cannabis companies that are legal under federal law in the country they are based, but both exchanges see the potential for money making with cannabis, he says.
Nasdaq might be the first to allow plant-touching companies, says Mulligan. “And maybe if they see it coming, they’ll want to be ahead of the game and show they are the more progressive exchange on the street. It is very likely that one will go before the other.”
Descheduling won’t ease large banks like Wells Fargo or J.P. Morgan into lending to cannabis, but it might convince large banks to allow their mortgage borrowers to lease property to cannabis companies, a barrier often encountered by companies looking for industrial space.
“It’s not like the dam will break, and the money will flow in,” said Scott Delgado, founder of cannabis investment banker Hawkeye Capital Markets. “I think it’s a gradual thing for everybody. This is the one thing holding up the SAFE Banking Act.”
First introduced in 2017, and most recently passed the U.S. House in April 2021, the Secure and Fair Enforcement Banking Act would alleviate banks from filing SARs reports for cannabis banking, and would protect banks against penalization for servicing cannabis businesses. There has been little indication the bill would bass the U.S. Senate.
But no matter how you view it, Pres. Biden’s announcement set change in motion.
“Generally speaking the path to legalization starts with descheduling. It’s a moderate action, not a silver bullet,” said Delgado.