How to raise capital for your cannabis startup

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Fundraising for your business can be hard. It is even harder if you are raising capital for a cannabis startup.  

The stigma around cannabis industry restricts these startups’ access to bank loans; cannabis-focused VCs prefer to bet on later-stage companies; IPO, the ultimate goal for any cannabis company, is expensive and can be done on later stages only. 

This article breaks down the major fundraising barriers in the cannabis industry and provides a review of the alternative tech-based options.

Problems with banks 

In the majority of countries, worldwide cannabis businesses don’t have an opportunity to get funded traditionally due to regulatory limits. As of now, banks and financial institutions are unlikely to provide loans to cannabis businesses, even the startups that aren’t producing or selling marijuana for recreational use. 

The problematic “cannabis company–bank” relationship persists in later stages of the startup’s development. Having secured initial funding elsewhere, small and medium cannabis businesses still have troubles opening a bank account with the majority of banks. 

Those U.S. banks (around 30 as of March 2019) that service legal cannabis companies are still required to file a suspicious activity report for every transaction of such a business – which results in hefty monthly bills for the companies.

In a way, this situation is similar to crypto: today blockchain startups face the same problems with banks due to multiple altcoin scams in 2017. While there are positive signs that the situation is changing for the better, it will still take a while for the industry to overcome this barrier. 

Venture funding? Not so early-stage anymore 

In 2018, cannabis startups raised over $800 million in 139 deals with VC funds, according to Pitchbook. For comparison, venture capital-backed fintech companies raised $39.57 billion in 1,707 deals. Startups in blockchain, a much younger industry, raised over $4 billion from venture capital funds.

If we take a look at the list of VCs investing in cannabis companies and their recent deals, we’ll see that the majority of funds are acting more private equity-ish, preferring to finance major unicorn rounds, rather than sticking to their “old-school” role of funding the first steps of startups. While some say this is a tendency we can see on the venture capital market in general, it is especially obvious on a small segment.

This means that instead of providing early-stage cannabis startups with the necessary funding, venture funds step in as the major source of capital for later-stage companies that are about to go public.

What is interesting, no less than 90% of the most cannabis stocks are owned by retail investors, according to Bloomberg. The question is: how to direct the potential of retail investors in cannabis space into early-stage startups? 

Crowdinvesting for cannabis is the solution

As of 2019, there is only one operational cannabis-oriented crowdinvesting (aka equity crowdfunding) platform on the market that allows to “invest as little as $100 in cannabis companies”; but it offers only a very limited amount of deals in the United States only.  

A few cannabis companies (like Wildfire Collective) choose to run their fundraising companies on non-industry specific crowdinvesting platforms, which is also an option. However, the biggest players on the crowdinvesting market don’t list campaigns related to the cannabis industry, which makes the choice very limited for the startups.

There is another issue that stops this fundraising method from mass adoption: the shares of these early- and growth-stage companies are not liquid. 

When people choose to crowdfund startups they like, they do not get any interest in a company: they simply support the product they believe in. But when it comes to crowdinvesting, people act as investors, not fans; and they want to get returns on their investments. As with all startups, you can never be sure how long it will take a company to go public (do an IPO) or give investors a chance to exit otherwise. 

There is currently no infrastructure that would provide liquidity for these assets, which makes it riskier and less attractive for retail investors to step in. Still, modern millennial investors are looking for bigger returns and are interested in participating in the development of cannabis companies from the start. 

Tokenizing shares of cannabis companies 

Limited access to venture funding and problems with banks leave cannabis companies looking for alternative methods of financing. 

If you’re an early-stage company, tokenizing your shares and offering them to retail investors internationally on blockchain-based crowdinvesting platforms can be the ultimate solution.

Sometimes referred to as an “IPO for startups”, offering of tokenized securities in its core is a traditional crowdinvesting mechanism; but the underlying blockchain technology makes the processes of issuance, distribution and trading securities much easier, cheaper and faster. This results in cost reduction and, most importantly, enables secondary trading of tokenized assets in the form of tokens. In other words, it creates liquidity for the shares of startups that were previously illiquid, as the technology and the infrastructure were not in place. It is almost there now – and it’s not a fintech fantasy. The major stock exchanges (including Swiss stock exchange SIX) are already developing their tokenization solutions. 

If you are already an established company looking to raise funds, today you will most likely pursue a later round from a VC or acquisition, or aim for conducting an IPO. However, if your company is somewhere in between seed funding and going public, and you need additional capital, you might not be willing to pass even bigger stake at your business in the hands of a single major player. In this case, tokenization can also be a much-awaited fundraising alternative. 

Moreover, tokenization enables you to more effectively target the largest segment of retail investors: millennials, whose lack of trust for traditional investment methods is widely known, prefer a technology-based way to back the companies they believe in.

About the author 

Gene Deyev is the CEO of Malta-based company Stobox, that is creating a platform that will enable cannabis companies to tokenize their assets and offer them to retail investors. The company is actively developing a legal framework that will give these businesses a fully compliant opportunity to raise capital from retail investors, including funds in cryptocurrencies. 

Moreover, Stobox is building a secondary trading entity to create liquidity for the tokenized shares of cannabis startups, which will make them even more attractive to investors. 

What to learn more about tokenization and receive selected news and expert opinions from this space twice a month? Subscribe to Stobox digest Digital Securities Essentials for Business. 

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