Successful Risk Management for Scaling Cannabis Companies

7 Min Read By: Eric Schneider

Scaling cannabis companies face a muddied market, with past highs combating recent lows. Although the future may not be clear, canna-businesses can scale and grow with the help of strategic risk management. This article reviews fundamental elements of managing cannabis risk and industry-specific solutions to help companies scale more quickly.

Understanding the State of the US Cannabis Market

Cannabis is at an interesting crossroads, with different legal outlooks at the local, state, and federal levels, but with society expressing more acceptance. Additionally, several new states have expanded cannabis access recently, with Rhode Island, Maryland, and Missouri legalizing recreational marijuana in 2022. Delaware was the first state to legalize recreational marijuana in 2023, and observers have high hopes of Ohio, Pennsylvania, and Minnesota following suit.

Despite the forward momentum—cannabis sales are expected to reach more than $31.8 billion in 2023—some factors may impact cannabis negatively soon. For starters, many cultivators are experiencing a price compression, where decreased cannabis prices drive down profits. California has been hard hit by these market dynamics. Furthermore, 2022 gifted the industry with a bumper crop, yet it’s created more challenges than opportunities. Unfortunately, the low wholesale costs will be a hurdle for a while longer.

Cannabis leaders hope the industry will successfully navigate these challenges by implementing smart risk management strategies. But first, let’s talk about some common cannabis barriers.

Barriers the Cannabis Industry Faces Daily

Many of the barriers the cannabis industry faces are old news. These challenges seem to resurface year after year, creating compounded issues for cannabis companies to navigate.

We watch new cannabis laws unfold regularly and celebrate the victories, but the fact remains that cannabis is still a Schedule I drug. This classification creates blockades for the industry: investing pushbacks, insurance issues, licensing hurdles, etc. The SAFE Banking Act, which would open many financial doors to cannabis, has given the industry hope on several occasions—only to bring disappointment at its failure to pass.

Some major players have successfully leveraged new research and technology to attract investors and thrive on the open market. Consider the achievements of public companies Bright Green Corporation and HEXO Corp., to name a couple. However, industry departures, like the recent Paychex exit, make the business more challenging, not to mention the cash-only status cannabis companies must traverse.

For businesses that aim to scale, these factors are critical to understand. Remember scaling and growing are different. Where growing increases revenue by adding new resources, scaling increases revenue without additional resources. In short, scaling is a much taller order.

As a result, ambitious leaders must familiarize themselves with these challenges and prevent barriers from becoming overwhelming risks—but how?

Preventing Barriers from Becoming Risks

Knowing what cannabis is up against is the first step to effectively managing risks. The previous section is enough to dissuade many from entering the industry—but cannabis folks are savvy.

Best practices can help address exposure in many areas, including workforce safety efforts. Many scaling cannabis companies rely on massive or high-end equipment, often powered digitally, for daily operations. Keeping humans and networks safe means maintaining equipment and following cybersecurity precautions. Not only is such safety imperative, but covering an employee’s medical bills out-of-pocket could empty a company’s reserves swiftly, not to mention the cost of repairing or replacing damaged equipment or recovering from a cyberattack. Legal costs can weigh heavy on a company’s finances, and unfortunately, claims often involve plenty of legal ramifications.

Noncompliance is expensive. Cannabis companies must know local, state, and federal laws. One slip-up could stall a cannabis operation and ding the bottom line significantly. Consider the following key areas of legal compliance:

  • Follow local and state regulations. Each state has its own set of rules for the cannabis industry, and these regulations can be complex and ever-changing. Failing to follow these regulations can result in fines, penalties, or even the loss of a business license.
  • Track inventory correctly. Cannabis businesses are required to keep accurate records of their inventory, including the source of the product, the quantity, and the location. Failure to do so can make it difficult to track the movement of products and comply with product testing and labeling regulations.
  • Test products properly. Cannabis products must be tested for potency, purity, and contaminants before they can be sold. Failing to do so can result in the sale of unsafe products that could harm consumers.
  • Label products properly. Cannabis products must be labeled with accurate information about the product, including the ingredients, the potency, and the expiration date. Failure to do so can mislead consumers and could result in legal liability.
  • Comply with advertising regulations. Cannabis businesses are subject to strict advertising regulations, which vary from state to state. Failing to comply with these regulations can result in fines, penalties, or even the loss of a business license.
  • Practice fair employment. Cannabis businesses are prohibited from discriminating against employees based on race, color, religion, sex, national origin, age, disability, or other protected categories. Failing to comply with these antidiscrimination laws can result in legal liability.
  • Provide safe working conditions. Cannabis businesses are required to provide safe working conditions for their employees. This includes providing adequate ventilation, lighting, and safety equipment. Failure to do so could result in employee injuries and legal liability.

These are just some of the ways that cannabis companies must attend to legal requirements. It is essential for cannabis businesses to stay up-to-date on the latest regulations and to take steps to ensure compliance. By doing so, they can avoid fines, penalties, and legal liability risks.

On top of industry-specific risks, canna-businesses must also navigate amplified traditional exposures. Leaving the cash box outside the vault one night might not cause alarm for other brick-and-mortar retailers, but cannabis companies have to answer to a cash-only industry and few financial institutions backing them; cannabis has a thinner line to walk.

Developing an Effective Risk Management Plan

In response to a tough landscape, cannabis risk management plans typically follow five steps:

  1. Identify: Pinpoint exposures the company faces.
  2. Analyze: Determining how costly a specific loss would be.
  3. Evaluate: Figure out the likelihood of particular risks.
  4. Track: Map out vulnerability patterns in the company.
  5. Treat: Decide whether to avoid, transfer, mitigate, or accept the risk.

Effective risk management isn’t only to help scaling companies by protecting them. This strategy also legitimizes canna-businesses.

Insurance typically plays a vital role in risk management, particularly in the treatment step. Keep in mind, however, that risk management is multi-tiered.

Cannabis Insurance Policies and Licensure

Applying for a license to operate a cannabis business often requires founders to have a plan regarding insuring the operation. Otherwise, regulatory bodies might reject the license application. Some commercial insurance brokers provide a “letter of commitment,” reflecting a partnership between the canna-business and broker that will provide specific coverage upon license approval.

Usually, state cannabis laws require standard insurance policies, such as workers’ compensation, unemployment, and sometimes general liability. Aside from these three coverage lines, some other foundational insurance recommended for scaling cannabis companies includes the following:

  • Property: When a canna-business is hit with direct property loss, like a fire or vandalism, this policy responds by reimbursing the company for the financial damage.
  • Professional Liability: Also called errors & omissions insurance, this “malpractice” coverage protects cannabis companies against third-party or client lawsuits claiming substandard work or service, which often occur via work errors or a product’s failed performance.
  • Product Liability: Regardless of whether the cannabis company is plant-touching, it can still be liable for bodily injury or property damage allegedly caused by the product. This policy protects against such third-party claims.
  • Cyber: With a 38% increase in cyberattacks in 2022 compared to 2021, this liability policy protects canna-businesses against third-party lawsuits related to electronic activity, such as phishing, ransomware, and data breaches.
  • Employment Practices Liability: This policy protects companies against costs of employment-related lawsuits, such as wage and hour disputes and harassment and discrimination suits, to name a few.
  • Crime: As mentioned, theft is undoubtedly a primary concern for cannabis companies. In response to this significant threat, crime insurance protects businesses against theft, whether internal or external.

A successful risk management strategy requires companies to facilitate a multi-tiered approach, combining insurance with best practices and insider knowledge. Scaling cannabis companies don’t always have a clear-cut path laid out for them—but they have a fighting chance.

By: Eric Schneider

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