Finance 101 for Cannabis Startups: Budgets, Forecasts, and Foibles

It’s no mystery that startups struggle to manage their budgets and company financials.  More often than not, early-stage companies have inaccurate financial forecasts; the fiscal runway isn’t long enough, and the budget falls short. The task of creating a projection at the start of a company is generally difficult for many reasons, including that the estimates used in the forecast are not based on tried and tested methods or historic performance metrics due to the early-stage nature of the entity and operation.  Instead, budgets and forecasts are often put together drawing from a wide range of assumptions based on expected market demand and product volume and estimated operating expenses and other costs. Because early-stage investors and executives hope to understand how the company is expected to perform and want to have a means for assessing if the company is on an expected forward track (by having an ability to judge actual future performance against prior forecasted performance), forecasts are often requested, and early-stage companies struggle with having to put the cart before the horse in putting them together.

Heightened Challenges for the Cannabis Industry

The challenges described above are further heightened in the cannabis industry where it often takes a significant amount of upfront time, money and planning before a company can become legally operational. Cannabis companies need to factor in timeframes for the legal compliance framework and since obtaining permits and licenses can take longer than expected and cost more than expected, making it difficult to estimate timelines and monies to be spent before companies can become legally operational and profitable. Often it can be months (or longer) before a company may get local permitting. Further, to be eligible to apply for a state license (legal operations require both local permit and state license), the company will first need to obtain the local permit. This often means paying rent for months (if the land is leased) or sometimes over a year before a company is legally operational, in addition to expending money on build-out costs and permitting and licensing applications and contractors required in connection therewith before dollar one of profit might flow into a company.

Spreading too thin is a common mistake in the cannabis industry because companies want to get started on various projects simultaneously knowing the length of time the process takes to receive permits and licenses. This often seems to result in companies hitting fiscal walls before they are able to get any money out of a single business operation. While entering into multiple projects at once makes sense for fiscally unconstrained companies, it does not make sense for developing business entrepreneurs who may not be familiar with the roadblocks and pitfalls that arise on the road to profitability.

How Cannabis Startups Can Mitigate Risks

Faced with additional startup challenges, startups in the cannabis space should be even more conservative when they create budgets and forecasts. Cannabis startups need to plan meticulously and be prepared for significant upfront expenditures. Companies can mitigate some of their risks by:

  • Planning better, including by making sure they raise enough early funds from investors;
  • Preparing materials such as site plans and other items for their state applications in tandem with going through the local permitting process so that they are ready as soon as the local permit issues to submit an application for the state license; and
  • Staying more narrowly focused on one project at a time until there is a profitable operation up and running (e.g. focusing on one operation to completion so there is an income stream before expanding too quickly across multiple locations or operations types).

Building a Budget and Forecasting Costs

Repeat entrepreneurs may have a better sense of timing and costs. It makes sense to consult professionals or individuals with experience in the field when putting together a budget and forecast for a startup company since such experience can help guide new entrepreneurs by offering foresight into the process.  Building a budget for a company is not so dissimilar to building a budget for a house (on a different scale). Often there is an initial budget and an estimated range of costs. If the contractor, in the process of building the house, encounters a surprise or unexpected obstacle, costs can multiply. In the cannabis space, we often see companies facing slowdowns in the compliance process and related regulatory barriers. Simultaneously, even the build-outs involved in preparation for operations also can have variable or unpredictable costs involved.

It is crucial that any startup, and especially startups in the cannabis space, anticipate that their budget will run short and mitigate such risk to the best extent possible at the earliest stage. That means:

  • Carefully estimating all costs before entering into a lease or purchasing land for a cannabis operation;
  • Ensuring there aren’t zoning obstacles in connection therewith or other compliance gating items in advance;
  • Attempting to raise additional funds than estimated at the start to allow for additional runway;
  • Staying on top of tracking development and progress along the way; and
  • Adjusting expenditure accordingly in connection with company priorities for achieving profitability.

At Rogoway Law Group we enjoy helping our clients with not only legal advice but business-legal advice that can help companies plan more efficiently and understand the timelines and processes that accompany the regulatory framework and related potential costs and expenditures.  We additionally work with our clients to help facilitate fundraising transactions in anticipation of these challenges and on an ongoing basis, as needed, and as they grow into mature and successful operators eventually surviving on their profits.

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