The Hoban Law Group filed a petition on behalf of three clients against the DEA in the U.S. Court of Appeals for the Ninth District on January 13th, according to a press release. The clients represented by Hoban Law Group in the suit are Hemp Industries Association, RMH Holdings, LLC and Centuria Natural Foods, Inc. The companies are based in California, Colorado and Nevada respectively and are all active in the legal hemp trade. The press release says RMH Holdings “sources its products from industrial hemp lawfully cultivated pursuant to the Agricultural Act of 2014 (also known as the Farm Bill).”
San Francisco’s United States Court of Appeals for the Ninth Circuit Photo: Ken Lund, Flickr
In December, the DEA published a ‘Final Rule’ that classifies cannabis-derived extracts, such as CBD oil, in their own category with a code number to “better track these materials and comply with treaty provisions.” The announcement by the DEA ultimately serves to make any cannabis extract a Schedule 1 narcotic. “Extracts of marihuana will continue to be treated as Schedule I controlled substances,” says the document.
Bob Hoban, managing partner
Bob Hoban, managing partner of Hoban Law Group says the action is clearly beyond the DEA’s authority. “This Final Rule serves to threaten hundreds, if not thousands, of growing businesses, with massive economic and industry expansion opportunities, all of which conduct lawful business compliant with existing policy as it is understood and in reliance upon the Federal Government,” says Hoban.
The lawsuit states that they want a judicial review of the DEA’s actions “on the grounds that the Final Rule is (1) arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law, e.g. the CSA, the Farm Bill, and the DEA’s regulations; (2) contrary to constitutional right, power, privilege, or immunity; (3) in excess of statutory jurisdiction, authority, or limitations; and, (4) without observance of procedure required by law.” The suit also claims that the ‘Final Rule’ conflicts with other federal laws like the Data Quality Act, Regulatory Flexibility Act and Congressional Review Act.
According to Garrett Graff, associate attorney at Hoban Law Group, the entire Cannabis genus is not unlawful and the DEA is overstepping its authority. “As the Ninth Circuit found in 2003 and 2004 there are certain parts of the plant like the stalk and seed that are congressionally exempted from the Controlled Substances Act and thus the DEA’s rulemaking authority,” says Graff. “By creating a drug code for ‘marihuana extract’, the DEA is saying that they are a controlled substance, but that goes against a number of existing laws.”
Garrett Graff, associate partner at Hoban Law Group
The definition of ‘marihuana extract’ under the ‘Final Rule’ also references extracts containing one or more cannabinoids, which goes beyond the realm of cannabis altogether, according to Graff. “The DEA and many other sources have acknowledged and confirmed that cannabinoids can be derived from other varieties of flowers, cacao and other sources, making it virtually impossible to distinguish which cannabinoids would be subject to this drug code,” says Graff. “The DEA’s rule effectively makes the presence of cannabinoids a determinative factor of a controlled substance, which is inconsistent with what Congress has said.”
The petition filed is essentially the initiation or commencing of a lawsuit. Graff says their case is rooted in statute. “We hope to accomplish a striking of the rule, permanent injunction of the rule and for the DEA to engage in the appropriate processes and procedures when making rules in the future,” says Graff. “Alternatively, an amendment to the rule to make the definition of ‘marihuana extract’ consistent with existing law and reflect those portions and varieties of the plant which are in fact lawful could be considered.” It may still be roughly 30 days before the DEA responds with briefing and possibly an oral argument to follow on the various issues surrounding the petition, says Graff. The Ninth Circuit petition, including briefings and hearings, is likely to take at least several months.
California’s tradition of social and political experimentation has made it the national leader in areas ranging from environmentalism and social justice to technology. Now it is poised to make the same far-reaching transformations in the cannabis industry.
As one of the world’s top ten economies and the nation’s most populated state (having a population of 38 million), California could propel the decriminalized recreational cannabis industry to $6.5 billion in 2020, according to a report by ArcView Group and New Frontier.
At the same time, California is in the process of moving from state to local zoning control, as far as issuing the OK to become licensed, effective Jan. 18, 2018. This means collectives and dispensaries have to obtain local approval before they receive a state license. It also puts greater pressure on gray market operations to become licensed.
On the regulatory front, the state is also heading toward a historic vote in November 2016 in the form of Proposition 64. This will open up the customer base to all Californians. It has a similar licensing path as the medical regulations the Governor signed last year, except it allows vertical integration between growers and dispensaries, which is not allowed under the medical regulations, except in very limited circumstances.
Credit: cannabisbenchmarks.com
“My bet is the demand will outweigh the supply for a while and the legal cannabis businesses that are licensed by the locals and have their supply chain in place will end up profiting,” says Andrew Hay of Frontera Accounting, a cannabis-focused CPA firm based in California under the umbrella of the Frontera business group.
A Huge Market Awaits
If the Adult Use of Marijuana Act passes and is enacted by 2018, the state’s legal cannabis sales are projected to hit $1.6 billion in their first year, the ArcView and New Frontier market report said. Even without the new expanded legislation and working amid a fractured medical cannabis regulatory environment, California now accounts for about half of all the legal cannabis sales nationwide, according to the report.
At the same time, the state is well positioned to capitalize on new technology and financing from Silicon Valley in terms of human talent, money and the applications of new technology in both the medical and recreational sectors. One driving force will come from the Adult Use of Marijuana Act, which mandates that 10 percent of sales tax collected on cannabis sales be re-directed towards medical research and drug abuse programs.
In addition, according to Marijuana Politics, the expected tax windfall is slated to be divided up among a variety of programs: $10 million to public universities, $10 million to business and economic development, $3 million to California Highway Patrol and $2 million for medical cannabis research at UC San Diego. The remainder will be divided between youth drug education and prevention (60%), environmental protection (20%) and law enforcement (20%).
This flow of new funds is expected to propel research into biomedical and applied research, as well as nutraceuticals, or products derived from food sources with extra health benefits in addition to the basic nutritional value found in foods. The driving new ingredients in these products will be derived from cannabis.
Consolidating the Recreational and Medical Markets
Californians will vote in November 2016 to legalize the sale of recreational cannabis. This vote will have serious repercussions since it could mean that the delineation between medical and recreational markets will disappear.
“Should California vote to legalize recreational use this November, we expect implementation of a combined regulated market as soon as 2018,” says Matt Karnes, founder of GreenWave Advisors. Karnes says a merged California market is significant, not only because of its sheer size (it represents about 55% of the U.S. market), but also because it “would mark the first state to implement regulations for a fully legal market without initial oversight of medical use purchases. This could serve as a catalyst for similar action in Nevada, Arizona, Massachusetts and Maine which will also vote to fully legalize cannabis this November.”
In the report, “Mid Year Update: The Metamorphosis of the U.S. Marijuana Market Begins,” the firm said it projects cannabis sales in the U.S. to hit $6.5 billion for 2016. The firm forecasts that by 2021, revenues should reach about $30 billion. This assumes that marijuana will be legal in all 50 states to various degrees. The firm also notes that this year’s election choices can potentially generate $4.2 billion in incremental retail revenues by 2018 and $5.8 billion by 2021.
The Impact on Branding, Music and Culture
As the nation’s culture manufacturing center for films, TV and music, the cannabis business is also expected to shape artistic direction for years to come. Jeff Welsh is a partner at Frontera, a business group that holds a suite of services including the Frontera Law Group, Frontera Advisors, Frontera Accounting and Frontera Entertainment, which is headquartered in Sherman Oaks with a specific focus on the cannabis industry. Welsh says he sees more partnerships between the cannabis industry and mainstream entertainment outlets. Welsh recently signed Chris Sayegh, the herbal chef who uses liquid THC to create elegant restaurant-quality food, in a deal with the United Talent Agency. This marks a cultural breakthrough that links the cannabis and culinary industries.
Because Los Angeles is the largest market, this cultural nexus is expected to contribute more new alliances between celebrity branding and cannabis products.
Luke Stanton, founder and managing partner of Frontera, also said less stringent regulations in the cannabis legal environment could find their way into the regulations and laws of other states that often adopt California laws as templates for their own state. “We have seen this happen in other areas, such as environmental and criminal justice, so it would not be surprising to see our state regulations and policies being enacted in states nationwide, and even in some countries outside of the U.S.,” Stanton says.
California has also been the site of innovative marketing efforts between cannabis patients and growers. The Emerald Exchange held in Malibu, was the first event in cannabis that allowed a direct conversation between Northern California cultivators and the Southern California patient community. According to Michael Katz of Evoxe Laboratories, a California cannabis product manufacturer, “Often the farmers don’t have a chance to really engage with patients, and we wanted everyone to be able to come together, discuss practices, provide information and ultimately support the entire ecosystem of the cannabis community.”
Caveats for Investors
While the California market looks very attractive, it may be the siren’s call for investors until issues related to finding solid companies and taxation are settled.
Since more operations will have to become fully compliant with state regulations, these businesses will face more significant expenses to meet security, taxes, licensing fees, accounting and reporting operations requirements. This could drive smaller operations out of business or force them to become more efficient.
In addition, California’s huge potential and changing regulatory environment is attracting large growers into the state that will compete with smaller, established operations. According to Jonathan Rubin, chief executive officer of Cannabis Benchmarks, these regulations affecting commercial growing vary greatly by municipality. For instance, Mendocino and Humboldt counties have enacted measures to protect local growers, while other counties have not, Rubin says.
Credit: cannabisbenchmarks.com
In addition, cannabis wholesale prices have been falling due to changes in cultivation methods and variations in supply.
Andrew Hay, a CPA at Frontera Accounting, believes investors should make sure there is a solid plan behind any cannabis company investment. “I’ve seen significant money thrown behind ‘cannabis brands’ with no substance,” Hay says.
“In these cases, the winners are the growers, manufacturers, distributors and dispensaries that are licensed (or are in the process of getting licensed), who pay their taxes and have a successful track record. I wouldn’t invest until you see the underlying operational structure, their tax/regulatory compliance and financials that prove there have been sales,” he says.
Another major problem for investors lies in the IRS accounting regulations. “The biggest hurdle I see facing the California cannabis business is the IRS / IRC 280E, which only allows cost of goods sold deductions. Every cannabis business should be planning their operations around IRC 280E, as there is no way to legitimately survive in the cannabis industry without doing so,” according to Hay.
“IRC 280E is here to stay regardless of California legalization. It is up to the Federal government to fix this issue, which I don’t see happening any time soon. Every cannabis business should hire a CPA and business attorney that work well together to devise a cost accounting strategy to minimize IRC 280E and its impact. Without this, an investor’s profits can go up in smoke to the IRS,” Hay says.
As of now, it is difficult to find information available on pesticide use and flowering, its effect on the body through combustion and inhalation, and its effect on medical patients with already weakened immune systems. Research suggests up to 69.5% of pesticide residues can stay in marijuana smoke. Of course, there is a need for more research, but it is safe to accept that pesticides already banned for use on foods by the USDA or state departments should not be allowed in cannabis production.
In Colorado, “Nearly six months after the city of Denver began a crackdown on unapproved pesticides in marijuana products, a spot-check by The Denver Post found that the chemicals were still being sold to consumers.” This presents a major problem to an industry still trying to change public opinion for wider legalization efforts.
The Oregonian and OregonLive investigation found pesticides in most of the 10 marijuana concentrates that were screened. “Many of the pesticides detected aren’t regulated by Oregon’s medical marijuana rules, which means products that contain these chemicals still can be sold.”
Just last week, two of the largest recalls in the cannabis industry occurred in Colorado due to potential pesticide contamination. According to The Denver Post, as many as 30,000 packages of edibles produced by two companies were recalled by the Denver Department of Health.
Alex Garton, a cultivator in Michigan, agrees with many proponents of organic methods, citing the need for close management of the plants without pesticides. “The best way to avoid pests is to keep the grow room clean,” he says. “Mites will come and go, as will temperature and humidity issues, but without using pesticides, there are some safe, natural products that are very effective.”
“I treat my plants with natural compounds that are permitted under the federal government’s guidance for use in vegetable applications for human consumption,” Garton adds. “Never use anything remotely resembling a pesticide on flowers particularly when maturing and in the flowering process.”
Adam Jacques, master cultivator and owner of The Growers Guild in Eugene, Oregon, agrees with the sentiment of caution shared by many in the industry. “I would say, nationwide, there needs to be a more in depth look at pesticides, even organic strawberries can have [the pesticide] Eagle 20 on them,” he says. “With cannabis, we can’t scrub and wash pesticides off like fruit that you take off the vine, and there is a real lack of research on residues and combustion.”
Jacques tests all of his cannabis products for pesticides, molds, microbials and pathogens along with potency profiles, most of which is not required by the state. Growers should take lessons from Garton and Jacques by forgoing any application of pesticides until there is more confident state-level guidance on the dangers associated with pesticides on cannabis.
California has enjoyed legal medical marijuana for almost two decades, giving the state one of the greatest head starts in the industry. States like Colorado, Washington, and Oregon have since legalized recreational use for adults and passed legislation providing for state regulation of the industry.
For the past two decades, California’s medical marijuana market lacked strict, enforceable regulations, allowing for a black-market-mentality to remain prevalent.
However, that could all change with a 2016 ballot initiative that would legalize recreational use for adults along with more regulations for medical marijuana. I have noticed a schism developing in the cannabis industry, with some clamoring for more regulations to ensure safety and traceability, and others fearing over-regulation and big business involvement.
In the interest of advancing legalization efforts nationwide with mainstream acceptance, I think regulations that address traceability, testing, and safety are important to jettison the cannabis industry into a legitimate spotlight.
Colloquially known as the “Wolf of Weed Street”, Jason Spatafora, founder of MarijuanaStocks.com and CEO of FBEC Worldwide, Inc. believes that the marijuana market in California could be on par with the tech boom. “Previously, California’s medical marijuana laws might as well have been recreational, but as the state introduces new legislation we will see heavy expansion with companies getting into the recreational market, leading to increasing growth and production, which requires ancillary businesses to support that growth,” he says.
“It is not just the private market that will benefit, the public sector will soon be on par with Colorado when tax revenue begins to grow,” says Spatafora. “California is the most populated state in the country, [and] new legislation will really change the landscape of the cannabis market.”
Matt Karnes, founder and managing partner of GreenWave Advisors, LLC, believes that while implementation of new rules would not go into effect until 2018, the process will be facilitated by existing infrastructure expected to be established for medical marijuana. “We are conservative in our estimates for 2016 and expect that California’s legal medical marijuana market will grow 15% to approximately $2 billion from the 2015 estimate of $1.8 billion,” says Karnes.
According to Karnes’ figures, we can expect both markets to grow considerably over the next five years, leading to a $7.61 billion total marijuana industry in California by 2020.
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