Can banking reform help grow cannabis stocks?

Cannabis stock Curaleaf received a major fillip at the end of last month, after Congress reintroduced the SAFE Banking Act. Analysts are optimistic that there’s enough support from both parties to get it passed through the Senate.

- Congress has reintroduced the SAFE Banking Act after many months of delays, boosting US cannabis stocks.

- Access to traditional banking services should help companies to expand their operations.

- The AdvisorShares Pure US Cannabis ETF has rallied 12% in the past month.

It’s no secret that US banks are reluctant to accept money from legal cannabis companies. After all, marijuana is illegal at the federal level.

The lack of access to traditional banking services has meant that weed shops are often forced to deal in cash. Payment merchants have been clamping down on so-called ‘cashless ATMs’, which disguise transactions as ATM withdrawals – Visa [V] issued a memo in December 2021 warning that selling cannabis via cashless ATMs violated its service rules.

Cashless ATMs had allowed dispensaries to accept payments by credit card and were a popular workaround to traditional credit companies that didn't want to do business with the industry. They were expected to have processed a quarter of the $28bn in US dispensary sales forecast for 2022, Bloomberg reported last year.

US multi-state operator (MSO) Curaleaf [CURLF] revealed to Bloomberg in April 2022 that around a third of its dispensary sales were being made through cashless ATMs. The company does offer an alternative payment option that enables customers to have funds transferred directly from their bank accounts. However, it requires them to share their bank details and routing info.

The passing of the SAFE Banking Act, which would prevent banks from being fined or facing federal prosecution for offering services to legal cannabis companies, would resolve this challenge for cannabis purveyors and their customers.

Federal reform nears finish line

There was good news on the SAFE Banking Act at the end of April. Following months of delays, the bill was reintroduced in Congress after bipartisan lawmakers made amends to it, and received support from both parties.

In a statement, Senator Jeff Merkley, one of the senators who introduced the bill, said that, for the first time, “we have a path for SAFE Banking to move through the Senate Committee”, and suggested that 2023 could see the bill signed into law.

The Curaleaf share price has been rallying since the news.

Earlier versions of the SAFE Banking Act had passed the House of Representatives seven times, but continuously fallen short of the simple majority required to pass the Senate. There is confidence that the current iteration of the bill could gain the support necessary to pass.

Curaleaf founder and executive chairman Boris Jordan said on the company’s fourth quarter (Q4) 2022 earnings call on 1 May that the reintroduction of the bill was “a symbolic and important gesture [that], to me, shows a willingness and a commitment to getting much-needed federal reform across the finish line”.

Bill should drive growth

Jordan used Curaleaf’s earnings call to share some insight into recent cost-cutting measures, including laying off employees. The company has also decided to exit unprofitable states, while focusing on “high-margin, high-return opportunities” in Arizona and Florida.

The “substantial price compression and continued lack of illicit market enforcement” in California and Colorado meant the company “could not justify investing more capital and time” to build the presence required to compete.

The SAFE Banking Act should be a key driver of growth. While it might not make the cannabis industry more profitable in the near term, it should help to alleviate some of the pressures on companies and allow them to operate more widely and expand their businesses.

Canadian producers, among them Tilray [TLRY] and Canopy Growth Corporation [CGC], should benefit the most from federal legislation, given that they already have infrastructure in place to operate in Canada’s legal market.

Germany also poses legalisation challenge

If the bill is passed, however, it’s unlikely that big banks will start to take on cannabis clients immediately.

Uncertainty over federal legislation has been pushing some producers into increasing investment in Europe, particularly Germany, where it had been expected that the government would soften its stance on cannabis. But similar delays there have led Tilray to scale back its sales target for next year.

“The $4bn sales target by the end of [fiscal year] 2024 was conditioned upon federal legalisation of cannabis in the US — with a projected $100bn market — as well as adult-use legalisation in Germany,” a spokesperson told MJBizDaily in February.

Germany’s industry was dealt a further blow in mid-April when the country’s health minister scaled back plans to let shops and pharmacies sell cannabis. Individuals will be allowed to privately grow small amounts, however.

Regulatory disappointment priced in

Until the SAFE Banking Act is passed, the cannabis industry’s potential is likely to remain stifled.

The good news is that the slow progress had led to disappointment, weighing on investors' expectations, and this had been priced into the sector, as Amplify ETFs portfolio manager Tom Seymour explained in his Q1 review of the Amplify Seymour Cannabis ETF [CNBS].

“The cannabis industry has been waiting for something, and it’s like waiting for Godot,” said Seymour.

Regardless of regulation, the tough macro environment means that the ability to generate free cash flow will be crucial to surviving the rest of the year, stressed Seymour.

“I think [survival] is not the question for the top six or seven or 10 players. I think they have the balance sheet, the flexibility and the asset base,” he added.

Funds in focus: Amplify Seymour Cannabis ETF

CNBS holds Tilray and Curaleaf as its top and third-biggest holdings respectively, with weightings of 12.02% and 9.15% as of Tuesday.

Unsurprisingly, US and Canadian companies account for 65.36% and 26.68%, respectively, of the geographical exposure; Ireland makes up 7.94% and the other 0.02% has been allocated to Israel. MSOs make up 34% of the portfolio, while cultivation and retail accounts for 28%; pharmaceuticals and biotechnology for 12%; real estate and agricultural technology for 8% each; investing and finance 7%; hemp products for 2%; and 1% to “other”.

CNBS is down 50% in the past year, down 36.5% in the past six months and up 4% in the past month.

The AdvisorShares Pure US Cannabis ETF [MSOS] has Curaleaf as its second-biggest holding, with a weighting of 16.99%, as of Tuesday. The fund has 100% of its exposure within the US. It is down 56.3% in the past year, down 46% in the past six months and up 12.4% in the past month.

Tilray is the top holding in the Global X Cannabis ETF [POTX], which has 53% of its exposure in health care, 19.1% in real estate, 18.5% in consumer staples, 5.5% in financials and 3.9% in communication services. The fund is down 58.1% in the past year, down 37.8% in the past six months and down 4.1% in the past month.