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Cannabis banks and fintech
Yesterday, referring to the Silicon Valley Bank debacle, I wrote, “[cannabis] companies can’t get banked anywhere, so they’re unlikely to be impacted too much by the collapse of SVB (Silicon Valley Bank).”
This comment was tongue-in-cheek, as there are some banking options for cannabis companies — diligent Money Puff readers even emailed me with the specific banks they use. So it’s worth a discussion of the options that exist, and an explanation of why they are so limited.
Let’s start with the basics. When you run a business, you take money from customers. Most business owners don’t want to keep all that money on hand, so they open a bank account and deposit what they earn. They also use that bank account to pay out their expenses, the money they owe vendors, employees, and other stakeholders.
Banks are in the business of taking people’s money; they often like taking money from small businesses because there are a whole bunch of other services you can upsell once they bank with you.1 However, there are risks.
The risks are not always apparent. What’s so hard about holding onto people’s money?
The most common answer is that banks don’t just hold onto your money — they lend it out to other people. This is the classic model of a bank; you get cheap deposits that you pay a little interest on, and you lend those deposits out to other people at a higher rate of interest. If all goes well, you sit back and make the spread between the deposit rate and the lending rate.
But what happens if all your depositors ask for their money back at the same time?2 This is what went wrong at Silicon Valley Bank. It’s called a bank run, and it’s particularly bad when your depositor base acts like a herd of sheep.3 It’s been explained in detail elsewhere and — as always — I recommend reading Matt Levine’s take.
In cannabis, this is not the chief risk, nor the reason banks won’t take on cannabis businesses as customers. I mean, they were willing to lend money to every Theta Beta Kappa with a pizza delivery startup in the Bay, so they can’t be that concerned with depositor flight or concentration risk.4
The primary reason that banks won’t accept cannabis customers is because cannabis is federally illegal. That means that banks run the risk of getting charged with something very scary: money laundering. Here’s the position of the American Bankers Association:
Currently, thirty-seven states, the District of Columbia, Guam and Puerto Rico have all legalized the use of marijuana to some degree. Yet the possession, distribution or sale of marijuana remains illegal under federal law, which means any contact with money that can be traced back to state marijuana operations could be considered money laundering and expose a bank to significant legal, operational and regulatory risk.
When a bank does happen to do business with a cannabis (marijuana as boomer bankers still call it) company, they file a Suspicious Activity Report with the Financial Crimes Enforcement Network. This is a way to cover their asses in case anyone probes further; it also provides a look into how many banks purportedly work with cannabis companies nationally. As of September 2022, 784 financial institutions across the U.S. filed such reports. That number has risen since guidance was released in 2014, but has remained relatively flat over the last few years.
That 784 is out of over 4,000 commercial banks and over 5,000 credit unions across the US. It’s also worth noting that a bank filing a SAR does not mean they do business with the cannabis company; they could have an account for, say, six months before the bank decides to shut them down. So the actual number of viable options is probably fewer than the paltry figures suggest.
We started with the premise that there are in fact cannabis banking options, so clearly some institutions consider the risk worth it. In a low rate environment, banks all across the country have been hunting for new ways to make money. Instead of giving Chadworth Moneybags III a mortgage against his stock in the pizza delivery company, some banks decided they wanted to take on the risk of cannabis banking. This newsletter applauds those institutions for their gumption (and has a clear bias against Silicon Valley and their backers).
I used to be a fintech banker, so I naturally gravitate toward those solutions. Green Check Verified is one such solution, and it lays claim to all the fintech buzzwords it possibly can: it’s a platform, an end-to-end solution with a compliance rules engine and streamlined reporting. And, of course, it has a marketplace “to connect cannabis businesses with the trusted financial and business services they need to successfully support their needs and find sustainable growth.” I could have had this pitch deck finished in 20 minutes.
In all seriousness, Green Check does provide a valuable service to both their financial institution customers as well as the cannabis businesses using the platform. According to an interview with New Cannabis Ventures, the platform is free for their cannabis clients to use to find banking partners. The company charges financial institutions a fee per account, and also takes a cut of the dollars that ultimately flow through the system. (Green Check verifies each transaction for compliance and reporting purposes.)
Banks pay Green Check for this service because Green Check is cutting down on the risk that the bank has to take on when sourcing, verifying, and onboarding new cannabis customers. The ongoing reporting and compliance features also ensure (to the extent possible) that the banks will keep up with relevant laws and stay on the right side of regulators.
In true fintech fashion, Green Check also acquired a payments service last year, PayQwick. From PayQwick CEO Bob Craig in the press release:
“The combination of our teams and the application of our complementary technologies provide a comprehensive ecosystem for banks, credit unions, cannabis and ancillary businesses. Our infrastructure will facilitate more than just compliant deposits and payments, as it will permit real-time transactions that include lending, supply chain settlements and banking solutions not previously available to the cannabis financial community.”
If you’re paying attention, you might note that this business really only exists because cannabis is federally illegal. Once the feds give the all clear, banks should be able to sign up weed shops with no problem and little incremental risk.
But that’s not the point of companies like Green Check. The point, run from the tried and true financial services playbook, is to ingratiate yourself into your customers’ financial operations as much as possible. Taking your deposits elsewhere may be relatively easy for businesses, but it’s harder to switch your payroll provider, insurance carrier, working capital lender, and your point-of-sale and reporting system. Once you’ve built a ‘comprehensive financial ecosystem,’ you should theoretically have a nice little business for a long time to come.5
Payroll, expense management, receivables factoring, insurance, B2B payments, etc.
And rates rise quickly, cratering the value of your loan book.
Venture Capital investors do not, despite popular belief, have any unique perspectives or contrarian views. When I was an investment banker, the number one selling point of any investment to the hundreds of smaller shops was that a big name like Tiger Global or SoftBank was leading the round; the follow-on investors often did zero due diligence beyond writing those names down in their investment memo.
I’m kidding, but I’m also not.
Unless, of course, your comprehensive financial ecosystem is concentrated with narcissistic, privileged jerks who spend all day tweeting as their ‘value-added’ service. Sorry, couldn’t resist.