Potential investors are only looking to choose the best companies possible to invest in. As a result, they rely on calculated risk taking in order to determine which bets are likely to deliver returns. The preparation of financial projections by your company allows investors to analyze your startup’s management team, business model, assumptions, and understanding of the cannabis market.
Investors can gather a lot of information from your financial projections and they use them to determine whether your assumptions about the future performance of your business are sensible and if there are actually justifications for such projections within your business plan.
To help you get started, here is a general overview of how financial projections for cannabis related startups are prepared so that investors take your business seriously.
What Documents Go Into Financial Projections?
The three main documents that are used to prepare financial projections are:
In order to draw up these statements, you need to know the income and expenses for your business.
What Costs Should Cannabis Businesses Include in Financial Projections?
If you're seeking financing for your cannabis business, financial projections are essential for convincing lenders and investors that your business plan is viable and that your business will offer them a good return if they decide to invest in your business.
In addition, many business owners are often confused about how to draw up financial projections for the purposes of a business plan because of the fact that they are forward-looking statements and have virtually nothing to do with the historical performance of your business.
To help you understand how financial projections are developed for cannabis businesses, here are the costs that cannabis businesses should include in their financial projections and how assumptions are used in financial projections.
Include Both Variable and Fixed Costs
Here are the costs that you should include in your cannabis business financial projections.
In general, it is recommended that you draw up financial projections that extend three to five years into the future. In addition, some of the costs that you include in your financial projections will be fixed costs while others will be variable costs.
Variable costs are those costs that will fluctuate as your business matures, such as inventory. Fixed costs are those costs that are unlikely to change, such as debt at a fixed interest rate. It is the variable costs that you’ll need to take care with to ensure that your financial projections are indeed realistic.
How to Collect This Information
At its core, creating financial projections is more of an art than it is a science. That is because you are basically making educated guesses about the future performance of your business. In reality, you have no idea what the future has in store for your business. In addition, you just may find that things don't go as planned or the growth of your business actually ends up exceeding your expectations.
Therefore, your financial projections will be based on assumptions. Assumptions are not arbitrary. In fact, they are based on specific formulas. If your business has historical financial statements available, then you can use these in order to identify the formulas to use for your financial project assumption. However, for startups that do not have historical data, many accountants choose to refer to financial statements from approved sources.
EDGAR is a research tool that enables accountants to search the operations data of publicly traded companies. This is one way to obtain relevant financial information so that the financial assumptions used by these companies can be used in the preparations of financial projections for your own startup.
While some information can be gathered solely by using the details of other businesses, some costs will be unique to your business. Therefore, the costs included in your financial projections will likely be a combination of data from established companies and your company’s own data.
How Assumptions Are Used in Financial Projections
Once you’ve obtained the costs that you’d like to include in your financial projections, you’ll also need to make sure that your assumptions tie into the other details that you’ve provided in your business plan, if your goal is to obtain funding for your business. Regardless of your purpose for drawing up financial projections, your assumptions need to be reasonable if you want them to have real value for forecasting the future of your business.
If you're not clear on how to ensure that your financial projections are realistic, you should hire an accountant. An accountant that has experience in the cannabis industry can help you identify the characteristics of a successful, well-run cannabis business. An accountant with cannabis industry experience can also help you to effectively map the future performance of your business to established companies and can recognize the potential concerns that are unique to businesses in your industry.
Use Financial Projections As a Guide for Your Business
You may be interested in drawing up financial projections for your business solely because you want to attract investors. However, the most important reason for doing this is so that you can obtain a better understanding of how your business will do.
Use the details of these financial projections as a guide for running your business. Have financial projections drawn up periodically so that you can always have them available to get insights into the future health of your business.
Even if you aren't pursuing financing, you still need financial projections to plan for the future of your budget. Financial projections help you to budget and the serve as a way to measure the future success of your business, allowing you to identify areas for improvement.
One important thing to note here is that these documents are not the financial statements that you use to prepare your taxes. These documents are actually forward-looking statements while the income statement, cash flow statement, and balance sheet that you use to to do your taxes are historical-looking statements.
As a result, financial projections depend solely on the data that you choose to include in them. Given this fact, it is important that you prepare them carefully in order to avoid gross inaccuracies.
Have Financial Projections Prepared By a Third-party
If the purpose of creating financial projections for your company is to raise capital, you must have them prepared by a third-party. This ensures that your financial projections are free from fraud and the undue influence of company employees and management.
In addition, your financial projections must also be reliable in order for them to be considered of value to potential investors. This is because financial projections are based on assumptions. These assumptions aren’t just made up ideas about what you think will happen to your business in the future.
Assumptions are actually drawn up from financial data of established companies and the historical data of your own business, if available. An accountant will use set formulas to determine the values of specific assumptions in your financial projections.
In addition, financial projections also project your sales and establish expense budgets for your business. In this way, you'll automatically know that if your business is falling behind the financial projections, you need to make some changes to keep your startup afloat. On the other hand, if your business grows faster than expected, you must then put the contingency plans specified by your business plan into action so that your business can adjust accordingly.
What If Your Business Isn’t Started Yet?
If your business isn't actually up and running yet, it's even more challenging to figure out what your income and expenses will be years from now. To help you figure things out, use the market research that you used to develop your current business model. If there are other businesses in the cannabis industry that are similar to yours, look for publicly available information about these businesses.
Just because your business isn't started, that doesn't mean that financial projections are useless. In fact, when done by a professional, they can paint a realistic picture of what your business will look like a few years after it has been established, provided that no unforeseen disruptive events take place.
Projecting Future Profitability for Your Cannabis Startup
For cannabis startups, financial projections generally are designed to project three to five years into the future. This will allow you to see the point at which your business starts to turn a profit. For the cannabis industry, many businesses take years to break even, given the myriad of obstacles that cannabis businesses face.
With delays in achieving growth ranging from federal and state regulatory requirements to licensing, patents, and facility setup, financial projections can actually help you to overcome misplaced optimism about the immediate success of your business. With financial projections, you’ll have a more accurate picture of how the growth of your cannabis startup will look.
If you own or plan to own a cannabis business, it’s important to know that getting financial support from most banks will be difficult to do—but resources are available to help. We’ve put together a quick checklist for things to consider when trying to set up banking with your Marijuana business.
In 2014, the United States Department of the Treasury’s Financial Crimes Enforcement Network (FinCEN) issued guidance for financial institutions on this matter. Their goal was to clarify the expectations of the Bank Secrecy Act—which requires financial institutions to detect and prevent money laundering—in light of recent state initiatives to legalize marijuana.
By looking at FinCEN’s guidelines for financial institutions, marijuana-related business owners can get a good idea of what they need to do in order to give themselves the best chance of receiving financial support from these institutions.
Below are some things to keep in mind:
Have you submitted an application and supporting documents for a state license?
It is imperative that you obtain the proper state license to operate if you wish to receive any financial support. Financial institutions want to be sure that you are legally allowed to operate your business, otherwise they could face consequences for funding your business.
Are you duly licensed through the local authorities?
Occasionally, local jurisdictions require further licensing or have restrictions on marijuana-related businesses altogether. Be sure that in addition to your state license, you also are legally allowed to operate locally and licensed if needed.
Have you properly vetted other parties you do business with?
If you are doing business with other cannabis-related parties, you will want to vet them to make sure they are properly licensed and documented as well. Any affiliation with an unlicensed or improperly maintained third party could reflect poorly on you.
Have you properly vetted your employees?
In a similar vein to vetting any businesses you associate with, you also will want to ensure that your employees have no previous criminal records, especially those relating to money laundering or illegal drug trafficking.
Do you have a policy in place for the products you will sell and customers you will serve?
It is important to thoroughly document the type of business you do, as there are big differences depending on whether you sell or produce medical marijuana as opposed to recreational marijuana. Keep track of everything your business does in some way.
Do you have a good understanding of your business’ reputation?
Stay on top of current rulings and regulations so as not to fall out of compliance with authorities on a state or local level.
Do you fully understand the Cole Memorandum and your state’s laws?
Having an understanding of what is legally expected of you is imperative, because if you violate a state law or the Cole Memorandum in any way, financial institutions have every right to immediately pull their support and report your business.
Can you demonstrate a legitimate source of significant outside investments?
This is something that all businesses should do, regardless of whether they are marijuana-related or not. Financial institutions are more open to providing financial support if they can see that other institutions or investors have faith in your business.
Because of the Bank Secrecy Act, failing to follow any of these guidelines might result in worse than just losing financial support. Depending on the severity of the situations, it may be the financial institution’s responsibility to report you and your business, resulting in being shut down and, possibly, legal ramifications.
In the end, it is your responsibility to be diligent and transparent about your business’ operations if you wish to obtain or continue receiving financial support from an institution. If you have any questions with regards to this, please don’t hesitate to contact us.
The Financial Crimes Enforcement Network (“FinCEN”), a bureau of the U.S. Department of the Treasury that is responsible for receiving, maintaining, and analyzing the financial transactions data of businesses for law enforcement purposes, has issued guidance in order to clarify the Bank Secrecy Act (“BSA”) expectations for financial institutions which seek to provide banking services to marijuana-related businesses. The BSA requires U.S. financial institutions to assist U.S. government agencies to detect and prevent money laundering.
These updates have been made because there is has much confusion among the nation’s financial institutions on how to legally conduct business with marijuana-related businesses. As of 2016, certain marijuana-related activities have been legalized in 25 states and the District of Columbia.
The Cole Memo
At the same time, the U.S. Department of Justice Deputy Attorney General James M. Cole issued a memorandum (the "Cole Memo"), to provide guidance to federal prosecutors concerning marijuana enforcement under the Controlled Substances Act (“CSA”), which makes it illegal under federal law to manufacture, distribute, or dispense marijuana.
The memo reiterates Congress’s determination that marijuana is a dangerous drug and that the illegal distribution and sale of marijuana is a serious crime that provides a significant source of revenue to large-scale criminal enterprises, gangs, and cartels.
The U.S. Justice Department has offered assurances that it will not pursue criminal charges against marijuana-related businesses that are operating legally under state law. However, this non-enforcement stance has not guaranteed any protection for financial institutions.
Guidance for Financial Institutions
The FinCEN guidance clarifies how financial institutions can work with marijuana-related businesses while also making sure that their policies are inline with the marijuana enforcement activities of the U.S. Department of Justice under the CSA.
Financial institutions have been advised under the BSA to conduct due diligence for each customer to determine the risks of providing services to such business. The due diligence should include a thorough review of the business's registration and licensing with state authorities.
Financial institutions are also required to monitor these business on an ongoing basis and file suspicious activity reports ("SARs") where warranted. Three types of SARs may be filed, namely:
●“Marijuana Limited” SAR Filing. This report should be filed by the financial institution solely because the business is a marijuana-related entity and not because the business has violated state law or one of the Cole Memo priorities.
●“Marijuana Priority” SAR Filing. This report should be filed by the financial institution primarily in the case that the business violates state law or the priorities of the Cole Memo.
●“Marijuana Termination” SAR Filing. This report should be filed in the event that the financial institution wants to terminate the relationship with the business due to suspicion that illegal activity is taking place and to maintain the anti-money laundering compliance program of the financial institution.
Currency Transaction Reports ("CTRs") and Form 8300 are also required by FinCEN's regulations for financial institutions that offer services to any business that engages in marijuana-related activity.
Despite these updated guidelines, the fact that marijuana is still illegal under federal law but has been legalized in certain states has made almost all financial institutions outright reject doing business with marijuana-related businesses.
What Are the Banking Alternatives for Dispensary Owners?
At present, the majority of dispensaries are forced to pay their employees and vendors in cash while customers use an ATMs to obtain cash for purchases because of the conflicting laws for financial institutions. However, there is hope that the law may change in the near future.
The H.R.2029 - Consolidated Appropriations Act, 2016 bill, recently signed by President Obama, has a single sentence contained within the bill that says that the Department of Justice may not use money appropriated to it to prevent states from implementing laws regarding medical marijuana. However, banking reform was not specifically included within the bill.
In the meantime, alternative banking options are emerging for marijuana-related businesses that have been turned down by banks or do not meet the requirements of major financial institutions. Marijuana-related businesses can use online business directories and other industry resources to find payment solutions.
A number of payment processors have stepped up to provide transaction processing without the cash. Cashless ATMs for marijuana-related businesses are available from payment processors including Meta Payment Systems, Best Point of Banking, GreenStar Payment Solutions, Medical Cannabis Payment Solutions, and First American Merchant Funding.
Despite the fact that cryptocurrencies have been used in black market purchases of marijuana, they may also soon be used to help dispensary owners collect payments from customers. Cryptocurrencies, including Bitcoins, and PotCoins, are emerging as viable options for legal marijuana-related businesses.