CAN Capital is back in business, thanks to a capital infusion by Varadero Capital, an alternative asset manager. Terms of the capital arrangement were not disclosed.
CAN Capital stopped funding late last year and removed several top officials after the company discovered problems in how it had reported borrower delinquencies. The discovery also resulted in CAN Capital selling off assets, letting go more than half its employees and suspending funding new deals, among other things.
Now, however, the company has a new management team and its processes have been revamped and staff retrained in anticipation of a relaunch, according to Parris Sanz, who was named chief executive in February. He was the company’s chief legal officer before taking over the helm after then-CEO Dan DeMeo was put on leave of absence.
As of today (7/6), CAN Capital has resumed funding to existing customers who are eligible for renewal. Within a month, the company plans to resume providing loans and merchant cash advance to new customers. It will have two products available in all 50 states—term loans and merchant cash advances with funding amounts from $2,500 to $150,000.
To be sure, getting back into the market after so many months will be a challenge. “I think we’re absolutely going to have to work hard, no doubt about it. In many ways, given our tenure and our experience, the restart may be easier for a company like us versus others. Based on the dynamics in the market today, I see a real opportunity and I’m excited about that,” Sanz said in an interview with DeBanked.
Since its founding in 1998, CAN Capital has issued more than $6.5 billion in loans and merchant cash advances. It’s one of the oldest alternative funding companies in existence today, and, accordingly, it shook the industry’s confidence when the company’s troubles became public late last year.
The new management team includes Sanz, along with Ritesh Gupta, the chief operating officer, who joined CAN Capital in 2015 and was previously the firm’s chief customer operations officer. The management team also includes Tim Wieher as chief compliance officer and general counsel; he initially joined the company in 2015 as CAN Capital’s senior compliance counsel. Ray De Palma has been named chief financial officer; he came to CAN Capital in 2016 and was previously the corporate controller. The management team does not include representatives from Varadero.
Varadero is a New York-based value-driven alternative asset manager founded in 2009 that manages approximately $1.3 billion in capital. In the past five years, Varadero has allocated more than $1 billion in capital toward specialty finance platforms in various sectors including consumer and small business lending, auto loans and commercial real estate. In 2015, for instance, Varadero participated in separate ventures with both Lending Club and LiftForward.
Varadero began working with CAN Capital as part of its efforts to pay down syndicates. Varadero bought certain assets from CAN Capital last year and provided enough funding to allow CAN Capital to recapitalize. “The recapitalization enabled us to pay off the remaining amounts owed to our previous lending syndicate and provided us with access to additional capital to resume funding operations,” Sanz says. He declined to be more specific.
“We were impressed with the overall value proposition of CAN’s offerings as evidenced by the strength of its long standing relationships, the company’s core team, sound underwriting practices, technology and the strong performance of their credit extension throughout the cycle,” said Fernando Guerrero, managing partner and chief investment officer of Varadero Capital, in a prepared statement. “We’re confident the company’s focused funding practices will allow it to serve small business customers for many years to come.”
Guerrero was not immediately available for additional comment.
DLA Piper served as legal counsel for, and Jefferies was the financial advisor to, CAN Capital, while Mayer Brown was legal counsel to Varadero Capital, L.P.
Since its troubles last year, CAN Capital had been working with restructuring firm Realization Services Inc. for assistance negotiating with creditors. It also worked with investment bank Jefferies Group LLC for advice on strategic alternatives.
Sanz declined to discuss other options CAN Capital considered, noting that the Varadero deal provides the firm the opportunity it needs to jump back into the market—this time with “tip top” operations in place.
He declined to say how many employees the firm still has, other than to say it is now “appropriately staffed.” In addition to getting rid of the prior management team, CAN Capital reduced staffing in numerous parts of its business. That includes nearly 200 positions at its office in Kennesaw, Ga, according to published reports.
The company will still be called CAN Capital. “We feel that that brand has a recognition in the market, in particular with our sales partners,” Sanz says.
It’s usually risky to say “first,” “largest” or “best,” but CAN Capital invites those superlatives and more.
Asked whether the company’s the biggest in the alternative funding business, CEO Dan DeMeo hedges only a little with qualifiers like “might” or “probably” before proudly announcing that the company has provided access to more than $5.5 billion in working capital through 163,000 fundings to merchants operating in over 540 different kinds of businesses.
Glenn Goldman, the company’s CEO from 2001 to 2013 and now Credibly’s chief executive, doesn’t mince words about his former employer when he calls CAN Capital the biggest and most profitable small business alternative finance company in the U.S.
Cofounder and Chairman Gary Johnson proclaims without hesitation that CAN Capital was the first alternative small business finance company. His wife and cofounder, Barbara Johnson, came up with the idea of the Merchant Cash Advance in 1998 when she had trouble raising funds to promote her business, he said.
CAN Capital developed the first platform to split card receipts between the merchant and funder, and it gave birth to the idea of daily remittances, Johnson continued. Within a few years of its founding the company was turning a profit, another first in alternative finance, he claimed.
The innovation continued from there, according to Andrea L. Petro, executive vice president and division manager of Lender Finance, a division of Wells Fargo Capital Finance. She cited a couple of possible firsts she’s witnessed in her dealings with CAN Capital.
When CAN Capital received a loan from Wells Fargo in 2003, it may have been the first sizeable placement in the alternative finance industry by a major traditional financial institution, Petro said. In 2010, CAN Capital was among the first alternative funders to offer direct loans, she noted.
Petro stopped short of characterizing CAN Capital as the best in the alternative finance business, but she praised the company’s management and lauded its systems for underwriting and monitoring funding. “They continually upgrade their systems, upgrade their software, upgrade their people,” she said.
Calling CAN Capital one of the best comes naturally to Kevin Efrusy, a partner at Accel Partners and a CAN Capital board member. Accel saw opportunity in alternative finance because banks were reluctant to lend at the same time that an explosion of data on small businesses was informing the underwriting process. When Accel sought a position in the industry, it contacted CAN Capital, he said.
“Frankly, CAN Capital didn’t need or want our money,” Efrusy said. “We approached them.” Five years ago, Accel convinced CAN Capital that additional resources could help the company grow, and it bought a stake in the company.
With so many extolling the virtues of CAN Capital, deBanked asked DeMeo for a look at the thinking that underlies the success.
CAN Capital pursues a strategy that DeMeo visualizes as a honeycomb. In the center cell, he places the objective of “helping small businesses succeed.” The compartmental element above that provides a place for the goal of serving as “the preferred provider of financial solutions to small business,” he said. The company’s cultural values, summarized as “Care, Dare and Deliver,” reside in the compartment below the center cell as table stake underpinnings, he added.
DeMeo also describes the company as driven by four strategic planks: “1) Expand the market, 2) broaden the product set, 3) deepen relationships with customers, and 4) achieve operating excellence,” he said.
What does success look like to the company? To DeMeo, it’s dramatic growth in the number of customers, resulting in increased revenue, a more valuable company and better career opportunities. “Digital automation and customer experience are at the center of those efforts,” he said.
CAN Capital operates with a “huge appetite for ‘test and learn,’” according to DeMeo. “That’s how we keep innovation alive,” he said.
And the result of all that? The company has increased fundings by 29 percent (CAGR) and revenue by 24 percent (CAGR), with corresponding growth in earnings, DeMeo said. It has also grown its digital business by 600 percent since 2014, he noted.
AT THE WHEEL
DeMeo, the man at the top of CAN Capital, joined the company in 2010 as chief financial officer and became CEO early in 2013. He was previously CFO at 1st Financial Bank, and also served as CFO for JP Morgan Chase’s consumer and small business unit. DeMeo also was chief marketing officer and ran business development head for GE Capital’s consumer card unit. His career began at Citibank, where he held senior roles in marketing and customer analytics.
“I was very fortunate to work for some pedigree companies earlier in my career,” DeMeo said. “Those companies emphasized market based training and development, and I worked with very smart and hardworking people. I also had great experience in unsecured lending.” His formative years left him with great appreciation for “behavioral analytics and the quantitative, information-based approach to business finance.”
Experience convinced him, as a CEO, the importance of attention to the balance sheet and income statement. It’s vital to combine that with innovation and growth orientation, DeMeo said. He seeks to lead, inspire and motivate employees, he emphasized.
DeMeo grew up in Atlantic City, NJ, with parents who valued hard work, education and maximizing opportunity. His wife and three children have supported him in his career despite the long hours and dedication necessary for success.
At CAN Capital DeMeo has faced the challenge of managing the business through internal and external cycles. Running the company often comes down to balancing what customers want with what makes economic sense, he said. “Pigs eat, and hogs get slaughtered,” he maintained. “You can’t get too greedy.”
DeMeo runs the company without the help of a President or Chief Operating Officer. While DeMeo serves as the public face of the company, he also devotes himself to every aspect of operations, he said.
WHAT’S IN A NAME?
Although CAN Capital’s drive for technological innovation and its measured approach to fundings have remained constant, the company has renamed itself several times to fit changing times.
In November 2013, it rebranded itself publicly as CAN Capital, and the company now provides access to business loans through CAN Capital Asset Servicing Inc, and Merchant Cash Advances through CAN Capital Merchant Services.
With the CAN Capital rebranding, it dropped the umbrella name of Capital Access Network. At the same time, it retired the AdvanceMe, New Logic Business Loans and CapTap names.
Most of the company’s old names applied to products or distribution channels, DeMeo said. The company had added them when it presented a new product, such as loans, or introduced a way of going to market, like end-to-end digital technology.
Consolidating the names reflected the company’s decision to put its direct marketing efforts on equal footing with business generated by partner companies, DeMeo said. Having just one name would result in a more efficient approach to building a stronger brand, he noted.
“The opportunity is to create one brand, multiple products and omni channel distribution under one company,” he said. “For a company our size, it would be hard to create brand awareness if you had to put significant promotional support behind every one of those sub brands.”
CAN Connect is a sub-brand that has survived. “That’s not a product name or distribution channel name,” DeMeo said. “It’s the technology suite we use to connect with partners so that we can exchange information in real time.”
CAN Connect is a way to speed up the process and eliminate friction for customers and partners. For example, a partner is able to link their CRM directly into CAN Capital’s decision engine, eliminating manual steps in submitting and generating offers. For partners with a customer-facing portal, CAN Connect enables an offer to be made available in real time to a small business owner, taking advantage of data sharing APIs to tailor the marketing message to fit the prospective customer’s needs.
Attention to detail pays off in repeat business for CAN Capital, in DeMeo’s view. “Almost 70% of our merchants return for another contract,” he said
By all accounts, CAN Capital is a company born of necessity. Barbara Johnson, who had the brainstorm that became CAN Capital, was running four Gymboree playgroup franchises in Connecticut and needed funds to finance summertime direct marketing efforts for fall enrollment.
But her company didn’t have much in the way of assets to pledge, so banks weren’t interested in providing funds. Why, she reasoned, couldn’t she just borrow or receive an advance against the credit card receipts she knew would flow in when the kids came back in the autumn? Thus, she gave birth to an industry.
Barbara Johnson and her husband, direct marketing executive Gary Johnson, cofounded the company as Countrywide Business Alliance and put up their own money to build a computerized platform to split card revenue, Gary Johnson said.
Then they persuaded a card processor to partner with them. Once they were operating and had signed their first customer, venture capital began flowing their way to grow the business. These days, the Johnsons remain major shareholders.
“What made it an interesting concept was how huge the market potential was,” Gary Johnson said. “That’s what the attraction still is today.” Although Merchant Cash Advances may now seem commonplace, they were startling at first, he said. “When we first went out in the marketplace, everybody thought it was a crazy idea,” he noted.
The company earned patents on processing related to Merchant Cash Advances and daily remittances, Gary Johnson said. At first, the patents deterred potential competitors from entering the business, but the company was unable to defend the patents successfully in court. Rivals then entered the fray.
Just the same, the company became profitable early on through “deliberate decision-making, having the right people in place and being bigger than everybody else,” he said.
Much of the company’s early business came through firms that provide merchants with transaction services, and that remains the case today, DeMeo said. Many were placing point of sale terminals in stores and restaurants to accept credit cards, and working capital became an upsell or cross-sell, he noted.
The large base of business CAN Capital built with merchant services companies means it will always be an important channel for the company. Recently, new merchant sign-ups have come from more diverse channels, including cobranded and referral partners, and the fast-growing direct marketing channels.
From the beginning, the merchants receiving capital used it to grow their businesses, DeMeo said. “That feeds the whole economic system and creates jobs,” he said.
TODAY’S NUTS AND BOLTS
Daily remittances give CAN Capital nearly constant insight into how well customers are performing, which enables the company to discover potential issues quickly and take action. Such close monitoring also provides the company with enough information to enable funding opportunities that competitors might pass up, DeMeo said.
“The basis for our decisions is how the business performs and business-specific indicators, such as capacity and consistency, versus looking at the personal credit history of the business owner,” DeMeo noted.
Having that data also helps the company create models it can use to serve other businesses in the same classification, DeMeo said. “It’s poured into machine learning for future decisioning,” he maintained. “It’s a cool concept, right?”
The company’s 450 or so employees work in several locations. Three hundred of the total are attached to the office in Kennesaw, GA, the region where the company first set up operations. To this day, that’s where the company conducts most of its business, DeMeo said.
About 25 employees work in technology and operating support in offices in Salt Lake City because the area offers a strong talent pool and provides the company with additional time zone coverage, DeMeo said.
Some of the company’s former executives came from Western Union, which had a presence in Costa Rica. About a hundred employees are now stationed there, working on technology, maintenance and development. That location also houses back-office redundancy for the company, too.
On Manhattan’s 14th Street, the company has 30 or so employees, who include digital engineers, marketing and business development teams, the human resources lead, the chief financial officer, the chief legal officer, and the chief executive officer. The company moved its executive office there from Scarsdale, NY to take advantage of the digital boom, he said, adding that, “Google’s right around the corner.”
Compared with most companies in alternative finance, CAN Capital has little venture capital as part of its ownership structure, DeMeo said. “It’s a self-sustaining business. We’re not forced to approach the capital market to cover our burn rate. We’re cash-flow positive.” Competitors have to borrow to fund their growth, he noted.
The company has taken on infusions of debt financing, not equity financing. In the latter, a company is selling part of itself, DeMeo said. “We raised $650 million from a syndicate with five new banks and 10 banks in total.” The company completed a securitization of $200 million the year before, he said.
CAN Capital recently introduced the new TrakLoan product that has no fixed maturity date, with daily payments that are based on a fixed percentage of card receipts. This way, payments ebb and flow with the merchant’s card sales. CAN Capital is also testing “bank-like” installment loans of as much as $500,000 with a payback period of up to four years.
And there’s nowhere to go but up, in the view of CAN Capital executives. With a market of 28 million small American merchants and penetration of between 5 and 10 percent, they see plenty of potential to keep earning superlatives.
As the year ends, lenders and funders across the globe are looking to meet goals, help businesses, and close the books on some of the most unpredictable months the industry has ever seen. Whether it comes to improving technology, hiring more staff, or creating completely new concepts on how to do business, any company worth its salt isn’t just going to be content with just staying stagnant.
“Our main goal for this year’s end is to scale our small business loan and MCA deal flow in order to maximize our syndication opportunities, which we want to overtake commission as our primary revenue stream,” said Zack Fiddle, President of CapFront. “We’ve already built a robust CRM and marketing automation system over the past year, we have great people and a proven process and product, and we just moved to a much larger space.”
From a brand-new office in Garden City, Fiddle seems to be expanding his company on multiple fronts. “The next step for us is hiring more support staff and more account managers to handle more leads from increased media [spending] and more referrals from our various business development channels,” he said.
Other fintech brands are looking to come up with new ideas surrounding borrowing. “We are coming out with a special lawyer loan,” said Justin Leto, co-founder and CEO of Miami-based Idea Financial, whose recent announcement about LevelEsq will allow the firm to divi out loans to attorneys who wait to get paid until when —or if — their client wins. “We’ll have the only insurance product that is available on the market that will cover the downside risk that the case [the attorney] is borrowing on goes to trial and loses.”
“It’s a really exciting time here at Idea Financial because we are able to leverage a lot of our existing resources and expertise to enter an entirely new market, which is legal lending,” said Larry Bassuk, co-Founder and President of Idea Financial.
Other firms are taking the current political and social climates into consideration when it comes to their end-of-year plans. “[We’ll] be analyzing risk a little more in case there is another lockdown,” said Drew Matthew, CEO of Infusion Capital Group. The two-person firm doesn’t plan to expand their staff too much going into the new year, but Matthew did flirt with the idea of bringing on an ISO-rep as his business expands.
“I think we’re going to pick up dramatically,” said Matthew when asked about the number of his future clients. “Once there’s no more [covid restrictions], SBA money, or no more fear of another pandemic shutdown, no matter what [we charge], the small businesses in America need us.”
This risk and surrounding political climate have no influence on the location of Infusion Capital’s offices in the future. “I know everyone is going down to Florida, but not us,” said Matthew. “New York or nowhere, baby.”
As seasons change and the year ticks its final months, lenders, much like the businesses they support, are looking to find the next best way to edge out competitors while offering the best product and services for their customers.
OnDeck is the world’s largest non-bank online small business lending platform.
Federal Reserve says small businesses are turning to online lenders in record numbers
NEW YORK, N.Y., September 12, 2018 – – OnDeck® (NYSE: ONDK), today announced it has achieved a milestone in the Financial Technology (FinTech) industry, becoming the first non-bank online lender to surpass $10 billion in total loans originated to small businesses. OnDeck, with operations in the United States, Canada and Australia, is now the world’s largest non-bank online lender to small business by total loan volume.
The achievement by OnDeck, a pioneer of the FinTech lending industry, is the latest indication that small businesses increasingly prefer to seek financing online. According to the recent Small Business Credit Survey from the Federal Reserve, small business owners are turning to online lenders in record numbers. In 2017, 24 percent of small businesses seeking credit applied online, up from 21 percent the previous year. Not only did the total number of loan applications to online lenders increase in 2017, but satisfaction rates of small businesses soared almost 50 percent year-over-year.1
OnDeck provided its first small business loan online in 2007, taking just 11 years to pass $10 billion in total loan volume in a digital lending market it helped create. The majority of OnDeck’s lending occurred in the last few years as it gained scale, with the company originating $2.1 billion in loans in 2017 alone.
“If reaching $10 billion dollars in total loan volume online tells us anything, it’s that the days of old-fashioned lending to small businesses are numbered,” said Noah Breslow, Chairman and Chief Executive Officer, OnDeck. “We created OnDeck because we believed the Internet could revolutionize and speed up the way underserved small businesses access capital. Today, we are helping to fill a credit gap across hundreds of industries by providing fast, secure and transparent loans that enable small businesses to grow, generate economic activity and create jobs. We look forward to providing billions more in financing and powering the small business lending migration to the online model via our OnDeck-as-a-Service platform.”
Small businesses are the economic backbone of America, accounting for more than 99% of all U.S. companies1 and employing over half of all private sector workers2. However, they still face a growing credit gap. According to the Federal Reserve survey, 54% of small businesses report credit shortfalls3 and lower-income communities are disproportionately impacted. Traditional large banks deny 44% of all small business loan applications3 and many are steadily exiting the small business credit market. Since 2008, small business lending from traditional sources has fallen over 20%4.
Identifying the developing credit gap over a decade ago, OnDeck transformed the means by which small businesses access capital, using proprietary technology and a small business credit scoring system, the OnDeck Score®, to more efficiently evaluate a business’ creditworthiness and make lending decisions in real time. OnDeck provides term loans and lines of credit to small businesses and can supply customers with funding in as little as one business day. The economic impact of this online lending activity is substantial. Immediate infusions of capital enable small businesses to purchase inventory, cover operational costs, or expand without delay, which can stimulate economic growth and help create jobs in their communities.
OnDeck and the Impact of Online Lending on the Economy
An Analysis Group report commissioned by OnDeck in 2015 analyzed the economic impact from the first $3 billion OnDeck lent to small businesses. The report estimates that those loans powered $11 billion in business activity and created 74,000 jobs nationwide. In 2018, OnDeck announced it had provided small businesses more than $10 billion in capital.
In May of 2018, a report on small business online lending in the United States revealed that OnDeck and four other small business lending platforms funded nearly $10 billion in online loans from 2015 to 2017, generating $37.7 billion in gross output and creating 358,911 jobs and $12.6 billion in wages in U.S. communities. The upsurge in online lending is filling a critical financing gap for small businesses across industries, according to NDP Analytics, a Washington, D.C.-based economic research firm. See the NDP Report here: http://www.ndpanalytics.com/online-lending/
OnDeck Company Timeline
Download here: https://www.ondeck.com/wp-content/uploads/2018/09/10-year-timeline-02.pdf
For some funders, marijuana is not just about sewing their wild oats. Rather, they see the business potential of being early to what’s expected to be a highly profitable and long-lasting party.
Indeed, for the right type of funder, doling out money to marijuana-related businesses is a promising market—certainly in the short term because these companies are so capital-starved. Because marijuana is still classified by the feds as an illegal drug, many related businesses can’t even get a bank account much less access to bank loans or more traditional funding. Many alternative funders are also unwilling to lend to marijuana-related businesses, which has left a significant void that’s beginning to be filled by opportunistic private equity investors, venture capitalists and others.
Meanwhile, rapidly shifting public opinion and state-centered initiatives bode well for what many estimate is a multi-billion dollar market. Indeed, industry watchers say marijuana funding will eventually be an even stronger niche than lending to alcohol producers, tobacco companies or pharmaceuticals because of all the ancillary business opportunities related to medical marijuana use.
“I think it’s probably the biggest opportunity we’ve seen since the Internet,” says Steve Gormley, managing partner and chief executive at Seventh Point LLC, a Norwalk, Connecticut-based private equity firm that invests in the cannabis industry. “Consumption continues to grow and demand is there,” he notes.
Despite shifting public opinion, legalized marijuana use is still quite controversial. So, all things considered, it takes a particularly thick-skinned funding company—one that has no moral objectives to marijuana and is also willing to accept a significant amount of legal, business and reputational risk—to throw its hat in the ring.
One of the biggest challenges keeping banks and many mainstream funders at bay is that cannabis remains illegal under law. Despite numerous attempts by proponents to scrap marijuana’s outlaw status, the DEA recently dealt out a significant blow by opting to maintain the status quo. This means that for the foreseeable future marijuana remains a Schedule I drug, on par with LSD and heroin, and as a result many lenders will choose to remain on the sidelines for now.
It remains promising, however, that over the past several years, the federal government has taken a more laissez-faire approach, giving individual states the authority to decide how they will deal with legalizing marijuana use. Forty-two states, the District of Columbia, and the U.S. territories of Puerto Rico and Guam have adopted laws recognizing marijuana’s medical value, according to the Marijuana Policy Project, an advocacy group. Four states—Alaska, Washington, Oregon, and Colorado—as well as the District of Columbia have gone even further. They allow the recreational use of marijuana for adults, with certain restrictions. Meanwhile, marijuana initiatives are on the November ballot in numerous states.
As these changes have percolated, forward-thinking alternative funders have been dipping their toes in the market—getting an early start on a market that’s hungrily looking for growth capital. “The last couple years there have been fewer investors than capital needed, but we believe that tide is changing,” says Morgan Paxhia, managing director and chief investor of Poseidon Asset Management LLC in San Francisco, an investment management company founded in 2013 to invest exclusively in the cannabis industry.
Paxhia says he’s starting to see more venture capitalists, lease-finance companies and private equity investors willing to provide liquidity to marijuana-based companies that are seeking to grow. The short-term cash advance marketplace, however, is not there yet. The challenge is finding funders willing to do the business with them.
“The people that are building these businesses have to always be worried about their cash. It’s not a given that they’ll get new additional investment,” Paxhia says. “Most people are quick to brush it aside. They won’t give it a minute to take a serious look at it and understand that it is already a multi-billion dollar market growing at 30 percent annualized for the next several years,”
A QUIETLY GROWING INDUSTRY
There are a number of private investors and venture capitalists who have spent the last several years researching and ramping up to invest in what they see as a goldmine of business opportunities. Many of these companies aren’t shy about publicly expressing their support for change.
“We see this as an opportunity of a lifetime to witness a societal change and we want to be a part of it,” says Paxhia who together with his sister runs a $10 million investment fund.
At the same time, there are also some alternative funders who dabble in this space and won’t discuss it publicly—partly because of the perceived stigma and partly out of concern that their financial backers won’t approve. To cover themselves, some are only willing to deal with companies that have hard assets. Often times the rates they offer are much higher than businesses in other industries with comparable financials would pay.
Andrew Vanam, founder of Rx Capital Funding LLC, an ISO in Norwalk, Connecticut, who focuses on the healthcare and medical industry, has helped a handful of few marijuana-related businesses get funding in the past few years and would love to help facilitate more deals. But he says it’s extremely difficult to find lenders that are willing to fund cannabis-related businesses as well as offer reasonable rates. Many of the files he generates in the cannabis space have incredible financials, positive cash flow, and month-on-month growth. However, lenders still treat these businesses as high-risk and offer rates so high it’s not even worth bringing back to a client. Instead, “they are taking hard money loans from private investors that put these cash advance offers to shame,” he says.
ASSESSING THE RISKS
Certainly there are risks to funding marijuana businesses. In Colorado—one of the first states to legalize the recreational use of marijuana—values are getting lofty, and people are overpaying for properties that house marijuana-related businesses, notes Glen Weinberg, a partner in Fairview Commercial Lending, a hard-money lender with offices in Atlanta and Evergreen, Colorado.
Weinberg has financed between 75 and 100 commercial real estate loans where marijuana businesses were involved, but says recently he’s shied away. “I’m not comfortable with the valuations at a lot of these marijuana properties,” he says.
Even investors who are bullish on the space urge caution. “If you’re in a [nationwide] market that is growing at about 64 percent per year, that rising tide floats all boats, but there’s a lot of risk, so you have to be careful,” says Chet Billingsley, chief executive of Mentor Capital Inc., a public operating company in Ramona, California, which acquires and provides liquidity for medical and social use cannabis companies.
Billingsley says he has learned some hard lessons through his dealings with about nine marijuana-related companies. For example, he recently won a court judgment against a company that Mentor had supplied with millions of dollars in cash and stock. The company later balked at the terms of the deal and tried to renege, but Mentor ultimately prevailed in court. Still, Billingsley says Mentor went through many unnecessary hassles and racked up $300k in legal costs over the course of its two-and-a-half-year legal battle.
Many business owners in the marijuana space started out during a period when it w as completely illegal. Often these companies march to the beat of their own drum; to protect themselves, lenders need to do more than offer a standard funding contract and hope for the best, Billingsley says.
“The contract has to be solid and it has to be explained in detail to the marijuana operator who is often not sophisticated with regard to contracts.” If you leave things open to interpretation, you’re likely to end up in court, where anything can happen, he cautions.
Companies that fund cannabis businesses say they have very extensive vetting processes—so much so that they turn away a good portion of requests. Jeffrey Howard, managing partner of Salveo Capital in Chicago, says about two-thirds of the companies that come across his desk don’t make it past the company’s initial criteria. “We see a ton of companies and business plans from companies seeking capital to raise money,” he says. “We are going to be very selective about who we invest in and how much.”
Gormley, of Seventh Point, leverages all the same resources he would if he were buying any retail or production manufacturing outfit. He does extremely invasive vetting of the individuals involved and uses private detectives to help.
It many cases it comes down to the business’s management team, according to Paxhia of Poseidon Asset Management. “All the businesses are very early-stage and most companies have a very short track record, so you have to place a greater emphasis on the people,” he says.
Despite the risks, funders that work in the marijuana space say they are filling an important need by providing capital to marijuana-related businesses. For Gormley of Seventh Point, it’s a calculated risk in an area he’s been following for quite some time. “How often do you get to be part of history, and how often do you get to participate in a burgeoning market?” he says.
Industry participants stress the many funding opportunities aside from companies that cultivate and distribute the plant. Indeed, there are many ancillary businesses that provide products and services geared towards patients and cannabis users without having anything to do with the actual plant.
Howard of Salveo Capital, says his company is gearing up to provide private equity and venture capital to several marijuana-related businesses through its Salveo Fund I and will only make select investments into companies that “touch the plant.” The goal is to eventually have $25 million of committed capital to invest in multiple early-stage companies that offer ancillary products and services to the marijuana industry. “We think there’s more exciting opportunities than ‘touch the plant’ investments,” he says.
Crowdfunding platforms are another avenue for companies in the marijuana space. This type of funding hasn’t yet been utilized to its full potential, industry watchers say.
Eaze Solutions, a San Francisco-based provider of technology that optimizes medical marijuana delivery, is one example of a company that turned to crowdfunding. It raised part of a $1.5 million infusion to fund its expansion via the crowdfunding site AngelList in 2014. Loto Labs, in Redwood City, California, is another example. It raised more than $220k via Indiegogo to fund production of its Evoke vaporizer. There’s also CannaFundr, an online investment marketplace for companies in the cannabis industry to gain access to capital.
Seth Yakatan, co-founder of Katan Associates in Hermosa Beach, California, suggests that crowdfunding will become more of an option for certain types of cannabis based companies, specifically those that aren’t as closely tied to the actual production of the plant. “Until federal regulations change, it’s going to be hard to raise money for an entity where you are actively engaged in the cultivation, distribution or sales of a product that’s federally illegal,” says Yakatan, whose company invests in and advises cannabis-related companies that have a biotech or pharmaceutical orientation.
Because laws on legalized marijuana are still in limbo, industry watchers say the market is still many years away from being mainstream. “Public perception will be similar to alcohol in 10 years from now,” predicts Weinberg of Fairview Commercial Lending, adding that he expects banks to enter the funding arena in five to 10 years.
In the meantime, alternative funders who can stomach risk continue to pave the path for others. Howard of Salveo Capital expects private equity investors, venture capitalists and other alternative players to continue playing a big role in getting the nascent industry off the ground.
“I strongly believe that in the interim there’s a significant advantage for players like us to be funding and to be in on the ground floor of this industry before it changes,” Howard says.
Indeed, many alternative funders believe the potential upside significantly outweighs possible negative consequences. “The perceived risk at this point is far greater than the actual risk,” says Paxhia of Poseidon Asset Management.
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