So now you want to limit the new store licenses?
Yes, there has been a glut of legal cannabis stores in Ontario. Yes, we likely have more locations than we need and some of the less desirable locations will likely close. But yes, the consumer will be able to decide with their wallets which locations survive and which do not, so shouldn’t we focus on ensuring the core principles of the cannabis legalization framework are being achieved and let the market forces handle the issue of legal store count?
In June 2018, as Prime Minister Trudeau announced recreational cannabis legalization would begin on October 17, 2018, he took care to remind all in attendance that cannabis legalization was occurring to “better protect our kids, better protect our communities, and to remove profits from the pockets of organized crime ($6B per year, by some estimates).” All very clear and respectable priorities, that we in the industry have bought into wholeheartedly (we literally invested in).
In January 2020, after the province had only managed opening 28 retail locations, Ontario Premier Doug Ford was on BNN discussing the importance of increasing the supply of stores to better supply the Ontarians’ demand for product. When prompted that Ontarians will go to illicit sources if legal options aren’t available, Ford was adamant that “we’re going to be able to supply and we’re going to get rid of the illegal market.” He went on to say that “we’re going to have more stores than all the [other] provinces combined.” The good news: he was accurate in his prediction on the legal store count, but the Ontario government has been slow to close illicit locations, meaning these illicit locations are afforded the opportunity to compete with legal locations, but with cost bases that are likely 25% of their legal counterparts. Oh, and they don’t pay taxes.
When applying for a Retail Store License (RSA) in Ontario, one needs to lock up a lease - this might be a conditional hold on the location, but in a competitive market, landlords have had the upper hand in recent years and have required many prospective tenants to place a deposit and sign a lease to move through the application process. The folks that are generally least able to attain beneficial terms in advance of leases are the small, one-off locations that don’t have a history in the market - the big players have a stronger covenant to leverage. This means, a first time applicant will have already paid their $6,000 fee to apply for a Retail Operator License (ROL) to the Alcohol and Gaming Commission of Ontario (AGCO: the Ontario government’s cannabis regulation body). Then they’ve likely had to put a $5,000-10,000 lease deposit down. Then they go ahead and pay another $4,000 to the AGCO for their RSA. Before they click submit on their application, they check again on the AGCO interactive map to verify there aren’t any other applications pending nearby. Nothing nearby. *Submit.
And then they wait.
During the serious rush of 2021, this waiting period was months (and the earlier versions of the interactive map was not nearly as good). This applicant is $15,000-20,000 into this endeavour and they haven’t even started on branding, design, website, drawing, permits, development, signage, fixtures, paint, inventory, hiring, training, and planning. During the waiting period, they continue going back to the map or the AGCO listings of new applicants or public notices. Inevitably, based on the current store count in Ontario, another store will have popped up in the vicinity of their location - a store submitted by a similar applicant months earlier that is waiting through the same process. Do you cut bait and get out? Maybe they’ve started on the design and permitting and construction processes to be better prepared for the first AGCO security compliance audit and have put a bunch more cash into the place? And how do they get out, if they wanted to? That lease is likely at least five years, if not more. Sadly, most folks will determine the best path forward is to push forward, compete, and hope to either win in the region or can at least sell the business to someone to recoup some of the initial investment (or quell the future losses).
Noting that over 1,900 RSA applications are either approved or pending, that represents over $7.6mm in AGCO revenue (and RSAs need to be renewed every 24 months). For ROL applications, assuming the average ROL holder has two RSAs (some have 30, many have one), over $5.7mm of AGCO revenue is represented in these current stores. Plus, there’s Retail Manager Licenses (RML) required at each location. With each of the ~1,400 locations carrying ~$35,000 in inventory, there’s another $49mm of provincial revenue tied up in the vault of these stores. The licensing process is lucrative for the province and the governing bodies have benefited greatly from having such saturation in the province. And this doesn’t include the thousands of employees hired, trained, and supporting the system through payroll taxes.
Note: I’m not going to raise the point about the Ontario Government, vis a vis the Ontario Cannabis Store (OCS), acts as the middle person on all distribution of cannabis to retail stores, taking a substantial mark-up acting as the wholesaler. And they don’t allow third party delivery of cannabis to consumers from stores. But they operate an online retail platform that competes on price with the legal stores, with at least double the Gross Margin than stores can achieve, and deliver to consumers via third party delivery… This is a pandora’s box we’ll open together at a later date. The point being, the province wanted to make money on cannabis legalization: and they created a system that should provide every opportunity to do just that.
Tying back to the core principles of the sector of safe product, away from children, and operated by regulated businesses (presumably, in order to capture substantial tax revenue), Ontario required stores to be at least 150m from a school property - absolutely love this and I don’t think you’ll hear anyone complaining about the rule. The problem: illicit stores are operating outside of these principles and competing with the heavily regulated, heavily cost burdened legal stores. As many folks have seen, there’s one particular brand of illicit store that has been popping up around Toronto, claiming to have First Nations ties, though they’ve been denounced by the group they claim to be affiliated with. One prime example of this particular banner’s irreverence for the laws is at the Danforth location:
It backs onto a school - within 50m, let alone 150m
It has advertisements out front for ounce prices and free pre-rolls with purchase
It lacks window coverings to block visibility to guests prior to age gating
It has loose, unregulated flower in jars for weighing and serving
And I can’t be certain, but it feels safe to assume: they’re not paying the same level of taxes that the legal market is paying
The AGCO, the OPP, and the City of Toronto all will not touch this shop, despite it breaking every cannabis retail law in place and competing head-to-head with those that have paid their dues to open a legal location. The OCS proudly reported that October to December 2021 showed a drop to 41% of the total cannabis market sales occurred in illicit stores… they failed to mention that this percentage represents ~$288mm of illicit cannabis sales in that quarter. If we assume these figures are accurate, that indicates the absolute dollars of illicit cannabis sold is actually UP year-over-year, since the illicit market went from 56% of the total market in October to December 2020 down to 41% in 2021, but the legal market more than tripled during the same time period.
Any politician that wants to work together to improve the offering to customers, instead of trying to make it more difficult for legal stores to open, I’m happy to chat and have an open discussion on ways to work together. Until then, please remember we were the only retail class building and hiring during the pandemic.