Cannabis: A case study in cash-only's constraints€¦ · Banks and credit unions are reluctant to work with cannabis dispensaries for fear of losing their federal charters or access

Cannabis: A case study in cash-only's constraintsIt's a multibillion-dollar industry in a state of payments-regulation limbo and as a result, the U.S. cannabis business has mainly operated on a cash basis. That costly situation has led to a broad range of workarounds. Inside, an in-depth look from the dispensary perspective on payments options ranging from the traditional to alternatives like dedicated networks and crypto.

FOR RELEASE MAY 2019

ISSUES + ACTIONSPAYMENTSSOURCE

2© 2019 PaymentsSource and SourceMedia. All rights reserved.


In cannabis boom, a case study in the limitations of cash

The legal cannabis industry is booming in size and geographic reach, yet it sits at a difficult crossroads due to the legal tension between individual states that have legalized it and the federal government, which has not. The result is a web of complicated laws that cuts off dispensaries’ access to many mainstream financial services. In fact, the legal tug of war not only affects the dispensaries, it affects almost every single business that is registered, licensed or accesses a federal agency or the money supply and permits cannabis sales, possession or consumption.

Some of the federal restrictions are openly known, while others remain murky. Banks and credit unions are reluctant to work with cannabis dispensaries for fear of losing their federal charters or access to the ACH network, Fed Funds Wire via the Federal Reserve; and other federal agencies such as the VA, FHA, and Fannie Mae. Visa, Mastercard and American Express refuse to allow their cards to be used at U.S. dispensaries, but are willing to process cannabis payments in Canada where it has recently been legalized.1

To understand how the legal U.S. cannabis industry operates and accepts payments (or is restricted from them) one must first examine the legal issue at hand. The Controlled Substances Act of 1970 made marijuana (cannabis) illegal under federal law, and it is listed as a Schedule 1 substance by the U.S. Drug Enforcement Administration, as it holds no currently accepted medical use and has a high potential for abuse.2 Other schedule 1 drugs include heroin and LSD.

INTRODUCTION

1 https://www.paymentssource.com/news/as-canada-legalizes-marijuana-amex-and-visa-agree-to-handle-payments2 https://www.ncbi.nlm.nih.gov/pmc/articles/PMC3839489/



Since the Controlled Substances Act of 1970 took effect, consumers have begun to recognize the value of cannabis in helping to treat or alleviate pain for a variety of conditions ranging from glaucoma, cancer and chronic pain. In 1996, California became the first state to approve medical marijuana with the passage of the Compassionate Use Act. Since then, numerous states have passed laws permitting both medical and recreational use of cannabis. Today, according to DISA Global Solutions, a screening and compliance firm which maintains an up-to-date database of cannabis laws, 10 states and the District of Columbia have fully legalized medical and recreational sales and consumption of cannabis products. A further 22 states have approved cannabis for medical purposes.3 Several additional states are exploring both medical and recreational consumption of cannabis.

To best understand the impacts of cannabis legalization issue as it relates to payments, SourceMedia conducted a research survey of dispensaries asking them about current payment methods and what impact card acceptance could have on their businesses. SourceMedia conducted telephone interviews with 20 dispensaries in the U.S. and Canada in April 2019. All 15 U.S. dispensaries were located in states that have legalized cannabis for both medical and recreational use (Maine, Massachusetts, Michigan, Colorado, California and Washington) with the exception being the dispensaries contacted in Florida where it is permitted only for medical use. The five Canadian dispensaries all operate under the new law permitting cannabis for both medical and recreational use. The dispensaries were located using multiple lists including Leafly4, Boston.com5, The Herbal Cure6, High Times7 and The Pot Guide8.

3 https://disa.com/map-of-marijuana-legality-by-state 4 https://www.leafly.com/news/leafly-list5 https://www.boston.com/news/local-news/2018/12/19/marijuana-dispensaries-in-massachusetts6 http://theherbalcure.net/high-times-names-us-one-of-best-dispensaries-in-denver/7 https://hightimes.com/dispensaries/best-marijuana-dispensaries-detroit/8 https://potguide.com


ABOUT THIS REPORTIssues + Actions reports are produced by the editors of American Banker and PaymentsSource. In addition to the interviews with store managers, owners and executives of cannabis dispensaries, website research and industry interviews were also conducted for background material purposes.

The report examines the current state of payments in cannabis dispensaries in the U.S. and Canada and how impactful payment card acceptance could be for those who do not accept cards and what it means to those dispensaries who do accept cards (both legally and illegally). Also covered are alternative payment methods including cryptocurrency, cashless ATM at point of sale (POS) and mobile wallets.

Each report provides exclusive and authoritative analysis and insight on a topic of vital interest to the operation of a banking company. The target readership includes senior executives, line-of-business leaders, marketers and technology providers seeking deeper, more actionable industry perspectives, whether as clients or competitors. The reports are available for purchase singly or by subscription.

This report’s primary narrative was written by Michael Moeser. American Banker is the leading resource for commercial banking professionals and PaymentsSource is the leading information resource for payments professionals. American Banker and PaymentsSource are SourceMedia brands and support a full line of professional content as well as research, data and conferences.

For more information, contact Customer Service at 212-803-8500.

NOTE Reproduction or electronic forwarding of this product is a violation of federal copyright law. Subscriptions and licenses are available: please call customer service at 212-803-8500 or email [email protected].




KEY FINDINGS• All dispensaries surveyed accepted cash for purchase of cannabis products.

When it came to other payment forms, consumers had few options available to them in the U.S. In Canada, where cannabis is legal at the federal level, payment cards can be used.

• Despite claims that companies can enable payment cards to be processed at cannabis dispensaries, Visa and Mastercard specifically state that they comply with a country’s federal laws and that they will not process cannabis transactions in the U.S.

• The most popular alternative payment forms being tried at dispensaries are the CanPay network and cashless ATMs — each was in use at five different U.S. dispensaries. CanPay is a private debit network with a mobile wallet that uses ACH transactions to fund purchases. Cashless ATMs are similar to standard ATMs but don’t dispense cash; rather they dispense a voucher to be used in the purchase of cannabis.

• While there are many cryptocurrencies offering themselves as safe alternatives to cash in the cannabis industry, there was little interest among the dispensaries contacted, especially in Canada where debit and credit cards can be used.

• Even in Canada, where cannabis is recreationally legal, dispensaries still operate heavily in cash. Unless debit and credit cards are accepted at a dispensary, the proportion of cash accepted was 75% or higher. Cashless ATMs, CanPay and crypto typically made up only 10 to 20% of a dispensary’s business. Few accepted more than one alternative to cash.

• Almost all cannabis dispensaries in the U.S. and Canada reported that being able to accept payment cards does or would have a major positive impact on their revenues. Eleven dispensaries stated that accepting payment cards would grow their revenues by more than 20%, or if they had to drop payment cards it would negatively impact their business by more than 20%.

• Dispensary owners and managers also report cash is an expensive way to operate a business due to the cost of armored car services and cash handling fees that banks charge.

9 https://www.paymentssource.com/news/dash-sells-fast-processing-to-lure-merchants-to-cryptocurrency



DISPENSARIES LIVE IN A CASH WORLDAll dispensaries surveyed accepted cash for payment for both medical and recreational cannabis products, yet when it came to alternative payment form factors, U.S. consumers had few options available to them. Only two out of 15 U.S. dispensaries accepted debit cards and one accepted credit cards. In contrast, four out of five Canadian dispensaries accepted debit cards and two accepted credit cards.

It’s understandable why so many dispensaries are cash-only.

U.S. dispensary owners and managers reported that accepting payment cards is a difficult and expensive proposition that is often fraught with problems including service disruption and loss of funds. They have concluded that cards are often not worth the hassle. While certain merchant acquiring firms such as Leap Payments and Naturepay claim that they can process credit cards for cannabis dispensaries, the option is not entirely risk free.10 11 Others offer the ability to use reloadable prepaid cards such as MaryCard, which utilizes the Engage:Value’s web-based gift and loyalty card software to deliver card payments to the dispensary.12

10 https://www.leappayments.com/high-risk-merchant-accounts/marijuana-service-merchant-accounts/11 https://www.naturepay.net 12 http://marycard.club



The cost of card acceptance is very high for the U.S. cannabis industry, if and when available. One Colorado dispensary owner stated that the cost of card acceptance can be as high as 8% of a transaction’s value. The merchant acquirer review website, cardpaymentoptions.com, reports that Naturepay charges dispensaries an in-store retail rate of 5.95% + $0.30 per transaction.13 Leap Payments charges up to 4.99% and requires a three-year contract with a $295 early termination fee, according cardpaymentoptions.com.14 In comparison, Host Merchant Services, a merchant acquirer, charges standard retail establishments (e.g., a clothing store) 1.51% to 2.4% + $0.10 per transaction for Visa credit card acceptance.15

Despite claims that companies can enable payment cards to be processed at cannabis dispensaries, Visa and Mastercard specifically state that they comply with a country’s federal laws and that since cannabis is illegal at the U.S. federal-level, they will not process cannabis transactions in the U.S.

If a merchant is caught by the card networks accepting credit cards — such as by intentionally misrepresent their merchant category code (MCC) to appear to be a different type of business — the dispensary risks not only having its card acceptance terminated, it also risks a lawsuit by Visa and Mastercard. Additionally, any litigation for illegal activities could cause a state-licensed dispensary to have its license revoked.

There are alternative payment forms being tried at dispensaries, with the CanPay network being the most popular – five U.S. dispensaries surveyed use it and give it top commendations. CanPay is a mobile app that was specifically designed to serve cannabis dispensaries. CanPay developed a closed-loop debit network and is live in 17 states and Puerto Rico. CanPay works with approximately 25 banks to create a private debit network and uses ACH transactions — not the Visa and Mastercard rails — to process payments.16

13 https://www.cardpaymentoptions.com/credit-card-processors/naturepay/14 https://www.cardpaymentoptions.com/credit-card-processors/leap-payments/15 https://www.hostmerchantservices.com/current-us-interchange-rates/16 https://www.paymentssource.com/news/cannabis-shops-add-mobile-payments-for-a-starbucks-experience11 https://www.naturepay.net



The CanPay app is designed in principle to deliver a Starbucks-like user experience, and uses a QR code on a mobile device for checkout. While it does give consumers a safe alternative to cash, CanPay requires an account registration and is not widely available – at least when compared to the acceptance rates of card networks at retail stores. Consumers may not be likely to sign up for it absent availability across dispensaries they use (recreational buyers are more apt to visit a variety of stores). However, in the medical cannabis market, patients generally visit the same dispensary each time and are more likely to sign up for CanPay if it’s available at their main dispensary, according to the dispensary owners and managers surveyed who accept it.

Three dispensary owners who currently operate on a cash-only basis stated that they had credit and debit acceptance earlier but were dropped by their merchant processor once it was understood what business they were operating. Additionally, one dispensary stated that it had been using a Square reader attached to a tablet for several months until it was dropped because “Square decided it did not want to be in the cannabis business.” Square's terms of service specifically state: “Though marijuana and marijuana-derived products are legal in some states, they’re not currently legal at the federal level. As [a] result, we do not allow sellers to sell marijuana or related items on our platform.”17

Cashless ATMs are also a relatively popular option for U.S. dispensaries with five reporting using them, whereas no Canadian dispensary use them. Four of the five Canadian dispensaries surveyed accept debit. The fifth, which is cash-only, is seeking to convert to a federally licensed recreational dispensary so it can accept all card payment types.

Point-of-banking systems, aka cashless ATMs, are used in many higher-risk industries including cannabis retail, adult products, strip clubs and betting and casino establishments. Cashless ATMs do not support credit cards. Using one is similar to using an ATM by inserting or swiping a debit card and entering a PIN. Instead of dispensing cash, the ATM provides a voucher and charges a convenience fee, which averaged $2.50 at the merchants surveyed. The voucher proves to the dispensary that the customer’s bank account has been debited and the funds were transferred to the merchant’s account.

17 https://squareup.com/help/us/en/article/6386-why-can-t-square-support-all-businesses



The reliability of these systems was a common complaint among users, as many banks decline purchases at higher risk merchants as a fraud prevention measure. Dispensaries using them recommend that their customers call their bank before coming to the store so the bank won’t decline the transaction.

While there are many cryptocurrencies offering themselves as a safe alternative to cash in the cannabis industry, there was little interest among the dispensaries contacted, especially in Canada where debit and credit cards can be used.18 Only one dispensary reported using cryptocurrency as an alternative to cash. The system used is called POSaBIT, which enables cryptocurrency purchases via debit card at the POS. Funds are transferred to the merchant, minus a transaction fee. POSaBIT says that the average debit card transactions it has processed tend to be 60-70% larger than cash transactions.19

18 https://www.paymentssource.com/news/dash-sells-fast-processing-to-lure-merchants-to-cryptocurrency19 https://www.posabit.com/pos-features



CARD PAYMENTS REPRESENT A MAJOR GROWTH OPPORTUNITYAlmost all cannabis dispensaries in the U.S. and Canada reported that being able to accept payment cards does (if currently accepting) or would (if not currently accepting) have a major positive impact on their business. Several said that card acceptance — especially credit cards — would be a significant competitive advantage. Others reported that card acceptance would put them on an equal footing with other retailers. Only two cash-only dispensaries stated that accepting cards would have no impact on their business as their customers prefer to use cash.

Eleven dispensaries stated that accepting payment cards would grow their revenues by more than 20%, or if they had to drop it would negatively impact their business by more than 20%. One Canadian dispensary that currently accepts debit and credit cards stated that if it had to drop payment cards, it could potentially cost it 50% of its cannabis sales volume.

Seven dispensaries, or just over one third of those surveyed, had a somewhat more conservative view of the impact of cards, with three saying card payments could create up to 10% positive revenue growth and four stated card payments could generate 10-20% positive revenue growth.



CASH DEPENDENCY AND ITS IMPLICATIONSEven in Canada, where cannabis is recreationally legal, dispensaries still operate heavily in cash. Unless debit and credit cards are accepted at a dispensary, the proportion of cash accepted was 75% or higher. Cashless ATMs, CanPay and crypto typically made up only 10 to 20% of a dispensary’s business. Few accepted more than one alternative to cash.

One positive aspect about using cash in a cannabis dispensary, or in any higher risk merchant category, is that it provides the customer some degree of anonymity. In Canada, dispensary managers reported that many of their customers are reluctant to use cards because they believed the government could spy on them — specifically the U.S. government, which could deny them access to cross the border.

Such a high cash dependency requires easy access to cash, otherwise a dispensary owner risks smaller transaction sizes or losing a customer altogether. None of the Canadian dispensaries had an ATM on site, and the one that accepted only cash had plans to convert its business registration to one that would allow it to accept cards. Thirteen of the 15 U.S. dispensaries surveyed had ATMs on site because they felt it was critical to be able to service their customers efficiently. One of the U.S. dispensaries that did not have an ATM said it would be getting one within the next month. The other dispensary said if customers had to leave to use an ATM, it was unlikely that they would return.



While some mainstream retailers complain about the cost of payment card acceptance, it is a luxury that most U.S. cannabis retailers envy.

One dispensary in California called it a “rich man’s problem,” offering the view that the benefits of the increase in sales from card acceptance more than offset the cost. “Imagine if you went to Walmart and tried to buy a $2,000 big screen TV and were told it was cash only? How about going to Kroger to buy the weekly food and it was $250? If you knew you couldn’t use a credit or debit card, people would buy less and drop stuff they didn’t absolutely need. Card acceptance enables people to make purchases when they can’t on the spot and buy things they don’t really need.”

Indeed, the top challenge cash-reliant dispensary owners and managers reported is that customers simply buy less. Eleven out of 20 dispensaries reported this phenomenon. One manager stated that “when you rely on how much someone has in their wallet, it makes it tougher to upsell them to a higher-grade product or cross-sell edibles to a person buying buds.”

Nine out of 20 dispensaries noted that being so heavily reliant on cash is an expensive way to operate a business. Having a significant amount of cash on hand requires frequent pickups from an armored car service. Additionally, banks charge additional fees to cannabis dispensaries for handling so much cash, as they are more accustomed to working with retailers that mostly accept payment cards.

Because cash is a liquid asset that can easily disappear if not monitored, seven dispensaries noted that it requires additional management resources. In other words, accepting cash as the primary payment form required staff and managers to spend a significant amount of time to coordinate armored car pickups, collect cash for pick up, make frequent cash-outs of "bud tenders” who served customers, and handle the nightly settlement and storage of cash. One dispensary that had multiple locations reported that it had one person at the corporate headquarters whose sole job was to manage cash.

When it came to higher levels of risk, most dispensaries mentioned that they took additional steps to prevent robberies — including security cameras, having security guards on premise (in some cases armed), and checking IDs upon store entry. Many dispensary owners and managers stated that the key to lowering risk was to proactively manage cash and get it out of the store as quickly as possible.



CONCLUSION – MOVING FORWARD ON PAYMENTS IN DISPENSARIESBefore any recommendations can be made on how banks and card networks can safely and legally address the payment needs of cannabis dispensaries, one must address the elephant in the room: the U.S. federal government’s position that cannabis is a Schedule 1 substance.

More than 30 U.S. states have legalized cannabis for medical and/or recreational use. Canada has fully legalized it. The legal U.S. cannabis industry generated more than $7 billion in sales in 2017 and is expected to grow to $24 billion by 2025, employing thousands of Americans.20 Banks, card networks, merchant acquirers and the rest of the financial services industry are being held in limbo until the U.S. government changes its position.

By ignoring cannabis legality as the market grows, individual states may take it upon themselves to create a secondary payment network outside of the Federal Reserve’s mandate. State treasuries have already become dependent on cannabis sales for tax revenue. In 2018 Colorado collected $266.5 million in taxes on legal cannabis while collecting only $47.7 million on alcohol.21 22 California collected $345 million from cannabis taxes in 2018 and expects that to grow to more than $500 million in 2019.23 24

U.S. cannabis dispensaries are left without a true, viable payment alternative to cash. Dispensaries that intentionally misrepresent their merchant category code (MCC) to Visa and Mastercard in order to be able to accept payment cards are breaking the law and risk being fined, dropped by their bank and potentially face legal action. The website cardpaymentoptions.com reports that common MCCs used to misrepresent dispensaries as legitimate businesses include 5999 (miscellaneous retail) and 5193 (Florist Supplies, Nursery Stock, and Flowers).25

20 https://www.paymentssource.com/list/data-pot-payments-on-the-rise21 https://www.colorado.gov/pacific/revenue/colorado-marijuana-tax-data22 https://www.colorado.gov/pacific/revenue/colorado-liquor-excise-taxes23 https://www.mercurynews.com/2019/02/19/california-made-345-million-not-predicted-1-billion-on-legal-cannabis-in-2018/24 https://www.ocregister.com/2019/01/10/newsoms-proposed-state-budget-includes-more-money-for-cannabis-regulation/25 https://www.cardpaymentoptions.com/credit-card-processing/5-ways-accept-credit-cards-dispensary/



In Canada, the situation is completely different. When cannabis was legalized at the federal level in 2018, the card networks agreed to process dispensary transactions. The Canadian dispensaries contacted have quickly transitioned to digital payments, including contactless. They reported no need to have complicated workaround solutions such as crypto, cashless ATMs or private mobile wallets.

Meanwhile in the U.S., the most viable payment alternatives for dispensaries appear to be cashless ATMs and mobile wallet solutions such as CanPay. Other wallets have been developed, including Hypur, yet CanPay was the only wallet accounted in the survey.

Cashless ATMs are used in other high-risk establishments, so banks have some experience with them. The only drawbacks to these two solutions is that mobile wallets require establishing an account and can be used only where accepted; and cashless ATMs have a high transaction decline rate due to the nature of the merchant.

Cash remains the top payment choice for dispensaries. Adding one or more ATMs in the dispensary can enable the business to better serve its customers, although the seller is limited in its ability to upsell a customer. The beneficiaries of such as cash-intensive business will continue to be ATM fleet operators, armored car services and private closed-loop debit card networks.

While cryptocurrencies may appear to be a viable alternative payment option to cash, few dispensary owners and managers were interested in adopting or even exploring their use. Since managing cash is a resource intensive job already, there was little appetite in adding another payment scheme that appeared to require additional customer education and workload.

Documents

Cannabis: A case study in cash-only's constraints€¦ · Banks and credit unions are reluctant to work with cannabis dispensaries for fear of losing their federal charters or access