280E, new markets and wholesale revenue highlight cannabis earnings season

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Tax strategies took the spotlight in fourth-quarter financial reports from publicly traded U.S. cannabis companies.

Year-end earnings calls and financial results also showed how multiple cannabis operators are:

  • Banking on new marijuana markets for future revenue growth while awaiting federal reform.
  • Focusing on wholesale cannabis operations in certain markets.
  • Finding ways to control costs.

Cannabis-sector equity analyst Jesse Redmond told MJBizDaily that multistate marijuana operators’ results for the quarter ended Dec. 31 were “good results on an absolute basis, but also good results relative to expectations.”

“Every Tier 1 (MSO) beat on revenue, while everyone but Verano beat on (adjusted earnings before interest, taxes, depreciation and amortization),” Redmond, a managing director with Florida-based Water Tower Research, wrote in a March 18 research note.

That Tier 1 group of five leading MSOs – Cresco Labs, Curaleaf Holdings, Green Thumb Industries, Trulieve Cannabis and Verano Holdings – also reported improving gross margins on a year-over-year basis, he wrote.

“One of the blessings over the past couple of years has been that this really difficult environment has made operators have to really focus on expense controls and to try and reduce costs of goods sold to preserve margins during this flatter revenue period,” Redmond told MJBizDaily.

Tackling 280E taxation

Florida-based Trulieve turned heads last fall when the company announced it had amended its federal tax returns for 2019, 2020 and 2021 using unspecified “legal interpretations” to challenge what it owed under Section 280E of the Internal Revenue Code.

The company dropped an even bigger surprise during its Feb. 29 earnings report: It had received $113 million in tax refunds.

So far, Trulieve is the only U.S. cannabis operator to disclose such tax refunds.

However, Ascend Wellness Holdings and TerrAscend Corp. both said they filed for 280E refunds for previous tax years and said plan to make future tax payments without accounting for 280E.

The exact nature of those companies’ legal strategies remains mostly opaque.

But TerrAscend gave a tantalizing glimpse of its approach: Chief Financial Officer Keith Stauffer said the company’s interpretation of 280E is similar to an argument made in an ongoing lawsuit that challenges the treatment of state-regulated marijuana markets under the federal Controlled Substances Act.

Thomas Ostrander, a partner with Philadelphia-based law firm Duane Morris, believes MSOs might be relying on other legal interpretations challenging the applicability of 280E.

For example, their position could be “that 280E imposes an unconstitutional penalty under the Eighth Amendment,” which forbids excessive fines, Ostrander told MJBizDaily.

Or they might argue against 280E taxation using the 16th Amendment, he said.

Other commentators have argued that state-regulated medical marijuana companies have a strong argument against 280E.

No matter what the MSOs’ legal strategies are for challenging 280E, Ostrander expects their moves might pressure other operators to follow suit.

“I’d be very surprised if you do not see a large number of additional companies claiming these large refunds and taking the position that, going forward, they’re not paying 280E,” he said.

“(They’ll) let the Internal Revenue Service conduct an audit, let the service conclude that 280E is still the law of the land until a court rules otherwise and fight it out in court.”

Indeed, other MSOs including Cresco, Planet 13 Holdings and Verano said during quarterly earnings calls that they’re evaluating their 280E options, and Jushi Holdings said it has its own approach to 280E taxation.

Despite the hype, one thing is clear: The latest developments don’t mark the end of 280E.

Even with tax refunds in its pocket, Trulieve has reserved $152.1 million on its balance sheet as an “uncertain tax liability” in relation to its 280E strategy.

“It’s far from a done deal,” Ostrander said.

Still, cannabis equity analyst Redmond considers it “encouraging, in many ways, to see operators being competent enough to do this.”

“Investors should be mindful that it is not a slam dunk, that there are risks associated with these (tax) strategies,” Redmond warned.

On the other hand, if the Biden administration’s recommendation that marijuana be moved from Schedule 1 to Schedule 3 of the Controlled Substances Act ultimately bears fruit, the issue of 280E taxation would go away on its own.

New cannabis markets and political catalysts

Several cannabis executives expressed hope during year-end earnings calls for possible political reforms and new state marijuana markets.

Trulieve CEO Kim Rivers, for example, said possible federal marijuana rescheduling “could be a historic tipping point for U.S. cannabis.”

Water Tower’s Redmond describes cannabis investing as “a state-led growth story with a series of hard-to-time political catalysts.”

“You need both of those pieces: You need the state-led growth story to drive the revenue, and then you need the political catalysts to increase the investor base and unlock the value – especially with 280E removal.”

Several medical marijuana-only states could evolve this year to allow recreational sales, which would benefit a number of MSOs.

Cresco, for example, has an eye on potential adult-use legalization in Florida, Ohio and Pennsylvania, with CEO Charlie Bachtell saying the company is investing in those states.

Ayr Wellness, whose medical marijuana retail operations skew heavily toward its home state of Florida, is keenly watching developments in the same jurisdictions.

Meanwhile, Florida-based Jushi is hopeful for new adult-use markets in Ohio, Pennsylvania and Virginia, where the majority of its existing stores already operate.

Wholesale cannabis and cost-cutting

Some multistate marijuana companies are focusing on wholesale markets this year in the face of limited capital and licenses.

Several fourth-quarter earnings reports illustrated the growing interest in wholesaling.

Jushi, for example, reported growing wholesale revenue 30% from 2022 to 2023.

The Cannabist Co.’s new CEO, David Hart, said that wholesale revenue was “underrepresented” in the company’s revenue mix at 12% of 2023 revenue.

“We are looking to change that,” Hart added.

Ayr CEO David Goubert also said the company plans to grow its wholesale business in several states.

“The prize of New York’s $5 (billion) to $6 billion cannabis opportunity is clearly wholesale,” Curaleaf Executive Chair Boris Jordan said during that company’s earnings call.

Water Tower analyst Redmond said wholesale operations give MSOs an opportunity to find new revenue when retail income suffers in the face of increasing store counts.

“As more stores come online, although that creates retail competition, those are new doors that you can pursue on the wholesale side,” he said.

Redmond also observed that average selling, general and administrative expenses among the group of five Tier 1 MSOs declined by 1.8% on a year-over-year basis.

Even with the prospect of new state markets and the demise of 280E taxation, Redmond said, “We might look back and say one of the important things that happened in the last two years was (that) these companies had to find religion around expense controls.”

Solomon Israel can be reached at solomon.israel@mjbizdaily.com.