Breaking Down Year 1 of California Adult-Use Cannabis Sales Webinar

Our “Breaking Down Year 1 of California Adult-Use Sales” webinar was led by BDS Analytics’ Tamar Maritz, California Regional Director — our expert on all-things CA retail. Watch the webinar or read the presentation to find out what Tamar had to say about 2018 adult-use sales in California and what to expect  in 2019. 


Video Transcription
Tamar MaritzSo folks, without wasting too much time here, and since we have a lot of good content to get through, I am going to dive right in.

So California’s first year adult-use sales did not shape out quite as expected, right? Like I said, we are getting right into this. In fact, 2018’s adult-use market saw less in legal annual sales than 2017’s medical-only market, right? Now, this should have been the opposite, right? And, well, things don’t always turn out as you expect them. However, contributing to this under performance were, but not limited to, state licensing challenges, regulatory changes, taxes. I think we can all agree that the sad face is appropriate here. Testing, labeling, and packaging challenges, and so much more.

But the bonus is not on the state alone, right? With 70% of counties, roughly 70% of counties effectively banning commercial cannabis activity by refusing and/or delaying the regulation, right?

So as you can see, retailer licensing definitely tapers off towards theend of the year. In fact, the number of retail licenses available in Decemberof 2018 were less than November of 2018. This is a combination of folksstruggling to get their annual licenses and not being able to extend or renewtheir temporary or provisional licenses, right? But nonetheless, this is unexpected. No one really wanted to see this number go down.

So let’s set the stage really quick before we jump onto some data. In 2017, under the California medical-only market, we were estimating for about 3,000 legal, or as legal as possible, retailers in that universe. When I say legal as possible, because in that world there was no such thing as the Bureau of Cannabis Control. We were estimating legalized folks that were locally permitted somehow or were potentially paying taxes in some fashion. Fast-forwarding on to December of 2018 and we’re looking at roughly 650 licensed retailers throughout the state, which is significantly less retailers than were available to consumers in the 2017 universe, right? And that of course is reflected in our captured annual sales data.

So now looking at monthly legal sales at retail, we can see that the Prop 215 universe averaged about 200 to 250 a month in legal or as legal as possible sales, right? Now, the launch of January’s adult-use sales, we can see that number drop from 260 a month in December to 114 million, so 260 million to 114 million in one month, and of course, a large reason for that is we are now only looking at 300 retail outlets in January, right? That’s how many retail outlets were licensed by the state as of January 2018, and now that number is up to 650. But nonetheless, you can see that as the state continues to issue licenses and we see the market picking up, and then of course enter July.Historically, July is a bigger month. Not just historically, but in every other state July is a bigger month than June, and yet it saw a 13% drop in revenue between June to July. Now, keep in mind also that June was hyper-inflated, right? ‘Cause a lot of folks were doing product blowouts and sales at the end of the month, trying to get rid of product that they wouldn’t be able to sell as of July 2018.So before we move on to the next slide, I just want to call something interesting out real quick. Going back to the launch of adult-use sales in January, keep in mind that though we are looking at different universes, right? Between the 2017 and the 2018 world, and thus it’s not fair to make an apples to apples comparison, it’s still important to note that 250 million or $260 million worth of consumer spending took place in December of 2017, and just over 110 million took place in January of 2018. So where did that 150 million of legal consumer spending go?

So breaking down the waves of extinction. So contributing factors to the wave were regulatory patchwork, licensing challenges, adult versus med licensing at retail, right? So initially, with the launch of California’s adult-use channel, products have to be designated at seed as adult or medical, and they couldn’t be transferred between each other. So you got stuck at situations where retailers had a bunch of medical product in stock and were out of adult in product in stock, but weren’t able to sell any of that medical product to any adult use consumers, right? That was later fixed, thank god, but that was definitely a challenge that impacted and led to this wave of extinction, and finally taxes.So quantifying this, we already know 150 million in less legal revenue between December 2017 and January 2018. 19% less gram selling in January of 2018 versus the month before, and a 6% increase in price. And it’s important to note that this wave of extinction really hit small legacy brands and operators the most.

So breaking down wave two, which was predominately driven by Category II testing, there were not enough labs ready in the state at the time. There were backlogs at the labs, resulting in products spending weeks, if not months, waiting to be tested, and also a lot of products were failing packaging. And less, but still, challenging was the child-proof packaging. These were new and changing regulations that were expensive, and a lot of folks just weren’t ready. So quantifying this, we see a 13% … over what we saw before, 13% less legal revenue in July versus in June. 17% less gram selling in July versus in June, and 13% increase in average retail price. And again, let’s note that the most impacted here are the small legacy operators.

And now looking here at number of brands selling by month, we can visibly see both waves of extinction. Again, the 19% drop, right? In January, the number of brands available with the launch of adult-use, and then a 17% drop with the launch of Category II testing in July.And actually, I didn’t mention before but with July, also, there were some retailers that were reporting due to there being such limited products at retail, right? Because of all the testing and the packaging and the hurdle, there were some retailers that were reporting having only seven SKUs on their shelves in the first two weeks of July, which is insane.Now, it’s important to note that both of these waves saw a net drop, right? A net drop meaning that while more, many brands fell out, some brands actually managed to come in and grab market share at the same time.

In fact, branded product here increased significantly between June and July, from 56% of products being branded in June of 2018 to 72% in July of 2018

And now looking at percent branded by category, we saw that Flower saw the greatest gain in branded product share, with branded product going from 70% in June of 2018 to 47% in July of 2018 for the Flower category, and in fact, while the total market saw a net drop in brand, the Flower category saw 55% more brands selling in July than in June 2018. So incidentally, this extinction wave actually gave small, local boutique growers the opportunity to actually get on shelves and sell their product and get in front of the consumer.Now, also important to note here, looking at your four more adult-use-oriented categories on the left, edibles, vapes, sublinguals, topicals, right? We can see that these topicals are almost … some are almost 100% branded. They’re all over 90% branded with very little generic or in-house manufacturing in those categories taking place.

So now looking at monthly unit sales, which are your blue bars, you can clearly see here the waves of extinction as well, right? The drop in January and then the drop in July. You can also see the inflated June, right? With the blowouts and the sales. Now, as you go throughout the year you can see that unit sales start to decrease as pricing increases, right? Although with December we see unit sales start to pick up a little bit with the prices coming down, but that’s most likely holiday promos and activities.

So with all these changes and disruptions to the supply chain, prices have definitely remained … clearly remain high in California. And in fact, we are seeing this increase take place across all product categories, right? With edibles seeing over a 40% increase in average retail price.

Relative to other states, California’s average retail price per gram of Flower is double that of Colorado and Oregon, which is not exactly a fair comparison, but important to note nonetheless.

So breaking that gram down in California, we can see that the illicit market has a huge advantage at just over $6 a gram, right? So that $6 is made up of almost entirely wholesale cost and retail markup. There’s no grow tax, no distributor tax, no testing costs. Looking here at legal sales, right next to the illicit sales, right? The legal price per gram, you can see that the grow tax, the distributor cost, and the testing cost alone brings price per gram to $9, which is already 50% higher than the illicit market. Then once you add on excise sales and local tax at retail, the market price per gram is almost double that of the illicit.

It’s not surprising to see that illicit sales have gone up, right? With 74% of consumer spending in 2017 being illicit sales, and that number is now up to 80% in 2018, so 80% of consumer spending in California is from the illicit market. Cannabis consumer spending, obviously.

However, through our trending consumer research you can see that some consumers, which we define as adults who have consumed in the past six months, with 78% reporting they purchased cannabis from a dispensary in Q3 of 2018, so that’s 78% of consumers reporting that they purchased cannabis from a dispensary in Q3 of 2018, right? Which we can assume, or hope, it means a legal, licensed channel.The number is up from 71% in Q1 of 2018. Now, of course a major factor here in that increase is that there were less licensed retailers back in Q1 of 2018 in California, right?

Now, consumers currently represent 31% of California adults, which is up slightly from earlier last year. Acceptors, which don’t currently consume but are open to in the future, currently represent 33% and are slightly up as well. Rejecters are down. Yay.So for comparison’s purposes, in Colorado, Washington, and Oregon, consumers currently make up between 35 and 45% of adults in those states. Now, while California is years behind those states in terms of adult-use legalization, it’s already very close in terms of the ratio of consumers, after just one year of adult-use sales. This is because, A, this is California, and B, while it may not have been regulated, California had a “thriving”, adult-use channels for decades, right? Meaning even though there was no official adult-use channels, California has certainly been behaving like there’s an adult-use market for quite some time, with most of the new products, innovation, brands, and forms coming out of here.But … So what this is showing you is there’s still a lot of opportunity for the pie to grow, right? There’s still opportunity for more consumers to come in and more market share to be had.

So with these new consumers, we see categories continue to evolve to meet this new consumer demand, with Flower dropping from 66% in Q1 of 2017 to34% in Q4 of 2018. And in fact, Flower saw the biggest loss in shares betweenDecember of 2017 and in January of 2018 with the launch of the adult-usemarket, right? Losing eight percentage points pretty much over night whenadult-use sales began.

We can see here that between Q4 of 2017 and Q4 of 2018, Flower lost 12.6 percentage points in market share. We also see dabbles took a little bit of a hit as well, and it lost this share to the more adult-use, new consumer-oriented products and categories, right? Such as vapes, edibles, etc. In fact, vapes alone captured 9.1 points in market shares.

So with the changing consumer base, new consumer needs are driving the shift you see in the marketplace. Incidentally, it’s also these shifts that are driving the shift in the consumer base, right? There’s a little bit of a chicken and the egg scenario, but we’re definitely seeing this trend across lots of different product forms like, for example, within the vape category, looking at disposable vapes, which a more convenient, easy to use, adult-use-oriented product form. They made up 14% of vape sales in Q4 of 2018, which is up from 8% in Q4 of 2017.

And with this is a greater desire for different forms and methods of consumption, with disposable vapes along with soft gel pills, teas, gummies, live resins, right? Each experiencing triple-digit growth in 2018.

Microdosing. Sales of low-dose and microdose products which are under 2.5 milligrams are far outpacing the average level, with 35% of consumers reporting they prefer low-dose edibles, which are under 10 milligrams. With all these new product types and forms coming to market targeting the new adult-use consumer, we’re seeing a preference for microdose products, right? With new consumers preferring the start low, go slow approach, and existing consumers finding ways to incorporate microdose edibles into their consuming habits.

And of course, CBD, CBD, CBD. Marsha, Marsha, Marsha. The current national craze, both cannabis and hemp-derived, right? So it’s not just an international buzz trend but also a statistical one with 35% of California edible consumers reporting they chose products based on their CBD content. And of those, 25% prefer 10:1 CBD THC ratios or higher, and within the regulated cannabis channels, so here we’re looking at just CBD products that sell within the dispensary channel, we see the CBD products went from making up 14% of California edible sales in Q4 of 2017 to 26% of edible sales in Q4 of 2018. So buzz trend or not, consumers want their CBD.

And one more fund CBD tidbit or CBDbit if you will, looking across all the product categories in the regulated cannabis channels, we see that over 80% of sublinguals and topicals sold are products that contain CBD, as in four out of every five sublinguals and topicals sold are high CBD products.

So what next? So next is 2019, and with 2019 comes a whole new wave of extinction, which has actually already begun, but unlike the first two, which were short and acute, this third wave is going to be longer, more subtle, and is probably going to be the biggest threat to legacy operators. So what will this monstrous wave entail? Annual licensing challenges obviously, right? I mean, we already saw that retailers, they were less licensed retails in December than in November, right? And so far, only roughly 50 annual licenses have been licensed throughout the supply chain, throughout the state, right? So that’s across all, not just retial, not just cultivation, and with annual licensing comes METRC, right? So you have to be up and running on METRC once you get your annual license. Operators are definitely going to face implementation challenges, especially if they don’t have a complaint ERP or point of sale solution in place, right? And with audits coming down the pipeline things are going to get rough.Category III testing. We saw what happened with Category II. Category III is testing for heavy metals, among other contaminants, and in fact we’re already seeing a lot of cartridges test positive for lead contamination and other metallics, and you know, whether that’s the oil or from the actual cartridge itself, this is going to continue to be a challenge for operators.Consolidation; we’re seeing a lot of M&A activity already. Already seeing it, and more coming, especially this year. We are seeing a lot of big money coming in, right? For scaling and marketing. We’re seeing big investments. We’re seeing these big alcohol and tobacco companies coming in, and not only do these folks have a lot of money but they also have a ton of experience in scaling, marketing, and building brands. Things to look out for.Lawsuits as a result of all of the above, and last but not least, potential rescheduling. Now, without getting into the nuances of if, when, and how, we do know that this will be the game changer and that it will significantly impact the existing industry and its operators.

Speaking of existing operators, we can see that top edible brands are already aggressively competing for market share, looking here at the top five edible brands’ market share over 2018. Interesting to look at July, right? We definitely saw some folks take some hits, and we saw other folks capitalize on the folks that took those hits.

So clearly brands are already battling for the top spot, with the top five vape brands already making up over half of vapes sales in Q4 of 2018, which is up from 38% the year before.

We’re seeing this brand consolidation across all product categories, with the top five brands already making up over half of the topicals, dabbables, sublinguals, and vape categories. In fact, dabbables showed a very impressive lead in its top five brand share, up from the top five making up 9% in Q4 of 2017 to making up 55% of dabbable sales in Q4 of 2018, so whoever those top five are, they are making some serious moves, or they made some serious moves in 2018 at the very least.So what this tells us is that while brands are emerging as leaders in their categories, there is still plenty of opportunity for brands to enter and grab market share, especially if they’re willing to take on industry whiplash.

So what can you do to prepare for all these anticipated changes? Assuming you haven’t decided to run away just quite yet. We’ll start with the obvious. Duh, right? Operators are going to need cash to make it through all the aforementioned challenges as well as a large budget for scaling and marketing.Software compliance: with METRC coming online, you’re going to want to make sure you have an adequate and complaint point of sale or ERP solution and that you have the right people in place to make sure that all your software and SOPs are up to code.Experience leadership: I know this also seems obvious, but scaling and marketing to the changing consumer isn’t easy, and having someone onboard who’s done it before and knows what mistakes and pitfalls to avoid is a huge advantage.Industry knowledge: experience in scaling and marketing alone isn’t going to cut it. This industry has history, multi-decade-long relationships, tight-knit communities, and a massive amount of hyper-specific quirks that makes having industry knowledge on a team incredibly valuable.Remember what I said about the auditing and the lawsuits? Yeah.And most importantly, you’ll notice a theme here: branding and marketing. The reason branding and marketing is so important and we keep stressing it is so far mainstream consumers and acceptors have had very little to no exposure to cannabis marketing, right? So one unique challenge that the cannabis industry faces is advertising restrictions, right? So with limited access to traditional advertising mediums, they haven’t really – they being the consumer, hasn’t had much a chance to develop much brand awareness, let alone any brand loyalty. So as we briefly touched on before, these big players with the capital and the experience to reach this mainstream consumer or already had a relationship with this mainstream consumer, are already here or they’re coming, and they will be deploying their capital and their know-how to tell these new consumers to come into their shop and buy their product.

And in fact it’s already begun, right? We’re already seeing billboards, full-page magazine ads, and in fact, these two magazine ads? I took this at my mom’s house, I took this picture. They were not cannabis magazines, right? These were mainstream magazines that my mom owned, and actually even attempted a Super Bowl ad with Acreage and CBS.

But before you go throwing all your money on billboards you’re going to want to make sure you’ve got the best branding and marketing strategy in place in order to most effectively and cost-efficiently reach your target consumer. So with our in-depth, ongoing trending consumer research we are going to do just that.

So while consumer education in California is still needed, with over half of our adult misinformed or uninformed about the difference between the effects of CBD and THC, at least we’re more educated than the average US adult on the matter, and to be honest I’d be pretty disappointed if this were not the case. Same goes for our understanding of hemp; 60% of California adults are misinformed or uninformed about the effects of hemp, and that is compared to almost 66% of US adults.

Nonetheless, 80% of US adults agree that there should be some form of legalization, with 64% agreeing that cannabis has medical benefits, and California is right on track with that number.

As such, looking at cannabis as two separate channels, right? As an adult channel versus a medical channel, isn’t that simple, right? While 68% of California consumers report that they use cannabis for recreational or social reasons versus 54% for health or medical, 29% of California consumers report that they consume for both, right? Regardless whether consumers are buying from adult-use or medical channels, they are consuming for both purposes and for multifaceted reasons.

And with this increased multipurpose use, we also see changes int consumer demographic, with the average California consumer now up to 42 years of age.

California continues to skew more male, actually, seeing an increase in male to female ratio last year, with males now making up over two thirds of California consumers.

And contrary to common perception and stigma, cannabis consumers are parents, too, with 53% of consumers reporting they are parents and/or guardians.

So getting to know the actual cannabis consumer is certainly helping de-stigmatize the plant, right? Although not among all, as so lovingly stated by our former attorney general, former being the operative word there.

And in fact, compared to acceptors and rejecters, the California cannabis consumer is actually more likely to work full-time, 48% holding full-time jobs. In fact, 22% make more than 100K a year, compared to 16% for acceptors and rejecters. So these consumers are more likely to work full-time and have a higher salary. They are also more likely to be social, creative, be outdoorsy, spend more for quality, like to try new products, and most importantly, they are likely to be satisfied with life, and I mean, who can’t get behind that?

So with all this money and newfound satisfaction, a nearly 70% of consumers now consuming for social purposes, we are seeing more of these social consumers consume before hanging out with others, before attending public events such as concerts, et cetera, and consuming in public places.

And here, we can see more consumers are pairing cannabis with these fun and social occasions alongside alcoholic beverages, and what’s clear here is that social and outdoor consumption, as in not on private property, is already the norm in California whether or not the facilities existed before this, but more on that in a bit.

So in these evolving needs states, we’re definitely seeing more and more discrete and convenient product forms in the market, with topicals significantly increasing in preference among California consumers from Q1 in 2017.

In fact, 50% of consumers report that they are largely influenced by the convenience of the consumption form when choosing a product.

And it’s not just consumption form that needs to be convenient: packaging does, too, with 43% of California consumers agreeing that manufacturers need to do a better job making their childproof packaging openable. Now, I am sure I am not alone on this webinar in the various battles that I have had with childproof packaging, and I consider myself a fairly adept adult, and the battles I’ve had are pretty damn embarrassing. In fact, some packaging companies have even started describing their products as senior-friendly, which I find hysterical. Consumers also wish products were better-labeled with expected effect.So in short what this is all telling us is that consumers want a good experience from end to end, right? From opening the packaging to the anticipated effect, and this doesn’t just apply to the new consumer; this applies to the existing consumer as well, right? Consumers ultimately want a good experience without working too hard for that experience.

But ultimately, price is the number one driver of consumer product choice when it comes to the product selection, so when choosing the product, price is still the thing that matters. Price is still the factor that matters the most.

But thankfully, you still have your core consumer, your cannaisseur.

While they may be slowly overtaken by the new consumer, they are willing to spend more for quality. They keep up with latest tech. They grow that products are locally grown, and they prefer local, natural, organic, and social-interested brands.These cannaisseurs, right, are also more likely to care about the processing method, the terpenes, the additional cannabinoids in the plants, the growing method, where grown, whether it’s natural or organic, and packaging. And these consumers are your early adopters and influencers, especially as growing your brand presence and awareness in 2018 is going to matter more than ever. You’re not going to want to forget about this consumer. They are your brand evangelist.

Before we wrap things up, let’s take a second and dive into the retail experience. Retailers are certainly stepping up their aesthetic game, appealing to the new and changing consumer, and they, too, will be focusing their efforts on branding and marketing to bring in all these new consumers.

However, location is still a very important factor to the consumer when choosing a dispensary. In fact, while price is the number one influencer in product selection, it doesn’t even make it into the top five influences when it comes to choosing a dispensary, right? You see it down there at number six, so still relatively important but other, more important factors when choosing a dispensary.

But of course, here in California we have the ultimate convenience, and that is delivery. And as we see delivery taking over in all industries, cannabis will not be impervious, right? As consumers start to develop relationships with brands and once they know what they want and as the novelty of going to a dispensary wears off, retailers are going to have to differentiate themselves in order to continue to bring the consumers and attract new consumers into the shop.

So how can they do that? Via the experience, right? They can do that by providing experiences, some of which we’re already seeing in action. California is already leading the way with lounges; we’ve got consumption lounges in San Francisco, in Oakland, in Palm Springs, and more cities coming online. Wellness and education, yoga, speaker series, patient and consumer services; we’re already seeing a lot of dispensaries offer those services.Health and beauty; I think we’ll be seeing more of this coming online, massage and salon parlors, etc.Live music and entertainment, right? I think that cannabis consumption lounges are great venues for shows and other gatherings, whether it’s educational series, etc. We’re going to be seeing more that as well.And restaurants, obviously. Now, of course a lot of this is dependent on regulations, but finally, and this is my personal dream, cafes. The day that we can get Amsterdam style, that’s the day when I’ll rest easy.

Alright, so summing it all up: it was a tough year, but this is California cannabis and we will survive. Brands and products are emerging and evolving to meet this ever-changing consumer demand, while at the same time that changing consumer demand is driving a lot of this product evolution, right? Chicken and egg. The average consumer is changing and becoming more mainstream. Cannabis use is becoming more social, and consumers are looking for easy to use and convenient products to match this more social lifestyle, and while it’s necessary to get to know and understand the new consumer, you are not going to want to forget about that core.And from a retail perspective, we’re going to expect to see retailers offering more unique and exciting experiences in the retail, and hopefully we are not too far away from that café.

And let’s not forget, last but definitely not least … you didn’t think I’d let you go without screaming that at you one more time, right? So with that, thank you very much. I enjoyed this. I hope you guys enjoyed this and found it informative.