It’s a tough market for budding marijuana businesses

ARLINGTON — The farm near here looks much like its rural neighbors on Highway 9. But this one is under 24-hour surveillance.

Signs outside a house and two buildings warn that guns and children are not allowed. As one approaches the locked doors of the operation, there is a faint smell of marijuana.

Inside, about a dozen workers grow and harvest plants, package dry leaves and buds and prepare it for sale on the state’s newly legal recreational marijuana market. The agricultural part of the operation is backed by a sophisticated business that is navigating a labyrinth of regulations, changing rules and nervous neighbors.

Avitas Agriculture is a state-licensed marijuana producer and processor. Its name is sativa spelled backwards, a subtle disguise for a company trying to apply traditional business sensibility in a market with a smoky reputation.

So far, though, volatile market shifts and taxes have made it tough for Avitas and other marijuana companies to turn a profit. A challenging business environment is making it tougher to make a living than many expected.

“We see a lot of people who jumped into this with a ‘green-rush’ mentality,” said Brian Smith, a spokesman for the Washington State Liquor Control Board, which regulates the commercial marijuana system.

Many of the recreational marijuana businesses will not survive, he predicted, and it could take several years before enterprises recover startup costs.

Volatile market

Adam Smith, no relation to the state official, and Jason Smit co-founded Avitas, which grows top-shelf weed for recreational pot stores from Bellingham to Olympia.

When voters in 2012 approved Initiative-502 to legalize recreational marijuana for adults, Smith saw an entrepreneurial opportunity. Until recently, he worked in Seattle as a vice president of business operations at a sports media company. Smith partnered with Smit, who was an engineer for an aerospace company.

Smit knew how to work within strict government regulations and had experience growing medical marijuana. Now he oversees the crop at Avitas while Smith runs the business.

They are working under stringent rules of the Liquor Control Board. The state tracks every part of the production process from seed to sale.

Avitas and other marijuana businesses have seen the market flip-flop since last July, when sales began. Retailers couldn’t keep enough pot on the shelves. Supplied by few approved growers early on, stores were unable to keep up with demand for the newly legal marijuana. Pot was selling for more than $30 a gram at the cash register.

Now prices have fallen to between $11 and $28 per gram because there’s more marijuana available, according to one industry analysis. The state has licensed more growers, and the fall harvest flooded the market with sun-grown crop from Eastern Washington.

Average legal retail prices are still higher than those on the competing black and medical markets. State officials think legal recreational weed can compete favorably with those other sources if prices stabilize at around $12 a gram.

The state now has licensed about 380 growers and 100 pot stores. In Snohomish County, Avitas is among about 16 growers. At least seven marijuana shops have opened in the county.

Avitas is waiting to see if the Snohomish County Council will shut down marijuana businesses in certain rural areas, including its present location. Under pressure from residents in those areas, the county is to reconsider rules this spring.

The Legislature, meanwhile, is considering more than a dozen bills that could affect the industry.

Accountability on the farm

Avitas invested about $500,000 to get started, Smith said. Much of that cost came from complying with government workplace standards, among other things.

Once the Liquor Board approved the site, Avitas had 15 days during which regulators looked the other way as the company acquired the actual plants, which were technically illegal. Each plant was then given a barcode and entered into the state tracking system.

Smit grows about a dozen strains of marijuana, including indicas, sativas and hybrids. He knows he has exactly 570 plants. The tracking requirement of the state has been likened to a winemaker documenting every grape.

Even waste is accounted for. At Avitas, plants that are to be disposed of are ground up, mixed with soil and placed in a bin that is padlocked until it can be hauled to a commercial compost site.

Avitas grows marijuana inside a 4,200-square-foot greenhouse — smaller than a basketball court.

Smit and Smith believe passers-by should not be able to tell marijuana is being grown inside. But when the plants begin to flower, there is a faint smell outside, close to the buildings. Smit said he hasn’t had any complaints and would take measures to control the odor controls if the smell bothered neighbors.

Avitas harvests about 50 pounds of marijuana a month. The weight of the harvest is entered into the state system, and the plants are placed under 24-hour quarantine to give regulators time to make a random check.

The marijuana is then moved to a separate processing building, where they are line-dried. The buds that comprise sellable product are hand-trimmed and cured.

Samples are sent to a state-approved lab for analysis. The marijuana is checked for contaminants, and the potency of the ingredients is measured.

“There are no checks and balances like that on the medical side,” Smit said. “It’s like the Wild West.”

While the sale of marijuana for medical use is legal under certain circumstances, there is no state oversight of the product.

To the store

The marijuana is then weighed, packaged and labeled. Workers at Avitas follow similar hygiene standards to those for food handlers. They wear hair nets and latex gloves.

“We’re definitely trying to bring professionalism to the industry,” said employee Jeremy Montgomery, as he packaged the “Chocolope” strain during a recent tour of the business.

Another Avitas employee, Shane Smullin, previously worked as a quality inspector on a production line in aerospace. While the jobs are different, he said, the regulatory requirements have a similar effect on the work.

“You make sure you’re producing exactly what you say you are,” he said.

The packaged product, too, must be placed in 24-hour quarantine to allow the state time for random checks. It then is shipped, in a state-approved vehicle with a manifest, to the 36 stores which Avitas supplies. At the stores, the product is entered again into the state tracking system.

Herbal Nation in Bothell and Kush Mart in Everett are among the local shops that sell Avitas pot.

“They’re our top shelf,” said Kush Mart employee Eric Wing, pointing out the frosty appearance and the sticky texture of Avitas buds.

Why the price is high

Smith said stores are marking up marijuana considerably. Recently, Avitas has been selling wholesale marijuana to retailers for about $7 a gram. Retailers, he said, are selling it for prices ranging from about $15 to more than $25 a gram.

Kush Mart co-owner Dmitry Loffe said he tries to keep prices low, but taxes make it hard for retailers to make money when they compete with other purveyors of pot who are subject to less tax or none at all.

Smith agrees that taxes put pressure on the profit margin.

First, a 25 percent excise tax is levied on recreational marijuana at each step of the process — from grower to processor, from processor to retailer, and from the store to the customer. Avitas gets a break on the producer-to-processor step because it does both.

Also, the standard state sales tax and the state business-and-occupation tax apply to recreational marijuana. Ironically, the U.S. Internal Revenue Service also collects taxes from marijuana businesses, even though, at the federal level, the product is illegal.

Smith and other marijuana business owners are calling for reforms to the tax system so they can lower the overhead that affects prices. Sellers on the black market obviously don’t add taxes to the price of their wares. Medical marijuana businesses add state sales tax to their prices, pay the state business-and-occupation tax and pay federal income tax — but do not pay the special, multi-level recreational marijuana excise tax.

In the meantime, Smith is coming up with creative ways to survive in a market of high taxation, fluctuating prices and a glut of product. He is negotiating what he believes is the industry’s first “forward” contract — agreement to buy future marijuana produce at a price agreed upon today. It’s a common practice in agriculture and other industries.

Smith said he is working on deals with two marijuana farms in Eastern Washington to buy about 1,000 pounds of marijuana from the coming summer and fall harvests. He plans to expand Avitas’ processing business by making the sun-grown pot into concentrated-marijuana products. The deals would also help Avitas tamp down the effect of a surge in inventory that drives down prices, he said.

Smith thinks Avitas is well positioned to survive the volatile market in the short-term, but believes changes are needed to stabilize prices and ensure the viability of the industry.

“It’s a regulatory nightmare for the farmers,” Smith said. “Marijuana is an agricultural plant. It should be treated like agriculture.”

Amy Nile: 425-339-3192; Twitter: @AmyNileReports.

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