Cannabis and the ‘Golden State’ – Gauging Industry Health Through California’s Market

California’s cannabis market is the largest and, arguably, most influential in North America.  It serves as a model for other states considering legalization.  However, the market faces challenges, including declining wholesale prices, illicit market competition, and regulatory burdens on legal operators.  Understanding the California cannabis industry’s health is crucial for state-level policies and emerging markets learning from California’s experience.  To that end, ERA Economics recently released its latest 2024 Market Report¹ on the cannabis industry, which was commissioned by the California Department of Cannabis Control (DCC).  Below, we highlight some of the key findings provided in this report and what they may mean moving forward.

State of the Market: Key Findings for 2024

1. Market Challenges and Declining Prices

California’s cannabis industry has been under significant financial strain due to declining wholesale and retail prices since 2021.  Inflation-adjusted wholesale prices dropped by an average of 57% by late 2024 after a peak in Q4 2020.  Different cultivation methods have been affected disproportionately:

• Outdoor-grown cannabis: Prices have plummeted by 74%
• Mixed-light cannabis: Prices have declined by 60%
• Indoor-grown cannabis: Prices have dropped by 46%

This drop is due to several factors, including increased competition from the illicit market, an oversupply of legal cannabis, and regulatory challenges that make it difficult for legal operators to remain profitable.  A modest 4.8% increase in wholesale prices was observed in 2024, driven by demand for high-quality indoor and mixed-light flower, but financial stress remains a significant issue for cultivators and retailers.

The illicit market, unburdened by taxes and regulations, can offer lower prices, undercutting legal businesses.  The legal market also faces an oversupply issue, with production exceeding current consumer demand in legal channels. T his oversupply puts downward pressure on prices as businesses compete for market share.  Additionally, high taxes and regulatory costs make it difficult for legal businesses to lower prices and remain competitive.

Despite the aforementioned economic pressures, California’s licensed cannabis market has continued to expand.  Legal production has steadily increased since the introduction of MAUCRSA:

• 2019: 580,000 pounds
• 2020: 840,000 pounds
• 2021: 984,000 pounds
• 2022: 1.1 million pounds
• 2023: 1.28 million pounds
• 2024: 1.43 million pounds (estimated)

The illicit market’s resilience is a significant challenge for California’s legal cannabis industry.  Unlicensed production is estimated to account for between 7 to 16.3 million pounds annually, supplying a majority (60%) of the total cannabis consumption in the state.

Several factors contribute to its persistence.  First, illicit growers do not bear the costs of regulatory compliance, licensing fees, and taxes, allowing them to produce and sell cannabis at lower prices.

Second, illicit operations are not subject to the same quality control and safety standards as legal ones, potentially appealing to consumers seeking lower prices regardless of potential risks.

Finally, the high taxes on legal cannabis products make them more expensive, pushing some price-sensitive consumers toward the illicit market.

3. Cannabis Demand and Consumer Trends

California’s cannabis consumption has been increasing, with an estimated 3.8 million pounds of cannabis consumed in 2024.  Per capita cannabis consumption in the state is estimated at 56 grams per year, which remains lower than in some early-adopting states like Colorado and Oregon.  This indicates that there is still room for market expansion and increased consumer migration to legal channels.

• Edibles and pre-rolls have seen consistent demand growth
• Traditional flower sales remain strong but are subject to price pressures
• Hemp-derived intoxicating cannabinoids have emerged as a potential competitor to licensed cannabis products

The shift in consumer preferences toward edibles and pre-rolls reflects broader trends in the cannabis industry.  These products offer convenience and discreet consumption, appealing to a broader range of consumers.

The state is considering regulations to restrict hemp-derived intoxicating cannabinoids, which could shift demand back toward licensed cannabis.  The emergence of hemp-derived intoxicating cannabinoids poses a challenge to the legal market, as these products are often cheaper and more readily available.  However, proposed regulations on these products could help protect consumer safety and shift demand back towards licensed cannabis products.

Retail access has expanded in 2024, with new local jurisdictions approving dispensary licenses. The number of active retail licenses has increased, helping to drive more consumers into the legal market. However, consolidation trends are evident:

• Cultivation licenses have declined, indicating that smaller operators struggle to stay afloat.
• Retail and distribution licenses have increased, suggesting greater market efficiency and competitiveness.
• Licensed businesses are consolidating, with larger operators absorbing smaller, less profitable ones.

This shift toward consolidation is a natural progression for the industry but raises concerns about entry barriers for smaller cannabis businesses.  Market consolidation is a common phenomenon in emerging industries, and the cannabis industry is no exception.  Larger companies often have greater access to capital, more efficient operations, and stronger brand recognition, giving them a competitive advantage.  However, consolidation can also decrease market diversity, potentially limiting consumer choice and innovation.

It is essential to ensure that regulations foster a fair and competitive market that allows small and large businesses to thrive.

Regulatory Landscape and Policy Developments

1. Regulatory Changes Impacting the Market

California’s cannabis regulatory environment continues to evolve. Recent and upcoming regulatory changes include:

• Suspension of the statewide cultivation tax in 2022, reducing production costs
• Increased enforcement actions against illicit operations, though challenges remain
• Introduction of Large (Type 5) Cultivation Licenses, allowing for more efficient scaling
• Potential integration of animal cannabis products into the market, expanding potential consumer bases
• Stricter reporting requirements for the California Cannabis Track-and-Trace (CCTT) system to combat illicit diversions

California’s maturing regulatory landscape reflects the ongoing efforts to balance various interests in the cannabis industry.  The suspension of the cultivation tax aimed to provide relief to cultivators facing financial pressures, but the scheduled increase in the excise tax in 2025 poses new challenges.

Increased enforcement against illicit operations is seen as being crucial to protect consumer safety and support legal businesses, but enforcement efforts must be balanced with the need to avoid over-burdening legal operators.

The introduction of Large Cultivation Licenses and the potential integration of animal cannabis products represent opportunities for market expansion and diversification, but careful consideration must be given to potential impacts on smaller businesses and consumer preferences.

2. Taxation and Financial Pressures

While eliminating the cultivation tax lowered production costs, a scheduled increase in the cannabis excise tax in 2025 poses a new financial hurdle for businesses.  Local taxation also remains a concern, with some municipalities imposing local tax rates exceeding 30%, further exacerbating financial pressures on legal businesses.

High taxes are a persistent challenge for the legal cannabis industry in California.  While taxes are necessary to fund important state and local programs, excessively high tax rates can make legal cannabis less competitive with the illicit market.  The scheduled increase in the excise tax in 2025 is particularly concerning, as it could further strain legal businesses already struggling with declining prices and high operating costs.

3. Interstate and Federal Legalization Implications

The inability to engage in interstate commerce significantly impacts California operators, who are limited to selling within the state.  If federal legalization or interstate cannabis trade is allowed in the future, California’s large-scale producers could access national markets, potentially increasing profitability and reducing illicit exports.