As cannabis legalisation continues to spread, so the market grows and with commercial insurance failing to properly serve the industry there is an opportunity for captives to thrive
The legalisation of cannabis continues to sweep across the United States, with recreational use legalised in nine states (plus Puerto Rico, Guam and Washington, DC) and medical use legalised in 30 (plus Puerto Rico, Guam and Washington, DC).
A larger market has led to legal cannabis sales reaching an estimated $9.7 billion in 2017, a number that is expected to grow further as legalisation continues to spread. In fact, a report from Brightfield Group, predicts the international market will grow to $31.4 billion by 2021.
Despite the size of the market, the cannabis industry remains underserved by commercial insurance. There is a lack of capacity in the commercial market, and where there is coverage it is often very expensive with policies that involve exclusions which limit the value of cover or restrict how much can be recovered under the policy. This is perhaps unsurprising due to the new and unique set of risks in the industry and the many unknowns that are involved (such as the ever developing law of product liability). Not least are the legal obstacles that impede cannabis businesses, centred on the fact that the drug remains illegal according to federal law.
The industry appears to be perfectly suited to captive insurance and with the market about to catch fire and attitudes changing, could now be the perfect opportunity for a joint venture between captives and cannabis?
Perfect for the roll
Amye King, national sales director at Emerald Risk Solutions, suggests that captive insurance represents “a great business solution” for the cannabis industry.
King expands: “It’s tailored to assist with the business’s insurance expenses and can cover gaps or exclusions in current insurance policies.”
According to King, captives can offer coverage solutions from “seed to sale.”
“From growers seeking outdoor crop protection from weather related issues like fire, to stock in transit risks for the drivers, the product and the money to cyber related risks of being hacked at a retail shop or dispensary.”
“There are unique and sometimes unprotected risks facing the industry. Things like outdoor crop insurance, cyber-attacks on retail operations, a business interruption caused with a product recall or the ongoing fear of a regulatory audit/investigation. These risks and more can be potentially covered with captive insurance.”
“Generally speaking, a captive programme just might be the answer the cannabis industry has been waiting for.”
Joe Holahan, attorney at Morris, Manning and Martin, said the flexibility of captives make them extremely well suited to the cannabis industry.
Holahan explained: “The cannabis industry fits the profile of an industry that captive really was designed to serve. When you place risks through captive insurance you have the opportunities to shape the coverage the way you want it to be. Cannabis business owners can use the captive for self-insurance and to access international reinsurance markets where there may be a greater appetite to underwrite the risk.”
Legal obstacles stirring the pot
The most restraining issue facing the cannabis industry is the continued federal prohibition of the drug. Under the Controlled Substance Act, cannabis is a Schedule I substance, meaning it has a high potential for abuse, no currently accepted medical treatment use in the US, and that there is a lack of accepted safety for use of the drug under medical supervision.
This classification is problematic as it impacts anti-money laundering laws, which have stiff penalties for people who engage in cannabis related businesses or facilitate them. In addition to this there are civil forfeiture laws, allowing the government to seize assets that are derived from cannabis related businesses.
“These are great concerns,” said Holahan. “I think this is the primary reason we haven’t seen more cannabis captives or commercial carriers willing to write these risks. It is not just the novel nature of the risk, unique risks can be underwritten and you can limit the coverage to handle them, but the federal law really is a considerable obstacle.”
Another legal obstacle is the public policy argument. Businesses have often experienced issues where claims or policies are voided as insurers successfully argue to the court that, because the drug is illegal, insuring cannabis related risks is against public policy, despite being fully aware of the types of risks they were insuring.
The tide may have begun to turn against the public policy argument though, as evidenced by the ruling in The Green Earth Wellness Center v. Atain Speciality Insurance case.
In the case, Atain Speciality tried to exclude their coverage of Green Earth on the grounds that it was against public policy to insure cannabis related risks.
The court ruled in favour of Green Earth, on the basis that Atain Speciality had entered into the policy “of its own will, knowingly and intelligently” and therefore was “obligated to comply with its terms or pay damages for having breached it”.
Greener pastures ahead
Attitudes to marijuana continue to become more positive and the drug is beginning to enter mainstream culture.
A far cry from dodgy back alley dealings, the industry has developed structures and technology, such as delivery companies like Eaze, to support its more mainstream status.
It appears that the insurance industry may be following suit, and according to Holahan, regulators are becoming to more receptive to alternative solutions for the dealing with cannabis industry’s risks.
He said: “More and more, state regulators are starting to entertain proposals to form captives that would write cannabis risks. When I talk to regulators I’ve noticed a distinct shift over the last year as this becomes more mainstream they’re starting consider reasonable proposals.”
One of the ways we may see captives enter the market is in combination with commercial insurance, with the captive supplementing the commercial insurer’s policies and covering the risks which might otherwise not be covered.
King explained: “We are also hearing from commercial insurance brokers who want to provide a comprehensive package to their clients and they are thrilled that captive insurance can fill in gaps or exclusions.”
She added that the potential solution offered by captives had been well received in the cannabis industry.
“It is the best news–every cannabis business operates on such a high level of risk and anyone legally working in the cannabis space is so happy this solution finally exists.”
2018 - Captives roll up?
Though the federal stance on cannabis remains a huge obstacle, the changing attitudes and the opportunity presented by untapped markets like California, who legalised recreational use on 1 January this year, means 2018 could see captives flood into the cannabis market.
King indicated that the speed at which cannabis industry professionals can be properly educated about captives will be hugely influential on the speed of the market growth.
“It depends on a few factors,” said King. “Primarily the need to educate the advisors working in the cannabis space.”
It is difficult to predict what impact we will see this year, while interest on both sides indicates it is likely we will see some movement in the cannabis captive market, the continued issue caused by the federal stance on the drug means it is unlikely we will see a boom in the market this year, but Holahan suggested when there is growth it may cause a domino effect.
He said: “It is hard to predict, I know there are at least two captive applications pending, there are others whom i’ve spoken with who are working on larger captive programmes but I don’t have a crystal ball so I don’t know whether 2018 is the year.”
“More states are passing these laws but there is a desire not to be the first. Regulators are by nature conservative in their approach, that’s their job, but once a few captives are licensed and regulators see that the sky hasn’t fallen they will be even more receptive to them. I think we may see a snowball effect.”
Quick on the draw
There is some concern that failing to move quickly may mean captives miss a huge opportunity by allowing commercial insurance to catch up, but David Liptz, from Liptz and Associates, suggested that the commercial market will struggle to offer suitable coverage.
Liptz said: “There may be some slight adjustments, but at the end of the day, you are still dealing with a tough risk. Crop insurance has always been a problem, and now the value of loss, loss of income in the same space that used to have lower exposures is a real concern.”
“Employee dishonesty and theft have always been tough risks to insure, and the premiums should be fairly similar, which will make it hard for a traditional insurer to capture the market.”
According to Liptz, the opportunity is there for captives to make strides in the cannabis sector in the near future.
“The right captive programme can add a new opportunity within the captive space for the right captive manager.”
He continued: “The positive is that it can get more individuals and companies with unique business models to view the captive insurance model as a viable option or addition to their existing risk management process.”
“To be able to grow surplus for future claims and the development of a business to efficiently pay claims which will allow the insured to remain a going concern.”
Whether or not we see captives enter the market in 2018, it does seem that the two industries are too well matched for a spark not to eventually ignite between them.
