Why Vertical Integration in the Cannabis Industry Creates Monopolies

By Michelle Fields, Esq.

As the cannabis industry enters the mainstream, it will begin to experience the effects of a legal market. Some of these are to be welcomed, such as price competition and expansion of product lines and availability. These are good for consumers. There will be negatives, too, like consolidation of cannabis businesses which can lead to anti-competitive pressures which can, in turn, lead to price increases for consumers.

One potential problem of particular concern is vertical integration of cannabis companies. This phenomenon is not new and has been seen in many emerging markets and sectors of the economy. Vertical integration has the potential to create local and regional cannabis monopolies and that is bad for consumers and for the industry. Here is a quick summary of why vertical integration creates monopolies.

The term “monopoly” is a term from the field of economics and describes a market circumstance where only one firm/business supplies a particular product or service. Imagine only one brand of gas station in your city which are all owned by one person or company. A monopoly is “removed” from the competitive pressures of a market since, as the only supplier, a monopoly firm can charge whatever price it wants. This means that, to use more economic terminology, a monopoly firm can charge monopoly prices and exact monopoly profits. This is bad for consumers.

Monopolies can also occur through agreement among many firms. Imagine all the coffee houses in your city agree to charge $20 per cup of coffee. This is an example of what is called “horizontal monopoly.” It is easier to agree to a monopoly if there are a small number of companies in the same business. This is why mergers and acquisitions have a tendency to create monopolies.

Monopolies can also be created vertically; that is, by combination and agreement among firms in a supply chain. An example of a simple cannabis supply chain might be this:

• Growers
• Processors of raw materials
• Distribution — like shipping and delivery
• Retail

Vertical integration of one cannabis company that controlled its own growers, processors, distribution, and retailing would be a powerful market player. Such a company would not necessarily be a monopoly, but opportunities and pricing pressures could lead such a company to act monopolistically. In our simple example, there are four horizontal levels if our hypothetical cannabis company could attempt to consolidate and, thereby, extract monopoly profits. Vertical integration also creates monopolistic market pressures by eliminating potential competitors. In our simple supply chain, if each level is operated by a separate business, there are four potential competitors. At each level, each company might conceivably compete with the others by “going up or down” a level. If this supply chain is vertically integrated, there is only one firm and no competitors. In this manner, vertical integration through mergers and acquisitions can eliminate potential existing competitors.

Vertical integration can also eliminate not-yet-in-existence potential competitors by raising barriers to entry into the market and into the submarkets. Imagine a city-wide cannabis industry controlled by five firms, each of which controls its own supply chain. Now imagine that you want to open a business growing cannabis. Because each cannabis firm owns/controls its own growers, essentially, as a new grower, you will have no customers. In this way, vertical integration prevents potential new competitors from ever getting started in the cannabis industry. As a result, any new cannabis business in our hypothetical city must enter the market controlling a full supply chain: growers, processors, distributors, and retailers. This is another form of barrier to entry. It may be inexpensive to start growing cannabis and, thus, easy to enter the market. But the same cannot be said if every new business must enter the market with a complete supply chain.

Find Out More from a New York State Cannabis Attorney

For more information, contact New York State Cannabis Attorney Michelle Fields. With more than 17 years of litigation experience and a focus on New York Cannabis Law, ours is a special commitment to Equity, Equality, and Inclusion. You can read more about these issues here and contact me at 718-400-6143.