(Kush bottles website)

Kush Bottles thrives in volatile cannabis industry by keeping hands off weed

As an assistant district attorney and judge in Santa Cruz, California, Nick Kovacevich’s father put people in prison for possessing marijuana. Forty years later, his son is selling packaging for about 2 million joints a month.

Kovacevich, 32, is founder and chief executive officer of Kush Bottles, a Santa Ana, California-based startup that performs a delicate balancing act. The company supplies packaging and other ancillary items to state-sanctioned pot dispensaries without ever touching the cannabis plant, which the federal government considers an illegal drug in the same class as heroin.

Now, as a pioneer who found a way to succeed in the risky business of pot sales, Kovacevich faces his biggest challenge. Though marijuana is more lucrative than ever, the path to becoming a reliable industry such as that of beer or wine is in constant flux. Pot sellers are contending with a patchwork of state regulations and an unfriendly federal government that’s threatened to restore a “Reefer Madness”-era prohibition mindset.

“It’s a year of transition, not only to adapt to the new rules, but also a transition in terms of where our focus as a company is,” Kovacevich said in an interview.

Kush Bottles is seen as one of the industry’s biggest bellwethers. As a publicly traded company with a presence in 30 states and the District of Columbia, it has much to gain — and lose.

To succeed, Kush must navigate a minefield of red tape. California, the nation’s largest cannabis market, began legal recreational cannabis sales on Jan. 1; Massachusetts is to do the same in June. In total, eight states and the District of Columbia allow for adult use, and 21 additional states have voted to legalize medical marijuana. But each of those markets has its own regulations.

“We may have a first-mover advantage in Colorado, Oregon, Washington and California, but that doesn’t give us first-mover advantage in Massachusetts,” Kovacevich said. “Do we want to cede that advantage? Absolutely not.”

In California, the most important regulatory change for Kush is a move away from deli-style retail. Previously, customers would walk into a dispensary and choose a type of marijuana, which the “budtender” would weigh and package the product on site using a Kush bag or container. Now cannabis must arrive at dispensaries prepackaged in specified weights.

To maintain its hands-off-the-weed approach, that means Kush must shift its customer base from retail dispensaries to big growers, manufacturers and distributors. Those businesses will require more custom-branded packaging and automation to boost packing efficiency.

Like others in the industry, Kush is also coping with complications created by the industry’s most powerful enemy: U.S. Attorney General Jeff Sessions. Just four days after California dispensaries opened their doors to recreational customers, Sessions rescinded the Obama-era policy that allowed for the rise of state-legal businesses. The Bloomberg Intelligence Global Cannabis Competitive Peers Index, a gauge of industry stocks, dropped as much as 24 percent after reports of the Justice Department plan.

But shares rose by the next day – a far cry from what happened when Sessions, a longtime opponent of marijuana use, was appointed. Cannabis stocks took months to recover from the hit they took when President Donald Trump named the Alabama senator to lead the country’s top law-enforcement agency.

The latest reaction on Wall Street shows the industry is drawing more savvy investors, and it may be too late for Sessions to stop the momentum.

“A year ago, it was all retail investors, and they were all very spooked,” Kovacevich said. “Now you’re starting to get some more sophisticated family offices, small institutional investors. People were like, ‘Oh, great. There’s negative news, the stocks are dropping.’ That’s a buying opportunity.”

Kush posted revenue of $8.85 million in the first quarter of fiscal 2018, up 258 percent from the period a year earlier. Shares are up 57 percent for the year.

Kush is benefiting from both excitement and fear about legal marijuana. People are interested in investing in a rapidly growing market. California alone is estimated to be a $3.7 billion market in 2018, according to BDS Analytics; the national market is likely to reach $50 billion by 2026, up from $6 billion in 2016, according to the investment bank Cowen & Co. By the same token, the Justice Department’s crackdown may be steering potential investors away from businesses that actually touch the plant. That helps a company like Kush, which doesn’t.

Kush could one day get into the plant-touching side of the business, putting the cannabis in the packages before shipping them out, Kovacevich said. But for now, Kush is benefiting too much to think about switching its business model.

The company said it’s working with one of the largest U.S. banks, which it declined to name — most financial institutions won’t deal with pot companies because of its dual legal status — and Kush has vault services for cash collection. One day, the company hopes to list on the New York Stock Exchange or Nasdaq.

“That all goes away if we touch the plant in the current climate,” Kovacevich said.