May 5 (Bloomberg) -- It took less than 24 hours for real estate broker Bob Costello to sell a 40,000-square-foot warehouse with a leaky roof in Denver. His client paid cash and plans to turn the property into an indoor marijuana farm.
“It’s totally nuts,” Costello said. “Anything I can find, I can sell immediately. Normally industrial buildings could sit on the market for months or years.”
Costello has sold five warehouses in all-cash deals, mostly to investors seeking to rent space to growers, since the production, possession and sale of recreational marijuana in Colorado became legal this year. He’s also leased about 15 buildings since October for cannabis-related uses at more than double the market rate, he said.
The birth of a legal marijuana industry in parts of the U.S. is driving demand for real estate and providing new opportunities for investors to finance companies that have sprouted up to service it. Wealthy individuals and firms are buying warehouses and investing in packaging, security, lighting and testing businesses, while banks are unwilling to lend to marijuana operations because they are still illegal under federal law.
The cannabis industry would generate about $20 billion a year if it was legal nationally, according to Jeffrey Miron, an economics professor at Harvard University. An initial budget proposal from Governor John W. Hickenlooper in February showed recreational and medical pot sales in Colorado could reach as much as $1 billion in the fiscal year beginning in July, though that figure is being revised after collections trailed estimates in January and February.
The sales will raise an estimated $77 million in state and excise tax revenue in the next fiscal year, according to a forecast by researchers for the Colorado General Assembly.
“We think some of the most promising and overlooked opportunities may be in these ancillary businesses such as real estate,” said Peter Adams, executive director of the Rockies Venture Club, a Denver-based group connecting investors and entrepreneurs. “The guys digging the gold ore in the gold rush didn’t make much money but the vendors selling picks and shovels cleaned up.”
Investors usually upgrade the properties for growing purposes, so they’re able to charge higher rents, said Paul Isenbergh, a commercial real estate broker in Denver. The buildings need more amperage than typical warehouses, and the interiors have to block all daylight so growing cycles aren’t disrupted.
Isenbergh bought a 9,100-square-foot (845-square-meter) warehouse in February with four Miami-based partners for $750,000, and spent another $150,000 making upgrades, including increasing power needed for grow lights, air conditioning and ventilation systems.
He’s charging tenants almost $20 a square foot to lease the Denver property. That’s more than four times the average rent for an industrial building in the city, which was $4.43 a square foot in the first quarter, according to Reis Inc.
“It’s really turned around the industrial market, especially for these older buildings,” Isenbergh said. “There is a lot of money flocking to this. I’m dealing with people from Wall Street right now -- individuals, funds.”
He’s also looking to buy property with partners in other states where growing marijuana for medical or recreational use is legal, such as Washington and Arizona.
Renting warehouse space in Washington has gotten so expensive that marijuana grower Kevin Dietz instead bought about 7 acres (2.8 hectares) of orchard property in East Wenatchee. Then he built a warehouse on it.
“We found it was very cost-prohibitive” to rent a warehouse, said Dietz, who last year left his insurance industry job after 25 years in financial services to start growing pot.
Landlords were asking more than twice the going rate of about 30 cents a square foot where he was looking for space, he said. He used about $500,000 in savings and borrowed funds to purchase the land, put a building on it and turn it into a grow facility. Having land and a building gives him the ability to grow outdoors and indoors, he said.
Voters in the states of Colorado and Washington approved the first sales of marijuana for recreational use in 2012. Sales in Colorado began Jan. 1 for those 21 and older, and Washington retailers are expected to start in June. Legalization campaigns are under way in Alaska, Oregon, Ohio and Arizona and 17 states have passed laws decriminalizing the drug, according to the National Organization For the Reform of Marijuana Laws.
More than 60 U.S. and international health organizations support granting patients immediate legal access to medicinal marijuana under a physician’s supervision, according to the group.
“We believe that Pandora’s box has been opened and it will just be a matter of time before cannabis is legal in all states,” Adams said. “Investors are extremely interested in this area because they see the potential for these early companies to establish market dominance in a huge industry.”
In Colorado, marijuana businesses are so profitable that growers have no problem paying higher-than-average rents, according to Adams.
“When I talk to the growers, they are paying $450 to $1,100 a pound to grow the stuff all in, and then they are selling that wholesale for $3,000 to $4,000 a pound, and retail for $11,000 a pound,” he said. “You see those markups and see how they can pay these stupid amounts to landlords.”
Colorado has approved licenses for almost 200 stores and more than 50 grow facilities housing businesses such as Sweet Grass Kitchen and The Greenerside LLC, according to the Marijuana Enforcement Division. More than 2 million square feet of warehouse space in the Denver market is occupied by cannabis growers, commercial real estate firm Cassidy Turley estimates.
Denver is one of the only counties currently allowing industrial buildings to be used for cultivation in Colorado. That’s causing real estate prices to spike for listed properties, according to Aaron Valdez, a Cassidy Turley broker.
“Some of these buildings on a good day are worth $60 or $70 a square foot and we are getting a $20 to $30 premium,” Valdez said. “We’ve been seeing a lot of opportunistic investors and a few of the growers themselves come in and purchase buildings.”
Llorn Kylo, chief executive officer of Scottsdale, Arizona-based Cannabis-Rx Inc., a company that buys real estate zoned to operate within the marijuana industry and owns almost 40 properties in states including Washington and California, inquired about purchasing a Denver warehouse Cassidy Turley was marketing to sell on E. 50th Avenue. It already had multiple offers just two days after being listed, according to Kylo.
“The fact that four people lined up to buy the building speaks to the demand and opportunity out there for real estate,” he said.
His firm in January bought three buildings that could eventually be used to grow or distribute cannabis in Sarasota, Florida, because of the current push to legalize and regulate medicinal marijuana in that state.
In addition to buying buying real estate, Cannabis-Rx is seeking to finance startup costs and operating capital for marijuana businesses unable to get bank loans.
“People need lights, plants, and can’t access credit to pay for them,” Kylo said. “Banks are being ultra-conservative and won’t take that risk.”
Wells Fargo & Co., the largest bank in Colorado, has said its policy is not to lend to marijuana businesses, based on federal laws.
The government took a step toward legitimizing the industry in February, allowing U.S. banks to offer accounts and other services to cannabis businesses in states where medical or recreational pot sales are legal.
The Treasury’s Financial Crimes Enforcement Network issued guidelines for banks intended to reduce the danger that sellers face in operating an all-cash business.
Even clearer guidelines for the fledgling industry and returns of as much as 40 percent aren’t enough to ease some investor concerns, since tenants or their employees could break laws or go out of business, said Isenbergh.
“I’ve been left at the altar twice where my investor partners backed out at the last minute,” he said.
There are still more prospective buyers than there are buildings available, according to Costello, the broker. He said he’s never been busier and gets calls almost every day from investors -- about half based outside of Colorado - interested in buying real estate and investing in the marijuana business.
Costello refers to the boom in Denver’s warehouse market as “the green rush” where most deals are and will continue to be done privately, off the market.
“There will be people in line waiting to buy this thing if it’s publicly listed,” Costello said. “Screw that. It’s like the 1960s. I just make a few phone calls, I’ve got a deal.”
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