Growing pains afflict any industry on the precipice of a boom, but the struggle to access the funds needed to expand has become particularly acute in the legal cannabis space.

"This is a capital starved industry," said Nick Kovacevich, the CEO of wholesale weed dispensary supplier Kush Bottles Inc. (KSHB) . "There's not a lot of capital flowing around."

Kovacevich's experience is not unique. The regulated U.S. cannabis industry has ballooned in value over the last decade as 29 states have added some degree of legality, be it medical or recreational. Yet still, companies such as Kush have struggled to find the funding they need to fuel growth and keep up with demand.

"There's a lot of investment firms and investors that are dabbling in the industry but they're a little hesitant to make big bets," Kovacevich said.

But then, there's private equity. Where traditional banks may balk at the prospect of investing in an industry not federally legal, cannabis-focused private equity firms have planted an optimistic flag in the ground. Some of the top firms in the space are backed by former bankers and Wall Street elite, celebrities and even Peter Thiel's Founders Fund.

One of the leading PE firms focused on legal weed is Merida Capital Partners, which recently launched a $75 million second fund after closing out its debut with $23 million. The firm invested $6 million in Kush in February.

"Having them come in with a $6 million check? I think that was huge," Kovacevich said. "It was obviously big for any investment size but especially for this industry -- to have somebody commit that size of capital in one fell swoop."

"The capex required is incredibly difficult from an ROI standpoint," said Mitch Baruchowitz, managing partner at Merida, of the cultivation aspect of legal cannabis. His firm focuses instead on ancillary businesses.

Merida's investment meant that Kush, a holding in TheStreet's Stocks Under $10 portfolio, could operate its business as it wanted without running into capital shortages. "Mitch and Merida obviously knew that would make our lives a lot easier and allow us to just keep pushing our foot to the gas and growing our business," Kovacevich said.

But it's not just the size of the check that matters in the cannabis industry. It's also the means with which private equity investors take a stake.

Merida is what Baruchowitz called an active private equity firm. "We're sometimes an inch off the ground, not just 30,000 feet," he explained. "We don't mind getting really deep on things of impactful force."

For Merida's part, active PE looks to work well. Kovacevich said he and Baruchowitz speak on the phone several times per week and that he feels comfortable calling with any number of questions. There's less of a "formality," the CEO explained, that might be expected with an investment the size of Merida's. With that, business hours aren't the limits of communication when it comes to private equity in a space known for its lax nature.

In Baruchowitz's view, active private equity in cannabis isn't just about driving yields, but also about pushing the entire industry forward.

As for the companies in Merida's portfolio, Baruchowitz said the focus is "lubricating" the industry's verticals so that it's easier for firms both within and without the fund's portfolio to work together and achieve synergies. Merida investment New Frontier, a cannabis data provider, may deliver analytics that help fellow investment GrowGeneration, a commercial equipment retailer, figure out what it needs to order from Kush Bottles.

For some in the legal weed space, private equity becomes a necessity after initial funding dries up or is all allocated. Ben Curren, CEO of cannabis point of sale technology platform Green Bits, had a different experience than most.

Curren previously owned his own technology company. When he sold it to Godaddy Inc. (GDDY) , he used the proceeds to found Green Bits. For the first three years, he said, he used only his own capital to fund Green Bits' growth.

In 2017, Curren began shopping for further funding. He turned to angel investors and well-known cannabis venture capital firm Casa Verde to raise $2.2 million in funding. Co-founded by rapper Snoop Dogg, Casa Verde's focus is on the ancillary cannabis industry, and it closed last month its debut fund with $45 million.

"Generally it's difficult in this industry for traditional VCs," Curren said. He's raised money from the likes of Sequoia Capital and Andreessen Horowitz, but it wasn't always easy to earn investments, even as a company that doesn't come anywhere near the cannabis plants.

Before You Go

Get ready for the must-attend investing conference of 2018, hosted by none other than TheStreet's Jim Cramer. From an exclusive interview with PayPal CEO Dan Schulman to expert panels that touch on investing in the stock market to alternative investing, you won't want to miss the event TheStreet is hosting on May 5. Details are below.
How to Diversify Your Portfolio: A Boot Camp for Investors
  • Date: Saturday, May 5, 2018
  • Location: 117 West 46th Street, New York City
  • Register here

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