Hemp offers profit potential but also pitfalls

It’s been a rough go lately for the nation’s farmers, with some combination of tariffs, low prices at the farm gate and flooding all impacting their livelihoods. However, one provision in the 2018 Farm Bill offered a glimmer of light for some farmers: Hemp.

A crop that was made illegal in 1937, and re-opened to pilot projects in 2014, was given a green light to grow nationwide once again.

By virtue of now being a legal crop, not much different from growing wheat or corn, bankers began to think about offering their services to hemp growers, processors and retailers. The impact could be significant.

Hemp is used to make building materials, ropes and even biofuel. But it also contains a compound called cannabidiol, more commonly known as CBD. It is touted as a so-called miracle drug by some — able to reduce anxiety, help with inflammation, along with other health benefits. It has been in products ranging from energy drinks to creams to supplements for dogs.

Even after being grown and offered on a limited basis since 2014, sales of hemp-derived CBD in the United States are expected to be $5.7 billion this year, according to research firm Brightfield Group, a Bloomberg story reported. Brightfield projects the legal market for CBD could soar to more than $20 billion by 2022.

“We are telling our members it’s a legitimate crop that customers can engage in, so it’s like any other type of business that they may bank — for example, a bar that sells alcohol or a retail store that sells tobacco, all of which are regulated, and only certain types of customers can purchase those products,” said Rose Oswald Poels, president and CEO of the Wisconsin Bankers Association.

In other words, bank customers who want to open a retail store that offers hemp-based products or farmers who plan to grow hemp should be considered the same as other customers also operating legitimate businesses.

So what’s preventing every farmer from putting hemp in the ground this spring?

A lot.

Flat-footed feds

In response to the 2018 Farm Bill, the U.S. Department of Agriculture is gathering information to develop regulations for an industrial hemp program, which it expects to release this fall, in advance of the 2020 growing season. Additionally, state laws have to be brought into conformity with federal laws stemming from the 2018 Farm Bill before state departments of agriculture can allow for more widespread production. In the meantime, states that have had pilot programs in place can continue operating them.

What’s more, despite being legal, hemp still has an image problem to overcome. While some of those in ag know enough about the crop that they have little hesitation to plant it, bankers’ approaches run the gamut from wariness to actively seeking out customers.

Part of the concern is hemp’s close resemblance to marijuana (see our set of FAQs), which remains classified as a Schedule 1 drug by the Drug Enforcement Administration making it illegal under federal law. Worries about the difficulty in distinguishing between hemp and marijuana plants, along with the problems that can come about because of it, are also creating confusion around hemp.

“If a bank has done their due diligence and they have confirmed, as far as they know, everything is exempt, they should be alright,” said Rob Rowe, vice president/associate chief counsel regulatory compliance at the American Bankers Association. “If you’re banking someone and it’s not exempt, then you run into questions of whether it’s money laundering.”

Rose Oswald Poels

Oswald Poels, of the WBA, said the main thing she’s telling her member banks is that hemp is now a real, legitimate crop that their customers can engage in.

“I think there’s still a lot of education that needs to be done,” Oswald Poels said. Her association is working with state agencies involved in regulating hemp and engaging in conversations with regulators to fully understand their expectations for banks as far as underwriting criteria if they want to make a loan to a farmer who is growing hemp.

“I don’t think there should be. These lending decisions still come back to a bank’s normal underwriting guidelines to determine whether a loan will be made or not,” Oswald Poels said. “If the loan were to go into default for some reason, are there other ways for the borrower to repay this debt or other sources of collateral to look to? Certainly, there would not be any direct liability coming back to the bank if it turns out a borrower is instead growing an illegal crop when [the bank] thought it was going to be a legal crop.”

The possibility of default may be real with hemp.

Environmental impact

The farm bill requires hemp to have a concentration of a compound known as tetrahydrocannabinols (THC) of not more than 0.3 percent on a dry weight basis. THC is what gives marijuana users a “high,” but THC levels in marijuana plants are significantly higher than those found in hemp.

In Wisconsin, the Department of Agriculture sends an inspector to test samples from each field and variety of hemp. If it finds THC levels are 0.3 percent or lower, the department issues the grower a “fit for commerce” certificate, a copy of which has to accompany the harvested hemp until it’s made into a product.

“Whoever they sell it to, processor or whoever, they need that certificate,” said Donna Gilson, a Wisconsin Department of Agriculture spokesperson.

If the THC level is too high, growers have the option of paying another $250 fee for each field and variety they want to be retested.

“If it passes, which seems unlikely because the level seems to go up as the season goes on, we give them a certificate,” Gilson said. “If it’s too high, that was their last chance. They have to destroy the crop.”

Gilson said they had several crops that exceeded the THC limit that had to be destroyed. In Colorado, 15 percent of samples taken from last year’s crop exceeded the allowable level of THC and failed, according to that state’s Department of Agriculture.

“It is going to be a lot of experimentation for the next several seasons,” Gilson said, as growers try to figure out which varieties work best for them and how growing conditions affect the crop.

With all of these questions left to be answered regarding legal and regulatory issues, many banks are proceeding with extreme caution, even hesitancy, when it comes to offering banking services to growers or producers of hemp.

Scott Wakefield

“At this point, today I would not advise banks to take on any customers thinking of hemp until this is all vetted out over the next 12 months,” said Scott Wakefield, branch president for First Minnesota Bank in Mayer, Minn. Wakefield has been closely monitoring discussions around hemp and took part in a USDA listening session in March, which only reaffirmed his stance to sit tight.

Oswald Poels counters that hemp represents a potential for banks to service a new industry. “I think there’s certainly opportunity here, and bankers always want to help their customers succeed,” she said. “In this first year, it’s hard to know how many farmers will want to grow this crop. On the other side, when you look at the retail end of this, there’s definitely opportunities for banks to expand their deposit accounts base by some of these newer businesses that are starting to sell CBD oil.

“I think that banks are just wanting to learn more, both on their own about the product, about growing hemp, but also to understand the expectations of regulators,” Oswald Poels said, adding that if a bank has robust policies in terms of loan size and underwriting criteria and they follow them, they should feel comfortable in making these types of loans.

Upside potential

Of the 99 bank CEOs who responded to a survey conducted in December 2018 by the WBA, 17 percent said they would actively seek out customers who are farmers or processors of hemp. Of its 235 member banks, fewer than 50 have reached out to the association seeking more information.

“I do know that number is going to grow, especially as we start to get closer to growing season in the state,” Oswald Poels said.

While most bankers said they have seen tepid interest in hemp from their customers to date, they might want to get ready for that to change.

Wisconsin was one of the few states that embarked on a hemp pilot project permitted by the 2014 Farm Bill. In 2018, the first season growing the crop, the Wisconsin Department of Agriculture issued 247 licenses to grow industrial hemp and 100 processor licenses. This year, it received 1,405 applications for grower licenses and 692 applications to process it.

It’s a similar story in Kentucky, which also has a pilot program in place. The state has approved 1,047 hemp grower applicants for 2019, nearly five times the number of growers in 2018. In Colorado, which has also been growing hemp since 2014, the number of registered growers more than doubled from 386 in 2017 to 835 in 2018.

Bankers and others also question whether demand for CBD will meet expectations. While early indications suggest a growing acceptance of CBD-infused products, the market is so young it’s hard to tell if it will pan out as projected. Some bankers wondered if supply might overwhelm demand until the market shakes out similar to what has happened with recreational marijuana prices in states like Oregon or Washington. One wondered if this would be a repeat of the goat’s milk craze in 2014 that ultimately failed to meet the hype.

“With something like this it’s always hard to know how big the market could be,” said Dale Nordquist of the Center for Farm Financial Management at the University of Minnesota. “Is it going to be a good market for a very small number of early adopters or is it going to be a broader market than that? Not knowing what the market is going to be, it will be hard for people to make the decision to jump onboard.”

Getting clarity about supply and demand could take longer than answering other questions around the crop.

“It could be a growing market because there’s so many potential products,” Nordquist said. “Yet we don’t know if those products are going to be well accepted, if the supplements are going to be a growing market or what’s going to happen.”

Jeff Gruetzmacher

Jeff Gruetzmacher, senior vice president at Royal Bank in Elroy, Wis., suggests bankers will feel more comfortable about taking on hemp customers once they get a better grasp of the crop’s economics.

“We’re obviously most concerned with making sure that we do things that are compliant,” Gruetzmacher said. “So, for example, I don’t know enough about hemp growing and processing to know what a normal-sized deposit would be.

“I want to make sure that we don’t inadvertently finance something that someone is going to be using as a cover for doing some sort of illegal activity and us not knowing what is normal when we don’t have anything to compare it to,” he added.

Until they know more, bankers will be extra prudent when it comes to underwriting.

“I think anybody who’s going to lend any money in this arena, they’re going to want to have substantial collateral other than just hemp because it’s such a new thing,” Gruetzmacher said. “These loans are going to have to be highly collateralized.”

Gruetzmacher, who sits on the ag committees for the Wisconsin Bankers Association and the Independent Community Bankers of America, said hemp “is an active topic of conversation” in every one of those committee meetings.

He anticipates “economic surprises” as the crop and industry mature, with more farmers self-financing their operations during the early going.

“We are certainly taking a position that we’re not going to be the first,” Gruetzmacher said of banking hemp-related businesses. “As an industry, I think because we have so many people asking about it, we are taking the approach that we need to educate ourselves about it in order to understand what this is and what it can or can’t be.”

From most indications, Gruetzmacher will have the company of many of his banking counterparts until the haze clears surrounding hemp.