Understanding the Cannabis Banking Opportunity

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The legal cannabis industry is growing exponentially each year, creating extraordinary opportunities for financial institutions to offer services to this largely underbanked, niche market.

Revenue from direct marijuana businesses alone is expected to exceed $48 billion by 2025, part of a larger $125 billion cannabis opportunity that includes hemp, CBD and other support businesses, according to information from Arcview and BDS Analytics.

In the last few years, the number of banks providing services to cannabis businesses has increased, along with an expansion of the products they are offering. Financial institutions are moving far beyond being “a place to park cash’ which defined the pioneer era of cannabis banking. Today, our bank clients are approaching the industry as a new market to deploy all of their existing products and services, including online cash management, ACH origination, wire transfers, lending, insurance, payments and wealth management. Additionally, a contingent of banks are trailblazing bespoke solutions.

For banks wanting to better understand what the current cannabis banking opportunity looks like, we recommend starting by:

Exploring the Entire Cannabis Ecosystem
A common pitfall for banks considering a cannabis line of business is failing to grasp the true market opportunity. It’s important that bankers explore the entire supply chain: growers, cultivators, manufacturers, distributors and delivery operations and public-facing retail and medical dispensaries that make up the direct cannabis ecosystem.

Beyond that, there is a supporting cast of businesses that service the industry: armored couriers, security firms, consultants, accountants, lighting companies, packaging companies, doctors who prescribe medical cannabis, and many more. These are not plant-touching businesses, but they require additional scrutiny and often struggle with non-cannabis-friendly institutions. All this is in addition to the significant hemp market, which represents an additional $40 billion opportunity by 2025.

Thinking Beyond Fees
Aside from low-cost deposits, many financial institutions initially entered this niche line of business for additional fee income. While the industry still provides strong fee opportunities, including account opening fees, monthly account fees per license, deposit fees and fees for services such as ACH and cash pickup, these can vary greatly from market to market and will decrease as more financial institutions build programs.

Instead of limiting their focus to fees and deposits, banks should understand the full breadth of the services and solutions they can offer these underserved businesses. Most services that a bank provides their average business customer can be offered to legal cannabis businesses — and there is a significant opportunity to create additional services. We believe there are products this industry needs that haven’t been created by banks yet.

Banks thinking about where to start and what products to add should consider common challenges that legal cannabis businesses face: electronic payment products, cash logistics, fair lending and the numerous difficulties around providing opportunities to new business owners and social equity entrepreneurs. Bankers should become familiar with the industry; find out what it’s most similar to — namely agriculture, food processing and manufacturing — as well as how it is unique. That’s where the real opportunity lies.

Building a Scalable Program
To safely service this industry and meet examiner expectations, banks need to demonstrate they understand the risks and institutional impact of banking cannabis and have the capabilities to accomplish the following, at a minimum:

  • Consistent, transparent and thorough monitoring of their cannabis business clients and their activity, to demonstrate that only state legal activity and the associated funds are entering the financial system.
  • Timely and thorough filing of currency transaction reports (CTRs) and suspicious activity reports (SARs).
  • Ability to gracefully exit the line of business, should the bank’s strategy or the industry’s legality change.
  • An understanding of the beneficial ownership structures, particularly when working with multi-state operators.

Performing these tasks manually is time consuming, prone to error and not suitable for scale. Technology allows banks to automate the most tedious and complicated aspects of cannabis banking compliance and effectively grow their programs. Look for technology that offers advanced due diligence during onboarding, detailed transaction monitoring, automated SAR/CTR reporting and account monitoring to ensure full transparency and portfolio management in your program.

Finding a Trusted Partner
When it comes to partners, banks must consider whether their partner can quickly adapt to changes in rules and regulations. Do their tools support visibility into transaction level sales data, peer comparisons and historical performance? Have they worked with your examiners? What do they offer to help banks service both direct and indirect businesses? Can they help their institutions offer new and innovative products to this line of business?

Banks weighing which partners they should take on this journey need to consider their viability for the long run.

Opportunities For Transformative Growth

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The bank space has fundamentally changed, and that has financial institutions working with more and more third-party providers to generate efficiencies and craft a better digital experience — all while seeking new sources of revenue. In this conversation, Microsoft Corp.’s Roman Chwyl describes the rapid changes occurring today and how software-as-a-service solutions help banks quickly respond to these shifts. He also provides advice for banks seeking to better engage their technology providers.

Topics addressed include:

  • Focusing Technology Strategies
  • Partnership Considerations
  • Leveraging Digital for Growth
  • Planning for 2022 and Beyond

How to Build a Bank From Scratch

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Corey LeBlanc is best known as the man behind the @InkedBanker Twitter handle, inspired by his affection for tattoos. He’s also co-founder, chief operating officer and chief technology officer of Locality Bank, a newly chartered digital bank based in Fort Lauderdale, Florida. In the interview below, which has been edited for length, clarity and flow, he talks about the value of standing out and the process of standing up a de novo digital bank.

BD: How did you become known as the InkedBanker?
CL: A few years ago, Jim Marous, co-publisher of The Financial Brand, told me that I had to get on Twitter. When my wife and I created the profile, we needed something that made sense. I’ve had tattoos since I was 18 – full sleeves on both arms, on my back and chest — so that’s what we picked. It’s turned out to be incredibly important for my career. People remember me. It gives me an edge and helps me stand out in an industry where it’s easy to get lost in the mix.

             Corey LeBlanc, Locality Bank

BD: What’s your vision for Locality Bank?
CL: The best way to think about Locality is as a digital bank that’s focused on the south Florida market. There’s a void left in a community after its locally owned banks are either bought by bigger, out-of-state rivals or grow so much that they no longer pay attention to their legacy markets. Our vision is to fill that void using digital distribution channels.

BD: Was it hard to raise capital?
CL: Not especially. Our CEO, Keith Costello, has been a banker for many years and was able to raise an initial $1.8 million in December 2020 from local investors to get us off the ground. We later went back to that same group to raise the actual capital for the bank, and they committed another $18 million. Altogether, including additional investors, we raised $35 million between October and November of 2021. Because that was more than the $28 million we had committed to raise, we had to go back to the regulators to make adjustments to our business plan, which delayed our opening.

BD: How long did it take to get your charter?
CL: It was about 10 months. We filed our charter application on St. Patrick’s Day of 2021. We received our conditional approvals from the state in mid-September, and then we had our conditional approval from the [Federal Deposit Insurance Corp.] in early November. Our full approval came on Jan. 11, 2022.

BD: What was it like working with the regulators?
CL: You hear bankers say that regulators make everything difficult and stop you from doing what you want to do. But we didn’t find that to be the case. Just the opposite. They served more like partners to us. They worked with us to fine-tune our business plan to better meet the needs of the customers and markets we’re targeting, while still trying to accomplish our original objectives.

BD: What’s your go-to-market strategy?
CL: We’re going to be a lend-first institution. Our primary focus is on the south Florida commercial market — small to medium-sized businesses all the way up to early stage, larger enterprises. We’ll expand as we grow, but we want to be hyper-focused on serving that market. To start out, we’re offering two commercial accounts: a basic commercial checking account and a money market account. Then we’ll expand to providing accounts with more sophisticated capabilities as well as [Interest on Lawyer Trust Accounts] for lawyers. Because of the markets we’re in, those two accounts are absolutely necessary.

BD: As a new bank, how do you ensure that you’re making good loans?
CL: It was a top priority for us to recruit good, trusted bankers who understand that you need to balance the needs of the bank and the needs of the market. The bankers we’ve hired know how to do that. On top of this, if you can get a banker who’s been successful with the tool set that most traditional institutions give them, and then you give them a better set of tools, imagine the experience that you’re creating for those bankers and their customers. You’re empowering them to do something exponentially greater than they could in the past. And by giving them that set of tools, you’ve now inspired and motivated them to push even further and start challenging systems that otherwise they would have never challenged. We see it very much as a virtuous circle.

The Next Wave of Digital Transformation

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There is no question that digital transformation has been a long-term trend in banking.

However, innovation is not instantaneous. When faced with the obstacles the recent pandemic presented, bankers initially accelerated innovation and digital transformation on the consumer side, thanks to a broad scope of impact and the technology available at the time to streamline human-to-human interactions.

Now, as easy-to-use technology that automates complex interactions between human and machine and machine-to-machine (M2M) interactions becomes more readily available, the banking industry should consider how it can transform their own business and the banking experience for their business clients.

The First Wave
Why were consumers first served in the early days of the pandemic? Because there are often a lot of consumers to serve, with similar use cases and needs. When many account holders share the same finite problems, it can be easier for banks to commit personnel and financial resources to software that addresses those needs. The result is the capability to solve a few big problems while allowing the bank to effectively serve a large base of consumers with a mutual need, generating a quick and viable return on investment.

The first wave of digital transformation in banking concentrated on consumers by focusing on digitizing human-to-human interactions. They created an efficient process for both the bank employee along with the customer end-user, and then quickly moved to enable human-to-machine interactions with the same outcome. This transformation can be seen in previous interactions between consumers and bankers, like account opening, check deposits, personal financial management, credit and debit card disputes and initiating payments — all of which can now be done by a consumer interacting directly through a digital interface. This is also known as human-to-machine interactions.

In contrast, business interactions with banks tend to be more nuanced due to regulations, organizational needs and differences based on varying industries. For instance, banks that manage commercial escrow accounts for property managers and landlords, municipalities, government agencies, law firms or other companies with sub-accounting needs frequently navigate various security protocols and regional and local compliance. Unfortunately, these complexities can slow innovation, like business online account opening that is only now coming to market decades after consumer online account opening.

The Next Wave
Automating these business interactions was once thought to be too large of an undertaking for many banks — as well as software companies. But now, more are looking to digitally transform these interactions; software development is easier, further advanced and less costly, making tackling complex problems achievable for banks.

This will mark the next wave of digital transformation in banking, as the potential benefits have a greater effect for businesses than consumers. Because profits for each business client are much higher than consumer accounts, banks can expect strong returns on investment by investing in value-add services that strengthen the banking experience for business clients. And with so many niche business verticals, there is opportunity for institutions to build a strong commercial portfolio with technology that addresses vertical-specific needs.

While the ongoing, first wave of digital transformation is marked by moving human-to-human interactions to human-to-machine, the next wave will lead to more machine-to-machine interactions. This is not a new concept: Most bankers have connected two separate software systems, and have heard of M2M interactions through discussions about application programming interfaces, or APIs. But what may not be clear to executives is how these M2M interactions can be extremely helpful when solving for frustrating business banking processes.

For example, a law firm may regularly open trust and escrow accounts on behalf of their clients. Through human-to-human interaction, their processes are twofold: recording client information in an internal software system and then providing the necessary documentation to their bank, via branch visit or phone, to open the account. They need to engage in additional communication to learn the balance, move money or close the account.

Transforming this to a human-to-machine interaction could look like the bank providing a portal through which the firm could open, move funds and close the account on their own. While this is an excellent improvement for the law firm and bank, it still requires double data entry into internal software and banking software.

Here, banks can introduce machine-to-machine automation to improve efficiency and accuracy, while avoiding extraneous back and forth. If the bank creates a direct integration with the internal software, the law firm would only need to input the information once into their software to automatically manage their bank accounts.

The digital transformation of business banking has arrived; in the coming years, machine-to-machine automation will become the gold standard in the financial services industry. These changes provide a unique opportunity for banks to help attract and satisfy existing and prospective business clients through distinctive offerings.

The Cannabis Banking Opportunity

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Legalized cannabis continues to gain momentum across the United States, but banks may be left out of the opportunity if they lack a strategy to service the space. As this demand grows, banks can leverage their risk and compliance teams to build new revenue opportunities. In this video, Kevin Hart, the founder and CEO of Green Check Verified, explains how banks can formulate a cannabis banking program that fits into their overall strategy and risk management appetite.

  • Outlook for Future Growth
  • Direct and Indirect Cannabis Banking
  • Crafting a Scalable Program

The Missing Piece in Community Bank M&A

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The community bank space is consolidating at a blistering pace, but buyers may be overlooking a key consideration when thinking about mergers and acquisitions. Prospective buyers should consider how other footprints complement growth opportunities against their own, lest they make critical and expensive mistakes. In this video, Kamal Mustafa, chairman of the Invictus Group, explains why bank buyers should assess a target’s footprint, and how to value the industries and lending opportunities within a new market.

  • Market Considerations and Assessments
  • Focusing on Industries, Not Loans
  • Target Valuations

Banks Enter a New Era of Corporate Morality

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Are we entering a new era of morality in banking?

Heavily regulated at the state and federal level, banks have always been subjected to greater scrutiny than most other companies and are expected to pursue fair and ethical business practices — mandates that have been codified in laws such as the Community Reinvestment Act and various fair lending statutes.

The industry has always had a more expansive stakeholder perspective where shareholders are just one member of a broad constituency that also includes customers and communities.

Now a growing number of banks are taking ethical behavior one step further through voluntary adoption of formal environmental, social and governance (ESG) programs that target objectives well beyond simply making money for their owners. Issues that typically fall within an ESG framework include climate change, waste and pollution, employee relations, racial equity, executive compensation and board diversity.

“It’s a holistic approach that asks, ‘What is it that our stakeholders are looking for and how can we – through the values of our organization – deliver on that,” says Brandon Koeser, a financial services senior analyst at the consulting firm RSM.

Koeser spoke to Bank Director Editor-at-Large Jack Milligan in advance of a Sunday breakout session at Bank Director’s Acquire or Be Acquired Conference. The conference runs Jan. 30 to Feb. 1, 2022, at the JW Marriott Desert Ridge Resort and Spa in Phoenix.

The pressure to focus more intently on various ESG issues is coming from various quarters. Some institutional investors have already put pressure on very large banks to adopt formal programs and to document their activities. Koeser says many younger employees “want to see a lot more alignment with their beliefs and interests.” And consumers and even borrowers are “beginning to ask questions … of their banking partners [about] what they’re doing to promote social responsibility or healthy environmental practices,” he says.

Koeser recalls having a conversation last year with the senior executives of a $1 billion privately held bank who said one of their large borrowers “came to them and asked what they were doing to promote sustainable business practices. This organization was all about sustainability and being environmentally conscious and it wanted to make sure that its key partners shared those same values.”

Although the federal banking regulators have yet to weigh in with a specific set of ESG requirements, that could change under the more socially progressive administration of President Joe Biden. “One thing the regulators are trying to figure out is when a [bank] takes an ESG strategy and publicizes it, how do they ensure that there’s comparability so that investors and other stakeholders are able to make the appropriate decision based on what they’re reading,” he says.

There are currently several key vacancies at the bank regulatory agencies. Biden has the opportunity to appoint a new Comptroller of the Currency, a new chairman at Federal Deposit Insurance Corp. and a new vice chair for supervision at the Federal Reserve Board. “There’s a unique opportunity for some new [ESG] policy to be set,” says Koeser. “I wouldn’t be surprised if we see in the next two to three years, some formality around that.”

Koeser says he does sometimes encounter resistance to an ESG agenda from some banks that don’t see the value, particularly the environmental piece. “A lot of banks will just kind of say, ‘Well, I’m not a consumer products company. I don’t have a manufacturing division. I’m not in the transportation business. What is the environmental component to me?’” he says. But in his discussions with senior executive and directors, Koeser tries to focus on the broad theme of ESG and not just one letter in the acronym. “That brings down the level of skepticism and allows the opportunity to engage in discussions around the totality of this shift to an ESG focus,” he says. “I haven’t been run out of a boardroom talking about ESG.”

Koeser believes there is a systemic process that banks can use to get started on an ESG program. The first step is to identify a champion who will lead the effort. Next, it’s important to research what is happening in the banking industry and with your banking peers and competitors. Public company filings, media organizations such as Bank Director magazine and company websites are all good places to look. “There’s a wealth of information out there to start researching and understanding what’s happening around us,” Koeser says.

A third step in the formation process is education. “The [program] champion should start presenting to the board on what they’re finding,” Koeser says. Then comes a self-assessment where the leadership team and board compare the bank’s current state in regards to ESG to the industry and other institutions it competes with. The final step is to begin formulating an ESG strategy and building out a program.

Koeser believes that many banks are probably closer to having the building blocks of an effective ESG program than they think. “It’s really just a matter of time before ESG will become something that you’ll need to focus on,” he says. “And if you’re already promoting a lot of really good things on your website, like donating to local charities, volunteering and supporting your communities, there’s a way to formalize that and begin this process sooner rather than later.”

What Drives Success in Banking?

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As a founder and managing principal at Castle Creek Capital, a private equity firm that invests in community banks, John Eggemeyer has a unique perch from which to observe what’s going on in banking.

The San Diego-based firm has approximately $900 million under management, and usually has between 20 to 25 banks in its investment portfolio at any given time, according to Eggemeyer.

“We have the opportunity to look at a lot of different ideas,” he says. “I don’t consider myself to be an originator of any particularly interesting ideas, but I am an observer of a lot of interesting ideas that other people have worked with and made success of — or not made success of.”

Eggemeyer may be selling himself a little short. Prior to starting Castle Creek in 1990, he spent nearly two decades as a senior executive for several large U.S. banks. He also sits on the boards of many of those portfolio companies, and that combined experience gives him a very strong sense of what drives success in banking.

Eggemeyer will moderate a panel discussion at Bank Director’s upcoming Acquire or Be Acquired Conference focusing on subtle trends that bankers need to be talking about. The conference runs Jan. 30-Feb. 1, 2022, at the JW Marriott Desert Ridge Resort and Spa in Phoenix.

In today’s banking market, Eggemeyer believes that success begins with the customer. Period. End of sentence.

“It’s critical that you understand who your customer is and what your customer wants,” he says. “I think we’ve learned from the fintech community that they have segmented the customer [base] and identified very clearly the customer that they’re going after. And they have built their service model around the needs and wants of their customer group. And I think that has been harder for banks to actually do from an intellectual standpoint.”

Increasingly, success in banking is also a matter of scale. Not necessarily scale in the size of the organization, but scale in product lines or customers. “The businesses that have the greatest value, and the customer segments that offer the greatest value, are those that are the most scalable,” Eggemeyer says. “And again, I think in the fintech world, they have figured out how to apply technology to the needs and wants of the segment that they’ve gone after, and that has allowed their businesses greater scalability. … Businesses that are the most scalable offer the greatest opportunities for generating incremental returns.”

A cynic might argue that applying technology to scalable customer segments is fintech’s game, not banking’s. But Eggemeyer disagrees. “I’m not sure that fintechs are better positioned to apply technology to financial services than our banks,” he says. “So much of the technology that one would apply either operationally or in serving the customer is available off the shelf. You just have to be committed to making that transition.”

A third driver of success is talent; Eggemeyer says there is “an acute shortage of highly skilled trained executives” in the banking industry today. Talent and institutional knowledge has left as the bank space as the industry has gone through a number of difficult economic periods, he says, and banks managed their expense base in part by shortchanging the training and development of younger employees.

“I’ve watched this over a lot of cycles having spent over 50 years in the business. The great era of training in the bank industry was pre-1986,” he says. “And [since] that period of time, we have successfully downsized our investment in the development of people. And I think now we’re facing that challenge.”

In 1968, Eggemeyer was hired by the First National Bank of Chicago while still pursuing his undergraduate degree at Northwestern University. The bank had a program that hired up to 10 undergraduates a year for an extensive training program, then put them through an MBA program — in Eggemeyer’s case, at the University of Chicago. He spent 10 years working for the bank and was never in the same position for more than two years. That experience provided him with a very broad introduction to the industry.

The U.S. economy has changed greatly since the late 1960s. Graduates from top MBA programs today have many more options to choose from if they’re interested in a career in finance, including investment banking and private equity.

“It’s much harder for banks to compete for that level of talent,” Eggemeyer says. “And I don’t think there’s anything that you can do about that, other than look harder for the talented people who are not necessarily aspiring to [work in] private equity. And they may come from less traditional backgrounds, unlike the program that I went through at the First National Bank of Chicago. I just don’t see that happening very much in banking today.”

Aligning Strategy and the Board

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The board plays an important role in guiding the bank’s strategy and supporting the strategic plan. That requires a varied mix of skills, backgrounds and expertise in the boardroom. In this video, Scott Petty of Chartwell Partners shares the gaps that some boards may need to fill, and provides tips on how to expand your board’s network to attract candidates.

  • Three Questions to Consider
  • Attributes Every Board Needs
  • Building Diversity in the Boardroom
  • Expanding Your Network

Stacking the Deck: Secrets of High-Performing Banks

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Many financial institution executives spend considerable time thinking about strategies to improve overall profitability and create sustainable growth.

The focus on best practices is generally aimed at strategies to cut expenses: using technology, looking at staffing levels and increasing productivity, among others. Although this advice is sound, is that actually what high-performing banks do? To answer this question, we analyzed data for 81 institutions that have been in the top five for return on equity for five consecutive years to peers. These institutions averaged an efficiency ratio of 52.04%.

As the data illustrates, high-performing institutions don’t attempt to save their way to prosperity. They underperform in noninterest expense to assets by 24% and overperform in noninterest income to assets by 325%. So how does your bank stack the deck in its favor?

The key to better results is aligning marketing and execution. High-performing banks invest in growth to create a sustainable advantage that produces superior results. After 35-plus years, here’s what we know:

Get product right. People hate fees. Compressed margins and decreased profitability can lead executives to discuss increasing monthly service fees or minimum balance requirements. Below is recent research on the criteria consumers use when selecting a primary financial institution. Compressed bank earnings have little impact on what consumers want from their banking partner. Your retail and business product considerations must remain compelling if you want the greatest opportunity to grow core customers.

Remove process barriers. Banks must be attuned to compliance-related items; however, over-compliance creates barriers. Look at your customer identification program (CIP), as well as your retail and business account opening policies: Do they create barriers to growth? Is it easy for a consumer to open a retail or business account at your bank? Do you have restrictive scoring metrics that are actually costing you revenue opportunities?

Market to grow. Increase your bank’s spending on strategic marketing.

  • Proactive: According to Novantas, 65% of consumers only consider two options when they decide to change their primary financial institutions. That means that 65% of your current customers already know where they would bank if they didn’t bank with you. Your institution must be top-of-mind before consumers and businesses decide that they want to switch. Your marketing must create the opportunity for them to pick you.
  • Targeted: Your bank needs to use data and analytics to help understand where to market before any campaigns. Your marketing resources should be allocated to target consumers and businesses that haven’t chosen your bank yet — but could and should.
  • ROI Focused: Executives must define what and how the bank will measure success before the marketing campaign, not after. Make sure your marketing investment is working to create tangible, measurable results.

Invest in team training. Too often, banks treat training as an event rather than a way of life. Employees who do not understand your products and services won’t be able to recognize opportunities with customers or discuss the benefits, rather than features. It is crucial your institution commits to regular training initiatives regarding products and services. Once everyone has been trained, begin the process again: knowledge leaks unless it is reinforced regularly.

The actions of high-performing banks tell the story. Banks that invest in growth reap the greatest rewards. While it may not be intuitive, bank executives must ensure they have all of the right strategies to capitalize on growth opportunities that present themselves in any environment.