Pot banking regtech is ready for its moment
For startups developing regulation technology for financial institutions that do business with marijuana firms, there’s one clear upside to the fact that medical marijuana remains illegal under federal law.
“We don't have the traditional pressures from the large-scale tech players because they don't come in and play,” said Adam Crabtree, founder and CEO of NCS Analytics, a platform that tracks high-risk industries for government customers. “We all got to come into this space, grow and adapt without the big traditional tech monsters. … IBM’s Watson isn’t hopping into the cannabis industry anytime soon.”
Free to bloom without fear of being overshadowed by larger competitors for the time being, several firms have sprouted, touting tools to help financial institutions bank legal marijuana-related businesses, an industry expected to yield $10 billion in retail sales, according to the 2018 Marijuana Business Factbook.
Despite federal statute, recreational and medical marijuana has been legalized in nine states and Washington, D.C. Twenty states have legalized just medical marijuana.
“As all those markets come online, they are ripe for expansion for us,” said Tyler Beuerlein, vice president of business development at Hypur, a payment and banking technology startup aimed at serving highly regulated and cash-intensive businesses.
While Hypur doesn’t touch any of the money involved in marijuana-related transactions, it can originate those transactions through the financial institutions it partners with to provide marijuana-related businesses with an electronic payments system that it calls Hypur Commerce. Hypur currently works with three credit unions and six banks, and expects that will grow to seven credit unions and 10 banks over the next four months.
Its system is built for financial institutions to offer to commercial clients that allow customers to electronically pay in store or online. These transactions are a direct bank-to-bank transfer. Retail businesses that accept Hypur Commerce typically have a flat 3% fee. Business-to-business companies will typically pay about half what retailers pay.
The regtech startup also contracts directly with financial institutions that have access to Hypur’s full suite of compliance, monitoring, document management and site-audit tools. Pricing to the financial institution varies depending on the unique needs of each institution customer, but the typical range is 10-20 basis points on account activities.
“When you go to a credit union or bank conference, you always hear we need to ways to generate more noninterest income, and we need to innovate,” Beuerlein said. “These markets are here for the taking, and we are trying to set a standard about how this can and should be done across the country.”
Hypur's most popular solution is its transaction analysis and transaction management for both business-to-business and consumer-to-business transactions.
“They can say, ‘Hey, I wonder how our dispensary 60 miles away from us is doing today?’ They can then click on a button, log on to Hypur and watch sales happen in real time, and know who’s buying how much, where they're buying and what they’re buying,” said Todd Fuller, executive vice president of sales at Hypur.
In May, Hypur teamed up with Blue Line Protection Group to facilitate the logistics of cash pickup and delivery, and Hypur clients can now electronically order an armored car transport to pick up or deliver cash.
One of the pioneers of pot banking, Sundie Seefried, CEO of Partner Colorado Credit Union, sent vice presidents from her credit union to assess Hypur’s technology. She was impressed by the banking experience on the startup’s staff, such as John Vardaman, who co-wrote the Cole Memo issued in 2013 by the Department of Justice to provide guidance to federal prosecutors around the enforcement of federal marijuana laws.
Partner Colorado Credit Union began banking the medical pot industry in January 2015 and has passed eight examinations with both state and federal regulators on site, and Seefried believes regulators have become comfortable enough with the industry that they want to see compliance technology for pot banking develop.
“I just got off the phone with a state this morning and another state yesterday,” Seefried said. “They are all asking for some kind of assistance.”
Seefried and her credit union are developing an IT platform that has artificial intelligence integrated with it. The first module addresses automating onboarding, risk calculation of the client, document collection and monitoring of the know-your-customer process. New modules will include validation and monitoring of clients monthly, quarterly and annually.
“Banker monitoring and risk assessment will be the last one. We have solid data in the system to evaluate that module and test it,” Seefried said. “Everything that I’ve learned is being poured out of my head into this software, and I didn't know you could automate a brain.”
NCS Analytics, formerly Nationwide Compliance Specialists, doesn’t provide automation technology, but does give both financial institutions and regulators data analytics to better spot money laundering and other issues that involve banking marijuana-related businesses. “Data will tell you stories if you know how to look at it,” Crabtree said.
In June, NCS Analytics deployed a supercomputer because Crabtree’s data sets were getting too large to manipulate with the technology they had. This week it announced a partnership with the geolocation startup Esri. Two months ago it signed a deal under which Texas Tech University will become the company’s research arm.
“We’re a blend of a think tank and an analytics company,” Crabtree said. “I've got a couple of Ph.D.s, we have a handful of masters degrees. I even have a physicists on staff, mainly because of the strong mathematics they bring to where we just love this stuff.”
Seefried’s credit union currently uses PayQwick, an electronic payments provider for the cannabis industry that takes as much risk as the financial institution. Similar to PayPal, when customers or merchants are making marijuana-related purchases online, they can opt to use PayQwick if the merchant has an account.
With a license from the state, PayQwick takes possession of the money and files Know-Your-Customer due diligence along with the financial institution. “The real benefit to a bank is they have a compliance partner that stands right next to them,” said Kenneth Berke, co-founder and president of PayQwick. “With us, they’ve got a second pair of eyeballs.”
PayQwick is operational in Washington and Colorado; is licensed in Alaska, Oregon and Arizona; will expand into California, Nevada and Michigan this year; and plans to expand into Massachusetts, Pennsylvania, New Jersey and Maryland early next year. This year the company has created a mobile platform and has made it possible for a business with multiple locations to have a single login to multiple accounts.
“The other big push in 2018 pretty nearly done on the business-to-business side is our e-commerce platform and rolling out the ability to accept debit and credit cards without miscoding the transactions,” Berke said. “It’s a huge benefit, and we are inches away from doing it.”
Berke’s PayQwick makes money by sharing nondepository revenue from pot businesses with the financial institutions.
Even with new regtech developments, Seefried said financial institutions should realize that there is no easy tech fix to pot banking just yet. Seefried noted she still has to know the owners of the businesses she banks for and has to understand how those businesses operate. This includes on-site visits to verify activity reports.
“Everybody would like to think there is some magic formula to banking the cannabis industry,” she said. “But there really isn't. It really boils down to high-level, intense … practices.”