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Alternatives to Bankruptcy for Cannabis Companies: Part 2

By Brent Salmons, Yuefan Wang
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Part 1 of this series discussed the lack of bankruptcy protections for cannabis companies, since bankruptcy in the U.S. is an exclusively federal procedure and cannabis remains illegal under federal law and proposed a number of alternative options for businesses struggling in the current environment. Part 2 of this series focuses on one of these alternatives: state law receiverships.

Background

A cannabis operation facing financial difficulties may try to avail itself, on the one hand, of the contractual remedies described in Part 1 of this series, but these remedies may be flimsy given their narrow scope and reliance on voluntary negotiation between parties whose relationship is already likely tense; on the other hand, the statutory remedies described in Part 1 of this series may be too rigid and absolute, necessitating the disposition of a business as a collection of assets, instead of its continued operation as a going concern. An alternative is receivership, a flexible but powerful quasi-judicial approach paralleling federal bankruptcy able to be administered by state courts. Compared to federal bankruptcy, state receivership is both over and under-inclusive: while receivership can be used in many more situations than insolvency, such as a financially healthy business that is nonetheless subject to regulatory action, receivership provides less comprehensive protection for an insolvent business.

Receiverships have their roots in English and Welsh courts of equity, which were seen as offering fairer remedies than their contemporary common law courts, bound as they were by ponderous precedent. In contrast, courts of equity had more discretion to apply remedies which could be more tailored and “equitable” to an individual petitioner, even if such remedies were not codified. While this separation of equitable and common law courts does not generally exist in the modern U.S. legal system (except for a few hold-out states, most notably, Delaware), the legacy remains in the type of civil remedy available: while most remedies are awarded as monetary redress for a past wrong suffered by a plaintiff (e.g. liquidated damages for the discloser of confidential information or the “benefit of the bargain” for the seller of a company), equitable remedies often require prospective action (or forbearance of an action) by the defendant (e.g. an injunction on disclosure by a recipient of confidential information or specific performance by a purchaser of a company). To draw the analogy out, bankruptcy is a “legal” process to address insolvency since it is governed by a comprehensive regime of federal statutes and rules in the Bankruptcy Code (which is, ironically, applied by specialized federal courts), while receivership is the “equitable” side of the same coin: a judicially-created remedy to manage or liquidate a business, among other actions, where it would not be equitable (or, most importantly for cannabis businesses, not possible) for a bankruptcy action.

Some states with legalized cannabis have cannabis-specific receivership statutes, usually providing that the receiver either be temporarily or fully licensed similar to any other operator of a cannabis business.As an equitable remedy used by various states and federal entities, generalizations about the receivership process are difficult to make. However, broadly speaking, a typical receivership process begins with a complaint filed against the entity for which receivership is sought in state court. This filing can be made by a variety of parties outside of the standard debtor-creditor relationship (reflecting the equitable nature of receiverships), including by regulators and disputing owners of a business. After this filing, a motion to appoint the receiver (which is usually but not always a third party) is filed with the court; consent of the opposing party is generally not required in appointing a receiver but can often make the process easier. The complainant must then establish standing and the occurrence of certain events, including insolvency, but also mismanagement of a corporation or a foreclosure. The requirements of such events are fact-specific and may often be governed by statute or the contractual relationship between parties. The order appointing the receiver usually sets out the specific powers the receiver has in any given case to oversee the disposition or operation of the assets subject to the receivership (called the “receivership estate”) for the benefit of its’s creditors.

Receivership laws generally fall into two categories: some states provide for a broad general statute, sometimes accompanied by statutes specific to industries which are heavily regulated, entity types, or process, while in other states the power is an extension of the court’s powers, set forth in the state’s rules of civil procedure. States also differ as to whether a receivership is considered an independent remedy, a standalone legal action which can be pursued in and of itself (e.g. a petition by a creditor to appoint a receiver to resolve settle an unpaid debt), or an ancillary remedy, a legal action that supports a primary claim (e.g. a request to appoint a receiver in connection with a dispute over the ownership of a business). Some states provide for general receiverships, which allows receivers to take control of an entire business, while other states also allow limited receiverships, which allows the receiver take control of a portion of a business, while the owner operates the remainder. Some states with legalized cannabis have cannabis-specific receivership statutes, usually providing that the receiver either be temporarily or fully licensed similar to any other operator of a cannabis business.1

Below is an overview of the laws and rules governing receiverships in certain states which have legalized cannabis.

Arizona
In Arizona, receivership is governed by statute, with a general statute and specific statutes for certain industries and type of receivership. Arizona law recognizes that principles of equity apply to all matters relating to receivers, providing the court overseeing the receivership with additional power to decide the remedies available to the receiver. In addition, Arizona has enacted a specific statutory framework for the appointment of receivers for commercial real property and personal property related to or used in operating the real property. Arizona also uses a separate receivership statute to provide for corporate dissolution receiverships, in which a court in a judicial corporate dissolution proceeding may appoint one or more receivers to wind-up, liquidate, or manage the business and affairs of the corporation.

There are no specific statutes governing receiverships of cannabis businesses, so the general receivership statute applies to cannabis businesses, subject to Arizona’s rules governing the operation of a cannabis business. For example, Arizona cannabis regulations that require anyone volunteering or working at a medical or recreational cannabis dispensary to be registered with the cannabis regulator similarly apply to a receiver appointed over a licensed cannabis business.

California

California does not have significant entity-specific or industry-specific statutes for receiverships; rather a California court’s power to appoint a receiver is granted under the state’s rules of civil procedure. Receiverships in California are solely an ancillary remedy; a receivership is commenced once a complaint is filed and any party to the action may seek to appoint a receiver. Circumstances that allow for the appointment of a receiver are fact-specific and at the discretion of a judge, although contractual provisions for the appointment of a receiver are given weight under the rules. Sales of assets in the receivership estate must be submitted to, and approved by, the appointing court.

While the rules of civil procedure provide for the general powers of a receiver, the specific powers a receiver possesses in any given case is granted by the judicial order appointing the receiver; this appointment order is therefore, along with the court itself, the primary authority for the parties in any given receivership. California explicitly disqualifies certain persons, such as parties to the lawsuit, an attorney of a party, a person interested in an action, or any person related to any judge of the court within the third degree, as receivers.

While California’s receivership rules do not explicitly contemplate cannabis businesses, receiverships for cannabis companies have taken place, but in our experience are less common in California than assignments for the benefit of creditors (which we will address in a later article). Like other licensed businesses in California, cannabis companies must provide notice to the state regulatory agency which granted the license. It is up to the agency’s discretion whether the business may be operated under the existing license or whether the receiver must secure a new or temporary license.

Colorado

Like California, no generally applicable receivership statute exists in Colorado; instead, receiverships are governed by the state’s rules of civil procedure. Under these rules, a receiver can be appointed under a court’s general equitable powers. Appointment of a receiver is an independent remedy in Colorado, but is contingent on a lawsuit having commenced and the court having deemed the receivership as necessary and proper. In addition to the court’s general equitable powers to appoint a receiver, and unlike California, Colorado has receivership statutes that are entity and industry specific. The entity-specific statutes permit the appointment of a receiver for the judicial dissolution of for-profit corporations, non-profit corporations, limited liability companies, and cooperatives, and the industry-specific statutes permit the appointment of a receiver for the windup of failed insurance companies and the closure of long-term care facilities.

Similar to California, the court order appointing a receiver governs the entire receivership process and any disposition of the assets of the receivership estate must be submitted to and approved by the court.

As befitting the first state to legalize adult-use cannabis, Colorado’s cannabis regulations specifically address receiverships: the rules create a notice and application requirement for all court appointees, including receiverships, and require receivers to register with the regulator as a “temporary appointee” of the court.

Illinois

Illinois does not have a comprehensive receivership statute; instead, the state has industry-specific statutes, including for regulated industries such as nursing home facilities and telecommunication carriers. Illinois also provides for “equity receiverships”, which are used as an ancillary remedy in business disputes in order to stabilize a business that is adversely affected by fraud, neglect, waste, dissipation, or other misconduct during the pendency of the underlying proceeding. If the underlying matter is within the general or statutory jurisdiction of the court, then such court has jurisdiction over the receivership.

There are no specific statutes governing receiverships of cannabis businesses, but the governing statute does contemplate operation of a cannabis business by a receiver, so regulations promulgated thereunder should apply to receivers as well, including with respect to licensing.

Maryland

Adult-use cannabis sales only began in Maryland July 1, 2023. Maryland has a general receivership statute.

Receivers in Maryland are generally appointed by the person seeking appointment, including the court, and must meet certain qualifications, such as not having any material financial interest in the outcome of the receivership, and not having any debtor-creditor relationship with or equity interest in any party to the receivership. While the general receivership statute provides for broad powers of the receiver, including general management of receivership property, hiring professionals, and issuing subpoenas, the court may modify or expand the powers of the receiver via the appointment order.

While there is no cannabis-specific receivership statute, Maryland’s medical cannabis rules contemplate and authorize the transfer of licenses to a receivership; similar rules have been proposed for adult-use cannabis licenses as well.

Nevada

Nevada has a broad receivership statute, in addition to both entity and industry specific statutes. Case law is not well-developed and mostly predates the current statutory scheme, but there is support for a receiver being appointed outside of a statutory context, specifically when the situation is governed by contractual agreement.

The general receivership statute provides that a receiver may be appointed in a variety of situations, such as fraudulent property purchases, foreclosure of mortgages, or the dissolution or insolvency of a corporation.

Nevada has a statutory regime for receiverships for cannabis companies. Unlike the general statute, there are significant requirements for who can be a receiver for a cannabis business. A receiver must first secure a cannabis establishment agent registration card for a cannabis receiver issued by Nevada’s cannabis regulator. In addition, the receiver must submit an application to the regulator accompanied by, among other requirements, a statement saying the receiver has not previously had an agent registration card revoked. The receiver must also provide proof that she has (1) experience or knowledge of the cannabis industry, (2) experience as a receiver appointed by a court, (3) knowledge and skills necessary to make reasonable financial decisions, and (4) adequate financial capacity to fulfill the duties of a receiver. If the regulator is satisfied with the receiver’s application, it will issue the receiver an agent registration card which must be renewed two years after issuance. It is worth noting that Nevada’s statute governing the non-transferability of certain agent registration cards for cannabis allows the regulator to adopt regulations that give priority in the processing of transfers of licenses for transferors subject to receivership. To date, however, no such regulations allowing priority for receivership processing have been adopted.

Washington

Washington has a general receivership statute, but not any entity or industry-specific receivership statutes. Washington’s receivership structure with overhauled in 2004 with the passage of a new law, so it is not completely settled whether receivership is now an independent or ancillary remedy; however, the language of the statute language suggests that it is an independent remedy.

To be appointed a receiver in Washington, the individual must meet certain requirements, including not being a party to, or be closely controlled by a party to, the underlying action and not having materially adverse interest to the person against whom receivership is sought. The general statute specifically outlines the powers of the receiver. Certain actions by the receiver require court approval before being finalized, including the assumption or rejection of executory contracts, and sales of property outside the ordinary course of business.

Washington law specifically provides for receiverships for cannabis companies. To be a receiver, the person must satisfy the requirements of Washington’s receivership law, and either be preapproved by the cannabis regulator or else be approved post-application. In order to qualify for the regulator’s preapproved receiver list, or be approved post-application, the putative receiver must (1) submit an application, (2) have been a Washington resident for at least six months prior to submission, (3) submit to and pass a criminal background check, (4) provide financial disclosures as requested by the regulator, and (5) disclose any interests in the cannabis licensees. Once a person is appointed as receiver for a cannabis licensee, she shall not have a financial interest in, or simultaneously serve as receiver for, another licensed cannabis retailer. The receiver may not also serve as a receiver for, or be a party of interest in, more than five cannabis retail licensees or more than three cannabis producer and/or processor licensees at the same time. Finally, any person who files a receivership action involving a cannabis licensee must provide notice to the regulator.

Part 3 of this series on Alternatives to Bankruptcy for Cannabis Companies continue our review of receivership in various states and other bankruptcy alternatives, including assignments for the benefit of creditors.

Reference

  1.  As cannabis legalization continues to spread, more robust industry-specific receivership rules may be promising given the heavily regulated and specialized nature of the business, similar to how a number of states have industry-specific rules for other heavily regulated industries.

Alternatives to Bankruptcy for Cannabis Companies: Part 1

By Brent Salmons, Yuefan Wang
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The problems facing the cannabis industry arising from its ongoing status as a federally illegal enterprise are numerous and well documented: 280E tax burdens, limited access to banking, exclusion from capital markets, uneven access to federal intellectual property right protections and the inability to access the stream of interstate commerce. The recent woes faced by cannabis companies operating in mature markets reveal another key legal hurdle for cannabis companies, their investors and their creditors: the inability to access federal bankruptcy protection. However, cannabis companies may have access to a number of contractual and state law remedies to deal with insolvency and other financial woes.

Background

Bankruptcy laws in the United States are unique in the world; nowhere else is access to bankruptcy so available or forgiving for ordinary citizens and companies alike, allowing debtors a fresh start by either liquidating their assets or reorganizing their debt. Commentators have observed that such favorable bankruptcy laws encourage entrepreneurship and have been at least partially responsible for American innovation. Indeed, the ability of Congress to enact bankruptcy laws is enshrined in the United States Constitution. Like almost all laws in the U.S. at the time, bankruptcy was originally the domain of the various states; it was not until the late 18th century that Congress saw the importance of a uniform set of protections for debtors and passed the first federal bankruptcy law in 1800; since then, bankruptcy has been exclusively the purview of federal law, with current bankruptcy law governed by the United States Bankruptcy Code.

Yuefan Wang, attorney at Husch Blackwell

This exclusivity, however, poses a problem for state-regulated cannabis businesses: because cannabis is federally illegal, in the eyes of the United States Trustee Program, a division of the United States Department of Justice responsible for overseeing the administration of bankruptcy proceedings, the reorganization of any cannabis business amounts to “supervis[ing] an ongoing criminal enterprise regardless of its status under state law.” Therefore, since there is no such thing as state law bankruptcy, even cannabis companies operating in full compliance with state laws do not have access to any bankruptcy protections.1

All financing transactions, whether debt or equity, occur in the shadow of bankruptcy. The basic distinction between debt and equity is predicated on the favorable treatment of holders of the former compared to holders of the latter (within debt, the favorable treatment of secured debt over unsecured debt), and this is true, especially in bankruptcy. Even beyond distribution priorities, the Bankruptcy Code’s provisions on automatic stays, avoiding powers, and discharge fundamentally shape the relationship between debtors and creditors: a bankruptcy judge has the power to impose the Bankruptcy Code on the relationship between a debtor and its creditors, no matter their previous contractual relationships. Just as the possibility of litigation is a Sword of Damocles hanging over any legal disputes, the prospect of a bankruptcy filing affects any negotiations between a debtor and its creditors ab initio. Therefore, when financial problems arise and a cannabis company must begin the difficult task of approaching its lenders for relief, it does so without an effective incentive for creditors to come to the table available to other companies in otherwise similar situations.

Alternatives to Bankruptcy

Just as disputants often prefer the contractual certainty of a settlement agreement to the capriciousness of a jury, debtors and creditors may choose extra-judicial solutions for insolvency. The downward trend in bankruptcies over the last few decades may partially be the product of such out-of-court arrangements, and debtors and creditors are increasingly comfortable with them as an alternative to voluntary or involuntary bankruptcy filing. While the effectiveness of these solutions is, in industries other than cannabis, ultimately evaluated with bankruptcy in mind, these solutions may also be preferable for a creditor of a cannabis company that is defaulting on its obligations.

Contractual Remedies: Lender Workouts, Exchange Offers and Composition Agreements

Given that the relationship between a debtor and its creditors is essentially contractual, the parties may choose to modify their relationship in any manner to which they can mutually agree. A lender workout is an agreement for a financially distressed company to adjust its debt obligations with a creditor (or often multiple creditors given that a lender’s payment obligations to one creditor necessarily affect its obligations to its other creditors). These contractual adjustments are tailored to the particular situation and can take the form of deferrals of payments of interest or principal, extensions of maturity dates, covenant relief (e.g., adjustment of the lender’s debt-to-asset ratio or other financial covenants which would otherwise trigger an event of default), and/or debt-for-equity swaps. This last option (including its related concepts, such as grants of options or warrants) is especially prevalent in the cannabis industry, given that cannabis companies often do not have traditional bank debt (though, at the same time, such solutions may be increasingly unattractive to creditors given lower valuations and the prevalence of equity as a form of consideration in cannabis mergers and acquisitions transactions).

Brent Salmons, attorney at Husch Blackwell

Similarly, an exchange offer restructures a faltering company’s capital stack. Typically, a company facing a default will offer its equity-holders new debt or equity securities in exchange for its outstanding debt securities, which new securities have more favorable terms, such as covenants, events of defaults and maturity. Exchange offers have the same goal as lender workouts in that they seek to eliminate a class of securities with an impending maturity date, event of default or breach of a covenant.

Composition agreements are contractual arrangements between a debtor and its creditors whereby the creditors agree to accept less favorable claims in order for the debtor to reorganize its operations so that the debtor’s future inflows can meet its reduced outflows, with the alternative being a complete collapse of the debtor (in which case no one, or perhaps only the most senior secure lenders, is repaid). These agreements often provide for oversight by a committee of the creditors and will often involve contractual promises by creditors to forbear from exercising their previously existing rights until a defined triggering event.

Statutory Remedies: UCC Article 9 Sales and ABCs

If the contractual remedies described above are akin to Chapter 11 bankruptcy proceedings, whereby a company in dire (but ultimately salvageable) straits continues to operate while its debt obligations are reorganized, state law statutory remedies are analogous to Chapter 7 bankruptcy proceedings; the business is a sinking ship and must liquidate its assets to maximize payments to its creditors (in the bankruptcy context, per the rules of absolute priority). Such liquidation is governed by rules under state law which may be available to cannabis companies.

If a creditor has a security interest in the collateral of a debtor, then the most popular option is usually a sale under Article 9 of the Uniform Commercial Code (UCC). The UCC is a standardized set of laws and regulations for conducting business, including lending. The UCC itself is not law; rather it is a codex that has been adopted by most states and incorporated into their statutes as law, usually with some variations. UCC Article 9 deals with secured transactions and, in particular, provides for the sale and disposition of collateral subject to a security interest upon a default by the debtor. Similar to a §363 sale under the Bankruptcy Code, a sale under UCC Article 9 provides for a “friendly foreclosure” whereby a defaulting debtor and its lenders cooperate to facilitate a sale of the secured collateral.

Article 9 imposes certain parameters on such dispositions, including that foreclosure sales be “commercially reasonable”, which the UCC specifies as meaning that the collateral be sold in a reasonable and customary manner on a recognized market, at then-current market prices. If the sale was approved in a judicial proceeding, by a bona fide creditors’ committee, by a representative of creditors or by an assignee for the benefit of creditors, then this creates a presumption of commercial reasonability under the UCC.

A less common option is an assignment for the benefit of creditors (ABCs). Laws governing such assignments vary by state and are generally rare, with California being a notable exception where both ABCs are more common and where cannabis is legal. An ABC is initiated by the debtor, which then enters into an agreement to assign its assets to a third-party assignee, which holds such assets in trust for the benefit of the creditors and is then responsible for their liquidation, similar in principle to a trustee in bankruptcy.

ABCs, however, are generally not suitable for cannabis companies as the third-party assignee would not be able to take possession of a licensed cannabis business, or certain assets such as cannabis plants, distillates and other products, without itself being licensed by the relevant state regulatory agency. A similar problem occurs under Article 9 sales, whereby the purchaser of the collateral must be licensed in order to possess and operate cannabis product and, more importantly, the all-important state-issued licenses which provide a cannabis company with the authority to operate as such; the pool of potential purchasers is therefore limited to those purchasers already licensed or which are willing to undergo the burdensome process of becoming licensed, hence shrinking the market for such assets and reducing their value. These issues may be resolved in some states by the assignor/seller entering into a management services agreement with the assignee/purchaser, pursuant to which the assignee/purchaser effectively manages the operations of the cannabis business. These agreements, however, need to be carefully drafted so that they are not seen as constituting ownership of the business by the assignee/purchaser (until the actual transfer of the licenses occurs), as defined under applicable state law.

  1. While absolutely true for “plant-touching” companies, recent cases in the federal Ninth Circuit Court of Appeals provide some (fact-dependent) hope for cannabis-adjacent companies such as those housing the employees or intellectual property of a plant-touching operational cannabis company (this structure itself largely a solution to deal with federal illegality).

The Distressed Cannabis Business: An Alternative to Bankruptcy

By Paula Durham, Scott E. Evans
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Bankruptcy is Not an Option

Bankruptcy courts do not provide protection to cannabis and cannabis-related businesses.Bankruptcy can be a very helpful tool for a distressed business. Bankruptcy allows a business to stop collection actions, discharge certain debts, cancel unfavorable contracts and provides breathing room to restructure the business.

What if your cannabis operation is struggling or failing – file for bankruptcy, right? Not so fast. Despite cannabis being legalized or decriminalized for certain activities at the state level, it remains illegal at the federal level. Therefore, the bankruptcy court will not provide protection to cannabis and cannabis-related businesses (CRB).

Alternatives to Bankruptcy

A State Court receiver may be the best alternative when bankruptcy is not an option.Enter the state court receivership. Receivership is an equitable remedy that is often employed as an alternative to a bankruptcy proceeding. A receivership can address business insolvency or can be a temporary remedy during legal proceedings between disputing business partners, with control of the enterprise hanging in the balance.

In either scenario, the court appointed receiver takes control of the business and must assess the posture of the business and determine the best path forward. The receiver’s options run the gamut from operating the company as is, restructuring operations to maximize profit or closing shop and liquidating the business as a whole or in pieces. The receiver has a fiduciary responsibility to determine the option that best satisfies creditors, similar to duties required of a trustee in a bankruptcy.

The importance of having a receiver well-versed in the cannabis industry cannot be overstated.Distressed cannabis companies are often prime candidates for receivership. Cannabis is a burgeoning industry with huge growth and profit potential. However, worlds have collided in the Green Rush, where business-minded individuals, often with little knowledge of cannabis, have partnered with individuals well-versed in cannabis culture, cultivation and consumption, but with little experience operating a business. Add a dash of complex state laws and regulatory drama in the form of the federal/state divide on legality, a dollop of fraud potential due to the largely all-cash nature of the business and you’ve created the perfect recipe for insolvency, litigation or both. In these often-chaotic conditions it is easy for a cannabis company to become unprofitable. A receiver can add significant value by stabilizing the business while the litigation proceeds or while developing a restructuring plan. In either case the goal of a receivership is to maximize the value of a business for the benefit of its stakeholders.

If you are considering restructuring options for your cannabis operation, a receivership can be an excellent choice. However, a cannabis receivership is not for the faint of heart. There are two significant areas that distinguish cannabis receiverships from receiverships involving non-cannabis businesses: First, the complex regulatory environment and second, banking. The importance of having a receiver well-versed in the cannabis industry cannot be overstated. Making a mistake in these areas can cause more harm than good. 

Complex Regulatory Environment

Cannabis operations are subject to a complicated regulatory framework that varies by state as well as by type of legalization (medical versus adult use cannabis). Receivers unfamiliar with the cannabis industry and the associated regulatory framework will be behind the curve on day one.

Upon appointment over a cannabis entity a receiver becomes responsible for the regulatory posture of that entity.Regulatory hurdles begin at the outset of a receivership. Although receivership is an excellent restructuring option for cannabis operators in distress, regulations surrounding the authorization requirements for those operating the business on a day-to-day basis (including receivers) vary by state. Some states, but not all, even have specific regulations for receiverships.

For example, the rules and regulations for cannabis operators in Colorado administered by the Colorado Marijuana Enforcement Division (MED) include provisions for receiverships. Specifically, the MED requires court appointees, including receivers, to register with the State Licensing Authority as Temporary Appointee[s] of the Court within seven days of appointment.

Similarly, Washington State cannabis regulations directly address receiverships. Specifically, Title 314 allows receivers or trustees to operate a licensed cannabis business, but the receiver must be qualified by the Washington State Liquor Control Board (LCB). Qualification requirements include  active status on the LCB preapproved receiver list or submission of an application to serve as a receiver for a licensee within two days of appointment. Furthermore, to serve as a receiver of a Washington state cannabis licensee the receiver must meet residency requirements.

Conversely, the Arizona cannabis laws and rules do not specifically address cannabis receiverships. Nevertheless, Arizona does require anyone volunteering or working at a medical or recreational cannabis dispensary to be registered with the Arizona Department of Health Services as either a Dispensary Agent (DA) or a Facility Agent (FA). Therefore, a receiver appointed over a licensed cannabis business in Arizona must obtain the applicable registration upon appointment in order to take control of the licensed entity in a compliant manner.

The fun doesn’t stop after the initial appointment hurdles are cleared. The regulatory environment across the country is a patchwork of complex laws. States that have legalized or decriminalized cannabis on some level have instituted often complex rules surrounding the cultivation, manufacture, wholesale and retail sale of cannabis. Even seemingly simple concepts such as the definition of cannabis are not so simple in some states. For example, Massachusetts includes cannabidiol (CBD) in its definition of cannabis while Arizona does not.

Some states, like California, do not allow the sale of cannabis licenses. Other states, like Colorado, allow for the transfer of commercial cannabis licenses. In a turnaround situation it is particularly important to understand the options available to liquidate a licensee’s assets.

Similarly, many, but not all states have rules requiring cannabis product testing by accredited laboratories prior to retail sale. Most states require THC potency testing, while others (like California and Colorado) also require testing for pesticides and toxins. Conversely, testing for toxins and contaminates is voluntary in Florida. Product testing is expensive and time-consuming, and operators must have a comprehensive system in place to ensure compliant product is available for sale to retail and wholesale customers.

Even taxes are different for cannabis businesses. A receiver must understand and be able to manage a cannabis business in order to comply with and minimize taxes under the infamous 280e regulations of the U.S. tax code.

Upon appointment over a cannabis entity a receiver becomes responsible for the regulatory posture of that entity. Accordingly, the receiver must ensure that any regulatory deficiencies are identified and corrected in order to ensure compliant operation.

We’ve highlighted just a few of the myriad of regulatory concerns facing a receiver upon appointment. It is critical to engage a receiver who has experience working under the complex cannabis regulatory structure for your distressed cannabis operation.

Banking

One of the most important things a receiver does upon appointment is to identify and secure the assets of the entity in receivership, including cash. This normally involves opening a bank account in the name of the receivership entity that is controlled solely by the receiver and moving cash assets into the controlled account.

This typically ordinary task is not so easy with a cannabis operation. Because cannabis remains illegal under federal law, processing funds derived from the sale of cannabis (even sales that are legal at the state level) can be considered by the Department of Justice (DOJ) as aiding and abetting criminal activity or money laundering.A receiver must negotiate the complex banking regulations regarding cannabis businesses and effectively manage the large amounts of cash, which may not be bankable.

The Financial Crimes Enforcement Network (FinCen) issued guidance in 2014 that cleared the way for financial institutions to service canna-businesses (2014 Guidance). The 2014 Guidance requires financial institutions who choose to provide services to CRBs to design and implement a thorough customer due diligence review that includes, in part, analyzing the licensing of the entity, developing an understanding of the business operations of the entity, and ongoing monitoring of the entity. In addition, financial institutions are required to file a Suspicious Activity Report (SAR) for every transaction they process for a CRB, should they choose to accept the business.

While this is a positive step forward, it is a heavy compliance burden that comes at a cost. Naturally, compliance costs incurred by banks to service cannabis operators are passed on to the customer; fees of $2,500 per month per account are not uncommon. The high compliance costs, coupled with the significant regulatory risk, keeps most banks out of the cannabis market; thus, making it hard, but not impossible, for a receiver appointed over a cannabis operation or CRB to obtain banking.

While banking options do exist, the reality is that most canna-businesses operate on a cash basis. Distressed cannabis operations may not have the cashflow to afford banking services, at least at the outset of a receivership. Further compounding the banking problem, some banks that are open to cannabis are not open to receiverships, further limiting banking options.

A receiver therefore must be prepared to quickly secure all cash assets of the receivership entity and ensure appropriate internal controls are in place to control cash on an ongoing basis.

Cannabis has been legalized or decriminalized in a majority of U.S. states but remains illegal at the federal level. Therefore, federal bankruptcy protection is not generally an option available for a distressed canna business. However, not all is lost because state receiverships offer an excellent restructuring option for distressed cannabis operations.

The Man Behind MXXN: An Interview with CEO and Founder Darnell Smith

By Aaron Green
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Hangovers are one of the aftereffects often experienced with spirits. Who doesn’t love a good martini or a refreshing margarita? One company is on a mission bring the flavor profile and buzz of spirited drinks without the negative consequences.

Like this article and want to see more? Subscribe to our free newsletter hereMXXN is a California-based cannabis infused beverage manufacturer specializing in 1:1 non-alcoholic replacements for everyone’s favorite spirits, enhanced with a touch of cannabis. By combining new technology in cannabis oil nano emulsions and alt-alcohol, MXXN is able to create flavor matching spirits sold by the 750 mL bottle. MXXN recently launched with three product SKUs including London Dry (gin), Jalisco Agave (tequila) and Kentucky Oak (bourbon) with a rum replacement due to launch soon.

We caught up with Darnell Smith, founder & CEO of MXXN, to ask about the technology going into infused non-alcoholic spirits, regulatory challenges and more. Prior to MXXN, Darnell was a spirits industry veteran, having worked with companies including Diageo, Pernod-Ricard and Bacardi.

Aaron Green: Darnell, nice to meet you. How did you get involved in the cannabis industry?

Darnell Smith: For me, it wasn’t something that was premeditated, in a sense. I had always been a cannabis user in my adult life. I played Division I sports. Cannabis replaced a lot of painkillers and medications that I probably would have had to take just to cope with athletic injuries. That’s how I got introduced to cannabis. And there is the recreational use of it as well.

Darnell Smith, Founder & CEO of MXXN

To get to the origin story of MXXN, I spent a large part of my career working in spirits, namely, on the innovation and commercialization side of bringing new products to market under very well-known trademarks for large multinational companies. A few years into it, my liver was kind of at a point where it was like, “It’s gonna be you or me here, buddy.” So, I made the decision to start making – this is 15 years ago, in New York – a tincture where I would just heat up flower and decarb it and soak it in a high proof spirit. I would cover it for 30 days then strain it and have my tincture.

I’d be the guy in the bar, that would say “Hey, can I get a tonic and lime?” and I would put three drops of my tincture in there, and I would session cocktails along with everyone else. Next day at work, I’m the guy that’s bright-eyed and bushy-tailed and everyone else is kind of feeling a little bit weathered by that alcohol.

Innovation is usually born out of a personal need and that’s the same way here. So, fast forward 15 years and the technology has finally caught up. The rise of non-alcoholic spirits, the rise of cannabis and water-soluble emulsification, those two things combined really made the light bulb go off and say now is the time to offer this product. I feel like MXXN has a very specific place in our consumption of beverages and can fill a unique need that I think is rising.

Green: I’m interested in learning about the technology and the product. We can start with the technology that went into the product development process. I’ll go on to product next.

Smith: From a technical standpoint, up until a few years ago, the way that edibles were made was basically like raw extraction. There was very little ability to be precise about dosage. It was like trying to throw softballs through a chain-link fence. Non-uniformity made it very hard to say, “Here’s how this is going to affect you.” Fast forward and companies like Vertosa and Source have perfected this kind of nano-emulsion technology, which is basically water-suspended cannabis that can uniformly be used in food, beverage and cosmetic applications. And it’s akin to trying to throw sand through a chain-link fence. It’s just much smaller. It can remain more uniform, and thereby be more predictable in terms of dosage and effect.

The MXXN London Dry

So, that technology made it possible for us to then combine it with another wave that’s happening, which in the spirits industry is called alt-alcohol. What we do is distill all the flavor essences of well-known spirits and skip the alcohol. We then add the emulsified cannabis in place of the alcohol. And so with that, we offer a new kind of experience which is basically all the buzz but none of the booze. That’s really where technology-wise things have evolved. The rise of the non-alcoholic spirits and then the rise of being able to do water-soluble compatible cannabinoid emulsions.

Green: Are you selling this then as packaged goods or are you selling it as bladders similar to Coca-Cola in a bar setting?

Smith: This is a CPG packaged product and it really is analogous to a 750 ML spirits bottle similar to Tito’s or Grey Goose. The form factor is the same as spirits bottles, same 750 ML bottle. It doses just like a spirit would. Standard spirit pour is an ounce and a half. For us, an ounce and a half shot has six milligrams of THC.

For the average consumer, you can session cocktails and we give you the option to dose between two and six milligrams between a half ounce and an ounce and a half pour. So, it’s very analogous to what people are experienced in when it comes to spirits from the bottle to the dosage and to the actual recipes. We pride ourselves on being able to demystify something that has been a little bit complex in terms of making cannabis-infused cocktails. We are sticking close to what people are familiar with. People have a lot of experience with tequila or gin or bourbon and so we wanted to stay very familiar but also give people a chance to make the same recipes but sans alcohol.

Green: What kind of flavor profiles are you launching with?

Smith: We’re launching with three SKUs. Our first is London Dry, which is our take on a gin and that one has cucumber, juniper, coriander, and a nice peppery finish. We have Jalisco Agave, which is our take on a tequila or Mezcal. You have notes of agave, flint, salt, oak, and vanilla. And then the last one is Kentucky Oak, which is our version of a bourbon or whiskey. There you have charred oak, vanilla, and other flavor components that make up what bourbon is.

The MXXN Kentucky Oak

Now we have a rum in development that’s nearing the end of a robust R&D pipeline. We have some other options like ready-to-drink cocktails made with MXXN to more high-dose products for what we consider the “legacy consumer” who is maybe more medically inclined in the hopes of being able to give people more options when it comes to consumption of flavored spirits.

Green: On the cannabis side, with the infusions that you’re doing, is it pure THC or are you doing full spectrum?

Smith: Yes, full-spectrum cannabinoid. You’ll notice some beverage brands have what we consider a hybrid, some THC and some CBD. For us, and for the effects that we wanted to have the product to have we stuck with a THC-forward blend. There is a trace of CBD in there, but we don’t even claim it. It’s not something that we go forward with. Our emulsion is THC-based.

Green: Where are you at today in terms of the launch and presence?

Smith: We just finished a pilot test here in California. We started late-January, early-February and we’ve been selling direct-to-consumer. Just order and you can have it at your door in 24 hours for about 85% of the state. We’ve blown through our entire pilot run. Now we are entering into what we consider our launch phase which will be available in select retailers late-July. We are gearing up for our next big production run here in mid-July. We are basically all systems go.

At the same time, we’re exploring multi-state expansion. We have a lot of interest in states like Colorado, Nevada, Arizona and we’re having constant conversations with partners in those states to help bring the product to market.

Green: Have you looked at lounges?

Smith: Lounges have been our biggest traction as we start the retail rollout. We literally just started the dispensary piece of what we’re doing last month. And this is by design. First, we wanted to go direct-to-consumers for proof of concept to make sure we weren’t, you know, saying the story to ourselves. I think just by the performance of the pilot run and direct-to-consumer sales, we proved okay, this is a viable concept.

MXXN’s Jalisco Agave

So as we go out, our number one targets are obviously establishments that also are connected to or have connections with a consumption lounge. There aren’t a ton at this point. They’re still kind of proliferating. But I will tell you the moment we walk into one of these accounts is like a no-brainer because it allows this account to offer a whole new experience. When it comes to consumption lounges in terms of great cocktails you already know: gin and tonics, margaritas, paloma, with no real education required on the part of who’s ever going to be serving. We basically take 20 retailers a month in chunks and so far of the 15-20 that we’ve done, four or five of them have consumption lounges and you’ll see it in those very soon.

Green: Are there any challenges there with dosing in a lounge where the onus is on the operator to dose? How do the regulations work there?

Smith: It’s similar to alcohol, right? As an establishment, you have a responsibility to kind of pay attention to what’s happening as the consumer is consuming. Typically, most of the legislation that was written is for an inhaled consumption lounge. Ingestibles weren’t necessarily considered heavily when it came to legislation. What we tell folks is you have the same responsibilities you would if you were a bartender. Our recommended pour in consumption lounges is a lighter dose. This way, the customer has a chance to start low and go slow, and really recognize how it’s going to affect them.

Legally, there is no firm guidance on what overconsumption looks like for the typical consumer. So, we tell folks you have to kind of get a feel for who the consumer is. If they’re curious person who doesn’t have a lot of experience with cannabis, we typically recommend not to exceed a five-milligram serve per sitting until you figure out how it’s going to affect them. However, if you have very high dose legacy consumers, who buy and drink these 100-milligram single-serve bottles it’s a different story. You kind of need to gauge that from consumer to consumer, and what their tolerance level is. A lot of onus is on the consumption lounge. And I think that’s why they’ve kind of been slow to really roll out how they deal with beverages, because it’s just a different beast. It’s absorbed differently by the body from inhalable products

Green: What trends are you looking at in the industry?

Smith: I love seeing more food-based options. Edibles to this point have been mostly candies and gummies and I see the trend going to more high-end, curated food selections. I think that’s super interesting. The condiments that go into cooking is a category that I’m keeping an eye on. I came across a THC and CBD-infused Siracha sauce the other day and I was like, “wow, this is fantastic!”

MXXN logo

In the beverage space, there continues to be innovation, which we are on the forefront of. There’s a point of saturation that’s going to come for how many seltzers can exist in the market at the same time. And I think we’re kind of reaching that point. So, it’s going to be incumbent upon the beverage space to continue to innovate.

I’m also watching where things go with hemp-derived THC, the Delta-8s and those things and how is that going to be dealt with when it comes to the legal market. I think you see varying ways that it’s being dealt with across states. That’s a trend I’m certainly keeping an eye on as things continue to roll out across the country.

Green: What, in your personal life or in cannabis are you most interested in learning about?

Smith: Given where the world is today, I feel like we all live in this “OR” mindset. It’s either you OR me, it’s either this OR that. And I think you can see with some of the more recent political things that have happened, it’s this ideology of like, trying to force your beliefs on someone else. For me, it’s more about like, how can we learn to live more in the “AND” right? You can have this AND this and they can coexist, and they don’t have to be in competition. In my personal life, that’s where a lot of my energy is going. How do I spread that thought of getting out of this living in OR. We must move to this kind of mindset of AND. How can we be accommodating for a bunch of different beliefs, a bunch of different approaches? It causes so much friction when we try to impose beliefs on others that may not share the same beliefs.

I am thinking about how I can apply that to the cannabis industry as well. In terms of federal legalization versus state, where can we find that the happy ground? If we think about going across state lines, that’s effectively building a whole other business in the state, and in virtually no other industry does that exist. I can tell you economically this country could use infusion of cannabis to be more freely available. So those are the types of things that keep me moving these days. I’ve had a lot of success in my past and so for me, it’s less about financial achievements, and it’s more about how we can help move folks to this is AND mentality and not everything has to be OR.

Green: Great. That concludes the interview.

Sustainable Plastic Packaging Options for Your Cannabis Products

By Danielle Antos
7 Comments

A large part of your company’s brand image depends on the packaging that you use for your cannabis product. The product packaging creates a critical first impression in a potential customer’s mind because it is the first thing they see. While the primary function of any cannabis packaging is to contain, protect and identify your products, it is a reflection of your company in the eyes of the consumer.

For all types of businesses across the US, sustainability has become an important component for success. It is increasingly common for companies to include sustainability efforts in their strategic plan. Are you including a sustainability component in your cannabis business’ growth plan? Are your packaging suppliers also taking sustainability seriously? More and more, consumers are eager to purchase cannabis products that are packaged thoughtfully, with the environment in mind. If you are using or thinking about using plastic bottles and closures for your cannabis products, you now have options that are produced from sustainable and/or renewable resources. Incorporating sustainable elements into your cannabis packaging may not only be good for the environment, but it may also be good for your brand.

Consider Alternative Resins

Traditionally, polyethylene produced from fossil fuels (such as oil or natural gas), has been used to manufacture HDPE (high density polyethylene) bottles and closures. However, polyethylene produced from ethanol made from sustainable sources like sugarcane (commonly known as Bioresin) are becoming more common.

HDPE bottles produced with Bioresin.

Unlike fossil fuel resources which are finite, sustainable resources like sugarcane are renewable – plants can be grown every year. For instance, a benefit of sugarcane is that it captures and fixes carbon dioxide from the atmosphere every growth cycle. As a result, production of ethanol-based polyethylene contributes to the reduction of greenhouse gas emissions when compared to conventional polyethylene made from fossil fuels, while still exhibiting the same chemical and physical properties as conventional polyethylene. Although polyethylene made from sugarcane is not biodegradable, it can be recycled.

Switching to a plastic bottle that is made from ethanol derived from renewable resources is a great way for cannabis companies to take positive climate change action and help reduce their carbon footprint.

For instance, for every one ton of Bioresin used, approximately 3.1 tons of carbon dioxide is captured from the atmosphere on a cradle-to-gate basis. Changing from a petrochemical-derived polyethylene bottle to a bottle using resins made from renewable resources can be as seamless as approving an alternate material – the bottles look the same. Ensure that your plastic bottle manufacturer is using raw materials that pass FDA and ASTM tests. This is one way to help reverse the trend of global warming due to increasing levels of carbon dioxide (CO2) in our atmosphere.

PET bottles derived from 100% recycled post-consumer material.

Another option is to use bottles manufactured with recycled PET (polyethylene terephthalate). Consisting of resin derived from 100% recycled post-consumer material, it can be used over and over. This is an excellent choice because it helps keep plastic waste to a minimum. Regardless of the resin you select, look for one that is FDA approved for food contact.

Consider Alternative Manufacturing Processes

Flame Treatment Elimination

When talking about plastic bottle manufacturing, an easy solution to saving fossil fuels is eliminating the flame treatment in the manufacturing process. Historically, this process was required to allow some water-based adhesives, inks, and other coatings to bond with HDPE (high density polyethylene) and PP (polypropylene) bottles. Today, pressure-sensitive and shrink labels make this process unnecessary. Opt out and conserve natural gas. For instance, for every 5 million bottles not flamed approximately 3 metric tons of CO2is eliminated. This is an easy way to reduce the carbon footprint. Ask your cannabis packaging manufacturer if eliminating this process is an option.

Source Reduction (Right-Weighting)

When considering what type and style of bottle you want to use for your cannabis product, keep in mind that the same bottle may be able to be manufactured with less plastic. A bottle with excess plastic may be unnecessary and can result in wasted plastic or added costs. On the other hand, a bottle with too little plastic may be too thin to hold up to filling lines or may deform after product is filled. Why use a bottle that has more plastic than you actually need for your product when a lesser option may be available? This could save you money, avoid problems on your filling lines, and help you save on your bottom line. In addition, this will also help limit the amount of natural resources being used in production.

Convert to Plastic Pallets

If you are purchasing bottles in large quantities and your supplier ships on pallets, consider asking about plastic pallets. Reusable plastic pallets last longer than wood pallets, eliminate pallet moisture and improve safety in handling. They also reduce the use of raw materials in the pallet manufacturing process (natural gas, metal, forests, etc.) aiding in efforts towards Zero Net Deforestation. And, returnable plastic pallets provide savings over the long term.

If You Don’t Know, Ask Your Cannabis Packaging Partner

It is important to find out if your plastic packaging partner offers alternative resins that are produced from renewable sources or recycled plastics. It is also prudent to partner with a company that is concerned about the impact their business has on the planet. Are they committed to sustainability? And, are they eliminating processes that negatively affect their carbon footprint? What services can they provide that help you do your part?

When you opt to use sustainably produced plastic bottles and closures for your cannabis products, you take an important step to help ensure a viable future for the planet. In a competitive market, this can improve the customer’s impression of your brand, increase consumer confidence and help grow your bottom line. Not only will you appeal to the ever-growing number of consumers who are environmentally-conscience, you will rest easy knowing that your company is taking action to ensure a sustainable future.