Tag Archives: contract

Overcoming Challenges in the Private Label CBD Industry

By Josh Epstein
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Private labelling, or white labelling, is a popular option for brands looking to enter the CBD space. This practice is where a product is manufactured by one company but branded, marketed and sold by another.

There are several companies that specialize in manufacturing end-to-end finished CBD products. They commonly provide third-party test results, certificates and data to verify the purity and potency of products created. Technically, all new brands need to do is place their label on the package and start selling! However with any new venture, establishing a successful private label CBD brand will inevitably mean various challenges need to be overcome.

Securing Quality Sources of CBD

Finding the right partners to work with is a must. The best way to source credible and trustworthy suppliers and manufacturers is to look for certifications and audits from third-party agencies. These include the Global Food Safety Initiative (GFSI), the Safe Quality Food (SQF), the United States Department of Agriculture’s (USDA) organic certification program and others.

The USDA organic certification program is a rigorous multi-step audit process to increase supply chain sustainability. Organic certification is a form of elective, self-regulation for manufacturers which consumers have eagerly welcomed into the marketplace. Look for the USDA organic seal to help identify which manufacturers are trustworthy and can produce a range of organic products.

From a consumer perspective, certifying your products as organic is an additional way to provide both supply chain transparency and increase confidence when trying new CBD products. It also provides a form of quality assurance to skeptical consumers, especially those who avidly read product labels prior to making a purchasing decision. Members of this “label reader” demographic will consistently choose organic products for the quality and transparency they provide with pure and natural ingredients.

Creating a Unique Product

Innovation and creativity will continue to be important differentiators due to the highly competitive nature of the CBD marketplace. New ingredient innovations such as water dispersible materials are big game-changers. From chewing gum to energy drinks, the opportunities for new and unique CBD products under your own private label are limitless.

Just some of the many hemp-derived CBD products on the market today.

There are only a handful of CBD brands who are willing, or even able, to be certified organic today. USDA certification is an opportunity for brands looking to adapt to changing consumer preferences, diversify their product offerings and invest in supply chain transparency.

In the past, product differentiators involved third-party lab testing or providing COAs — today that’s just industry standard. The USDA organic seal is becoming one of the hemp industry’s most coveted certifications because it is a product differentiator.

Building Credibility

Trustworthiness, transparency and traceability are important factors for consumers to consider when shopping for products. These factors should also be considered when producing products and while vetting vendors, partners, stakeholders and supply chain suppliers.

Credible certifications allow consumers to make informed decisions while feeling confident that they are purchasing products from reputable sources. Research has shown that today’s CBD market lacks credibility while consumers are desperately seeking comfort and are eager to purchase from trustworthy brands.

Cannabis Contracting: The Potential Invalidity Defense Created By Federal Prohibition

By Brett Schuman, Barzin Pakandam, Jennifer Fisher, Nicholas Costanza
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The overwhelming majority of Americans now live in a state where cannabis is legal at the state level for at least some purposes.1 However, cannabis (excluding hemp) remains criminal under federal law for all purposes. This conflict between state and federal law presents challenges for participants in the state legal cannabis industry, including enforcing their contractual agreements. This is because a number of federal court rulings have called into question whether contracts involving cannabis are enforceable in federal court.

In this article, we explore how federal courts and state legislatures have addressed the enforceability of contracts relating to cannabis and provide some practical tips for cannabis companies to protect their contractual rights.

The “Illegality Defense” in Federal Courts

“No principle of law is better settled than that a party to an illegal contract cannot come into a court of law and ask to have his illegal objects carried out . . . .” Mann v. Gullickson, 2016 WL 6473215 at *6 (N.D. Cal. Nov. 2, 2016) (quoting Wong v. Tenneco, Inc., 39 Cal. 3d 126, 135 (1985)).

Bart St. III v. ACC EnterprisesApplying this principle, a number of federal courts have refused to enforce contracts relating to state-legal cannabis. For instance, in Bart St. III v. ACC Enterprises, LLC, No. 217CV00083GMNVCF, 2020 WL 1638329 (D. Nev. Apr. 1, 2020), the parties entered into a loan agreement wherein the plaintiff-lender, Bart Street III, loaned the defendant cannabis cultivators in Nevada approximately $4.7 million to fund operating costs, pay down debts and purchase land for a cannabis cultivation facility in Nevada. Id. at *1-2. The loan agreement specified that it was governed by Nevada law. The cannabis cultivators defaulted on the loan, and Bart Street III sued for breach of contract and unjust enrichment. The cannabis cultivators argued that they could not be liable for breach of a contract that is illegal under the Controlled Substances Act of 1970, as amended (the CSA). Id. A federal judge in Nevada ruled that certain provisions of the loan agreement (i.e., a right of first refusal provision and another provision concerning disbursement of operating costs) were illegal under federal law and could not be enforced. The judge was unable to decide on summary judgment whether the illegal provisions could be severed from the other parts of the agreement, so on that basis the cannabis cultivators’ summary judgment motion was denied as to the breach of contract claim. However, the judge granted the cannabis cultivators’ motion as to the unjust enrichment claim based on the following reasoning: “Plaintiff cannot prevail for unjust enrichment because the parties’ contract involves moral turpitude. If the Contract is unenforceable, it is because Plaintiff invested in Defendants’ marijuana cultivation business primarily to obtain a pathway to an equity investment therein . . . . Providing funds in exchange for equity violates the CSA because it would allow the investor to profit from the cultivation, possession, and sale of marijuana . . . . Conspiracy to cultivate marijuana is a crime of moral turpitude.”

Polk v. GontmakherThe illegality defense was also raised in Polk v. Gontmakher, No. 2:18-CV-01434-RAJ, 2020 WL 2572536 (W.D. Wash. May 21, 2020), which involved two business partners—Polk and Gontmakher— who owned a licensed cannabis processing facility and retail store through an entity called NWCS. When Polk decided to leave the business, Gontmakher refused to acknowledge Polk’s ownership interest because Polk had a prior criminal record, which violated ownership requirements for cannabis businesses under Washington cannabis regulations. Polk sued Gontmakher for breach of a verbal partnership agreement and sought to recover past and future profits of the cannabis business. Gontmakher moved to dismiss, and the district judge granted the motion: “Mr. Polk’s claim that his requested relief would not require a violation of the CSA defies logic. He is demanding the future profits of a business that produces and processes marijuana in violation of federal law. How does Mr. Polk anticipate NWCS will generate these future profits? The Court cannot fathom how ordering [Gontmakher] to turn over the future profits of a marijuana business would not require them to violate the CSA. And as this Court has previously explained to Mr. Polk, it cannot award him an equitable interest in NWCS because to do so would directly contravene federal law.” Polk, WL 2572536 at *2.

J. Lilly, LLC v. Clearspan Fabric Structures Int’l, Inc.Certain federal district court judges have addressed the illegality defense directly, even when it has not been asserted by the parties. In J. Lilly, LLC v. Clearspan Fabric Structures Int’l, Inc., No. 3:18-CV-01104-HZ, 2020 WL 1855190 (D. Or. Apr. 13, 2020), a licensed cannabis cultivator in Oregon contracted with Clearspan, a lessor of commercial greenhouse equipment located in Connecticut, to lease greenhouse equipment for the facility and also have the facility constructed. After construction began, the cultivator notified Clearspan (and the sub-contractor) of numerous defects in the facility that were impeding cultivation efforts, and after Clearspan allegedly fixed only one defect, the cultivator sued for breach of the agreements and claimed lost profits due to the inability to cultivate cannabis, in the amount of $5.4 million. While Clearspan moved to dismiss the claims on the basis that the cultivator waived any contractual right to consequential damages, the District Court raised the issue of the illegality of the contracts under federal law sua sponte at oral argument. After supplemental briefing on the issue, the Court held that “awarding Plaintiff damages for lost profits [for the sale of cannabis] would require the Court to compel Defendants to violate the [CSA…and] provides an independent basis to dismiss Plaintiff’s lost profits claim in addition to” the issue of waiver, and other merits issues.  Id. at *11-12.

And in Ricatto v. M3 Innovations Unlimited, Inc., No. 18 CIV. 8404 (KPF), 2019 WL 6681558 (S.D.N.Y. Dec. 6, 2019), Ricato (an investor) and M3 (the intended cannabis operator and licensee) entered into an agreement to purchase a plot of land in California for M3 to develop as a cannabis processing facility. The investor sued to enforce the investment instrument, and M3 moved to dismiss. The court granted M3’s motion to dismiss on other grounds but noted that “it is not readily apparent to the Court that it could [even] enforce such a contract [as] ‘[m]arijuana remains illegal under federal law, even in those states in which medical marijuana has been legalized,’” such as California. Id. at *5, n.4.

Ricatto v. M3 Innovations Unlimited, Inc.However, under some circumstances a federal court may enforce a cannabis contract. In Mann v. Gullickson, Mann loaned Gullickson money to be used in a cannabis-related business. The agreement was governed by California law. When Gullickson defaulted on the promissory note, Mann sued for breach of contract. Gullickson asserted that the contract was illegal under federal law and moved for summary judgment. In an order denying Gullickson’s motion, the court said that “even where contracts concern illegal objects, where it is possible for a court to enforce a contract in a way that does not require illegal conduct, the court is not barred from according such relief.” 2016 WL 6473215, at *7.

Federal courts are wary of parties seeking the enforcement of cannabis contracts. If there is any possibility that the issuance of a court order enforcing the contract would result in a party violating the CSA, federal courts are likely to deny relief.

State Laws Protecting the Enforceability of Cannabis Contracts

At the state level, legislatures in some states that have legalized cannabis for adult use have enacted laws to protect the enforceability of cannabis contracts. These statutes specifically exempt commercial cannabis activities from general laws voiding contracts that are in furtherance of illegal activities. Examples of these state laws include:

Massachusetts: In December 2016, Massachusetts enacted a statute providing that “[c]ontracts pertaining to marijuana enforceable” and providing that contracts entered into by cannabis licensees or their agents, or by landlords of cannabis licensees, “shall not be unenforceable or void exclusively because the actions or conduct permitted pursuant to the license is prohibited by federal law.” (Mass. Gen. Laws ch. 94G, § 10)

California: In January 2019, California enacted a statute providing that “commercial activity relating to medicinal cannabis or adult-use cannabis conducted in compliance with California law and any applicable local standards, requirements, and regulations” shall be deemed the lawful object of a contract and not contrary to law or against public policy, notwithstanding any law that requires all contracts have a “lawful object” under state or federal law. (Cal. Civil Code § 1550.5)

Nevada: In 2016, a ballot initiative was passed in Nevada, which was then codified under state law, declaring “[i]t is the public policy of the People of the State of Nevada that contracts related to the operation of marijuana establishments under this chapter should be enforceable,” and that such contracts “shall not be deemed unenforceable on the basis that the actions or conduct permitted pursuant to the license are prohibited by federal law.” (N.R.S. § 678B.610).

Similar statutes have been enacted in other states, including in Oregon (January 2018), Michigan (December 2018), Illinois (June 2019) and Colorado (January 2020). See Or. Rev. Stat. § 475B.535 (In Oregon, “[a] contract is not unenforceable on the basis that” commercial cannabis activity legal in Oregon is illegal under federal law); Colo. Rev. Stat. § 13-22-601 (similar to Oregon); Mich. Comp. Laws § 333.27960 (Public policy in Michigan is that “…contracts related to the operation of marihuana establishments [are] enforceable.”); 410 Ill. Comp. Stat. § 705/55-75 (similar to Michigan).

However, many states that have legalized cannabis do not have statutes exempting contracts relating to cannabis activities from the illegality defense.

Contracting Tips for Cannabis Companies

Notwithstanding the uncertainty and inherent risks caused by the conflict between federal and state law, there are certain steps parties entering into commercial cannabis agreements can take to protect their contractual rights, including:

  1. Always include a forum selection clause specifying resolution of disputes in state court and waiving any right to remove the dispute to federal court.
  2. If entering into an agreement in a state that has enacted a statutory provision exempting cannabis contracts from the illegality defense, consider selecting that state’s law (as opposed to New York or Delaware law, which are often the jurisdictions of choice for transactional lawyers who don’t know better) in a choice of law provision.
  3. If neither the parties nor the performance of the agreement have any nexus to a state that has enacted a statutory provision protecting the enforceability of cannabis contracts, consider incorporating the contracting entity in one of those states. In the same way that Delaware is the jurisdiction of choice for incorporating most companies, a state like California may on balance be the better choice for cannabis industry participants due to the legal recognition of commercial cannabis activity.
  4. Consider using an arbitration clause in commercial cannabis agreements. These clauses require parties to arbitrate disputes that may arise in connection with the agreement. As a general rule, arbitration is both more efficient and less expensive than litigation, and arbitrators are less likely than federal judges to refuse to enforce an agreement because it relates to federally illegal cannabis activity.

Conclusion

Notwithstanding expanding legalization at the state level, and general federal tolerance of the state-legal cannabis industry, federal courts remain a dangerous place for cannabis companies. If possible, cannabis companies should specify state court (or arbitration) for resolution of disputes in their contracts, and they should choose a state law that expressly excludes cannabis contracts from the illegality doctrine.


References

  1. Cannabis is legal for medical purposes in 33 states plus the District of Columbia; cannabis is legal for adults over 21 in 11 states plus the District of Columbia. Approximately 76.5% of the population of the United States lives in a state with some form of legal cannabis. See https://www.census.gov/data/tables/time-series/demo/popest/2010s-state-total.html#par_textimage_1574439295. This figure excludes Texas, which has a limited medical cannabis program as of this writing. However, if Texas is included, then over 85% of the population lives in a state with some form of legal cannabis.

Metrc Takes Contract for Maine’s Tracking Software

By Aaron G. Biros
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Maine’s Office of Marijuana Policy (OMP), the government agency in charge of regulating their cannabis industry, announced today a six-year contract for traceability software with Metrc LLC. According to the press release, the software will be used for the newly formed adult use market, which is just a few months away from going live with legal sales.

Maine’s OMP was previously under contract with BioTrackTHC as their software provider before switching to Metrc with this new contract. The software is cloud-based and uses radio-frequency identification (RFID) tags on plants and products to track cultivation and distribution of cannabis products throughout the state. The software is commonly used across the country in states that have legal cannabis markets. It essentially prevents diversion to the black market, allows for a transparent supply chain with clear chain of custody tracking and it increases recall readiness.

Erik Gundersen, Director of Maine’s OMP, says Metrc is helping to make a smooth launch of the adult use market. “We are excited to partner with Metrc,” says Gundersen. “Metrc is an industry leader, and their team is committed to delivering a product that will allow us to proceed with the launch of our adult use program later this spring.”

Over the next few months, Metrc and OMP plan on helping the industry familiarize themselves with the new software. The two organizations will go on the road in March, giving licensees training and answering questions. Metrc will then offer online training and evaluations followed by credentialing licensees showing they are proficient with the software.

Jeff Wells, CEO of Metrc, says they are excited to get to work. “We’re excited to partner with the OMP to help launch the state’s adult-use marijuana market,” says Wells. “2020 is another significant year for cannabis industry growth, and we look forward to serving the OMP, local cannabis businesses, and the people of Maine.”

The agreement is a six-year contract with a value of roughly $540,000. License holders pay a $40 monthly fee to access the system, which helps support training and technical support, according to the press release.

BioTrackTHC Selected For Maine’s Traceability Contract

By Aaron G. Biros
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On May 15, BioTrackTHC was announced the conditional winner for Maine’s seed-to-sale tracking system government contract. The award is still pending final approval from the State Procurement Review Committee and the successful negotiation of the contract.

BioTrackTHC, a Helix TCS subsidiary, announced in a press release their conditional award earlier this month. The contract means that BioTrackTHC would partner with the state to provide software for tracking both medical and recreational cannabis products from the immature plant to the point of retail sales.

The contract could go for as long as six years, through 2025. If this contract receives final approval from the state internally, then this will become the ninth government contract for BioTrackTHC. Patrick Vo, CEO of BioTrackTHC, expects a quick deployment of the software once the contract is finalized. “We are excited to be working with the State of Maine and are grateful for their vote of confidence in our team’s ability to execute upon state-level tracking contracts and rapidly deploy a sound and secure technology solution,” says Vo.

Zachary L. Venegas, Executive Chairman and CEO of Helix TCS, Inc, says BioTrackTHC’s technology is leading the industry in shaping regulatory oversight for legal cannabis. “As states and countries begin to rollout or expand legal cannabis programs, our technology continues to lead as demonstrated by this Intent to Award and our multiple recent contract extensions with our partners,” says Venegas. “We look forward to playing a vital role in shaping the global cannabis industry and ensuring that it is able to operate efficiently and transparently.”

Richard Naiberg
Quality From Canada

Protecting Intellectual Property In Canada: A Practical Guide, Part 1

By Richard Naiberg
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Richard Naiberg

Cannabis producers are making large investments in new technologies to improve their plant varieties, production know-how and product formulations. At the same time, producers are working hard to create and promote more compelling, top-of-mind brand identities for their improved products. The series concludes with a 9-point outline of specific steps cannabis producers need to consider taking to protect their key intellectual property assets. 

The value of these investments cannot be realized if competitors are allowed to copy and exploit the producer’s successes. Canada’s intellectual property laws can and should be used to protect cannabis producers from such predation. Invoking Canada’s laws to this end is not difficult and does not have to be expensive. It does, however, require specific, deliberate and early action.

This series of articles outlines the principal means of protecting intellectual property rights in the core technologies and marketing programs of cannabis companies. The series also highlights what any cannabis company must do to ensure that its own activities do not run afoul of another’s rights. No company wants to begin a new venture only to face a lawsuit for intellectual property infringement.

The series concludes with a 9-point outline of specific steps cannabis producers need to consider taking to protect their key intellectual property assets.

Trade Secrets: Protection For Confidential Know How

A trade secret is specific, commercially valuable information and know-how that is kept confidential within the company and cannot generally be reversed-engineered by outsiders. A trade secret provides protection over any type of information or know-how and is not subject to any expiry date. Trade secret protection is lost only when the information or know-how becomes available to the public.

As a best practice, defining the trade secret in a confidential document can be useful as a way of restricting access to the secretCannabis producers generate all kinds of valuable know-how that cannot be appreciated simply from an inspection of the vended product. Examples would include methods of crossbreeding, cultivation, harvesting, extraction and processing. Customer lists and other internal business structures and information may also qualify as trade secrets.

There are no statutory pre-conditions that must be met to obtain a trade secret. A trade secret is acquired simply upon the generation of valuable information or know-how that is kept confidential. As a best practice, defining the trade secret in a confidential document can be useful as a way of restricting access to the secret, and as evidence in proceedings as to the scope of the trade secret (an issue that is frequently in dispute in such cases).

For the trade secret to be maintained, the producer will need to take steps to ensure that access to the know-how and associated documents is restricted only to those who need to know the secret for purposes of carrying out their functions at the company. All personnel with access to the trade secret will need to be bound to confidence by employment agreement and/or by separate contract. When employees leave, they ought to be reminded of their obligations of confidentiality and must be prohibited from removing any documentation regarding the trade secret from the company. All outside companies who need access to the secret must sign non-disclosure agreements. It is typical for owners of trade secrets to be vigilant in their market surveillance and to engage private investigators when they suspect a trade secret has been stolen.

A trade secret’s very confidentiality provides its principal value. A competitor cannot copy what it has no ability to discern. However, when someone with access to the secret ‘goes rogue’, such as by using the know-how for his or her own account or for that of a new employer, the owner of the trade secret must act quickly and bring the matter before the Court. The Court has a broad discretion to stop the rogue and any persons or companies who learn the secret from the rogue from further dissemination or exploitation of the trade secret. The Court also has a broad discretion to craft an appropriate remedy to compensate the trade-secret owner for the wrong. If the action is brought before the trade secret is broadly disseminated, the trade secret may be reinstated and enforceable in the future. If the owner of the secret acts too slowly and the dissemination of the trade secret becomes too broad, the trade secret may be lost forever.

Adopting the use of trade secrets to protect know-how in the cannabis business does suffer from the fragility of the right itself. One disclosure, however inadvertent, can destroy the protection. In addition, a trade secret will not protect a company from a competitor who independently derives the know-how. Further, theft of the trade secret can be difficult to spot because, by its nature, the trade secret is exploited within the walls of the competitor company and is not evident in the marketed product. The owner of the secret will need to watch its competitors for telltale shifts in business direction and product offerings, particularly when those competitors hire the ex-employees of the owner of the trade secret. It is typical for owners of trade secrets to be vigilant in their market surveillance and to engage private investigators when they suspect a trade secret has been stolen.


Editor’s Note: In part 2 of this series, which will be published next week, Richard Naiberg will take a closer look at patents and how business can protect new and inventive technology in Canada’s cannabis industry. Stay tuned for more!

german flag

German Authorities Will Issue New Cannabis Cultivation Bid

By Marguerite Arnold
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german flag

According to Kermit the Frog, it’s never easy being green. It is also tough to be “first” in the cannabis biz. Anywhere.

One of the most remarkable features of the first years of state-level legalization in the U.S. was the sheer number of mistakes by the authorities in issuing licenses and bids for state-sanctioned cultivation and dispensation once the voters had forced legalization. There were several state-level “redos” and lots of legal mumbo jumbo thrown around as the green-rush kicked off at the state level.The real news? There is going to be a completely new one.

Fast-forward a couple of years and it is clear this is not just an issue of the confused state of legalization in the U.S.

Canada too, on a federal recreational level, has moved forward in fits and starts. And even though a fall start date to the market has now been enshrined into law, the continued moving target of the same has been a topic of fraught conversations and bargaining ever since the country decided to move ahead with full Monty recreational.

Across the pond, things are not going smoothly on the cannabis front. In the first week of July, the much stalled medical cultivation bid in Germany finally came to a limpid end. It remains to see if there will be any legal “bangs” as it whimpers away.

The real news? There is going to be a completely new one.

A Do-Over

According to documents obtained by Cannabis Industry Journal, the Bundesinstitut für Arzneimittel und Medizinprodukte (or BfArM) issued letters to original bid respondents in the first week of July. The letters appear to have been sent to all parties who originally applied to the first bid – far from the final top runners.

The translation, from German reads:

“We hereby inform you that we have withdrawn the above-mentioned award procedure…and intend to initiate a new award in a timely manner.”

The letter cited the legal decision of March 28 this year by the Düsseldorf Higher Regional Court as the reason the agency cannot award the contract. Specifically, because of “necessary changes to the tender documents…inparticular with regard to time, we have decided to cancel the procedure altogether and initiate a new award procedure.”

Per the letter, the new procedure will be published in the Official Journal of the EU. No date was mentioned.

An Expensive Surprise and a Global Response

Conventional wisdom in the industry about the fate of the first bid has been mixed since last September when the first hint of lawsuits against the procedure began to circulate. Highly placed sources within the industry have long had their doubts about the bid’s survivability, although nobody will talk on the record. The bid process is supposed to be secret.However, it is clear that another bid will be issued

Furthermore, for the last 9 months, BfArM has maintained that the agency would go full-steam ahead with the original tender. None of the major firms contacted by CIJ about this notification would confirm that they had received a similar letter, nor would they comment.

However, it is clear that another bid will be issued. Further, this time, it is also obvious to the extent that it was not before, the applicants will indeed hail from all points of the globe. On top of that, those who are qualified to respond and who missed it last time are unlikely to sit the bid out this time around.

German Parliament Building

It remains unclear of course, what the response of the finalists to the first bid will be. Including, theoretically,legal action forpotential damages. BfArM was, technically, held at fault by the court. This means that all the companies who made it to the previous “final round” have now suffered at a minimum, an expensive time delay where other outlays of cash were also required. That includes the leasing and retrofitting of high security real estate, but of course,is not limited to the same. If any of these firms do not obtain the bid in the second go around, will they sue?

At press time, there were no cannabis industry companies willing to comment on the matter as this is still a “secret” process – even if it now apparently has come to an end for this round.

Who Is Likely To Be a Major Contender This Time?

German firms who were sleeping the last time this opportunity arose (or brushed it off as a “stigmatized” opportunity) are not likely to sit the second tender offer out. Especially given advancements in legalization if not the industry both in Europe and globally in the period of time the bid has stalled.

Add to that Canadians, Dutch, Israeli and Uruguayan firms, and the mix of applicants this time is likely to be the who’s who of the global cannabis industry. Americans are still not qualified to participate (with experience at least). Why? No federal reform.Domestic cannabis will not be harvested in Germany until at least 2020. 

It is also likely to be even more expensive. Not to mention require easy and quick access to European-based or at least easily confirmable pools of cash. It is conceivable that successful applications this time around will not only have to prove that they have a track record in a federally legal jurisdiction but will also have to be able to quickly access as much as 100 million euros. And there are not many cannabis companies, yet, who can do that, outside of the presumed top 10 finalists to the bid.

Will Bid Respondents Be Limited To “Just” the Cannabis Industry?

It is, however, absolutely possible that this time around the bid could include a more established pharmaceutical player or two who realizes that the medical market here has absolutely proved itself. Within the space of a year, according to the most recent “market report” on the industry (from the perspective of one of the country’s largest statutory insurance companies – Techniker Krankenkasse), there are now just over 15,000 patients.

Cannabis, in other words, is no longer an “orphan drug.” It is also still, however, considered a narcotic. For that reason, seasoned European and German players may upset the market even more with an entry via this tender bid.

Here is what is certain for now. Domestic cannabis will not be harvested in Germany until at least 2020. And until that time, it will be a growing, but import-based market.

margueriteICBC

Berlin’s ICBC: Meeting the European Cannabis Industry

By Marguerite Arnold
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margueriteICBC

The International Cannabis Business Conference (ICBC) in Berlin is now officially over. The speeches have been made, the parties have been attended. The hard-working crew behind it all has wrapped up, checked out and is off to Vancouver. And most of all, the marathon of meetings and deal discussions that were the mark of this budding and certainly by now established market are done. Even if there are still details to be ironed out in all the new business in the coming months.

As always, the dilemma for conference attendees was how to spend the limited time in this concentrated cannabis gathering. With all of the networking and excitement, people still wanted to hear the experts who spoke on topics ranging from cannabis financing to actually doing business in Germany to new medical advances. Traffic in the expo section was also heavy, as attendees visited the wide range of vendors. Producers and distributors of both plant and derived product were present, along with vape companies brave enough to compete with Storz and Bickel on their own turf, various tech solutions and of course, international consultants.

As the dust clears and the contracts get signed, what are the takeaways from the second edition of the ICBC in Berlin?

Germany Is Going Green

The simplest takeaway? The ICBC Berlin is not a market to be missed in the future for the global cannabis executive. Even if you are an American firm (and for the most part still largely excluded from a rapidly expanding worldwide trade that is establishing itself now with authority), you need to be here. The contacts you make are global, and you do not want to be left out. For foreign investors interested in this market, it is a must. For everyone else, this is a meet and greet, not to mention education, barnone. The German medical and even prosumer CBD market is attracting the world.

Yes, there have been ups and downs even in the last three weeks that include the crashing of the German bid along with news stateside that the Trump Administration is going to hang Jeff Sessions out to dry for Russia with his latest “Make American States Great For Cannabis Again” contortion.

Guenther Weiglein
Guenther Weiglein, activist patient, being interviewed in front of MedPayRx booth

But here on the other side of the Atlantic, it is clear that the federal cannabinoid horse has left the barn. There are now rumorsfloating that the bid is not yet entirely dead (now apparently in a legal purgatory of appeals and even potentially “bid amendments”) that nobody is willing to go on record to discuss. Beyond that, however, as was clear from the frenzied deal-makingon the floor and off it at the ICBC, the market is open, distributors are finding new channels to move product, and patients demanding access are not leaving the streets.

Far from it. In fact, the budding nascent umbrella national non-profit campaign designed to open access for patients and educate doctors, The German Patients Roundtable, had a huge second meeting during the conference, with both German and international attendees from countries including Israel and South Africa.

The CBD and THC genie cannot be stuffed back into the local bottle. And everyone knows it. This is federal medical reform, and even better, covered under German national public health insurance. Despite the hiccups and challenges that still remain, this is open blue water for a medical market that has never existed anywhere to date.

ICBC logoAnyone with a GMP facility, Euro cleared export rights and crop or product ready to ship will be welcome here in a market that at this point, cannot get enough plant or oil. Edibles are still a to-come discussion.

To the extent that this is also negative, it is very clear that the market is still highly inefficient. Producers who do have productare not being found by those on the ground who want to sell it to patients. That will also begin to change. But for now, many on the ground are playing a digitalized Rolodex game of “who do you know” that still consists of personal emails between conference-met colleagues if not LinkedIn contacts and impromptu (and freebie) favors. Those who hope to gain an income merely by connecting the source of product and outlets the old fashioned way are also about to be left in the dust by a market that will not be held back and activist businesses who are eyeing both the United States and Canada right now (if not Israel and Australia), and translating all of that into both euros and German.

It is also very clear that the savvy Germans who were largely left out of the bid proceedings last time do not mean to sit this party out – and are angling to get into the game however they can. This is taking some interesting forms, but processing and testing are going to be huge issues of the market here for a long time to come. And so is home-grown, high-quality CBD. The German government is even offering tax credits for growing certain kinds of hempright now. Sound familiar Kentucky?

Trends and Takeaways

It is not just the Canadians who are going to get market share. The Canadian LPs are still in a good position to dominate the early market but it is clear that there is still room for others to enter. Whether the government allows an appeal of the court’s decision to hold up, there is a quick bid “redo” for the top 10 finalists, or a second bid, the market has now arrived and is in its second year.

margueriteICBC
Marguerite Arnold presents on the impact of blockchain on the cannabis industry

CBD is going to be an important path to other kinds of provision and cultivation. Despite the widespread misconceptions about Germany being a “CBD only” market (it is not), it is clear that a consumer CBD only strategy will be an interesting path into the market here but not one for the faint of heart. The Canadian companies in particular are beginning to move into the realm of big pharma (their market caps certainly are). But it is also clear that more local competition is hip to the same. And as a result, even this part of the market will be a highly competitive one.

German firms are first at this gate, beyond the big Canadian LPs, but they are not the only ones now in the market. See Dutch, Austrian and Swiss firms, many with pharmaceutical company credits and market entry already under their belt.  Not to mention producers from both Greece and the Baltics. Everyone on the import side is eyeing the opening market and stalled bid as a fantastic opportunity. Look for products from these locales as testing and certification protocols become more effective.

Central to all of these developments? The conference is theplacefor the global cannabis industry to meet and get to know one another, put together by Alex Rogers and a seasoned, international team behind the ICBC.

BioTrackTHC To The Rescue: Contingency Plan for Washington

By Aaron G. Biros
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According to a press release published this morning, BioTrackTHC successfully implemented their Universal Cannabis System (UCS) in Washington State, a temporary solution for the state’s seed-to-sale cannabis tracking system, while the new system is yet to be deployed.

BioTrackTHC had a contract with Washington State for four years, which expired just weeks ago at the beginning of November. Back in June, after a few minor hiccups, the state announced that MJ Freeway would be the successive software platform used for the state’s seed-to-sale traceability system.

The deadline for the new software to be ready for deployment was set for November 1st, when the BioTrackTHC contract would expire and the MJ Freeway contract would begin. Between when the contract was awarded and the deadline for implementation, MJ Freeway made headlines for a series of security hacks and systems failures. Subsequently, MJ Freeway said they could not deliver the software platform until January of 2018, leaving a two-month gap where businesses have no state-mandated software to use for the tracking system.

The contingency plan that the state laid out consisted of business owners manually inputting data in excel spreadsheets. When first pressed for a Band-Aid solution, representatives of BioTrackTHC cited security concerns related to MJ Freeway’s hacks as reason for being hesitant to extend their contract through the interim period.

In an open letter to the Washington cannabis industry back in October before the end of their contract, Patrick Vo, president and chief executive officer of BioTrackTHC, laid out an explanation for what went wrong and provided an alternative solution, essentially a private sector version of their government-mandated traceability software system.

The open letter to the Washington cannabis industry, written by Patrick Vo

Announced this morning, the new system, UCS, is being used by over 1,600 of the 1,700 cannabis licensees in Washington. The UCS has so far submitted 39,000 individual excel spreadsheets to the Washington State Liquor and Cannabis Board (WSLCB). “After the WSLCB announced that their replacement system would not be ready in time and that the only other option was for all 1,700 licensees to submit their seed-to-sale data via manual spreadsheets, BioTrackTHC created the UCS—a privatized clone of the government system—within a few days and deployed it minutes after the termination of the old system to minimize the impact on all licensees,” reads the press release.

The UCS allows business owners to streamline data recording, instead of manually entering information into spreadsheets. It is also integrating with 3rd party software competitors such as WeedTraQR, GrowFlow, Mr. Kraken, TraceWeed, GreenBits, S2Solutions and DopePlow. “After the WSLCB’s announcement, we knew that we had only a few days to provide a universal system to which the whole industry could submit compliance data and enable communication across the supply chain between licensees and their seed-to-sale system,” says Vo. “Our priority was to ensure that licensees could continue to operate in the absence of a government seed-to-sale system. Not having that system in place could have left Washington licensees vulnerable to noncompliance in a variety of ways, not to mention the potentially crippling volume of extra work needed to manually track a business’ entire inventory.”

Washington State’s new traceability software system by MJ Freeway is expected to deploy in January of 2018.

MJ Freeway Hardships Linger

By Aaron G. Biros
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MJ Freeway, a seed-to-sale traceability software company with a number of government contracts, has been making headlines this year for all the wrong reasons. A series of security breaches, website crashes and implementation delays have beleaguered the software company throughout 2017.

Just this morning, the Philadelphia Inquirer reported the company’s services crashed Saturday night and Monday afternoon. That article also mentions an anonymous hacker tried to sell sensitive information from the Washington and Nevada hacks in September. Back in April, when Pennsylvania awarded the state’s contract to MJ Freeway for its tracking system, Amy Poinsett, co-founder and chief executive officer of MJ Freeway told reporters “I think I can confidently say we are the most secure cannabis company in this particular industry.” It is safe to say this is now being called into question.

Earlier this week, New Cannabis Venture’s Alan Brochstein reported that MJ Freeway is unable to meet Washington’s October 31st deadline to integrate their software with the state, forcing customers to manually report data.

Roughly a month ago, Nevada suddenly cancelled their contract with MJ Freeway, just two years into their five-year deal. Back in June, the company’s source code was stolen and published online. And back in January of this year, the company’s sales and inventory system was the target of a cyber attack.

According to an email we obtained, all of MJFreeway’s clients in Spain experienced an online outage, but that services were restored within 24 hours. In an email sent to clients in Spain, the company told customers that the problems were the result of a system failure. “Our initial analysis indicates that this was a system failure and unfortunately none of the data was able to be successfully retrieved from the backup archive due to an error but we can assure you that none of your data was extracted or viewed at any moment,” reads the email. “We are extremely distressed regarding the event that occurred with the system and the service interruption that occurred yesterday. We recognize that this is a situation that is very serious and negatively impacts your club.” The email says that MJ Freeway is addressing those problems in a few ways, one of which being ongoing audits of their data backups. “The event has led us to reconstruct our “hosting environment” in Europe to use the latest technology from Amazon Web Services with the best redundancy, flexibility and security, using the highest stability measures in the AWS environment,” reads the email. While the site will be restored fully, according the email, historical data is lost. The company is working with their clients to help them get data back into the system. 

Cannabis M&A: Practice Pointers and Pitfalls When Buying or Selling a Cannabis Business

By Soren Lindstrom
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The Stage is Set

According to the Marijuana Policy Group, the U.S. cannabis industry is expected to reach more than $13 billion in sales by 2020 and create more jobs than the U.S. manufacturing industry. According to Viridian Capital’s Cannabis Deal Tracker, there were close to 100 M&A transactions in the U.S. cannabis industry in 2016 and approximately $1.2 billion was raised in equity and debt. As the cannabis industry has grown more mature and businesses begin to have more capital available, the M&A activity within the industry is poised to grow significantly over the next years to assist businesses gain necessary scale and take advantage of synergies and diversification.

The Obvious Wrinkle

U.S federal law has prohibited the manufacture and distribution of cannabis since 1935. The U.S. regulates drugs through the Controlled Substances Act, which classifies cannabis as a Schedule I drug (i.e., drugs determined to have a high potential for abuse with no currently accepted medical use and a lack of accepted safety regarding their use). Yet, more than 25 states have by now legalized cannabis for medical and/or recreational purposes and, as a result, there is a clear conflict between such state laws and existing federal law. To possibly help bridge that conflict, the U.S. Attorney General’s office in 2013 issued guidance directing the federal government not to intervene with state cannabis laws except in specific, limited circumstances, but, contrarily, the DEA has shown no desire to re-classify cannabis. To add to the confusion, President Trump and the new U.S. Attorney General have provided mixed statements and signals about their positions.

All of this means that it continues to be risky to acquire cannabis businesses. The requirements to legally grow, distribute, prescribe, and use cannabis for either medical or recreational purposes vary widely by country, state, and local jurisdiction, making it tricky to determine whether such businesses can be legally combined, in particular, across state lines.

Pick the Right Team of Advisors

When preparing to sell or buy a cannabis business, it is important to pick the right team of advisors. Your regular legal counsel, accounting firm or CPA may not be the right advisors for a cannabis M&A transaction. Choose a legal counsel that not only has experience with cannabis laws and regulations, but also has cannabis M&A experience and can offer expert advice on areas like IP, employment, tax matters, etc. Similarly, verify that your accounting firm or CPA has real experience with financial and quality of earnings analysis and due diligence.

Conduct Gating Due Diligence Up Front

In any contemplated M&A transaction, it is wise to prioritize your due diligence investigations. There will always be some more prominent risks and business objectives in a particular industry or with respect to a specific target business. It will be more cost and time effective if those specific risks and business objectives are prioritized early in the due diligence process. These can dictate whether you even want to pursue the target further before you dig into a deeper and broader due diligence investigation. Conducting gating due diligence up front is even more important in an industry like cannabis that contain complex and thorny regulatory hurdles.

So, before you spend money and time on a broader legal, business and financial due diligence investigation, have your legal counsel analyze and confirm that the potential transaction is feasible from a regulatory perspective. This will include whether it is possible to obtain or transfer necessary local and/or state licenses and whether a combination or sale can occur across state lines if necessary. Early on in the process, It is also advisable to request that the target business complete a legal compliance questionnaire or discuss with the target its regulatory compliance program, policies and training. Such up front due diligence will either clear a path to negotiations and broader confirmatory due diligence or flush out “red flags” that may kill a possible deal or require the buyer to investigate further before proceeding.

Important Terms and Pitfalls in the M&A Agreement

Generally, a sale or purchase agreement for a cannabis business does not appear to vary much from a similar agreement in any other industry. However, the complex environment and the premature nature of the industry impacts certain deal terms and processes in different ways from most other developed industries.

Here are few examples to keep in mind when preparing and negotiating a sale or purchase agreement:

  • Third Party and Governmental Consents: Buyer’s legal due diligence must focus on the consents that may be required from seller’s suppliers, customers, landlords, licensors or other third parties under relevant contracts. Additionally, the due diligence should focus on consents and approvals required by local and state regulators as a result of the sale. The M&A agreement should contain solid seller representations and warranties about all such consents and approvals and any such material consents and approvals should, from a buyer’s perspective, be a condition precedent to closing of the transaction.
  • Legal Compliance: A buyer should not agree to a boilerplate seller representation about the target’s compliance with laws. Be specific and tailor seller’s legal compliance representation to relevant state and local cannabis laws, regulations and ordinances. From a seller perspective, be careful and thoughtful about any appropriate exceptions (including the federal prohibition) to be disclosed to buyer in the disclosure schedules underlying the sale or purchase agreement.
  • Financial statements: The cannabis industry is very fragmented and consists of many small businesses. Many of these small businesses do not have financial statements prepared in accordance with GAAP and may consist of only management prepared financials. In that scenario, a buyer should have its financial advisor do an analysis of the financials available and ask seller to provide a representation and warranty about the accuracy and good faith preparation of the provided financials.
  • Escrow: Typically, a buyer will request some part of the purchase price be placed with an independent financial institution for a period of time post-closing as a source of recovery for losses as a result of breaches by seller of any of the representations and warranties in the definitive sale or purchase agreement. Due to the federal cannabis and banking regulations, many of the larger commercial banks will not provide financial services to cannabis businesses, in particular if the business touches the plant. The parties must therefore consider alternatives, including local financial institutions with more relaxed compliance requirements or perhaps place the escrow in a trust account of a law firm or other independent party.
  • Working Capital Dispute Procedures: Similar to the escrow, larger accounting firms generally do not provide services to cannabis businesses. Due to the rapid evolution of cannabis related regulations, if the terms of the transaction include provisions for a post-closing working capital/purchase price adjustment and related dispute procedures, it is advisable to not name an arbiter in the agreement. Instead, parties should agree to mutually select the arbiter if and when a dispute should arise.
  • Indemnification: Because of the tricky legal environment of the cannabis industry, it may be prudent for a buyer to request, at the very least, that certain parts of seller’s legal compliance representation and warranty not be subject to the “regular” caps, deductibles and other indemnification limitations. Also, if a buyer has unearthed a significant issue in its due diligence investigation, it should consider asking seller for a special indemnity for such issue that would be indemnifiable regardless of buyer’s knowledge of the issue and not be subject to the general indemnification limitations.
  • R&W Insurance: If there’s a lot of competition for the purchase of a target, particularly in a bidding process, it is now common for buyer to offer to purchase a representation and warranty insurance policy (“R&W Insurance”) to possibly gain an advantage by limiting the seller’s post-closing indemnification exposure. The good news is that many of the R&W Insurance carriers do offer such insurance in connection with the sale and purchase of cannabis businesses. However, typically, R&W Insurance cannot be obtained for insured amounts of less than $5 million. Experienced M&A counsel can advise of the advantages and disadvantages of R&W Insurance and assist in the negotiation of the related terms.

The above are just some examples of what to expect in a cannabis M&A transaction. Every M&A transaction will have its unique issues that will need to be appropriately reflected in the sale or purchase agreements and good M&A practices will continue to evolve with the industry. If you are an owner of a successful cannabis business, buckle your seat belt and be prepared for an exciting ride as the industry gets closer to significant consolidation.