By: Nick Richards, Esq. & L. Alexis Whitley, Esq.
Although the proliferation of states legalizing cannabis has permitted an expansion of cannabis companies throughout the U.S., these businesses still face numerous hurdles, including the punitive impact of IRC § 280E, difficulties accessing banking facilities, strong competition in various states, and many others. As a result, some cannabis company owners and operators may determine that continuing their business is no longer profitable or in their best interests. This article overviews important considerations for cannabis company operators who decide to close their business, including sales, receiverships, and dissolution.
The cannabis industry has been “legal” for about 20 years—there have been winners and losers during this time. Some cannabis company operators may own businesses and licenses that are still viable (profitable and/or with reasonable debt), but they may no longer want to engage with running the business. The obvious exit is to sell the business and move to a tropical isle.
Mergers and acquisitions of cannabis companies are unlike any other. Cannabis companies remain illegal under federal law, and they are highly regulated under state law. The sale of a cannabis business involves unique legal and practical implications for both the buyer and the seller. Generally, the buyer must be approved by the state that issued the cannabis license(s) to the business, the seller must be in good standing with its license, and the sale must be approved by the state. The process may take some time, and it requires navigating complex legal landscapes at the federal, state, and local levels.
Sellers should be ready for the due diligence buyers must conduct to ensure that they understand the company they are buying. This includes interviewing employers, inspecting inventory, securing contracts and IP, real estate due diligence, and document due diligence, including contracts, disclosures, registration and licensing records, and financial records. And, of course, it all must be up to date, which could require additional efforts on the seller’s part. If the seller has not been consistent with maintaining proper records, this could pose a problem at the sale. Additionally, states and local municipalities have strict regulations surrounding cannabis license ownership, and sometimes only certain individuals qualify—state residents and social equity candidates, for example. Sellers and buyers should carefully review their applicable regulations to ensure that the sale and transfer of cannabis licenses is permitted under the law. While beyond the scope of this current article, there are numerous types of transactions that will have different legal and tax implications for both the buyer and seller. We recommend seeking legal advice from Greenspoon Marder attorneys for the legal and tax implications of a specific transaction.
Similar to an acquisition, shutting down a cannabis company poses unique challenges and processes. While other insolvent businesses can take advantage of the bankruptcy system, because cannabis remains illegal at the federal level, cannabis companies do not have the option to participate in the bankruptcy process. Owners are left with the choice of closing their company on their own or liquidating it through a receivership. The use of a receiver can help to stabilize the business throughout the process, preserve value for creditors, and open a route to restructuring or selling off assets.
Receiverships are initiated in the state courts through a petition for receivership. Once filed, a receiver is appointed to operate the business for the benefit of the creditors. Unless the receiver is approved by the state of licensure, the receiver generally engages a state-licensed individual to satisfy the state regulators. The receiver will attempt to stabilize operations by reviewing licenses, examining unpaid liabilities, and determining whether continuing operations would preserve value. Again, this determination will depend heavily on the state and local regulations applicable to the cannabis company. For example, in states with limited licenses, there could be value in the cannabis license even without an established business. However, in states with unlimited licenses, value is determined according to gross sales, efficient operations, and profits. Once in receivership, distressed business assets are often sold off, the receiver distributes proceeds and pays creditors, and the business is closed.
Owners of smaller companies with simple debt and ownership structures may choose to dissolve their company without a receiver. Cannabis company operators (indeed, any business owner) should never simply abandon their business because outstanding taxes, fines, and other liabilities can accrue, and business owners can be personally liable. State law provides for a formal dissolution process, which often includes an initial filing notice of the dissolution. For those states that do not require this initial filing, the first step of dissolving is the wind-up process. The wind-up process generally includes selling the assets to pay the creditors in order of priority, filing a final return, complying with all legal requirements, and closing down the business in an orderly fashion. Depending on the company formation documents, dissolution may first require the consent of all or certain owners. In addition to the state law requirements, it is very important that owners determine how to deal with the debts and liabilities of the company, close accounts, and terminate contracts. Outstanding taxes are an area of particular concern as some types of taxes carry personal liability for owners if they are not paid (a portion of employment taxes and sales taxes are two examples). Additionally, some states may require a filing to either surrender a cannabis license or inform the state they it will no longer be in operation. After settling outstanding debts and distributing the remainder proceeds to owners, the cannabis company operators should submit a final filing to the applicable Secretary of State in which the company was incorporated, keeping in mind that additional filings might be required in states where the cannabis company was authorized to do business.
Ultimately, cannabis company owners and operators have a variety of tools at their disposal when considering how best to move forward with a distressed cannabis company. Sellers and buyers of cannabis companies should pay careful attention to the federal, state, and local laws applicable to the cannabis company, which are often complex. Greenspoon Marder attorneys are available to provide recommendations on the best path forward and assist with sales, receiverships, and dissolutions. Contact Nick Richards at [email protected] for more information.
