Photo of Robert McVay

Robert is a partner at Harris Bricken focusing on corporate, finance, and transactional matters for clients both inside and outside the cannabis industry.

Cannabis ComplianceWe have previously written about the need for cannabis businesses to systematize their policies and procedures. See Improving Systems and Structures for Cannabis Business Expansion and Understanding and Managing Cannabis Legal Compliance: No Excuses. Marijuana businesses are not standard startups — they are highly regulated and need to act like it from day one. But there is one thing worse than not having systematic procedures in place across your cannabis business — having systems in place but ignoring them.

For example, look at the employment side of the cannabis industry. Many cannabis businesses understand the need to have an employment policy manual, so they find a nice template online, find and replace some words, and adopt it themselves. Other businesses are savvier and work with attorneys or HR professionals to create professionally tailored employment policies. In both circumstances, that manual may include references to things like “performance management plans” or “performance improvement plans.” The plans can have step by step procedures for what happens in the case of employee performance problems. They often include a multi-step process for performance correction, review notes in the employee file, interim sanctions, and finally termination. But life moves fast, and it’s often easiest for business managers to talk to employees on the fly. Let’s say that an employee is consistently late. Instead of going through the formal process, the employer makes a couple of corrective comments, and then terminates the employee when the poor performance continues.

If a disgruntled former employee brings a complaint for wrongful termination, that employee’s case is immensely improved if she/he can show the employer did not comply with the employer’s written policies and procedures. At-will employees are still protected against termination for certain reasons. You can’t fire someone for reporting discrimination, for taking protected leave, and for several other reasons. Even if you had a good reason for the termination, if the former employee can connect the termination to a protected scenario, the employer’s lack of compliance with its own policies and procedures can be the kiss of death.

But employment isn’t the only area where this is important. We advise marijuana businesses to have compliance programs in place. Let’s say your written compliance program includes a weekly audit of your on-site security cameras and alarms to make sure they are all working. State laws often provide for penalty mitigation or even penalty waivers when companies act in accord with written compliance programs. But to get that mitigation or those waivers, you need to be able to document that you actually complied with your written procedures. In fact, if you submitted your written compliance program to the state as part of the licensing process, your noncompliance with that written compliance program can actually be considered an independent regulatory violation.

So what does this all mean? Written policies and procedures are vitally important for highly regulated businesses and any business looking to grow beyond a single location. But written procedures are not about putting in place a program that looks good on paper but is never really implemented. Your compliance programs for your cannabis business should be written and tailored so that the standard procedures set forth within them are achievable by your company’s management and staff. And once you have an achievable system in place, it is likewise supremely important that your company abide by it and stick with it. If you have written procedures and you find that you aren’t doing a good job complying with them, you need to either adjust your actions, adjust the procedures, or both. Otherwise, you will run into a host of problems.

Cannabis startup lawyerSerial tech entrepreneur Steve Blank defined a startup as an organization built to search for a repeatable and scalable business model. The basic idea is that a group of people within a startup run a version of the scientific method as quickly as they can, while learning from their successes and failures. Every idea is like a hypothesis you build out and evaluate, applying lessons learned to adapting the idea as you go. Over time, startups are supposed to continually pivot in the directions that will lead to the greatest overall business growth. In practice, this generally involves having small, flexible teams with largely undefined rolls. Communication is key, but the entire early stage business model should be built around the ability to rapidly change resource allocation and focus.

Large businesses, on the other hand, have significantly more inertia. Established companies focus primarily on keeping costs low and revenues high within the bounds of already established business models. Deviations from that model or large shifts in corporate focus are major decisions. These decisions require multiple layers of bureaucratic approval within a company, including endless meetings. Getting anything done can be slow because of the nature of getting approval multiple times within a hierarchy.

But despite the allure of startup-style flexibility, cannabis businesses, like other highly regulated businesses, do not have the luxury of acting like startups. State government regulations force them to act more like established large companies both through required state approval for significant business changes and through implicitly requiring certain internal governance structures. Licensed marijuana businesses have significant record-keeping requirements. They are required to implement seed to sale tracking of all products that run through the business. They must have written operations plans and security plans, and they must have one or more representatives authorized to speak on behalf of the business to government regulators. For significant deviations from these plans, additional state approvals are generally required. Depending on the state, these approvals can take months to secure.

And on top of all the explicit governance requirements, there are significant compliance requirements. For example, Washington State has more than 49 different possible regulatory violations that exist in four different categories. The violations are judged on a strict liability standard, meaning the state does not need to show intention or even negligence by the cannabis business to prove that a regulatory violation has occurred. These violations can carry huge monetary penalties, including license cancellation. And some violations can happen because of the actions of one rogue employee. Diversion of marijuana from the legal market to the illegal market usually carries the harshest penalties in state licensing systems, and it only takes one person to do it. So even where state law does not mandate any specific approach to avoiding diversion, it implicitly requires significant employee training and the implementation of layered compliance protocols to make sure that a single negligent or malicious insider cannot commit a serious violation.

Our firm works with clients all the time who are frustrated by the shackles state regulatory systems put on cannabis entrepreneurs. Cannabis is still a cool new industry, and cannabis business owners want to experiment with different financial, operational, and marketing approaches to the industry. And though our job as attorneys is to show businesses how to cut through the regulatory morass as efficiently as possible, regulated businesses are still cumbersome to adapt and they require the type of structured advanced planning you see in established companies more than startups.

Cannabis trade associationsLast week, we wrote about a new cannabis industry group in Oregon, the Craft Cannabis Alliance. In addition to national groups like the National Cannabis Industry Association, more and more regional, state, and local cannabis trade associations have been forming. Generally, they begin with political goals in mind. The national groups work toward marijuana legalization at the state level and on lifting restrictions at the federal level. State and local cannabis groups typically work for specific regulatory fixes or lobby local governments to resolve land use challenges. When cannabis trade associations go beyond run of the mill lobbying work, however, they can present legal risks to their members with potentially harsh consequences. Specifically, if trade association members take steps to limit their competition with one another, they can face massive civil penalties.

Competition law, referred to in the United States as antitrust law, has both federal and state components. Federally, antitrust law stems from the Sherman Act of 1890, the Federal Trade Commission Act of 1914, and the Clayton Act of 1914. The Sherman Act prohibits every “contract, combination, or conspiracy in restraint of trade.” The Sherman Act has been interpreted by courts over the years not to outlaw every restraint of trade — it specifically targets “unreasonable” restraints such as price fixing, dividing markets, and rigging bids. Most states also regulate unfair competition. In Washington State, we have the Consumer Protection Act, which largely mirrors the Sherman Act’s prohibitions in restraint of trade.

In most international jurisdictions, actions for violation of competition law are limited to governments. In the United States, however, both state and federal statutes provide for private rights of action. This means private parties that are damaged or potentially damaged by unreasonable restraints of trade may be able to collect treble damages, attorney’s fees, and injunctions against any company that is a party to the unreasonable restraint of trade.

Trade associations, then, provide an easy pathway to violations of state and federal competition law. Many of the smaller regional trade associations are focused on a specific sector of the industry. Retailer groups as well as cultivation groups have formed across the legal cannabis states in the western United States. Imagine this situation: a trade group made up of farmers meets to discuss lobbying on state pesticide rules. As the meeting winds down, conversation turns to talking about the glut of supply in the market, driving down prices. One producer says she has no plans whatsoever to sell below a certain price. Another producer says the same thing, and others nod in assent – agreeing it would be unprofitable for any of them to sell below that price.

That conversation can create huge liability problems for all its participants and for the trade group as a whole. Even if there isn’t a formal written agreement, an aggrieved party could still show an unreasonable restraint of trade. Actions of an association or actions of its members consistent with an unreasonable restraint of trade can be evidence of an agreement of the association’s members. Certain agreements, including price-fixing and market allocation agreements, can actually be crimes that include jail time. And though federally criminal conduct is nothing new for participants in the cannabis industry, those that violate competition law are not even granted the minimal protections of the Cole Memo.

Trade associations are particularly susceptible to certain types of anti-competitive behavior. Associations with codes of conduct, standard setting, and certification can unwittingly create anti-competitive behaviors. If a provision of the code of conduct is unreasonable and deemed to act as a restraint of trade — as opposed to a reasonable attempt to pursue a legitimate goal –could make association members that act pursuant to that code section liable for antitrust violations. Judges and juries have large amounts of discretion in determining whether a restraint on trade is unreasonable or not, so a legitimate safety standard to one person may be an illegal attempt to force a boycott of a competitor to another person.

Trade associations need to take steps to ensure their group does not create antitrust liability for its members. Anti-competitive agreements can be inferred if two or more market actors are taking parallel action and it can be shown that the competitors have engaged in illicit communications. So it makes sense for a trade association’s leadership to run tight meetings. All business should be formally proposed to an executive committee, which then limits discussion at broad group meetings to the specific business on the table. Agendas and presentations can be distributed in advance, and participants should be informed to stick to the specific issues at hand. Leadership can further inform the members that certain topics are completely off limits: pricing, whether to do business with certain market participants, decisions regarding company product output, and complaints about the business practices of other companies.

By taking these steps, an association can help prevent its meeting minutes from being used as proof of anticompetitive conduct. And if individual members engage in such conduct with one another, it is easier for other members to claim they were not involved in the anticompetitive acts.

There are many areas of law that the young cannabis industry hasn’t had major problems with yet. Products liability laws, antitrust laws, and others have seemed like distant problems, given that simple banking and taxation has been such a problem. But it is vital for industry members to remain proactive. Otherwise, public and private actors can upend the industry with a well-timed lawsuit.

California cannabis bankingPolitical change comes in fits and starts. Cannabis laws did incredibly well at the state level in the 2016 election cycle, but it looks like we are going to be facing the status quo at the federal level for the foreseeable future. That is good news to some extent, as it is seeming less and less likely that the worst case scenario of the Trump/Sessions Department of Justice will come to fruition. We aren’t expecting to see mass arrests, seizures, and shut-downs in the cannabis industry. On the other hand, we also aren’t expecting to see any major positive changes on cannabis banking or taxes coming out of this government either. The unsteady status quo will remain, where agencies at the federal government will continue to grapple with balancing the criminality of marijuana with the fact that they cannot treat it as wholly criminal, lest they bring about more crime by burying their heads in the sand.

With banking in particular, things have remained relatively consistent since 2014. In February of that year, the Department of Justice and the Financial Crimes Enforcement Network (FinCEN) at the Department of Treasury released simultaneous memoranda creating a civil structure where financial institutions like banks and credit unions that provide services to the cannabis industry could comply with their regulatory obligations. They would still potentially be committing crimes, but the DOJ would treat them as the lowest enforcement priority.

That 2014 announcement of criminal and administrative enforcement strategy was scoffed at by large financial institutions, for good reason. If you are Bank of America, marijuana simply isn’t a large enough market for you to take any sort of criminal risk. But for smaller banks and credit unions, especially those that had been hit hard by the financial crisis, the memoranda provided just enough cover to take the cannabis risk. Between 2014 and now, Washington and Colorado have developed a small but stable network of financial institutions willing to serve the cannabis industry. Oregon has fewer institutions, but it is coming along as well.

California, however, was left behind, and medical marijuana businesses there still struggle to find banks willing to take their money. This is because of the particular wording in the 2014 FinCEN guidance. In order to comply with their regulatory obligations, part of what banks and credit unions that work with marijuana-related businesses have to do is verify that their cannabis business customer is duly licensed by a state that has robust regulations for its marijuana businesses. Until now, California has not had state-licensed marijuana businesses. It has worked under a series of vague state laws, with individual cities and counties coming up with their own regulations for marijuana businesses that have ranged from outright bans to open licensing processes. These local regulations have worked well in some circumstances, but they are insufficient for banks or credit unions that want to provide services to the marijuana industry without facing FinCEN’s wrath.

This is important for the banks because it isn’t only FinCEN that cares about compliance with their guidance. Federal providers of deposit insurance (the FDIC for banks and the NCUA for credit unions) are unlikely to renew a financial institution’s insurance policy if it looks like that institution is working with marijuana businesses but not following the FinCEN guidance. And that deposit insurance is key in separating banks and credit unions that provide real security for your funds and fly-by-night institutions that could potentially lose all your money.

But things are finally changing in California as we coming up on the issuance of state cannabis licenses in January 2018. This will finally give California’s banks and credit unions a system that allows them to comply with the FinCEN and DOJ guidance. And we predict that much like in other states, the early movers will be small banks and credit unions that are willing to take on a little bit of risk to gain the first-mover advantage. I have said for a long time that I don’t think a “cannabis-only” financial institution is the answer. A bank that only serves cannabis businesses would be subject to too much risk because it is only exposed to a single industry that happens to be criminal at the federal level. They would be completely uninsurable. So the best bet is for financial institutions that already have robust and diverse holdings to work with a number of cannabis businesses up to a maximum based on the size of the rest of the bank’s or credit union’s business.

For banks and credit unions looking to do this, it isn’t too early to start working on developing cannabis specific procedures. Well-run financial institutions have a compliance program in place that includes standard operating procedures and one or more employees dedicated to complying with the Bank Secrecy Act and other federal regulations. Those compliance officers will need to update standard operating procedures to include additional scrutiny for marijuana businesses and regular account updates. It is imperative for financial institutions to make sure those procedures are well-tailored so they are sufficient to meet the FinCEN guidelines while not being so cost-prohibitive that the bank or credit union will lose money on cannabis clients.

Most financial institutions in Washington and Colorado and Oregon that operate in the cannabis industry do so with little fanfare and rely on customer networking to get business. That will likely be the case in California as well, so there may not be much fanfare from banks and credit unions that are getting into the market. But we are confident that very at least some California banks and credit unions will start taking on cannabis accounts in the coming months.

Cannabis businessLast week, I spoke at a legal education event on advising corporate and officers and directors. It wasn’t a cannabis-specific event, so there were speakers with various backgrounds. One interesting commonality that a few of the speakers discussed was the value of corporate mission statements, both in the for-profit and non-profit worlds. I don’t know of many cannabis businesses that have mission statements, but I am convinced they can be useful grounding forces for growing businesses.

A good mission statement strives to capture in as few words as possible the essence of your business’s goals and underlying philosophies. A business with a well-crafted mission statement can align its various owners, officers, directors, and employees toward the same objectives. By providing an underlying ethic, it can assist various team members in their decision-making. Standard operating policies and procedures help, but they are never exhaustive. Business representatives need to make their own decisions. A mission statement and a body of practice that backs up the core values underpinning the mission statement provides a framework for your decision-making processes. And for a business that is getting off-track, a mission statement provides a clear target for changes. Business shifts and realignments without a clear mission statement can feel aimless and scattershot — the mission statement gives business team members stability when business decisions are clearly focused on a specific goal.

A company’s first step, then, is to determine its goals and philosophies. A company cannot just say, “We want to sell as much pot as possible for as much money as we can get.” Of course, most for-profit businesses seek to generate profits and wealth for the owners. Every business owner wants that, though, and profit-generation is less of an achievable goal and more of an effect of achieving your goals. A mission statement should tie your company’s brand identity with its ethics, and it should provide a roadmap on how to achieve high revenues and profits. Here are a few examples, both good and bad:

  • Amazon: To be Earth’s most customer-centric company, where customers can find and discover anything they may want to buy online, and endeavors to offer its customer the lowest possible prices.
  • Kickstarter: To bring creative projects to life.
  • Sony: To be a company that inspires and fulfills your curiosity.
  • Starbucks: Establish Starbucks as the premier purveyor of the finest coffee in the world while maintaining our uncompromising principles as we grow.
  • Hyatt: To provide authentic hospitality by making a difference in the lives of people we touch every day.
  • USAA: To facilitate the financial security of its members, associates, and their families through provision of a full range of highly competitive financial products and services; in doing so, USAA seeks to be the provider of choice for the military community.

You can judge yourself which of these you think are useful and which aren’t. Some corporate mission statements serve primarily as public-facing advertising mottos. But for most businesses, especially small and growing businesses, the most effective statements drive internal decision-making. Amazon’s statement, for instance, hones in well on the company’s core goals and philosophies. If I work as a mid-level manager at Amazon, the mission statement provides gives me a clear framework for judging my decisions.

I hate corporate speak. Many companies try to organize their missions around statements that lack any real substance or underlying ethic. Mission statements that fall into that category have little to no value. But if you can distill your company’s strategy to obtain and keep customers while getting the most out of your employees, a substantive mission statement can focus your energy toward achieving your goals.

Cannabis researchA few months ago, the National Academies of Sciences, Engineering, and Medicine published a study of studies, reporting on the cumulative research to date on marijuana in a paper titled “The Health Effects of Cannabis and Cannabinoids.” There was some initial buzz, but only recently has the media really dug into the report — including a well-written summary by Vox’s German Lopez as part of his 4/20 reporting.

The report examined both positive and negative health claims related to cannabis. First, here’s a look at some of the baseline conclusions:

  • Potential Negative Effects of Using Marijuana:
    • Research does not show cannabis increases the risk of cancer, except for one subtype of testicular cancer for which there is moderate evidence of increased risk.
    • No clear answer if cannabis has any effect on the cardiometabolic system (heart attacks, strokes, diabetes).
    • Smoking cannabis is associated with chronic coughs, but not clear if it leads to asthma or harms lung functioning.
    • Limited evidence regarding cannabis effects on the immune system.
    • Cannabis does increase the risk of automobile accidents.
    • Cannabis use by pregnant women is associated with lower birth weights in offspring.
    • Cannabis use by adolescents is related to lower level academic achievement and decreased future income.
    • Cannabis use likely slightly increases the risk of developing schizophrenia and other psychoses, but it does not increase the risk of developing depression, anxiety, or PTSD.
  • Potential Therapeutic Effects of Using Marijuana
    • Cannabis is effective as an antiemetic (anti-nausea) for people undergoing chemotherapy.
    • Patients with chronic pain consistently report a reduction in symptoms.
    • Patients with multiple sclerosis report a decrease in spasticity symptoms.

The report examined a bevy of other claimed therapeutic uses for marijuana, but the research did not generate sufficient information to back up those claims. For example, some of the primary data indicates cannabis use may decrease the size of certain brain and spine tumors called glioma, but with only one limited study to go on, the National Academies team didn’t have nearly sufficient evidence to show this was proven.

The overwhelming takeaway from the report was that significantly more research is needed to further understand cannabis’s effects on the human body. We have previously written about obstacles to cannabis research. There are reputational worries, where many universities still wring their hands over the politics of engaging in marijuana research. In 2014, the University of Arizona fired Suzanne Sisley, a psychiatrist studying cannabis use for PTSD, and Sisley has consistently maintained that her firing was simply because her research involved marijuana. Even when researchers have sufficient institutional backing to perform their work, the logistics of getting cannabis to study are extremely challenging. The marijuana available from the National Institute of Drug Abuse’s facility at the University of Mississippi sometimes does not even resemble marijuana as much as old dried out cooking herbs. Even though the DEA under President Obama took steps to allow other facilities to grow cannabis for research purposes, no other facilities have been approved.

All told, just about every reasonable person agrees more systematic cannabis research would be reasonable and helpful. On Saturday April 22scientists marched in Washington, DC and elsewhere in support of “robustly funded and publicly communicated science as a pillar of human freedom and prosperity.” March participants rallied for many topics, including marijuana research. The cannabis industry should continue to support these efforts — good science is always beneficial.

Cannabis business ownership lawsMany marijuana businesses include one or more people in their ownership group that contributed “sweat equity” to their business, rather than cash or other valuable assets. Because of the level of state regulations, even small cannabis businesses typically require a lot of capital to start. Many experienced entrepreneurs have had to team up with investors to get their cannabis businesses off the ground. Many other people looking to start cannabis businesses have had to entice experienced growers to help set up their facilities by offering equity in lieu of or in addition to salary.

But working relationships don’t always last. Whether it be for poor performance or for more serious issues (violating state regulations, stealing from the company, etc.), cannabis companies often find themselves wanting to part ways with senior employees that also have an ownership interest in the company.

For large publicly traded companies, this is no big deal because they can easily terminate employees that have received stock — even a large amount of stock. All the company must do is finalize the termination, stop paying salary, and determine whether there are any stock options or grants subject to a vesting schedule that need to be finalized. Then, the company and the employee simply go their separate ways. There is no reason for a large publicly traded company to worry about the stock already issued, as it is likely only a minute fraction of the company’s overall capitalization.

For small, closely held companies, however, stock grants and LLC membership interests held by employees can be far more complicated. The employment relationship and the ownership relationship tend to intermingle, especially if the owner/employee was also one of the company’s founders. Depending on the size of the ownership group, even a 10% share of the voting ownership interest can be significant and can handcuff owners trying to bring on more capital in the future while also trying to retain a voting majority.

First, it is important to decouple the ownership interest from the employment relationship. For businesses that are taxed as corporations (subchapter C or S), owner/employees likely receive a significant part of their compensation as standard W-2 employees. For businesses taxed as partnerships (how most multi-member LLCs are taxed), the employment portion of income is likely categorized as a guaranteed payment. Regardless, this is the issue that should be dealt with first. Company owners with work obligations should be treated like employees for purposes of those obligations. The company should set expectations for employment, and best practice is to have a written employment agreement specifically drafted for the owner/employee scenario. That employment agreement, or the LLC operating agreement or shareholder’s agreement, should determine who can decide to terminate an owner/employee. The decision will need to be made by a majority of either the company’s managers, members, directors, or stockholders. There is no cookie-cutter answer on how to do this as every situation is different.

Once the employment situation is handled, the next issue is what to do with the lingering ownership interest in the cannabis business. Inexperienced business owners that gave away equity as compensation too often treat it as something more temporary than it is. There are mechanisms to provide a worker with profit-sharing so long as that person is working, only for that profit-share to disappear when the person is no longer working for the company. But that is something different than standard ownership of stock or membership interests, which we see far more often. There is a property right in the stock or the LLC membership interest, and it isn’t just going to disappear.

One option is to let the departed employee keep the stock or membership interest. If there is no pressing need, there is nothing inherently wrong with having a former employee continue to have an ownership interest in your cannabis company. They are still entitled to their vote and to their distribution of profits, but that does not mean they need to play a day to day role in company business.

But for cannabis companies looking for a clean break, their easiest option is to have an agreement, either in the LLC operating agreement or in the corporation’s shareholders agreement, providing the company with a buyout option for owners that no longer work for the company. Making it optional helps the company if it does not want to be forced to make a significant cash payment, but the employee would likely want the buyout to be mandatory. The value can either be set by a mathematical formula or the agreement can refer to a third party appraiser. The payment terms are set, and the company is able to buy out the owner/employee.

The important thing is that this is something that needs to be laid out ahead of time. If there is no buyout mechanism in an LLC operating agreement, there is no automatic right under most states’ LLC laws to remove individual LLC members. It is to both the company’s and the owner/employee’s benefit to figure this out up front when negotiating the original hiring. Once termination has started, it can be really hard for the cannabis company and the owner/employee being terminated to cooperate. If you set up from the outset what a break-up will look like both parties will have an easier time dealing with the change and moving on.

International cannabis lawsI have been traveling for the past couple of weeks in Japan and Taiwan, so I thought I’d write a brief post about cannabis in East Asia. In addition to having a cannabis business practice, our firm’s other main focus is on international business — we have lawyers in Beijing and in Barcelona — so East Asian marijuana businesses would fit nicely into our niche practices.

The problem is that cannabis legalization still seems a long way off in these countries. Anecdotal information isn’t super helpful, but I was really struck in Japan by how strongly most people I talked to felt about marijuana remaining illegal. It felt like the attitude of the Just Say No campaign of the 1980s and 1990s has fully seeped into the culture. There seems to be a feeling that marijuana is a drug and drugs are bad and that marijuana is clearly very different from alcohol and tobacco. Similar to the United States there is also a criminal argument. People in the U.S. are often told that if you buy on the black market, your money will probably end up in the hands of the Mexican cartels. In Japan, they say the same thing, but it’s the yakuza (Japanese organized crime) who are the bogeymen.

Several months ago, a former actress, Saya Takagi, was indicted for possession of marijuana when authorities in Okinawa found 55 grams of marijuana in the home she shares with two housemates. Before her arrest, Takagi has been a medical marijuana activist in Japan and had run for the legislature on a medical marijuana platform, but gained relatively little support. In a sad story, Japanese authorities went so far as to arrest a man for using medical marijuana to help alleviate symptoms of liver cancer. That man, Masamitsu Yamamoto, died of liver failure while his criminal trial for possession was ongoing. Despite all of that, cultural attitudes seem cemented in place.

The type of rhetoric I heard about marijuana in Japan was similarly stated by Taiwanese and Chinese people I spoke with as well. Many people in China assume that if something is related to drugs, the triads (Chinese organized crime) are involved.

In searching for something to tie together why attitudes toward marijuana are so hostile, the most glaring possibility is China’s sordid history with opium. In the mid nineteenth century, the Qing dynasty in China fought two wars with the United Kingdom, the First Opium War and the Second Opium War. In these wars, the British fought for, among other things, the right to continue selling opium into China, where a huge addiction problem had been developing throughout the nineteenth century. The British were successful in these wars despite being outmanned, and the wars ended, specifically the First Opium War, with treaties being signed that were heavily in the United Kingdom’s favor (China gave up Hong Kong in the first one). China was basically forced to keep opium legal and allow the British to make money off of its addicted citizens, which had a devastating effect in China. Opium specifically, and drugs generally, are now tied in the cultural memory to the humiliation of these wars (though the British come off as worse actors historically).

This is all without mentioning the effectiveness of the United States as an international drug control ambassador. The U.S. tied all sorts of development funds and other economic relations to harsh, U.S. style drug criminalization throughout the 20th century. In many of the countries that we had relationships with, the diplomacy worked, and drugs were portrayed as one of the greatest evils in society.

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Throughout East Asia, there is a widely-held deep-seated belief that drugs are bad and have harmed society in the past. In the United States, many people feel the same way, but we are largely removing marijuana from the larger umbrella of “drugs” in the culture. That separation is not happening right now in East Asia, and it may not happen for a long time. In the United States, it is easier for ideas that are outside the mainstream to find a footing because of our ability to maintain a counterculture. Then, social changes can seep from the counterculture into the mainstream. Asian countries tend to be a little more homogenous in those attitudes, so changes in ideas have a tougher time gaining initial footing. Still, you are starting to see a little more activism in East Asia dedicated toward legalization, so we may see some changes over time. But I wouldn’t expect it any time soon.

Cannabis luxury brands
Will any company become the Rolls Royce of cannabis?

There’s an exception to every rule.

When I talk to clients about cannabis branding generally, I tell them to focus first on the product. Selling an inferior or inconsistent product is hard — the marketing is easier if the product sells itself. Trademarks are important because they provide an easy way for a customer to recognize that a product comes from your company, and customers have come to trust the product, not because there is something inherently cool about any particular name or logo. Companies that put brand first and product second have to figure out how to convince consumers that their product represents something without having actually demonstrated anything over time. It’s a tough sell.

But if you’re going to develop your brand first as an “upscale” cannabis brand, it doesn’t hurt to have celebrity connections and good PR. Enter Beboe, a California brand of vaporizers and infused pastilles. Beboe has managed to get featured in the New York Times Style Section, Vanity Fair, Harpers Bazaar, and a host of other outlets. How did they get all this press? By getting celebrities to invest in their brand and to come to their launch party. Beboe’s founders fit the bill — one of is a celebrity tattoo artist and the other is a former fashion executive who spent some time working at Privateer Holdings. With their powers combined, they have been able to pull some real muscle from both celebrity and fashion publications.

Granted, this marketing route won’t exist for everyone. Orlando Bloom can only go to so many cannabis branding parties before he’s had enough. But in a broader, sense, the question remains whether the cannabis market will support “luxury” branded products that are heavily marketed as such to consumers.

We saw the first attempt at this in 2013, when former Microsoft executive Jamen Shively called a press conference in the Columbia Tower in Seattle to introduce the new brand he was co-founding, “Diego Pellicer.” Shively said that Diego Pellicer was going to be the first and greatest luxury cannabis brand, and he predicted it would mint more millionaires than Microsoft. Diego Pellicer received a ton of press coverage, but it seemed to stumble in finding a business model that would work and it has taken time to get off the ground. Diego Pellicer has shifted its focus and it now bills itself as “the worldwide leader in property acquisitions and leasing in the emerging cannabis arena.” Several other companies have attempted similar “big bang” branding strategies, but there still is no go-to brand out there that has established itself as THE “luxury cannabis brand,” with a track record of strong sales over time.

This isn’t to say that early stage brand development is a bad thing. There’s a real chance Beboe will be hugely successful. Any press is good press for new, unknown companies. But what experience has shown time and time again is that for long-term success in the cannabis industry the product must back up the story the press is telling about it. If you are claiming to be a luxury cannabis brand, what people find inside of the box has to meet a high quality hurdle. Or as Seth Godin so ably puts it, “it’s important that these words be true, that your product, your service and its place in the world match the story you’re telling about it.” Otherwise, customers will figure out that your marketing was all smoke and mirrors, and you will be looking at another flash in the pan.

Cannabis business insuranceA client asked me earlier this week whether I thought his company should purchase insurance for their directors and officers. His accountant had advised them to do so, and he was looking for a second opinion. This issue has come up often over the years, so here’s a quick primer on D&O insurance and whether it makes sense for marijuana businesses.

At its core, D&O insurance is a way to protect a business’s directors and officers from being on the hook personally for their actions in their roles as directors and officers. Sometimes those suits can come from third parties, like creditors if the company is insolvent, or competitors for tortious interference with contracts, or customers for deceptive business practices. A large chunk of claims also can come from that same business’s shareholders.

Directors and officers owe multiple duties to their own companies. The big two are the duty of care and the duty of loyalty. The duty of loyalty mandates that the director or officer act in good faith in the best interests of the company, rather than for their own personal gain. The duty of care requires officers and directors act with reasonable care in exercising their company duties. You can violate the duty of loyalty by funneling company money toward your family members and you can violate the duty of care by making business decisions no reasonable person would make. Over the years, courts have tended to read the duty of care as an extremely limited duty — as long as there is a conceivable way to argue for what you did having been a business decision, it likely won’t violate the duty of care. If a director or officer violates one of these duties, one or more shareholders can sue those directors on behalf of the company, referred to as a “derivative suit.”

Company officers and directors don’t generally go into their jobs planning to violate their fiduciary duties to their companies, but they also don’t like the idea of being sued by shareholders for their management decisions. So companies make sure to sweeten the pot by offering protections against shareholder actions. One of them is indemnification, where the company agrees to indemnify an officer or director when sued in their role as officer or director. But indemnification is often limited by state law, where companies are not allowed to fully indemnify their officers and directors, especially for duty of loyalty violations.

The next layer of protection is D&O insurance. In a standard D&O policy, the individual officers or directors are covered when the company does not indemnify them. If the company does indemnify them, the company is covered for those costs. Finally, the company can be covered for additional claims against it, including potential securities claims.

For cannabis companies, the decision of whether to get D&O insurance is really no different than it is for other companies, except the premiums and coverage limitations may be different. Cannabis business is still pretty young in the actuarial world, and determining the exposure of directors and officers who are running companies that openly violate federal law is an interesting task. Like a lot of other services in the marijuana space, insurance underwriters tend to quote higher than ordinary rates for D&O insurance because of that uncertainty. For small marijuana businesses still run by their founders, D&O insurance plays the role of providing some liability coverage, but it isn’t necessary to attract outside talent.

Other than cost, one additional reason some companies choose to avoid D&O coverage is perception. If a director or officer wants a company to provide her with D&O insurance, that director or officer is saying she doesn’t want any of her personal assets to be on the hook for her company decisions. But if you look at it from the shareholder perspective, they already have significant personal assets on the hook. Many people have their life savings tied up in cannabis businesses, and there’s no such thing as shareholder insurance for bad decisions by management.

The vast majority of large public companies have some type of D&O insurance, and it is rare for really small companies. For those companies in the great middle, D&O insurance can make sense as a way to retain directors and officers, especially if the company is engaged in activities that invite lawsuits against directors and officers in their individual capacities. On the other hand, it is an expense, and shareholders like to see it when their directors and officers also have some skin in the game.