Resolve cannabis business disputes better outside of court — IF you have the right clause in your contracts.

You may have heard about contractual agreements for “good faith” negotiations, mediation, arbitration and combinations of these techniques. When used properly, these techniques can save you significant time, money and lost productivity by avoiding a long courtroom trial — and even longer discovery, motions, and other pretrial preparation that can easily run to six figures.

cannabis litigation adrThese processes can also dramatically reduce potential bad publicity that may be inspired by a public lawsuit. How? They are almost always private proceedings, thus avoiding the risky glare of unwanted press and public attention. Formal pleadings (e.g., complaints), witness testimony, motion papers and other data — even the fact you’re in a dispute – they’re all kept confidential.

Such out-of-court (“extrajudicial”) dispute resolution processes are available in all states of the United States (and many other countries). These extrajudicial methods are called, collectively, alternative dispute resolution (“ADR”). Federal and most states’ laws recognize, authorize and enforce contractual agreements to substitute ADR for judicial litigation. Most courts favor ADR.

In most states, the principal role courts still play in the ADR process is forcing reluctant parties to honor their contractual agreement to participate in whichever ADR methods the contracting parties agreed to.  The other role for the courts is enforcing whatever decision the ADR process yields, such as an arbitration award.  These judicial powers ensure that ADR is strictly enforced.

None of the benefits of ADR can accrue for you or your company, however, unless you have the most effective possible “ADR Clause.” The ADR Clause is the specific provision in a contract that contains the parties’ agreement for ADR. Many contracts lack ADR clauses because contracting parties misunderstand or forget to consider potential ADR. A precise ADR clause will help you.

In Atkinson v. Rose, the parties agreed to run cannabis retail businesses together and included an ADR clause in their operating agreement. After working together for awhile, the parties ran into serious issues that kept them from working together.  After the parties had filed their case in court, Rose eventually decided he preferred at least some of this lawsuit to be arbitrated.

The Washington Court of Appeals found the parties’ agreement required no arbitration because the ADR clause explicitly applied only to a “deadlock,” which the agreement defined as failure to “reach an agreement” following “negotiations.”  The Court held that because Rose had acted unilaterally and “did not discuss or attempt to reach an agreement” – i.e., “did not engage in negotiations” — the ADR clause did not apply to this dispute.  The ADR clause became useless in this factual scenario. The full dispute was remanded back to the Kitsap County Superior Court.

How could these parties’ disputes have all been made subject to ADR? The Court instructed: the “Operating Agreement does not use broad language such as ‘any disputes’ … Where an arbitration provision uses broad language such as ‘any disputes’, all doubts must be resolved in favor of” ADR.  A clearer, more comprehensive ADR clause could have transformed this case, subsuming all the parties’ disputes in one private, quicker and far less expensive ADR process.

oregon hemp

While Oregon legalized hemp production in 2015, the Beaver State has seen a huge influx of hemp grower and handler registrations since the enactment of the 2018 Farm Bill, which legalized hemp under federal law.

To keep up with the growing interest in the crop and its derivatives, the Oregon Department of Agriculture (“ODA”) has been actively revising its rules and finally adopted their permanent version on May 15th.

Specifically, the rules make permanent the temporary rules that were filed around March 1 and the proposed rules that were filed at the end of March. They should be in place for a while, or at least until the state legislature adopts HB 2740 or yet another hemp statute.

Many of our hemp clients have been asking how these rules would impact their businesses. Because it’s been a while since we ran through program basics, we thought it might be helpful to summarize them here on the blog.

Overall, the permanent rules do the following:

  • Update the testing rules to conform to the changes made by the Oregon Health Authority in December 2018. The rules impose specific testing requirements based on the type of products involved, which include:
    (1) industrial hemp for human consumption and hemp items;
    (2) industrial hemp for human consumption and usable hemp;
    (3) hemp concentrate or extract intended for use by a person to make a hemp cannabinoid product;
    (4) finished hemp concentrate or extract; and
    (5) finished hemp cannabinoid products.
  • Clarify and update recordkeeping and reporting requirements imposed on registrants. The proposed rules put a few additional reporting and recordkeeping requirements on the registrants’ shoulders, but nothing too demanding.
  • Clarify the option registered growers have to resample in the event a harvest lot fails pre-harvest testing. Under the new rules, both samples and filed duplicate samples must be reanalyzed if they fail testing.
  • Establish a fee for the submission of a change form. Under the new rules, registrants who wish to update their registration, such as adding a grow site to an existing registration, will be charged a $125 fee.
  • Adopt a fee schedule for pre-harvest THC testing provided by the ODA. The new hemp sampling fees would be increased by approximately 33 percent to cover the ODA’s cost associated with collecting regulatory samples. The proposed rules include additional fees, including travel time and overtime charges for services performed by the Department of Administrative Services.
  • Clarify requirements for individuals making retail sale of industrial hemp in the state. Those who sell industrial hemp items to consumers will no longer be required to test the item for potency before sale so long as the hemp ingredient used in the product has a compliance test at or below 0.3 percent total THC (THCA converted to delta9 and delta9 THC).
  • Change testing requirements for THC and CBD potency in final products. A finished hemp cannabinoid product must be tested for THC and CBD concentration in the same manner as cannabinoid products under OAR 333-007-0340 before it can be sold or transferred to a consumer.

In addition, the permanent rules address issues that shall go into effect on January 1, 2020. These issues include:

  • Revision of sampling procedures for pre-harvest THC testing. Specifically, the rules require that the total THC be tested, which the ODA has concluded is required by the 2018 Farm Bill.
  • Restructure of handler registration application process and fees, which adds the option for registration by reciprocity for OLCC-licensed processors who hold a hemp endorsement to process hemp with the OLCC Recreational Market.
  • Restructure the grower registration application and fees. In lieu of a $1,300 hemp grower application fee, the permanent rules provide for two separate fees and applications: (1) a fee of $250 for a grower registration application, and (2) a fee of $500 for each grow site registration application. Under this new structure, the average grower would pay lower registration fees ($750-1,250) because a majority of registered growers currently farm two or fewer fields.

For more information on the new permanent rules, don’t hesitate to contact our team of cannabis and CBD attorneys.

washington cannabis marijuanaWashington lawmakers were busy this last legislative session. Democrats controlled both houses of Congress and the Governor’s Office. This means some minor and major changes to Washington marijuana laws. Below is a list of marijuana bills that made it through the legislative session, and some commentary.

Senate Bill 5298 “Regarding labeling of marijuana products.” This bill allows marijuana products, that are compliant with the Washington Department of Health’s (“DOH”) regulations, to include claims that describe the product’s intended role in maintaining a structure or function of the body. If such a claim is made, SB 5298 also requires the following disclaimer: “This statement has not been evaluated by the State of Washington. This product is not intended to diagnose, treat, cure, or prevent any disease.” Washington lawmakers appear to have borrowed the phrase about “structure or function of the body” from the Food and Drug Administration. In fact, the FDA provides a helpful summary of what exactly that phrase means: Structure/function claims may describe the role of a nutrient or dietary ingredient intended to affect the normal structure or function of the human body, for example, “calcium builds strong bones.” In addition, they may characterize the means by which a nutrient or dietary ingredient acts to maintain such structure or function, for example, “fiber maintains bowel regularity,” or “antioxidants maintain cell integrity.”

SB 5318 “Reforming the compliance and enforcement provisions for marijuana licensees.” I previously wrote about SB 5318 when it was making its way through the state legislature. This bill is fairly comprehensive but in a nutshell, SB 5318 forces the Washington State Liquor and Cannabis Board (“LCB”) to shift its focus from adversarial enforcement to compliance. In addition, SB 5318 limits the types of license violations that can lead to license cancellation.

SB 5605 “Concerning misdemeanor marijuana offense convictions.” In the years since Washington voters approved recreational marijuana, the state has collected hundreds of millions of dollars. However, some individuals in Washington have continued to suffer as a result of lingering criminal convictions. SB 5605 addresses this with regards to misdemeanors. SB 5605 allows individuals with prior convictions of misdemeanor marijuana possession to apply to vacate their convictions. Applicants must have been at least twenty-one years old at the time of the offense.

House Bill 1792 “Concerning criminal penalties applicable to licensed marijuana retailers and employees of marijuana retail outlets.” Despite legalization, marijuana remains listed as a controlled substance in Washington’s Controlled Substances Act (“CSA”). Marijuana is only legal to sell or distribute if done pursuant to a retail license and LCB regulation. Other than selling to qualified medical marijuana patients, no one, including marijuana retailers may sell marijuana to a minor. The default penalty for selling or distributing a controlled substance is a felony. Selling to a minor can lead to a penalty of up to 10 years in prison. Sometimes marijuana retail employees make mistakes when checking identification, and sell to minors. This leads to fines and, suspension, and up to license cancellation for a marijuana licensee. Those penalties were a little to harsh for Washington lawmakers, so HB 1792 makes a new gross misdemeanor crime when an employee of a retail outlet sells marijuana products to a person under the age of 21 in the course of his or her employment. A marijuana retail employee may still be prosecuted for a felony, if the employee knowingly sells marijuana to a minor, or distributes to a minor outside of his or her place of work.

HB 1794  “Concerning agreements between licensed marijuana businesses and other people and businesses, including royalty and licensing agreements relating to the use of intellectual property.” The LCB vets all investors and financiers of a marijuana business. This vetting is extended to all “true parties of interest,” which includes anyone who shares in the gross revenues of a licensee. The LCB has long held that royalty fees equal revenue sharing, meaning that anyone owed a royalty fee had to be approved by the LCB true party of interest. However, Washington law allows marijuana licensees to enter into consulting and licensing agreements, so long as those agreements are disclosed to the LCB. HB 1794 allows marijuana licensees to enter into agreements related to goods or services with trademark or other intellectual property protection, so long as those agreements are provided to the LCB for recordkeeping. These agreements can include provisions such as:

(a) A royalty fee or flat rate calculated based on sales of each product that includes the intellectual property or was manufactured  or sold using the licensed intellectual property or service, provided that the royalty fee is no greater than an amount equivalent to ten percent of the licensed marijuana business’s gross sales derived from the sale of such product;
(b) A flat rate or lump sum calculated based on time or milestones;
(c) Terms giving either party exclusivity or qualified exclusivity as it relates to use of the intellectual property;
(d) Quality control standards as necessary to protect the integrity of the intellectual property;
(e) Enforcement obligations to be undertaken by the licensed marijuana business;
(f) Covenants to use the licensed intellectual property; and
(g) Assignment of licensor improvements of the intellectual property. Exempts non-licensed parties to authorized intellectual property agreements from qualifying for a marijuana license for purposes of the agreement.

HB 2052 “Clarifying marijuana product testing by revising provisions concerning marijuana testing laboratory accreditation and establishing a cannabis science task force.”  HB 2052 transfers authority and responsibility for marijuana testing from the LCB to the Washington State Department of Ecology by July 1, 2014. This includes laboratory accreditation.

SB 5276  “Authorizing hemp production in conformance with the agriculture improvement act of 2018.” I wrote about SB 5276 earlier this year. The bill aligns Washington’s hemp program with the 2018 Farm Bill. It also removes a previous prohibition on processing hemp into any product intended for human consumption.

HB 1094  “Establishing compassionate care renewals for marijuana qualifying patients.” HB 1094 exempts a qualifying medical marijuana patient from in-person physical examinations in order to renew his or her authorization or from being physically present for a photograph to renew registration in the Medical Marijuana Authorization Database if either scenario would cause the patient severe hardship.

HB 1095 “Concerning the administration of marijuana to students for medical purposes.” HB 1095 allows qualifying medical marijuana patients to consume marijuana-infused products for medical purposes on school grounds, school buses or while attending school events.

HB 1415  “Modifying funding of the medical marijuana authorization database.” This bill doesn’t have much to write home about. It ends use of the Health Professions Account for the administration of the Medical Marijuana Authorization database and requires that fees collected for the recognition card issued by a medical marijuana retailer with a medical marijuana endorsement be deposited in the Dedicated Marijuana Account.

HB 1430  “Concerning the licensing and enforcement system modernization project account.” Washington lawmakers created the Licensing and Enforcement System Modernization Project Account in 2015. The account is for expenses relating to replacing and modernizing licensing, enforcement, and imaging systems.

Expect us to write more on many of these bills in the coming months, especially as the LCB and other agencies promulgate regulations under these new laws.

CBD trademark cannabisEarlier this month, the United States Patent and Trademark Office (USPTO) issued Examination Guide 1-19: Examination of Marks for Cannabis and Cannabis-Related Goods and Services After Enactment of the 2018 Farm Bill. While the guide didn’t provide any earth-shattering news regarding cannabis-related trademarks, it did clarify the USPTO’s position with respect to trademarks for domestic industrial hemp products.

The USPTO began by reiterating what we have written about extensively: “Use of a mark in commerce must be lawful under federal law to be the basis for federal registration under the U.S. Trademark Act.” Even where the goods or services for which protection is sought are legal under state law, if the goods or services violate federal law, including the Controlled Substances Act (CSA), they will not be eligible for trademark protection. The USPTO cites the following laws as applying in the analysis for whether or not a cannabis or hemp-related mark will be eligible for trademark registration:

  • The Controlled Substances Act, 21 U.S.C. §§801 et seq
  • The Federal Food Drug and Cosmetic Act, 21 U.S.C. §§301 et seq (FDCA)
  • The Agricultural Improvement Act of 2018, Pub. L. 115-334 (the 2018 Farm Bill), which amends the Agricultural Marketing Act of 1946 (AMA).

The 2018 Farm Bill, as we have written, and which was signed into law in December 2018, removed “hemp” from the CSA’s definition of “marijuana,” meaning that cannabis plants and derivatives such as CBD that contain no more than 0.3% THC on a dry-weight basis are no longer controlled substances under the CSA.

Because of this, the USPTO states that, “[f]or applications filed on or after December 20, 2018 that identify goods encompassing cannabis or CBD, the 2018 Farm Bill potentially removes the CSA as a ground for refusal of registration, but only if the goods are derived from ‘hemp.’ Cannabis and CBD derived from marijuana (i.e., Cannabis sativa L. with more than 0.3% THC on a dry-weight basis) still violate federal law, and applications encompassing such goods will be refused registration regardless of the filing date.”

But don’t get too excited yet. The USPTO also makes note of the elephant in the room when it comes to CBD: the FDA. The guide notes that, “even if the identified goods are legal under the CSA, not all goods for CBD or hemp-derived products are lawful following the 2018 Farm Bill. Such goods may also raise “lawful use” issues under the Federal Food Drug and Cosmetic Act.”

Because the 2018 Farm Bill explicitly preserved the FDA’s authority to regulate products containing cannabis or cannabis compounds under the FDCA and because CBD is an active ingredient in FDA-approved drugs and is a substance undergoing clinical investigations, “registration of marks for foods, beverages, dietary supplements, or pet treats containing CBD will still be refused as unlawful under the FDCA, even if derived from hemp, as such goods may not be introduced lawfully into interstate commerce.”

This is a point we’ve been making for quite some time now – the federal lawful use requirements implicate not only the CSA, but also the FDCA, meaning that until we see some movement from the FDA on the issue, trademark registrations for CBD products disallowed by the FDA will not be available.

The guide also notes that for all applicants that reference “hemp” in their specification of goods and services, the examining attorney will issue inquiries concerning the applicant’s authorization to produce hemp and applicants will need to provide additional statements to confirm that their products and activities comport with the 2018 Farm Bill.

So, while the USPTO’s release of this guide certainly isn’t earth-shattering, it does affirm the strategies we have been utilizing to secure trademark protection for our clients. This is a nuanced area of law, and if you are seeking to develop a brand protection strategy for your CBD or hemp products, it would be wise to consult with an attorney well-versed on the subject.

oregon legislative cannabis hemp marijuanaBack on March 1, I ran through a legislative forecast and report for Oregon cannabis in 2019. In that post, I touched on six main issues: hemp, marijuana production limits, interstate sales, social consumption, local grow tax and off-work use. As we move into the home stretch of the 2019 session, each issue has been bandied about: some are close to passage and others have died. Below is a rundown of the state of each topic and some thoughts on the general scene. (Spoiler alert: not too impressed.)

Hemp. Hemp is now the number one cash crop in Oregon at $1 billion a year. The draft bill to watch is HB 2740, which, after an initial hearing, was gutted and stuffed with 60 pages of text (we are down to 32 at present). In those pages, there are two chief proposals: 1) the creation of an Oregon Hemp Commission that can levy a 5% production tax on hemp to fund itself; and 2) a general re-write Oregon hemp laws to get us all ready for 2018 Farm Bill. People in the know are arguing that, as written, HB 2740 could put Oregon out of compliance with 2014 Farm bill, while failing to meet federal Department of Agriculture (USDA) strictures under the 2018 Farm Bill — which would be disastrous. The thinking here is that the feds will regulate hemp more like tobacco than tomatoes, and that given early expressions of federal concern over leakage of “high THC hemp” under the Oregon program to date, it would be best if this bill dies. If that happens, Oregon would be well served to convene a group of stakeholders to follow USDA and FDA closely, and craft a proposal that squares with federal developments.

Marijuana Production Cap.  The proposed moratorium on new production can be found at SB 218. This bill would allow the OLCC to refuse to issue marijuana production licenses “based on market demand and other relevant factors.” It initially failed on Senate floor, was revived by a former Joint Committee member, sent back to the rules committee and amended to sunset in 2022. SB 218 has since cleared the Senate and goes to the House for a work session today, May 20, where it has an uncertain future. The deadline is Friday to make a decision.

SB 218 is key legislation for Governor Brown, who wants to show our U.S. attorney, Billy Williams, that Oregon is taking oversupply seriously. But is this a serious fix? No, it is not– and less so with the sunset. As of today, OLCC already has issued over 1,100 producer licenses with another 1,000 in the queue. If Oregon had wanted to cap marijuana production in the OLCC market, it’s about four years and 900 grows too late. So this bill is for optics and would have little practical effect, if passed.

Interstate Sales. This one has been getting a lot of press lately. The proposal at issue, SB 582, recently passed the Senate and would allow for interstate sales upon a change in federal law or enforcement priorities. SB 582 now heads to the House and appears to have a pathway through the building. Around this time last year, when the exchange idea first began to circulate, I opined on the legal and political hazards of interstate sales. I still believe that Oregon legislators and 582 boosters do not appreciate the Constitutional compact clause implications of this proposal (please, someone tell me what I’m missing here) and I don’t think an attempt to open the market based on another flimsy tolerance memo is a great idea. On the flip side, the interstate sales bill would be a strong gesture of support to Oregon producers. It’s also an attempt to prepare those producers for when the walls come down, even if it feels a bit like Christmas shopping in July.

Social Consumption. As predicted, this one failed yet again. The bottom line is that no one wants to pry open the Oregon Clean Indoor Air Act for an exemption. This means no cannabis lounges and probably no temporary event permits or tours in 2019.

Local Grow Tax. This also died. HB 2382 saw too much opposition from too many stakeholders, especially in southern Oregon, and fell by the wayside back in March.

Off-work Use. Dead too, unfortunately. Neither SB 639 and HB 2233 got any real traction in committee, due to a couple of factors: employer lobbying and a prevailing belief that Emerald Steel v. Oregon Bureau of Labor and Industries is controlling. The latter is a discussion for another day, but it looks like medical marijuana patients can still be terminated for off-work use in 2019, even at jobs unrelated to safety or federal grants. That’s a shame.

Expungement and Reduction of Marijuana-related Convictions. There are a few promising bills covering convictions. First, SB 420 would allow individuals to use an expedited process to set aside most convictions for possession, delivery and manufacture of marijuana, so long as the underlying conduct is no longer a crime. If you have a conviction that wouldn’t be illegal now, you can file a piece of paper and expedited process for getting rid of conviction. Elsewhere, companion bill SB 975 would allow for reduction in offense classification for other marijuana convictions.

Ban on Transportation Systems Development Charges (SDCs). Last but not least, SB 365 (a.k.a. the “anti-Deschutes County bill”) has passed the Senate and is moving cleanly through the House. Deschutes County has generally made a mess of cannabis regulation, and it is the lone Oregon county to attempt to levy SDC on cannabis production. The move was unusual because cities, and not counties, tend to instate SDCs. It also likely amounts to a discriminatory tax on grows. Expect this bill to pass.

All in all, policymaking for cannabis in Salem appears to be fairly chaotic: hemp is a mess, troublesome issues like off-work use are unresolved, and certain proposed (and much publicized) legislation has mostly symbolic value. Still, some of the work around the edges will be helpful in 2019, and we are especially hopeful that the conviction and expunction bills continue to move through without issue. We will check back one more time at the end of the session with a full wrap-up.

cannabis california retailIn 2016, California voters approved Prop 64, the Adult Use of Marijuana Act, by nearly 2 million votes. In addition to legalizing adult use and possession of cannabis, the law creates a statewide regulatory regime for commercial cannabis activity, but also provides discretion to local jurisdictions to prohibit or restrict such businesses. Almost 18 months later, and despite the state having finalized its commercial cannabis regulations, roughly 75% of all jurisdictions in California continue to forbid cannabis stores (medicinal as well as adult-use) from setting up shop; the percent of jurisdictions that ban adult-use stores is even higher.

Unsurprisingly, most cannabis stores in California are concentrated around the San Francisco Bay Area and the greater Los Angeles metropolitan area, leaving most places in the rest of the state without access to storefront medicinal or adult-use cannabis (delivery to such areas is also a challenge, and is the subject of ongoing litigation). Stated reasons from city and county governments include fear of increased crime and teen drug use, and potential harm to property value. A prime example is Marin County, just across the Golden Gate Bridge from San Francisco, where despite a rich history in cannabis culture (it’s the birthplace of “420”), and despite Marin voters having approved Prop 64 by nearly 70%, no city has adopted legislation to allow adult-use cannabis stores anywhere in Marin County (although there are now options for non-storefront adult-use delivery, such as in Fairfax and San Rafael, and there are signs of potential progress in Novato).

But a newly collected body of evidence-based research suggests that the fears and prohibitions are unsupported by the facts. The report, from the authors and editors at Leafly, looks at 42 studies that considered crime, teen cannabis use, or effect of cannabis stores on property values. It found that crime rates in areas around cannabis stores either decreased or were not significantly affected one way or the other. The study also found that the existence of cannabis stores did not cause any increase in teen cannabis use, and that teen use has continued to decline generally over the past 20 years.

As for the effect of cannabis stores on the property values in their surrounding neighborhoods, the report observes:

Modern cannabis retail stores are moving from the industrial fringes of town to prestige locations in high-value shopping districts. What were once unregulated, crudely adorned storefronts are now state-licensed, tightly regulated, and elegantly designed boutiques. … Those stores require significant financial investment, command premium rents, and attract discerning customers. Most are clean, well lit, and welcoming additions to their neighborhoods.

The authors specifically noted a peer-reviewed study from the libertarian Cato Institute that looked at the effect on surrounding home values in Colorado when medicinal-only dispensaries were converted to adult-use cannabis stores starting in 2014 after a change in state law. That study found that “single-family residences close to a retail conversion (within 0.1 miles) increased in value by approximately 8.4 percent relative to houses that are located slightly farther from a conversion.” In line with this study, the Leafly report found overall that home values either increased or were not significantly affected by the addition of a cannabis store, and speculated that this positive result may be due to increased housing demand from cannabis job growth, and/or the public perception of cannabis as a symbol of innovation taking place in America’s most successful cities as well as an attractive amenity that enjoys ever-increasing public support.

The report comes at the same time California’s legislature is considering AB 1356, a bill that would modify existing law to require any jurisdiction in California that voted more than 50% for Prop 64 to allow for a minimum number of medicinal or adult-use retail cannabis licenses that would otherwise be allowed under existing state law absent the local ban. The law would exempt jurisdictions whose voters voiced disapproval for authorizing commercial cannabis retail businesses.

kern county cannabisKern County has a long and sordid history when it comes to regulating cannabis. There has been over a decade of allegations of corruption, bribery, arrests, and a plethora of lawsuits.

Long story short, in March of 2009, the County passed an ordinance that permitted medical marijuana dispensaries throughout the County as long as they were not located within 1,000 feet of a school.

After adopting a moratorium on new dispensaries, in 2011 the Board of Supervisors approved an ordinance banning all dispensaries throughout the County. Before the effective date of the dispensary ban ordinance, however, the County received a referendum petition from voters protesting the dispensary ban ordinance.

The referendum petition triggered certain obligations under the Elections Code, including that the County was required to either (1) put the ban before the voters at an election, or (2) entirely repeal the ban and refrain from taking any further action that would have the effect of implementing an essential feature of the protested ordinance.

The County failed to do either, and the issue went before the Fifth District Court of Appeal in the case of T.C.E.F. v. County of Kern, where the Court of Appeal determined that the County’s actions violated the Elections Code and held the 2009 ordinance to be of full force and effect. (2016) 246 Cal.App.4th 301.

The Court of Appeal concluded that once the voters speak on an issue like they did with the referendum petition, a legislative body (the Board of Supervisors here) is prohibited from taking any action that would have the effect of implementing the essential feature of what the voters protested.

Despite this, a month after the Court of Appeal issued its decision in T.C.E.F., the County issued a new moratorium against dispensaries, extended that moratorium, and then ultimately imposed a new permanent ban against all dispensaries. These actions violated the Elections Code and the express directive from the Court of Appeal in T.C.E.F.

We are representing a property owner and retailer who established a dispensary in the wake of the T.C.E.F. decision. As a result of the County’s disregard for the Elections Code and the T.C.E.F. decision, our client was prosecuted by the County, and lost his case at the trial court level.

We’ve just completed briefing the appeal before the Fifth District, where we intend to show that the County’s disregard for the will of the voters is not only a violation of the Elections Code but also of T.C.E.F., and that if the County wishes to implement a full ban against dispensaries it must put the issue before the voters.

The power of the voters cannot be usurped by a legislative body. As the Court of Appeal has already stated, allowing the Board of Supervisors to implement the essential features of the protested ban ordinance would force the voters to (1) invest more time, money and effort in circulating a new protest petition or (2) acquiesce in the board’s legislative agenda. Even if they obtained enough valid voter signatures in time to protest the additional action, a board of supervisors could start the process again by repealing the additional action and adopting a slightly modified action that still achieved the essential feature of the protested ordinance. This cycle could continue until the most determined protesters were worn down, thereby effectively nullifying the referendum power of local voters. T.C.E.F., supra, 246 Cal.App.4th at p. 322. We can’t let that stand, and we look forward to updating this blog as the case proceeds to oral argument.

cannabis international trade war china hempMarijuana and hemp companies should not ignore the US-China trade war. Numerous products and components in these industries might be subject to increased tariffs of 25 percent. If cannabis companies can’t find new suppliers, those are costs that they will have to bear, or will have to pass on to their consumers.

The Office of the U.S. Trade Representative (“USTR”) recently published a notice in the Federal Register confirming President Trump’s increase on tariffs from 10 percent to 25 percent on U.S. imports of Chinese products valued at $200 billion. Here is the list of products now subject to a 25% tariff. They include products such as:

  • Cigarette paper
  • Hemp seeds
  • True hemp products
  • Other manufactured tobacco, tobacco substitutes, tobacco extracts or essences, other, to be used in products other than cigarettes
  • Folding cartons, boxes and cases of non-corrugated paper or paperboard

The list goes on and on. Many of the products that will now be subject to 25 percent tariffs are used for consumption of cannabis (e.g., cigarette papers), or as components in vape accessories or packaging for products. Even hemp itself is included. These tariffs will lead to increases in the prices of marijuana, hemp products, and accessories if they are manufactured in China—and this comes at a time when China is ramping up production of hemp-derived cannabidiol (“CBD”) products, which U.S. companies may already be selling. (As an aside, if you’d like to read about the legality of importing CBD products, check out our recent posts here and here).

President Trump has also threatened to impose 25% tariffs on the remaining $325 billion of Chinese goods if negotiations do not result in a “good” deal to the satisfaction of the United States. Even if your imported Chinese products are not currently being hit with tariffs, there is a very real possibility that they soon will be.

Not surprisingly, our law firm’s international trade lawyers have been getting a steady stream of questions from American companies that import products from China and from companies from all over the world (China, Europe, Australia and Japan, mostly) that export Chinese products to the United States. These companies first want to know whether their product(s) are subject to the new 25 percent tariff and when that tariff will take effect. The answer to their first question depends on each company’s exact product(s) and is not always clear for cannabis companies. The answer to the second question is that the 25 percent tariff applies “to goods (i) entered for consumption, or withdrawn from warehouse for consumption, on or after 12:01 a.m. eastern daylight time on May 10, 2019, and (ii) exported to the United States on or after May 10, 2019.” In layperson terms, this 25 percent tariff applies to goods that left China on or after May 10.

The most important thing you can do if you believe you have been hit by the 25% tariffs is to not panic. We say this for two reasons. One, many who believe their products are subject to tariffs have been wrong and many who believe their products are not subject to tariffs have been wrong as well. Understanding whether or not a particular product is covered is not as easy as one might believe and for that reason, all of the international lawyers in my firm are turning the question of inclusion or exclusion over to our international trade lawyers because this is what they do. When various tariffs take effect can also be quite complicated. Two, we have seen panic drive too many companies to make major mistakes that end up costing them way more than the tariffs would have.

So, before we discuss what companies should do about their tariff problems, we will first discuss what you should NOT do. You should not have your China products shipped to Vietnam or Taiwan or Malaysia or Thailand or anywhere else and then have those products shipped to the United States claiming they are not from China—even if your partners in China are telling you that this is okay. This sort of “transshipping” can and does lead to massive fines and to JAIL TIME. I am not kidding. Just by way of one example, here is a very recent case (on which my firm’s international trade lawyers assisted the US Government) where a company paid US $62.5 million “to resolve allegations that it evaded $36 million in antidumping duties.”

U.S. Customs has become expert at discovering such evasions and the penalties when caught have become very harsh. Importers that knowingly falsely label the country of origin on their imports are subject to significant fines and penalties under 19 U.S.C. § 1592 and to criminal prosecution under 18 U.S.C. § 542 (import by using false statement) and 18 U.S.C. § 545 (smuggling). Lying about your products country of origin can subject you to 20 years in Federal prison.

In the regulated marijuana industry, civil and/or criminal penalties could have the two-fold effect of terminating your cannabis license. So that production facility you just spent two years and a few hundred thousand dollars building and getting licensed could be taken away instantly if one of your partners attempts to circumvent import laws and gets busted. Even for CBD products which are typically not subject to regulatory licenses (yet at least), the FDA still has authority over certain imports (see response to Q15), so transhippers are may wind up getting doubly tagged by the FDA.

If you do not realize the U.S. government would like nothing more right now than to catch and punish those who transship China products to avoid the new China tariffs, you have not been reading the news. The U.S. government (and even the U.S. populace as a whole) are eager to act harshly against anyone who engages in transshipping Chinese products. And when it comes to cannabis companies and international relations, the U.S. government has taken an even more aggressive approach (see here, here, and here).

One of the biggest hammers against transshipping is the False Claims Act (“FCA”).  The FCA (31 U.S.C. § 3729) allows people or companies to bring “qui tam lawsuits against individuals or companies that defraud the federal government. Damages under these claims can be tripled and anyone who knows of the fraud (including a competitor company) may file a qui tam lawsuit.

Qui tam actions are brought to attack competitors and to get 15 to 30 percent of the triple damages the U.S. Government can recover from the lawsuit. Your competitors, your importers, your own employees, or even your Chinese manufacturers who told you that transshipping was legal are the most likely to initiate a qui tam lawsuit against you, but sometimes it is just someone who learned of what you are doing. Because the person or company that brings such an action can be awarded millions of dollars, the incentive to file such lawsuits is huge. And because in states like California, companies are still racing to secure cannabis licenses and market share, we wouldn’t be surprised if qui tam lawsuits for transshipping or even just reporting to the feds to gain a leg up on the competition becomes commonplace.

What is your duty as the US buyer/importer to make sure the products you are importing are truly from the country listed on the import documents?

The examples below are illustrative.

  • A US importer is told by its Chinese producer/exporter whose products will be covered by the China tariffs not to worry about the tariffs because the Chinese company will ship the product through Taiwan and list them as Taiwan products. The importer should decline this offer because if it imports this product knowing it is from China and not Taiwan, it will be criminally liable under U.S. customs law and subject to potentially massive damages under the U.S. False Claims Act. 
  • A US importer suspects its Vietnamese “producer” is not actually making anything, but rather simply transshipping product that comes from the Chinese company that owns the Vietnamese “producer” company. The company visits the Vietnam “producer” facility and it does not appear anything is actually being produced there. The US importer raises this concern with the Chinese company which tells the US company that it can avoid any problems by being listed as the consignee of the products and not the importer of record since it is the importer who is at risk. This too is simply wrong information.

Transshipment is a crime and Chinese companies and their U.S. importers can have very different interests when it comes to importing product into the United States. The Chinese company wants to ship product to the U.S. above all else and the U.S. importer should above all else want to avoid trouble with U.S. Customs, to avoid civil/criminal liability, and to not risk their hard-earned cannabis licenses. If you are doing business with a person or company using transshipments to minimize U.S. customs duties, you and your licenses could be in very big trouble and you should contact a lawyer immediately.

Now let’s turn to what you can do to fight back against the U.S. tariffs being imposed on goods coming in from China.

There is often a lot you can do to legally change your products’ country of origin (though this may be tougher for hemp than for electronics). The rules for figuring out a product’s appropriate country of origin are incredibly complicated and best left to experienced and qualified international trade lawyers, especially with all that is going on between China and the United States these days. Even our China lawyers do not claim to be qualified on this score; our attorneys tell our clients who ask for country of origin help something like the following:

Putting together your electronics product in China and then shipping it to Vietnam for a plastic case to be put on will not qualify that product as having been made in Vietnam. That much we do know. Beyond this though, you are going to need to consult with our trade and customs lawyers because this is not something you can afford to get wrong.

So yes, it may be possible for you to make minor (or major) changes in how you are having your products made so they can legally avoid the China tariffs, but you truly must tread carefully here and whatever you do, do not just go along with what your China factory is telling you to do. It is your company and your money and your freedom that is at stake and this is not something on which you should be taking advice from anyone but an expert who is looking out for your interests.

One of the questions we ask our clients is what will happen to your product sales if your products from China are subject to a 25 percent tariff and your competitors’ products are not? Answering this question requires knowing whether your products or your competitors’ products will come in duty free from Thailand or be subject to a 7% duty (or whatever) from Vietnam. I mention this because generally (though certainly not always) duties from Thailand and the Philippines are lower than duties from Vietnam, so even in choosing which non-China country you are going to use for your manufacturing, you need to know your way around the duty charts.

If you are going to take your Made in China products and have them partially made in some third country so as to have that product qualify as having been made in that third country (and not China) that product will need to be “substantially transformed” in that third country. One of my law firm’s international trade lawyers describes the substantial transformation requirement as follows:

Substantial transformation dictates that a product consisting of components/materials from more than one country is a product of the country where the components/materials become a new and different article of commerce with a name, character, and use distinct from that of the components/materials from which it was transformed. The CBP makes its substantial transformation decisions on a case-by-case basis, though U.S. importers may seek advance rulings on origin covering specific products for import.

The rules on substantial transformation are anything but clear-cut and the country of origin for your products should be determined on a case-by-case basis by a qualified international trade lawyer.

You also may be able to secure an exemption from tariffs for your product(s), just as was true regarding the previous rounds of tariffs—though with the federal stance on many hemp and CBD products, it may be less likely. The exact process for how to do this and the corresponding deadlines have not yet been announced but we expect both will be very similar to the previous tariff rounds and our international trade lawyers are already gathering information from clients so as to be prepared.

You also will be able to make what is called an exclusion request. These too will have their deadline dates and these exclusion requests typically include the following:

  • Identify the product you want excluded. The U.S. list of targeted products is identified by the Harmonized Tariff Schedule (“HTS”) number that is used to declare the product when imported into the United States. A company needs to identify the commercial name of the product, the HTS number for the product, and any other industry designation of the product under a recognized standard or certification (for example: ASTM, DIN).
  • A description of the product based on physical characteristics (for example: chemical composition, metallurgical properties, dimensions) so your product can be distinguished from other products that would still be covered by the tariffs. A significant concern in considering exclusion requests is whether granting a specific exclusion request will create a loophole many other products can also use.
  • The basis for requesting an exclusion. Is the product unavailable from a domestic U.S. supplier and thus imports are needed to fill a demand no U.S. supplier can fill? Are there certain qualification requirements only the import supplier can satisfy? Have you been put on allocation by domestic suppliers? Are there alternative suppliers in any country other than China?
  • The names and locations of any producers of the product in the United States and in foreign countries.
  • Total U.S. consumption of the product by quantity and value for each year for the past three to five years (2013–2017) and projected annual consumption for the next few years (2018–2020), with an explanation of the basis for the projection.
  • Total U.S. production of the product (or possible substitutes) for each of the past three to five years.
  • Discussion of why the U.S. products (or substitute products) cannot be used in place of the imported products.
  • A good story why your company deserves the exclusion it is requesting. This typically includes the history of your company (e.g., fifth generation family-owned), the products produced by your company, the strategic significance of your company’s products, the number of workers in your company, and your company’s annual sales.

The difference between the exemption process and the exclusion process is that a successful exemption will lead to the removal of tariff line items from the tariff list whereas a successful exclusion will remove specific products from the tariff item. In other words, the requirements for the exclusion process are much more product specific; if you have five different types of widgets, you will have to make six different product exclusion requests.

A new round of 25 percent tariffs is here and more may be coming. Now is the time to figure out what to do to ameliorate their impact on your cannabis business.

Editor’s Note: A version of this post was previously published on our firm’s China Law Blog.

oregon hemp litigation
Big Bush Farms (??) is after $267 million (!!!)

We recently wrote about hemp production contracts, noting that scope and scale of commercial hemp production and the related contracts and lawsuits are likely to dwarf the dollar values we typically see in recreational marijuana. That post discussed a $57 million lawsuit arising from a hemp production contract and lists some issues for growers and buyers to consider before contracting for the production and sale of hemp.

A multi-million dollar lawsuit filed last week in Oregon confirms our view that litigation concerning hemp production is on the rise. According to the complaint, the plaintiff, Big Bush Farms (“Big Bush”), is a licensed grower of industrial hemp, the defendants, Boones Ferry Berry Farms (“Boones”) and other individuals operate a large farm in Hubbard Oregon. Big Bush alleges that Boones had no experience or familiarity with growing industrial hemp before working with Big Bush and had previously purchased bad, unfeminized seed. Big Bush provided Boones with good seed and instructed defendants on “best hemp farming practices” so that Boones could grow hemp for Big Bush. (Just what are best hemp farming practices?)

In late May 2018, Big Bush and the defendants entered into a production contract. Boones agreed to plant, grow, dry, and harvest 27,000 plants for Big Bush. Boones agreed to pay all costs relating to the grow (note that in the prior post on hemp contracts the purchaser paid those costs) and Big Bush agreed to pay $25/lb for all the hemp harvested from the 27,000 plants, plus a bonus of $1/lb for every 2% CBD oil content over 10%. Payment for the crop was due at several intervals on or after the delivery of the crop. The contract called for Boones to use “best farm practices, knowledge and experience to produce the maximum yield and highest quality product.” Boones also agreed to grant Big Bush access to the farm as requested.

Big Bush alleges that Boones harvested 108,000 lbs of dried biomass which tested at 14.5% cannabidiol (“CBD”) oil content. This made a for a contract price of $27.25/lb,  when including the CBD % bonus. Big Bush alleges that Boone’s demanded a price in excess of the contract price and falsely claimed the harvest yielded on 14,582 lbs of biomass. Boones apparently delivered only around 4,200 lbs of the crop even though Big Bush had prepaid $150,000. Big Bush claims that Boones failed to deliver the remaining 103,747 lbs of hemp and failed to deliver other hemp grown pursuant to an oral agreement.

Big Bush brought the usual contract related claims and alleged more than $267 million in damages. (Note: This figure seems a bit odd since 103,747 x $27.25 = $2,827,105.75 and the damages under the alleged oral agreement don’t make up the difference.) Although a farmer’s refusal to deliver a crop is not a typical issue, one wonders if the parties’ contract couldn’t have been structured to provide the buyer more protections.

Stay tuned for updates on this and other hemp-related litigation. There will be a lot of it.

L.A. Phase 3 marijuanaIn case you missed it, at the end of last month, the City of L.A. finally decided on what to do with Phase 3 cannabis licensing regarding retail and retail delivery (see here and here for the City’s newest ordinances). In addition, City Council instructed the Department of Cannabis Regulation (“DCR”) to begin the pre-vetting process for social equity applicants for Round 1, Phase 3 licensing no later than May 28th, 2019 and to begin taking applications for Round 1 of Phase 3 no later than September 3, 2019. This is the first time the City has given any indication of when it expects Phase 3 to finally open. And when that pre-vetting opens, it’s going to be fast and furious for applicants to file as it will be when Phase 3 licensing commences.

There are significant changes to note for this Phase 3 overhaul. Prior to the commencement of opening Phase 3, the DCR must first determine social equity eligibility through a pre-vetting process that will take place for 60 calendar days (see here for a breakdown of social equity in LA). It’s highly likely that the DCR will use the same social equity eligibility criteria as it did in Phase 2 to decide who gets to proceed to the actual licensing window. And if you need to know who qualifies for what under social equity, check out the DCR’s FAQ page on the topic. The long-awaited “social equity assistance” for Tier 1 and 2 social equity applicants has to be in place for 45 days prior to Phase 3 actually opening. After social equity pre-vetting is done and technical assistance has been available for the mandatory time, the DCR will open Phase 3 for the first 100 Type 10 (brick and mortar retail) licenses on a first-come, first-served basis (specifically, the first 75 Tier 1 applicants and the first 25 Tier 2 applicants will get licenses if they meet all eligibility requirements (see below, too)). This is now known as Round 1. For Round 2, which will be for 150 Type 10 retail licenses, this will also be on a first-come, first-served basis. Notably, DCR’s determination of whether an individual is a Tier 1 or Tier 2 social equity applicant shall be made with no hearing and is final and not appealable.

The Round 1 window is going to be extremely short–only 14 calendar days (preceded by a 15 calendar day notice from the DCR). Businesses are only eligible to apply if they have a verified Tier 1 or 2 social equity “Owner” (with the mandated equity share in the business). Importantly, individual can’t be the Tier 1 or Tier 2 social equity Owner for more than one applicant in Round 1, and EMMD owners can’t act as social equity Owners in this round either.

The difference between Round 1 and 2 is mainly three-fold: more licenses will be given in Round 2, more qualifying information is required for Round 1, and the licensing window is longer for Round 2; showing that you have proof of right to real property for your commercial cannabis activity is required in Round 1 upon filing (and it’s not required in Round 2 at the time of filing). For Round 1, applicants must give over to the DCR: “1) a copy of an executed lease agreement with proof of a deposit or property deed for its Business Premises; 2) an ownership and financial interest holder form; 3) a financial information form; 4) a Business Premises diagram; 5) proposed staffing and security plans; 6) a dated radius map including horizontal lines and labeling of any sensitive uses relative to a Type 10 License; 7) a labor peace agreement attestation form; 8) an indemnification agreement; and 9) all business records and agreements necessary to demonstrate that a Tier 1 or Tier 2 Social Equity Applicant owns the minimum equity share in the business.” Round 1 businesses will not be subject to Undue Concentration unless DCR decides otherwise.

The Round 2 window is 30 calendar days for 150 licenses that will also go to pre-verified Tier 1 and 2 social equity applicants. In Round 2 though, at the time of filing, applicants only have to submit to the DCR “a financial information form; a labor peace agreement attestation form; and an indemnification agreement.” Those 150 applicants will then have 90 days to supplement their applications with the more robust information required by the DCR.

The City also solidified its Type 9 delivery pilot program, which I’ll be covering in more detail in my next post on Los Angeles cannabis licensing next week.

Whether you’re shooting for Round 1 or 2, now that the DCR has a path forward, it is absolutely time to start gathering your proof of social equity eligibility. The DCR has been clear in the past about the documents it will accept to establish this status, so there’s no time to waste in at least beginning to look at the City’s previous guidelines to get organized for pre-vetting.