Photo of Griffen Thorne

Griffen is based in the Los Angeles office of Harris Bricken and focuses his practice on corporate and transactional law as well as on data privacy and California cannabis law compliance.

farm bill hemp california cbdThe federal 2018 Farm Bill is likely to become law in the very near future. If it does, it will redefine the hemp industry nationwide. We intend on writing more in the near future as to the specifics of the 2018 Farm Bill, but one interesting question is what effect it will have on California’s industrial hemp and CBD policies.

As anyone in the California hemp business knows, the Department of Public Health (“CDPH”) issued a FAQ policy guideline over the summer which took the position that industrial-hemp derived CBD in food products is unlawful. The FAQ justified this position in part because the federal Controlled Substances Act included industrial hemp as a Schedule I drug, and in part because the federal Food and Drug Administration (“FDA”) had concluded that it was unlawful to place THC or CBD into food products.

The 2018 Farm Bill, if it passes, will essentially amend the Controlled Substances Act to take industrial hemp out of the definition of marijuana. In essence, this would make industrial hemp derived products lawful products. The question then is: Will the 2018 Farm Bill negate the FAQ?

The answer is probably not. Even though the Controlled Substances Act may be amended and some of the underlying support for the FAQ may be undermined, that won’t change the fact that the FDA has not concluded that CBD in food products is lawful. While the CDPH certainly could change its position, the de-scheduling of industrial hemp won’t necessarily change the FDA’s positions right away. In the meantime, it’s safe to conclude that the FAQ still stands.

Ultimately, the 2018 Farm Bill is likely to have far-reaching impacts throughout the industrial hemp industry. We’ll make sure to keep you updated along the way.

california cannabis litigation
We see litigation in the California industry’s future.

Because California’s cannabis regulatory scheme is still in relative infancy, 2018 has looked the same for most operators: applying for annual licenses and waiting (and then continuing to wait) for them to issue or fighting to get temporary license applications submitted before they can no longer be issued. But what happens in two or three years after hundreds or thousands of commercial cannabis licenses have been issued? A host of administrative and civil litigation, probably.

California’s cannabis regulators have immense power that’s not just going to disappear after they issue licenses. The Bureau of Cannabis Control, which regulates a number of different license types, arguably has more police power than the actual police. Section 5800 of the BCC’s readopted emergency regulations, for example, gives the BCC “full and immediate access”, without prior notice, to enter premises, inspect cannabis or vehicles, and copy books and records, and failure of a party to comply with a BCC investigation can be subject to discipline.

Not only do the agencies have broad investigative power, but the subject matter of what they can investigate—all the various regulations that companies have to comply with—is immense. The regulators are not going to sit around and assume that licensees are following the law, the regulations, or even their own operational plans submitted with their applications—they are almost certainly going to use their investigative power to root out non-compliant operators. This should come as no surprise as the BCC, for example, has already taken some action against allegedly unlicensed cannabis operators. Our cannabis lawyers in other states with older licensing schemes have already seen targeted agency investigations and enforcement actions.

There are really endless ways that the agencies may choose to investigate or enforce their regulations, but it’s safe to say that they will prioritize enforcement against unlicensed operators. They may also go after some other easy targets—selling to underage persons, violations of advertising or delivery regulations, track-and-trace non-compliance, and so on. Rest assured, too, that administrative rules will continue to evolve, and licensed businesses that do not keep up on compliance will also be vulnerable.

Not only are the next few years likely to see an increase in administrative actions, but they are also likely to see a swath of civil litigation between licensees and internally. With the development of so much new technology and other intellectual property, we expect to see a good deal of trade secret and other IP litigation. Prop 65 and other forms of false advertising litigation are likely to continue as well. And internally, members of cannabis companies may start to bring lawsuits against each other or their companies for a number of reasons—from simple things like alleged mismanagement of company assets to fraud in soliciting investors.

The future of the California cannabis industry isn’t entirely certain, but it’s likely going to involve a lot of time before arbitrators, judges and other dispute resolution officiants.

cannabis data breach
Cannabis businesses may be especially vulnerable.

Virtually everyone knows about breaches of companies like Equifax. Massive breaches have happened to established, mega-companies who still took major reputational and monetary hits after they were breached. What many people don’t realize is that it doesn’t take a major breach to devastate a business. We don’t want to be dramatic, but we also don’t want to downplay the significance of breaches—they are coming, and cannabis companies that are not prepared may be left in the dust.

Data breaches can range from anything from malicious hacking to the simple loss of a laptop containing unencrypted “personal information”. In either case, if statutorily defined classes of personal information were accessed or acquired without authorization, the party who held the personal information must provide written notification to the affected individuals within a relatively short period of time, and in many cases to other services like credit monitoring. This may seem like a straightforward process. It is not. Just figuring out what kinds of information may have been accessed and whose information may have been accessed could take tens of thousands—if not hundreds of thousands—of dollars in forensic review.

Take the following example: A human resources manager is the victim of a phishing attack. Typically, forensic review of the affected account may need to be undertaken to determine what part of the manager’s email accounts were accessed—did the attacker review one email, or access the entire mailbox? If the forensic vendor determines that the entire account was or could have been accessed, the entire account may need to be “data mined” at a high per-gigabyte cost to see whether emails contain personal information that could require reporting. This could potentially involve tens of thousands of dollars in expenses for one account. Now imagine this happens to five employees.

Not only is this piecing together of events time consuming and expensive, but it only gets half the job done. Once a list is made of the affected individuals and reportable information, notification (often drafted by lawyers) needs to be provided to individuals. This requires engaging companies to ensure that the individuals live where they are thought to live, and to physically mail notification letters out. Then, usually at a certain price per enrollee, credit or identity theft monitoring is provided.

It’s not difficult to see why this process is expensive, and the fact that it needs to occur in such a short period of time can cause intense pressure on an enterprise. To boot, in many states, attorneys general need to be given notification if a certain threshold of citizens of those states were notified of a breach. These attorney generals can (and sometimes do) request detailed summaries of how the breach happened and can even bring administrative actions against the companies who were the victims of the data breach.

Breaches are not unique to the cannabis industry —the Breach Level Index (“BLI”) estimates that more than 14 billion data records have been lost or stolen since 2013, with an average frequency of an astounding 6.9 million records per day. However, this industry is particularly susceptible to data breaches and their damaging effects for many reasons. Here are a few examples:

  • Companies may not be willing to report breaches to federal authorities like the FBI or IRS, who otherwise would likely be notified, in light of the federal illegality of cannabis. Malicious actors may believe that this gives them some sort of advantage—and to some extent it does if law enforcement is not given notice.
  • Given the state of banking in the cannabis industry, cannabis businesses may use cryptocurrency, which could have keys that are stored on electronic devices that are capable of breach. This could expose a cannabis business to financial losses unlike in virtually any other industry.
  • The reputational harms to an up-and-coming licensee could destroy a cannabis business. Even though many of the stigmas around cannabis have gone away, many people wouldn’t want their employer or the general public to know that they bought cannabis. Imagine what a government employee would think if a cannabis business was the victim of a breach and his or her employer suddenly could find out about the employee’s purchase history. That business probably would not last.
  • The industry is forced to interact with technology in a way that many others are not. In California, as well as most other states with licensing regimes, cannabis companies must implement track-and-trace systems to monitor all commercial cannabis activity. Licensees of the California Bureau of Cannabis Control (“BCC”) are legally prohibited from transporting, transferring, or delivering goods during outages of track-and-track systems—i.e., doing most kinds of business. What happens when they are the victim of a ransomware attack (a situation in which a hacker encrypts all computer systems and demands compensation in cryptocurrency or something similar in exchange for the decryption key, which may take days or weeks to fully restore)? Businesses could literally bleed out while trying to negotiate with–or pay a ransom to–someone across the globe.
  • State attorneys general may need to be notified of certain data breaches. If an attorney general in a state in which cannabis was not legal receives notice that a number of the attorney general’s home state citizens were the victims of a data breach, that attorney general may want to target that cannabis business with an enforcement action.

These are just a few of the unique pressures the cannabis industry faces.

Breaches are in many senses inevitable. There is still a lot that companies can do to reduce the impact of them or to attempt to prevent them. Below are a few:

  • Having a privacy policy and sticking to it. We’ve written about the need for policies before, and the potential penalties for not complying. We get the sense that a lot of cannabis businesses think of this as unnecessary or just a rote copy-and-paste job. This is not accurate. These policies are detailed, and are designed to identify the information gathering and usage policies of an organization. If an organization follows a policy, then it should in theory know what information it has, and where. This could be the difference in whether significant time and resources are spent tracking down potentially accessed information.
  • Complying with relevant information security standards. Many states actually require businesses to adopt certain standards when it comes to information storage. Technical measures can be adopted to reduce the likelihood or impact of breaches.
  • Planning for breaches. Training employees, and having plans for what to happen in the event of a breach, could also avoid or lessen the impact of a breach.
  • Considering insurance. Insurance companies are starting to provide cyber liability insurance, which could cover the costs of some breaches. This won’t actually prevent a breach, but may stop a company from spending significant amounts of money in response to a covered breach.

The point of this post is to highlight just how significant breaches can be for cannabis businesses. Preparing now, rather than after they occur, could avoid a great deal of issues later.

california cannabis temporary license
Hopefully, more cities are creative with this hard stop.

We recently wrote about an announcement by the California Department of Food and Agriculture (“CDFA”) that temporary license applications need to be submitted by December 1, 2018 in order to be reviewed on time for approval and issuance before December 31, 2018. To date, California Department of Public Health (“CDPH”) followed suit, but the California Bureau of Cannabis Control (“BCC”) has not. It’s safe to say that BCC applications submitted after December 1, 2018 have a low chance of being issued this year.

This is significant because after January 1, 2019, these agencies will have no legal authority to issue temporary licenses, and will not do so. After January 1, 2019, only provisional licenses will be issued, and only then to parties who hold or held temporary licenses. Parties that don’t have temporary licenses and thus cannot get provisional licenses will be stuck in the annual license logjam, which everyone knows moves at a snails’ pace. These deadlines cannot be solved with more regulations. They are from MAUCRSA and only the legislature can modify them. We wouldn’t count on that happening.

This time crunch places would-be licensees whose local applications are under review from California cities in a tough spot. As part of the state-level application process, the above-linked MAUCRSA section requires applicants to fork over “[a] copy of a valid license, permit, or other authorization, issued by a local jurisdiction”, and cities are not going to state that an applicant is approved while an application is under review.

Some cities have come up with creative solutions to this problem. The Los Angeles Department of Cannabis Regulation (“DCR”), for example, issued a release stating that it would issue to applicants from the second phase of applications (which closed a few months ago) who have paid their application fees a local letter of authorization that could be taken to the target state agency. The letter would not authorize commercial cannabis activity in Los Angeles. It would authorize an applicant to simply move into the temporary license phase, in order to eventually secure the provisional license that would eventually get them operational faster. At least one state agency, in turn, has expressed that letters from localities may be sufficient. Earlier this year, the CDPH wrote that local authorization may take the form of a “letter of acknowledgement”.

L.A. is a big city, and is swamped in applications. Our L.A. cannabis business and real estate lawyers have seen some other cities issue letters of authorization, but others that have refused. It’s not clear whether many other cities would write a letter of authorization, or what they would be willing to say. But it’s certainly worth reaching out to a city to see if they will.

As we wrote on Tuesday, the midterm elections were monumental for cannabis: Michigan voters approved of a proposal legalizing recreational marijuana for adult use, Utah and Missouri will soon establish medical marijuana regimes, and Texas Representative and marijuana antagonist Pete Sessions lost to a Democrat.

All in all, Tuesday was a good day at the state and national level. But cannabis wasn’t just on the ballot at the state or national level—many cities had measures on that would regulate cannabis in one form or another. This post discusses some of the more impactful ballot measures that won and lost in California.

california elections cannabis marijuana

To start, dozens of cities and counties in California had cannabis taxation measures, which is a good sign for the expanding market. Oakland voters, for example, approved of Measure V, which amends the local code to allow cannabis manufacturers and cultivators to deduct the value of raw materials when calculating gross receipts for tax purposes. Fresno voters approved of Measure A, which adopts a cannabis business license tax. As noted above, numerous cities had tax measures on the ballot—and they are quite literally all over the map.

El Dorado County had a number of cannabis measures on its ballot. Measures P, Q, R, and S each passed, allowing the retail sale, delivery, distribution, and outdoor/indoor cultivation of commercial cannabis for recreational and medicinal purposes. Interestingly, El Dorado County’s Measure N (a tax measure), didn’t pass.

Los Angeles County’s well-publicized Measure B, which would have established a municipal bank, failed. This was a closely watched measure in the cannabis industry, as many had hoped for a local bank in which to bank their earnings. Because the California effort to charter a state bank has cooled, local businesses may have limited options until a federal fix occurs.

Elsewhere, the City of Malibu passed Measure G, which will now allow retail sales of commercial cannabis and deliveries. Before, Malibu only allowed medicinal sales. But wait before delivering into Malibu from other cities; you’ll need a regulatory permit from the City of Malibu to do so. No word yet on what that application process will look like.

As noted above, these are just a few of the measures that were adopted (or not) on Tuesday. California, like many other places nationally, is certainly moving toward a more open marijuana landscape.

los ángeles california medical dispensary licensing
Certain L.A. dispensaries may soon be stuck in place.

Los Angeles’s existing medical marijuana dispensaries (“EMMDs”) under Measure M will soon be precluded from relocating from their current operations unless and until they receive their local annual licenses from the City of Los Angeles. Movement post-initial application to L.A. has been a common practice for  EMMDs for some time, and has apparently caused a rift with other potential commercial cannabis licensees who were effectively “zoned out” based on buffer requirements when an EMMD moved into their planned licensed territory (non-EMMD storefronts have to be no less than 700 feet from each other). The new requirement goes into effect soon—but just how soon remains to be seen.

On October 19, 2018, the Los Angeles Rules, Elections, and Intergovernmental Relations Committee (the “Committee”) held a meeting which dealt with various cannabis-related matters. Shortly before the October 19 meeting, the Los Angeles Department of Cannabis Regulation (“DCR”) submitted a letter requesting amendments to the City’s cannabis procedures, which are codified in the Los Angeles Municipal Code (“LAMC”). The letter requested that the City Council instruct the DCR to stop processing EMMD relocation requests or amend the LAMC accordingly. The DCR is concerned with EMMD relocation requests because:

In certain instances, an EMMD has re-located to a business premises within 700 feet of a location a Phase 3 applicant has secured as a potential retail business premises. Because the City does not permit a Phase 3 retailer to be within 700 feet of another retailer, in those instances, the Phase 3 applicant must abandon the location it has secured and find an alternate location. As this re-location issue may impact the Tier 1 and Tier 2 Social Equity Applicants applying for retail licenses, DCR recommends that the City Council either instruct DCR to stop processing EMMD re-location requests or amend Sec. 45.19.7.2 of Article 5.1 of Chapter IV of the LAMC to prohibit EMMD re-locations as of January 1,2019.

In other words, EMMD relocations could create a block on real estate for potential other dispensary licensees, and based on the social equity program in the City (for more on social equity, see here), the City wants to make sure that phase 3 social equity retailers get a fair shot at a more static real estate situation.

Also on October 19, the Committee issued a report that requests that the City Attorney, working with the DCR, “prepare and present an Ordinance to amend [the LAMC] to prohibit future Existing Medical Marijuana Dispensaries re-locations prior to the issuance of an annual license, and instruct the DCR to cease accepting and approving new re-location requests while this ordinance is under consideration by the City Council.”

EMMDs whose local annual licenses are still under review will thus no longer be able to change locations (unless and until they get that annual local approval)—but the big question is when that will kick in. From the text of the report, the DCR will be instructed to cease accepting and approving new relocation requests while the to-be-drafted ordinance is under consideration. It does not look like the ordinance is yet under consideration, so relocation requests may still be processed by the DCR if you get in the queue now.

One other important issue is whether relocation requests submitted before the ordinance is passed can still be approved after the ordinance is implemented–meaning, is the ordinance going to be retroactive? The text of the report suggests that the DCR’s ban will be only for new relocation requests made after the ordinance is under consideration. That said though, it really depends on what the ordinance ultimately says in the end and whether the City Attorney and DCR decide to prohibit any already-pending relocation requests.

For now, stay tuned. We will be sure to provide updates on the EMMD relocation prohibition as it evolves.

This is the second post in a series on various aspects of cannabis litigation. The title is admittedly a bit misleading, as arbitration isn’t really the same thing as litigation. That said, the two can intersect, and so understanding what arbitration is and is not, is important for cannabis businesses. After all, many contracts in the cannabis industry can include arbitration clauses.

Arbitration is, essentially, a trial before a private entity (this post only describes private arbitration and not judicial arbitration, which is different). Typically, arbitration cannot occur unless the parties have agreed to it in a contract; for example, an LLC operating agreement, sales contract, distributor agreement, intellectual property license, or any other kind of contract. The parties can use this contract to dictate the terms of the arbitration and how it will proceed. That said, below are a few of the features that are common to almost any arbitration:

cannabis litigation arbitration marijuana

Who Presides: In private arbitration, there are no juries. Instead, the parties pay a private arbitrator or arbitration company. Arbitrations are presided over by at least one arbitrator, who is generally a former judge or attorney. In some cases, there can be a panel of arbitrators who decide a dispute. Arbitrators are almost always neutral, meaning that the parties cannot communicate with them outside the presence of the other parties (there are some cases in which some of the arbitrators can be “party” arbitrators).

Anyone who has spent significant time in a court room knows that judges have intense caseloads—sometimes hundreds of active cases at any given time. On the other hand, arbitrators typically have less-intensive caseloads. This means both that arbitration can proceed more quickly and that the arbitrator(s) can devote more time to and gain more understanding of each case.

Arbitration Setting: In private arbitration, there is no court room. Instead, arbitration hearings take place in private facilities provided by the arbitrator or arbitration company. It’s not uncommon for an arbitration to occur in something that looks more like a classroom or board room than a court room. While an arbitration can feel a bit less formal, it is key to remember that arbitration is still an adjudicative and adversarial proceeding.

Private Nature: Arbitration is, again, private. This is very different from litigation, where almost every facet of a case is published or can be made public unless there is an order of the court to “seal” certain records. Parties to arbitrations don’t necessarily need to keep things confidential—it’s just that way by design. That said, they certainly can agree to strict confidentiality provisions above and beyond the non-public nature of arbitration.

Procedural and Evidentiary Rules: In court litigation, there are rules of procedure and evidence set forth in a number of different places. For example, in federal litigation, the process is governed by the Federal Rules of Civil Procedure, a district court’s local rules, and rules set forth by the individual judge. Evidence is received according to the Federal Rules of Evidence. In state court, there are typically a number of different evidentiary and procedural rules that will govern any proceeding.

Unlike in court proceedings, the procedural rules and rules of evidence are slimmer. Arbitration forums often have their own rules, which will generally apply by default unless the parties elect to follow the federal or state rules in their arbitration contract. Arbitration rules are generally much more compact than federal or state rules, and based on the private nature of arbitration, there are usually no cases discussing how those rules are to be applied. The result of this process is that arbitration proceedings can seem less formal.

Arbitration is not Mediation: One common misconception is that arbitration is or is similar to mediation, when the two are in fact very different. Mediation is a typically non-binding process in which parties come together in front of a third-party neutral (the mediator) to discuss their case with the intention of settling it. Arbitration is similar to a trial, and if it proceeds to the end, will result in an award to one party (which can be filed in court), rather than a settlement. The only important similarities are the presence of a neutral, and the fact that many arbitration companies employ arbitrators and mediators (often, the same people do both kinds of work).

This all sounds great, right? You may be asking why would someone would ever want to litigate, when they could just arbitrate faster, with less-intense rules, in front of a focused neutral who could devote more time to the dispute? It may come as a surprise that parties in a dispute often seek to avoid arbitration. One of the chief concerns is cost—because arbitration is private, parties need to pay the arbitrators, on top of their attorneys. This additional cost can be overly burdensome for some private litigants and is likely a major concern for smaller businesses. Another concern may be the private nature of arbitration. There may be a host of reasons why one party to an arbitration wants the dispute to not be kept private. And finally, there are generally no options for appealing an unfavorable arbitration decision. These are just a few of the reasons that parties may want to avoid arbitration.

As mentioned in the beginning of this post, arbitration and litigation can overlap. Parties to disputes sometimes file cases in court in spite of arbitration provisions. In such circumstances, the other party may file what’s called a “motion to compel arbitration”, and the other party could resist arbitration by arguing that the arbitration agreement is void, or that the dispute at issue is outside the scope of the arbitration clause. In California, for example, we have an additional law that permits a court to delay or even avoid arbitration if there are parties to a court case and a separate arbitration, if there would be a risk of an inconsistent outcome or factual finding. This is a very powerful tool for a party who wants to resist arbitration in multi-party disputes and, in many cases, it is available unless disclaimed in the arbitration clause.

In sum, what an arbitration clause says is powerful and will dictate how any dispute is resolved. When negotiating any contract, the dispute resolution procedures may be an afterthought for some, which can end up costing the parties later down the road. That’s why its critical to put serious thought into arbitration clauses and engage counsel who is experienced in drafting and reviewing such clauses.

For more on cannabis litigation, see our series here.

Hemp and Hemp-CBD in California is wild right now.

As readers of this blog know, California is on its way to developing robust laws governing the sale (and all other aspects) of cannabis and cannabis products. So, it’s somewhat surprising that California’s laws concerning the sale of industrial hemp and hemp-derived cannabidiol (“hemp-CBD”), to the extent they even exist, are all over the map. And in some cases, selling industrial hemp or hemp-CBD is apparently unlawful, in spite of the fact that it may contain just trace amounts of THC found in California-legal cannabis products and despite the fact that that hemp-CBD is coming from Farm Bill-sanctioned sources.

Our California cannabis lawyers often get asked what the requirements are for selling industrial hemp or hemp-CBD in California. This post tries to explain California’s convoluted regulation of industrial hemp and hemp-CBD.

As a baseline, “Industrial Hemp” is legally defined as parts of the Cannabis sativa L. plant, or derivatives of that plant, containing less than .3% THC. The Medicinal and Adult-Use Cannabis Regulation and Safety Act (“MAUCRSA”) specifically defines “Cannabis” to exclude Industrial Hemp. The Health and Safety Code echoes this sentiment, and also states that the California Department of Food and Agriculture (“DFA”) exclusively regulates industrial hemp.

The Food and Agriculture Code, which the DFA enforces and interprets, includes some provisions regarding industrial hemp—but notably that Code contains nothing concerning its sale. We have been monitoring (here and here) California’s SB-1409, which modifies these parts of the Food and Agriculture Code, but again there are no requirements concerning actual sales (for what it’s worth, you can also read more about the expiration of the federal 2014 Farm Bill here). Even the DFA has recognized that “California law does not currently provide any requirements for the manufacturing, processing, or selling of non-food industrial hemp or hemp products.”

The message here then is that there are no regulations governing the sale of industrial hemp or hemp-derived CBD. There are, however, some other pretty important requirements at the legislative, policy, and even local levels that could affect hemp and hemp-CBD businesses across the state:

  • Legislation: California recently passed legislation banning licensed cannabis or alcoholic beverage companies from selling alcoholic beverages that contain cannabis, or cannabinoids derived from industrial hemp. Stay tuned for in-depth coverage of that in another post.
  • Policy: Over the summer, the California Department of Public Health’s Food and Drug Branch (“FDB”) drafted a FAQ taking the position that “the use of industrial hemp as the source of CBD to be added to food products is prohibited.” We don’t yet know what FDB’s enforcement measures will look like, if anything, but it’s pretty clear what its position is on hemp-CBD in food and drinks.
  • Local Level: This is where things get dicey. As anyone familiar with cannabis law knows, every one of the hundreds of cities and counties in California has different laws on cannabis licensing. One common requirement for any business in most municipalities is to have a form of business license—and this may be an area in which local jurisdictions create specific industrial hemp and hemp-CBD requirements. For example, the Department of Cannabis Regulation (“DCR”) within the City of Los Angeles recently published an “attestation” form that hemp business owners must sign under penalty of perjury, certifying that their hemp-CBD or industrial hemp products meet the definitions of the Health and Safety Code, and that those products are not “cannabis”. This is now apparently a requirement for Los Angeles hemp businesses that wish to obtain local business licenses, and it looks like that’s the only hemp/hemp-CBD “regulation” that the City of Los Angeles currently has on the books.

Overall, the bottom line is that we still lack the critical legal infrastructure for industrial hemp and hemp-CBD in California. We don’t know how the state or localities will enforce the FDB FAQ. We don’t know how the state will regulate hemp-CBD sales. We don’t know how the locals will regulate hemp-CBD businesses, if at all.

So, stay tuned, as we’ll be sure to write about new California hemp and hemp-CBD laws as they come.

california bcc cannabis rules
Huge changes ahead. Get your comments in by Nov. 5!

Last Friday, we wrote about the amended proposed permanent cannabis regulations that are now in a 15-day notice-and-comment period for each California agency—the Bureau of Cannabis Control (“BCC”), Department of Public Health (“DPH”), and Department of Food and Agriculture (“DFA”). Each of the proposed rules can be found here, here, and here. The next round of written public comments is due to each agency by November 5, 2018. It’s important then for California cannabis businesses to get a handle on the proposed regulations as quickly as possible to determine whether to provide written comments since some impactful changes are coming.

Here are the key proposed changes from the BCC regulations:

Intellectual Property Licenses: Yesterday, we explained the threat that the BCC’s regulations pose to cannabis intellectual property licensing in California. Our California cannabis lawyers are regularly involved in intellectual property licensing deals and we think it’s critical for cannabis businesses to speak up in opposition to this proposed rule. California would be the only state in the cannabis union to bar third-party IP-licensing deals for cannabis licensees, which will certainly undercut the business growth of a good amount of operators if this rule passes.

“Owners”: The BCC modified the definition of “owner” (as well as “financial interest holder”; see below), which now includes “[a]n individual entitled to a share of at least 20 percent of the profits of the commercial cannabis business.” This is much broader than the existing 20 percent aggregate ownership threshold (which also still stands). To illustrate, the current ownership threshold definition expressly states that it does not apply where that interest holder holds “solely a security, lien, or encumbrance.” This new addition to the rules seems to capture a mere security holder—so long as that security holder is entitled to 20 percent of the profits.

The BCC also expanded upon the form of “ownership” that requires disclosure based on assumption of responsibility for the license, by specifying certain kinds of persons or entities who qualify (note that this list is not exhaustive or complete, so it likely will be read even more broadly), as:

  • Persons who manage or direct the licensed business in exchange for a portion of the profits. Note, there is no minimum threshold for profit entitlements here, so this could include persons who expect less than 20 percent of the profits.
  • Persons who assume responsibility for the licensed business’ debts. Here too, there is no threshold for debt assumption.
  • Persons who determine how “a portion” of the licensed business is run. This includes things such as “non-plant-touching portions of the commercial cannabis business such as branding or marketing”, but it too could include much more broad categories of business operations.
  • Persons who determine what cannabis goods will be cultivated, manufactured, distributed, purchased, or sold.

Notably too, these modifications now take the position that if an “owner” is an entity, all entities and individuals with a financial interest in that entity must be disclosed to the BCC and may be considered owners of the commercial cannabis business. The BCC emphasized that each entity and person in the corporate chain must be disclosed until the applicant can identify actual persons.

The takeaway from these changes is that the BCC now wants full identification of any person who has anything to do with an applicant entity—even if that person simply owns a company multiple steps away in a corporate chain. That is not dissimilar to what our cannabis business lawyers have seen in Oregon and Washington.

“Financial Interest Holder”: Like before, the BCC considers a financial interest to include an agreement to receive a portion of the profits of a licensed entity. Now, however, the BCC gives a number of examples of what qualifies as such an agreement:

  • An employee who enters into a profit-share plan with a licensee.
  • A landlord who enters into a lease agreement with a licensee for a share of the profits.
  • A consultant who provides services to a licensee for a share of the profits.
  • A person who acts as an agent, such as an accountant or attorney, for the licensee for a share of the profits.
  • A broker who engages in activities for the licensee for a share of the profits.
  • A salesperson who earns a commission.

The BCC will now also require the identification of all persons in the corporate hierarchy for interest holders, similar to the rules regarding owners. Meaning, if a financial interest holder is an entity, everyone in that entity is getting disclosed .

Annual License Fees: The BCC scrapped its previous test for determining the amount of appropriate fees for the annual licenses—estimating the maximum dollar value of planned operations—and now has created a new formula: “To determine the appropriate license fee due, the applicant or licensee shall first estimate the gross revenue for the 12-month license period of the license.”

Changes in Ownership: The BCC is also expanding its prohibition on changes of ownership over a licensed entity. If any new person is added as an “owner” by virtue of a change in ownership of a licensed entity, that person will need to provide the vast categories of information required by section 5002(c)(20) within 14 calendar days of the transfer. This will obviously have an impact on California cannabis M&A. The business can still operate pending the change so long as one previous owner remains on; otherwise, operations will need to cease pending the BCC’s review of the new owner. The BCC is also now requiring 14 calendar days’ notification of changes in any of the following:

  • Any changes to the contact information that was provided to the BCC in the original application;
  • Any change in legal name, business name, trade name, or fictitious business name of the licensee;
  • Any change to financial information, including funds, loans, investments, and gifts required in the original application;
  • Any change in the required bond; or
  • Any change or lapse in a distributor’s insurance coverage.

Annual License Applications and Requirements: As to annual licenses, the BCC made tweaks to the information that it will require for submission, which signals its desire to place more scrutiny on applicants and ensure compliance with California law. We won’t explain every change here, but here are the essential ones:

  • First, the BCC changed the requirement to provide it with “The business-formation documents” for the licenses business to “All business-formation documents”.
  • Second, the BCC is requiring that applicants provide it with state employeridentification numbers (“SEIN”), which the BCC explains in its notice of modification as being “necessary to ensure that all applicants that are required to obtain such a number have obtained it and are thus, in compliance with California law.”
  • Finally, licensees with more than one employee must attest that within one year of receiving their license, the licensee will have employees who have undergone certain Cal-OSHA safety training.

The BCC is also beefing up its requirements for renewal of licenses to require documentation of any change to any item listed in the original application. So, chances are that if a cannabis business obtains an annual license before these proposed changes become effective (and assuming they do), that business will need to provide these additional disclosures later.

Premises: There are a number of modifications to the proposed rules concerning licensed premises, but here are the highlights:

  • While it’s been routine for multiple licensees to operate on the same premises, the proposed modifications now expressly state that they do not “prohibit two or more licensed premises from occupying separate portions of the same parcel of land or sharing common use areas, such as a bathroom, breakroom, hallway, or building entrance.”
  • The premises must consist of permanent structures—shipping containers, modular buildings, or anything on wheels are a no-go—that are affixed to the ground and not capable of movement.
  • There is now a form (BCC-LIC-027) to submit to the BCC to request to make a physical change or alteration to the premises.

Marketing and Promotions: Licensees will be prohibited from selling or transporting goods that are identified as any kind of alcoholic product (and they cannot refer to anything as containing or being an alcoholic product). There are also now definitions for promotional goods and branded goods. If licensees want to sell branded goods that are not listed in the definition, they will need to seek BCC approval first. The proposed modifications also clarify that licensees can provide customers with promotional non-cannabis goods—and it looks like these goods could be provided at the premises or via delivery, too.

Packaging: The proposed modifications set up a time tier for cannabis packaging, whereby until January 1, 2020, cannabis packaging needs to be tamper-evident, in some cases re-sealable, and must not look like packaging that is marketed to children. Until January 1, 2020, retailers and microbusinesses can satisfy this rule by providing opaque exit packaging that meets the foregoing standards.

Testing and Quality Assurance: The proposed regulations include prohibitions on re-sampling previously tested batches, new requirements for remediation plans for failed batches, and new requirements for quality assurance testing for the level of THC, CBD, and terpenoids, among other things. If goods have undergone testing and haven’t been sold in 12 months, they now  have to be destroyed.

Retailer Packaging: Similar to the revised distribution rules, the proposed modifications set up a time table that require tamper-evident packaging until January 1, 2020, and re-sealable, tamper evident, and child-resistant packaging thereafter. There are opposite requirements for retailer exit packaging—it must be child-resistant, re-sealable and opaque until 2020, and then just opaque thereafter.

Deliveries: The rules now more heavily regulate a retailer’s use of tech platforms for delivery (i.e., the platform can’t share profits and can’t be the one doing the delivery, presumably unless it too is licensed). Delivery vehicles cannot contain any exterior markings that indicate that they are delivering cannabis goods. Delivery vehicles may now carry only $5,000 in cannabis goods at once. And the biggest change of all, per the modified section 5416(d), deliveries can be made into any jurisdiction in the state, so long as they comply with the BCC’s delivery rules. Currently, localities can and do prohibit deliveries from other jurisdictions. The BCC’s proposed regulations, however, now open the floodgates to previously “dark” delivery jurisdictions.

For the next few days, we’ll be writing on the proposed rules issued by DPH and DFA. We cannot emphasize enough how licensee stakeholders need to speak up and provide public comment for the rules they like and don’t like so that industry can better shape the regulatory playing field. So, get those comments in by November 5!

california cannabis regulations
Here we go again!

This morning, the California Bureau of Cannabis Control, California Department of Public Health, and California Department of Food and Agriculture issued 15-day notices of modification to the texts of their respective proposed regulations. The California Cannabis Portal has published links to each notice and the modified texts of the proposed regulations. For each set, the respective Department will accept written comments by November 5, 2018.

Stay tuned to the Canna Law Blog for future posts analyzing modified proposed regulations, which are extensive.