audit marijuana cannabis
Can your cannabis business survive state scrutiny?

Like all business, cannabis businesses are subject to audit by state taxing authorities and other agencies. These audits tend to proceed differently with cannabis business, though, given the unique regulatory approach states take with marijuana. If a regulatory audit turns up issues, then fines and even loss of your business’s license could follow. This post outlines the top issues in preparing for, and managing, a regulatory audit of your cannabis business.

Plan Ahead

Every state with a regulated cannabis market has specific record keeping requirements.  Prepare for future audits by keeping meticulous records. Like other businesses, a marijuana business must keep detailed records regarding all aspects of the business including: sales, inventory management, purchases, taxes, employment, environmental compliance, legal and transportation. Unlike other businesses, a cannabis business is required to keep all source documentation. For example, purchases of goods and services must not only be supported by master goods and service contracts, but transaction level invoices; bank statements must include check and deposit slip detail.  When in doubt, keep as much detail as possible.

As stated HERE and HERE, it is wise to conduct periodic self-audits to identify any weakness in record keeping or any other compliance issues. Self-audits allow a cannabis business to address issues as early as possible. Self-audits also assist a business is constantly improving not only its regulatory compliance but improving customer service and profitability.

Each state differs in how long records must be maintained. Washington requires that records be archived for three years while California requires records be archived for seven years.  However long a state requires a cannabis business to archive records, it is a best practice to archive records in electronic format where possible, alongside retention of hard copy data.

Don’t Panic

Cannabis regulators will notify you by letter that your cannabis business is under audit. Included with that letter will be a list of records to provide. All states with regulated cannabis markets have wide latitude to inspect records and your physical business location. For example, Washington regulations require a cannabis business to archive a wide variety of documents and mandate that such records “must be made available for inspection if requested by an employee of the WSLCB.” In general, a cannabis business will have no standing to challenge a cannabis regulatory agency right to demand and to inspect records. Your time and money will be best spent gathering the records requested.

Typically, records must be produced in a very short time frame, so a cannabis business should immediately begin to gather the documents requested. Typically, information must be requested from CPA’s bookkeepers and attorneys, so give your business as much time as possible to get this information.

Disclosure and Truthfulness

Most states have strict sanctions for a cannabis business that fails to provide documents to the regulators. For example, a determination of a failure to provide documents in the State of Washington will result in the cancellation of a license. As expected, most states have strict sanctions for misrepresentations of fact to cannabis regulators. Again, a determination that a cannabis business has misrepresented facts will result in the cancellation of a license. A cannabis business must be aware that every document provided and statement made to the regulators is “on-the-record”. A cannabis business should never speculate or guess in responding to inquiries made by the regulators.

Understand the Appeal Process and Your Rights

Although your cannabis business has an affirmative duty to provide accurate information to the regulators, you do have legal rights and protections.

If the enforcement officer identifies a potential violation, the enforcement officer must follow a specific notice procedure. In Washington, the enforcement officer must issue an Administrative Violation Notice (AVN) and deliver the notice to the cannabis business, or the businesses agent or employee.

The AVN must include:

  • A narrative description of alleged violations;
  • The dates of violations;
  • A copy of the relevant statutes or regulations;
  • An outline of the licensee’s options;
  • Identify the recommended penalty; and
  • Identify any aggravating or mitigating circumstances adjusting the penalty.

Requesting a Stay

If the regulators suspend a license, the licensee must promptly initiate an adjudicative proceeding before an Administrative Law Judge assigned by the Washington office of Administrative Hearings. A hearing must be held within 90 days of the date of suspension.

In Washington, a cannabis business must petition for a stay of suspension within 15 days of service of the suspension order.  A hearing must be conducted within 14 days from receipt of the filing of the petition for stay.

Other Remedies

A Washington cannabis business has 20 days from receipt of the AVN to:

  • Accept the recommended penalty; or,
  • Request a settlement conference; or,
  • Request an administrative hearing;

Missing this key 20-day period will result in a range of sanctions from penalties to revocation of the cannabis business license.

One of the key tactical decisions is whether to request a settlement conference or to move directly to requesting an administrative hearing. Although a settlement conference offers an opportunity to resolve issues in a more informal manner, there may be instances where moving directly to an administrative hearing is wise. This tactical decision should be considered carefully in consultation with counsel, and is highly dependent on the facts and circumstances of each case.

Conclusion

Although a regulatory audit is intimidating, your cannabis business can best prepare for such an audit by aggressively implementing best practices, performing internal compliance audits, and keeping meticulous records. Remember, states that have legalized adult cannabis use, such as Washington, are under scrutiny by the federal government. Increased federal scrutiny puts pressure on states to enforce their local cannabis laws, and a key part of such enforcement is through regulatory audits. For all of these reasons, your cannabis business would be wise to plan for an audit by state regulators.

marijuana RICOWe’ve previously discussed several civil cases in Oregon where private parties sought to shut down cannabis grow operations under RICO (Racketeer Influenced and Corrupt Organizations Act), claiming that the grow was part of a criminal conspiracy that would drive down property values (see our RICO series here, herehere and here).

Today, we have an update on two marijuana RICO cases elsewhere the country, one in Colorado, and the other in Massachusetts.

Colorado: In a previous post, we discussed Safe Streets Alliance v. Alternative Holistic Healing, LLC, a case from Colorado. This case is notable because the 10th Circuit Court of Appeals has already issued an opinion addressing several key legal issues, giving the litigants the go-ahead to try their case. In dicta, the 10th Circuit noted that at trial, it was possible that a judge or jury would determine that the plaintiff’s land was actually more valuable because of its suitability for cannabis cultivation. Although the 10th Circuit’s opinion only technically applies in the states of Colorado, Kansas, New Mexico, Oklahoma, Utah and Wyoming, other trial and appellate courts will consider the opinion as “persuasive” authority, in other RICO cases.

This case is now scheduled for trial beginning in late August 2018. Assuming this case does not settle, and regardless of the verdict, the result will likely have far-reaching impact on potential RICO actions nationwide. As to the trial itself, many issues will be raised, from admissibility of evidence to expert testimony. One or more of those issues will likely be appealed again to the 10th Circuit. Future litigants are likely to use the trial record as a guide to bringing and defending these RICO cases.

Massachusetts: In Crimson Galeria v. Healthy Pharms, the plaintiff, a Harvard Square property owner, claims that Healthy Pharms, a neighbor and prospective cannabis operation, will diminish the value of plaintiffs’ property. As claimed in the lawsuit, “amongst other matters, marijuana businesses make bad neighbors, which include without limitation, emitting pungent odors, attracting undesirable visitors, increasing criminal activity, driving down property values, and limiting the rental of premises.” As with the Safe Streets case, one wonders whether suitability for cannabis sale actually increases the value of the land.

The lawsuit also alleges that local and state government agencies, including the state Department of Public Health and the city of Cambridge are “facilitating and encouraging violations of the federal drug laws by licensing and permitting marijuana businesses.” One of the plaintiffs’ claims is that the federal Controlled Substance Act (CSA) “preempts the practice of state and local officials in Massachusetts of issuing licenses to operate marijuana businesses.” The 10th Circuit addressed similar preemption arguments, ultimately finding that the plaintiffs had no claims on which relief could be granted. But Massachusetts is in the 1st Circuit Court of Appeals, and the 1st Circuit judges will not be bound by the Safe Streets opinion (although they almost certainly will consider it).

It is at least theoretically possible that the 1st Circuit could find differently than the 10th Circuit, causing a circuit split that would have to be decided by the U.S. Supreme Court. That would be a doozy.

Oregon RICO marijuana
This is not the racketeer you’re looking for.

In this series (Part 1, Part 2, and Part 3) we have been looking at two RICO cases filed in District Court in Oregon against cannabis producers. The first, McCart v. Beddow, appears to have settled pursuant to a confidential settlement agreement. The second, Ainsworth et. al. v. Owenby et. al., is just getting started. The common thread here is that the pro se (self-represented) plaintiff in McCart v. Beddow, is an attorney who is now representing the plaintiffs in Ainsworth.

Due to this common thread, we think we can draw some likely conclusions about the contents of the confidential McCart settlement from the issues raised in the Ainsworth complaintNote that the Ainsworth complaint was filed just about two months after the McCart defendants filed their motions to dismiss. As discussed below, it is clear that the Ainsworth complaint learned some valuable lessons from the motions to dismiss. Let’s engage in a bit of idle speculation:

Dispensaries can breathe a sigh of relief.

The McCart lawsuit named each and every OLCC licensed retailer that purchased the defendant farm’s product. In sharp contrast, the Ainsworth complaint doesn’t name any such “dispensary defendants.” Given that one of the goals of these RICO cases is to get a windfall under RICO’s treble damages clause, it is probably safe to assume that the McCart dispensary defendants didn’t end up being a pot of gold at the end of the RICO rainbow. Perhaps the attorney now agrees with our initial assessment: “It seems unlikely the Dispensary Defendants in this case had anything to do with operating or managing the enterprise. They appear to have merely been customers, in which case they shouldn’t have liability here.” This suggests that dispensaries are unlikely to be targets of future RICO suits based on the conduct of their suppliers.

The protections of ORS 30.936 (Right to Farm Act) played an important role in the McCart settlement negotiations.

As we explained in a previous entry in this series:

“ORS 30.936(1) . . . provides farmers in farming areas with immunity from suit for any trespass or nuisance claims, defined elsewhere as claims ‘based on noise, vibration, odors, smoke, dust, mist from irrigation, use of pesticides and use of crop production substances.’ Since RICO case law suggests that harms to property interests should be determined by state law, plaintiffs’ diminution of value claims are likely dead on arrival.”

The Ainsworth complaint takes pains to avoid the protections of 30.936. For example, paragraph 91 reads:

“Defendants are not entitled to ‘right to farm’ immunity pursuant to ORS 30.936 because Defendants’ use of the [Defendant] Property does not comply with applicable laws. For example, the [Defendant] Property is zoned ‘rural residential’ and therefore Defendants’ use of the [Defendant] property to produce and process marijuana commercially violates Linn County Ordinance 940.400(A) and 940.500(A).”

Plaintiffs are correct that Ordinances 940.400 and 940.500 appear to bar marijuana production on the Defendants’ property, but that only suggests that Defendants must have been grandfathered in when Chapter 940 (Marijuana Code) was adopted. Otherwise, they presumably would not have been able to receive state authorization to cultivate cannabis. If the Defendants’ use was grandfathered in, then the Ainsworth trespass and nuisance claims should still be barred by ORS 30.937, which extends the farming immunity to any “preexisting nonconforming use” as a farm.

Lessons Learned

Like with the McCart complaint, we can also analyze the Ainsworth complaint to draw some broader lessons for cannabis businesses that want to avoid similar lawsuits.

As quick reminder, we identified two initial lessons from the allegations in the McCart case:

  • Don’t be a jerk.
  • Control the odors.

Taking the allegations at face value, the Ainsworth defendants violated both of these rules. Like in McCart, there are (as yet unsubstantiated) allegations of harassment (although much less severe than in McCart). Also as in McCart, a major sticking point for the Ainsworth plaintiffs is the “unmistakeable skunk-like stench” that “pervades” the neighborhood, “stagnates” in the Plaintiffs’ yards, and “completely overpowers the gentle and pleasant scents of [one of] the [Plaintiffs’] flower gardens.” These lessons still clearly apply: Be a good neighbor, and control the odors.

We can pull a few new lessons from the Ainsworth complaint:

  • Avoid smoke. The Ainsworth complaint alleges that the Defendants regularly burned cannabis debris in their yard, causing smoke to trespass onto their neighbors’ property. Producers seeking to avoid similar lawsuits should think twice before lighting bonfires.
  • Limit noise. The Ainsworth plaintiffs complain of the noise caused by the industrial fans in the defendants’ greenhouses. Producers would be wise to take any reasonable steps to limit noise pollution.
  • Try to limit traffic. Both McCart and Ainsworth complained about the increased traffic caused by the cannabis farm at all hours of the night. It seems the ideal farm will have direct access to a major road instead of access through residential roads. Barring that, producers should at least try to limit after-hours traffic.
  • Don’t live next to a county commissioner. One of the plaintiffs is Linn County Commissioner John Lindsey. One would expect that Mr. Lindsey will recuse himself from any future attempts to rewrite Linn County’s cannabis ordinances.

The Ainsworth defendants have only recently lawyered up, so it may be a few weeks before we can see their answer to these charges. We’ll keep you updated.

marijuana oregon cananbis
Follow the rules or risk having to close your doors–permanently.

Recreational cannabis is highly regulated. In Oregon, the Oregon Liquor Control Commission (OLCC) is the agency tasked with implementing and enforcing the recreational cannabis rules. The rules are complex and frequently change (see posts on that here, here, here, and here) meaning compliance can be difficult even with the best of intentions. For that reason, marijuana businesses should set up a comprehensive compliance plan to avoid violating OLCC rules. But what happens when a rule is violated?

When the OLCC determines a cannabis business or its employee has violated a rule, it issues what is known as a “charging document.” The charging document will list what rule has been violated and the penalty the OLCC plans to assess. The rules identify six categories of violations. The categories identify different levels of egregiousness and the OLCC, while not required to assess a penalty, has adopted guidelines for the kinds of penalties cannabis businesses can expect:

Category I: These are considered the most egregious violation and can result in license revocation. These violations include things like failure to verify the age of a minor, intentional false statements made to the OLCC, or intentional destruction or concealment of evidence

Category II: These are violations that create a present threat to public health or safety and include things such as being under the influence of intoxicants while on duty or failure to permit a premises inspection. These violations can result in a 30 day suspicion of a license or up to $4950 penalty.

Category II(b): This is a special category reserved for the unintentional sale of marijuana to a minor. It results in either a 30 day license suspension or up to $4950 penalty.

Category III: These violations create a potential threat to public health or safety and include things such as allowing a minor to enter a prohibited area or permitting sales by an employee without a marijuana workers’ permit. Category III Violations can result in a 10 day suspension or a $1650 fine.

Category IV: These violations create a climate conducive to abuses associated with the sale or manufacture of marijuana items and include operating a business after lawful hours for the sale of marijuana or removal of required signs and notices. These violations can result in a 7 day suspension or a $1115 penalty.

Category V: These are the least egregious violations and include things such as permitting marijuana items to be given as a prize or failure to notify the commissions of temporary closure of a licensed business. Category V violations can result in a 3 day suspension or up to a $495 penalty.

The OLCC determines the proper sanction by taking into account the egregiousness of the violation, the number of violations in the past two years, and any mitigating factors. Mitigating factors include: (1) making a good faith effort to prevent a violation and (2) extraordinary cooperation in the violation investigation, demonstrating the licensee or permittee accepts responsibility.

If you ever receive an OLCC charging document, it is important to understand that the inquiry has only just begun. The OLCC charging document is not a final finding. The business has the opportunity to contest the charging document and request an administrative hearing. If the charging document alleges a category I or a category II violation, a written answer must be filed along with the request for hearing. The written answer requires more than just a general denial and should specify specific defenses to the allegation in the charging document. It is absolutely critical to make this submission timely, and to be comprehensive and persuasive in reply.

Contested case hearings are similar to trials but not quite as formal. The parties are allowed to be represented by attorneys. Evidence can be submitted and witnesses can be called to the stand. Administrative law judges (ALJs) preside over the contested case hearing. After the hearing is completed, the ALJ will issue a proposed order. The proposed order will include a evidentiary background and findings about whether the cannabis business has violated a rule. The OLCC will review and issue a final order. The final order either adopting the ALJ’s findings or rejecting the findings. The cannabis business can appeal the final order to the Court of Appeals. The final order will include information regarding appeal procedures and timelines.

Rule violations can and do occur. Cannabis businesses should have comprehensive plans in place to stay in compliance at all times. When a rule violation does occur, know that qualified attorneys can help you navigate the administrative hearing process.

washington marijuana cannabis
Big ups to Bob.

Washington State Attorney General, Bob Ferguson, appears ready to defend his state’s marijuana program against Jeff Sessions and Donald Trump. Last week, Ferguson spoke to the Columbian’s editorial board about upcoming challenges for the Evergreen State. Naturally, the topic of marijuana came up.

Ferguson stated that his office was prepared for a legal fight over marijuana legalization in Washington, although he said, “we hope it doesn’t come to that.” Due to recent actions by US Attorney General Sessions, however, it seems likely that it “could come to that.” If it does, Ferguson told the Columbian that he would not hesitate to act:

Hypothetically speaking, right, there could be a business that’s licensed in Washington state selling marijuana that’s following state law. Let’s assume they’re following state law to a T—that’s important—and the feds go in and try to shut that business down, they seize the marijuana or the proceeds. If in my view, we’ve got a legitimate business, playing by our rules here in Washington state and the federal government comes in to try to shut that down, we’d be interested in that.

Ferguson also said that he would be willing to get involved if the federal government takes any “adverse action” against a marijuana businesses compliant with state law.

Earlier in January, Sessions rescinded Obama era guidance regarding federal enforcement priorities for states that legalized cannabis and replaced with the single-page Sessions Memo. Now, US Attorneys across the country, like Washington’s Annette Hayes, are authorized to use their own discretion when deciding whether prosecute federal marijuana crimes in their respective states.

Prior to Ferguson’s interview, the Washington State Liquor and Cannabis Board sent out an email on behalf of his office asking for Washington residents to share “if they experienced a change in your business practices or customer relationships that you believe is connected to the Sessions Memo.”

Clearly, this issue has been on Ferguson’s mind for a while. In his interview, Ferguson also emphasized the fact that Washington repeatedly reached out to Sessions to discuss Washington’s cannabis law and policy. In each case, Sessions declined. Ferguson also pulled no punches in deriding Sessions for sending him and Governor Jay Inslee a factually inaccurate letter on Washington’s marijuana program, which failed even to acknowledge that the state had merged its medical and recreational programs:

I think the first thing he accused us of was not having a system that had combined our medical and recreational marijuana systems together, relying on that old report—but, of course, since that report came out, we had! To me that’s embarrassing that the US attorney general, on an issue of that importance, is writing a letter to a governor and attorney general of another state and he’s just got his facts wrong. That’s a problem, I think. I think this is a problem in trying to move forward on these issues.

Ferguson wisely said that he was not willing to discuss legal strategies, but acknowledged that a legal fight could center on “whether federal law preempts state law when it comes to marijuana.” Under the US Constitution, federal law preempts state law when the two directly conflict, but there are strong arguments by states like Washington that their adult use cannabis programs are not in “positive conflict” with federal law. We explained how that works here.

Washington has consistently proven that it is not afraid to challenge the Trump administration. Sessions brought great uncertainty to the marijuana industry, but Washingtonians should feel confident that their Attorney General will fight to protect the will of Washington voters. Hopefully, Ferguson never has to take up his promise, but it’s reassuring to know he is willing to do so.

california cannabis marijuana
State v. small growers: Who ya got?

The California Growers Association, which advocates for small and independent cannabis cultivators, recently sued the California Department of Food and Agriculture, the state agency charged with crafting and implementing cannabis cultivation regulations. The lawsuit stems from one of the biggest controversies in the state’s 2017 emergency regulations: a loophole in the licensing scheme that would effectively allow cultivators to set up mega farms by “stacking” unlimited small grow licenses. We discussed this precise issue at length at the end of 2017, and the matter is now the subject of legal challenge.

The gist of the lawsuit is that the CDFA’s failure to include a cap on small (5,001-10,000 square feet of canopy) cultivation licenses is inconsistent with MAUCRSA, the statute authorizing the CDFA to promulgate cultivation regulations. MAUCRSA generally prohibits large cultivation licenses (over 22,000 sq. ft. of indoor canopy or over 1 acre of outdoor canopy) until 2023, and limits medium cultivation licenses (10,001-22,000 sq. ft. of indoor canopy or up to 1 acre of outdoor canopy) to one per person for five years. The CDFA regulations contain no such cap on small cultivation licenses. Because the lack of a cap would essentially allow growers to do what they would otherwise be prohibited by statute from doing until 2023—i.e. cultivating more than 1 acre per person—the plaintiffs contend that the regulations are inconsistent with the statute, and that judicial intervention is needed to make them consistent by limiting total license issuance to one acre per applicant. It also bears mentioning that the state’s own environmental report recommended allowing no larger than one acre of cultivation per licensee.

Under California’s Administrative Procedure Act, one basis for challenging agency rules—and the grounds utilized by the plaintiffs here—is consistency, which is defined by the statute as “being in harmony with, and not in conflict with or contradictory to, existing statutes, court decisions, or other provisions of law.” If the CDFA regulations conflict with or contradict MAUCRSA, they are subject to challenge. However, the plaintiffs are not asking the court to invalidate the regulations altogether—only to limit small cultivation licenses to an aggregate of one acre per applicant.

Supporters of the CDFA’s approach would argue that MAUCRSA’s notable absence of a cap on small licenses, alongside explicit caps on other types of licenses, would suggest that the regulations’ reflection of that same approach is actually consistent with the statute and with legislative intent, and not the other way around. And in any event, it’s not clear what effect, if any, a short-term limitation on small grow licenses would have on market prices and competition. It remains to be seen how stringently the state will enforce regulations such as the track-and-trace program aimed in part at excluding illicit supply from entering the market (California already had an oversupply problem even before Prop 64 was passed). It’s also an open question as to how discerning consumers will be for variations in quality and speciality strains (i.e. how fungible farmed cannabis will be). It’s also unclear what effect excessive taxation might have on demand for licensed cannabis and whether consumers may be drawn to the illegal market (which is already rife with illicit mega farms).

Whichever way the CGA’s lawsuit goes, the outcome is sure to impact cultivation licensing in California and business planning for growers, but it’s not clear how much of an effect it will have on overall market demand for cannabis one way or the other. Regardless, this case is an interesting one to keep an eye on as the first substantial legal challenge to the state’s new cannabis regulations.

california cannabis
Pro environment? Or just anti-cannabis?

As we’ve discussed time and time again, California’s voter-passed cannabis legalization initiative, as well as all subsequent statutory and regulatory additions to that law, maintains local governments as the ultimate arbiters of whether and how commercial cannabis operations can take place within any given county or municipality in the state. The most prominent exercise of that authority exists through local permits and licenses (which are now a prerequisite for any state license), and land use laws, such as zoning ordinances. The starting point for any property owner considering a cannabis use on the property is the applicable zoning law and the local ordinance on cannabis, if any. Recently, property values in appropriately zoned places have appreciated accordingly.

But as the new laws are implemented, we are seeing the limits of local authority when it comes to zoning for cannabis operations. In one recent example, a group advocating for a moratorium on marijuana in San Mateo sued the County of San Mateo for opting to issue a “negative declaration” stating that its new cannabis ordinance would not have any significant impact on the environment, rather than engaging in the more rigorous option of preparing a full environmental impact report to study the effects of the proposed activity. The ordinance generally prohibits all cannabis activity except cultivation in greenhouses and transportation.

The plaintiffs in San Mateo brought the lawsuit pursuant to the California Environmental Quality Act (“CEQA”), alleging that “the county prejudicially thwarted CEQA’s statutory goals, including environmental protection, informed decision-making and informed public participation.” According to NORML, the plaintiffs are an anti-cannabis group.

CEQA requires environmental review of discretionary projects to inform the public and government decision makers of the environmental consequences of their decisions and must be interpreted in such manner to afford the fullest possible protection to the environment within the reasonable scope of the statutory language. Unless exempted, all discretionary projects must receive environmental review pursuant to CEQA.

Under CEQA, the “lead agency”—the public agency principally responsible for approving a proposed project, in this case the County of San Mateo—is responsible for preparing the environmental documents for a project, including any negative declaration or environmental impact report (EIR). If a project is not exempt from CEQA, the lead agency must prepare an initial study to determine whether the project will have a significant impact on the environment, or skip the initial study and conduct an EIR if it is obvious that an EIR is required.

A negative declaration, as opposed to an EIR, is appropriate in two situations: (1) when there is no substantial evidence that shows that the project may have a significant impact on the environment, or (2) the initial study identifies potentially significant impacts, but revisions made to the project before public review of the negative declaration reduce impacts to a level of insignificance. Before approval of a negative declaration, the lead agency must find that there is no substantial evidence that the project may have a significant effect on the environment.

An EIR must be prepared if a project is not exempt from CEQA and does not qualify for a negative declaration. Generally, an EIR is required whenever it can be fairly argued that substantial evidence indicates that the project may have a significant impact on the environment. CEQA allows plaintiffs to sue public agencies for failure to comply. Plaintiffs can challenge a public agency’s decision to prepare a negative declaration instead of an EIR (like the San Mateo case), or a public agency’s determination that a project is exempt from CEQA, among other things.

CEQA litigation is rampant, and public agencies and developers alike are critical of its abuse by NIMBY groups and others who may bring an action for an improper purpose. For example, a competitor may file a CEQA lawsuit to delay or derail a competing project, or a labor union might file a CEQA lawsuit to secure an agreement that gives that union control over which project jobs will be allocated among which unions.

While public agencies, rather than private businesses, are ultimately responsible for determining how to proceed under CEQA, operators and developers should be mindful of the potential delays to their projects that could result from challenges brought by CEQA plaintiffs, and to pay close attention to any objections raised against the draft environmental document during the government approval process, which is a requirement for standing to bring a lawsuit under CEQA and could signal future legal challenges to the project. By the same token, cities and counties should be mindful of the high bar they will have to meet for any decisions involving potential environmental impact, and to plan accordingly by doing a thorough environmental review as part of the approval process for any cannabis-related proposals.

In some ways, CEQA challenges can be seen as part of the California cannabis regulatory regime’s rite of passage into public life, just as any other California industry has to contend with. But this is also an opportunity for California’s state regulators and local agencies to get it right and set an example for other states, and to show how the environmental damage caused by prohibition-era operations can be successfully mitigated with robust regulation and implementation of environmental standards. Until then, we expect to see more lawsuits brought by anti-cannabis and NIMBY groups using CEQA as a tool to challenge cannabis projects throughout California.

cannabis marijuana intellectual property
It can be tough to decipher who owns your cannabis business IP, if you don’t write it down.

An important question for any cannabis business is: who owns the company’s intellectual property (IP)? The easy way to answer this question is to work it out before any dispute. The much, much harder way is to litigate. As noted in a famous oil filter commercial, “You can pay me a little now. Or you can pay him a lot later!”

The two most common situations where IP ownership disputes arise in a marijuana business are between the owners of a company, and between the company and its employees. Here are some tips on how to handle each situation.

IP ownership in an entity: IP is a capital asset of a cannabis company, and like all other capital assets, e.g., grow equipment, real property, office furniture, software, etc., should be owned by the cannabis company itself, as provided in the entity operating agreement. Issues can occur, however, when the entity wants to use IP that is already owned by a member/owner of the entity.

In particular, many operating agreements provide that a member contributes her IP as initial capital. There is nothing wrong with this, in theory. Intellectual property, like real property or other assets, can be contributed as capital provided that the operating agreement properly values and accounts for the asset. But problems can occur when the operating agreement does not legally transfer title in the IP to the entity. In such a situation, the “contribution” may be more like a license, which can be revoked. If the contributed IP is the primary brand name of the company, this could give the contributing shareholder undue leverage if she wants to withdraw from the entity after the company has built equity in the brand name. A significant number of operating agreements do not properly transfer title to the trademarks, copyrights, or patents that are being contributed. Without the appropriate transfer, this is a time bomb waiting to explode, in a courtroom near you.

IP ownership of employee creations: The conventional wisdom is that everything that is created by a company’s workers automatically belongs to the company as “work for hire.” While there is a federal copyright statute that refers to works for hire, the rules are much narrower than conventional wisdom suggests. This often causes conflicts between employers and employees about patents and copyrights, which in turn lead to litigation.

There is an easy way to avoid the work-for-hire minefield, called an employee IP agreement (“EIA”). An EIA is a written agreement that defines which creations are the employee’s, and which are the employer’s. For example, where a new employee has already created IP before her employment, the EIA could provide that the employee retains title to all disclosed preexisting IP, but is required to assign any future IP created in the scope of her work to the employer. EIAs also often address creations done outside of the workplace or outside of the scope of employment, and may provide for invention bonuses or other incentives. The key is that the EIA allows the parties to define their ownership of worker creations, without having to rely on the limited default rules that exist in federal and some state law.

***

IP ownership agreements: don’t leave the dispensary without one! For parts 1 – 3 of this series, check out the following:

Cannabis Litigation Webinar
Join us next Thursday! Should be fun.

Next Thursday, January 11, Harris Bricken will present a FREE lunch hour webinar on marijuana litigation. Please click here to sign up.

Harris Bricken’s marijuana litigators in Washington, Oregon, and California have been handling cannabis disputes for years. These cases involve individuals, partnerships, corporations, and LLCs. Subject matter may cover business disputes, investment and financing, intellectual property, employment, landlord-tenant issues, and administrative actions. As the cannabis industry expands, litigation in these areas, as well as in new areas such as product liability and patents, will increase.

Cannabis cases are different than any other type of business litigation, and nearly every case has a federal law component. State legalization has also led to an enormous statutory and regulatory apparatus that cannabis businesses — and their lawyers — must navigate every day. To meet the needs of the cannabis industry, Harris Bricken has experienced and dedicated civil litigators in its Seattle, Portland, San Francisco, and Los Angeles offices, including Vince Sliwoski, Hilary Bricken, John Mansfield, and Will Patterson. These lawyers will speak on various topics, including:

  1. The state of cannabis litigation and emerging trends
  2. How cannabis disputes are different than disputes in other industries
  3. Disputes involving partnerships and other business entities
  4. Intellectual property disputes
  5. Product liability disputes
  6. Federal law issues
  7. Employment disputes
  8. Remedies in cannabis lawsuits
  9. Ways to avoid cannabis litigation

If you are in or around the marijuana industry, understanding business disputes and how to avoid them is critical. And if you are unfortunate enough to find yourself in a dispute, you need advisors experienced in handling these issues. We hope you will join us next week for a lively panel discussion on this important topic. Go here to sign up, and bring your questions.

Until then, here is a healthy list of articles regarding cannabis litigation: