Our cannabis business lawyers have recently been making the rounds with our many and varied cannabis clients in Oregon, Washington and California, and creating an inventory of which businesses have executed operating agreements (in the case of an LLC), shareholder agreements and bylaws (in the case of a corporation) and the odd partnership agreement (in the case of a limited partnership). Too often, we learn that a business may be operating informally, against advice. Because many cannabis entrepreneurs are used to operating informally, we tend to push this conversation pretty hard.
In all 50 states, companies are subject to statutes that govern their members and shareholders, directors and officers. These laws tend to cover basic provisions like what happens when a company is dissolved administratively or judicially, or what duties an owner may owe her co-owners, and even the company itself. Sometimes, people are surprised to learn about default rules that give all members equal management rights, or require unanimity for certain key actions. The default rules almost never cover issues unique to the company, like ownership percentages or contributions of capital, to name just a few.
Whenever two or more parties own a business, lack of basic documentation is dangerous, and this is especially so for cannabis businesses. People inevitably develop their own ideas as to “what the deal was.” When disputes happen, there may be nothing to fall back on but text and email fragments, or fuzzy recollections of who said what, and when. No one can point to a governing framework; no one can point to a clear way out.
There are several reasons parties ultimately fail to execute company documents, but here are the big three:
- It’s an expense. Resources may be limited at the start of a business venture, and the parties feel that company documents can be negotiated at some later date.
- It’s confusing. People may not understand basic concepts like capital account protocol, member withdrawal, drag- or tag-along rights, or any number of standard entity considerations.
- It’s uncomfortable. People may be averse to negotiating “against” their partners, particularly at the outset of a business venture. Or people may just feel nervous signing a formal agreement, despite the fact that they are running a business.
None of these reasons are good ones, and spending some time and money at the outset of a business venture to get things right will almost always pay off in the end. The compilation of company documents does not necessarily need to be a great expense: many cannabis companies are lightly structured to start, though others opt for complex tiers of ownership and highly nuanced management. Still, parties can often agree to basic documents without each owner hiring her own attorney or becoming mired in intractable negotiation.
A skilled cannabis business attorney will be able to walk the parties through the early steps of entity formation, explain unfamiliar terms, and facilitate conversation about what you should do and what you should not. In cannabis, each state presents unique rules on business ownership and licensing, and it is imperative to address the implications of federal illegality on company structure up front. If you are operating without agreements in your cannabis business, you are courting risk and conflict. And if your ownership or operations have changed since the time you first put ink to paper, it’s time to dust them off and have a look.