Cannabis Mergers and Acquisitions: Preparing for Success

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The cannabis industry in California in 2018 is still finding its feet on many fronts – with both a regulatory framework and a banking solution being very much under construction. As these normalize, companies will establish their business metrics and get a firmer idea of the size of their opportunity, and then naturally increased M&A activity will follow, as has been the norm in other states, like Oregon and Colorado.

There’s a strong argument to be made that the M&A market for cannabis ancillary technologies will be very active in coming years, with companies having tremendous opportunities for exits at high valuations relative to their business metrics. Certainly those companies that create technologies and prove business models now stand to gain from future expansion in legalization of adult use, and any future, positive change in federal policy. With a few exceptions, such as Constellation Brands (makers of Corona) buying a minority stake in a Canadian medical cannabis company, almost all large U.S. companies cannot be owners in the cannabis industry, meaning the future acquisition of established companies is likely to be at a premium.

M&A activity for direct operators will continue to be driven by regulatory concerns, including local ownership requirements, political pushback against widespread “big marijuana” acquisitions, and the transferability of underlying permits and licenses. State licenses are not transferable in California, or Oregon, and if other states follow this model, then acquisitions are unlikely to be a primary means to achieving scale for direct operator businesses.

Preparing for M&A Opportunities: Get Your House In Order Now

The M&A diligence process is notoriously comprehensive, invasive, and painful – an acquirer is not only confirming the business assets and backing up the numbers, but just as importantly they are trying to avoid acquiring any liability or future regulatory issues. Therefore, by taking the steps below, you not only minimize the pain of any diligence process, but you also get out ahead of any the issues, and even without M&A on the horizon, you’ll never regret paying more attention to organization and compliance in your business. Here are some steps you can take now to best prepare for future M&A:

  1. Create a Secure Data Room. Include everything a potential acquirer wants to see: business and financial records, tax records and all government filings, equity ownership documents including vesting details, key business contracts, contracts with employees, and all agreements with investors. With all this data, did we mention that it must be secure? Look for a provider with encrypted transmission and two-step authorization, and limit those who have access.
  2. Standardize key contracts, and contemplate M&A Scenarios. If your business depends on key contracts with partners, suppliers, distributors, key customers, etc., and those contract all contain a strict “no assignment” clause, then your desirability as an acquisition target will be severely diminished.
  3. Tie Up Loose Ends and Prepare for the Disclosure Schedule. M&A can be a delicate scenario, and a surprising percentage result in disputes – in my experience, 90% of M&A disputes stem from an undisclosed issue of the target company. Hence, the disclosure schedule, which will list every known issue – the company’s key contracts, financing arrangements, and every claim threatened or brought against the company. Therefore, any claims should be resolved prior to the transaction, if at all possible, and all others will need to be disclosed.
  4. Get a Chief Compliance Officer and Document their Work. We’ve written previously about the work of a Chief Compliance Officer, and although it’s a more primary concern for direct operators, even ancillary business should maintain in strict compliance with applicable state laws.

M&A Consultants – Some are Great, Some are Useless, and Some are Downright Dangerous

The cannabis industry, as a whole, is experiencing an explosion of industry-focused consultants, whose levels of competence run the gamut. As an industry still in its infancy, the consulting market hasn’t yet matured, to weed out the bad actors through reputation or elevate the best firms. I regularly hear from clients that past consultants added zero value or (worse yet) badly mismanaged aspects of their business. Also, remember that consultants are not bound by the same ethical rules as attorneys, for example, concerning confidentiality and conflicts of interest.

So for consulting services in 2018, it’s very much buyer beware, and you should assume no level of competence until competence is demonstrated. If you are hiring an M&A consultant – consider that because so few large-scale cannabis M&A deals have been successfully consummated to date, you may be better served to retain a top M&A consultant that services businesses generally, and then rely on your excellent cannabis-focused attorneys (*ahem*) to guide you on all of the cannabis-related aspects.

Finally, if you have your house in order as described above, you may have much less of a need for an M&A consultant and a much smoother time through the M&A process. Ultimately, that’s what it’s all about.

For more on cannabis company acquisitions, see:

Source: https://www.cannalawblog.com/cannabis-mergers-and-acquisitions-preparing-for-success/

 

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