By Luke K. Stanton & Jeffrey D. Welsh
Legal cannabis is the fastest growing industry in the United States, with $2.4 billion in sales recorded in 2014. The number is expected to reach $8 billion by 2019. With a population of nearly 40 million people and retail sales in the legal market projected to range from $3-$5 billion, California is the crown jewel of the cannabis industry.
The recent and historic passage of the Medical Marijuana Regulation and Safety Act signals the end of the Wild West in California. In order to understand how to run a successful cannabis business in California most effectively, it is of vital importance to understand the genesis of the current laws while considering the upcoming application and licensing processes, scheduled to begin January 1, 2018.
Legislative and regulatory history
On October 9, 2015, California passed a comprehensive regulatory framework for the cultivation, distribution, processing, transportation, testing, and retail of medical cannabis and ancillary medical cannabis products. However, the legislation does not envision the state considering applications and issuing licenses until January 1, 2018. As a result, for the next several years cannabis businesses in California will need to continue to navigate the current laws, which are an amalgamation of the 1996 Compassionate Use Act, the 2003 Medical Marijuana Program Act, the 2008 Attorney General Guidelines for the Security and Non-Diversion of Marijuana Grown for Medical Use, and relevant case law, in addition to local licensing, permitting, and zoning restrictions.
Keys to current compliance
Collective cultivation and distribution
Medical cannabis businesses must be properly formed business entities in order to a) have an effective affirmative defense in case they face criminal prosecution, and b) run a business in California while complying with all of the state’s non-cannabis rules and regulations.
There are a number of different corporate forms that collectives can take, but only one is listed as the preferred corporate form in the 2008 Attorney General Guidelines: the California Cooperative Corporation. Cooperatives have a flexible structure and some specific tax benefits. There are benefits and detriments to different corporate forms depending on the structure of your organization, so be sure to consult with an attorney or professional who specializes in the differences before making a decision for your business.
Operating without making a profit
The not-for-profit requirement of California medical marijuana law continues to confuse those looking at the industry from the outside. The Medical Marijuana Program Act of 2003 states, “Nothing in this section shall authorize…any individual or group to cultivate or distribute marijuana for profit.” Note that there is a difference between not operating for profit, and being formed as a non-profit corporation, which is typically done for favorable federal tax benefits, which do not apply here. While having the words “non-profit” in the name of your organization can be helpful in presenting a defense, it can be troublesome for business entities down the road, particularly when it comes to distributing assets or taking on investment capital.
Your collective corporation must operate without making a profit; however, members can be reimbursed for the services they provide, and your collective can pay for outside management services and other professional assistance from providers who do not cultivate or distribute cannabis, and who can make a profit. Make sure you have a skilled attorney or accountant who understands these issues and can help you properly structure your business to comply with this crucial requirement.
Closed-loop collective model
California law also requires a “closed-loop” collective model. A closed-loop collective model means no medical cannabis patient in California may legally distribute cannabis or cannabis products to anyone who is not part of their collective. This means there is no express provision allowing for business-to-business transactions or distribution under California law. Certain methods of compliant structuring combined with exacting accounting measures can provide some solutions, but these need to be done with painstaking care and an understanding of the various points of exposure that remain.
Business considerations
Running a medical cannabis business in California requires walking the tightrope between following specific compliance measures on one hand, and paying attention to traditional business considerations on the other. The following are some items to keep in mind:
Honestly evaluate your core competencies.
Ganjapreneurs are flocking to the cannabis world from all walks of life, and many have strengths developed from time spent in other industries. Identify the skills you bring to the legal cannabis marketplace, and focus on how you are going to add value to the market and monetize those skills. Be honest, even critical, in your assessment, and figure out how your particular strengths translate to the cannabis industry.
Build a strong team.
While great companies can be built from great ideas, the ability to execute will set your business apart. Your team dictates your ability to execute, and the people on your team are your business’s greatest asset. Great teams will outperform individuals in this market. This isn’t anything new or revolutionary. Look for opportunities to set ego aside and form strategic partnerships.
Evaluate the competitive landscape.
Know the players working on similar business ideas and projects in the space. We have repeatedly seen business plans without a serious analysis of the competitive environment. While we are working in an emerging industry, it is not a vacuum, and you will have to compete to survive. Do your research. Go to events, trade shows, and conventions. Read magazines like this one. Become an industry expert. Know the business you have chosen.
Understand compliance and keep track of regulations as they evolve.
The cannabis industry has a long history of criminal prohibition, and while the end of that prohibition is near, the importance of avoiding criminal liability remains paramount to your ability to work in the industry in the future. Make sure your business keeps pace with regulations as they develop, and find a qualified legal team to help you do so.
Luke K. Stanton and Jeffrey D. Welsh are principals at Frontera Law Group (FronteraLawGroup.com), which focuses on cannabis legal services, corporate formation, cannabis business development, and helping cannabis companies of all kinds succeed in capitalizing on the positive changes we see occurring in our country.
