Cannabis licensing is an incredibly complex process, and ownership disclosure is a key part of the puzzle. But ownership in California cannabis isn’t as straightforward as being the parties who put money or time into the business to earn ‘equity’. Instead, ownership in cannabis – for the purposes of licensing – contemplates operational control as well as equity and entitlement to profits. In this blog post, we’ll explore scenarios that might trigger ownership disclosure obligations in the cannabusiness sphere:
Definition of a cannabis license owner under California law.
Under section 5003(b) of the Bureau Of Cannabis Control Text Of Regulations:
“Owner” means any of the following:
(1) A person with an aggregate ownership interest of 20 percent or more in the person applying for a license or a licensee, unless the interest is solely a security, lien, or encumbrance.
(2) The chief executive officer of a nonprofit or other entity.
(3) A member of the board of directors of a nonprofit.
(4) The trustee(s) and all persons who have control of the trust and/or the commercial cannabis business that is held in trust.
(5) An individual entitled to a share of at least 20 percent of the profits of the commercial cannabis business.
(6) An individual who will be participating in the direction, control, or management of the person applying for a license. Such an individual includes any of the following:
(A) A general partner of a commercial cannabis business that is organized as a partnership
(B) A non-member manager or managing member of a commercial cannabis business that is organized as a limited liability company.
(C) An officer or director of a commercial cannabis business that is organized as a corporation.
When Cannabis Investing Triggers Ownership Disclosure
In some cases, the regulations draw a clear line as to whether an individual’s contribution to a cannabusiness makes them an owner. In the case of investors providing funds in exchange for equity, that line is drawn when their aggregate ownership in the company reaches 20%.
The line is less clear, however, where the investor owns a less than 20% stake in the company, but also participates in the direction, control, or management of the licensed owner. Oftentimes, angel investors or VC firms will offer executive and high-level assistance to founders, since it’s in the investor’s interest to help the company survive and/or thrive. In this case, cannabusiness investors should be careful to ensure the wording of the term sheets and the amount of actual control they possess doesn’t trigger ownership disclosure obligations, unless they are willing to submit to that extensive disclosure.
It is important to note that investors in cannabis businesses are subject to disclosure as ‘financial interest holders’. This is limited in comparison to the ownership disclosure but it is, nonetheless, important to complete it in a timely manner.
The Issue of IP Licensing & Cannabis Ownership Disclosure
There are situations where intellectual property (IP) agreements could trigger ownership disclosure requirements under California law. This scenario comes up most frequently where a non-licensed cannabis brand engages a licensed manufacturer to create branded cannabis products for them. The non-licensed brand will typically want to exercise a certain amount of control over how the products are made. However, it is possible that the ownership disclosure rules could be triggered since there is control being exerted.
To avoid the non-licensed brand from being considered an owner, the relationship must be carefully structured in a way that minimizes the control the brand can exercise over the process – on paper and in practice.
Of course, the brand will need to be declared an owner if it is going to take 20% or more of the profits, and for amounts of 20% or less, it will need to disclose as a financial interest holder. To prevent this, the brand would need to avoid profit sharing or other performance based payment schemes.
Consequences of Failing to Disclose Cannabis Owners
The potential consequences of failing to accurately and timely disclose owners and financial interest holders in a cannabis business are significant. While we are yet to see enforcement in this sphere, regulatory attorneys in California cannabis almost universally expect it to come. When it does, the penalties may range from suspensions or fines through to revocation of the license. It’s also possible that the undisclosed owner or financial interest holder could be subject to personal liability for the failure to disclose their interest.
If you are uncertain about whether your commercial agreements impact the ownership disclosure obligations for your cannabis business, get in touch. CGL’s regulatory attorneys routinely review documents to ensure they are appropriate for California’s complex cannabis industry. We’d be happy to help!
The materials available at this website are for informational purposes only and not for the purpose of providing legal advice. You should contact your attorney to obtain advice with respect to any particular issue or problem. Use of and access to this website or any of the e-mail links contained within the site do not create an attorney-client relationship between CGL and the user or browser. The opinions expressed at or through this site are the opinions of the individual author and may not reflect the opinions of the firm or any individual attorney.