Memo to would-be cannabis entrepreneurs: Be diligent

Any growth industry is sure to have its bad actors

As marijuana and CBD hit the mainstream and more jurisdictions legalize cannabis for recreational and/or medical use, opportunities for intrepid entrepreneurs will continue to multiply. But as with any growth industry in its nascent stage, the cannabis business is sure to have its share of opportunists —unsophisticated investors, bad actors and just plain liars — all looking to make a quick buck. So entrepreneurs looking to enter the fray need to do their homework and surround themselves with the right teams, including counselors and advisors.

 

If It Was Easy, Everyone Would Do It

Starting any type of company is no small task and launching one in a relatively new space is doubly difficult. So how can the players be discerned from the pretenders? Two words: due diligence.

Before recruiting advisors or approaching anyone with investment opportunities, find out who the major participants in the industry are and confirm that they’re the real deal. Next, develop relationships with the heavyweights who can help move the needle in terms of your business plan.

Remember that when raising cash, each and every source of capital should bring something to the table that can help move your company forward. Obtaining investment proceeds solely for the purposes of a “cash grab” can be a risky proposition. Investors who may not share your business philosophy could ultimately become problematic. In fact, providing a significant shareholder vote to a party that doesn’t share your vision could create management issues that’ll doom your operation right from the start.

 

Money, Money, Money

Believe it or not, there is such a thing as bad money, which is why you must be discerning and lean on reputable advisors. Leveraging the expertise of people within the cannabis and CBD space can be vital to guiding company growth. In 2018, venture capitalists invested approximately $881 million in close to 150 deals — that’s twice the 2017 number.

Honing in on those on the receiving end of these deals would be a good idea. How? Be active at trade shows, read industry publications and understand where VC money has gone and who has invested it. It’s also helpful to get to know other CEOs who’ve built profitable companies. Oftentimes, they’ll have valuable insight into cannabis investors who are trustworthy and notable.

 

Your Reputation Matters

If you’re a sought-after entrepreneur — one with many interested financial suitors — it’s easy to feel like the “belle of the ball” during startup. But even if money is being thrown at you, tread carefully and be transparent. Companies with a reputation for lacking transparency or for overpromising and underperforming won’t be tolerated for long.

For instance, failing to provide diligence items over the span of a negotiation and leaving them to be discovered by potential investors after the fact may render those investors underwhelmed and ultimately distrusting. And even if an investment closes despite any perceived deceit, your behavior sets the stage for challenges to your management down the road. It’s best to over-disclose when negotiating investments.

In addition, you should strive to associate your company with other success stories and highly regarded people within the industry. By doing so and by tapping into the network of legitimate, already existing investors and advisors, you can raise capital while preserving your company’s good citizenship. To that end, complete candor with investors and advisors is crucial, especially in the early stages, as is having all interested parties sign confidentiality agreements.

One last thing when it comes to early-stage investment: manage expectations. During the infancy of your business, offer investors cogent, straightforward analysis concerning your operations and provide a plan going forward. This is particularly critical if you aren’t profitable yet.

 

Lawyer Up

The law as it pertains to cannabis and CBD is unpredictable, which may give potential investors a bit of pause. An unfortunate reality of the business is that marijuana and some forms of CBD remain illegal federally and in certain states. That being said, the undeniable trend is toward legalization. For the American public, the genie is out of the bottle. Nonetheless, any business — yours included — exists under the current law, as does your business plan.

For this reason, it’s important to stay abreast of related laws and regulations — current and pending — and to understand how they can impact your operations. When interfacing with investors, highlight potential legal threats to your business and hash out your plan to deal with them. In this regard, it’s essential to build a team of trusted advisors, including legal counsel. Many lawyers are jumping into the cannabis arena, but their expertise varies, so choose wisely. A good attorney will help you navigate the regulatory and legal landscape, identify potential legal challenges and shield your business from liability.

 

Peter Cifichiello is a business lawyer at Michelman & Robinson, LLP, a national law firm with offices in Los Angeles, Orange County (California), San Francisco, Chicago and New York City. He specializes in commercial transactions such as mergers and acquisitions, licensing and other corporate and financing deals. He can be contacted at pcifichiello@mrllp.com.

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