As the cannabis industry continues to grow in the United States and globally, those in the industry must have strong contracts prepared. Whether a cultivator, manufacturer, or dispensary owner, cannabis businesses must operate with adequate legal protection.
Our experienced cannabis lawyers can help you understand 1) what kinds of contracts you need and 2) help provide you with strong contracts to protect your business.
What types of contracts do cannabis businesses need?
Understanding the types of contracts associated with the cannabis industry and what provisions should be addressed in such contracts is a good place to start. Cannabis business owners should avoid using template contracts or contracts that are pre-written and widely used. The cannabis industry has strict regulations that require agreements to be very specific to adequately protect business interests.
Contracts relating to cannabis operations will not work in every state and may even be disregarded across city or county lines. For the best outcome, it is essential to have an experienced lawyer prepare and review customized agreements.
Types of Contracts in the Cannabis Industry
One of the first steps to take when preparing your cannabis agreements is deciding if your business will be operating as a corporation, limited liability company (LLC), or a form of a partnership, such as a limited partnership or a general partnership.
Though some may find an LLC easier and better to protect their personal assets, others may take the corporation route if they have separate assets from the company and its investors. No matter what cannabis entity you form, the company will need to be registered in the state where it wishes to transact business.
Operating Agreement and Bylaws
Another contractual element needed in forming a cannabis business is the operating agreement for an LLC or the bylaws for a corporation. The operating agreement acts as an owner's manual detailing the business's rules and regulations while it exists.
While many formation documents remain the same from the creation of your business, the operating documents typically evolve as the business and industry evolve. These documents must explicitly explain:
- Membership and ownership of the business
- Rules and responsibilities of members, managers, and/or shareholders (depending on the entity type)
- Voting procedures
- Membership or Share Transfers
- Operational Concepts
- Expenses and Capital Account Maintenance
Third-Party contracts are very common in the cannabis industry. Like many third-party agreements, these contracts involve bringing in an outside party, such as a vendor, to help one of the parties fulfill their contractual obligations. Cannabis businesses that are new to the industry need to be sure that they have third-party contracts prepared to establish the relationship with the third-party in writing and list the obligations of the outside party.
Some key elements of third-party contracts are ensuring the third party:
1) Understands its role in the business,
2) Represents and warrants that it is capable of fulfilling that role, and
3) Indemnifies you and your business for any breach of the contract or breach of its representations or warranties.
High-Risk Third-Party Vendors
When doing business with third-parties, be careful with who you select as your vendors and ensure that your contracts protect you. Some high-risk third-party vendors include:
- Material suppliers for packaging;
- Solvent suppliers;
- Cannabis manufacturers; and
- Celebrity endorsers.
This is just a short list of potential vendors that could cause issues if you don't have the right contracts in place. The first step you should always take when engaging with third parties is to 1) identify potential risks and 2) include provisions in your contracts that protect you from those risks.
While a contract cannot always protect you from liability if something goes wrong, it is crucial to have one in place as the first step for protection.
Non-disclosure agreements (NDAs) are often the first form of protection included in contracts when business owners are looking to preserve the secrecy of consumer data or other business information. NDAs ensure that certain information will remain confidential.
NDAs are binding, and the parties signing the agreement must acknowledge that they are prohibited from sharing confidential information with non-authorized users. Disclosing confidential information despite signing an NDA qualifies as a breach of contract, and the affected party will have the right to bring the action to court.
Most cannabis business contracts will include some confidential information. If so, it is important to have an NDA drafted to protect your business better or to have anyone with access to this information sign a separate NDA.
Intellectual Property Protection
Along with an NDA, you may want to have additional IP agreements to ensure you protect your business' IP. Generally speaking, intellectual property (IP) is an intangible product owned by a company or individual protected by law from unauthorized or outside users. IP can add substantial value to a business. A company will need to understand its intellectual property better so that the company can better protect its value.
IP can include trademarks, branding, logos, social media accounts, and other forms of intangible property that help your business prosper.
Trade secrets are another form of IP rights that can be sold or licensed.
Cannabis growers can benefit from protected trade secrets in many aspects of their business. This includes keeping certain strains and formulas for cannabis and their methods and financial practices as a trade secret. Such information in confidence and protection can allow the cannabis industry to maintain a more successful business.
The first step in protecting trade secrets is to identify them. The process of evaluating IP can be long and complicated and will require time, effort, and experience in the process.
Lease agreements for cannabis businesses are crucial for shielding owners from liability. Even if the business owner owns the land or real estate where they operate the company, a strong lease agreement will protect the property and the owners from liability from the business' failures or if someone sues the business.
Though employment agreements only come into play when you've grown enough to hire employees, it is important to be prepared for that growth. An employment agreement is crucial for those you bring on full-time, NOT as an independent contractor.
Cannabis companies can finance their business in many ways. When you are looking for a loan, an investment, or sale-leasebacks, ensure that all financing agreements explicitly lay out the rights of the business owners and the person or entity providing the capital.
As the cannabis industry continues to experience steady growth and a shift to larger businesses wanting to acquire smaller corporations to expand their companies, M&A deals have become more prominent. Many parties will want to ensure that the agreements made while discussing the contract and signing the contract will remain the same at the time of closing.
Other Key Aspects of Contracts
While cannabis contracts are a bit complex and precarious, there are essential key elements of these contracts that should always be included:
- Dates: Dating the agreements seems obvious but is often left out of cannabis agreements. Defining the "effective date" of a contract will clarify the transaction and avoid confusion in the future regarding when the parties' obligations are to begin.
- Recitals: Also known as the contract's preamble, recitals are often seen as an unnecessary contract component. However, the parties should always include these recitals as they describe the purpose of the contract and the parties intent. The recitals set a clear picture of the background of the agreement.
- Defining Terms: Defining the terms of the contract is just as important as the effective date. Parties will need to know when their obligations under a contract are to end and any key milestones. Additionally, the contract should include provisions for renewal and may want to refer to the terms and conditions before deciding to renew. Many cannabis contracts make the mistake of leaving contracts open-ended, leading to confusion and potential conflict in the future.
- Representations and Warranties: Representations and warranties are important reassurances for all contracts. However, as the industry grows, they have become especially important in cannabis contracts. Standard clauses in a cannabis-related contract can include an agreement to represent and warrant enforceability of the contract under applicable law, that the parties can enter the deal, and/or representations regarding their products or services.
- Everything in Writing: It is vital to ensure that all contract elements are in writing. This will also include how the parties will agree upon changes and amendments. While verbal changes can be legally enforceable, oral agreements can lead to complications that agreements in writing avoid. For the further success of your cannabis business contract, make sure you agree upon changes and any other terms in writing.
- Dispute Resolution: Including a dispute provision in a contract will save both parties time and money. Failure to include a dispute resolution clause in a contract often can lead to lengthy and costly litigation. Including a mediation or arbitration clause can lead to a better outcome than litigation in case there is a dispute.
- Notice: Notice provisions will also help parties avoid conflict in the future. In case of a dispute, notice provisions provide information on how the parties are to receive information regarding contractual matters. The notice provisions will provide information such as how the notices should be formatted and addresses or other ways in which the notices can be sent.
- Do Not Use Templates: As mentioned earlier, cannabis business operators should avoid pulling contracts from google. Templates and other pre-written agreements will not work in the cannabis industry due to the complexity of its rules and regulations. Furthermore, not all states accept all contracts due to the Controlled Substances Act. This Act prevents cannabis production and legalization from being recognized on a federal level. Each state and even city has different laws governing the legalization of marijuana. Therefore, contracts need to be prepared specific to states' laws in which the entity will conduct business.
This non-exhaustive list of cannabis contract basis and cannabis contract types is just the start of exploring cannabis contracts.
Contracts in the cannabis industry can be complicated, and preparation will require expertise. If you have any questions, contact our team today for a free consultation.
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