On January 16, 2019, the California Office of Administrative Law approved final cannabis rules for the state.
We’ve kept our eye on this process at Highroad and weighed in during the public comment period on behalf of our clients and our perspective on the best regulation for the industry and consumers overall.
Now that the rules are approved – and in effect immediately – here are our perspectives on some of the changes.
Cannabis delivery to all jurisdictions in California
New rules now clarify that deliveries may be made to homes in areas where the local municipality has banned commercial cannabis sales. MAUCRSA has always included language stating that local governments “shall not prevent delivery of cannabis [goods] on public roads” by a licensee. However, Prop 64 included language that stated local governments had authority to ban adult use cannabis businesses within their jurisdiction. The state’s new rules now clarify that it intends to honor MAUCRSA and states that deliveries can be made to “any jurisdiction within the state.” Local governments and the League of CA Cities oppose the rule, arguing that it would override local control over cannabis operators. We anticipate that if the legislature does not clarify their intent, the issue will be fought in court.
Changes in definition of ownership
Now, in addition to anyone with 20% or more in equity, the board of directors, the CEO, and anyone or any entity that exercises any direction, control, or management over the licensee, is also an owner. Any individual or entity merely entitled to profit share at or more than 20% is also an owner. This calls into question though how the BCC plans to treat things like cashless options and profit-sharing plans that have no immediate entitlement to ownership in or profit sharing with the licensee. Further, there is no spousal disclosure requirement, meaning it is uncertain whether a spouse will also be considered an owner. The BCC has been silent on all of the foregoing meaning these new revised rules may actually incentivize people to be even more “creative” in order to avoid owner (and financial interest holder) status.
Now even lawyers, cannabis consultants, landlords, brokers, salespersons etc. who take a share of the profits of a cannabis business will now have to be disclosed as financial interest holders under the new rules. The change in definition also means the BCC will sort through all types of corporate structures to get to the individual persons providing the capital or profit sharing with cannabis businesses. This means that investors wishing to distance themselves from cannabis operations will end up being disclosed to the state.
“When an entity has a financial interest in a commercial cannabis business, then all individuals who are owners of that entity shall be considered financial interest holders of the commercial cannabis business. For example, this includes all entities in a multi-layer business structure, as well as the chief executive officer, members of the board of directors, partners, trustees and all persons that have control of a trust, and managing members or non-member managers of the entity. Each entity disclosed as having a financial interest must disclose the identities of persons holding financial interests until only individuals remain.”
Sale of cannabis licenses
Cannabis businesses wishing to sell their state cannabis licenses will have to endure a long buy-out process because the new regulations require the operation to completely shut down while the state processes a complete change in ownership. However if at least one owner remains on the license, the operation can continue to run during the state review process for any new owners. This means that the M&A process will become riskier, because buyers will want the cannabis business to remain operational during any M&A transaction, meaning at least one of the original selling owners must remain on the license until the state clears the new owners. Only after the new owners have been cleared will the remaining original owner be able to transfer the remaining equity in the cannabis business.
New cannabis packaging requirements for California
There are new CDPH packaging and labeling requirements for manufacturers to become compliant with. However, there is no existing grace period for manufactured cannabis products in retail stores right now that have been packaged/labeled according to the Emergency regulations. For example, some products now must have the universal symbol on both the outer packaging and the product container itself if that outer packaging is “separable” from the product container. What makes this even more complicated is Retailers now cannot sell products that are non-compliant with the permanent regulations, again creating uncertainty on what is supposed to happen to all the products currently on the shelves.