Opinions expressed by Entrepreneur contributors are their own.
The cannabis industry has attracted many innovative entrepreneurs. And while they’re often skilled at everything from cultivation to brand-building, they aren’t always as knowledgeable about the business legalities and risks of running a cannabis company.
Related: 5 Best Pieces of Advice for New Cannabis Entrepreneurs
In other industries, entrepreneurs might have an MBA and build their business for years before it hits millions in annual sales. But in cannabis, an unseasoned entrepreneur’s company can rocket from zero to $10 million in its first year.
Unfortunately, less-experienced business owners don’t always grasp the level of attention to detail required in this intensely regulation-ridden category. As an attorney who’s advised cannabis clients on numerous legal matters, here are the top legal mistakes I see cannabis entrepreneurs make—and how to steer clear of them.
1. Doing business without written agreements
This misstep runs the gamut from not having an agreement with business partners to not having operating or shareholders agreements to lacking contracts with suppliers, vendors, or customers.
Myriad things can go wrong in any of these situations.
And while working without written agreements is possible, just because you can do something does not mean you should. Written agreements spell out exactly what each party’s expectations are and what they are promising to do, alleviating the uncertainty and conflict that comes with attempting to prove both the existence and veracity of oral contracts in court.
All it takes is one party deciding they want to take the business in a different direction, a partner who isn’t pulling their weight, or a founding owner leaving the company for the lack of written agreements to become problematic and acrimonious. Even if people don’t fight, sometimes remembering the precise terms of an oral agreement years later can prove challenging (and can create unnecessary disputes).
Litigation without a written agreement is always the worst-case scenario and can be a death knell for a small business. It takes capital and time away from founders who must focus on building the company and generating income.
It’s well worth the relatively minimal investment to hire an attorney to help put these contracts and agreements together and get them signed. Indeed, it can be appropriate and legal in certain situations to backdate agreements (i.e., have the written agreement date back to the original oral agreement), so long as everyone understands that is what the parties are doing.
2. Not having a consistent or reliable supply chain
Murky supply chain traceability and quality control issues have beset the legal cannabis industry since its inception. As new category consumers begin to dabble with CBD products for the first time, products must deliver the same results every time.
Although entrepreneurs love to use possessive pronouns like “my manufacturer,” “my lab,” and “my farm,” in reality, sourcing is not that simple or exclusive.
As a result, product outcomes can be consistently inconsistent, with different levels of CBD or THC, flavor profiles, and effects in each batch—plus the potential for contaminants like heavy metals to end up in the products.
When companies purchase their CBD isolate or distillate from wherever they can get it, without a tightly monitored supply chain, and when lab testing methodologies fluctuate, the odds of a consumer getting a bad batch rise exponentially. And that can be a big problem that can lead to litigation.
Companies should not put themselves in the position of being sued, slapped with an FDA violation, or giving a consumer an unexpected buzz from a CBD product that inadvertently contains some level of THC.
But until the FDA takes a more active role in regulating hemp and CBD products, brands, processors, and manufacturers must protect themselves by ensuring they operate under the same type of stringent operational and manufacturing procedures (SOPs) that already exist in other industries.
At a minimum, this means adherence to the FDA’s Current Good Manufacturing Practices (cGMP) and the ability to corroborate any consistency and traceability claims with the appropriate documentation.
Maintaining a consistent and reliable supply chain is essential to avoiding regulatory problems. It also ensures that your customers get a consistent product they can trust and that you can control your costs.
3. Failing to keep current with laws
A vast range of cannabis hemp or CBD-infused products are now being sold around the country. However, each city, county, and the state has laws relating to the manufacturing, labeling, testing, and sales of each product type. In addition, these laws frequently conflict with federal law under the Federal Controlled Substances Act. Navigating this vast web of laws is head-spinning, but the consequences for failing to do so are worse.
It takes a lot to stay up-to-date on and compliant with numerous federal and state requirements, particularly for multi-state operators or those evaluating the legal viability of expanding into new states. Legal expertise is essential and worth every penny. An experienced attorney will save businesses from very costly situations, more than justifying the expense.
What to do if a mistake has already been made? Depending on the nature of the infraction, all is not lost. The sooner a company addresses a problem—whether it’s potential litigation or a regulatory violation—the easier it will be to fix. If a regulator contacts the business about a violation, immediately reach out to a cannabis lawyer. A regulatory violation will rarely destroy a business. However, these situations usually don’t end well when companies take the ostrich approach of sticking their head in the sand and ignoring regulators or lawsuits altogether.
Despite the complexities and obstacles, there’s still so much potential upside in the cannabis industry. However, success requires diligence. Avoiding these common mistakes can help cannabis businesses not only survive but thrive.
