10 tips for US cannabis businesses facing an economic downturn

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Image of Phil Silverman(Editor’s note: This story is part of a recurring series of commentaries from professionals connected to the cannabis industry. Phil Silverman is an attorney and leader of the Insolvency and State Receivership practice at the Vicente Sederberg law firm in Boston.)

With businesses around the country shuttered and millions of Americans out of work because of the coronavirus pandemic, the U.S. is facing its gravest economic crisis since the Great Depression.

Below are 10 tips cannabis businesses should follow when facing an economic downturn.

This list is not necessarily unique to cannabis businesses.

But in an industry that’s already subject to greater federal, state and local scrutiny, these concepts can serve as a guide for those seeking to relieve their financial stress.

1. Don’t ignore signs of trouble.

Delaying the development of a strategic plan to address financial problems can eliminate options later on.

For example, many cannabis companies can improve their financial situation by liquidating assets, but delays in obtaining state and local regulatory approvals tend to depress the value that an interested party will pay.

If this is a part of your strategy, you need to prepare to expedite these regulatory processes now.

2. Not all creditors are created equal.

Until you develop a turnaround strategy, you can’t determine whom to pay, when to pay and how much to pay your creditors.

It’s tempting to ease the pressure by making payments to creditors, but without a solid plan, these payments might actually decrease bargaining leverage and waste precious cash resources.

3. Don’t avoid difficult phone calls

Think about how you react when your business phone call is not returned promptly. In other words, return your creditors’ calls.

Most creditors will work with you if they believe you are being transparent and honest.

An experienced attorney can often assist in easing the pressure by handling creditor inquiries and engaging them to assist your turnaround.

4. Engage your accountant

Accountants often see financial problems before their clients do. They can also identify cost-savings strategies.

Moreover, if your broader plan involves creditors agreeing to reduce amounts owed, an accountant will need to review the tax implications, as so-called “cancellation of debt” can be considered “income” for tax purposes and negate the benefits of a release of debt.

There are, however, exceptions to the rule that your accountant can evaluate.

5. Seek advice before transferring assets from a troubled entity

Transfers of assets when a company is insolvent can often be unwound by your creditors as fraudulent transfers or shift liability to officers and directors under theories of breaches of fiduciary duty.

Vet these types of transactions with experienced legal counsel.

6. Pay taxes and employee wages

Debt relating to taxes and wages is difficult to discharge or settle for less than the full amount owed.

Ongoing unpaid taxes can hamper any reorganization due to associated interest rates and penalties.

Further, failure to pay these debts can sometimes result in officers’ and directors’ personal civil or even criminal liability, creating a difficult distraction for those trying to focus on restoring stability to a business.

Understanding the nature of these obligations and arranging for their payment is essential to success.

7. Respect corporate boundaries and update corporate records

Commingling assets might be operationally convenient, but it can destroy the benefits of the structure you created to further the business in the first place.

It can also create the risk that creditors will later be able to forcibly consolidate a highly profitable entity with an unprofitable one, subjecting the assets of one to the creditors of the other and thereby jeopardizing the survival of both.

Similarly, inattention to the requirements of corporate governance – such as holding required meetings of shareholders, members and directors as well as obtaining approvals of significant actions – can lead to a “piercing of the corporate veil” and spur a court to decide that officers and directors are no longer shielded from liability for corporate debt.

8. Maintain financial records

If the company’s debt can’t be resolved by a settlement out of court, and litigation ensues, financial records are discoverable by your creditors.

Discrepancies in records can tarnish a judge’s perception of your company and its officers and directors.

A prompt review of these records and attention to inconsistencies is a good first step toward avoiding undue scrutiny later.

9. Think about your licenses

Vet any proposed transactions involving licensed entities with experience legal counsel.

Transfers of licenses in distressed situations need to be carefully considered. Timing of transfers and coordinating the regulatory approvals necessary to maximize their value can be key to a financial turnaround.

10. Know the latest on COVID-19

Navigating financial distress is difficult in normal times, and it is even more complex during a crisis such as COVID-19.

Understanding concepts such as what constitutes an “essential business” and rules regarding appropriate “social distancing” in your operation are just two examples of how you need to adapt.

Knowing the latest on government programs like Paycheck Protection Program loans and potential future federal debt-relief legislation might also present unique opportunities to assist your business.

Phil Silverman is an attorney and leader of the Insolvency and State Receivership practice at the Vicente Sederberg law firm in Boston. He can be reached at 617-934-2121.

The previous installment of this series is available here.

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