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Owning a marijuana business can be as volatile as the industry itself.
So, what do you do if your company goes up in smoke?
For plant-touching marijuana companies, bankruptcy hasn’t been considered an option to date.
U.S. bankruptcy courts dismiss virtually all Chapter 7, 11 or 13 cases involving the restructuring or liquidation of assets owned by cannabis-related entities because the plant is still classified as a Schedule 1 drug under the Controlled Substances Act (CSA), and U.S. Bankruptcy Code generally mandates that debtors comply with applicable non-bankruptcy laws.
Filing for bankruptcy abroad
The restriction, however, does not apply to Chapter 15 bankruptcy cases, which recognize foreign bankruptcy proceedings.
U.S. bankruptcy courts recognize most foreign bankruptcy proceedings, and none have denied recognition in the context of cannabis.
Therefore, if companies can file for bankruptcy in another country, there is a good chance the bankruptcy will be recognized in the United States.
Barriers to bankruptcy
Bankruptcy courts have cited several reasons for denying bankruptcy protection to marijuana businesses, including potential violations of the CSA constituting “gross mismanagement” of the estate.
Additionally, a debtor-in-possession or trustee cannot manage a cannabis business’ estate without violating federal law, making reorganization plans non-confirmable.
While the 9th Circuit Bankruptcy Appellate Panel has indicated that the mere presence of cannabis doesn’t automatically disqualify a debtor from relief, ongoing violations of the CSA continue to be a significant barrier.
Cannabis and Chapter 15
Chapter 15 of the Bankruptcy Code could be an option for distressed cannabis companies because marijuana is legal in nine countries outside the United States.
Under Chapter 15, a foreign representative can seek recognition of a foreign bankruptcy proceeding in a U.S. bankruptcy court.
If recognized as a “foreign main proceeding,” Chapter 15 imposes an automatic stay on actions against the debtor and their assets in the United States.
Unlike Chapter 11, Chapter 15 doesn’t create a “bankruptcy estate” or require a debtor to propose a reorganization plan under U.S. law.
Instead, these plans are proposed in the foreign jurisdiction, where marijuana might be legal or decriminalized.
The U.S. bankruptcy court’s role is to uphold principles of international comity and protect the debtor’s American assets without directly managing potentially illegal activities under U.S. law.
Chapter 15 hurdles
It’s important to note that Chapter 15 isn’t without its challenges, however.
Courts can refuse actions that are “manifestly contrary to the public policy of the United States,” although this exception has rarely been invoked.
To determine that, courts have generally considered two factors:
- Whether the foreign proceeding is procedurally unfair.
- Whether recognition of the foreign proceeding would severely impinge a constitutional or statutory right or frustrate a bankruptcy court’s ability to carry out the fundamental purpose of such constitutional or statutory right.
State-level protections
Chapter 15 isn’t a perfect solution for all cannabis-related entities, particularly because so many questions remain.
If a foreign cannabis company seeks recognition under Chapter 15, the Office of the U.S. Trustee – a component of the U.S. Department of Justice responsible for overseeing the administration of bankruptcy cases – most likely would oppose recognition.
Therefore, some cannabis companies seek state-level options such as receiverships and assignments for the benefit of creditors (ABCs).
For example, MedMen Enterprises, a prominent U.S. marijuana multistate operator, recently commenced bankruptcy proceedings in Canada while placing its California retail assets into receivership.
Cannabis receiverships
Receiverships allow for court-supervised management of assets and are governed by state law, meaning that in states with regulated marijuana markets, receivers can manage cannabis-related assets.
Receiverships and ABCs do not offer the full protection of assets available under the Bankruptcy Code, however.
Assets located in other states might still be vulnerable, and creditors can pursue ancillary receivership proceedings in those states.
Additionally, state proceedings lack some of the powerful tools available under federal bankruptcy law, such as nationwide service of process and the automatic stay.
While traditional bankruptcy isn’t currently an option for most cannabis entities facing financial distress, Chapter 15 and state-level protections could offer alternative paths for companies needing to restructure their debt.
Keith Owens is a partner in Fox Rothschild’s financial restructuring and bankruptcy and cannabis law practice groups. He can be reached at kowens@foxrothschild.com.
Brett Axelrod is a partner in Fox Rothschild’s financial restructuring and bankruptcy and cannabis law practice groups. She can be reached at baxelrod@foxrothschild.com.
Joshua Horn is the co-chair of Fox Rothschild’s cannabis law practice group. He can be reached at jhorn@foxrothschild.com.
