Ontario cannabis store regulator under pressure over alleged ‘pay-to-play’ deals

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(This is the second in a series of stories exploring pay-to-play schemes in Canada’s cannabis industry. The first installment can be found here.)

Ontario’s cannabis store regulator is facing calls to crack down on alleged pay-to-play schemes that some industry executives say allow larger marijuana producers and brands to secure shelf space for their products and other special treatment from retailers.

Industry executives say the problem ballooned earlier this year after the Alcohol and Gaming Commission of Ontario (AGCO) attempted to clarify its rules on inducements – or “slotting fees” – by issuing an update to the Registrar’s Standards for Cannabis Retail Stores – the rules governing legal marijuana stores.

Jennawae Cavion, co-founder and CEO of Calyx + Trichomes in Kingston, said pay-to-play is common in many industries, “but they’re straight up not allowed in Ontario, and I don’t understand why the AGCO and other provinces don’t do anything about it.”

“It’s a really thin veil,” she said.

To get around curbs on slotting fees, industry officials allege, some producers and brands are instead paying cannabis retailers for their sales data to ensure their products get preferential treatment in the Ontario retail market.

The monthly fee can reportedly amount to tens of thousands of dollars or more.

Some industry officials told MJBizDaily that the sales-data workaround falls into a quasi-legal gray area, given that brands and manufacturers aren’t paying directly for prime shelf or display space or exclusive sales deals involving their product.

At the same time, however, some licensed producers and retailers say many of the data-fee agreements that have become widespread are effectively slotting fees, where brands are paying to play, which is technically not allowed by Ontario’s cannabis regulator.

AGCO silent 

The cannabis store regulator in Ontario won’t say whether it has taken any specific action regarding prohibited inducement arrangements between retailers and licensed producers, even though industry sources say so-called pay-for-play deals have become rampant.

“We have received information about concerns in the sector surrounding alleged inducement activities between cannabis retailers and licensed producers,” an AGCO spokesperson said via email.

“We can confirm that we are actively monitoring and conducting regulatory activities in a number of areas related to the Standards, including inducements.”

The AGCO declined to answer MJBizDaily’s questions about the number of complaints it has received.

The regulator also wouldn’t say how many enforcement actions it has taken, if any.

The Ontario Cannabis Store, the provincial wholesaler, directed questions to the AGCO, “as this is a regulatory matter.”

In Ontario, retailers requiring or receiving payments from licensed producers for preferred shelf placement is prohibited.

Harrison Jordan, a Toronto-based lawyer who has assisted dozens of cannabis retailers, shared with MJBizDaily an emailed response from the AGCO to an inquiry about the data-sale policy:

“If the payment for the sales data is based on how much product a store stocks/sells – rather than the value of the data itself – it may not be strictly falling outside the parameters of Standard 6.6, but we would be considering whether it is a material inducement,” according to the email.

Standard 6.6 established four prohibitions “to ensure that they are not used as a method for material inducements.”

Jordan said the AGCO’s answer underscores the ambiguity surrounding the data-sale deals.

“It’s hard to ensure a level playing field when these types of arrangements aren’t definitively ruled as impermissible,” he said.

Independent entrepreneurs in Ontario, such as Paul Thompson of Little Leaf Cannabis Co. in Stratford, say it’s tough to compete fairly because the data revenue allows large corporate chains to sell marijuana below cost.

He said he’s spoken with a number of smaller LPs that are open to the “no data deal” conversation.

“There’s a movement starting, where LPs and retailers are pledging to not do data deals,” Thompson said.

“I shouldn’t have to pay you to sell weed. It just seems crazy.

“Good weed will sell itself. And I think that’s where some of these large corporations can’t compete – they just don’t have good weed.”

Can AGCO sell data?

Some entrepreneurs have told MJBizDaily that pay-to-play deals give an advantage to large companies at the expense of independently owned stores.

“(Retail chains) are using a second stream of income that’s allowing them to sell (cannabis) products at a loss,” said Mike Ainsworth, owner of Kelly’s Cannabis, an independently owned store in Huntsville.

“How is anybody expected to compete with that when they have one or two stores?”

“They’re using the millions of dollars they’re getting in data sales to subsidize their operation costs, which then allows them to sell product cheaper than any independent store in Ontario,” he said.

Ainsworth warned that such data-sale schemes could potentially force hundreds of independent stores out of business.

He wants the AGCO to enforce its rules.

“If it’s in black and white that it’s against the rules, then why was this not stopped yesterday?” he asked.

Ainsworth suggested that the AGCO could sell consumer data to producers, rather than stores selling the data themselves.

“The AGCO and OCS own all that information, so anonymize it, sell it to the LPs, and take the money,” he said.

“It levels the playing field and everybody’s happy – if it’s all about data sales and it’s not about millions of dollars falling under the table.”

Ainsworth also alleged that some brands skirted the material-inducements rule by overpaying for accessories:

“A guy will walk into your store and say, ‘How much is that bong, CA$70? Why don’t I pay you CA$7,000 for it? And there’s no way for the AGCO to audit that, and I know that has happened.”

He also said licensed producers, or agencies representing them, have bought significant amounts of gift cards and then intentionally destroyed them in front of the store owner.

Unclear rules

Michaela Freedman, an international marijuana business consultant and founder of Toronto-based MF Cannabis Consulting, said some companies are being taken advantage of because there is no transparency or standardized rules governing pay-to-play, pushing the deals into the shadows.

One retailer, whom she declined to name, was charging different slotting fees to different companies – 200 Canadian dollars ($147) per stock-keeping unit versus CA$50 per SKU.

Freedman wants more clarity.

“I think it would be better relative to what we have now if they were to say these standards need to be put in place, then maybe fewer companies would be taken advantage of,” she said.

A lack of clear rules for everyone creates an uneven playing field, Freedman added.

Jordan, the Toronto-based lawyer, said he believes it’s possible to have clearer rules.

“Why even have a material-inducements policy if this stuff is going to go on regardless?” he asked. “I think the intent behind not allowing material inducements is sound.

“I do think there is a fair argument, maybe not the most friendly to mom-and-pop shops, but there is an argument that can be made to just allow them, to just regulate them, as opposed to prohibit them.”

According to Standard 6.6, agreements between retailers and LPs must not “define the amount of product from the licensed producer or its affiliates that must be offered for sale at the retail store.”

Jordan said data agreements he’s seen do not define an amount of product that must be sold or displayed.

Rather, he said, they’re simply saying, “‘If you sell 10 of our XYZ product, we’ll give you CA$5 per product that you sell, which could be argued to be in the gray area.”

“It would beg the question,” Jordan said, “Why did they go through with this rigmarole of reining material inducements in, if we’re just going to say that this kind of material inducement, which is happening, is still allowed?”

Slotting fees not sustainable

Cavion of Calyx + Trichomes said the data-sale deals aren’t sustainable.

She said some retailers are pushed into accepting data-sale arrangements because they’re desperate for cash.

“That’s what makes some of these deals tempting, is some of them are for products I would be selling anyway,” she said.

“Most kickback deals are in the 8%-10% range, and I’ve seen them as 2%-3%. The more core the product, the lower the discount that is available,” she said.

Cavion said the data deals are an advantage to large corporations, because independents have less volume.

“Big companies have an advantage because they can buy hundreds of cases and move their inventory around if they need to, but I don’t really have that ability as much,” she said.

“It doesn’t make sense for them to deal with me, an independent, because I’m such a small fish compared to a chain (of stores).

“And I have much less buying power, even though I have a busy and successful store.”

Matt Lamers can be reached at matt.lamers@mjbizdaily.com.