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Marketing a Cannabis Company for Sale, Part 4 – Confirm Deal Terms

Part 4: Confirm Deal Terms

In the series “Marketing a Cannabis Company for Sale,” Dena Jalbert, walks through the nuances and intricacies involved in preparing a business for sale in the cannabis industry. This article, “Part 4: Confirm Deal Terms,” is part four of a five-part series. 

At this point in the process of marketing your cannabis company for sale you have laid the groundwork for finding the ideal buyer for your company including mapping out your strategy, assembling a strong M&A team and identifying profitability and financial trends. Now it’s time to determine how well-aligned you and a potential buyer are on deal terms.

A letter of intent (LOI), sometimes called a memorandum of understanding (MOU), outlines key deal terms and is an initial expression of intent by you and the buyer to move forward on the deal. A LOI is essentially non-binding and acts as a framework that describes how the deal will proceed.

Given the legal, regulatory, tax and valuation complexities of the cannabis industry, less is not more when it comes to LOIs. A LOI that is vague and does not cover key terms can endanger a deal when you and your buyer realize you didn’t agree on principal terms. By contrast, a LOI that is very detailed will help hammer out key terms, saving you time and money in the process of arriving at a definitive agreement.

Getting to the LOI stage of the M&A process is often described as an engagement signaling that both parties are committed to a marriage.  Confirming deal terms in a LOI is an important step in the process to ensure that there is agreement on these terms before entering into the lengthy and costly process of performing due diligence and negotiating final contracts.

Your M&A team, including attorney, CPA and advisor, will work with you to understand the proposed material terms outlined in the LOI and ensure there are no deal-breaker issues.

Some of the terms spelled out in a LOI include:

Structure of the Sale

The LOI defines what is being purchased – assets or stock. An asset sale is the purchase of individual assets and liabilities, while a stock sale is the purchase of the owner’s company shares.

If you are selling your company in an asset sale, you would retain possession of the legal entity, while the buyer would purchase individual assets of your company, such as equipment, fixtures, licenses, trade secrets, trade names and inventory

In a stock sale, the buyer purchases the selling shareholders’ stock directly, obtaining ownership in your legal entity and assuming all of the known and unknown liabilities of the business. In other words, instead of choosing specific assets and liabilities to acquire, the buyer purchases an ownership stake in your entire business.

Many cannabis businesses are purchased for a mix of stock and cash, and it is important for you to understand the implications of the stock part of the deal. Because valuations are currently highly inflated in the cannabis industry, there is a real risk that the shares issued as payment for your business will devalue in the future. However, if the market remains strong, you could realize a big payoff. Your payoff will depend on the market, so understanding the terms around when and how you can sell those shares is important. Your M&A advisor will make sure you are clear on terms, so you know what to expect from a worst case/best case scenario.

Purchase Price

The LOI will include the amount that the buyer proposes to pay for your business as well as the timing and manner of payment (how much will be paid at closing versus post-closing and whether any post-closing earnout payments are contingent on future events and/or performance targets).

It is important to work with your M&A team to understand what these earnout events and/or performance metrics are and what autonomy and resources you will have to hit those metrics.

Management/Employee Roles

A LOI can also include a description of the buyer’s intentions for key employees to remain with the company after the deal closes, including defining roles and compensation levels for these employees. In cannabis M&A, it is common for the buyer to specify that deal closing is contingent on certain employees signing employment contracts and noncompete agreements. Buyers want to retain top talent, recognizing that the cannabis industry is a young industry with a scarcity of experienced employees.

Regulatory Approvals

A description of any regulatory approvals or third-party consents that will be required will also be included in a LOI. As the seller you will need to provide representations and warranties about all consents and approvals, as this will be a condition to the transaction closing. It is particularly important that your M&A team have experience in the cannabis industry in order to advise you on the developing regulatory landscape in the industry and what approvals and third-party consents should be part of the LOI.

Indemnification Framework

A high-level summary of the scope of your indemnification obligations to the buyer is also often part of a LOI. These terms allocate risk between the buyer and seller. The complex legal environment in the cannabis industry impacts the allocation of this risk with buyers sometimes requiring that losses from representations made about your business not be subject to regular caps, deductibles and other indemnification. You should work with your M&A team to gain a clear understanding of the indemnification obligations outlined in the LOI, including the amount of time you will be liable for these representations.

A signed LOI is a significant milestone in the M&A process, confirming understanding, expressing commitment to the transaction, and setting ground rules for future negotiations.

Once you have a signed LOI, you are well on your way to selling your cannabis company.

 

 

Originally published on Cannabis Business Executive, March 18th, 2019:

https://www.cannabisbusinessexecutive.com/2019/03/marketing-a-cannabis-company-for-sale-part-4/?utm_source=CBE+Master+List&utm_campaign=3cdd92d2c0-CBE+Policy+%26+Legal+66%2C+December+21%2C+2017_COPY_01&utm_medium=email&utm_term=0_1f64189714-3cdd92d2c0-264332025

Marketing a Cannabis Company for Sale, Part 3 – Identify Profitability and Financial Trends

Part 3: Identify Profitability and Financial Trends

In the series “Marketing a Cannabis Company for Sale,” Dena Jalbert walks through the nuances and intricacies involved in preparing a business for sale in the cannabis industry. This article, “Step 3: Identify Profitability and Financial Trends,” is part three of a five-part series. 

At this point in your journey of marketing your cannabis business for sale, you should have progressed through step one – mapping out your strategy – and step two – assembling a strong M&A team. The next step in the process is to identify profitability and financial trends.

Profitability

Profitability is the goal of any business, and is a critical component of making your business an attractive target for acquisition.

When you are positioning your cannabis business for sale, you will need to have a complete financial picture of your company, including past and current profitability, as well as projections of future profitability. Potential buyers want to know how your company is currently performing and look at its historical performance prior to an acquisition, assessing whether your profits are trending up or down. If your company is underperforming – not growing revenues and not controlling costs – you will find it challenging to attract a buyer willing to invest the time and attention needed to turn it around.

Many companies in the cannabis sector struggle to become profitable, hedging their success on future distribution and sale of their product as rules and regulations related to cannabis are solidified. The most profitable cannabis companies are those that are committed to staying in the black as they expand their product portfolio, have a focus on organic growth and/or a strategy for growth through strategic partnerships. A focus on successfully executing on your business plan to achieve profitability will position you to take advantage of the increase in consumer spending on cannabis products and will attract the most interest for your company as a target for acquisition.

Trends

Timing is critical in terms of your company’s profitability, but also important in this timing are trends that impact the financial health of the cannabis industry. As a business owner, you should have your finger on the pulse of what is happening in the industry in order to strategically adjust your business plan to take advantage of these trends and potentially adjust the timing of putting your business up for sale if needed.

Two of the most significant trends currently impacting the cannabis industry include the legislative climate and the development of new cannabis products.

Legislative Climate

One of the key drivers of growth in the cannabis industry is increased legalization. Exponential growth in the industry is already being seen in states where cannabis is currently legal and will only increase as markets open up in more states. According to New Frontier Data, in states where cannabis is legal, medical and adult use sales are forecast to grow from $12.9 billion in 2019 to $26.3 billion in 2025.

Lawmakers in states where cannabis is not legal are seeing the success of the industry in states with legalization and want to bring this revenue stream to their states. Recreational marijuana is now legal in 10 states and the District of Columbia, and medical marijuana is legal in 33 states and D.C. The New York and New Jersey state legislatures are considering legalization of adult recreational use of cannabis in their states this year, and momentum for legalization is building in Pennsylvania and Illinois.

The legislative climate should be a significant factor in deciding when the time is right to sell or buy. As more states legalize marijuana, the markets will continue to open up and provide an even more favorable climate for M&A.

New Cannabis Products

Another key driver of industry growth is cannabinoid, or CBD, which is making significant inroads in consumer products. CBD can be found in everything from food, to skin care, to pet and fitness products. Consumer interest in these products is increasing as many of these brands are touting the wide-ranging health and wellness benefits of CBD. CBD products are bringing mainstream market opportunities to the industry with the development of innovative consumer products, and is expected to be a key driver of industry market growth moving into 2019.

The growth in market opportunities generated by the continuing increase of cannabis legalization and the development of new cannabis consumer products has attracted interest from large corporations in a wide range of sectors including food, tobacco and alcohol. These corporations are strategically entering the market by acquiring small cannabis companies, providing an excellent window of opportunity to position your company for acquisition. This window of opportunity will begin to close as the industry matures. Fragmentation as the result of the entry of many new players, a dwindling availability of seed capital and an increasing squeeze in profitability will all inevitably occur when the market has met this maturity.

The bottom line is that timing in terms of where your company is in its drive toward profitability, as well as industry trends impacting the financial health of the industry, will be key determining factors in the success of the sale of your company. Get the full picture of both as you determine the right timing to position your business for acquisition.

Originally published on Cannabis Business Executive, March 11th, 2019:

https://www.cannabisbusinessexecutive.com/2019/03/marketing-a-cannabis-company-for-sale-part-3/

Education Technology Investment Remains Strong

Education Technology (“Ed Tech”) Investment Robust in 2018, and the trend continues into 2019.

At the start of this decade, the education industry saw hundreds of flowers bloom. Launched from garages and tech accelerators, startup after startup burst onto the scene with technology tools for the education market. The industry has since consolidated, due in part to an uptick in mergers and acquisitions by education companies and private equity firms.

Education M&A activity is occurring at a steady pace. There is currently an opportunity for acquirers to take advantage of the digital adoption in education and the potential to create new pathways for instruction and credentialing.

In 4Q18, approximately $4.9B of transaction volume in Ed Tech sectors were announced, with Private Equity investors leading the pack with 53% of the deals transacted during the quarter. Companies focused on the K-12 sector comprised approximately 48% of the transactions, and online learning providing approximately 26% of the activity. *

Q4 2018 US Deals by Domain

 

Among many sectors, demand is strong for companies that provide solutions and services for professional education, English language training, and childcare. Moreover, the rapid adoption of e-learning technology and the growing training needs of the existing corporate workforce has led to a significant increase in corporate spending on outsourced training resources per employee.

In the K-12 sector, technology investments are having an impact on state and school district expenditures. Other areas of interest include hybrid student information systems and digital content and tools, learning platforms, and data reporting and analytics.

Acquirers throughout the education landscape are also looking for adaptive learning solutions. This includes software that facilitates testing and measurement. In the context of gains in online testing and assessment, automatic scoring and grading of essays are likely to develop more rapidly. This follows the shift in many instances from live, in-person instruction to more of a Software as a Service (SaaS) model that emphasizes online or blended learning.

Unsurprisingly, there has been considerable investment in companies with new assessment products given the high growth and high profit nature of this sector. Taken as a whole, the flourishing investment levels for early stage education companies should provide a fertile ground for future partnerships and M&A activity.

The large strategic players in the industry are the diversified education companies who are steadily moving away from print and becoming more heavily focused on digital and services. Meanwhile, part of the role that private equity firms play in the sector is to create and grow companies of scale, which the strategic players often see as attractive acquisition opportunities due to the larger size. An influx of private equity capital creates an environment that allows acquisitions by strategics to be more prevalent and impactful to the organization. This has occurred throughout the last several years.

Lastly, as the migration to digital formats and delivery progresses, the potential for transformation in the industry that is succeeding at the post-secondary level should continue to be substantial in many of the education sub-sectors.

 

*Source: Raymond James, EdTech Insights, Q42018; Pitchbook Transaction Data as of 2/21/19; Berekery Noyes, An Overview of M&A in the Education Industry, April 2018.

Marketing a Cannabis Company for Sale, Part 2 – Put Your Team in Place

Since we’re just coming off the Super Bowl, let’s use a football analogy. Tom Brady needs all of his players to win the game, despite being called the Greatest of All Time. You should have a team behind you as well when thinking about M&A. We talked with Cannabis Business Executive on this topic – Part 2 of a 5-part series…

Marketing a Cannabis Company for Sale, Part 2

Step 2: Put Your Team in Place

In the series “Marketing a Cannabis Company for Sale,” Dena Jalbert walks through the nuances and intricacies involved in preparing a business for sale in the cannabis industry. This article, “Step 2: Put Your Team in Place,” is part two of a five-part series.

After mapping out your strategy for selling your cannabis business – which involves determining your vision for post-sale outcomes, identifying the characteristics of the ideal buyer and analyzing industry market trends – the next step in marketing your cannabis company for sale is to assemble your mergers and acquisitions (M&A) team. This is the most important step in the process, as your M&A team will be the chief architect of the deal-making process.

Cannabis companies typically fall into the lower middle market (companies with annual revenue between $1 million and $100 million) due to the industry’s youth. Therefore, a small, experienced, highly nimble M&A team is the best fit to handle deal planning, a process that includes initial screening, legal structure and finance. Two major considerations for selecting the right M&A team should be their level of experience in, and understanding of, the cannabis industry and their ability to execute the deal while staying true to your company’s core values.

A typical deal takes more than 1,000 hours and around six months to execute. However, there is nothing typical about the cannabis industry. These hours include everything from researching the market, reaching out to potential investors and buyers, fielding and advising on offers, determining the best offers, negotiating with potential buyers and executing the contract process.

Because the cannabis industry is a new and highly specialized industry, it is important to select members of your M&A team who are knowledgeable about the many nuances of this rapidly developing industry. Key members of your M&A team should include:

M&A Advisor

The main role of your M&A advisor is to prepare and help execute your selling strategy. This function ranges from designing the overall exit strategy to ensuring your business is capable of executing due diligence. Your M&A advisor is involved in every part of the deal, and helps keep the company owner and executive team updated on all developments. On the front lines of any sale talks, your M&A advisor will also help you navigate the consolidation of your company’s culture and internal systems with that of the buyer. Most deals in this space move rapidly, and a good M&A advisor can help you do the necessary vetting that will keep deals on pace close as seamlessly and quickly as possible.

Legal Advisor

Your M&A team should include an attorney well-informed of the nuances of the cannabis industry and with a deep understanding of M&A. Not all firms specialize in both — so do your research. For example, an attorney who knows the cannabis industry can help you determine if your buyer has the right licenses, is a buyer who you will be able to transfer your license to, and can help you with the transfer of licenses. Each state has different regulations around the who, the what and the where of licensing, and a legal advisor with cannabis industry experience should be engaged early in the deal to evaluate the ability of licenses to transfer seamlessly.

CPA

The CPA on your M&A team ensures that your financial statements fit within the generally accepted accounting principles (GAAP), and makes sure your tax compliance filings are complete and accurate. Beyond these accounting functions, your CPA will need to be nuanced in the cannabis industry. Taxes, in particular, are very complicated — employer and income — depending on the state where you are located. Your CPA will also need to be with familiar federal tax code related to the cannabis industry. This includes section 280e of the Internal Revenue code, which forbids state-legal cannabis businesses from deducting otherwise ordinary business expenses from gross income associated with Schedule I substances.

When selling your cannabis business, you should never go it alone. As a business owner, you likely don’t have 1,000 hours or more to devote to executing the sale of your company, and need the support and guidance offered by a strong M&A team. The work of a good M&A team does not end when the deal closes. Your M&A team should also provide support for integrating entities after the sale closes, which is when the hard work of combining two businesses really begins. The integration of a seller’s team with an acquirer’s team to work together to grow the company is common in the cannabis industry due to the newness of the industry and the difficulty finding people with industry expertise.

The cannabis industry will continue to grow and then likely consolidate, making 2019 another big year for industry mergers and acquisitions. As part of this trend, companies will continue to explore buying or selling opportunities and look for the best fit to create new companies with higher valuations. This year will also see some big players, including food, tobacco and pharmaceutical companies, enter the market, forever changing the current small, independent business characteristics of this industry. As more deals are executed in this space and you look to sell your cannabis business, make sure you put the right team in place so that your deal is not one of the 70 percent of all M&A deals that fail.

Originally published on Cannabis Business Executive:

https://www.cannabisbusinessexecutive.com/2019/02/marketing-a-cannabis-company-for-sale-part-2/?fbclid=IwAR1Egayp4b8P519FogBE7PdQcxvqPoKu9SH2gdbGm8ee_DP7KZdPMYusGiw

Marketing a Cannabis Company for Sale – Step 1: Define Your Strategy

Article originally published December 19th, 2018, in Cannabis Business Executive:  https://www.cannabisbusinessexecutive.com/2018/12/marketing-a-cannabis-company-for-sale/

Marketing a Cannabis Company for Sale

Step 1: Define Your Strategy

In the series “Marketing a Cannabis Company for Sale,” Dena Jalbert walks through the nuances and intricacies involved in preparing a business for sale in the cannabis industry. This article, “Step 1: Define Your Strategy,” is part one of a five-part series.

Whether a company is looking to sell immediately or five years down the road, it is never too early to start the process of preparing for sale. As legalization continues to spread, the cannabis industry will see increased mergers and acquisitions (M&A) activity in the next few years. The first, and arguably the most important, step in the process of marketing a cannabis business for sale is to clearly and thoroughly define your strategy. The answer to the question “What do you want from this sale?” should be the motivation that drives the entire process.

Vision for Post-Sale

When preparing a cannabis business for sale, it is best to start where you would like the process to end. Think about your optimal position after the deal closes. Some business owners want to make a clean break and step away from the company entirely post-sale, while others desire to stay with the new entity as a part of the executive or advisory team. Understanding how you want to come out of the other end of the deal will help get the process started and help you find the right buyer.

Determining the level of involvement post-sale is a personal decision and one of the only parts of the process that a founder cannot be advised on, not even from an M&A advisor. Cannabis founders, in particular, have a strong connection with their companies because they have likely jumped through many hoops to get their business to a successful position. As a result, these business owners may find it difficult to completely walk away or accept a non-leadership role with the new entity post-sale.

Identify the Ideal Buyer

Understandably, many entrepreneurs are protective of the company they’ve worked hard to build. Regardless of the level of involvement post-sale, no business owner wants to leave their company in the wrong hands. Mark Zuckerberg famously turned down an acquisition offer for $1 billion from Yahoo! at a time when the company was not profitable and making $30 million in revenue. One of his reasons for turning down the offer was because he felt the acquirer did not have a clear vision for company.

Once you know the desired outcome of a sale, it is important to take the time to determine the characteristics of an ideal buyer. M&A deals fail 70 – 90 percent of the time; and one of the leading causes of a deal falling through is a lack of synergy between the two organizations. On the buyer’s end, it is easy to focus on the acquiring asset, but many different factors go into the success of a product or service, and the company overall. A product or service is only as good as the people, technology and company culture behind it. If a buyer does not understand the value of entire brand, the company should not be afraid to walk away from an offer.

Every cannabis company with an ultimate goal to sell or be acquired must take a deep dive into its own strengths and weaknesses. The perfect buyer will be the one who provides the most operational synergies when the two companies merge. When equipped with a clear understanding of the brand’s strengths and weaknesses, you’ll be able to recognize the traits in a buyer that can further strengthen the company. Remember that “weaknesses” in your company are really opportunities for growth that can be addressed once the business gains access to the buyer’s resources, like HR support and suppliers.

Because operational skills are not widely taught or trained yet, people are one of the most valuable assets for cannabis companies. Keep your people in mind when defining the ideal buyer. If a pivotal part of a company’s success is the open-door policy for employee issues, then possibly merging with a company that has an extensive chain of command and a lack of similar policies could cause friction when the companies merge.

Analyze the Industry and Note Market Trends

For any company, but especially cannabis companies, an understanding of the current market is vital in defining your strategy. The industry is truly unique, with no other industry even remotely similar in nature. Additionally, the cannabis industry is young, as the legalization of recreational and medical use has only existed for a few years.

Timing can be a determining factor in the success of a sale, as the cannabis industry is constantly changing and evolving. The legislative climate will weigh heavily when a brand is deciding whether it is the right time to sell or buy. As U.S. states continue to legalize marijuana, the markets will continue to open up.

Cannabis business owners should understand how an exponential growth in the market, or additional legal restrictions, would impact its company. Even if a company is based in the U.S., it should note how markets in other countries react to legalization. The response in Canada after its nationwide legalization of recreational use is a good indicator of how U.S. markets may respond if similar legislation passed.

More than 145 cannabis mergers and acquisitions were announced in the first half of 2018, almost double the activity seen in the previous year. Additionally, the largest cannabis acquisition to date occurred in July when Aurora Cannabis acquired MedReleaf for CA$3.2 billion ($2.3 billion in U.S. dollars). While 2018 was a huge year for M&A in the cannabis industry, 2019 is set to be an even bigger year. Every cannabis company looking to sell in the future should begin the process now by defining its strategy.