File Under Bad Ideas: 50/50 Cannabis Business Ownership

There are many ways to set up a cannabis business, and we like to think that we’ve seen them all. But there’s probably no worse category than 50/50 ownership of a business– a recipe for all sorts of disasters. Let’s look and why that is, and some ways to avoid it.

What 50/50 ownership means, exactly

When I talk about 50/50 ownership, I mean two people or entities who own all of the voting rights in a business. For example, this would mean two people who each own half of the voting shares in a corporation; or half of the membership interest or units in an LLC. This is an extremely common set-up for smaller companies where two partners may want to have equal control of a business (I may use the term “partner” in this post for ease of reference, even though they’d be referred to as shareholders in a corporation or members in an LLC). But we’ve even seen bigger or more established companies propose 50/50 joint ventures.

50/50 ownership means that any decision that must be put to a vote effectively needs unanimous approval. Most partners are aligned at first, but over time a business will have its ups and downs. This is when partners’ visions for the company often drift apart– especially where a company is underperforming or has taken on a lot of debt. If partners disagree, votes won’t succeed and the company will grind to a halt.

How 50/50 partnerships form

In cannabis, it’s common for someone with zero cannabis experience but lots of money to link up with someone with tons of experience and no money. Inevitably, some big decision will need to get made. The “experience” partner will want to go one way and justify it with their years of experience in the industry. The “money” partner will think the decision is too risky or not smart and will say “I’m the one putting in the cash, I want to call the shots.” This isn’t just a problem in money v. experience partnerships. It happens in all forms of 50/50 partnerships.

What will inevitably happen is one of the partners will lawyer up and ask a lawyer to help them fix the issue. The first thing any (good) lawyer will do is ask to see all corporate governance documents of the company–things like bylaws or a shareholder agreement for a corporation or an operating agreement for an LLC. Here are the three most common scenarios:

1. The company doesn’t have any written corporate governance documents. This is bad! And it happens ALL the time in cannabis. In this is case, the partners need to be prepared to kiss their business goodbye or end up in expensive or acrimonious litigation for a few years. State law is unlikely to provide a useful backstop.
2. The company has corporate governance documents, but they don’t address deadlocks or have clear dispute resolution provisions. This too is bad, and it also happens ALL the time for cannabis companies. I can’t tell you how many times I’ve seen people pull governance docs they found online and modified.
3. The company has good corporate governance documents that have clear deadlock and dispute provisions. The members will then follow those provisions and (hopefully) resolve the issues. That process is likely to be painful, but not nearly as painful or expensive as option 1 or 2).

How to avoid a deadlock scenario

The good news is that there are a lot of ways to avoid this scenario, such as:

1. Invest in good corporate governance documents at the beginning of the relationships. Partners can either pay a lawyer a small sum at the onset of the relationship to structure their business, or pay them a very, very large sum later on to try to save it. If partners decide they don’t need governance docs or can just make them from scratch without legal training to avoid a few thousand dollars, it’s not hard to see them cutting corners in other areas (hint hint, compliance). This is by far the easiest way to avoid the above mess.
2. Don’t be 50/50 partners! This is another very easy way to avoid grinding a business to a halt in the event of a deadlock.
3. Delegate categories of decisions to specific owners. If one owner, for example, gets to make all decisions related to X, and the other related to Y, it’s less likely to devolve.
4. Have clear deadlock provisions. A deadlock provision is something in a governance document that will spell out how ties are broken. There are many ways to do this. Often, the decision is put to a neutral third party or a mediator. Sometimes partners may have the ability to withdraw from and be bought out of a company if deadlocks are too frequent. We have even come across agreements where disputes are required to be decided by a game of “paper-rocks-scissors!” There are many, many ways to structure deadlock provisions and, like with my first point above, paying a lawyer a small sum at the beginning of a venture is a guaranteed way to avoid this.

You may be thinking this is all overly dramatic. It’s not. Our cannabis litigators have seen partnerships fail countless times, where issues could have been avoided with a little diligence and investment.