Marijuana Business Magazine May-June 2020

Marijuana Business Magazine | May-June 2020 86 Let’s Make a Deal Cannabis companies aiming to scoop up a struggling business can generally follow a fewmajor steps. To start, buyers can develop an understanding of what they hope an acquisition will add froma business standpoint, said Brent Johnson, CEO at the Denver-basedHoban LawGroup. “If I’m involved early enough, I always like to take a look at the financial piece,” he said. “I have a finance background, so oftentimes I integrate with their finance team and their CPAs just looking at what an acquisition is going to cost, what they hope to make out of the deal and what the financial projections look like.” After investors know the type of cannabis business they’d like to acquire in terms of operations, size and geography, they can research possible targets or reach out to their network or a deal broker for leads. “Once we identify a target, there’s typically an NDA (nondisclosure agreement) signed, and we start exchanging information. We get into the due diligence, so we definitely dive deep into these companies to make sure they have all their ducks in a row,” Johnson said. After an initial conversation or series of introductory conversations, more sensitive corporate information is usually shared, including a pitch deck and financial models and historical revenue summaries. Most sellers don’t want to provide their critical business records to a potential buyer unless the information is protected by an NDA, Johnson said. Sellers eventually might share detailed financial information such as their suppliers list and accounting books in order to determine a valuation and the terms of a deal. Once the buyer and seller believe they have enough information to move forward with a deal, they’ll typically sign a legally binding agreement. “Whether you call it a term sheet or a letter of intent or an MOU (memorandum of understanding), those are all basically the same thing, which is: Here are the key deal points of the transaction, so let’s all agree to this high-level term sheet before we spend a bunch of money on drafting all the (legal) documents,” Johnson said. After the deal is agreed to in principle, the buyer and seller spend weeks or months ironing out the details of the transaction, including whether the seller’s management team will stay on and how the purchase will be funded. – Adrian D. Garcia earlier this year, Los Angeles-based multistate marijuana operator MedMen Enterprises struggled to pay its vendors. “There are plenty of companies that are owed money by MedMen. And some of these companies …may be fine businesses, but if they can’t get paid by someone else in the supply chain, they’re going to have a tough time,” Schultz said. The global spread of the coronavirus also has disrupted business operations for companies in the cannabis industry. Organic Alternatives, a retailer in Fort Collins, Colorado, closed up shop temporarily on March 16 in response to the pandemic. And several local governments in the San Francisco Bay Area allowed cannabis sales to be made only via delivery or through online orders and curbside pickups in March. Businesses already tight on cash might be in real trouble if they are unable to adapt to new rules, maintain a healthy workforce or cover expenses while shuttered. “You might have good companies that are just sort of stuck when huge chunks of their bills don’t get paid,” James Parker, founder of Trava Capital, told Marijuana Business Daily. Trava is a California-based firm that invests in distressed companies. “It’s one thing if you’re a marquee name and can still wrench open the capital markets to keep yourself alive; it’s quite another when you’re at the bottom of the chain, which is where I think some of the most interesting opportunities are,” said Parker, who was a former chief financial officer at MedMen. Buyers might be able to identify a struggling business through researching layoffs, gaps in payments or other red flags. Another option is to hire a broker or lawyer with M&A experience to identify acquisition opportunities. But most experts said recent deals involved buyers and sellers getting connected organically through their networks. Those looking to nab a company struggling with cash flow or other financial problems need the mindset that they’ll go in and clean up the business through a cash infusion, slashing expenses or both. The due-diligence process is different and more nuanced with a distressed deal and presents a different flavor of execution risk—namely the ability to successfully turn around the struggling company, Schultz said. On the other hand, acquiring an EBITDA-positive, vertically integrated operator in a “mature” state such as Colorado comes with a lot less execution risk. The purchase price will be lower for a distressed investment, but the potential return on the investment is higher. DUE DILIGENCE The shift in M&A activity encourages investors to undergo proper due diligence and evaluate the strengths and weaknesses of individual companies, instead of just piling BARGAIN HUNTERS Brent Johnson