Ca$hing Out 13: Due Diligence

"Cashing Out" Week 13 - Dan Humiston and the MJBulls legal advisor Larry Mishkin from Mishkin Law and Hoban Law Group discuss the "Due Diligence Process" of a sale of a cannabis business.  The period between and Letter Of Intent and Closing typically involves a transfer of information.  What to expect, what to prepare for in advance and what to look out for all all discussed.

Produced By MJBulls Media

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Larry Mishkin:
And there have been circumstances where people who didn't do their due diligence properly signed a contract thinking they were purchasing a dispensary and a brand new license that they were going to pick up and move to another location only to be told by the state after the fact. You can't do that. You own this dispensary and you own it right here it's not going anywhere.

Dan Humiston:
Hello everyone welcome back to cashing out to each week by Hoban law. With me today in the MJ bulls studios is my legal adviser Larry Mishkin from Michigan law and home in LA. Hi Larry. How are you doing. We're doing great. Doing great. He's not with us today. Dino was not going to join us there she's off on a family vacation so we'll give her a much needed rest since it's just the two of us we can get into a little bit more legal stuff today and one of the topics that we haven't got to yet and that is due diligence or what you do from the time you have a deal or a handshake to the time you get to the closing all the information that needs to be passed between the parties. There's a lot of information but it's so critical that it gets done right. So I thought maybe that would be something we could tackle today if you're up for it.

Larry Mishkin:
Sure sounds good to me. I think to give the listeners just a little bit of context even though most people probably know and it means to some degree it speaks for itself. You said it accurately their due diligence is an exchange of information or even more of the point it's making information available for the other party to come look out and investigate and learn about it. It's a very very important part of any business deal in the shell of a business it's obviously a lot more convoluted and it goes off in a number of different directions but it serves a very very important purpose because there's only so much you as a potential purchaser to know about a target properly before you actually shake hands and say well maybe we have a deal so with due diligence as it's kind of the in-between period like you said where an agreement is initially say and before the agreement becomes fatal. There are a number of different types of due diligence but far and away the most important one is financial estate. Somebody is thinking about buying a company or buying part of the company. Obviously it's very very important what the financial status of that company is because the person who's selling will always tell you that the company is doing well or just something along those lines. So it's very very important to see all of the financial information as much as you can get from the other side's books records profit and loss statements and tax returns.

Larry Mishkin:
Anything that's out there because that's the buyers way of really finding out what it is that they're contemplating buying and selling financial due diligence you know really is at the top of the pyramid so probably next the that list would be if there's any pending litigation or any claims that they did they may have not disclosed up to this point. And that's correct. And that's also very very important. The last thing in the world you want to do is buy a company or buy into a company only to discover after the fact that you just filed into a lawsuit that was pending or that it threatened you. So a big part of due diligence is going out and not just finding the financial information about this company. The company's overall performance in standing where things are at you're trying to avoid as much as possible buying into a car like way to buy a used car. We all see those funny commercials now by facts run by the little foxes. But that's important if you're going to go buy a car you or use you need to know as much information as you can about as it used was it never went as far as before. So same thing here. Nobody is going to want to come in and buy a business if some other party out there is suing the company or threatening to sue the company. OK. They also want to look at the current performance of the company they're buying. How many customers they have.

Larry Mishkin:
What was their sales volume. How does that compare to where they were a year ago. So you're looking at their historical performance as well. And then the last part of that is as much as possible based on the information you have to be able to anticipate where they're going forward and they find some new contract. Do they have some potential vendors or business partners out there that are reaching out to them to do business that if you buy the company you'll have an opportunity to step in too. And so those are all very very important aspects of what is going on with the business. Now given the fact that primarily on the show we're talking about candidates related matters. I think that these types of questions begin to bleed over into cannabis due diligence issues so for instance if somebody wants to come in and buy a dispensary the first thing that they need to know is what state are they in and what is the laws of that state. With respect to whether or not licenses can be sold is it is it a saleable asset that you're looking at. Assuming it is. Was the person who I looking to purchase the license from. Are they current with their regulatory compliance. Is they're testing today. They've passed state inspections and they have good quality control. And then the candidates industry given the very very restrictive nature of the way businesses can operate. The more of this information you can discover upfront the better.

Dan Humiston:
It would not be good if you bought a dispensary only to find out that the license can be transferred that would not that wouldn't go over well.

Larry Mishkin:
Well it wouldn't end is that that happens. And there have been circumstances where people who didn't do their due diligence properly signed a contract thinking they were purchasing a dispensary and. License that they were going to pick up and move to another location only to be told by the state after the fact. You can't do that. You own this dispensary and you own it right here it's not going anywhere. This is really really important to look at that and make sure that you do have an understanding of especially given the fact that cannabis laws are changing so frequently these days. That's where it really becomes important not only to first to know what the current law is and then to ensure compliance with your potential target especially state to state.

Dan Humiston:
Just because a deal worked this way in one state doesn't necessarily probably doesn't work the same as another state when it comes to purchasing dispensaries or licenses.

Larry Mishkin:
You're absolutely right. Every state has different rules on what has to happen and then in many states right now licenses themselves are not transferable. So if I want to purchase a quote unquote dispensary license I have to actually purchase the business that owns the license and then by being the new owner of the business I step into the rights of the licensee. But that business cannot simply just sell to me its license.

Dan Humiston:
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Dan Humiston:
All right. So at the risk of getting too deep into the weeds here in that situation then you would have to do the purchase would have to be a stock purchase versus an asset purchase to export.

Larry Mishkin:
Yes typically that in that case like it is the entity itself that is the license holder so if you don't purchase all the stock in ownership of the full entity itself then it may not work and the state may come back in and say No you're really just trying to do here is is say step our rule against buying and selling licenses.

Dan Humiston:
So then that rolls back into a couple episodes ago when we had Jim Marty CPA talking about the different tax ramification on a stock purchase versus an asset purchase.

Larry Mishkin:
All that comes into play this idea which is that we have due diligence and with due diligence as is we're putting the burden on the purchaser to ask for the information to do their homework. In other words typically a contract will cease from the date this tragic to say the purchaser has 30 45 60 days within which to conduct their due diligence raise issues and terminate the contract if those issues not be properly resolved. So that's one way to do it. Nowadays a lot of times people are also putting in mandatory disclosures so they're shifting at least some of the burden back over to the seller and they're saying to the seller you must produce to us in advance all the information all of that type of stuff. We typically go into a due diligence situation because sometimes the theory is that the buyer may not know what they ask for. So they can say we need you to disclose to us anything that you know that's existing out there that would in any way damage the value of this business or potentially create problems for this business. You're far better off explaining the existence of a problem as opposed to letting somebody discovered and thinking you were trying to hide it.

Dan Humiston:
I'd be a little bit nervous though if I were a seller I agreed to providing disclosure agreement that you just talked about because it seems like I would just be accepting a lot of future liability like almost anything they could.

Larry Mishkin:
You should've told me this well and that's really the truth. So yeah I mean this is always a problem. The reason why we like due diligence is because we're seeing to the other side that you committed you do all your homework the burden is on you to get it done right. If they try to push the burden back on me a little bit with mandatory disclosure then what I tell Sellers is make sure you documents all of your disclosures. Today I sent you over my financial books today sent you over this today I sent you over that because that's what you're going to use in the future if they come back again. Well we had no idea about this. Oh yes you did. I gave you this set of documents and they were all this this very issue was covered right now. And that'll put a stop to their lawsuit pretty fast.

Dan Humiston:
Yeah I would just like I said I'd be uncomfortable as a seller signing a mandatory disclosure statement.

Larry Mishkin:
I mean that just leaves you wide open for something down the road where they could see you know you never told us this like I didn't think it was going to ask you who they have to prove that at the time you you Major did or did not make the disclosure that you actually had knowledge of a little issue that comes up later so it's not. In other words simply because I say I don't know of any issues and then an issue pops up that doesn't necessarily make me as the seller liable for that. You know the bigger question is you know other specific things that arise that I should know about and that I can't disclose and that I shouldn't get anyone to want to take my advice on this one survivor seller of cannabis business.

Dan Humiston:
I am not signing a mandatory disclosure.

Larry Mishkin:
Don't get me right as a seller. I wouldn't voluntarily say to them I will be happy to say the mandatory disclosure statements on the other hand it's like any other type of business deal that you do. Who's got the leverage in trying to sell your business for a long long time. And the way Jake from in with the money that you're looking for and the opportunity that makes the most sense to you the only potential negative is that they're asking for a mandatory disclosure I might advisor go ahead and make the damn disclosure because you been trying to sell this business and they've got somebody who's going to take it from you. So you know you kind of have to balance that back and forth in terms of how much they can out for it as opposed to what they're obligated to discover on their own.

Dan Humiston:
That's a lot of information. But I think it's relevant to what we're doing right now with the sale of a business to talk about this in anticipation of what's going to be incoming and you know we're prepared for it for our listeners if you have any questions or comments or ideas please shoot us over an email at connect that MJ bulls dot com that's connected MJBulls.com anything any ideas that you have please shoot us over an email quick thank you to Jamie Humiston for producing the music for the show. Thanks Jamie. Larry this has been good. This has been good. I think I agree. Yeah there's just so much to know when you're selling a business or buying a business and you know any time you can even get a little refresher course like this it only helps. Thanks again for coming on the show.

Larry Mishkin:
My pleasure. Glad to help and I look forward to talking you down the road.

Dan Humiston:
Yeah. To all of our listeners you will hear us again next Sunday and cashing out.

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