Corporations and LLCs: Corporate Governance for Startup Business Owners in the Cannabis Industry

Owners and operators of a company (whether organized as a corporation or a limited liability company (LLC)) involved in the cannabis industry must remember that the company is also a business that is a separate legal entity.

Introduction

Yes, the company is subject to regulations that apply to cannabis businesses, but as a corporation or LLC, it must maintain its formalities in order for its status as a separate legal entity to be recognized under the law.

This is important in order to help the business owners shield themselves from personal liability for company obligations, debts, and liabilities. This blog post lists some basic formalities that owners should implement and annually review, but bear in mind that these are only a few of the considerations that we suggest for clients in this regard.

Corporations

A business structured as a corporation should have bylaws, corporate resolutions, minutes of shareholder meetings, and a stock ledger, among other documents:

Bylaws

The Bylaws establish the rules by which the company is governed, and address such issues as the following:

• The company’s name and location of offices
• Meetings of shareholders and shareholder voting protocols and procedures
• Powers, qualifications, and number of directors
• Process and requirements for director actions
• Identification of the corporate officers (e.g., president, secretary, and treasurer) and the roles and responsibilities of each
• Election and removal process for each officer
• Description of the capital stock of the corporation and the characteristics of that stock
• Dividends
• Rights of officers, directors, employees or agents to indemnification from the company
• Other terms required by statute

Resolutions

Corporate resolutions formally reflect the approval by the directors and, in some instances, the shareholders of the company of actions to be taken by the corporation. Resolutions often are accompanied by exhibits, particularly when the corporate action being approved is the entry into a commercial agreement (then the agreement might be attached as an exhibit to the resolution).

Minutes

Minutes record the events and discussion points occurring during the meetings of the parties associated with the corporation (such as shareholders).

Stock Ledger

The stock ledger reflects the ownership of each share of company stock and the consideration given for the share, and formally tracks all transfers and cancellations of company stock. All stock should be properly issued according to corporate and securities laws.

LLCs

A business structured as a limited liability company should have an Operating Agreement. The operating agreement should address, among other things, management of the company (i.e., whether by its owners or by a non-owner party), the characteristics of the equity units, the cash flow distributions and how profits and losses will be allocated, and the decision-making authority of the manager versus the authority and control (and veto authority) of the non-manager owners.

Conclusion

Whether the company is an LLC or a corporation, owners should treat it as a bona fide separate concern. Personal debts and obligations should not be paid from the company’s assets, nor should personal and business funds be commingled. The company should be adequately capitalized, and any agreements entered into by the company should be in the company’s name, not in the name of any individual person.

We also suggest that the equity owners of the business, whether an LLC or a corporation, plan for the departure of any equity owner through an agreed-upon buy-sell agreement. This agreement would address the transferability of the equity held by each equity owner and describe the circumstances under which an owner may have a right to sell their equity, or where the company or the other owners may have the option or be required to buy the equity of another owner. The agreement would explain the process for the buyout in any such circumstances, including how the purchase price will be calculated, and ultimately how that purchase price will be paid. The purpose of this document is to provide a plan for the orderly transfer of company equity.

Merging these corporate or LLC formalities with terms that are customary for the industry requires knowledge and experience of issues specifically faced by cannabis businesses. We suggest that particular provisions are included in shareholder agreements and operating agreements for businesses in this space, and also threshold business-based issues from regulations should be included. The cannabis business owner has a dual state-law compliance obligation – compliance with the corporate/LLC laws, and also compliance with Cannabis regulatory requirements – a focus on regulatory compliance should not cause the owner to overlook the more mundane, yet important, corporate/LLC formality requirements.