Access to capital is critical for any industry. The state-legal cannabis industry struggles in this area for several reasons, including federal illegality, stigma issues that reduce the investor base, the capital intensity of many of its businesses (like cultivation facilities), the lack of financial intermediaries due to limited banking availability and a litany of rules at the local and state levels that can change very quickly and create risk for owners.
Many companies directly in or serving the cannabis industry have turned to the public markets in order to facilitate raising capital. 420 Investor tracks over 350 companies in North America that trade publicly, the vast majority on the OTC Markets, rather than the NASDAQ or NYSE. While entrepreneurs in the cannabis industry already face stigma issues running their businesses, the additional stigma of “penny stocks” is one that perhaps keeps them from pursuing the option of going public.
After a meteoric rise in early 2014 following the global media frenzy surrounding the opening of retail cannabis stores in Colorado, the bubble burst had burst by March, and cannabis stocks, as measured by the 420 Investor Marijuana Index, fell 97% over the next 23 months. The market has rebounded since the lows in mid-February by about 30% or so.
Given the recent resurgence in the publicly-traded stocks and the likely substantial increase in the focus on the sector later this year with many state legalization initiatives on the ballot, it seems timely for entrepreneurs to think about whether or not going public makes sense. With that in mind, I asked a group of cannabis industry investors, a securities lawyer and the COO of a company that recently went public: What advice would you give to a company in the cannabis industry that intends to go public?
The responses ranged from “don’t” to “be cautious”, as each of the them recognizes the risks a company going public assumes. While many reading their advice will be discouraged from going public, those that aren’t will gain a better understanding of the steps they must take in order to succeed.
Here are the seven experts who weighed in:
- Leslie Bocskor, President of Electrum Partners – Leslie, who won the 2015 ArcView Group Investor Member of the Year, serves as an advisor in the Cannabis industry. He is the founding chairman of the Nevada Cannabis Industry Association and has spoken internationally on cannabis industry matters
- David Friedman, CEO of MJIC, Inc. – David, who has considerable experience as an angel investor as well as being a principle in both venture capital and private equity firms, runs MJIC, which owns media properties, financial services and other operating businesses services in the cannabis industry
- Fred Gross, Investment Principal and Founder of 77th Street Finance – Fred, who has experience as a derivatives trader, has been investing in the cannabis industry and has served as New York’s Syndicate Leader within CannaFundr, where he led investments in MJardin and Indoor Harvest (OTC: INQD)
- Brenda Hamilton, Founder of Hamilton & Associates Law Group – As a securities lawyer, Brenda has counseled clients listed on the NASDAQ, New York Stock Exchange and OTC Markets. Her services include going public transactions and SEC disclosures, and several other areas
- Doug Leighton, a Founder and Managing Partner of Dutchess Capital – Largely focused on the legal cannabis industry since 2012, Doug was an early investor in American Cannabis Company (OTC: AMMJ) and MassRoots (OTC: MSRT) and has made numerous investments in direct and ancillary cannabis companies
- Morgan Paxhia, Managing Director of Poseidon Asset Management – Morgan formed his firm with his sister, Emily Paxhia, in 2013 to invest exclusively in cannabis & hemp opportunities and ended 2015 with 27 companies in the portfolio. Morgan serves as a Director at Surna, Inc. (OTC: SRNA)
- Brett Roper, COO of Medicine Man Technologies (OTC: MDCL) – Brett has an extensive background in business development, having successfully ‘shepherded’ several Form 10 and S1 filings as well as NASDAQ uplisting efforts, most recently founding Medicine Man Technologies
First, before I find out that a company intends to go public, I’m going to ask them why they want to go public, how they intend to do it and with whom. Who are their advisors? Assuming that they are going public for reasons that make sense in the context of their business model, and that they are using a mechanism that will be manageable, that will be realistic for attaining the results they are looking for, and, assuming they are doing this with reputable and knowledgable people, my advice would be: Be diligent, be prepared, be careful.
By diligent I mean in terms of the amount of data and research you’ve done as regards making the transition from going from being a privately owned company to a publicly traded one. Cornerstones of this have to do with extreme preparation — preparation for filing deadlines, audits that need to happen on a regular basis, the management needs that come with having so many more stakeholders in your company. We’re talking about what it means to have a market made in your stock — that is, market makers that are traders that are representing broker dealers or investment banks (or who are part of these) who will be trading in your security. Consider what your risks are. What has gone wrong for other companies who have been similarly positioned and what can be learned from their transitions? You’ve got to think, where is it I want to get to? And then build backwards from where you are now, so you can see a clear and critical — strategic — path for moving your company forward.
I say this because, when you’re running a public company, you’re actually running two businesses. First, you have your underlying business, which is your core value proposition. That’s challenging enough. Then, running a public company is like running another business unto itself. This is due to the complexities that come up on a daily basis, both because of the regulatory environment you are now in and because of the responsibilities involved in managing this second business on a day to day basis.
There is a right way and a wrong way to do EVERYTHING! Simply put, if you are going to go public do it the right way for the right reasons. It does not matter if you do an S1 to the OTC, Reverse Merger or are somehow able to get direct listed to one of the main exchanges (NYSE/AMEX, NASDAQ…) you need to know why you are going public and be sure that doing so will help you. You also need to know the costs associated with that decision.
Going public is something you generally do to raise capital and create liquidity. If you cannot issue new stock you cannot create capital. If you cannot make a market with your stock because you have no revenue and no plan and nobody will buy it, you are unlikely to create liquidity. In that case, you have only succeeded in creating a much more highly visible and restricted environment with a minimum of $150K in annual costs to maintain a respectable listing… If you don’t have a plan, stay private and quiet and get one! Then go public.
In the cannabis space at this stage, going public represents an enormous challenge. Your entity will be initially devalued/revalued. Staying private and concentrating on revenues and making money and paying dividends is MUCH more important right now.
I would advise companies in this space, for now, to STAY PRIVATE., unless you are revenue positive, on the right path towards profitability and your goal is to SCALE and grow into a REAL entity.
- WHY are you making the decision to go public? If it is to access the myth of “accessing cheaper capital” then you should NOT go public in the cannabis space. If the answer is to create “liquidity” then the answer is you should NOT go public. If the answer is that you want to move towards a “real company” and have a game plan to do so, then yes – but not at the expense of the company and the company’s investors.
- Does going public strap capital and resources and restrict the ability to focus on core competence? If YES then the answer is DO NOT go public – stay private, focus on making MONEY and pay dividends and reinvest profits. There is NO rush to going public
- Do you have the right team in place? Can you/they execute? Do you have proper IR/PR in place?
- Do you know your investor base and are they strategic partners or are they looking for a quick flip? If the latter – then DO NOT go public.
- Is your plan to go public and remain OTC or grow into a “real’ company – a NASDAQ company. If the answer is the former then DO NOT go public
- What is your plan? Can you execute it? Do you have the team to execute? Are your investors behind this plan?
- If your plan in this space is to go OTC and then Nasdaq you had best have the revenues and structure internally to show viability. If your plan is a reverse split DO NOT even think about going public
Companies in the cannabis sector wanting to go public have many opportunities, especially with Regulation A+ and Rule 506(c), that weren’t available only a few years ago. Using these new rules, issuers can enjoy an easier going public process. Investors are by now aware of and knowledgeable about the cannabis sector; to succeed, it isn’t enough to just be a cannabis stock anymore. The key is to show why an investor should invest in your specific cannabis business. A cannabis company should be prepared to explain to investors how it differs from direct competitors in the cannabis sector and from cannabis stocks in general. Why is the company worth what you are asking investors to pay? How did you compute your valuation? Be ready to show calculations and to justify all assumptions.
For companies listing on the OTC Markets, most will go public using a direct public offering. It is critical that the company plan ahead and create the most beneficial and cost effective structure. This will assist greatly in attracting investors and having a smooth going public transaction at an affordable cost.
When going public you must bifurcate the company into two parts: The expenses associated with the cost of running the public company and the expenses associated with the actual business. You should also have a dedicated person to run the public company that has a handle on the financials, reporting and the underlying message of the company to all shareholders and stakeholders. Make sure you pick the right financial partner(s) that is not in the stock for a quick profit as soon as it is trading.
Always be selling. You should be selling to investors that could be the potential for private placements, open market buying and investors that will look at debt and equity investments. Some investors will not invest in a startup, but will invest once the company turns revenue positive. No matter what the investors sweet spot is, you have to update them and keep them informed once their criteria matches your company. You must attend as many roadshows and investment calls as possible. Keep investors informed often and lean on the investors that can offer help. It is not an easy feat to do well, but with hard work and determination, you can be one of the few that succeed.
We have been actively investing in this industry for over two years. We know this doesn’t sound like much time compared to the traditional world. However, cannabis is a hyper-driven marketplace. It is hard to imagine just how much we have experienced in such a compressed time frame. We have worked extensively with both private and public companies through this period.
Given what we have seen, it would not be ideal to go public on the OTC via reverse merger or S-1. A public company should benefit from such aspects as liquidity and lower cost of capital. We generally do not see the benefits in the OTC market as financing is largely unfavorable and liquidity too low for real capital support. We caution entrepreneurs to take this move seriously as it is very hard to extract yourself once on the OTC. Instead, we would prefer companies grow privately until they feel an exit via a listed exchange is possible.
As you consider taking your company public you have several things to ponder including the most important question … why?
First on the list would be to seek out those that have blazed the trail before you to determine whether their experiences were good, bad, or otherwise noting you will likely be amazed at what one hour with someone who will take the time to visit with you can provide you with knowledge wise.
Second would be to decide how you want to go public as well as how best to structure your company … discuss the entire process (create a working road map complete with stop lights, hazard warnings, etc.) and secure the concurrence of your shareholders (majority) in this process as to the market (OTC QB, Pinks, etc.) you want to be on, your capital structure (ownership profile) taking into account past fund raising rounds, employment commitments, business advantages (SWOT analysis would be good), management sufficiency, sourcing experienced board of director members (not just cannabis industry based but public company experience), and most importantly the mechanism you want to deploy such as an S1 Filing, a Form 10 Filing (both with 12G exemptions, a reverse merger (not a big fan of this method but …) etc.
Third … as you work to select these elements you should also be vetting and securing qualified service provider (audit, legal, financial, corporate, etc.) proposals for support of the effort as well as ongoing reporting as required based upon the exchange level you choose.
Four … choose wisely!
To share your thoughts on this topic, please post in our LinkedIn group, Cannabis Investors & Entrepreneurs.
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