The IPO Leap

Industry and initial public offering experts offer guidance for cannabis companies entering unchartered waters.

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Going public can be an intimidating process no matter the industry. Cannabis businesses angling toward becoming a publicly traded entity face their own unique challenges, not the least of which is the amount of work that goes into the effort.

“It’s a distraction from operating the business, but a good one,” says John Schetz, general counsel for Cresco Labs, one of the largest vertically integrated, multistate cannabis operators in the U.S. “You’re this private company in growth mode and probably not a large organization, so going public is a strain in addition to running the business.”

While the IPO process can be daunting from a cost and labor standpoint, gaining access to capital markets and providing liquidity for investors are undeniable benefits. Ensuring the upsides of going public outweigh the risks means developing a plan built on timing, operational strength, and managing shareholder expectations.

Benefits and Key Considerations

Cultivation companies and initial public offering (IPO) experts interviewed by Cannabis Business Times point to many industry-specific reasons to make the leap:

Fundraising: Going public enables companies to raise larger amounts of capital from external investors.

Publicity: The move raises a firm’s profile among customers, investors and the general public.

Credibility: Becoming a public enterprise shows potential partners that your company can handle rigorous transparency and disclosure rules.

Liquidity: Employees and investors can monetize some or all of their holdings.

Currency: Public stock can be more easily harnessed for acquisitions and other deals.

Founded in 2013, Cresco Labs began trading on the Canadian Securities Exchange (CSE) in December 2018. With cannabis still federally prohibited in the U.S., Cresco’s operations are not listed on American stock exchanges such as the New York Stock Exchange (NYSE) or NASDAQ—even Canada’s largest exchange, the Toronto Stock Exchange (TSX), does not list U.S. cannabis operators. (Canadian cultivators can list on the TSX because their businesses are not federally illegal.)

Cresco, based in Chicago with operations in 10 states, went public during a three-month period, an unparalleled speed-to-market that company officials say gives them a distinct advantage as the business expands its national footprint. A handful of competitors going public around the same time motivated the changeover, one bolstered by granular-level strategizing from a team of managers, attorneys, accountants, consultants, and other knowledgeable backers, Schetz says.

“We had the internal bandwidth in those areas to support life as a public company,” Schetz says. “We also hired the right auditors for ongoing disclosure reporting obligations under the CSE.”

Schetz shares four questions cannabis leaders can ask themselves when considering a move to the public sector:

  1. At what stage is your company at currently?
  2. How many employees do you have?
  3. How informed is staff on the benefits and risks of going public?
  4. What are the state(s) cannabis regulations ?

Schetz suggests charting all company contracts, agreements, capitalization table information, and licensing data well before making any concrete decision.

“Due diligence is needed to marshal information about the company and its operations—make sure to pull that together in a disciplined way for everyone to look at,” Schetz says. “You should have that well underway in the preparation stage. The more organized you are with all that info, the further along you’ll be.”

What to Look For When Going Public

Scott Hammon, partner at MGO, an accounting, tax, audit and advisory solution firm for the cannabis and hemp industries since 2015, says lack of access to institutional capital is often the overriding incentive that pushes companies into the public realm earlier, when they are still young and unproven.

In his time advising cannabis clients, Hammon suggests cannabis companies that want to go public focus on four main checklist items to successfully make the jump.

Checklist Item #1: Focus on Your Strategic and Operational Plans.

Rather than letting the state of the stock market dictate a going-public strategy, entrepreneurs should instead measure readiness based on their well-researched plans for internal growth.

“Market seasonality is not an issue, which would make life easier,” Hammon says. “Markets can go on unexpected runs, or cause companies to accelerate or delay plans when they’re trying to go public. A company shouldn’t go public just because the market is hot. It should wait until it’s ready.”

Checklist Item #2: Prepare to Pay.

Although there are many benefits of going public, the costs associated with completing an IPO are considerable and vary widely based on IPO structure, company size, company readiness and other factors. An underwriter’s commission alone can cost anywhere from 5% to 7% of the offering. Cannabis operations with an eye toward public markets must also pay accountants, legal counsel, and investment bankers to pore over financial details, prepare contracts, and guide executives through complex tax laws in multiple jurisdictions.

“Those external individuals and firms provide additional support and serve as a sounding board both pre- and post-public,” Hammon says. “They have exposure to regulatory issues and will navigate you through the rules and regulations.”

Checklist Item #3: Know the Rules North of the Border.

Canada’s legalization of adult-use cannabis has made the country a bastion for growth-minded owners. However, companies with U.S. cannabis operations can be subject to specific regulations that require additional internal structuring to minimize impact.

For example, if an American company chooses to go public in Canada while dual-listing in the U.S., it has to comply with certain ownership regulations which, if violated, can result in the business being subject to onerous U.S. securities rules like having to re-audit historical financial statements.

“This risk can be minimized by properly structuring the entity prior to the public transaction,” Hammon says. “But these types of issues should be considered when making a decision about when and where to go public.”

Checklist Item #4: Be Ready For Full Disclosure.

Every U.S. and Canadian public cannabis company must provide quarterly and annual disclosure and reporting documents to meet securities regulations. Quarterly financial reports convey company performance before the end of a full-year financial reporting cycle, while proxy statements disclose material matters of a business relevant for soliciting shareholder votes and approval of nominated directors.

“There [are] earnings calls as well,” Schetz says. “For these calls, you’ll want to have on hand the team on the management side, as well as someone in a commercial role who’s doing most of the speaking.”

Traditional IPO Alternative: SPAC

A popular means for privately held businesses to trade on public stock exchanges is by merging with special purpose acquisition companies, or SPACs. Also known as “blank-check companies,” SPACs are formed strictly to raise capital through an IPO for the purpose of acquiring an existing company.

About $3 billion in cannabis SPACs have launched since 2019, according to New York-based financial adviser Viridian Capital.

“SPACs are popular in many spaces, not just cannabis,” Hammon says. “It’s accepted that the SPAC route is the quickest to going public and involves the least amount of volatility.”

Compared to a traditional IPO, merging with a publicly traded shell company offers a cheaper and faster way to go public. At the same time, SPAC shareholders must approve the deal, meaning they can redeem their shares anytime. In that scenario, SPACs may need to find alternative financing, which is not always an easy prospect for cannabis businesses.

“If the market collapses, you may find yourself unable to do the transaction,” Hammon says.

Lessons From an IPO Pioneer

As the first publicly traded, seed-to-sale cannabis business in the country, Florida-headquartered Kaya Holdings blazed a trail for hundreds of other cannabis operators targeting growth opportunities both for themselves and their investors.

Kaya Holdings encompasses subsidiary Kaya Shack, which includes medical cannabis growing operations alongside a flagship retail store in Portland, Ore. Kaya Shack is traded on the OTCQB, a mid-tier, over-the-counter exchange for entrepreneurial and development-stage companies.

Before beginning cannabis operations in 2014, the company’s founders saw an opportunity to utilize extra capital for a nationwide expansion. Kaya Shack went public in 2014 via a reverse merger, where former parent company and biofuel startup Alternative Fuels America Inc. acquired the then-private cannabis business.

As a public cannabis pioneer, Kaya Shack did not have institutional investment support more readily available after Canada legalized recreational marijuana use, notes CEO Craig Frank.

“When we made the transition from biofuel, that was the beginning of the (cannabis) industry,” Frank says. “Not getting institutional support cut us off from certain growth opportunities we might have taken advantage of. We still could have woken up earlier to find informal investment groups or other funding alternatives.”

Being the tip of the cannabis spear nationally also meant mining a largely anecdotal information base on large-scale scientific cultivation methods.

“Our scientific and agronomy approach [was] brought in from Israel,” Frank says. “We’ve got two licenses in Israel and Greece. We’re building out those cultivation and extraction facilities for medical marijuana until recreational marijuana comes online.”

For companies considering entering the public arena, Frank recommends setting boundaries between shareholders and management as a way to control expectations and keep staff focused.

“There’s an obligation there, but shareholders have no right to command your focus,” Frank says. “That’s something younger CEOs should know—part of the job is responding to shareholder needs, but you’re not there to babysit them.”

Even seven years after the fact, Frank knows there is more he can do to create hype around his burgeoning company. Plans for the remainder of 2021 include hiring a PR firm to tell the Kaya Shack story, with the aim of engaging a U.S. cannabis press better equipped to tell the tale than in previous years when such reporting was itself just starting out.

Ultimately, it’s up to cannabis entrepreneurs to understand every facet of the going-public process, whether it’s reporting requirements, legal concerns or the delicate tradeoffs between a public and private operation, Hammon says.

“If I’m an entity going public, I want to make sure I’m driving the process instead of the other way around,” Hammon says. “Make sure you do that cost-benefit analysis every week as you go through the process. Reevaluate everything to make sure this is the strategy that’s best for you.”

Douglas J. Guth is a Cleveland Heights, Ohio-based freelance writer and journalist.

September 2021
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