Marijuana, Real Estate

Get It Right: California Cannabis Business Lease Agreements

In addition to the normal cannabis-sensitive provisions that go into cannabis lease agreements, you should also consider the following items.

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Commercial leases for cannabis businesses are unique and require special considerations for risk management during the tenancy. Whether you are a landlord or a tenant, in addition to the normal cannabis-sensitive provisions that go into cannabis lease agreements, you should also consider the following when deciding how to structure a landlord-tenant relationship under California’s recently passed Medicinal and Adult Use Cannabis Regulation and Safety Act (“MAUCRSA”):

Ownership in the tenant cannabis company. Buying and selling shares in privately held cannabis companies can trigger state and federal securities laws and create regulatory problems under California’s cannabis licensing program. A landlord’s acceptance of an ownership share from a tenant in lieu of or in addition to rent can jeopardize the cannabis tenant’s California state cannabis license. California’s MAUCRSA defines “owner,” among other things, as any person with 20% or more ownership in the licensed cannabis company or any individual that exercises “direction, control, or management” of the licensed business. All such “owners” are subject to thorough background checks as part of the company’s ability to acquire and maintain its cannabis business license. A change in ownership or control puts the tenant’s license at risk of being revoked, harming both landlord and tenant.

“Premises” and multi-tenant cultivation. Industrial multi-tenant cannabis cultivation parks are big business in the marijuana sector, but whether they’ll be allowed in California is still open to question. MAUCRSA defines “premises” as “the designated structure or structures and land specified in the application that is owned, leased, or otherwise held under the control of the applicant or licensee where the commercial cannabis activity will be or is conducted. The premises shall be a contiguous area and shall only be occupied by one licensee.” It is not clear whether California’s cannabis regulators will allow licensees to set up multiple “premises” on one parcel of land or whether a given parcel of land is the “premises,” meaning one licensee per tax parcel. Landlords and tenants need to be mindful that multi-tenant cultivation may not be allowed on a single parcel of land in The Golden State.

Local law considerations. A California cannabis lease will be affected by ever-changing local regulations. California has 482 cities and 58 counties, and each one is handling cannabis regulation differently (or not at all). In some places cannabis tenants will need a conditional use permit or some other sort of local approval before beginning operation and in those places, the lease must account for this. If you’re dealing with a wishy-washy municipality, you should realize that non-conforming uses can complicate the cannabis landlord/tenant relationship and threaten legacy tenants. Your lease also should consider local and state approval timelines.

Profit/revenue sharing as rent. Commercial leases for garden-variety business tenants sometimes include terms requiring the tenant pay a certain percentage of its profits or revenue to its landlord in addition to or as part of rent. This sort of arrangement raises problems for cannabis tenancies since receipt of profits or revenue specifically tied to cannabis sales can expose the landlord to liability for cannabis activity as a de facto owner. And if the profit sharing is equivalent to 20% of more, the landlord will be considered an owner under MAUCRSA and will need to go through all licensing red tape.

Build-outs. Indoor and even greenhouse agricultural grows require unique environmental control systems and often means cannabis tenants must engage in expensive build-outs. In some states, such build-outs undertaken by the landlord are considered impermissible financing, in others that’s not the case. We do not know into which camp California will fall but we do know that turn-key cannabis real property facilities are a major investment, so who’s responsible for the build-out costs is going to be a key factor for both regulators and potential tenants.

Access and security. Though landlords typically want commercial cannabis leases to give them access at any time with reasonable notice for things like maintenance, inspections, and showings, the situation is different for cannabis business tenants. MAUCRSA rules (which will drop this fall) will undoubtedly require cannabis tenants to set up and maintain a rigorous security protocol that only allows authorized individuals to access the premises. This means unfettered access by a landlord will likely raise problems with California’s cannabis regulators. By failing to sufficiently regulate access in the lease, the landlord can unintentionally entangle itself with the operations of the licensed cannabis entity and thereby place its tenant’s cannabis license in jeopardy.

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Hilary Bricken bio photoHilary Bricken is an attorney at Harris Bricken in Los Angeles, and she chairs the firm’s Canna Law Group. Her practice consists of representing marijuana businesses of all sizes in multiple states on matters relating to licensing, corporate formation and contracts, commercial litigation, and intellectual property. Named one of the 100 most influential people in the cannabis industry in 2014, Hilary is also lead editor of the Canna Law Blog. You can reach her by email at hilary@harrisbricken.com.

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