What Cannabis/CBD/Hemp Business Owners Can Learn from the Forever 21 Bankruptcy
“Oh, yeah, me and my buddy – we’re gonna open our own cannabis business. Our projected first-year earnings are over a million.” – Spoken by thousands of cannabis industry trade show attendees each year in just about any of the fifty states.
“On the founder side, this hubris thing is pretty common, but it’s particularly deadly if you’ve been successful for a long time,” said Erik Gordon, a management expert at the University of Michigan Ross School of Business. “They didn’t have a board of directors to give them a reality check, they didn’t have equity analysts to give them a reality check.” He added: “You can live in your self-created bubble for a lot longer, but then the bubble pops.”
-- Quoted by NY Times Writer Sapna Maheshwari on October 23, 2019. https://www.nytimes.com/2019/10/23/business/forever-21-bankruptcy-chang-family.html?mc=contentTWdom&ad-keywords=auddevgate&subid1=TAFI
The idea that a business owner can make millions surrounded by some form of weed is the prevailing thought among most cannabis start up owners. Business hopefuls are convinced that they can, single-handedly or alongside a few cherry-picked friends, brand, market, and retail their products while the money comes pouring in, forgetting that overhead costs, taxes, licenses, and a very expensive compliance operation can suck up most of the profits before they even open the door.
As the Erik Gordon quotation states, the hubris is pretty common, especially if someone has had success in some other business venture, or even if they successfully grew pot in their basement while in college.
Cannabis/CBD/hemp business owners can learn 4 key lessons from the bankruptcy of global retailer Forever 21.
1) Giving up some of your equity will bring in valuable perspective. Forever 21 operated as an enormously successful family business for years, until – seemingly overnight -- it didn’t. In retrospect, some disastrous real estate decisions steered the $4 billion retailer into bankruptcy. CEO Chang personally oversaw each of over 500 leases, was reluctant to close underperforming stores, and when mall traffic dwindled, dug in rather than moved out. A board of directors, or a team of equity stakeholders was obviously needed to counter Chang’s position, which represented 99% of the Forever 21 holdings at the time of bankruptcy filing. In your cannabis/CBD/hemp business, you might be reluctant to give up some piece of your equity out of a sense that your business is “your baby”. It takes a village to raise “your baby”. The opinions of equity investors will provide another voice when you are seeking to make big decisions. Help preserve your business through a much longer life cycle by bringing in other equity advisors.
2) Reaching outside your circle of friends and family to build your team is vital to making smart business decisions. Forever 21 waited until the chain was clearly in trouble to belatedly bring in industry experts. Prior to that, it wasn’t unusual for the Changs to install managers who had little or no prior retail experience, but who were known to the family through family or church associations. The cannabis/CBD/hemp space is vast. While you might want to have an operation that is solely built by friends and family, that may not be the smartest business decision for growth and longevity. Hire experts who have had success in exactly your type of business, even if they are coming in from out of state, and even if you had never heard of them before actively seeking out their expertise. You don’t have to form lifelong friendships or treat them like they are cousins. You just need to have them work for you and lend you their industry intelligence.
3) Empower your management team! Once you’ve developed your team, let them do their jobs! One of the fatal errors of the leadership of Forever 21 was that the CEO was reluctant to delegate responsibilities outside of himself and his daughters. As the NY Times article (link above) states, as recently as last year, Forever 21 CEO Chang was still the only person capable of signing off on business expenses and saying yay or nay to employee lunches. It’s easy to miss a big cue from the market when you are working every second of the day, micro-managing store layout, HR, and accounting. Build a team of leaders and then let them take care of the daily tasks. That way, you can have the brain space to see the bigger picture of your venture.
One final point: your cannabis/CBD/hemp business will not survive bankruptcy the way that Forever 21 will. Put bluntly, your bankruptcy petition will probably not even be accepted by the federal court.
At this point, Forever 21 will reorganize under the watchful gaze of the federal bankruptcy trustee, closing some stores, and streamlining their operations. Your cannabis/CBD/hemp operation will not be so fortunate. Even if your business is an ancillary business (not plant-touching), your plea for relief from creditors in federal bankruptcy court will be tossed out. The United States Trustee (UST) has found in the Way to Grow case that a hydroponics business that based its business plans with heavy reliance on the cannabis industry could not seek relief from bankruptcy court, even in the state of Colorado, which has a statewide legal framework for grow operations. This is consistent with prior rulings of the UST, which, notwithstanding state-licensed marijuana businesses, uphold the Controlled Substances Act 21, U.S.C. §§ 801, et seq. (the “CSA”), and make no distinction between a seller or grower of marijuana and those who rent space to the seller or grower or who sell supplies to marijuana businesses and customers who are intending to use the supplies for activities deemed illegal under CSA. (See In re Way to Grow, Inc., Case No. 18-14330-MER, Dkt. No. 379 (Bankr. D. Co. Dec. 14, 2018). At this time, if you know that your customers are intending to use your products for any activity that is illegal at the federal level, you cannot seek relief from creditors in the bankruptcy court. Even if you are thinking that your CBD and hemp products are safe under federal laws, if there is any indication that they can be used by cannabis consumers, your petition in bankruptcy court will likely fail.
-- Paula Collins, EA, MBA, Esq.