What is the sexiest topic in the cannabis industry right now?
For cannabis equity investors and funders, its due diligence.
I’m being ironic but if you are a cash-starved business you can’t afford to lose the game in the due diligence (DD) process. Dropping the ball here could be catastrophic: the acquisition or financing partner could drive a harder bargain - or worse walk away.
I have reviewed hundreds of cannabis business financials since 2016 and have yet to see a flawless set of books. This won’t pass muster in 2023.
In today’s challenging market, anyone offering you cash or stock is going to want to look under your hood and make sure your business is what you say it is – and will be.
Your odds of passing a DD exam will improve if you:
1. Think like an investor or buyer
Early investors in the cannabis industry chased early-moving licensed operators, in most cases turning a blind eye to their weak accounting and transparency.
Now, the capital markets tables have turned. The power is with the funders who have a smorgasbord of cash-starved, under-valued firms to choose from.
The last few years have taught investors the importance of scrutinizing historical financials, confirming that licenses and tax filings are in order and validating product & IP claims.
2. Lock down your paperwork
Ensure business records like license applications, corporate structure documents, cap tables and shareholder agreements are up to date and in compliance.
This should be obvious, but many companies don’t realize how important this is until they are in the midst of a potential transaction and time is of the essence. To savvy investors, poor corporate hygiene is a sign of managerial sloppiness.
3. Help your prospective partners
Having updated audited financial documents is critical. Hopefully you are working with accountants and lawyers who understand cannabis-specific considerations around 280e, IFRS etc.
I often recommend having a third-party firm perform tax and accounting due diligence on your company’s books. This can help make investors comfortable with your company’s earnings, liquidity and balance sheet reporting. For example, a “Quality of Earnings” report is critical in any M&A or capital raise transaction as it helps validate adjusted EBITDA and other earnings metrics.
Your balance sheet will also invite scrutiny especially when it comes to items like inventory and accounts receivable. Be prepared to explain your numbers as well as the assumptions behind them.
#duediligence #funding #M&A #QualityofEarnings