On 10/2/2018, I attended the California Cannabis Insurance Symposium hosted by The California Cannabis Industry Association (CCIA), and the California Department of Insurance. The event was held in the financial district of Los Angeles and featured key speakers including the CA Insurance Commissioner Dave Jones, and two Partners of the law firm Wilson Elser. Additional notable speakers included various insurance company representatives and the director of cannabis regulation for Los Angeles County. The event consisted of three panel style discussion groups speaking in turn regarding their respective expertise. CA Insurance Commissioner Dave Jones was the emcee and I will begin this summary review with a short overview of his stance on the cannabis industry and how the Department of Insurance has embraced it.
Commissioner in a Word: Ally
From the moment he arrived, the Insurance Commissioner seemed genuinely happy to be in attendance. He was very optimistic about the future of the cannabis industry in CA. He made it very clear that he intends to continue working with carriers to expand the available coverages in CA and would like to see his efforts replicated across the country. To that end, he announced that he has been named the Chairman of the National Cannabis Insurance Commission consisting of all Insurance Commissioners of States where cannabis is legal in some form or another. He mentioned that he is actively seeking ways to assist in the establishment of a cannabis banking sector. It should be noted that he was quick to admit that banking will take quite some time to establish and it will require very creative methods to function properly. It was, however, refreshing to hear a man of his stature candidly discussing progressive ideas on how to establish legal banking for the cannabis industry. In my opinion, cannabis industry professionals have an ally in the CA Insurance Commissioner. He holds progressive and supportive views of the industry’s future. It should be assumed that he holds the business, labor, and consumers’ best interests at heart while acting as Insurance Commissioner.
Panel #1: Legal
The first panel to speak was comprised of various attorneys from the law firm Wilson Elser. They are a full-service defense litigation law firm with nearly 800 attorneys networked in 36 offices across the United States. They represent a large majority of the top tier cannabis firms in the US. Their influence on their clients, and as such the industry itself, should not be underestimated. Their outlook on the industry (specifically calendar year 2019) was that of concern. They are predicting heavy litigation in 2019. The overall sense was that the industry is maturing and is fully insured with multimillion-dollar policy limits. Various law firms have had the opportunity to study the existing policy language and find the areas of exposure within them. The stage is set for a potential windfall of lawsuits in 2019 and while initially troubling to accept, this does seem like a logical conclusion.
It may become an environment where only the most advanced and professional cultivators are left to operate in CA.
It is common practice that in the event of an insurance claim, all companies in the distribution chain will be named in the suit. The ensuing legal process will then determine the responsible party and their insurance policy will pay the indemnification. However, all companies involved in the suit will incur the legal expenses the carrier assumed while defending them (amounts ranging widely depending on carrier, deductible, policy language, etc.). Wilson Elser’s response to this threat has been to begin advising all their clients to enter into “Indemnification Contracts” with any company that they contract with. The purpose of these indemnification contracts is to enter into an agreement up front as to which company will pay either the defense costs (legal fees), the indemnity payment, or both in the event of a claim. These contracts are drafted alongside the client’s liability insurance policies to ensure seamless integration, and at times, specific policy endorsements are added to strengthen their positions. The logic behind this method is simply that of “Risk Transfer”. With these indemnification contracts in place, even if a company is named in a lawsuit, they have effectively transferred the liability exposure to another company in which they have contracted with, thus drastically mitigating any financial risk. This method is predicted to become standard practice in the industry very rapidly as it is a very difficult trend to reverse. As companies begin to require these contracts with their various partners, other companies will be forced to do the same to transfer the risk away from them. If the preceding notions are accepted as fact, it would seem logical that these contracts will tremendously favor the companies that possess the most leverage at the time of entering them. This begs the question: Which companies in the cannabis distribution chain have the most, and least amount of leverage?
Speaking very generally, the view of the legal panel was that the companies closest to the end consumer have the most leverage in contract negotiations. If large retail chains wish to enter into a contract with a distributor, they can require an indemnification contract prior to the agreement. They will be able to transfer all financial risk to the distributor in the event of claim. Knowing that they have assumed all the risk from the retailer, the distributor will then turn to the manufacturer and present them with their own indemnification contract. It stands to reason that this display of contract leverage will continue down the distribution chain until it ends where it all started: The cultivators. Again, if we are to presume that the legal panel was being forthright in their assertions, and that this trend of indemnification contracts will gain momentum, it would only seem logical to predict that within the next few years, the cultivators will be the most exposed piece of the cannabis distribution chain in terms of financial liability in the event of a claim. There may be no greater foreseeable shifts in cannabis business practices than that of the cultivators. The leverage held by companies above them in the distribution chain, combined with the implementation of indemnification contracts, will force them to adopt perhaps the strictest business models in the entire industry. There will be far too much at stake for them to operate any other way. It may be an environment where only the most advanced and professional cultivators are left to operate in CA.
Panel #2: Insurance Coverages
The second panel was comprised of various representatives of insurance services firms dedicated to the cannabis industry. Senior members of CannGen Insurance Services were present and were eager to share their knowledge with the attendees. In my personal experience, I have found CannGen to be knowledgeable and professional in their practices. The discussion focused on various coverages, and although no material mentioned was new to me, the presentation left me anxious to speak to cannabis entities so that I could guide them properly through the insurance process. Having said that, there was an individual on the insurance panel that made it a point to address a massive elephant in the room. He himself was not an insurance agent, but rather an attorney who represents employees involved in workers compensation claims. His points were well stated, and his advice was as stern as it was legitimate: Do not misclassify your employees in the State of CA.
…he has devoted $30 Million to a task force specifically dedicated to pursuing and prosecuting companies that misclassify their employees.
In April of 2018, the Superior Court of CA issued a landmark ruling in the case of Dynamex Operations West, Inc. vs. Superior Court of Los Angeles, No. S222732 (Cal. Sup. Ct. Apr. 30, 2018). This ruling will have a lasting effect on any business operating in the State of CA for years to come. To summarize, Dynamex was involved in the very common practice of classifying their employees as 1099 Independent Contractors to avoid the large expense of workers compensation insurance. The court ruled against Dynamex, and in so doing established the very clear guidelines of what allows a company to assign such a classification. *A worker is an independent contractor to whom a wage order does not apply only if the hiring entity establishes ALL the following:
1. That the worker is free from the control and direction of the hirer in connection with the performance of the work, both under the contract for the performance of such work and in fact;
2. That the worker performs work that is outside the usual course of the hiring entity’s business; and
3. That the worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed for the hiring entity.
His mention of the above requirements prompted the Insurance Commissioner to stand up and declare that he has devoted $30 Million to a task force specifically dedicated to pursuing and prosecuting companies that misclassify their employees. It should also be known that the CA Department of Insurance has arresting authority, and will levy the following penalties on entities found guilty of this offense:
1. Fines of $1,000 per employee, per day, up to $100,000
2. Legally required costs of reimbursement to an injured employee
3. If found to be willful, criminal prosecution of the managing entity partner(s)
We all know that the margins in the cannabis industry are relatively thin. I encourage business owners to think outside the box and establish creative ways to increase profits. Do not, however, attempt to increase your margins by misclassifying your employees as 1099 and cut out workers compensation. Work comp should be considered a necessary cost of doing business much the same as rent or taxes. The State of CA has declared a stance on the issue, and it is clear they are pro employee. Testing their resolve seems very unwise.
Panel #3: Los Angeles County Regulations
As my goal is to reach a broad audience across the State of CA, I will keep this section relatively brief as it only pertains to the County of Los Angeles. Having said that, it should be stated that Los Angeles County represents 44% of the adult use recreational cannabis market in the entire State of CA. It would be foolish not to pay attention to how this regulatory process is playing out, and draw valuable lessons from its implementation.
The marketplace will be vast eventually, but for now, LA County has a lot of work to do before they can streamline the process and open the door to the commercial cannabis industry.
Los Angeles County has 88 Incorporated cities within its borders. As of yesterday’s meeting, 18 of them have officially embraced commercial cannabis businesses. Of those 18, many have instituted caps on the number of commercial cannabis business they will allow to operate within their cities. Many limit the allowable number of businesses to a percentage of their population, while other welcome as many as would like to enter the market. With over 10,000,000 inhabitants, it seems fair to say that LA County has an enormous amount of work to do, and not very long to do it.
The Chairwoman of LA County Cannabis Regulation was very knowledgeable and informative. She discussed her travels to Denver, CO and other cities where cannabis is legal to review their systems for insight and learn from mistakes that were made. She is focused on uniting LA County around the cannabis industry and even spoke of potential open use areas. As previously stated, embodied within a population of over 10,000,000 are many differing opinions about every aspect of the cannabis industry. Licensure will be slow. Permits will be slow. Expansion will be slow. From an outsider’s perspective (I am an Orange County resident), the feeling I got was that if you are not already operating in LA County under one of the many current “loopholes” in the system, I wouldn’t be in a hurry to try. Most of the cannabis companies in operation were early players in the medical cannabis space and have been granted immunity while they transition to recreational use operations. The County still considers their operations to be “not permitted”, but they have openly announced that they will not prosecute them. The marketplace will be vast eventually, but for now, LA County has a lot of work to do before they can streamline the process and open the door to the commercial cannabis industry.
