When Someone Else Is Holding Your Crop and Your Money

A client recently asked me what she could do about a processor that was refusing to pay her farm for its share of the product she had turned over. She also asked whether I had heard similar stories from other growers. I have, and unfortunately it is not uncommon in this industry.

Cannabis cultivation is a tough business. Outdoor growers deal with many of the same risks as traditional farmers. They spend money months before harvest while dealing with weather, pests, mold, irrigation problems, wildfire smoke and labor issues, without knowing exactly what the crop will yield or what it will be worth when it is ready for market. Indoor growers trade some of those risks for high fixed costs such as electricity, HVAC, lighting, labor and facilities.

Then there is the price. Cannabis cultivators can spend months producing a crop only to find that the market has changed dramatically by harvest. Oregon is a good example. For years, the state allowed more production than the market could absorb, creating an oversupply that pushed wholesale prices down. A farmer can do almost everything right and still end up with a crop worth substantially less than expected.

The risk does not end at harvest

After taking all of those risks to produce the crop, cultivators still have to decide who they are willing to trust with it. Cash on delivery is obviously the safest transaction, but COD is not always realistic. A cultivator may turn flower or biomass over to a processor under a split arrangement, with the processor converting it into oil, concentrates or another finished product and the parties dividing the proceeds or finished goods. A wholesaler may take possession of product, sell it to retailers and then pay the farm after collecting from those customers.

These are normal business arrangements, and there are plenty of processors and wholesalers that handle them responsibly. But the cultivator is entrusting someone else with an asset that may represent months of work and a significant portion of the farm's annual income, and once that product leaves the farm, much of the control over it leaves too.

I have heard any number of explanations when processing arrangements go bad. There were contaminants. The quality was not what was expected. The yield was lower than anticipated. Buyers did not want it. The product has not sold. Some of those explanations can certainly be legitimate. The problem is when the farm has no practical way to verify what happened and the processor is already holding the product.

Robbing Peter to pay Paul

The bigger problems I have personally seen have been with wholesalers. Cannabis is a boom-and-bust industry, and a wholesaler may earn a commission of around 20 percent on the product it sells. When wholesale prices are high, that can produce a very healthy business, and like almost every other business, expenses have a tendency to grow along with revenue. More employees get hired, salaries increase, vehicles get purchased, and the company gets accustomed to operating at a certain level.

When cannabis prices fall, 20 percent of a much smaller number no longer supports the same overhead. If management does not adjust quickly enough, the wholesaler starts running short of cash, and this is where I have seen things go really wrong.

The wholesaler sells a farm's product and receives the money. Instead of paying the farm its share, the company uses that cash to cover payroll, rent, another vendor or an older obligation. Management tells itself that it will catch up when the next accounts receivable comes in. They start robbing Peter to pay Paul.

Sometimes this probably starts as bad business management rather than an intentional plan to steal from anyone. Eventually, it does not really matter to the farmer. Their product has been sold, the money has been spent, and they have not been paid. If it continues long enough, the next farm's product is effectively being used to cover obligations created by the last farm's product. Eventually the cycle stops, and someone is left holding a receivable while their cannabis is already gone.

I have seen this happen again and again. Distributors go out of business, change ownership or transfer operations while cultivators are still owed substantial amounts of money. The farmer may have a legitimate claim against the company, but having a claim and actually collecting the money are two very different things. If the money and assets are gone, there may not be much left to recover.

Know who you are trusting with your product

The cannabis industry is full of negligence, fraud and abuse, so cultivators need to pay attention to who they are trusting with their inventory. Ask other farms about them. Cannabis is still a relatively small industry and reputations travel. Find out whether they pay when they say they will, whether settlement reports are timely, and whether unpaid balances tend to build up. If possible, start with a smaller amount of product before turning over a significant portion of a harvest.

Also pay attention when payment patterns change. If a company that normally pays in two weeks suddenly takes six, or wants more product while it still owes you for the last delivery, that should get your attention. The squeaky wheel gets the grease, so stay on top of what you are owed and follow up when payments start slipping. Know how much inventory and money you have tied up with each processor or wholesaler, and do not let the balance quietly grow just because you have worked with them for years. Even good businesses can get into financial trouble.

There is also a lesson here for processors and wholesalers. If another company entrusts you with its product, the money you receive from selling that product is not simply cash available to run your business. You have an obligation to the company that produced it. If your business can only survive by spending money that should be used to settle with growers, the underlying business is already in trouble.

Cannabis cultivation is difficult enough without losing the crop after you have grown and harvested it. By the time you find out a processor or wholesaler has been robbing you to pay Paul, you do not want to be Peter.

This article is intended for informational purposes only and does not constitute legal, tax, or accounting advice specific to any business.