The Value Cannabis Accountants Provide for the Pre-Revenue Process

cannabis accounting cannabis startups capital raising investors operations pre-revenue May 23, 2022

In order to apply for a Cannabis business license, state and local agencies often have similar (but different) requirements and hoops that hopeful operators must jump through in order to make it through the process. The licensing process is daunting and expensive for the simple fact that states' and local jurisdictions' requirements make it so that the prospective license holders may have to shell out thousands (or even millions) of dollars, and/or be on the hook for that much in expenditures, before a license is even granted. Our Cannabis real estate blog touches on the importance of acquiring real estate before opening up shop, but real estate is just one of many steps in this process.

In this blog, we’ll describe why Cannabis CEOs and business owners should invest in an accounting expert before going through the process and cover such topics as raising capital, handling investor concerns, and setting up pre-revenue accounting systems for your Cannabis clients.

Why are accountants needed in the pre-licensing process?

When we think of accounting professionals within the Cannabis niche, often we’re only thinking about how to keep clients compliant once their business is already operational. But what does it look like to help a client who has not yet opened for business?

The process won’t be the same for every business, as it can vary by state. Some states have requirements such as getting your real estate lease or sale locked in, obtaining all needed permits, and more, even before applying for a license.

There is a lot of paperwork and required financial documentation that must be compiled from all involved investors and owners. Still, there are also many expenses that must be accounted for if owners want to be able to minimize their tax liability. It’s essential to have accounting systems in place for the purchase/lease process and to ensure that the real estate holdings are set up correctly. In some circumstances, landlords may be subject to 280e if leases aren’t structured properly.

There may be some tax benefits if real estate considerations are strategized early on, creating yet another benefit to hiring an accounting professional earlier in the process. Also, states may require you to disclose all funding sources related to real estate, so starting a perpetual data room early on will help the licensing process later. There are also legal fees associated with various aspects of licensing in different states.

For example, California and other states have and are considering enacting specific labor requirements that you’d want an employment attorney to advise you on. If your organization intends to hire more than a certain number of employees, that may trigger rules that state that the business must enact a Labor Peace Agreement, or otherwise be subject to penalties, which can have a dramatic impact on capital if such measures aren’t properly planned for. Preparing for steps such as these also helps investors feel at ease and see the value that you offer in action.

We’re just beginning to touch the tip of the iceberg regarding pre-licensing requirements for states.

The Importance of Providing Accounting Guidance for Cannabis Operating Agreements

If you’re anticipating having investors or multiple owners tied to your impending license, your client’s business may require that you provide an operating agreement. Though not essential in every state, it’s vital that all financial aspects of the operating agreement are ironed out early on. It may be needed for other things like opening a bank account.

Accounting professionals’ input on critical decisions with investors such as distribution schedules, ensuring that tax distributions to the owners and investors are made by the company as scheduled, and well as clearly laying out how exits and capital raises are to be handled are key.

Supporting Cannabis Companies with State Tax Registration and Payments

Another massive benefit of having an accountant involved early on in the startup process is that they can advise on setting up state tax permits and accounts that help ensure that local taxes are paid in a timely manner – something that’s of the utmost importance in states like California, which is incredibly aggressive with collecting delinquent tax payments.

Ensuring you’re using the right tools and having tax accounts and procedures set up properly is essential in ensuring the business isn’t raided or shut down for non-payment. The money that is collected for tax purposes is not for the business to withhold. Doing so leads to severe consequences that can be really hard to come back from. Local agencies do not have much tolerance for non-payment of taxes collected on behalf of the state.

Addressing the Concerns of Cannabis Investors

Of course, the Cannabis CEO isn’t the only person who can benefit from an accounting professional; investors may find ease in it, as well, since you can address their concerns from the get-go; but what do their concerns look like?

One area Cannabis business owners might overlook needing an accountant is dealing with investors. Early on in the process, investors focus on accounting and transparency. Most have learned the hard way that you can't just fund a good idea without taking a hard look at the numbers involved.

That’s where an accounting expert can come in handy. Knowing the steps you need to take in advance to ensure compliance can show how valuable your skills are before raising capital.

Investor concerns don’t end there; moving forward, investors will be much more demanding of Cannabis, CBD, and hemp startups, expecting better internal controls, accounting policies, and reporting systems. They’ll want to see a Perpetual Data Room that’s available and up-to-date all the time, along with corporate governance structure, board seats, a robust accounting team that includes Cannabis/CBD/hemp accounting and tax experts, and accurate and timely reporting.

They not only want to see taxes being done properly, but they’re looking for professionals who can do accurate and thorough cost accounting. Owners and investors don't want to risk fines, penalties, loss of license, or even jail time.

But with all these precautions, how do you raise capital in this pre-revenue space?

Key to Raising Pre-Revenue Capital

To raise capital in the Cannabis niche, even before revenue is generated, having these five tips in place can help ease the financial burden of the startup process for accounting professionals:

Amassing a skilled team with the knowledge and experience to correctly set up accounting, controls, reporting, financial models, and investor pitch decks.
Create a well-thought-out capital and entity plan, including what funding structure is used to raise capital and what is the entity set up (asset protection and tax minimization goals).
Be sure to make a concise and realistic pitch deck that has all the key components.
Include a complete, accurate financial model with “what if” strategies showing best- and worst-case scenarios.
Gain access to investors and a good “roadshow” plan, including CFO support.

So what’s the best way to tackle pre-revenue accounting?

The easiest way to train to become an expert accounting professional is with some help and guidance. Sign up for our webinar on Pre-Revenue Accounting for Cannabis Startups to learn how to better grasp Cannabis accounting or find what to look for in an accounting professional for your Cannabis business.

Sign up here to watch live or stay tuned for the replay.