Today let’s talk about Curaleaf and the trifecta of very bad things that befell the company over a recent two-week span. Then, let’s see what we can learn from this brutal sequence.
To recap, between July 22 and August 5, Curaleaf: 1) was hit with an FDA warning letter for “illegally selling” CBD products and making “unsubstantiated claims” that the products treat cancer, Alzheimer’s disease, opioid withdrawal, and pain and pet anxiety; 2) was hit with a class action securities lawsuit by a sharp-looking plaintiffs’ firm for making knowingly false and misleading statements to the investing public, that artificially inflated the price of its stock; and 3) was fined $250,000 by the State of Massachusetts for failing to disclose a change of ownership to state regulators.
At this point, Curaleaf directors and officers are probably nervous to get out of bed. But it’s all very interesting for the rest of us, so let’s break it down.
The FDA Warning Letter
If you are selling CBD products and you have not read this letter, you should. It’s here. As you read, keep in mind that Curaleaf claims to be the “world’s largest cannabis company by revenue and the largest in the U.S. across key operating metrics.” And then marvel at how ham-handed this whole thing is.
There are two things going on here. First, FDA is chasing Curaleaf for selling CBD products that are not generally recognized as safe and effective (a.k.a. GRAS) for their designated uses, and that qualify as unapproved “new drugs” under the Food Drug and Cosmetic Act. Fine. We can’t be too hard on Curaleaf for that: everyone is racing to make and sell these products notwithstanding FDA policy. Fundamentally, the bet companies are making with CBD products is that revenue upside (objectively large) will outstrip legal exposure (subjectively small).
But the crazy part is making these claims. Don’t make these claims. Health claims for unapproved products are an invitation for FDA to write you letters and worse. We have been sounding the bell for at least a few years on this blog on that issue in the specific context of CBD. The fact that a company the size of Curaleaf was saying things like “cures cancer” and “treats Alzheimer’s” in various media is really astonishing, and raises serious operational and governance questions.
An interesting issue going forward will be whether Curaleaf continues to sell the offending “illegal” products (like everyone else), but without making health claims. Mega-retailer CVS has already pulled some of them.
The Securities Lawsuit
We covered this one last week, so I’m going to be brief. It’s fair to say that suit wouldn’t have happened if the FDA had not acted, but that’s how these things work. The core claim here is that the FDA letter, caused by Curaleaf’s actions, caused Curaleaf’s stock price to fall 7%, wiping out significant shareholder value overnight. There are now other law firms piling on and jockeying to represent class plaintiffs, and Curaleaf will have to work diligently and creatively to beat back the damages allegations. For what it’s worth, the stock has been muddling along since July 23 and as of yesterday, August 13, it closed very near where it landed after the quick drop.
The State Compliance Boondoggle
The story here is that the company completed a merger without permission, which is generally a no-no in states with marijuana programs. Massachusetts was about as nice as could be about it, at least while issuing a quarter million dollar fine. The state acknowledged Curaleaf’s “good-faith but mistaken interpretation of the Commission’s regulations”, which is a nice way of saying that the company didn’t have bad intentions: it was just sort of dumb.
As with the FDA claims issue, it’s hard to understand how a company this large and with so many resources could be so careless. Quite possibly, it’s a case of doing too much too fast. Curaleaf closed a stock acquisition it valued at approximately $875 million last month, and it also announced the acquisition of Oregon’s Select brand a few months prior for $948 million (this again was an all-stock deal; one could certainly quibble with these valuations). Still, in state cannabis licensing, compliance is king and there is no good excuse for breaking basic rules.
It’s been fun picking on Curaleaf here (in full disclosure, I papered a $5 million mezzanine loan to one of its recent acquisitions a while back, on behalf of a third party). It’s also important to take some lessons away from this, aside from the very obvious “comply with all the rules” missives. There are two big ones, at least in my view.
First, mistakes tend to snowball. It may seem tempting to make an unapproved health claim, for example, on the theory that an FDA lecture is the worst possible outcome. But an FDA lecture can beget further and possibly more significant headaches, including litigation. Even if Curaleaf were a $2 million, closely-held company with handful of investors, there are always risks of fiduciary and management-focused claims.
Second, when it comes to state compliance, it is generally not better to ask forgiveness than permission. Ask for permission, and do not proceed until you are very sure that all is clear. Even in situations where cannabis licensees self-report violations, in most cases and in most states our experience has been that agencies go hard on violators (and it’s getting worse). Cannabis business transactions can be terribly frustrating due to regulatory delays, but you simply have to plan for it in this industry.
We will check back on Curaleaf at some point down the line. For now, play it straight as we wind down the summer.