This post is the second in a two-part series on mergers and acquisitions in the cannabis industry. Read the first part, “Mergers & Acquisitions in the Cannabis Industry - Due Diligence” for things to know about performing due diligence on an M&A deal between two cannabis operators.
For many cannabis operators, the next phase of growth involves merging or acquiring another participant in the cannabis market. Joining forces with another cannabis operator can strengthen your brand by helping you reach new customers, add a new product line, or become profitable more quickly by vertically integrating.
Before forming a business partnership with anyone, it’s vital to do your due diligence on the other company. This process, which was covered in the first post in this series, involves taking a careful look at a company’s financial statements, liabilities, licenses, and more.
Go through this process first to decide if the M&A opportunity is a good fit for your cannabis business. Once you have the green light, here’s what you need to know about integrating and combining two cannabis businesses.
Merger, Acquisition, or Consolidation?
There are three main options for bringing together two separate entities under one business: merger, acquisition, or consolidation.
A merger is when two or more companies come together or combine forces in one new legal entity. In this scenario, the companies are usually the same size, and the merger deal is mutually beneficial for both entities. There are three key types of merger deal:
- Horizontal merger: both companies are in the same line of business, which means they are usually competitors. Example: Disney bought LucasFilm. Both companies were involved in the production of film, TV shows.
- Vertical merger: two companies are in the same line of production, but at different stages. Example: Microsoft bought Nokia to support its software and to provide the hardware necessary for a proprietary smartphone.
- Conglomerate merger: two companies are in totally different lines of business. Example: Berkshire Hathaway acquired Lubrizol, a specialty chemicals company. This kind of merger usually takes place in order to diversify and spread risks in case the current business stops yielding adequate profits.
An acquisition takes place when one business buys a second one, or one smaller company is absorbed into the parent company. Acquisitions can happen with or without the target company’s approval.
Lastly, a business consolidation takes place when different ventures come together, combine forces, and join into one completely new venture. Consolidations are usually used to improve operational efficiency and can involve several businesses. There are a variety of ways to consolidate multiple businesses:
- Statutory consolidation: businesses are combined into a new entity and the original companies cease to exist.
- Statutory merger: an acquiring company (Company A) liquidates the assets of a company it buys (Company B), incorporating or dismantling its operations.
- Stock acquisition: this combination sees an acquiring company buy a majority share (more than 50% of common stock) of a company, and both companies survive.
- Variable interest entity: an acquiring entity owns a controlling interest in a company that is not based on a majority of voting rights.
The key difference between a consolidation and a merger is that the consolidation focuses primarily on stock acquisition. Mergers focus primarily on bringing together two businesses’ operations.
What to Consider in a Business Integration
There are some key aspects to consider when deciding which of these integration methods is right for your business.
First and foremost, consider the accounting and financial repercussions of your business deal. The goal should be to keep your accounts separate, and your finances unified. In financial accounting, consolidated financial statements provide a comprehensive view of the financial position of both the parent company and its subsidiaries, rather than one company's stand-alone position. You should have the ability to provide high-level financial reports that get granular when necessary. Ideally, your business integration should offer better financial efficiency by bringing together both entities to share resources.
People and culture are two other aspects to consider. There’s no right way to bring together teams and working environments. Each marriage of business will happen in its own way, but be mindful of the transition and the people who you are working with; it’s often helpful to have a transition team that’s separate from your core operational team. Recognize the strengths in each entity’s culture and try to carry those strengths through in your new business.
Bringing Together Finance and Accounting Processes
Let’s take a deep dive into how to bring together the financial and accounting processes of two disparate cannabis companies.
The first step is to appoint a CFO or a VP of Accounting and Finance to oversee the combination of both cannabis entities. The CFO is arguably the most important person in your cannabis company. It’s possible to outsource the CFO function if you can’t find a strong enough candidate to help you through this process.
During the process of bringing together two cannabis companies, keep the books separate. This grants a level of granularity to your operations that makes it easy to get into the weeds of how your finances work and to check on the controls of your accounting processes. Over time, slowly transition to the same accounting system using Xero, Quickbooks, or other accounting software. Keep each entity separate in its own ledger to protect the overall business in case of an audit.
The accounting department should be centralized between both entities. Choose the entity that has the strongest financial standard operation procedures – procedures that the company actually follows. Appoint someone to be in charge of training and tracking the adoption of these SOPs for the new entity. Some staff will need to be familiarized with the processes from start to finish. Centralize your accounts payable and accounts receivable and standardize everything to achieve as much operational efficiency as possible. When combining books, it’s important to stick to the same system of labeling expenses, tracking cash flow, and maintaining records.
Consolidated Financial Statements
When you merge with or acquire another cannabis company, you will need to file consolidated financial statements on a monthly, quarterly, and yearly basis to the SEC (in the US) or the IFRS (in Canada). Essentially, these statements contain a record of your companies’ combined financials. The intercompany transactions must net down to zero; if they do not, something has gone wrong and you need to reassess your merger transactions.
Consolidated financial statements are required of public companies. But, they’re also useful for your senior management. These statements break down your operations to see which business units are performing best. You must follow the standards set by your regulatory agency to prepare these statements. That means using the format set forth in GAAP ASC 805 for the US, or the format of IFRS 3 if in Canada.
For more on how to merge your financial statements, watch our webinar in which we provide two high-level examples of how these statements come together – plus an explanation of how to account for goodwill and an insider’s strategy on taxes.
Bringing Together People, Culture, and Processes
The last part of merging your two cannabis companies? Bringing your people together under one roof. A friendly merger, which is the ideal situation, is when each board of directors meets, negotiates, agrees on a deal beneficial to both companies, accepts an offer to combine forces. A hostile merger, however, is when a board of directors for one company resists the merger. Bringing together two teams after a hostile merger is often a tricky proposition.
First and foremost, management should communicate a unified culture as much as possible. It’s likely that a business integration will mean some personnel redundancies arise. When this happens, avoid letting people go at random. This fosters fear and demoralizes your existing team. Create open lines of communication through all-hands meetings and try to be organized and transparent when bringing your teams together.
You will experience some rough patches, especially when bringing together a start-up with a flat organization and an older company with hierarchical management. Learn who the key people are who need to stay to keep the business running smoothly. It’s imperative to use your due diligence process to learn who has intimate knowledge of operations, high EQ, and “pull” within each respective organization. Review old annual personnel reviews if available, and interview as many people as possible.
After performing your due diligence, reduce redundancies by looking at each division and assessing who is best. Implement their operations and ideas, and focus the rest of your effort on committing to that vision. Cross-training and learning should be codified in SOPs; make sure you document each KPI to ensure longevity as teams grow, evolve, and change rapidly.
For more information and help managing your cannabis merger, acquisition, or combination, please get in touch with our team.