At Harris Bricken, we keep close tabs on what is happening around the world, and we know that our friends and clients do, as well. We are happy to provide this podcast series: Global Law and Business, hosted by international attorneys Fred Rocafort and Jonathan Bench, where we look at the world by talking with business leaders, innovators, service providers, manufacturers, and government leaders around the world.
- How IRS 280E impacts cannabis business valuations, especially retail marijuana shops.
- What factors are key in determining cannabis business value, whether you are using the income, market, or asset approach.
- What do you do when your business partners do not keep good financial records and how to recreate financial statements from receipts and bank statements (if there are any).
- How Eli developed clientele in his mid-20s when competing with larger accounting firms.
- The best way for business owners to avoid a valuation fight (hint: the shotgun approach generally works best with one joint appraisal rather than competing appraisals)
- Listening, and watching recommendations from:
We’ll see you next week for another exciting and informative episode when we sit down with Federico A. de Jesús, Principal at FDJ Solutions!
Eli Neal, Fred Rocafort, Jonathan Bench
Fred Rocafort 00:07
Global Law and global business go hand in hand, but never seem to keep pace with each other. The importance on the global stage of developing and developed nations waxes and wanes, while consumption and interconnectedness steadily increase all the while laws and regulations change incessantly requiring businesses to stay nimble. But how do we make sense of it all? Welcome to Global Law and Business hosted by Harris Bricken International Business attorneys. I’m Fred rock afford. And I’m Jonathan bench. Every week, we take a targeted look at legal and economic developments in locales around the world as we try to decipher global trends in law and business with the help of international experts. We cover continents, countries, regimes, governance, finance, legal developments, and whatever is trending on Twitter. We covered the important the seemingly unimportant, the relatively simple and the complex.
Jonathan Bench 01:01
We hope you enjoyed today’s podcast. please connect with us on social media to comment and suggest future topics and guests. Today we’re joined by Eli Neill, owner of four corners financial forensics in Bellevue Washington. Eli is a licensed CPA abv and C. F. F. Eli. Welcome to Harris Bricken global law and business.
Eli Neal 01:35
Thanks so much for having me, Jonathan. It’s my pleasure. Now first, let’s talk acronyms. I know that you financial folks love your acronyms. So can you tell us CPA BV and cf f? What are those designations? Yes, we do love our acronyms. CPA is certified public accountant. ABV is accredited in business valuation. And CFF is certified in financial forensics.
Jonathan Bench 02:04
Excellent. So we’re gonna unpack those a bit as we talk, but can you give us a brief rundown of how you came to be where you are right now a little bit about your own background personally and professionally?
Eli Neal 02:15
Yeah, absolutely. Absolutely. So I grew up in Seattle, Washington, and went to University of Washington for my accounting degree. And then I started out of school at Ernst and Young. One of the big four public accounting firms spent four years there between Seattle and Portland, Oregon. And then I was recruited by a former coworker to join cogens group. And cogens group is a small firm in Portland, Oregon, that does valuations and expert witness work in disputes. And so I spent about five years at cogens group learning kind of the specifics of that niche offering and started my own firm in late 2020. Up here in Bellevue, Washington came back home. Let’s talk about accounting. First, can you compare accounting in the cannabis industry versus a normal, say a normal business? Right? Is there a different approach in this more niche industry than what we would find in mainstream accounting practices? Yeah, I would say that the general rules of accounting are the same. It’s still debits and credits, just like any other business, but the big driver of differences is 280 E, which is the tax burden on cannabis companies. And that’s because it’s still federally illegal. And so 280 E means that cannabis businesses are taxed on gross margin, rather than profits. And so gross margin is revenues minus cost of goods sold. And that’s it, no operating expenses can be deducted. And so the real difference in accounting is that cannabis businesses, you know, really have to be more aggressive in classifying costs as cost of goods sold, rather than operating expenses because it reduces their tax burden burden. So cost of goods sold is basically the cost of inventory. And so dispensaries especially are are looking for every expense to shift into cost of goods sold, and that can be inventory, handling costs of employees working with inventory, and also the inventory storage costs. So they might prorate rent to get more up and cogs. And with a typical business, you know, there’s really no consideration. You just put rent and an employee costs as operating expenses and move on because it doesn’t matter. But because of 280 he it really does make a big difference
Jonathan Bench 04:58
And so, what about businesses in the cannabis space that don’t have? Don’t have goods? In the traditional sense, right? What if it’s a I know a little bit about this, but only enough to be dangerous? So can you compare different cannabis businesses such as producers, processors that are growing actually processing product versus retailers versus others that may even just be ancillary to the industry?
Eli Neal 05:22
Yeah, so So producers don’t have the same issue, because almost all of their costs go into the cost of their inventory. You know, you got the people that are growing it, their costs go go into inventory, you’ve got the cost of water and seed and intending to the crop, all those costs typically go into to inventory, whether you’re growing cannabis or growing tomatoes. And so there’s not much of a difference there. The retail is, is really the the biggest difference, because they’re looking to get as as many of their costs into cost of goods sold, you know, kind of taking more aggressive, careful look at at the cost of handling that inventory than than a normal retail operation. Would. Yeah, so those are, those are kind of the two key key areas. The wholesalers, you know, as well would be interested in, in moving costs of handling inventory up into cost of goods sold, as well, just to reduce the really huge tax burden that continues to be levied on cannabis companies.
Jonathan Bench 06:37
Federally, is there any entity at InSite?
Eli Neal 06:41
Yes. You know, it’s so funny, I originally gotten started the got started in the cannabis world and, you know, 2016 2017, when it was legalized in, in Oregon State, and, and everyone thought that it was just over the horizon. But it’s been now, five years from that time. So I am now out of the game of guessing whether to add will be revealed. I think that it should be I can’t see a reason why it wouldn’t other than inertia. But in my evaluations, you know, I’m never making an assumption that 280 E is going to go away. It’s just too speculative to know when or if that will happen.
Jonathan Bench 07:26
Interesting. So let’s turn to your work in supporting the cannabis industry. You’ve been interested in it since before legalization, you supported businesses with testimony and litigation when many professionals refused. Can you talk about how you came to be willing to offer the service and and what you’re seeing in the industry, as far as the quality of other professionals, you may be up against in in some kind of litigation dispute when you’re talking about valuation of a cannabis company?
Eli Neal 07:55
Yeah, so I got involved right away when it was legalized in Oregon State in Washington State. So it was legal in those states, but, you know, still federally illegal. Many, many professionals were apprehensive about providing services, in this kind of in between state of, of legality. And so you know, the AICPA that gives me all of my nice letters, which I like, is a national organization. And so CPAs, were worried about whether the national organization would support it, since it’s legal only on the state level. And then also larger firms do a lot of work with financial institutions, banks, lenders, and generally they felt that they had to pass on the work, because of the strict federal regulations on banks and lenders. And so already, you know, that just wiped out a ton of really skilled, quality professionals, that felt like the risk was not worth the reward in terms of offering services to cannabis. And so, your, your next question was, so why did I jump in when others refused? And, and to be honest, it was really kind of a selfish reason. I’m still on the younger side of this profession. And there’s a lot of people that do what I do, that are, you know, over 60 years old, with 30 plus years of experience, and at the time, I think I was 26 or 27 years old. And so I was asking myself, why would someone hire me when they could hire someone that has more experience than I am years old, and and my willingness to serve and study and jump into the cannabis market was a way to announce myself to the market and give, give attorneys like yourself a reason to work with me and kind of see what I can do. And so I stepped into the void and and help to business owners who needed help from skilled business professionals and, and certainly without cannabis, it would have taken me a lot longer to have the opportunity to to be the forward face of testifying and helping business owners and attorneys. And now that I’ve testified in cannabis disputes and provided cannabis valuation, you know, my work has really snowballed. Because of the experience and relationships I gained into all sorts of different industries now, that I that I help.
Jonathan Bench 10:38
You’re the quintessential startup, right, which is how do you sell a product that you haven’t sold before? Right? It’s always the it’s always the question, right? How do you how do you prove it out? I had a similar experience when I was in my first law firm in Maine, in about 2015. And Maine had legalized about 2012. But they were slow rolling out their regulations. And I was, I was a young aspiring business attorney. And at a very traditional firm, very good, firm, but very traditional. And so we had a couple of the partners, who were who said, you might be able to do this, but look at the bar rules. Look, we need to we need an ethics opinion from the bar legal counsel so we can take on the work. And so I had to, I had to dig in, do the research looked at what had happened in Washington and Oregon, and how those State Bar Association’s had had given opinions on whether or not attorneys could represent cannabis company. So similar concerns, similar timeframe. And I think you’re right, it bears out there are a lot of us who are early in our career in the past 10 years, who have now, you know, after we’ve, we’ve dug in for several years, we’re now experts in the field, probably younger than then we would be if we were in a more traditional field.
Eli Neal 11:50
Yeah, exactly. Right. Same exact thing, law firm accounting firm, the easiest thing to do was just ignore it and let someone else do the work. Yeah, my, my boss, he was in his 50s. And well established at the time, you know, was not so interested in diving in and in fighting the uphill fight. But yes, I see young, hungry professionals that one of the experience, it was a great opportunity. For me, for me the question I always got asked as a 27 year old, have you testified before? To have to say no to that question, you know, almost slammed the door in your face. But if I say no, but I’m the only one in Portland that knows the cannabis market this well. Yeah, gave me a fighting chance. So when you’re actually testifying and being involved in this, and you’re staring at others across the table, or across the bench, did you get any backlash? Because you were so young, or because you were relatively inexperienced compared to others? I mean, did you did you feel that and how long did you feel that resistance? And are you past that now? Yeah, I think I, I really didn’t feel feel any backlash, really the entire time? You know, I didn’t, didn’t hear from the CPA organization to just just cut it out. And certainly the federal government did not kick down my door in the middle of the night. You know, it kind of kind of just kind of just went really well from also from attorneys, CPAs and clients, I was greeted very positively. And it’s because they needed help, and no one would help them. And I helped them and even, you know, judges and arbitrators, you know, I think appreciated that there’s a legitimate dispute that needs to be figured out. And I’m helping bring clarity to that situation. And so, yeah, it’s it was really warm feelings and kind of collegiality almost between the people that had decided to jump in and help out. And in terms of my, my youth or in relative inexperience you know, I’m sure that that crossed people’s mind when I first walked in the door, I’m lucky I have gray hair at a young age that helps make me look a little bit older. So I’m, I’m happy about about that development for myself. And and I really go in with a different attitude than then older, more experienced testifying experts, those experts come off as professorial almost in their approach and and rely on their experience in theory and I am more the the young energetic into the details really know everything. Because I’m I’m the one doing the work right. The older testifying experts have someone like me, doing the modeling, doing the report writing and then they pass it off to to the older expert in my case, you know, I just I just do it all. And so I think it comes across that I just know that details really well of the dispute. And that’s kind of the the persona that I have one testify or one, one helping, you know, you’re exactly right about the role that you play in, in the overall client counseling chain. Right. So as an attorney, and especially as a business attorney, like I am, I have clients who come to me and expect me to know everyone and everything, right, at least a little bit about everything, because they expect well, your business lawyer, you see all this in truth, truthfully, I do see a lot of things that, that regular lawyers aren’t going to see. Right? You know, I’m very much become like a member of the board to my clients. And so they rely on me that way. But at the same time, when you said, the lawyers and customers came to you, because they needed your expertise, that’s exactly right. You know, there’s a point where the business lawyer, even even a business lawyer, like me with an MBA, and I can read financial statements, but I don’t, I don’t deal with them day to day like you do, right? I don’t, I don’t build the spreadsheets, I can read them. And so certainly being able to lean on someone like you, you know, that clients come to me and they say, this is what we need, I say, Okay, if we’re going to value this business, we need someone who can very seriously produce a valuation report or who can criticize evaluation report that we received from another expert. That is that is second to none that skill set. And really anyone you know, some reason why accountants are business owners best friends, because you have to be able to see, understand the numbers know what it means. And that’s something that your lawyer is not gonna be able to do. And even traditional bookkeeper really isn’t going to be willing to go out of their comfort zone and, and put their neck out, providing those kinds of opinions, right. Yeah, exactly. I mean, right, that is exactly the world that I live in and play in this understanding of financials. I mean, if you give me if you give me five years of historical financials, a customer list and a vendor list, I can tell you a lot about that business, like, like, really a lot. And so and so that, that’s, that’s my role is to help you and the clients understand their situation and in bring clarity to it.
Jonathan Bench 17:12
So let’s talk about your business valuation services, because business valuation comes up so often in the world where I am. So let’s talk about the couple things I want to talk about, because I know you did a great presentation. Just a couple of weeks ago, I tuned into about 5050 ownership and how problematic is I really want to hit on that after this. But first question is, let’s talk about overall value. Okay, if you’re just looking at a business’s assets, even a cannabis company or any other company that isn’t even generating profits, how do you think about value? How do you talk about value? And and how does it different, you know, in the cannabis industry versus outside of the cannabis industry?
Eli Neal 17:51
Yeah, it’s a, it’s a good? That’s a good question. So I’ll start out by just reminding everyone that there’s three ways to value a business. And it’s the the income approach, the market approach, and the asset approach, income approach looks at future profits, and discounts them back to present value. dollars. And that’s how you get the income approach value, the market approach looks at transactions that have taken place in the market, and, and uses those transactions as a proxy applied to to your subject company. And that’s how you determine a value in the market approach. And then the asset approach is kind of a third bucket that says, Well, if you’re not generating profits, then what are the value of your assets, subtract out the liabilities, and that’s kind of the the floor value if if the value of your assets exceed liabilities. And so that’s true for every business, cannabis business is included. But cannabis businesses are a little bit unique in that the asset approach results in in a higher value than you would typically expect sometimes. And the reason for that is, is the license itself is valuable. You know, in Washington State, the liquor and cannabis board is no longer accepting license applications for producers, processors, or retailers. So if someone wants to get in the cannabis industry at this point, or expand their current business, then they need to buy a license from someone. So even if the company doesn’t have meaningful operations or or any profits, they may still just be able to sell a cannabis license to someone else for value. And so that that part is pretty unique to cannabis. There’s not there’s not a lot of other industries that I can think of where you kind of just need to buy a ticket to play in the game. And then another consideration that’s specific to cannabis businesses in specifically dispensaries and retailers is that profitability is less important. Typically, thinking industry at large acquires really care about profits of the business. And that’s how we value businesses, you know, you can’t buy groceries at the, at the store, if your costs exceed your revenue, it’s it’s all about profits, you can only buy groceries with the profits that are leftover afterwards. But dispensaries have been transacting based on multiples of revenue, as opposed to profits. And, and, and that’s really because of the kind of, it’s early on in the industry. And there’s still a heavy period of merger and acquisition activity, the well funded companies are trying to gain market share, you know, really as fast as they can. So they’re interested in acquiring a dispensary if it’s producing a level of revenue that they like, and then the acquire, you know, just hopes that they’ll be able to generate a profit. At some point, they’re really interested in securing as much revenue as they can now and though, depend on administrative efficiencies gained from owning many dispensaries, or they may have a good source of cannabis at a low wholesale price from a producer. And they may be able to generate a profit in that way, just from low inventory costs. And, you know, as time goes on, they also probably hope that more dispensaries will fail in the price of cannabis will increase as a result of low the, you know, lower competition, price goes up. And so, so dispensaries are are definitely unique in that the market is just interested in buying revenue, and they’ll kind of figure out the profits later. That leads me to think about overall market maturity, would you say that this is probably a function of cannabis still being a relatively immature market nationwide, that the fact that these multi state operators can come in, buy up work their efficiency ratios, and really gain profitability where there has only been revenue in the past? Yeah, right. Exactly. It’s exactly a function of the immaturity of the industry. Because, I mean, what you have, what happened when legalization first came through, is that a ton of like, a ton of people got one license or two licenses and one out and, and tried to, you know, make their own dispensary. And that’s, and that’s great for them, but it really resulted in heavy, heavy competition where those operators were, you know, competing against each other trying to make a profit. And it’s, it’s honestly kind of been a bloodbath, in terms of the high level of competition amongst relatively small operators. And so, at this point, those small operators are kind of looking to get out. And then the larger multi state operators are swooping in, and consolidating, and in, you know, trying to become the, you know, the Walmart of cannabis or, or a large chain, you don’t see, when you look around, you don’t see, you know, 50 different types of grocery stores, you see Safeways Fred Myers. And I think that’s the way that the cannabis industry will had, eventually, but it will probably take us a while to get there. Have you had much interaction with international companies? I’d say most of my International Cannabis deals have involved public Canadian companies, right, that are trying to figure out how to, you know, the raising capital in in Canada, and then they’re trying to acquire as many US assets as they can with an eye toward future prohibition, prohibition repeal in the US, I think, because they want like you said, they want to be the Walmarts of cannabis. Have you had much interaction on the international stage yet? Yes. And my experience is exactly your experience. It will. It’s with a Canadian public company that was interested in acquiring two Oregon dispensaries. So one, one Oregon company that owned two different dispensaries. And so we were the kind of boots on the ground due diligence people for that Canadian public company. We went through documented the systems that they were using, took pictures, understood their processes for You know, kind of from when they purchased the, the cannabis to ultimately selling it? How does that take place as, as the Canadian company was interested in purchasing it? Interesting? Yep, similar to mine as well might have been interested in the Washington market cuz that’s where I’m licensed. And also, the International other international companies I’ve dealt with have been more focused on bringing their products to the US market. Right. So and it would this would be in the hemp market, right, because we can’t move marijuana across borders. So my I would say, because the European market is so much more mature. That’s where my inquiries and work has been focused on European companies with proven, proven track record proven products that now think that they can bring their European flavor to the US market. And so that’s interesting, I’d say still pretty early on, right in terms of foreign companies pushing into the US hemp market. And certainly I have inquiries about how people want to get involved in the in the marijuana market. But that is more fraught with issues, not least of which is immigration issues, right? If anyone who is not a US national, is involved in a marijuana business in the US, they can potentially be denied entry to the US and can be denied visas forever, right, they could potentially get a complete bar from entering the US ever again. So a lot of foreign companies want to bring people to the US or they have, you know, presidents key people who they want to bring to the US. And it’s much better for them if they hire in the US, someone who’s already a US citizen, rather than working to try and bring someone who’s a national, a foreign national to the US. Because of those immigration complications. So interesting insights that I’ve gleaned from working at my firm working in this industry now with international companies. Yeah, that that is interesting. And I haven’t really thought about it. But it goes back to our kind of risk reward of dealing with cannabis in terms of, you know, our firms willing to work in the cannabis space, it’s kind of easier to ignore it. Our foreign companies interested in the cannabis space. I mean, there’s there’s a lot of possibility there, but but you don’t want to send your best people over and get them barred from the US for life. You know, that’s, that’s too big of a risk. Yeah, that makes perfect sense. Let’s talk about what cannabis businesses fight about. Do you see let’s talk about some things that you can speak about publicly that you’ve been a witness to? On your valuation side or anything else? Right, what kind of what kind of matters? Do you get pulled into kind of dollar amounts of people fighting over? Yeah, I guess let’s think about my forensic accounting kind of hat because I so I have two hats, right? One’s forensic accounting and one’s in one’s valuation. And so for the forensic accounting piece, the the real trouble with cannabis businesses, and this has gotten a little bit better, but especially in the early days, they were just dealing with so much cash. I mean, there’s, there’s almost no banks to work with. And so you’d have these dispensaries sitting on a gigantic safe of hundreds of 1000s of dollars of cash. And so, from an accounting and record keeping perspective, it’s a huge headache, because there’s no bank account statement to tie back to, you know, you’re just depending on the operator to track everything real time, because once all the cash gets in the vault, it’s real hard to put the puzzle back together. And, and that’s kind of compounded by the fact that the people that first got into the cannabis business, they, you know, were probably interested in cannabis before legalization, and records. Were not part of their day to day life. So you had people that were used to not keeping records, all of a sudden, they needed to keep fantastic records. And so curious, Jonathan, if you’ve seen if you’ve seen that to where the record keeping is just way below, typically expect to see, I definitely had $3 million in cash in this safe. And that’s what I’m missing. Right. And try to document that. Right. I mean, that’s, that’s, it’s almost hilarious when you think, Okay, this is gonna be awful. But yeah, I mean, I run it down in the in the contract space as well, right? Where handshake deals are the norm. Nothing’s documented, you know, so and so yeah, we had we had this partner before we kicked him out. He’s gone. That’s the end of it. I’m like, No, guys, that’s the beginning of this conversation. Okay. Like, we’ve got so much more that we’ve got to work through now that I know this. And yeah, I mean, just basic, just basic record keeping, right, I’d say I mean, and the other hilarious thing is that the ones that are sophisticated. Oftentimes I run into multiple sets of books, right where I say They say, Oh, this is our, you know, this is our forward facing like I’m working in China, right? Like, Oh, these are our forward face or like, you know, mob mobster Chicago in the 30s. Right? Like, yeah, this is our this is our public books. And these are the real books, right? I’m like, Guys, I really don’t want to know this, like, I need you, I need you to tell me that. You’re trying to at least stay close to the line, right? So I don’t know if you’ve run into that into that too, in your valuation where they say, oh, yeah, we didn’t. We didn’t really document all of this. But but this is the most important stuff, right? I’m sure that doesn’t fly in your in your world anymore. That flies in mind. I think. I think I’m the type of person that normally gets the forward facing books. So I think someone’s done a good job of telling them telling the business owner that we need the one set of books to give to the valuation person we can’t give them to. And so probably their attorney is advising them. I thought I made some good numbers.
Jonathan Bench 30:52
I get everybody’s dirt man. This conversation is confidential, right? I mean, I get it not just in the cannabis space, right. Everybody wants to know, after after they’ve already spent 10 minutes baring their soul to me. And they say, this is confidential, right? I’m like, absolutely confidential. We’re by a bar rules. Right? Please, please continue.
Eli Neal 31:10
That’s, that’s, yep. That’s why we hired Jonathan to to be the first pass, you’re kind of joking, we have a safe of three minute, and there was $3 million in there. And now it’s gone. But that was exactly the situation of of actually my first testimony gig. It was three owners with a chain of four dispensaries. And one owner was in state locally operating it. The other two, were investors that were out of state and had no visibility in the books and records they expected. You know, part of their agreements, part of their handshake deal was that there’d be monthly financial statements and disclosures talking about the operations of the business, no monthly financial statements ever came in. So I was hired by the two investors that were from out of state that wanted clarity into what was going on. And, and so, you know, no monthly financial statements came. So they knew that they were in trouble, because all of a sudden, there was no reporting. So they had, they had invested a lot of money, and didn’t know what was happening with that money. You know, eventually, they realized with certainty that they were in a lot of trouble, because they received in the mail, a tax bill for close to $1 million from the state of Oregon, in this case. And so in most of that was from unpaid sales tax that the company had collected, or was supposed to collect from customers, and sales tax, you collect it, and then you give it straight to the government. That’s what sales tax says. You don’t mess with sales tax, because that your sales records exactly show what kind of sales you’ve been making. I mean, that’s, that, that just that just hurts to hear about that. Yeah. I mean, it was unbelievable, because, yeah, sale sales tax is one. That is, yeah, kind of easier to prove out how much, you know, should be collected. And so yeah, I mean, if I, if I were running a cannabis company, I would have a separate safe, just for the sales tax, just to make sure I didn’t screw that that piece up. But in this case, it was all commingled. And, and so they hired me to come in and figure out how much cash was missing, because not only one sales tax, cash missing, but also the from the profits of the business, there’s cash missing. And so So our process for this project was to obtain the point of sale cash register reports from every sale, and the reports from metric and metric is the Oregon cannabis tracking system. Because dispensaries have to log every sale they make to show their build up and then sale of cannabis over time. And so based on those two listings, you can calculate how much sales tax should have been collected, and then remitted to the state of Oregon. So that was kind of the sales tax piece, to your point, not the most challenging thing. But when you’re talking about, you know, this had been going on three years, but time, it really blew up. And so, a lot of records and time to go back and add up. And then we said okay, well if we know your sales from point of sale, cash registers and the tracking system, then we asked the owner that was operating the dispensary. You know, just tell us all of the costs of the business that you’ve had, you know, show us show us the receipts, create monthly financial statements, what are you spending money on? And so, from that discovery, is submitting of expense receipts, we just compare that to. And so we had revenues that we knew cost that, you know, that owner told us, there was another $500,000 of cash missing, just from that exercise. And so we’re up to 1 million of sales tax and half a million dollars of profit of cash that was just missing from the vault. And, and as you know, you know, that’s, that’s an important step to get to is how much cash Am I missing. And so that’s the part that I can help with. And then, you know, it’s, then it goes back to the attorneys to try to collect that cash, and figure out how to how to obtain it for for our clients, because it was just gone.
Jonathan Bench 35:48
And the thing with tax issues is, you set up an entity and we help companies set up real people set up entities because we want to protect them from the business liabilities. But there are certain instances where that corporate veil can be pierced. And taxing is absolutely one of those, right? I mean, you think that, Oh, it’ll be fine. You know, this is a business Dad, it’s no big deal, we’ll just shut it down. Right. And the taxing authorities, they, they don’t play by the rules that the rest of us have to play by, right. It’s, it’s it, they bring the hammer down, they bring it down hard, and and you can’t get away from it.
Eli Neal 36:21
Yeah, right. And my clients, we’re in a tough spot, because, you know, the tax authority, they don’t care that you you’ve been out of state and haven’t been involved in, in the day to day operations, that doesn’t really fly when it’s your name, on the business license. And so, and so my clients were getting hammered by the IRS. And also, the other thing is that, you know, if you’re a real estate agent, and you got a big commission, and you kind of spent it before he paid taxes on it, you have some leniency to like work out a payment plan with the IRS, or the state and, and kind of figure out how to pay that back over time. You don’t get the same benefit of the doubt, as a cannabis company. You just don’t, you’re not treated with the kid gloves. You’re kinda, you know, their attorneys felt like they were being made an example of because they were a cannabis company, you don’t you don’t get the benefit of the doubt in that situation. Sure.
Jonathan Bench 37:19
So on the topic of forensic accounting, what other types of documents are you reviewing? What what are you using? What are you eventually trying to recreate or create from from scratch financial statements? Are there other things you’re looking at? If you’re trying to root out fraud? I mean, what kind of the normal, your normal go to pieces of information you’d use to build your evidence?
Eli Neal 37:41
Right. So So yeah, we in that case, we did recreate financial statements. So we took whatever financial statements we could get the cash register listings, and the and the metric listings. In that case, the dispensary tracking. Now, typically, another key document that we would get for a project like this are bank statements, because those show record of deposits and withdrawals. But that’s what makes it so challenging, is there’s not, you know, there’s not that to fall back on in some cases. And so it’s a huge it’s a huge piece of evidence that’s just a missing of, it’s not just evidence, it’s it’s an objective record. And that’s missing from the cannabis world. Now, you know, some of that has changed, I think, I think most of the companies I come across now, do have bank accounts one way or another. Is that what you’re saying as well, you most of your clients have bank statements? Bank accounts at this point?
Jonathan Bench 38:44
Yeah, because Washington, especially the the credit unions have been very responsive, and very what I would consider entrepreneurial for financial institutions, right. And so to say, for the most part, yes, there are some that I mean, cash is always a component of the business no matter what. But I think you’re right, that for the most part, the companies that I know, that are still dealing a lot of cash have have very good records, because they hire armored transportation, and so they have receipts, based on how much they are sending to the bank, back and forth, or wherever they’re sending it mostly just to the bank and back, right.
Eli Neal 39:18
Yeah, exactly. And this this case that I kind of walked you through, was in the early days as Yeah, 2017 that most of this activity was going on. So I mean, that shows how the industry changes and evolves, you know, just over a couple of years. And, and I think it will continue to do that.
Jonathan Bench 39:37
Okay, let’s turn to a minute back to business owners. Right. Can you give us a quick summary of the webinar you did a couple of weeks ago where you talked about 5050 business ownership issues, and kind of how to avoid evaluation fight down the road, because inevitably, I’ve hardly ever run into a 5050 ownership scenario that ended amicably right. You’re always fighting about value at the end of the day, no matter who you are, whether you’re selling to a third party or whether one partner is trying to buy the other out, or whether the business is completely tanked, and they’re just trying to liquidate,
Eli Neal 40:08
right? Yeah, exactly. And, and right, I’m the valuation guy. So often I’m I get involved when the fight, when when the dispute has kind of bubbled over. And it’s a formal dispute now, and everyone knows that the most important piece is just what the valuation is, because someone’s going to get bought out at that number, and someone’s gonna have to pay that number. So everyone becomes very, very interested in making that number, either as high as possible or as low as possible, once it gets to that stage, so so the best way, you know, to avoid that fight, is to get professional valuation advice, as early as possible in the process. I mean, don’t wait, don’t wait to get a professional look at the value of your business, when you’re when complaints have been filed, and a formal process has been kicked off, because then because then the stakes are already too high, in my opinion, I mean, work will go in, and we’ll, you know, help determine a value in that case, but both sides already have their heels dug in, at that point, and so what I would recommend is, is that you bring in professional valuation advice very, very early, you know, typically, when, when it’s clear that a 5050 partnership is not working, the owners exchange purchase sale offers, you know, based on nothing, and I’m thinking specifically about this situation where kind of both parties agree that one has to buy out the other so the business can keep operating, but one can move on. And so they exchange purchase sale offers based on, you know, their intuition about the market, or maybe talking to a couple folks, maybe their attorney, not Jonathan, but someone else gives them a little idea of value. And they exchange offers, and then, you know, their feelings get hurt when their expectations are completely different. And so all of a sudden, as I said, you have each side digging in their heels to support their initial offer. And it’s really difficult to move off that number, because of like the disappointment from, like losing or caving or, or, you know, once you once you submit an offer to the other side, you know, really plants a flag that no one wants to wants to move from so. So I would, I would get help, when you’re thinking about that initial offer, I would stop, get get some valuation Consulting at that place. And then at that point in time, and then you can make an offer that’s well reasoned, and defensible, and fair. And I offer a lot of my clients valuation consulting, so it can just be Excel schedules, or it can be a calculation of value letter, which is about eight pages of explanation with schedules attached to it, you know, it doesn’t have to be the 50 page valuation report, for IRS reporting purposes, you know, just get, you know, some time from a professional, typically, it ends up being about five to $10,000, and get the work performed upfront, because then you you’ll really have informed negotiations from the get go. And then you can actually identify if the other side is being unreasonable or not. And so, during my process of consulting, I mean, most of the time, my number is different than the business owners initial expectation, and I walk through why, in a lot of times, the business owners understand it, and they get it, and they change their mind about what the business valuation is worth. And in Furthermore, you know, it allows my client to point to the work that they had done initially, to come up with their offer. And if the other side of the deal didn’t do the work, to hire a valuation professional to support their offer, then immediately my client is positioned much better in negotiations, because they can point to the work that’s been done and the thought process. And also then I’m in in place to help determine if the other side’s offer is reasonable, or completely unreasonable, and how big the gap is and why there is a gap. Are they looking at the business differently? So, you know, I think the big summary from that webinar that I did a couple weeks ago, is that you want to if I was a business owner, I would want to know as as much information as early as possible, I want to be informed about the process from the get go in, and you can start off on the right foot. And then, you know, hopefully negotiate your way to a deal, as opposed to kicking off a formal, contentious litigation process.
Jonathan Bench 45:19
So give me a practice pointer on my drafting because I draft operating agreements all the time. And I’m always thinking about these provisions. What is the ideal scenario that I should try to set up? Where because of course, when I’m drafting the operating agreement, everybody still loves each other. Right? It’s very much the honeymoon phase. And things don’t break down until later. So what should I and other business attorneys be drafting into our operating agreements with a look toward whether it’s a 5050? Or whether it’s a you know, 3333 33? Ownership?
Eli Neal 45:48
Yeah. It’s a good, it’s a good question, because I’ve seen all kinds of permutations of that. And even some operating agreements that, that kind of leave out what happens if we disagree all together with 10
Jonathan Bench 46:02
bucks, that’s what you get. Everybody walks away with 10 bucks in their pocket.
Eli Neal 46:06
Yeah, exactly. Exactly. So I mean, if it is 5050, and it’s very fact and circumstance base, but I like the shotgun approach, personally, for 5050. I think it’s, I think it’s very fair. And that’s, that’s, you know, the shotgun approach is one side, makes an offer, or chooses a number. And then the other 5050 owner can either buy or sell at that number. And so it really gets both, it really gets each party invested in coming to a fair, equitable number. Because because they will either sell it that number or buy at that number. So you don’t want it to be too high or too low. it equalizes the incentives. Sometimes that works, sometimes it doesn’t.
Jonathan Bench 46:59
I like that. And then that also gives them an opportunity to hire one valuation expert for the company, rather than each hire their own and then potentially have to hire a third and get somewhere often in the weeds. And certainly, in terms of time as well.
Eli Neal 47:14
Yeah, exactly, exactly. So, right, so that, that is the pro of that. And, and so I would say shot shotgun. Number one, if each of the 5050 owners are kind of equally set up to pay or receive the funds, you know, but that’s not always going to be the case. So the so right, the next choice would be agreeing to a joint appraisal. And so oftentimes, I am the single appraiser, and I, you know, everything’s uploaded to the same share file folder, all the documents, all parties are on the same email chain, I have interviews with each side of the dispute. Or, and sometimes we have a joint interview, so everyone hears the same thing, and then I come up with one number, and that number is the number. In that case, the risk is, you want to find an appraiser that is going to do a really, really good job. Because you’re kind of putting it all in that one appraisers hand. The the webinar that I walked through was the each side gets their own appraiser. If if they those two appraisers don’t agree, then there’s a third appraiser hired and, and that’s, you know, an okay process, because there’s three appraisers involved. And so they can kind of check and balance each other. The con there is that the fees involved get really high, because you’re involved, you’re going to be hiring three different experts. And also, you know, if you if you draft it that way, just expect that it’s going to get to a third appraiser, because one appraise one appraiser is going to hear why the dispensary is the greatest thing of all time, and is going to do really well. The other appraiser is going to hear that it’s all doom and gloom, we’re about to go out of business, it could be because of the incentives involved, one owner is going to push the value as high as possible, one lowest as low as possible. And it’s gonna invariably, you know, kind of come through in the appraisal work. So if you draft it that way, you know, kind of expect that a third appraiser will come in and, and kind of call it in the middle, you know, somewhere in that range, most likely.
Jonathan Bench 49:38
Oh, Eli, it’s been great talking to you today. And the time went by very quickly and so we got to get to our last topic, which is recommendations. There’s something you’ve read or watched or listened to lately that you think would be of interest to the audience.
Eli Neal 49:53
Well, I have two young kids have a four and a half month old and a two and a half year old, so I don’t really or watch much anymore, I don’t have the time for it. But so I guess what I’ll recommend is that, you know, I, I think that we, as a society, your audience members should really think about universal basic income as a possibility, you know, for our country’s future. And I’ll say that just because of how fast the world is moving forward, my dad’s side of the family is from Nebraska, and they all worked at the Goodyear factory, and, you know, don’t need to be highly educated to work at the Goodyear factory, but they were putting together tires on the factory line. And they had a fantastic middle class life. As a result of that, you know, they all got pensions, they all were comfortable, all their kids went to college. And that was a beautiful thing. And to be honest, those types of jobs are just not around anymore. They’re really not. And so how do we, as a society, adjust to the lack of those types of jobs? You know, I think personally, universal basic income is an answer that’s worth exploring it, it gives people the freedom to choose their own path with cash, as opposed to, you know, fighting within the food stamp world and in Section Eight housing help. So it gives people freedom and provide a support cushion for the large percent of our society that may otherwise not be able to find a middle class life. And so So I guess that’s, that’s my recommendation is to check out universal income, as proposed by many, you know, Andrew Yang, just recently popularized it. But I think it’s pretty clear to see if you look around our West Coast cities, that the homelessness is a problem. And, you know, I think a lot of that is that the jobs available to lower class people, you know, just aren’t good enough. And so how can we think about something else to do for our society that will improve the quality of life for everyone?
Jonathan Bench 52:19
Thanks for that recommendation. This week, I’m recommending an article that was in Utah Business Magazine by a CEO of a tech company named Roy banks, and it’s on diversity in the workplace. I’ve thought about this a lot. I grew up in rural Wisconsin, not a lot of diversity there. I now live in Utah, and a ton of diversity here that we have more than more than I had in rural Wisconsin. And certainly, it’s, you know, this can vary based on where you are in, in the United States or anywhere in the world. Right. And so I like his his tack, I like the reminder that, and I guess as a lawyer, this resonates with me as well, because I like to get input from all sources, right? I have a hard time making decisions a lot of times because I feel like I don’t know the issues well enough. Right. To it’s part of what I do professionally is i i research and I learn and learn and learn. And ultimately, I have to help my clients make a decision based on the available facts. And it’s frustrating when there aren’t when there isn’t a clear answer. And that’s usually the space that I live in. Right. And so the idea that you’re bringing diverse opinions, diverse, looks diverse accents, right? I mean, any of that, that that all gets us out of our comfort zone makes us think differently. And certainly, you know, from a contribution standpoint, we want to be able to hear have input from from other voices right from from those that aren’t the people that don’t think the same way? I do. They don’t talk the same way I do. It didn’t have the same upbringing that I did. Right. And so I think that it’s, it’s good to consider it’s good to keep talking about it. And really, it’s good to mean it, right? I mean, they’re the one of the big debates that I’m seeing now is companies that are hiring chief diversity officers or something like that, that also seemed to be doing it more for show rather than for actual contributions. And I’m not saying the people that hire won’t be contributing. But I feel like you know that business leaders should be having real genuine conversations among themselves, as far as what they need and why they need it. And really, really make it matter, right, where they make a meaningful decision. So that’s my recommendation on diversity in the workplace, by Roy banks in the Utah Business Magazine. Without Eli, I want to thank you for spending time today with us. It was a lot of fun, certainly great to have your experience, your expertise, your experience, and look forward to checking up with you again, because your expertise is certainly relevant from now until the end of time.
Eli Neal 54:39
That’s what we like to hear. Yeah. Thanks so much for having me. Appreciate it, Jonathan.
Jonathan Bench 54:45
We hope you enjoyed this week’s episode. We look forward to connecting with you on social media to continue discussing developments in global law in business. This podcast was produced by Harris Bricken, with executive producer Madeline Williams music composed by Steven Schmidt. Tune in next week for another episode. We’ll see you then.