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Empowering Growth: Which regulation should I use for my Cannabis company?

Speakers

Oscar Jofre 00:49

Well, good afternoon, everyone. And once again, happy cannabis month, October 2022. And welcome to the KoreSummit Cannabis Empowering Growth. I hope you’ve been enjoying the last couple of days. And I know that actually it’s been the entire month of filled information in the cannabis sector, the event with our partners ArcView. Capital in New York, once again exploring what can cannabis companies do. And as you heard some of our great speakers in the last couple of days, we’ve been talking about how to get started, what are the things that are very unique within the cannabis sector that people need to consider before they even jump on board to the legals. Um, but as well, we did on the second day, we ended up talking about how to build a community, how to get like minded individuals to then participate in the growth of your business, but not only participate as customers or partners, but also to engage them to have them become investors in your company. 

 

So it’s been a great journey the last few days. And today, it’s the real now you come to the beginning. Now, you know, you’re getting all excited. Now you need to meet the experts. And as we all know, cannabis is a hot topic and in North America. Why? Because in Canada, it’s legal. That’s right coast to coast, from one end to the other, you can sell it, promote it, and so on. And we have a great speaker to that event, Daniel Nauth, who’s going to be here today, representing both US and Canada, a very unique securities lawyer that is going to bring that awareness and discussion as well by our friend and colleague who have been there right from the beginning of the Jobs Act, Sarah Hanks, who is going to obviously bring her vast experience in regulation CF, regulation a plus. And of course, there’s other regulations. But these are the prominent ones now that we are alerting the cannabis sector to be involved with. moderating today’s panel is our Chief Revenue Officer, Peter Daneyko, who’s going to kick it off with this great panel. And again, this is a journey that you need to undergo each of these days, you’re going to learn something new, and today is the legals Yes, you have to go through it, because you can’t get through until you go. Enjoy and have a fun time. Peter, floors yours.

 

Peter Daneyko 03:09

Hey, thanks, Oscar. So as Oscar indicated, I mean, we have a very rich panel today, waiting for Daniel to jump on here. And Sarah, welcome. I’d like to go around the table quickly as we wait for Daniel and Daniel. Great. Great to see you here. And we’re looking at Canadian and US perspective is, as Oscar had indicated, is rare that we have a breadth and wealth of knowledge specific to a regulation that’s been around for a long, long time. But it’s just in the last couple of years that’s really exploded for a number of reasons. And maybe I can have Sarah and Daniel start with us here. Just give us give the audience and our viewers a little bit of background on on Sarah Hanks from Crowd Check. You’re known to most of us in the industry, but we get a lot of new guests who are watching so.

 

Sara Hanks 03:59

Okay. Oh, thanks for the intro. Yeah, Sarah Hanks, I’m CEO of Crowd Check, and managing partner of Crowd Check Law. Together, the two of them provide a wide range of legal disclosure due diligence and compliance services for all of the online securities exemptions Regulation A regulation CF Regulation D 506. C. And think of us as a law firm plus. I’m a former SEC staffer, so I speak their language. And we have done a whole host of Reg A offerings reg CF offerings reg D offerings, including with cannabis, which has its own very special tweaks and works.

 

Peter Daneyko 04:51

Well, that’s an area that we’re going to talk a lot about today as far as the cannabis tweaks, Daniel, give us it’s a pleasure to pleasure to meet you again. Give us some Overview on your firm.

 

Daniel Nauth 05:05

It really interesting, I actually started off as a Canadian securities lawyer at a large Bay Street firm here in Toronto. Practicing primarily corporate securities transactions m&a, I ended up moving to New York worked on Wall Street at a large Wall Street firm for a long time, again, practicing US corporate securities laws. That’s where I got my New York call. I was there for many, many years, came back to Toronto, and decided to start my own US corporate securities practice assisting Canadian public companies, for the most part, you know, going public in the US either NASDAQ noising, m&a transactions, you know, equity debt buyers. And so that’s largely where you find me sitting now sitting in Toronto practicing primarily US corporate securities, but advising assisting Canadian companies.

 

Peter Daneyko 05:50

Excellent. So decades of experience, the regulation, Reg A plus, and REG CF has been around for 10 years now as of I think in March, but it’s really in the last four or five years that it’s really taken off. Maybe if I can jump over to both you and I’ll start with with Sarah, I think for our audience, given give us an overview of what what Regulation A plus is all about what regulation CF it was all about. And that will dovetail into, I’ll let you I’ll let you start there.

 

Sara Hanks 06:20

Okay, um, well, actually starting point is kind of interesting in that Reg A has actually been around since 1938. It’s even older than I am. But for many years, it was very, very limited. For a start, they were offering size limits a million dollars, and then later $5 million. And as well as going through the SEC, you had to go through the state regulators. And that’s why nobody used it. So right up to about 2015. Note, there was maybe one tiny Reg A offering a month for small companies, and nobody was using it. And then pursuant to the JOBS act, the SEC, completely revised it. And that’s when it got started to get the nickname Regulation A plus, because everybody thought it was a plus, I guess. And now, it is one of the major exemptions from registration. So just stepping back a sec. If you are going to do an offering in the United States sell securities in the US, you’re offering has to either be registered with the SEC, like an IPO, or fit within an available exemption. And so the exemptions that are the main exemptions are regulation, a regulation CF. And then also for accredited investors only. Regulation D rule 506 C, which is the online version of reg D. So Reg A can be an offering of up to $75 million a year, calculated on a rolling basis. So you can do 75 million every single year. It is for US and Canadian companies only. You do have to go through the SEC review process, which I’m sure we’re gonna get into detail. But it’s it’s an exempt offering. So it doesn’t have all of the burden of the ongoing reporting that you would if you were doing an IPO, we can get into the ongoing reporting later as well. Reg CF, the baby sister maybe of Reg A offerings up to $5 million dollars a year ago, when calculated on a rolling monthly basis. You still have to file with the SEC. But you do not get reviewed by the SEC, which makes it a much easier. And leads to a great deal of non compliance. And we can talk about that in a bit too. Well,

 

Peter Daneyko 08:55

I’ve got some big notes on the review process and non compliance now. Let me let me throw something at Daniel’s. So Sarah gave us the overview on a reg CF. I can raise 5 million on my CF. There’s a lot of confusion out there between. I’m a Canadian company and I’m a US company and I know that a Reg A can be utilized for both types of firms. But how does that What’s the flavor when it comes to the CF side of things? And what’s been your experience on that for companies that are looking first, let’s just start with the CF let’s start with the baby sister.

 

Daniel Nauth 09:29

Yeah, sure. So it’s interesting, right? I get a lot of people coming in and asking, Hey, you know, we don’t think we’re ready to do a Reg A. Part of it is with with raising capital, you know, given the markets, you know, the myths, hey, we want to do kind of 10, 15, 20 maybe, you know, whatever the number is, if they don’t raise that amount or some, some lesser amount of it looks like a failed offering and maybe something’s wrong with the company and they don’t want those optics. So they say hey, let’s try Reg CF. Just to touch on Sarah’s point yes is up to 5 million but you can actually raise up to just north of a million If you don’t have audited financials, which sometimes is a good stepping stone companies will raise a million bucks and then, you know, get their financials audited and raise the balance. So the interesting thing is Reg A as is available to both Canadian and US incorporated entities, Reg CF is available only to US domestic companies. on the Canadian side, you know, Canada in the US, we see a lot of companies are end up seeing a lot of companies that are Canadian Incorporated, you know, they restructure to put a US topco on top for purposes of doing a reg CF, and then moving to a Reg A. You know, the real trouble comes in where, you know, and with those companies, you’ll have a Canadian US company, they’ll have business in North America, typically, whether it’s Canada or the US, the real problem I see is when I have sort of non Canadian or US companies coming and saying, Hey, we want to utilize a reg CF want to raise some capital in the US can we just put a US topco on top. And the real problem there is the SP looks through and says, Hey, your business really isn’t in North America, you just kind of creating a shell entity for purposes of the capital raising. So if you’re a Canadian US company, you’re pretty well situated. You know, if you want to go reg CF to Reg A, that’s fine. The danger is if you’re outside of North America, and thinking want to use a reg CF, it’s over regulated.

 

Peter Daneyko 11:17

So So you brought up a really, really good point there. And Sarah, with your SEC background, maybe. So I’ve heard a lot of mixed stories out there. Somebody says, and then you kind of touched on and said, Hey, why don’t I just set up a Delaware Corp. And I happen to be a Canadian corporation or a foreign company? And I’m going to have a US presence. That’d be a little bit more of that. What does that really mean? From an operational perspective? Please give us any guidance on that, Sarah?

 

Sara Hanks 11:47

Yeah, I mean, you can create a subsidiary, but it’s got to be a genuine subsidiary. I mean, as Daniel was saying, you can’t just say, Well, you know, we’re setting this up too soon to be a finance sub. Can’t do that at all. One of the things that we see and I mentioned earlier that the lack of compliance in this area, what we have seen in some cases is a company that is not eligible to use Reg A, Reg CF, for whatever reason. Maybe it’s an investment company or something like that. Use one of its affiliates, and then send the money over there to the non eligible company. Absolutely not permitted. Haven’t seen the SEC, sue anybody for doing this yet? I wish I did. Because then it would be, it would be easier to explain to our clients, no, you can’t do that. But really, the the money raised under Reg CF has got to stop with the US company, and be used for its purposes. Otherwise, if it’s going to another company, or if it’s the sub is completely reliant on the other company for it. So we’re going to for its revenues, then that other company is a co SEO, which is non eligible, and now you’ve just blown the entire exemption. So I wish we would see a bit more discipline here. I think we have to rely on the intermediaries, the platforms to really filter people who want to do this and prevent them doing it.

 

Peter Daneyko 13:20

And so I’ve also heard that the repercussions of that can be quite significant. If you want to transition from a reg CF to a Reg A, which we’ll we’ll get into which is is a really good process. I think. So let’s so tell me if I’m correct either one. If so, if I’m doing a CF and I, and I, because it’s not a qualified offering, and it’s not under the scrutiny of to the to the degree that a Reg A plus is or Reg A is, you know what the SEC, so it’s easier for me to file I understand correct, like, I can file my reg D. But let’s suppose I filed that and I didn’t. And I was a little bit untoward as far as my US operation of a CF, and then I go to do a Reg A. That’s when when everything hits the fan, so to speak, would that be an accurate statement?

 

Sara Hanks 14:10

Yeah, that would I mean, that’s something that we see quite frequently is a company has you know, I love that the polite Canadian where you said that a little bit untoward. We see companies who have not complied with the regs in their previous filing. And the only way you’re gonna get around that is to do a rescission offer and rescission offer is you offered to give the money back with interest because nobody wants to do that. And so you could not go on to do Reg A. If you’ve clearly messed up the previous offering. You can’t go on to do a reg a unless you say we have screwed this up. I mean, you don’t want to give a roadmap to everybody to sue you. That’s basically what is we did this pre He’s offering we completely screwed it up. The only remedy here is to give the money back with interest. And you put that as a risk factor. Because the first thing the SEC sees when, when they see the filing is Oh, that’s interesting. Are you planning to do a rescission offer? And so yeah, clean up your reg CF before you even go into the SEC, because they’re gonna make you clean it up themselves?

 

Daniel Nauth 15:25

Yeah. Yeah, go ahead. Just just for the audience, if that just to sort of clarify for the point of like, the investors will say, Well, the investors saying hows is the SEC  going to know I mean, you get to spend a bunch of time and costs getting audited financials, preparing a one a two, submit with the SEC, and they’re just going to come back and hammer you with the very point Sarah made. So you know, it’s not as if Oh, my God, we did a Reg CF, let’s do a rescission offer. I mean, oftentimes, these issuers don’t find out about it. Until you know, they’ve gone through a whole bunch of calls to get the reg The One A filed and then you know, it’s Oh, my God, we’ve got even better rescind all these prior investments. So just from a cost perspective, it’s also a bad idea.

 

Peter Daneyko 16:04

Yeah. So if you’re going to run your business for an especially look for multiple raises, and you’re looking for a long term business, it sounds like do it right, do it right up front. I mean, you know, measure twice and get get proper legal counsel on how to do that. And this is why you guys are both here. So tell me a little bit. Okay. We hear there’s terms that are thrown out there. They’re saying, Okay, I’ve got a form a form C a qualified, I’ve got a I’m gonna go through a Reg A offering, and I’ve got a qualified offering I’ve different documentation. Hey, if I can raise 75 million, why don’t I just do a Reg A? Why do I even want to do a CF for $5 million? What? And I think the obvious one is expense. Give me that go from there?

 

Sara Hanks 16:57

Yeah, well, the expense is certainly a lot more for Reg A, because there are a lot of the platforms with Reg CF sale, you don’t need lawyers for that you can use our, you know, our standard documentation. And yeah, technically, you don’t, technically you can do it yourself. If you think that you can answer all of the questions and you understand what the SEC means by describe the development of your financial situation over the last year. Okay, fine. So in theory, you can do this without a lawyer. Obviously, as a lawyer, I’m not gonna recommend that. But for Reg A, you can’t, you really can’t. And in many cases, we’ve taken over several offerings over the years that were done in house, by companies who got through several rounds of comments with the SEC, only to decide, look, we can’t do this without lawyers. So you’ve got legal costs, you’ve got accounting costs, although those are not going to be hugely different between the two. As Daniel mentioned, you’ve got layers in reg CF. So up to somewhere in the 600 range, they just did the inflation adjustment. So in the 600, there abouts range up to that you could do reviewed only, and if it is your first time through the process, you can go as he said up to 1.2 4 million with reviewed financials only. Anything above that you’re going to need audited financials, for Reg A, you always need audited financials. Although what we found for early stage companies, there’s not always that much difference between the two. So you know, you should always talk to your accountants about that. But then with Reg A, you’ve also got state notice filings. The states do not get under tier two of Reg A, which is the one we use, we don’t recommend ever using tier one, sadly, but tier two is preempted from state regulation. But they do get to to get you to pay money for the privilege of offering in their states. So there’s a whole bunch of expenses there somewhere in the range of 12 13,000. And then you’ve got the engrossing process for REG CF, you can just do a PDF and after several false starts filing with the SEC, because Edgar is a very fussy process, that’s the SEC electronic filing system. You can just file a PDF but you can’t do that for Reg A. So you’ve got to reformat all of your information in htm rd, it’s 6.0 or lower, you’ve got to sort of dumb it down and then file so there’s there’s a lot more expenses in Reg A.

 

Daniel Nauth 19:53

Yeah, well one thing and Sarah did a good job of kind of touching on the legal and mechanical aspects of reg CF first Reg A and how a decision is is made. Often in my experience, you know, I often see sort of smaller companies what you would consider kind of seed capital considering a reg CF. The one thing to remember for issuers is both with me, I think more so with CF, but both reg CF and Reg A, you end up with a lot of retail investors, retail accredited investors non accredited, you don’t, you know, can end up with large kind of institutional shareholders. So, from a practical sort of experience and businesses, kind of depends where you are in your lifecycle, how much capital you need, where you are in your business, you know, you’re looking for half a million bucks, a million bucks, maybe 5 million, or you at a point, sort of a tipping point and a crucial point where you think a Reg A would be would be sort of more beneficial for the growth of the business no raising $10 million US. So So that’s also a metric that you need the kind of issue that doesn’t need to consider?

 

Peter Daneyko 20:51

Well, you brought up a good point there when I’m thinking about companies and going into transitioning from a CF to say, a Reg A. I mean, if I’m doing a CF and raising $5 million, what I’m hearing is, okay, it’s a little it’s easier for me from a filing from a cost perspective. But I’m always kind of testing my business in a sense to say do what’s the audience appeal? Do I have a Do I have a, an investor base and brand advocate base that I might be growing and growing towards? And I’m seeing that this conversation comes up, and we’re talking about cannabis in the cannabis industry today, where they say, Hey, I’ve got a, I’ve got a base of brand advocates, I’ve got a product and bringing to market, or I’m pre revenue. So let’s start with once I’ve already got a product and bring it to market, I’m going building up my customer base. And I’m that customer base is small, let’s say it’s small investors, would it be accurate to say, I’m giving up less of my company with a larger participatory base than I might be with a large investor pushing me early on? So I’m basically I’m holding my valuation early, by letting people participate that couldn’t participate in the past? Would that be fair?

 

Sara Hanks 22:05

Yeah, I think it would, I mean, one thing that one story that we keep hearing from our clients is, I could have gotten institutional investment, I could have got VC money. However, the VCs want to take a third of my company, and they want to value it much less, and they want to run my company, and they don’t know a damn thing about it. And they really don’t understand what I’m doing. And that’s why I’m going to the crowd, that the counter is you might give up less of your company, as you say, but you may have over you may have overvalued your company. And we do see this a lot in CF and a work where companies are like, yes, we think we are worth this. This is all our comparables, and we think we are just as good as them. And we’ve got this the same base and and then they go out with an optimistic valuation. And then of course, when institutional money comes in, are the institutions like yeah, no, we’re not going to evaluate it.

 

Peter Daneyko 23:16

So you need that delicate balance is what I’m hearing you can take but not egregious, I suppose. Yes.

 

Daniel Nauth 23:22

Sorry. To jump in there. Peter. One of the other things I have seen this particular to the Canadian side on the Canadian companies that might be using, particularly Reg A or trying to consider a reg CF, is, you know, a large part of what I do for these issuers, you know, it’s an issue that pops up all deployments, we structure them to ensure that they’re a foreign private issuer, and they don’t trip the foreign private issuers test in the 34 Act, because you want to avoid them being US domestic and potentially triggering registration obligations with the SEC. So and the reason I mentioned that is a lot of these Canadian issuers, cannabis companies, you know, they have US operations, assets, management might be in the US. So, you know, we’re always very concerned about how much capital do you actually need. And, you know, because what we want to do is maintain the 50% threshold on the foreign private issuer test, you know, we don’t want them going out and doing a Reg A where they ended up, you know, bringing in a whole bunch of US investors for excess capital that they don’t need, and they’ve pushed over the 50% threshold or the foreign private issuer test. And now all of a sudden, their US domestic and they have a whole bunch of other problems that they need to worry about.

 

Peter Daneyko 24:28

Okay, so you brought up something that I’m not really familiar with, okay, because I guess if you’re raising capital in United States, you don’t really think that you could be over a certain threshold from a foreign even though a Reg A offering. I can have investors from anywhere in the world. So can either wanting to elaborate a little bit more on that, because that’s, that’s new to me. Yeah, sure.

 

Daniel Nauth 24:47

Oh, Sarah. Go ahead.

 

Sara Hanks 24:49

No, no, I was deferring to you because then it’s automatically turning into an American company is certainly not what people are expecting. So yeah, go please go

 

Daniel Nauth25:00

Yeah, so as background and I’ll try to make it digestible for for the audience. So 34 Act and what the 33 Act as well, they have a test called the foreign private issuer test. So it’s written, it’s written very oddly. And Sarah, I don’t know who wrote the test over there. It’s terrible. But essentially what it is, is even if you’re organized in any that’s organized outside of the United States, but if you trip, both parts of the test, the first part being 50%, or more of your outstanding stock is held by US residents, if you check that box, you move to the second part of the test. And the second part of the test has three boxes. And if you check any one of those three, plus the 50%, you’re going to be considered US domestic. So those three parts on the second part of the test is, you know, the mind and majority of your executive officers or directors with us, your business is principally administered from the US where your assets are primarily in the US. So if you’re a US cannabis company, you know, I see we see this a lot Canadian Canadian corporate in entities that have US operations, right. So they’re, they’re clearly going to clearly going to trip the second part of that test, whether the CEO or CFO is there, whether whether all the assets are there, it’s run from there, they’re going to trip the second part of the test. So the trick is, on the first part, we don’t want to cross the 50% threshold. So when they come to us say, hey, we want to raise capital, it’s how much do you need? You know, how many US shareholders do you have? How many non US shareholders do you have, because we have to be really attuned to this 50% threshold. Now, there are interesting structures to get around it. Multiple voting, shares and subordinate voting shares, a lot of the US cannabis companies that actually went public on the Canadian stock exchange in the last couple of years, have utilized destructor. But as kind of putting a thought into the audience’s here, if you’re Canadian, and you’re looking to raise US capital, and you have US operations, or you know, your your mind and management is in the US or assets are primarily in the US, you have to be attuned to this issue, because you could become a US domestic issuer, and you’re gonna have a whole host of other problems.

 

Sara Hanks 26:58

So that’s a really good point. But I would say Daniel in the not with respect to the horrible definition, and it is you have to sort of work through sideways and back to front. And we do use that definition in answering another question with respect to Reg A, which is in as we were saying, Reg A is for Canadian companies and US companies, Reg CF is for US companies only. These days, especially post pandemic, we have frequently have to decide, okay, so the company is formed in Delaware, or in Ontario. But the CFO who used to live in California seems to be calling in from the Caribbean somewhere. And it looks like they have outsourced their some of their management functions to somebody who looks like he’s in London. And that Chief Product person, she looks like she’s in Mexico, but we can’t really tell. And so we sometimes end up talking to a company that we think is Canadian or us. And then we start putting the disclosure together, and we say, Okay, where’s your address? And like, Yeah, you should use my Mexico address and like, Oh, dear, we are now going to have a very complicated conversation with the SEC. And so one of the, the requirement is that their principal place of business, for Reg A, be in the US or Canada. And the SEC sole guidance on this is where the decision, the direct control and coordination happens. Alright, so, you know, how do we decide how that happens? And what we do is we look to the rules that you mentioned in determining whether a company is a US company or not, and say, we’ll look for the majority of your board to be in the US will look for the majority of your C suite, especially CEO and CFO to be in the US. Otherwise, you’re going to have some very uncomfortable conversations with the SEC.

 

Peter Daneyko 29:10

Okay, well, so what I’m hearing is talk to your lawyers to make sure that the residency or the operation side of things when it comes to a Reg A that you’re aware of it I mean, so that you don’t you don’t run into problems down the road. I’ve got a question here from somebody from the audience here is going what are the regulatory reporting requirements specific to Reg A?

 

Sara Hanks 29:41

I can I can start. It’s much easier than being a fully reporting company on an annual basis you would need audited financial statements. And if you are Canadian, the financial statements can be in IFRS. And this is Same for your initial offering as well. But they still have to be audited in accordance with us auditing standards. They’re very the auditing standards between the two countries are very slightly different. But the SEC only takes the US one. So on an annual basis, you file a 1k. With audited financial statements, that’s usually right about at the end of April, could be the first couple of days of May, depending on weekends and leap years, on a semi annual basis, you file an audited and reviewed financials, but they still have to be in GAAP format. So the same format as you did your your annuals and, and then if you do anything important, like fire your auditors or your CFO, you file a current report on form one, you know, of course, I given those and the semi annuals I do if you have a calendar year, by the end of September, September 28. adjust accordingly, because some of our Canadian companies have non calendar year, year ends.

 

Peter Daneyko 31:11

Okay, so you’re doing your audits. And anyway, so it’s not that onerous. The key is to make sure that you’re filing

 

Sara Hanks 31:18

and filing on time. And one of the things that we are, and I’m sure Daniels got the same experience, when we get to the beginning of April, every year, we round up all of our clients, like, are you ready to file? Yes, of course, we are. Three weeks out, are you ready to file? Well, almost two weeks out, are you ready to file either will the big count, it’s really busy, but probably one week out. And everybody’s panicking. So if you file late, you if you have an offering open, you’re going to close that offering, because you cannot be making Reg A offers or sales offers either neither offers no the sales. Your, your website has to go dark until you get filed and then you can start again. But this happens every year. I’m sure Daniels got the same experience.

 

Daniel Nauth 32:15

Yeah, absolutely. We, you know, my clerks and my associates, diarize all of our ratios and start rounding them up, just like Sarah says, it’s the same experience. You know, it’s, there’s a lot of companies a calendar year, and auditors are busy, you know, depending on where you are in their priority list. We’re busy, we’re busy, we’re busy. But it always seems like the filing is always the last minute things. So the sooner you can get organized, the better. What I will say is coming off the back of of a qualified one A, your Annual Report is good. It shouldn’t be easy from a from a disclosure perspective, because you have a qualified one a you have a good body of disclosure, you can use that to create your Annual Report update as required. But it’s really the auditors you have to chase that to make sure that you can get your audited financials done, because at least in my experience, getting the disclosure done is good. And then you have a good roll forward on an annual basis for the disclosure. So so it’s really kind of kind of the auditors in that regard.

 

Peter Daneyko 33:07

Okay, I think that’s that’s an excellent summary. I mean, I love I love hearing from from the legal side of it, because every time I learned the little things, and it sounds like it’s preparation and planning, if you plan properly, it’s not that it’s that onerous. It’s not as well, certainly not as onerous as a public company when you’re doing you know, your annual filings, so it makes it easier. So the Reg A, Reg A plus side of it is, is simpler, but you’ve got to make sure you’re talking, you’re doing your planning. Somebody has made a question. So the term comes up. There’s right there’s, there’s tier two, and there’s tier one. And from our experience, 99.9% of our recommendations are why would you do at tier one. And in part, it’s because of blues. But but it does have a place like there’s it has a unique place, but the term blue sky comes up. And whether in the cannabis sector or any sector can maybe just touch on that because it becomes confusing to a lot of people. They say how, and they asked us as a tech provider all the time, how do you cover a blue sky? And we said, well, our tech can cover anything. It’s really what you’ve done, what exemption that you’re dealing with up front is the important thing. So maybe one of you can jump in on that and the term blue sky where and where it fits in on the regulations.

 

Daniel Nauth 34:27

Sure, I’m happy to answer that question. Yeah, so blue sky just really refers to the state securities laws. I mean, your reg CF or your Reg A is being conducted under the 33 Act federal federal securities laws, but I guess what a lot of people miss is that there are state securities regulators and they do publish their own securities regulations. The major difference between a tier one and tier two when we refer to blue sky, generally state securities laws, right blue sky law. So when you hear blue sky, what’s that? What we’re referring to, are those regular nation. So on a tier one, you have to comply with state securities laws, right. So in addition to doing your Reg A, you’d have to go to each state where you had an investor find an exemption for the offer and sale of that security and comply with that exemption, which can make it very difficult if you have a broad investor base coming from a number of different states, which also becomes problematic because the blue sky laws don’t always play nicely together on aggregate value or number of investors in that state over periods. So it does create, it’s not as if there are exemptions there are but sometimes they don’t play well together. And it creates all sorts of problems. The tier two Reg A is really nice, because while it’s exempt from state regulation haven’t find blue sky law exemptions. I mean, the states have essentially, you know, created notice filing requirements similar to what you do on a reg D offering. When you do a form D, you still have to make your notice filings in the various states where you’ve made sales. So that’s really what blue sky refers to. I hope that’s digestible. Sara, if I’ve missed anything, you add color, I mean, please go ahead.

 

Sara Hanks 35:58

And one thing I would like to add is, we frequently have the conversation about well, I’m looking at the rules for tier one and tier two here. And tier one says you don’t need witted financials, tier two says you do. So why would I do tier two? And the answer is that’s only at the federal level. And as Daniel’s noticed, there are requirements, different requirements in each state, and many states do require audited financials. And some states require that you can only offer for example, preferred stock. Some states say you can only offer in our state, if you have independent directors, which most of our startup companies can’t afford. So they’ve all got very different rules. And although Washington State did a fantastic job bringing together the whole process to try and make it more effective, it’s still hugely burdensome. If you’re trying to sell a startup in all 50 states and the territories to our experience with one specific company is we we’ve we filed under tier one, because the company didn’t want to do ongoing reporting. And so we you know, we had that conversation with okay, we’ve got to go through all of the states, we filed with the states through the coordinated process that Washington runs. We got 100 comments, there’s there was the merit related comments, and that’s the states that determine whether an investment is good or not. Then we had the disclosure related comments. Those are the states who decide you can sell if you just tell, you know, all of the you give all of the information to make an informed decision. We got 100 comments through that process. And then we had additional comments from a whole bunch of states. We answered them, we appointed independent directors as requested by one state, we were told by three states, you’re never going to get through here. And there were three of the biggest ones. We fought, we refiled, we got another 100 comments at this point, the company’s like, we’re never doing this again. We withdrew from tier one we filed here too, we got seven comments. And the rest is history. I mean, we would charge danger money, if we ever did a tier one offering again, it’s good. I think for real estate companies, if you’ve got if you’re a non startup, selling in a limit, limited number of states and you have actual assets, it might make sense in those circumstances. But otherwise, for most companies, it’s going to be tier two.

 

Peter Daneyko 38:45

And that’s what I was thinking if it’s very isolated states very specific, you almost know your investor community and the back of your hand. But then it’s fair to say if you’re gonna if you’re gonna if you’re we’re looking at doing a tier one at the end of the day, it’s gonna probably cost you more and delay everything than then a reg a tier one and you can raise more capital you just got to do a little bit a little bit more preparation up front is that is that what I’m hearing from?

 

Sara Hanks 39:11

Tier one is going to cost more especially if you use offset definitely well.

 

Peter Daneyko 39:15

Daniel, you’re saying the same that’s that’s the high level advice we give to people say don’t do it, you’re one and

 

Daniel Nauth 39:24

I 100% agree and the funny tension is you know, the Jobs Act and when they revamp Regulation A was all about access to capital for smaller companies with Streamlined but on a tier one the states just make it far more difficult right and to be quite frank, if you were looking at a reg a tier one I mean, like as several points out, you know, real estate companies or you have a strong investor base or story in a jurisdiction or state makes it easy to get a blue sky exemption but then to that point, why are we doing a Reg a tier one, you might be better off just doing a straight reg D private placement, right, because you’re like, yeah, if you have access to capital and there’s no He’s in fourth. Okay.

 

Peter Daneyko 40:03

Cannabis, we’re here, the weeks about cannabis. So from a cat, what’s your experience? When it comes to things like? Comments is, what advice can you give cannabis related companies and there’s a big difference between the sector when it comes to I hear the term touching the plant, we don’t touch the plants, or we do touch the plants, or where the manufacturer or where the plumbing pipe fitter guys are where the new irrigation system Guys, can you share some color specific the that’s when it comes to no comments or a love of turn it over to you?

 

Sara Hanks 40:39

It will from from the SEC point of view, I mean, what they’re looking for is just tell us who regulates you and how you’re regulated? And how do you need need to comply with that. And then also throw in your risk factors, which, of course for US companies, is we can’t do banking, because it’s still illegal at a federal level. So so long as you have the sort of standardized risk factors and the standardized disclosure, that’s sort of gotten a lot easier for us companies, I’m not sure that I am not sure if we’ve done any cannabis companies, but it’s the specificity of we touch the plant, therefore this or we don’t touch the plant. And therefore this, the tricky bit that we’ve come across is state regulation of cannabis. So if you are incorporated, in Oklahoma, for example, there are all of these rules about cat who can who can own who can control who can transfer. And so one thing that we have noticed with Reg A in recent years, especially, is that the staff is paying a great deal of attention to what’s in the company’s bylaws or operating agreement, and how you describe it. And making sure that this is described properly. So that people understand by reason of investing in this company, I am now for example, not allowed to invest in another cannabis company in the same state or a different state, or I can’t have more than x percent of a another cannabis company. And they want that really explicitly written out because like I say, you know, on the US side, it can be completely different from state to state. And despite the fact that by the federal level, Reg A securities are completely free trading, you know, you could sell them if you could find a market for them, and REG CF or free trading after a year. But that’s all gone by the book, if you have an operating agreement that says you can only resell under the following circumstances and you can’t sell to felons, and you can’t sell more than 5%. So you have to be very careful about that aspect of regulation being properly described.

 

Daniel Nauth 43:02

Yeah, I agree with Sarah Mike’s look, my experience and the way I explain the SEC, and whether it’s an S one or an F one or an S four or one eight, you know, depending on what we’re doing, because I like the SEC to they’re a consumer protection agency, right, what they want is disclosure, they’re not here to tell you how to run your business as long as you’re not doing anything, obviously illegal. So serious, quite right, right. Like, I mean, we touched the planet, we’ve got FDA issues, maybe Health Canada, you know, we’re a pharma company where we have a process, we’re developing something a molecule, something, you know, something that THC, as long as you’re giving all of the input, the investors all of the information that they they need to make an informed decision. I think typically, that’s all the SEC wants to see. And to say this point, you know, I think they are paying attention what is in your bylaws, what is in the state laws, do these things match? Are you also telling investors, as Sarah has pointed out, you know, if you invest in us, you’re gonna have problems here, you can’t do this, you can’t do that. You might not be able to cross the border. That’s another risk factor we see all the time for officers and directors. So as long as the information is there, I think of it as a consumer protection agency. And that’s how I encourage clients to think about it. Let’s get the full picture the full story out. So that doesn’t look like anything’s being omitted. Anything’s being hidden, and everything’s playing for investors to see you make an informed decision.

 

Peter Daneyko 44:15

You know, I love how you put that, you know, consumer protection. And I think if we take it from that light, then we’re not we’re not as jaded by the regulatory regulations aren’t meant to stop the raising capital, the regulations are there, whether we like them or not, or how we like them or how confusing they may or not be if we follow them. These are the best regulations on the planet as far as I’m concerned for private companies to raise capital just do it properly. And having conversations with people like yourself and part of what we love to do with Kore is that educational component because what happened what was going on yesterday isn’t necessarily what’s going to be going on tomorrow.

 

Daniel Nauth44:57

If the candidate gets one thing and it’s it’s the thought that popped in my head. So when we’re speaking about the SEC, and what does it mean to be a cannabis company? Again, I think Sara and I are in agreement. So long as there’s disclosure, we don’t have an issue, I think where your company and you have sort of intentions or aspirations of whether it’s the OTC noisier NASDAQ down the road, I think that’s really where being a cannabis company, it’s not problematic. But I think where you kind of push up against more speed bumps because you might have to get it to 11 through FINRA, you might need to get DTC eligible. And being in the cannabis industry, you know, may create problems there, as well as an exchange may exercise discretion not to list you because they don’t like the sort of industry or what you’re doing or the fact that you’re in cannabis. Look, there’s lots of cannabis companies listed on NASDAQ. I’ve done a bunch of them. But I think where the tension would occur would would be there.

 

Sara Hanks 45:44

And also, one thing that we have noticed is the other service providers know that there are banks who will not touch either all cannabis companies or cannabis companies that do touch the plant. And so that that is a sort of logistical issue. It’s I mean, you’re gonna have problems with banks, if you’re a cannabis company anyway. But now you’ve got problems with banks not wanting to be your escrow agent as well.

 

Peter Daneyko 46:14

Yeah, and I think Do you think some of that’s, I guess the reason doesn’t really matter. Some of its could be simply large bank, from an escrow perspective, it’s, it could be optics, and it’s, Hey, they’re not touching the plant, I’m selling securities. But it’s easier to do nothing and to not get engaged with with the sector. Because while in my particular in one particular state, cannabis is, you know, is illegal completely, and another party and I have bank offices and all of that. Do you think that that just the optics side of it makes it more challenging from a banking rail perspective?

 

Daniel Nauth 46:45

I think really, I mean, it’s a compliance thing, right. Like, it’s all legal, federally and scheduled. And I don’t think the banks can really, really want to touch it, given the fact that, you know, despite the Cole Memo, and despite what’s going on at the state level, right, we still have, we still have it scheduled federally, which makes it illegal. I also think there’s AML issues for the bank, given the sort of fractured nature of cannabis and where money’s coming from. So I think that’s really and then banks are just conservative by nature, right? Like, the big banks are not the ones out there opening crypto trading accounts doing things right. And they’re also conservative by nature. So I think that’s really what it is. I mean, Sarah, I don’t know whether you agree or?

 

Sara Hanks 47:24

Not totally agree.

 

Peter Daneyko 47:27

Well, I also think there’s a great opportunity for those forward thinking smaller banks that are tech savvy that are the same time are looking into the category because we know, we certainly know especially with the the release and announcements with the US government’s with the Biden administration anyway, making certain comments whether what happens, we know it’s a growing sector, we know that the cannabis industry is going to continue to grow. And if these regulations were there to help democratize capital to make it easier to take away the friction points, you know, for private companies, small companies to raise capital. I’m pretty optimistic about it. But you’ve got to do it right. The term No comments. Has it gets bantered around and I, we do a lot of raises all the time. So we hear these waiting for companies to use the tech and jump on board. And they’re going I’m waiting to hear back from out I’ve got a few more comments. And I do hear more so in the cannabis sector than other sectors. Can you give any advice when it comes to that? Is it just lack of disclosure? What’s an example of like no kind of comments that come back from the SEC that that are delaying their qualification?

 

Sara Hanks 48:43

I think from from our point of view, it’s usually if it’s a cannabis company, it’s usually those tricky state things. It’s it’s do you have the right risk factors? Are you describing your regulatory situation properly? And do you have any inconsistency between state law, your constitutive documents and your disclosure? But yeah, I think probably, I mean, just to sort of go back on what you said, Peter, in some cases, the SEC will decline to review an offering. We saw that a lot during the SPAC era. We’re not seeing that so much anymore. I think they’ve been they’ve got more time for reviewing these days. But we never I don’t think we ever saw no comments on a cannabis company.

 

Daniel Nauth 49:37

I have never seen a no comment on a cannabis company. But what I will say is, look, the regulators are often reactionary to what the markets and do people are doing, right. And so when cannabis first became a thing, and that, you know, there’s a psychedelic craze less people doing mushroom deals now whether they’re touching the mushroom or doing novel molecules based off it, but the point is that the deal guys in the mark Get her always kind of ahead of the regulator. So when we first saw cannabis come through, I mean, the comments you would get were insane. They were long they were detailed. And that’s because the regulators were kind of catching up to the kind of the wave the industry, right. And so now what we see is we know how to approach the regulators, we know how to draft the disclosure, we know the risk factors for the most part. So while we don’t get no comments on cannabis issuers, we certainly do get kind of, I would say, kind of predictable comments, and we’re better able to deal with them. Because it’s been a few years now. Right. And so the regulators aren’t up, and they’re there. And so there is kind of a formula back and forth. And, you know, the common letters are much shorter.

 

Peter Daneyko 50:40

Gotta have a comment here from budgetary requirements, big question every wants to know is like, Okay, I want to do a reg CF or I want to do a Reg A plus, from a planning perspective, just from the legal the legal side of it, not, not the audit side of it. What’s some good ballpark ballpark statements that you guys would make? You do it all the time? I know, you guys are extremely cost effective in what you do. But people have to budget so what what, what insights? Or what quantifiable numbers can you provide? To the audience here?

 

Sara Hanks 51:14

I can I can give you all us because that’s a matter of public record. It’s in all of the Reg A filings we do. We charge 60,000 bucks, whether it’s cannabis company or something else.

 

Daniel Nauth 51:26

Yeah, so I often say to issuers look, if you’re doing a Reg A, where do you want it to be? Do you want us to do all the drafting? Or do you want to take the first cut, because that’s where you’re gonna have cost, right? If we have to get a data room and get up to speed on your business and draft it’s gonna be more expensive. We’re based in Toronto in Canada, so we billion Canadian dollars. So, you know, we normally see a Reg A somewhere between 50, Canadian 270 Canadian, depending on where we fall in that spectrum of are we doing the first cut? Or are they doing the first cut?

 

Peter Daneyko 51:54

Okay, so, so pretty.

 

Daniel Nauth 51:59

I don’t know, like on the fees, that’s just legal fees, right? Remember, you’re gonna have audit fees, you’re gonna have to engage a transfer agent, there’s a bunch of other fees. So don’t take that.

 

Peter Daneyko 52:07

Yeah, I’m just doing very, very high level, by all means. I mean, it’s a bit of each case is different. How long is a piece of string within reason? But, yeah, so budget, you know, budget in that 60k? Range? That’s kind of what I’m hearing here. Would that be fair, just as planning could be a little bit higher, could be a little bit lower. But in most cases, you’re you have to budget those kinds of numbers. And then you’ve got your audits. How long is a piece of string? Are you a new company? Or how complex? You know? How complicated a company? How established? Are you? Sarah? Yeah.

 

Sara Hanks 52:39

The one thing I’m seeing one of the comments come in here. I mean, I would say, when you’re budgeting, you should also have in your budget, ongoing reporting costs, because you will have to pay legal fees and auditing fees for them. And to answer the one of the questions there about ongoing reporting. The years some people don’t want to become ongoing, reporting companies, even though as we discussed, it’s really not that burdensome, if you get your, if you are an organized company, you could certainly be a company that does either goes to one, I’m not recommending that, because I’m not gonna do that, again, that was too painful. Or you could structure your offerings such that you take advantage of the fact that if you have less than 300 shareholders a record, which includes if you’ve got a custody structure and the like, you can do the one and done structure. So you find a 101 K. And because your share your shareholders are all held through through a custodian, you’ve only got one shareholder of record and that’s it, you can then withdraw from the system. I’m not sure I like that because you know, I am a public buckets person, I like transparency, but you can do that.

 

Peter Daneyko 54:12

Okay, thank you for that. Daniel. Any closing comments recommendations specific to preparation I guess from a from a filing perspective to the cannabis sector at large. I know this, this touches on everybody but past together, oh, don’t do this or do this.

 

Daniel Nauth 54:34

Well, I think I think you have to be organized. If you’re looking to do a Reg A particularly I think a reg CF is a little easier. But anyways, if you’re going to do a raise reg CF or Reg A, get organized, get ahead of it. Certainly from a bookkeeping perspective, have your books together, right? Because the big thing is auditing as well. Your auditors are going to need good journals, good books, good. Good p&l to make sure that they can prepare your audited statements. Get in contact with a lawyer Sarah Mike. So for anyone else, if you’re choosing, make sure they know what they’re doing, make sure they’re organized, make sure they’ve been through it before it’ll, it’ll make the process easier for you. But I think as with anything in life organization and get ahead of it, don’t call us, you know, a week before saying, hey, we need to do a Reg A because it’s not going to it doesn’t work that way. And if you want it done correctly, you need to give yourself time to organizing and get it get it done properly.

 

Peter Daneyko 55:20

Well, thank you for that. It takes a team and, and the experts in their various sectors, whether it’s the marketing, whether it’s the legal, whether it’s the technology, those it’s those that live in their lane, get good at what they do. That’s why I respectfully, strongly recommend the Daniel Knotts and the Sarah Hanks to the world because they do a great shot, and they do it all day. So they can experience you know, I keep saying I’m not going to my brother, can you know the potential lawyer to say, Would you do my Reg A filing for me, I just would never recommend that. So those that do it all the time, and things are always changing. So on that note, thank you very, very much. And I think I think the cannabis sector is as a great promising continues to be a promising sector to raise capital. And hopefully we shared some good insights with with our audience today in that regard. And both of you, I want to commend you, and thank you always, every time I learned something new, it’s just every little tidbit here. So it sounds like reg CF or reg A’s they work they work for both audiences provided you do the planning, do the measurements and and talk to the right partners in advance. So So on that note, again, it’s we’re at the top of the hour, thank you so very much for for attending and being part of the panel today. Thank you. All right. Have a great day. Bye

 

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