Second Lottery for Ontario Cannabis Retail Stores - What are the Rules and Strategies for Success?

On July 3, 2019, the Ontario Government announced that it was moving to the next phase of its plan to license cannabis retail stores within the province by adding 50 new stores this fall, with 42 of these stores being allocated among various regions within the province and the remaining 8 to be operated on First Nations reserves.  The 42 stores that will be available in the lottery process will be allocated among the following Ontario regions: (i) Toronto Region: thirteen (13) stores; (ii) GTA Region: six (6) stores; (iii) East Region: seven (7) stores; (iv) West Region: eleven (11) stores; and (v) North Region: five (5) stores.

Unlike the first lottery held in January of this year which merely required an applicant to complete a basic entry form accompanied by $75 entry fee, in the upcoming second lottery, lottery entrants will need to pre-qualify prior to submitting an “Expression of Interest Application” to the Alcohol and Gaming Commission of Ontario (the “AGCO”).  In particular, to be eligible to submit an Expression of Interest Application, an applicant must be able to demonstrate that it has: (i) secured a physical location for the proposed cannabis retail store; (ii) the ability to access $250,000 in liquid funds and/or credit facilities; and (iii) the ability to obtain a $50,000 standby letter of credit.

The Expression of Interest Application must be submitted between 12:01 a.m. on August 7, 2019 and 8:00 p.m. on August 9, 2019.  Thereafter, the lottery will be held on August 20, 2019.  Successful entrants will be notified of their selection by the AGCO within 24 hours of the lottery being conducted and will be placed on the “Selected List” or the “Wait List”.

Pre-Qualification Requirements

In order for a potential applicant to pre-qualify and to be in a position to submit an Expression of Interest Application, the applicant must first set up iAGCO account which is a straightforward process.  Thereafter, an applicant will need to make certain attestations and electronically file the pre-qualification documents, which include:

1. acknowledging and confirming a number of representations including that the applicant will exercise control over the cannabis retail business and that there is a risk that the applicant may not be able to obtain a sufficient quantity of cannabis to operate a cannabis retail business;

2. submission of a Letters of Confirmation – Cash or Cash Equivalents Capacity and Commitment to Provide Letter of Credit from a bank found in Schedule I or Schedule II of the Bank Act (Canada) or a credit union or caisses populaires registered under the Credit Unions and Caisses Populaires Act, 1994, which must be substantively in the form set out by the AGCO.  The Letters of Confirmation must confirm that the applicant is in good standing and has the financial capacity necessary to obtain: (i)$250,000 in cash, cash equivalents or access to credit facilities of at least $250,000 and a standby letter of credit in the amount of $50,000, which letter of credit will be provided within five (5) business days of the applicant being notified of its selection by the AGCO;

3. submission of a Confirmation of Retail Space document, substantively in the form set out by the AGCO that confirms the applicant has secured retail space and that sets out: (i) the street address for the retail space, which must be the same address identified in the Expression of Interest Application; (ii) the retail space will be available for the applicant to operate a cannabis retail store as of October 2019; and (iii) the name and contact information for a person with a legal interest in the retail space; and

4. payment in full of a $75 non-refundable fee for each Expression of Interest Application.

Process for Successful Entrants

An applicant on the Selected List will be required, within five (5) business days of being notified of their selection to: (i) submit an original $50,000 standby letter of credit; (ii) submit a formally executed legal instrument that demonstrates the applicant has a right to possession of the retail space identified in the Expression of Interest Application; (iii) submit an application for a retail operator license together with the non-refundable $6,000 fee; and (iv) submit an application for a retail store authorization using the same retail store location as provided within the Expression of Interest Application together with the non-refundable $4,000 fee.

Applicants who are selected will be required to be in possession of the retail space that is set out in their Expression of Interest Application by October 1, 2019 or as otherwise agreed by the AGCO. Approval to open a cannabis retail store will be given once all requirements have been met and on a rolling basis starting in October, 2019, as the successful entrants conclude their supply agreements with the Ontario Cannabis Store (the provincial wholesaler).

Successful entrants are required to use the same legal name and applicant type identified on the Expression of Interest Application in their retail operator license application and are not permitted to change their applicant type, ownership and/or corporate structure in a way that would result in a change of control of the applicant or holder of a retail operator license during the period spanning July 3, 2019 to July 3, 2020.

Strategies

In light of the pre-qualification requirements, an applicant in the second lottery must prepare well in advance of the lottery to ensure that it can meet the pre-qualification requirements so as to be in a position to be eligible to be awarded the opportunity to obtain a retail operator license and retail store authorization and to run one of the 42 new cannabis retail stores in Ontario.  Given that the Cannabis Law Group at Torkin Manes LLP was engaged in nearly 30% of all successful license applications within the province in the first lottery, our Group is uniquely positioned to assist interested parties in the second lottery and licensing processes.  Set out below are some of strategies that we recommend.

Determine the Best Structure for the Applicant:

Carefully consider the best structure/vehicle to be used to enter the lottery as it cannot be changed prior to July, 2020.  Accordingly, consideration of whether an applicant should be a sole proprietor, corporation, partnership or otherwise requires careful advance legal and accounting planning.

Secure the Pre-Requisites:

Begin discussions with your bank and/or credit union to obtain the necessary letters of confirmation as soon as is possible.  It has been our experience that most Schedule I and Schedule II banks will not provide the necessary confirmations despite the bank’s client having more than sufficient funds available to secure the required confirmations.  The reason for not providing these confirmations relates to the bank’s uneasiness and unwillingness to be involved with the legal cannabis industry in Canada.  Although this is slowly changing, we recommend that potential applicants meet with representatives of the larger credit unions in Ontario who are active in the cannabis industry.  However an applicant should expect to pay an administrative fee for this service and be well aware that it takes time to set up a new account and to obtain the necessary confirmation letters, so it is best to start these conversations as soon as is possible.

Contemporaneous with an applicant’s discussions to secure the confirmations, an applicant must forthwith commence locating and entering into an arrangement with a potential land owner or holder of an interest in suitable premises for a cannabis retail store to meet the pre-requisites.  Applicants should carefully consider the location, ensure it is properly zoned, meets the requirements in the Cannabis Licensing Act, 2018 (Ontario), and consider how to terminate any such arrangement at a minimal cost in the event that the applicant is not selected in the lottery.  Given that the AGCO has made it clear that it will not permit an applicant to change the location of the retail space that was set out in an applicant’s Expression of Interest Application unless there are extenuating circumstances, extra careful consideration of the proposed retail space and sufficient time to complete due diligence is essential. 

Arrangements with Industry Participants:

Contemporaneous with or immediately after securing the pre-requisites set out above, it is essential that an applicant considers how it will actually build-out the store, operate the store, have access to the necessary capital to complete necessary renovations and for working capital to cover salaries of staff and the purchase of cannabis and cannabis accessories for sale.  Based on our experience, it is best to speak to existing industry participants who are experienced operators and to begin discussions in respect of an acceptable arrangement with such industry participants to provide assistance and expertise to properly build-out the store on a timely basis so as to be open for business by October 2019.

Types of Acceptable Arrangements:

What types of arrangements with third parties are acceptable to the AGCO having regard to the prohibition on a change of control and being cognizant of the applicant’s attestation that it will exercise control over the cannabis retail business.  From our past experience in the initial lottery of 25 stores in January of this year, we know that certain branding/licensing arrangements, loans and operational support may be provided, if properly structured.  In additional, in certain instances, options to purchase the cannabis retail business when legally permitted have been allowed by the AGCO in the first lottery.  Notwithstanding this, the AGCO will scrutinize each material agreement to ensure that the lottery winner does not, in its opinion, change control and continues to exercise control over the business and if it determines, in its sole discretion, that these or other rules are not be complied with, the applicant will be disqualified.  Accordingly, these arrangements and contracts derived therefrom need to be carefully prepared with the assistance of experienced legal and accounting professionals.

Plan for Future Cannabis Products:

Anyone who is interested in opening a cannabis retail store in October, should now be planning for future cannabis product classes, most notably edibles which are expected to be legal this October and sold as early as December of this year. This will require additional space and planning so as to be in a position to sell the much anticipated edibles as soon as they are available for sale.

The Cannabis Law Group at Torkin Manes LLP has extensive experience in obtaining retail sales licences across Canada and especially in Ontario.  We have existing relationships with strategic partners who can assist lottery winners to open their cannabis retail stores in a timely manner that passes the strict requirements set out in the legislation and AGCO scrutiny. If you are interested in obtaining a retail cannabis store in Ontario, please contact the Cannabis Law Group at Torkin Manes LLP at cannabis-law.ca.