Why Handshake Cannabis Deals Are BAD

17 Feb Why Handshake Cannabis Deals Are BAD

A lawyer I know once told me that the primary motivation behind drafting a contract should not be making each party’s obligations clear or negotiating better terms, but instead should be ensuring that when there is litigation,  that party is in the best possible position to win. Having written and litigated numerous contracts, I could not agree more. There is so much that parties can miss if they are not looking forward towards inevitable disputes. But an even better way to put oneself in a terrible position in a dispute (and to cause more disputes) is to do handshake deals.

For those of you who aren’t lawyers, there are two main types of contract: written contracts and oral agreements (i.e., handshake deals). There can also be some kinds of implied contracts, but I won’t get into that here. Decades ago, people did not enter into written cannabis agreements for very obvious reasons. But from a modern lawyer’s point of view, there are almost zero circumstances in which parties should still enter into oral agreements. In fact, there are numerous reasons why parties should not do so, and I’ll flag some of the more important ones below. All in all, I would be suspect of anyone saying “you don’t need a contract for this deal”.

First, oral agreements are not enforceable in many circumstances. There is a very old legal doctrine called the “statute of frauds”, which all or nearly all states have adopted, and which lists certain kinds of contracts that are not enforceable unless in writing. In California, for example, the statute of frauds includes contracts that can’t be performed in a year (goodbye multi-year terms in handshake deals), leases with more than one year terms, contracts for the sale of real property or an interest in real property, etc. This can be a huge problem for people who have handshake deals who may learn too late that they have no recourse in the courts in a dispute.

Second, they will cost tons of time and money. One thing I’ve heard many times before is that it will be much more expensive to have a lawyer draft X type of contract than just to get started on work. What most non-lawyers don’t think about is how much the inevitable blow back will be if they use an oral agreement. Because the terms aren’t set out in writing, and because people generally have terrible memories, the likelihood of disputes over what the parties are actually supposed to do under a handshake deal are much, much higher. In some cases, disputes are virtually guaranteed.

To that point, if a party under a handshake deal has to sue the other party, the litigation will be much more complicated. In every kind of breach of contract suit, the party alleging breach has to prove the existence of a contract. It’s very easy to do if there is a written contract: generally, you just produce and properly authenticate the contract. If the deal is a handshake one, you will have to have people testify about (1) the fact that there was an agreement, and (2) what the terms were. And the other side is almost guaranteed to testify that the terms were different or that the contract was never made. Sure, parties can dispute the existence or validity of written contracts (someone could claim their signature was forged, for example), but the existence/validity of a contract is rarely at issue in those cases because you can look at and hold a written contract and evaluate such claims pretty easily.

Third, you don’t get to recover any attorneys’ fees! The general rule in the U.S. is that each party bears its own attorneys’ fees in litigation. In other words, you pay your lawyer for litigating your dispute, whether your win or lose. Some laws will force the losing party to pay the other party’s attorneys’ fees (for example, in some trade secret cases). But for straight breach of contract cases, the only way to get your fees paid back if you win, in most cases, is to have an attorneys’ fees provision in the contract. I have never once heard a party legitimately trying to claim that their handshake deal included an attorneys’ fees provision; in fact, that would be a guaranteed way to lose face in front of a court.

Fourth, and along the same lines, no arbitration. I just wrote a post about why arbitration is such a good idea for cannabis companies. The gist is that arbitration avoids going to federal court, where the court is much more likely to toss a case on the grounds that cannabis is federally illegal. Parties generally cannot be forced into arbitration unless they agree to it, either at the point of a dispute being initiated (the party who would benefit from getting the case thrown out would never do this), or in a written contract. Here too, I have never heard of someone arguing that there was an oral agreement to arbitrate.

Fifth, good luck complying with the regulations! Every state’s broad cannabis regulations touch virtually every part of a business’ operations. It is always good practice to address the things that the parties must do or cannot do to comply with the regs in a written contract. For example, if a contract would render parties owners or financial interest holders in a licensed cannabis business, it’s a good idea for the contract to obligate that party to make disclosures. Without it, the party could refuse to do so and jeopardize the other party’s license. If the parties enter into handshake deals, there is virtually no visibility into regulatory compliance. It’s probably not a good defense to an enforcement action that a contract wasn’t written and a licensee was confused as to how they should comply.

All of this is to say, oral contracts are a bad idea. Parties don’t need to have 80-page deals for every minor transaction, but getting something down in writing almost always helps. That said, I do plan to write a post in the near future about how it can be equally terrible to have a contract that is too short. There is a healthy balance when it comes to contract drafting, but the main point is that almost all problems inherent in oral contracts can be avoided, and in many cases very easily.

For more on this under-discussed but very important issue, check out the following: