Why Cannabis Companies, CBD Corporations Use Arbitration Agreements

As our Los Angeles corporate CBD lawyers can explain, many cannabis company contracts contain arbitration clauses. Some examples include sales contracts, operating agreements, employment contracts and intellectual property licenses. Dispute resolution should never be an afterthought, so this provision is important.

Arbitration is used in lieu of pursuing the case in court. There is no judge or jury in arbitration. Both parties instead pay an arbitration company or private arbitrator (usually an attorney or former judge) or arbitration panel to preside. Arbitrators don’t represent either side. They’re neutral third parties who hear both sides and then reach a resolution. That can involve damage awards, requiring one party to pay the other.

Arbitration Award Against CBD Distributor Upheld

The question at issue before the Eleventh Circuit in Earth Science Tech, Inc. v. Impact UA, Inc. was whether an arbitration award against a CBD distributor in favor of an international supplier could be enforced. It involved a Florida CBD products distributor and an El Salvador hemp-based product supplier. The two businesses signed a distribution agreement that gave the Florida company exclusive rights to market, sell and distribute the international supplier’s CBD oil in the U.S. The companies would then split the profits.

There was an arbitration clause in the distribution agreement indicating both agreed New York law would apply and if a dispute arose, they would resolve it with arbitration using a specific arbitration firm.

However, the business relationship went south within just a few months, with the supplier, demanding arbitration, accusing the distributor of breach of contract, tortious interference and conversion. The distributor instead filed a state court lawsuit. It was later removed to federal court, but the matter was put on hold pending the outcome of the arbitration.

The case went before an arbitration panel, which awarded the supplier nearly $4 million (mostly on the tortious interference claims). The supplier then asked the federal district court to confirm that award.

The distributor sought to either vacate or modify it, argued the tort claim should never have been subject to arbitration and asserted the award couldn’t be affirmed because it wasn’t consistent with the U.S. Controlled Substances Act.

The court disagreed, siding with the supplier. The distributor appealed, but the Eleventh Circuit affirmed.

Why the Court Rejected CBD Distributor’s Arguments

On the question of whether tort claims were subject to arbitration, the court pointed to the applicability of the Panama Convention, which spells out arbitration rules for how commercial disputes involving the companies in the U.S. and most of Latin America should be resolved. (There are several potentially applicable conventions in these cases, depending on the location of the international company involved.) Provisions of that law allowed for arbitration on the tort claim. But even if they didn’t, the CBD distributor forfeited its right to dispute the award because it agreed – as did the supplier – to submit that issue to the arbitrator.

On the issue of modification, the only grounds distributor would have had to make this argument were that there was an evidence miscalculation. The court quickly determined there was not.

As for the argument of the award’s inconsistency with the U.S. Controlled Substances Act, the distributor argued that when the contract (to which it was a party) was signed six years ago, federal law prohibited the sales of any THC-containing product – including CBD. If the court affirmed the award, the distributor argued, they would be enforcing a contract whose subject was illegal under federal law.

No, the court answered. The distributor bore the burden of proof to establish the subject of the contract was illegal, and its own website stated at the time that its products were federally legal “everywhere in the USA.” The appellate court said it wouldn’t assume the distributor was flagrantly advertising products as legal if they believed them to be illegal. The court further cited the 2018 Farm Bill that removed hemp and hemp-derived CBD from the Controlled Substances Act. Even if the product was illegal then, it isn’t now.

That decision doesn’t set any binding precedent within that circuit, let alone the Ninth Circuit, which oversees cases in California. However, it may prove persuasive to sister courts if similar cases regarding international contracts involving sales of CBD and hemp arise.

Bottom line for California hemp and CBD businesses:

• Talk to an experienced Los Angeles CBD lawyer before entering an agreement with any international firm so you know exactly what rules are gong to apply.
• If you are involved in arbitration with an international firm, you need to be sure you know which convention applies so you can make a strong argument.
• If you had a hemp-CBD business contract that was signed prior to the passage of the 2018 Farm Bill, it’s unlikely you’ll be able to challenge the validity of it on the grounds the subject is unlawful. You might consider, nonetheless, having your attorney review it.

The Los Angeles CANNABIS LAW Group represents growers, dispensaries, ancillary companies, patients, doctors and those facing marijuana charges. Call us at 949-375-4734.

Additional Resources:

Earth Science Tech, Inc. v. Impact UA, Inc. , April 14, 2020, U.S. Court of Appeals for the Eleventh Circuit

In April, the U.S. Treasury Department’s Alcohol and Tobacco Tax and Trade Bureau (TTB) made clear that CBD made with hemp can’t be lawfully added to alcoholic drinks.

In response to a flood of inquiries submitted by L.A. CBD lawyers and other interested parties, the TTB made clear that while CBD and hemp are now federally legalized, that legality doesn’t pertain to alcohol.

Review of Existing Guidelines Means CBD Drink Rule Could Change

Whether this rule sticks is questionable. After all, CBD, short for cannabidiol, doesn’t have psychoactive properties because the active-compound THC appears at trace levels – if at all – in CBD consumer products. That means it isn’t likely to compound someone’s level of intoxication if consumed in conjunction with alcohol. But TTB officials aren’t keen on relaxing their rules – at least yet – especially so long as the U.S. Food & Drug Administration’s rules on CBD infusion to wine, beer and liquor remains firm.

For its part, the FDA has stated repeatedly and unequivocally that CBD derived from hemp can’t be legally legally marketed in food products. However, officials with that agency also have said they are looking at potential pathways to changing that rule to.

In a released statement following a consult with FDA regulators, the TTB indicated that any alcohol products infused with CBD will be rejected. However, the agency included a caveat that it will continue to process applications products containing hemp seed and hemp seed oil, and that applications for CBD-infused alcohol would be reconsidered if policy changes.

Manufacturers and distributors wishing to market alcohol products with hemp derivatives, even those allowable under the law, they first need to submit a laboratory analysis of the ingredients therein to be sure they don’t contain any controlled substances barred for such purposes.

The agency has been engaged in ongoing consultation with the U.S. Drug Enforcement Administration on the issue as needed. L.A. CBD lawyers caution anyone selling these products to consult with an attorney first, most especially if sales are occurring across state lines.

CBD Lawyers Note Food and Drink Product Marketing Continues

Despite these rules, our L.A. CBD lawyers note that dispensaries, restaurants and other retailers continue to market food and drink items with CBD. At this point, we haven’t noticed any significant uptick in CBD enforcement action in California. However, CBS reported in February that states like New York, Maine, Ohio and North Carolina are committing to hard-line action against CBD products that fail to meet the letter of the law. As far as federal CBD enforcement action is concerned, the FDA has indicated it is prioritizing its resources to target companies that make unfounded or exaggerated claims regarding the health gains of CBD products. The Los Angeles CANNABIS LAW Group represents growers, CBD dispensaries, ancillary companies, patients, doctors and those facing marijuana charges. Call us at 949-375-4734.

Additional Resources:

Federal Agency Clarifies Rules On Adding CBD To Alcoholic Beverages, May 6, 2019, Marijuana Moment

More Blog Entries:

Criminal Charges for CBD? Confusion Copious Over State, Federal Laws, May 1, 2019, L.A. CBD Lawyer Blog