Reed Smith Client Alerts

The ominous tagline for the movie “Jaws 2” famously warned:  “Just when you thought it was safe to go back in the water.”  Although unlikely to receive even the mixed reviews that that 1978 film received, the U.S. District Court for the Western District of Washington’s recent ruling in Polk v. Gontmakher, No. 2:18-cv-01434-RAJ, 2019 WL 4058970 (W.D. Wash. Aug 28, 2019), is likely to send shivers down the spine of the U.S. cannabis industry.  Bucking an apparent trend of courts enforcing cannabis-related contracts, this federal district court concluded that federal law prohibited the enforcement of an agreement between partners in a cannabis growing operation.  Citing the U.S. Controlled Substances Act (the CSA), the court found that “awarding [the plaintiff] an ownership interest in, or profits from, [the cannabis-related business] contravenes federal law.”  Thus, just when the cannabis industry thought it was safe, and that federal courts would continue to enforce cannabis-related agreements, this decision ominously surfaced.

Authors: Michael H. Sampson

Overview

The facts of Polk are relatively straight-forward:  After Washington state passed an initiative “regulating the production, distribution, and sale of marijuana and removing related state criminal and civil penalties[,]” the plaintiff and the defendant “orally agree[d] to be ‘equal partners’ in their cannabis growing venture.”  Thereafter, they agreed to modify their respective percentages of ownership such that the plaintiff maintained a 30-percent ownership stake in the cannabis-related business – an “‘interest’ [that] would be held in the name of one of [the defendant’s] relatives” because the plaintiff was not eligible to hold a state cannabis license.

“Over time, [the plaintiff] explored different ways to make his ownership interest in [the business] legal.  Although these efforts were unsuccessful, he stayed with [the business] at [the defendant’s] encouragement.  Finally, in September 2015, [the plaintiff] left [the business].  After his departure, [the defendant] disputed what he owed [the plaintiff] for his alleged interest in [the company].  As a result, in 2018, [the plaintiff] sued [the defendant and others], alleging, among other things, that he is entitled to an ownership interest in [the business] and past and future profits” (internal citations omitted).  The defendant moved to dismiss a number of the claims asserted by the plaintiff.

The decision

The district court granted the defendant’s motion.  Before turning to whether the agreement was enforceable under Washington state law, the court found that the agreement was not enforceable under federal law.  It explained that “where it is alleged that an agreement violates a federal statute, courts look to federal law.”  It further explained:  “Contracts that violate a federal statute are illegal and unenforceable.”  Thus, after observing that, under the CSA, “the production, distribution, and sale of marijuana remains illegal[,]” the court stated that “any agreement giving [the plaintiff] an equity interest [in the cannabis-related business] is illegal under federal law.”

Thereafter, the court expressly rejected the plaintiff’s arguments that the agreement was nevertheless enforceable.  The plaintiff, the court stated, “argues that the CSA is not an absolute bar to enforcement where the requested remedy does not require a violation of the CSA.  The Court agrees.  However, [the plaintiff’s] characterization that he is only requesting monetary damages is inconsistent with his Complaint.  [The plaintiff] is not requesting monetary damages that can be obtained legally.  He is asserting an equity interest in [the cannabis-related business] and a right to past and future profits.  [The business] is a company that produces/processes marijuana” (internal citations omitted).  “Thus,” although cannabis was legal under state law, the court concluded, “awarding [the plaintiff] an ownership interest in, or profits from, [the business] contravenes federal law.”