Licensed Producers Can’t Sweeten the Deal: AGCO Updates Standards on Inducing Cannabis Retailers

Introduction

On February 8, 2022, the Alcohol and Gaming Commission of Ontario (the “AGCO”) announced key changes to the inducement rules in the Registrar’s Standards for Cannabis Retail Stores (the “Revised Standards”). Under the pre-existing framework, provincially licensed retailers of cannabis (“Retailers”) have not been permitted to accept “material inducements” from federally licensed producers of cannabis (“Licensed Producers”), their representatives or suppliers of cannabis accessories. Without additional guidance on the meaning of this prohibition, compliance became a game of guesswork, causing widespread confusion among market participants.

The Revised Standards and accompanying guidance clarify what constitutes a prohibited “material inducement,” as well as outline the types of permitted commercial arrangements between Retailers and Licensed Producers, in an effort to close loopholes and level the playing field between larger and smaller players. While the AGCO’s efforts are laudable, the newly introduced prohibition against white-label arrangements is a major setback to Retailers struggling to differentiate themselves in a sea of competitors that sell substantially the same cannabis products.

The Revised Standards take effect on June 30, 2022. Below, we discuss the key changes and their implications.

Meaning of “Material Inducements”

The Revised Standards clarify that material inducements include items, benefits, payments or services that are offered or given with the purpose to promote or increase the sale of a particular brand or product by the Retailer or its employees.

Below are some practical examples identified by the AGCO of what constitute permitted and prohibited inducements:

*The AGCO notes that it is still possible for these types of inducements to be material depending on contextual factors such as volume and whether they defray operational costs.

Commercial Agreements

Under the Revised Standards, Retailers and their representatives are not permitted to accept or enter into a commercial agreement for any item, benefit or service with a Licensed Producer, subject to the following new exceptions:

• Nominal value: Retailers may accept or enter into agreements with a Licensed Producer or its representative if the items, benefits or services are of “nominal value.” While no monetary threshold is stated under this exemption, the guidance provides that permitted inducements should not change a Retailer’s behaviour toward a Licensed Producer or have a significant impact on the Retailer’s operational costs.
• Education and training: Retailers may accept items, benefits and services related to education and training—including education or training outside of the Retailer’s premises—modest meals and refreshments during the education or training, and cannabis product samples directly related to the education or training.
• Sale of data: Retailers may enter into agreements with Licensed Producers for the sale of data for business intelligence purposes, provided the Licensed Producer pays a fee at fair market value and all applicable privacy laws and regulations are followed.
• Financing and lease agreements: Where a Licensed Producer has an ownership interest in a Retailer, the Retailer may enter into financing and lease agreements.
• Franchise agreement: A Retailer may enter into a franchise agreement with a Licensed Producer or its affiliate.

Any commercial agreement between a Retailer and Licensed Producer must not:

• Define the amount of product from the Licensed Producer or its affiliates that must be offered for sale by the Retailer;
• Require a defined amount of display space in the Retailer’s store to be dedicated to product from the Licensed Producer or its affiliates;
• Provide merchandising, marketing or promotional activities to the Licensed Producer or its affiliates; or
• Restrict the ability of the Licensed Producer or its affiliates to sell its product at other retail stores or the ability of the Retailer to sell products from other Licensed Producers or their affiliates.

In addition to the above, the AGCO has enacted a restriction against Retailers and Licensed Producers entering into any co-branding or white-label arrangements, whereby a Licensed Producer will manufacture a product (cannabis or accessory) to be sold under the Retailer’s own brand. The AGCO has stated that white-label products that have already been produced can continue to be sold until June 30, 2022. However, any existing arrangements must be terminated once the Revised Standards become effective. This is sure to be a disappointing development for Retailers that have no real means of differentiating themselves in the marketplace, particularly given the strict marketing guidelines in place that already stifle creativity.

Recordkeeping

The Revised Standards introduce new recordkeeping obligations for Retailers who enter into a commercial agreement with a Licensed Producer pursuant to one of the exemptions noted above. Further guidance from the AGCO is expected in the near future.

Conclusion

The AGCO has said that the rules against inducements are intended to “minimize the risk of anti-competitive practices so that [retail] licensees and licensed producers of all sizes have a reasonable opportunity to enter and compete within the cannabis marketplace.” While this is a laudable goal, it’s unclear that these rules will have the intended effect, in particular for Retailers in the near term. The policy ignores the present reality that in many regional Ontario markets there is already an oversaturation of cannabis retail stores. At this point, small and large Retailers alike would prefer to have increased—not further reduced—flexibility to enter into arrangements with Licensed Producers that allow them to increase revenues, offset expenses or differentiate themselves from their competitors. For some Retailers, the existence of these restrictions on arrangements with Licensed Producers may be the difference between survival and failure.