Despite restrictions on cannabis businesses’ profits and products crossing state lines, one area where cannabis businesses can have national reach is in intellectual property licensing. Cannabis businesses can license their trademarks outside the state of Colorado for use in emerging markets, and, conversely, an out-of-state intellectual property owner can participate in Colorado’s regulated cannabis market as an “Affiliated Interest” without the background checks the Colorado Marijuana Enforcement Division (the “MED”) would perform on a “Financial Interest,” or owner of a cannabis business.
A license for cannabis products, known as a “commercially reasonable royalty” under MED rules, is subject to restrictions from the MED. Rules allow commercially reasonable royalties where a licensor receives up to 30% of gross revenue or gross profits from the sale of a particular product or line of products, without being considered a Financial Interest by MED. But the MED doesn’t look only at the money: royalty holders granting licenses to cannabis company licensees also must walk a fine line between having sufficient quality control and inspection rights on one hand, and exerting so much control over a licensee that the MED would consider such control to create ownership, on the other hand.
Intellectual property licenses should contain aspects of control in order to be enforceable. Without control over the quality of licensed products, a license may be considered a “naked license” and therefore unenforceable. In certain circumstances, courts may refuse to enforce a license as a naked license when the licensor exercises little or no quality control over the products or services marketed by the licensee. Stanfield v. Osborne Indus., Inc., 52 F.3d 857 (10th Cir. 1995). Courts developed this doctrine in order to protect consumers who believe that because they buy a product or service under a certain name, that the products or goods they receive have a certain quality associated with the trademark. Naked licensing can result in the abandonment or forfeiture of a licensed trademark.
On the other hand, an Affiliated Interest licensor must be careful not to take too much profit or exert too much control over production by a licensee. Under MED rules, any commercially reasonable royalty exceeding 30% of the gross revenue or gross profits might create a Financial Interest in a cannabis business, and any person who exercises control or who is positioned to exercise control over a cannabis business can be deemed to hold a Financial Interest and therefore subject to MED scrutiny as an owner. A person who has final decision making authority over any material aspect of the operation of a licensed cannabis business might hold sufficient control to constitute a Financial Interest in that establishment.
Consider the protection of your brand’s goodwill by avoiding a naked license when creating licenses for intellectual property related to cannabis products. A prudent licensor also must consider how much control it can exercise over production without inadvertently creating an ownership interest in a cannabis business. McAllister Garfield, P.C. has considerable experience with interstate intellectual property licensure in the cannabis industry. Please contact us if you would like more information about this topic.