Controversial Canadian dealmaker Andy DeFrancesco is in the midst of a heated legal battle with Toronto-based hedge fund MMCap Asset Management over shares of U.S. cannabis company Verano Holdings, that are now worth almost $700-million.
The tug of war involves SOL Global Investments Corp. – the cannabis company founded and led by Mr. DeFrancesco – and 1235 Fund LP, an affiliate of MMCap. It has culminated in both entities hurling lawsuits at each other in courts in New York and Ontario.
1235 Fund is seeking hundreds of millions of dollars from SOL, Mr. DeFrancesco, his wife, Catherine DeFrancesco, as well as his private equity company Delavaco Holdings.
The dispute is unfolding at a time of renewed investor interest in the cannabis sector that has sent pot stocks soaring, increasing the stakes for both parties involved in the litigation centred around millions of shares of the newly listed Verano.
SOL has a 20-per-cent all-stock stake in Verano, which went public on the Canadian Securities Exchange in mid-February and is one of SOL’s most valuable assets. In the summer of 2019, SOL borrowed US$50-million from 1235 Fund, which is now seeking repayment in the form of SOL’s Verano shares.
A lawsuit filed by SOL on Feb. 7 in New York alleges that 1235 Fund is attempting to “extort a usurious windfall” in relation to a US$50-million convertible debenture that was issued to SOL in July, 2019. The cannabis company insists that according to the repayment terms of the loan, it is only obligated to pay back the US$50-million principal plus 6 per cent in interest.
But a separate lawsuit, filed by 1235 Fund on Feb. 24, accuses SOL and the guarantors of the loan – Mr. DeFrancesco, Ms. DeFrancesco and Delavaco Holdings – of deliberately misinterpreting the terms. The suit argues that SOL is obligated to hand over millions of Verano shares worth US$550-million as repayment for the convertible debenture.
“This action concerns the unlawful conduct of rogue participants in the Canadian capital markets … the Defendants [SOL] now regret their bargain and seek to resile from it instead of honouring their contractual and legal obligations,” states the 1235 Fund lawsuit, filed in an Ontario court.
The latter half of 2019 was a particularly bad time for cannabis companies, both in the U.S. and Canada. The euphoria of legalization the previous fall had waned, and signs of oversupply and low demand had started to permeate the industry. Between October, 2018, and July, 2019, shares of SOL plummeted 60 per cent, and the company was facing significant financial difficulty, public filings show.
It was under these circumstances that SOL and 1235 Fund entered into the convertible-debenture agreement. “SOL was in critical need of cash to continue as a going concern. 1235 had what SOL needed, namely available funds to invest,” the Ontario suit against SOL states.
1235 Fund, for its part, was particularly interested in the large equity stake that SOL had in Verano at the time, which was one of the cannabis company’s most valuable assets. Verano was set to merge with another large U.S. cannabis company, Harvest Health & Recreation, and the fund saw a huge monetary upside in the deal if it went through.
The debenture agreement, according to the lawsuit, stated that if the Harvest-Verano deal was successful, 1235 Fund would receive 8.2 million shares of the resulting company as repayment for the US$50-million loan.
More critically, if the deal did not go through, 1235 Fund claims that the agreement between both parties stated that the fund had the option of receiving 1.7 million in Verano shares as repayment for the loan. The fund alleges that it was also “given the option” of receiving repayment of the loan purely in cash.
Hedge funds have long played the role of providing much-needed cash to companies with little revenue. MMCap and its affiliates frequently entered into these types of share-lending agreements, which also gave them the chance to sell their borrowed shares at opportune moments.
“Although structured using a debenture … whenever 1235 purchases debt securities, those securities always carry an equity upside,” the Ontario lawsuit said.
In March, 2020, the Harvest-Verano deal fell apart because of a combination of regulatory and financing issues. The fund could have technically exercised its equity option in Verano shares at the time or received repayment of the loan in cash, but it chose not to, according to the lawsuit filed by 1235 Fund against SOL, because Verano shares “appeared to be worth considerably less than US$50-million.”
But then in late 2020, a new deal was on the table. Taking advantage of the renewed investor interest in cannabis, Verano was planning to go public on the Canadian Securities Exchange.
SOL still had millions in Verano stock and issued multiple news releases reminding shareholders of how Verano’s public debut would significantly boost its own value. According to SOL, it was in early 2021 that 1235 Fund decided to ask for Verano’s shares, threatening to invoke an “event of default” under the debenture agreement that would force SOL to repay the fund in Verano shares. That was effectively what prompted SOL to file a lawsuit against the fund, according to a Feb. 16 news release from SOL.
“Defendants saw in Verano’s going-public transaction an opportunity to extort an advantage for themselves at Plaintiffs’ expense,” SOL’s New York lawsuit stated.
Mr. DeFrancesco played a central, and often controversial role in many deals in the early days of the cannabis boom. He was most famously in the spotlight in late December, 2018, when a short-seller report accused him of orchestrating the sale of SOL-owned Latin American cannabis assets to Aphria Inc. at an inflated price.
Mr. DeFrancesco declined a request for comment.
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