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First ‘seed-to-sale’ accounting case study on cannabis industry

29 January 2018

The article at a glance

“High” profits from cannabis accounting scrutinised in innovative case, inspired by reporting anomalies. The first-ever cannabis case was taught at Cambridge Judge …

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“High” profits from cannabis accounting scrutinised in innovative case, inspired by reporting anomalies. The first-ever cannabis case was taught at Cambridge Judge Business School.

Cambridge Judge Business School and cannabis operator and investor White Sheep Corp announced their collaboration on the first “seed-to-sale” accounting case study on the cannabis industry – “High” Profits From Accounting For Cannabis Plant Inventory – co-authored by Alan Jagolinzer, Michael Miller and Steven Looi. The case study was taught for the first time today by co-authors Alan and Michael at Cambridge Judge.

This case examines questions raised about financial reporting in one of the world’s fastest growing industries, cannabis, aiming to guide students through the reporting process for an industry that is being legalised by an increasing number of jurisdictions. The case focuses, ultimately, on what key decisions go into deciding the fair value of a cannabis crop and how this is reflected on the financial statements.

Michael Miller, Director of Finance at White Sheep Corp, says: “We are honoured to partner with Cambridge Judge on this landmark case study. As the first accounting case to directly address the cannabis industry, this is a strong signal to the academic community that it is time to build cannabis into the curricula. The issues explored in the case will continue to emerge as new jurisdictions and new companies enter the industry. We aim to help investors understand the income statements and make better informed capital allocation choices.”

Professor Alan Jagolinzer, Professor of Financial Accounting
Professor Alan Jagolinzer

Alan Jagolinzer, Professor of Financial Accounting at Cambridge Judge, says: “The School is partnering with global business experts to create and enhance complex, innovative, and pertinent academic curriculum to develop students for business leadership. We are very excited to join White Sheep in creating the world’s first accounting case study on the cannabis industry, which is seeing enormous capital growth despite considerably complex and confusing financial reporting. I can see why investors might want to consider publicly traded cannabis companies. However, I highly doubt they understand the accounting because of the unique rules for agricultural inventory. This case will certainly liven up our discussions of financial accounting and help the professionals of tomorrow to start building these skills today.”

White Sheep was evaluating the financials of several of the top publicly traded cannabis companies when they identified recurring gross margins in excess of 100 per cent on the income statements. Miller and Looi realised this could not be the norm for any company. To explain the exceptional circumstance, they focused on how cannabis plants are treated under IFRS, the accounting reporting standards which govern Canadian public companies. This inspired an article in February 2017 to serve as a healthy warning to investors looking to pile in based purely on the ‘profitability’ of these companies.

The article caught the attention of other media, as well as academics and professional accountants who reached out in the wake of publication. Professor Jagolinzer proposed that, given the state of the industry and its exceptional growth track, the content would be particularly relatable to an academic audience. The three authors soon drafted a case for accounting students from the perspective of the CFO of a cannabis cultivation facility who is faced with a number of tough decisions about how to prepare financial statements.

This case looks at how the application of IFRS, specifically IAS2 Inventories and IAS41 Agriculture, has raised important issues about financial reporting on cannabis. This case is intended for use in an intermediate or advanced financial reporting or financial statement analysis course that discusses the development of financial reporting standards, implementation of these standards, and how to interpret output from these standards.

The goal of the case is not to have students become experts on accounting in the cannabis industry, but rather to have them develop an understanding of the complexities behind financial reporting in the sector as well as the level of discretion that management has in dictating these figures.

About the authors

Michael Miller is Director of Finance at White Sheep Corp. His interests include: balance sheets, new ventures, and entrepreneurship. He has been published in: New Cannabis Ventures, Herb, Lift, and has appeared on Vice Canada to discuss the cannabis industry.

Alan Jagolinzer is Professor of Financial Accounting at Cambridge Judge Business School. Alan is a member of the editorial boards of The Accounting Review and The Journal of International Accounting Research. His research on insider trading, financial reporting, corporate governance, and executive compensation and incentives has been published in a wide range of journals. Alan was also a Fellow of the International Accounting Standards Board, London.

Steven Looi is Director of Origination at White Sheep Corp. He is a serial entrepreneur with ventures in IT and urban agriculture. He has a passion for unlocking the full potential of the cannabis sector by leading and funding innovation in the industry. Steve is a regular fixture at industry events and has been published in New Cannabis Ventures, Herb and Lift.