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Cuttings from marijuana plants are pictured at the Canopy Growth facility in Smiths Falls, Ont., on Jan. 4, 2018.Chris Wattie/Reuters

A group of prominent greenhouse operators has launched a lawsuit against Canopy Growth Corp. and two related cannabis companies seeking $500-million in damages and alleging fraud and civil conspiracy in a dispute over a troubled joint venture in Southwestern Ontario.

In 2018, several businessmen from Leamington, Ont., teamed up with Canopy Growth, Canopy Rivers Inc. and TerrAscend Corp. to build a 1.3-million-square-foot cannabis cultivation facility in their hometown. The Leamington group includes Paul Mastronardi, chief executive officer of Mastronardi Produce Ltd., which owns the Sunset produce brand and is one of Canada’s largest indoor vegetable growers.

The complex was completed and licensed in 2019. However, the joint venture that owns and runs the project, called PharmHouse Inc., is teetering on the edge of bankruptcy, the lawsuit says, after Canopy and its partners decided not to buy cannabis from the facility at a pre-negotiated price, as the joint venture agreement stipulated.

The plaintiff, a numbered company that owns 51 per cent of the PharmHouse venture, says it spent huge amounts of money building the greenhouse complex based on guaranteed purchase agreements. In a statement of claim filed in the Ontario Superior Court, it says its contribution to the project to date in terms of property, equipment and product is valued at $114-million.

The company says it now believes Canopy and its partners were never serious about honouring the purchase agreements.

"The defendants' true purpose in entering into the joint venture and all related agreements was primarily to announce a partnership with a premier greenhouse operator to the public with the intention that such information would ‘froth’ the market for their publicly traded shares,” the company alleged in the statement of claim.

Canopy Rivers, which owns 49 per cent of PharmHouse, released a public statement on Monday calling the claims “completely without merit.” It said that it “intends to vigorously defend its position.”

TerrAscend, another cannabis company that has a purchase agreement with PharmHouse, echoed this position in an e-mailed statement. Canopy Growth, which also has a purchase agreement with PharmHouse, said in an e-mailed statement that it “is yet to be served with a copy of the statement of claim, and we do not provide comment on active litigation.”

The lawsuit alleges that Canopy, Canopy Rivers and TerrAscend acted in bad faith by “hedging into a secure supply position with no intention of complying with such agreements if not economically advantageous for them to do so.”

The price of wholesale cannabis in Canada’s legal market has fallen dramatically over the past two years because of a combination of oversupply and weaker-than-expected demand. A number of cannabis producers, including Canopy, have closed down marijuana-growing operations over the past year in an attempt to bring supply in line with demand.

The lawsuit alleges that Canopy and its partners conspired to try to force PharmHouse to renegotiate supply contracts after it became clear that the purchase agreement price was higher than the market price. The three companies are closely related through common shareholders, board members, executives and legal teams.

The “demise” of PharmHouse is now “a virtual certainty," the plaintiff says in the statement of claim, as it risks defaulting on loans and losing its cannabis growing licence.

“PharmHouse is unable to meet its significant payroll and other obligations risking the livelihood of numerous employees and their families in Southwestern Ontario,” the statement of claim says.

This has hurt “the plaintiff’s long-standing credibility in the greenhouse industry and their community, which has been developed over generations.”

This is not the first time a cannabis company has been sued for breaching a supply agreement. Earlier this year, Aphria Inc. paid its former partner Emblem Corp. (which is now owned by Aleafia Health Inc.) $29.1-million to settle a dispute over a supply contract. In that case, Aphria failed to supply cannabis guaranteed to Emblem.

In August, Canopy Rivers announced that it has established an independent committee to review the investment in PharmHouse and explore “strategic alternatives,” which could include providing additional capital for the project or selling its position in the venture.

In the lawsuit, filed in late August, the plaintiff asks the court to force Canopy or one of its partners to buy out its stake in PharmHouse and assume responsibility for paying down debt. It also asks the court to free it from a non-compete agreement that has prevented it from pursuing other opportunities in the cannabis industry.

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