Earnings Transcript for INLB - Q3 Fiscal Year 2021

Operator: Good day, ladies and gentlemen. And welcome to the Item 9 Labs Q3 Fiscal Year 2021 Earnings Results Conference Call. At this time, it's my pleasure to turn the floor over to Mr. Brian Loper. Sir, the floor is yours.

Brian Loper: Thank you, operator. Good morning, everyone. And welcome to the Item 9 Labs third quarter fiscal year 2021 for the three months ended June 30, 2021 earnings conference call. By now, everyone should have had access to the earnings press release, which was issued earlier today before the markets open at approximately 9

Andrew Bowden: Thank you, Brian, and good morning, everyone. We greatly appreciate you taking the time to join us on today's call. We will discuss our operating highlights and financial results for the quarter and year-to-date as well as provide an update on our expansion progress in Arizona, Nevada, and with our Cannabis Dispensary Franchise, Unity Rd. After my opening, our CFO Bobby Mikkelsen, will give a summary of our third quarter fiscal year 2021 and year-to-date financial results. I will then provide insight into our growth and expansion initiatives. Following our prepared remarks, we will answer questions that were pre-submitted prior to the call during the Q&A portion. With that, I'd now like to walk through some of our recent highlights. We have had a very busy and productive past few months. Arizona is one of the most sought after markets in the U.S. with anticipated revenues reaching $2 billion by 2024 for both adult use and medicinal up fourfold from 2019, as the state recently expanded to legalize adult use. We're seeing the strength of the Arizona market firsthand, as we are the top brand and every dispensary we choose to sell through according to Leaf Link, currently we are in 60% of Arizona's dispensaries. We saw revenue growth of 203% to $6.7 million for the quarter, primarily due to higher market demand driving increased production. Gross Margin slightly slid to 43.2% for the quarter as we focus on deeper market penetration in Arizona. Adjusted EBITDA fiscal year-to-date increase to $1.5 million. Operating loss for the quarter was less than 250,000, and operating loss year-to-date is less than 100,000. As we expand our facilities, we fully expect our margins and profitability to improve with increased revenues. We have 50 acres approved for cultivation operations on our site and Coolidge, it's one of the largest properties in the state that is zoned to grow cultivation and manufacture cannabis. Permitting is in place to expand 650,000 square feet of cultivation and production in the next three years. The first phase of expansion will increase our operational footprint by more than 300%, and create 60 new jobs in the next 12 months. It's important to note that our sales performance from Item 9 Labs products is from our current 20,000 square feet of operation space. By the end of our master site expansion, we will have increased our operation space by 33 times. Now for updates on Unity Rd, our Dispensary Franchise. Unity Rd has multiple agreements signed with more than 15 entrepreneurial groups, who are in various stages of development across seven different states. Recently we reached a major milestone with the opening of our first cannabis franchise shop under the Unity Rd brand. Located in Boulder, Colorado. The First Unity Rd is locally owned and operated by father-and-son team Bruce and Nate Wetzel. This is a prime example of how through Unity Rd we're keeping dispensary ownership and the wealth that comes along with it local, which is a core vision that led to the launch of our Local Alliance Program back in April. Additional development of the Cannabis Franchise includes signed agreements with three entrepreneurial groups for expansion into New Jersey. Each team is pursuing at least one dispensary license to open a Unity Rd shop in the state. Our team is guiding the partners through the dispensary license process. They've been busy meeting with local municipalities and looking at real estate as we await for New Jersey to establish rules and regulations governing the state adult use cannabis industry on August 21. We participate they open dispensary license applications by the end of 2021. The Garden State is a key market for our franchise growth and is expected to generate as much as $950 million in annual retail sales by 2024. We believe we are extremely well positioned in this market. Unity Rd also signed a multi-unit franchise agreement with entrepreneur Kevin Waltermire to open three Unity Rd shops. Due to the industry unique business opportunities, Waltermire is seeking immediate entrance by purchasing an existing dispensary to convert into Unity Rd as well as applying for dispensary licenses in Michigan and Ohio. Unity Rd has also signed an agreement with a mother-son team out of Detroit. We are already helping them plan their strategic market entry, which includes applying for their dispensary license through the city's Legacy Detroiter program, which gives applicants priority review and 99% discounts on application fees. As I recently mentioned, earlier this year, we launched a few new programs to accelerate national franchise expansion. Our Corporate Acquisition Strategy and the Local Alliance program both keep dispensary ownership local and thriving with the backing of our franchise system. We are in process of securing financing to fund our corporate acquisition growth plan. Through this program, we are seeking corporate acquisitions of existing dispensaries throughout Colorado primarily in Denver, in addition to Front Range, and compelling mountain towns, as well as in Michigan, Ohio, and Oklahoma. Our plans are to convert the stores into Unity Rd shops, operating them internally and sell them to an existing or future franchise partner. This offers a turnkey solution for entrepreneurs seeking immediate entry into cannabis. This strategy also eases hurdles for newcomers, looking to acquire an existing dispensary, keeps ownership in the hands of local independent entrepreneurs. We'll get the stores fully converted into the Unity Rd shop, train the team and oversee operations to franchise partners have a seamless transition to ownership. Through our Local Alliance program, existing cannabis dispensary owners and dispensary license holders have the opportunity to join Unity Rd to gain direct access to tools, expertise, and ongoing support necessary to compliantly and successfully operated dispensary. They gain access to the buying power, resources and supportive network normally reserved for multi-unit operators, all while maintaining full ownership of their cannabis business and license. What sets us apart is that the franchise model creates a capital efficient method for expanding retail through Unity Rd and products through Item 9 Labs allowing us to focus and cluster operations, which results in a network effect to launch brands into new markets. As the Unity Rd Dispensary footprint continues to expand nationally, we plan to develop and partner with cultivation facilities in states where retail shops open to bring Item 9 Labs products to the market. This gives Unity Rd franchise partners first access to a consistent premium product supply chain and the Unity Rd brand gains a national product consistency and that consumers have come to expect from franchise concepts. This expansion strategy also eases new market product entry with a built in distribution platform that will bring Item 9 Labs across the U.S. Now, I'd like to pass it off to Bobby for a summary of our third quarter fiscal year 2021 financial results.

Bobby Mikkelsen: Thank you, Andrew. For the three months ended June 30, 2021, revenue was $6.7 million, an increase of $4.5 million or 203%, compared with $2.2 million for the three months ended June 30, 2020. This increase was primarily due to higher market demand driving increased production. For the three months ended June 30, 2021, gross profit was $2.9 million, an increase of $1.9 million or 212%, compared with $1 million for the three months ended June 30, 2020. Resulting gross margin was 43.2%, compared with 46.1% for the same quarter last year. The decreased margins were anticipated as we're deepening the market penetration of Item 9 Labs brand in a competitive market. We'll continue pushing to increase our market share as we work towards decreasing costs through our expanded facilities. For the three months ended June 30, 2021, total operating expenses were $3.1 million, an increase of $1.9 million or 149%, compared with $1.3 million for the same quarter last year. Operating expenses as a percentage of revenue decreased to 47% from 57% for the quarter just ended, reflecting the company's focus on increasing revenue, reducing expenses and performing more efficiently. Management believes this ratio will decrease going forward as revenues continue to grow at a higher rate than operating expenses. Of note, 720,000 of the company's operating expenses for the three months ended June 30, 2021 were non-cash expenses, including depreciation, amortization and stock-based compensation. For the three months ended June 30, 2021, operating loss was under 250,000, in line with an operating loss of 250,000 for the same quarter last year. After adding back non-cash operating expenses, depreciation and amortization, interest in stock-based compensation adjusted EBITDA for the three months ended June 30, 2021, was 520,000, as compared with an adjusted EBITDA loss of 400,000 for the same quarter last year. For the three months ended June 30, 2021, net loss attributable to Item 9 Labs was 800,000, or a $0.01 per share, compared with a net loss of $1.6 million, or net loss of $0.03 per share for the three months ended June 30, 2020. For the nine months ended June 30, 2021, revenue was $15.8 million, an increase of $10.2 million or 183%, compared with $5.6 million for the same period last year. For the nine months ended June 30, 2021, gross profit was $7.3 million, an increase of $5.2 million or 250%, compared with $2.1 million for the same period last year. The resulting gross margin was 46.2% compared with 37.4% for the same period last year. For the nine months ended June 30, 2021, total operating expenses were $7.4 million, an increase of $3 million compared with $4.4 million for the same period last year. Operating expenses as a percentage of revenue decreased to 47% from 79% for the periods compared. Of note, $2.2 million of the company's operating expenses for the nine months ended June 30, 2021 were non-cash expenses, including depreciation, amortization and stock-based compensation. For the nine months ended June 30, 2021, operating loss was $100,000, an improvement of $2.2 million compared with an operating loss of $2.3 million for the same period last year. After adding back non-cash operating expenses, depreciation and amortization, interest and stock-based compensation, adjusted EBITDA after the nine months ended June 30, 2021 was positive $1.5 million as compared with a loss of $1.3 million for the same period last year. For the nine months ended June 30, 2021, net loss attributable to Item 9 Labs was $1.9 million, or $0.03 per share, compared with $5.1 million, or $0.08 per share for the same period last year.

Andrew Bowden: Thank you, Bobby. The combination of our premium award-winning Item 9 Labs products with the Unity Road dispensary franchise puts us in a unique position financially and geographically to capitalize on opportunities in a dynamic and rapidly evolving regulatory environment. In order to support our expected growth, we have added multiple senior managers to the team. We are proud to welcome Tracy Timko as Director of Franchise Support, Erica Tarnowski as Franchise Development Manager, Mike Keskey II as General Counsel and Shabrina Glass as Executive Assistant to our growing company. Tracy Timko, Director of Franchise Support, fills a pivotal role at the heart of the business as one of the key links between the franchisor and franchise partners, Timko's track record spans several franchise companies across Kahala Brands' portfolio and beyond. She joins Unity Road's Director of Education & Training, Fay Powell, in ensuring franchise partners are set up for success. Erica Tarnowski, Franchise Development Manager, is a passionate, data-driven franchise professional with six years of franchise experience across franchise development and marketing roles at various companies in the franchise industry. Mike Keskey, General Counsel, also joins the company from the highly regarded, major New York City-based law firm, Skadden Arps, where he counseled companies on public and private mergers and acquisitions in industries including financial services, pharmaceuticals, agriculture and consumer products. Shabrina Glass, Executive Assistant, brings more than 25 years of executive-level administrative experience working in law, non-profit and private businesses. Acting as the glue across the executive team, her role is essential to ensuring alignment across the company and continued movement on key initiatives. Additionally, we have added expertise to strengthen our board of directors with the appointment of Law Enforcement Veteran, Joe DiSalvo, and Chief Franchise Officer, Mike Weinberger to Board of Directors. DiSalvo's appointment demonstrates our focus on strengthening our corporate governance through more independent directors. A seasoned law enforcement officer, DiSalvo brings decades of experience in supporting cannabis legalization. He is currently serving his third term as Sheriff of the Pitkin County Sheriff's Office, located in Aspen, Colorado, a position he has held since 2010. Upon arrival of Amendment 64 in Colorado, which made it the first state to legalize retail sale of adult-use cannabis, he founded the Valley Marijuana Council, VMC, to ensure there was education, safe use as well as safe storage and sale of the new retail products. With the recent acquisition of OCG Inc., Weinberger was named Item 9 Labs' Chief Franchise Officer at completion of the transaction, and also recently joined the company's board. Weinberger leads all franchise-related growth areas of Unity Road, while overseeing day-to-day operations of the franchise. A culture creator and growth driver with around 20 years in franchising, his professional experience has been focused on growing emerging concepts into nationally recognized brands. He has been instilling his franchise knowledge into the cannabis space since 2018 and paved the path for bringing the franchise business model to cannabis, opening the doors to cannabis entrepreneurship through the Unity Road franchise opportunity. Previously, Weinberger was the CEO of Maui Wowi, a global coffee and smoothie franchise with more than 500 units, and led its successful sale to Kahala Brands. We believe we have the right team in place to lead us into the next phase of our growth trajectory. Our third quarter fiscal year 2021 results bring us two consecutive quarters that reached north of $2 million in revenue per month. We're on our way to $3 million in revenue per month. We believe we are still in the early innings of a nine inning baseball game. The recent legalization of adult-use in Arizona and our ramp-up of Unity Road's franchise business will be key drivers for accelerated growth over the next 12 months. In closing, I want to thank all of our team members for their hard work and dedication and our customers and partners for their trust and shared enthusiasm and commitment. I also want to thank our shareholders for their continued confidence in us to delivering long-term shareholder value. Now, we will move on to questions that were previously submitted. I'll pass it over to you, Brian.

A - Brian Loper: Thank you, Andrew. So a couple questions here that we have. First one, how has growth or expansion of the franchise business been impacted by government city restrictions from the pandemic? What do you think about the franchise business going forward in light of the current variant?

Andrew Bowden: With cannabis being deemed essential in 2020 we've seen upward interest in the franchise opportunity, particularly among existing multi-unit restaurant, fast-casual, quick-service franchisees who are seeking ways to diversify their portfolio. Outside of franchise sales in the past year, we've seen several markets add delivery and express pickup, which is also being implemented in our Boulder shop. Moving forward, we anticipate seeing continued interest in the franchise opportunity as cannabis consumption continues normalizing and legalizing continuing across the United States.

Brian Loper: Wow! All right. All right, the next question we have here, how are the new franchisees performing? What is traffic at the new locations looking like? What's the average square foot of the locations? What are your expectations for comp store sales at these locations?

Andrew Bowden: Our Boulder franchise partner rebranded to Unity Road in June and has seen a steady increase in sales since then. Outside of the updated store design, the team has been working closely with them on adjusting the product offering, the promotions, marketing to continue building momentum. The University of Colorado Boulder is nearby. So we're anticipating an upward trend as students begin to return to campus in the weeks ahead.

Brian Loper: All right, good to hear. Another question here. What are your plans for scaling the franchise model across other states and cities in the U.S.?

Andrew Bowden: We have a strong organic franchise sales lead flow through Unity Road with interest across the United States as well as a multi-channel marketing campaign in place to drive traffic from our target ideal franchise partner group. To complement these efforts, we have recently launched a few programs to accelerate expansion of the Unity Road footprint from coast to coast. Through our local alliance program, existing cannabis dispensaries - dispensary owners, and dispensary license holders have the opportunity to join Unity Road to gain direct access to the tools, expertise and the ongoing support necessary to compliantly and successfully operate a dispensary. Again access to the buying power, resources and supportive network normally reserved for multi-unit operators, all while maintaining full ownership of their cannabis business and license. And through our corporate acquisition strategy, we are seeking acquisitions of existing dispensaries throughout Colorado primarily in Denver, in addition to front rains and compelling mountain towns, as well as in Michigan, Ohio and Oklahoma. Our plans are to convert these stores into Unity Road shops, operate them internally and then sell them to an existing or a future Unity Road franchise partner and then continue the process again. This offers a turnkey solution for the entrepreneurs seeking immediate entry into the cannabis industry and will accelerate our growth tremendously.

Brian Loper: All right, pretty exciting stuff. Okay, just a couple more questions here. What is your strategy moving forward for dealing with competition? It seems like a few Canadian players might want to expand into the U.S.? How will your business defend your competitive position in the U.S. market?

Andrew Bowden: On the franchise side with Unity Road, there are no other national cannabis franchises. But we know that that won't always be the case. We have an aggressive marketing strategy in place to ensure that we remain a top choice among our targeted franchise sales audience.

Brian Loper: Got it right, well positioned. This last question is probably good for Bobby. What is the status of analyst coverage for the stock, any additional discussions or progress? Can you talk about your overall visibility with the investment community status in that area? And then future steps you're taking to advance visibility?

Bobby Mikkelsen: Absolutely. We had one analyst, initiate coverage in July. And so that was a good win for us as a company and we're continuing the conversations. We have meetings regularly with analysts, with investment banks to increase exposure to the institutional investors. As far as what steps are we taking to advance visibility that really answers that we're constantly in discussions with people to increase visibility? And we're continually trying to push out press and current reports, so the community sees us. So that our investors see what we have going on to increase transparency.

Brian Loper: Yes, very good. Thank you for that. Well, that's all the questions for today.

Andrew Bowden: Thank you everyone for your support and for joining us today. We are very grateful for your interest in our business and look forward to sharing our continued progress in December when we report on our fourth quarter 2021 and fiscal year end September 30, 2021 results. Operator, now back to you.

Operator: Thank you. And ladies and gentlemen, this does conclude today's conference. We appreciate your participation. You may disconnect at this time and have a great day.