Earnings Transcript for INLB - Q4 Fiscal Year 2021

Brian Loper: Thank you for joining us again. So this is Item 9 Labs Corp. Fiscal Year 2021 Annual Results Conference Call for the 12 months ended September 30, 2021. By now everyone should have had access to the earnings results press release, which was issued earlier today before the markets opened around 9

Andrew Bowden: Thank you, Brian, and good afternoon everyone. We greatly appreciate you taking the time to join us on today's call and for being our shareholder as increasing shareholder value is our highest priority. We will discuss our operating highlights and financial results for our fiscal year ended September 30, 2021 as well as provide an update on our expansion progress on our Arizona and Nevada cultivation sites, and the latest national development of our Cannabis Dispensary Franchise, Unity Rd. After my opening, our CFO, Bobby Mikkelsen will give a summary of our fiscal year 2021 financial results. I will then provide an update on our continued national expansion. Following our prepared remarks, we will move into a Q&A portion and answer questions that were pre-submitted prior to the call. With that, I would like to now walk you through some of our recent highlights. Our company has never been in a better position. With Arizona's adult-use sales going live in January 2021, our products and brands have been gaining tremendous traction. We have grown to $2 million in revenue per month and solidified our spot in Arizona as one of the top brands in every dispensary that we sell through, which is more than 50% of Arizona's dispensaries. The state's combined adult-use and medical markets have continuously grown each month and surpassed $1 billion in annual sales in November. With expansion underway at our Arizona site, that will add 45,000 square feet, we will be in position to meet this increased demand in the second half of 2022 with our additional cultivation, production and processing space. Our cannabis franchise -- dispensary franchise Unity Rd. is gaining strong traction, and our team is executing a strategic initiative to expand the brand's footprint from coast to coast. We have a national acquisition plan to accelerate expansion and began executing a couple months ago with our first deal in Adams County, Colorado. We have a robust pipeline of opportunities across a wide range of appealing states and expect to make further announcements over the next few months. There are a tremendous amount of synergies we gained from the acquisition of Unity Rd.'s parent company, OCG Inc., including expanded business offerings and expertise, operational efficiencies, cost savings and revenue upside. Now, I'd like to pass it off to Bobby for a summary of our fiscal year 2021 financial results.

Bobby Mikkelsen: Thank you, Andrew. With our 170% annual growth in revenue to $21.9 million, we have demonstrated the scalability of our business throughout fiscal year 2021 and saw growth and profitability in the second and third quarters. In the fourth quarter and through the end of December 2021, we have made additional hires, continued development of our Nevada site and began construction on our site in Arizona, which has caused our expenses to rise. While we build out our capabilities and bolster our team for future growth, we are confident in the greater demand and believe we are strengthening our position for increased business in Arizona and in two other markets. For the 12 months ended September 30, 2021 revenue was $21.9 million, an increase of $13.8 million or 170%, compared with $8.1 million for the 12 months ended September 30, 2020. This growth was primarily driven by our investment into increased production capacity, to better meet the market demand for Item 9 Labs products. For the 12 months ended September 30, 2021 gross profit was $8.6 million, an increase of $5.3 million, or 170% compared with $3.3 million for the 12 months ended September 30, 2020. The resulting gross margin was 39% compared with 41% for the 12 months ended September 30, 2020. The company experienced lower gross profit margins in the fourth quarter of 2021 due to price reductions as competition rises in Arizona. Additionally, to deepen the market penetration of Item 9 Labs products, the company sourced plant and extract materials from third parties, the effect of which is higher gross profit, but lower gross margin. For the 12 months ended September 30, 2021 total operating expenses were $14.2 million, an increase of $5.5 million, or 63%, compared with $8.7 million for the 12 months ended September 30, 2020. We have invested heavily into fiscal '21 and '22 to meet growing demand in Arizona as well as funding the build out of our cultivation and lab site within the state. We strongly believe this expansion will improve earnings and future cash position. Operating expenses as a percentage of revenue decreased to 65% from 107% reflecting our focus on increasing revenue and scaling our platform more efficiently. We believe this ratio will decrease going forward as we scale the business. Of note, $7.8 million of our operating expenses for the 12 months ended September 30, 2021 were noncash expenses, including depreciation, amortization and stock based compensation. Also of note, $3.9 million of interest expense in 2021 was noncash amortization of debt discounts. For the 12 months ended September 30, 2021 operating loss was $5.6 million, in line with an operating loss of $5.4 million for the 12 months ended September 30, 2020. After adding back noncash operating expenses, depreciation and amortization, interest and stock based compensation, adjusted EBITDA for the 12 months ended September 30, 2021 was $1.7 million as compared with an adjusted EBITDA loss of $2.5 million for the 12 months ended September 30, 2020. For the 12 months ended September 30, 2021 net loss attributable to the company was $10.9 million or net loss of $0.14 per share compared with a net loss of $12.3 million or $0.20 per share for the 12 months ended September 30, 2020. Cash and cash equivalents totaled $1.5 million as of September 30, 2021. And back to you, Andrew.

Andrew Bowden: Now, I'd like to provide an update on our growth initiatives which are focused on Unity Rd. opening and footprint expansion, as well as our cultivation, production and processing development in Arizona and Nevada. Here's a quick look at where our franchise partners are developing the Unity Rd. retail brand across the U.S. They are all in various stages of development. Some recently submitted licenses or will be soon. We believe our ramp and rollout will accelerate over the first half of 2022 as COVID-19 put a pause on most bureaucracies, as well as licensing and permitting at the state levels. To accelerate Unity Rd. expansion we launched a national dispensary acquisition growth plan and executed an asset purchase agreement for a Colorado dispensary. This program includes acquiring and converting cannabis retail stores, training the local team and selling the business to new and existing Unity Rd. franchise partners to keep businesses locally owned and operated. This growth strategy offers turnkey investment opportunities for prospective cannabis entrepreneurs. We executed the asset purchase agreement in October for an existing dispensary license and storefront in Adams County, Colorado. This will be the first corporate owned shop under the Unity Rd. brand. We are currently awaiting the regulatory approval by Colorado's Marijuana Enforcement Division and expect the shop to be operational in the first half 2022. We plan to operate the store for six to 18 months and utilize it for franchise partners and team training as well as tours with prospective franchise partners. We expanded the Unity Rd.’s footprint into New England with the signing of agreements with a couple entrepreneurial groups for development in New Jersey and Virginia. Our team is currently assisting the New Jersey groups in submitting their dispensary license applications this March. We also signed a lease in Maine for the state's first Unity Rd. shop and are awaiting license approval from the state. We kicked off retail expansion in South Dakota with our first agreement to bring Unity Rd. to the state. Our local partners plan to develop at least one Unity Rd. shop and are currently being guided by our team through the state's dispensary license process. We became the first cannabis dispensary franchise to become members of the International Franchise Association. Utilizing the franchise business model for National Development we continue to solidify Unity Rd.'s position as an industry Trailblazer by becoming the first brand of its kind to be named an IFA member. The organization's membership base includes more than 1000 franchise brands across 300 industries and Unity Rd. is currently the sole franchise model to represent the plans touching cannabis space. Before jumping into expansion of our cultivation sites, I'd like to take a moment to highlight the awards of our team -- that our team has won in the past six months for product excellence. Our premium cannabis product brand Item 9 Labs secured its first Cannabis Cup this year, which is one of the most prestigious milestones that cannabis brands strive for worldwide. We also earned two first place finishes, two second place awards, and won third place award for our high quality vape and concentrate products at the 710 Degree Cup and three first place awards at the ERRL Cup, which are Arizona's largest and longest running annual cannabis festivals and award events. Also, the Item 9 Labs brand has earned 23 awards in product competitions since our inception, including 14 first place finishes, seven of which were earned in 2021. Onto our Arizona master cultivation site expansion. In November, we broke ground on the initial phase of the master expansion of our Coolidge, Arizona cultivation and Lab sites. $13.5 million of the proceeds from the Pelorus loan will go to this initial build out which more than doubled our current operation space. As part of the expansion we recently acquired the neighboring 45 acres of the site. Now it's 50 acres. The site is one of the largest properties in Arizona that is zoned to grow and cultivate flower. The initial development phase is estimated to be completed in summer of 2022 and includes the construction of three steel buildings and two greenhouses adding 9600 square feet for indoor cultivation, 9600 square feet of lab and packaging, and 9600 square feet for Headhouse -- a Headhouse to support the addition of the two 18,000 square foot greenhouse as well. With this initial expansion phase, we expect to increase output of cannabis plant material by 250 to 300%, with a per unit cost reduction of at least 30%. Further, the additional greenhouses will reduce our reliance on third party sourced material for lab productions by 40% to 50%. This is key to drive our profit margins upwards. Also, expansion of our existing lab allows for the addition of more state-of-the-art equipment for all extraction processes, which will support product diversifications. We also recently began our Nevada cultivation site expansion. The remaining proceeds from the Pelorus loan are to complete our 20,000 square foot facility in Pahrump, Nevada, that is currently approximately 85% finished. The expansion includes 4450 square feet for flower, 990 square feet of vegetation space, 400 square feet for clones, 300 square feet for dry curing, and 615 square feet of space for genetics. The facility also includes more than 2500 square feet of post processing and lab space along with the opportunity for a joint venture with an 1100 square foot commercial kitchen. The remainder of the building is ancillary rooms, such as water rooms, offices, locker rooms and break rooms. We anticipate the Nevada facility will be operational in spring of 2022. Now, we'll move on to questions that were previously submitted. I'll pass it over to you, Brian.

Q - Brian Loper: All right. Thank you, Andrew. Thank you, Bobby. It's been very informational. I wanted to address something. So, Bobby, you kind of glossed over this, but seems pretty incredible numbers here. You mentioned revenue and gross profit increased by 170%. Can you just maybe add some color to that? That seems pretty astronomical and is that industry standard? Kind of what can you attribute to such growth over the last year?

Bobby Mikkelsen: Yes, no, it's definitely not industry standard. Really, the biggest thing is we invested in product operations. There was more demand for our products than what we could actually facilitate. So, we invested in operations to be able to better meet the demands.

Brian Loper: Wow. Excellent. All right. And we don't want to comment on forward looking, but that seems positive direction. All right. So, moving on to the questions that were submitted beforehand, the 2021 Q4 revenues, you did mention that there was a lower gross profit margin and then compared to 2021 Q3 revenues. Why was that?

Bobby Mikkelsen: Oh there's a number of factors, of course, especially as the market matures, but over the last four quarters our revenue here has risen from around $3 million to we have averaged over $6 million over the last three quarters and we did have a slight spike in fiscal Q3 2021. One thing to note is, our Q4 revenues increased 142% in the same period a year ago. All that being said, the Arizona cannabis market experienced a down quarter in our fiscal Q4 and we also faced increased competition with other brands entering the market, which drove our per unit prices downward a little bit. Our unit sales in Q4 were actually in line with Q3, but we did see that competition and probably the most important thing is that we continue to increase our market position as we have all year.

Brian Loper: Yes. And in regards to competition in Arizona, are they awarding additional licenses or what's increasing competition?

Bobby Mikkelsen: Brands from other markets we will call it California and other markets that are entering the Arizona markets usually through tolling or JV agreements, because Arizona is a huge market and it is expected to expand significantly over the course of the next two, three, four years. It did not meet the initial expectations of some analysts two years ago, but the switch from a medical to adult-use market did expand the market pretty substantially.

Brian Loper: Okay, maybe that's a sign of growth as well, or?

Andrew Bowden: Yes, it's normal with a maturing industry where you're going to face more competition as time goes on.

Bobby Mikkelsen: Yes, so that's a good sign. The markets can sustain that here in Arizona and I imagine that's similar to other states.

Brian Loper: All right, another question that came in here that INLB appears to have experienced a very significant loss in 2021, Q4 greater than the previous three quarters combined. Can you help us understand that?

Andrew Bowden: Absolutely. In the fourth quarter, and through the end of December 2021. And all the way to that we made additional hires, we're continue development and Nevada, began construction in Arizona, and all these things have caused increases in our expenses, where we are preparing ourselves for our next growth phase. As we continue to build out our capabilities and bolster our team for future growth. We are confident in increased demand and believe we are strengthening our position for increased business in Arizona and other markets.

Brian Loper: Yes, and earlier in the call, you did say as a part of that 170% increase in revenue and profit was primarily because you invested in increased production capacity.

Bobby Mikkelsen: That's correct.

Brian Loper: So okay, imagine we're on the same trajectory, the more invest the more you make a pretty simple concept, right?

Bobby Mikkelsen: Yes, I mean, you have to invest in your operations and sometimes, there are some costs up front before you see the increased revenue, so absolutely.

Brian Loper: Okay. Got it. So yes, it appears you've strengthened and broadened your team, as you have also expanded your operations to grow produce and process in Arizona. Once fully operational after your Phase I expansion, how much monthly revenue would you expect just in Arizona?

Andrew Bowden: We definitely had broadened our team for our national expansion, and the initial development phase is estimated to be complete in summer of 2022, and is expected to increase output of cannabis plant material by 250% to 300%, with a per unit cost reduction of at least 30%. Further, the additional greenhouses will reduce reliance on third party source material for lab production by 40% to 50%. All in all, we do anticipate a substantial increase in monthly and annual revenues. Once fully operational, however, specific dollar amounts can fluctuate dependent on the market.

Brian Loper: Thank you for that, Andrew. And a question here for Unity Rd. maybe we could have Mike Weinberger address this one, but it seems Unity Rd. traction was slow in 2021, do you expect more of the same or better traction this year?

Mike Weinberger: Brian thanks. Yes, Mike Weinberger, Chief Franchise Officer of Item 9 Labs and I run the Unity Rd. brand. Actually 2021 was a -- it was a killer year, it was a banner year. We awarded over 10 franchises including for New Jersey. But what you're talking about was the lag from when the pandemic hit in March of 2020. A lot of the government facilities kind of shut down for a while and really put a slow timeframe on licensing for that first six months of 2020 and that has kind of rolled into development for in issues of license for 2021. So we don't anticipate any slowdown. We actually are picking up speed, including what Andrew was talking about with South Dakota and the New England area and also being a member of IFA, we're very excited for this year.

Brian Loper: Excellent. And can you just give us kind of a broad outlook from your position on states issuing dispensary licenses? I understand there was a hold up because of pandemic, government workers were at home, zoom was a mess. We get that, but are states moving forward. Are they in general still passing laws to legalize? Are things moving in a positive direction from your perspective?

Andrew Bowden: Yes, from my perspective things are picking up pace very quickly. New Mexico came online offered, said they were going to give licenses and we've got a franchisee there who just submitted for three, Michigan, Ohio, just put their lottery system out and we've got seven in the system, in the lottery system for next, I believe this next Thursday. New York is coming around a little bit slower than most would like, but I do see that happening at the tail end of 2022. As I said, New Jersey will be announcing licenses this year, their period is March 15. They get submitted. So there's a great deal of states coming online this year, or already came online they issued licenses. It's an exciting time to be in cannabis.

Brian Loper: Yes, and it has been, over the past, say decade or so, it's maybe been a slower rollout of an anticipated. But I think we've learned a lot seen a lot. And it's continuing that kind of as it has over the last 10 years as more states implement these laws, kind of figure out the tax revenues, tweak it and grow the industry.

Andrew Bowden: Absolutely. I think a lot of the states, it is kind of a snowball effect from my perspective that each time a state comes online, another two or three start to follow. And especially with the pandemic, there's a lot of tax shortfalls in these states and in cannabis. Cannabis is really helping bring the tax revenues up and put into money back into infrastructure in schools. I believe Illinois tax revenue and cannabis surpassed their alcohol sales. So if that's any indication of what's to come, it's pretty exciting times.

Brian Loper: Wow. Yes. I understand. All right, thank you for that. Now the question for the team here, is there anything management can or is doing to increase daily trading volume?

Bobby Mikkelsen: Yes, I'll jump on that one Brian. It’s Bobby. So our public float is increased from about 2 million to 3 million shares a year ago, it's about close to 10 million now. And our average daily volume has risen from 5000 shares a day to around 15,000 shares a day over the same time period. With that being said, we are we're in the midst of hiring an IR firm, which will focus on increasing our visibility and awareness with prospective institutional and retail shareholders and launch a social media and digital marketing campaign. We we've also initiated numerous calls with equity analysts over the last three to four months, and do anticipate additional analyst coverage in the upcoming year to improve visibility, which in turn should translate to additional volume. As we continue to execute on our strategic and financial plan, we would anticipate positive market response as we continue to grow the business, which believe again, will translate into increased visibility and more volume.

Brian Loper: Yes, excellent, excellent. And, one thing we've heard a lot about in the past is the franchise contract. I mean, that's the entrepreneurial side of INLB, right. And, as we've heard, that takes time to roll out and it's currently happening. And it's really the competitive advantage compared to a lot of other cannabis companies out there. So for the investors on the call, again, as Mike said, this is an exciting time I think for this company it is a great opportunity, and we should continue to see excellent growth in this space. But yes, back over to you, Andrew.

Andrew Bowden: Thanks Brian. And thank you everyone for your support and joining us today. We are extremely grateful for your interest in our business and look forward to sharing our continued progress. We plan on having our next quarterly results call in mid February. Have a great day.

Operator: Goodbye.