Q3 2023 The Cannabist Co Holdings Inc Earnings Call

Okay.

Ladies and gentlemen, thank you for standing by welcome to the cannabis company third quarter 'twenty to 'twenty three earnings call. At this time, all participants are in a listen only mode.

After the speaker's presentation, there will be a question and answer session to ask a question. During this session you will need to press star one on your telephone you will then hear an automated message of bites in your hand, it's right to win.

Your question. Please press Star one one again, please be advised that today's conference is being recorded.

I would like now to turn the conference over to your speaker today.

Asia Gilbert director of Investor Relations. Please go ahead.

Thank you operator.

Morning, and thank you for joining a cannabis company third quarter 2023 earnings conference call.

With me today is Chief Executive Officer Nicolas Peter.

<unk> and Chief operating Officer, David Hart.

Chief Financial Officer, Derek Watson.

Chief commercial officer.

Jesse Shannon.

Senior Vice President of capital markets, and Investor Relations Liane Evans.

Earlier. This morning, we issued a press release reporting our third quarter 2023.

A copy of this release is available on the investors section of our corporate website, where you will also be able to access a replay of this call for up to 30 days.

Certain remarks, we make today regarding future expectations plans and prospects for the company constitute forward looking statements within the meaning of applicable Canadian and U S Securities laws.

Actual results may differ materially from those indicated by such forward looking statements as a result of various important factors, which we disclose in more detail in the risk factors section of our annual Form 10-K for the year ended December 31st 2022, which has been filed with applicable.

Tori authorities and also in subsequent securities filings.

Any forward looking statements represent our views as of today and should not be relied upon as representing our views as of any subsequent date.

We may update any such forward looking statements in the future, we specifically disclaim any obligation to do so except as otherwise required by applicable law.

Also please note that on today's call, we will refer to certain non-GAAP financial measures such as EBITDA and adjusted EBITDA.

These measures do not have any standardized meaning prescribed by GAAP and may not be comparable to similar measures presented by other companies.

The candidates company consider certain non-GAAP measures to be meaningful indicators of the performance of its business. In addition to but not as a substitute for our GAAP results.

A reconciliation of such non-GAAP financial measures to their nearest comparable GAAP measure is included in our press release issued earlier today.

With that I will turn the call over to Nicholas beta to get Us started Nick.

Nick.

Thank you Asia and good morning, everyone. Thank you for joining our call today.

Those of you who've been following the cannabis company over the past several quarters, we have highlighted a number of initiatives to optimize our geographic footprint.

Enhance the breadth and depth of our product portfolio drive operational efficiencies and to proactively manage our balance sheet to prioritize cash flow generation and reduced net debt all.

All the while navigating economic industry and regulatory headwinds.

As you know during the third quarter, we announced the termination of our merger agreement.

Our freedom to operate with constrained for 16 months, resulting in a backlog of corporate actions that we are now free to pursue.

The four categories below will enable us to drive shareholder value and execute upon our long term strategy to remain one of the leading companies that defines the industry.

First tenant of this program was proactive balance sheet management.

We announced and continue to implement our balance sheet improvement plan. This includes announced share offering with one of our largest institutional investors to eliminate $25 million in debt substantially reduce the overhang caused by the may 2024 debt maturity.

<unk> of interest expense as material at approximately $3 $3 million annually.

<unk> debt for equity exchange that would reduce debt by an additional $25 million and our 2020 maturity potentially didn't create decreasing interest expense by another $1 $5 million annually if approved by the OSC.

We continue to work with our institutional debtholders in a constructive way to announce additional measures to push out maturities beyond 2026 reduced interest expense and decreased net debt.

Increased liquidity reduce that debt and focus our resources on our scale markets. We continued also to make progress in selling non core assets, including the sale of our Missouri in Utah operations.

To accelerate inventory monetization reduced working capital needs and drive cash flow subsequent to the announcement of the transaction termination. We began reviewing inventory priorities to better reflect our standalone strategy, we continue to restructure our cultivation and manufacturing assets to accommodate our needs all of which resulted in a number of transaction related adjustments to gross profit in the quarter.

This work will continue to a lesser degree in the fourth quarter, but will position the company for sustained improvement in gross margin in 2024.

Second tentative.

Planned activities.

All income statement optimization, we have completed the final phase of our previously announced corporate restructuring and three quarter third quarter and finalized head count reductions to reach targeted SG&A expense levels and reset the company's EBITDA margin at a higher sustained level. We are conducting a review of our DNA policies, which in addition to the balance sheet changes I described a moment.

Go will positively impact our cost of goods sold contributing to a sustained gross margin improvement in 2004.

Specifically the restructuring in cultivation and manufacturing assets that we mentioned in prior quarters will largely be completed by the end of 2023, enabling us to reset normal course activities. After having operated in a corporate sale environment for over a year.

The heels of our focus on improving cost of goods sold we launched our dedicated wholesale effort at September to develop institutional trading relationships across the country accelerate utilization of dorman cultivation capacity and high growth in adult use conversion markets, such as New Jersey, Maryland, New York, Ohio, Virginia, and Pennsylvania.

A decision that will shift our revenue contribution towards wholesale going forward.

This will be a higher EBITDA margin initiative and enable us to recapture a portion of the absorption accounting penalty we've discussed in past quarters.

Finally, as the national rollout of our new branded manufactured goods continues. Although this process began late in the quarter, we have already seen a positive margin impact and demand profile, which we which will enable us to utilize excess cultivation and manufacturing capacity.

In addition to our ongoing negotiations to restructure our portfolio of sale leasebacks, which will impact both gross margin and adjusted EBITDA as well as cash flow.

Furthermore, it will enable us to retain greater asset value and reduce our cost of debt.

As we discussed our efforts to continue deleveraging will reduce interest expense insulate the business from market volatility and improve cash flow.

Although we continue to make tax payments. We also look for ways to manage our <unk> tax burden more efficiently, particularly in the context of reschedule and last but not least we intend to leverage our geographic footprint and expand our retail network to drive scale utilize our manufacturing capacity and enhance our wholesale positioning with a priority on limited licensed markets. For example in Ohio, we are off.

Already sitting on three additional.

We are already signing three additional dispensaries that are expected to come online with adult use conversion, allowing us to activate a doormen cultivation and manufacturing capacity in anticipation of that margin expansion in 2024.

New Jersey with a significant regulatory hurdle now behind US we believe that we are moving towards the completion of our third dispensary locations anticipated opening in 2024, which is located in a high density of population area with few competitors and Maryland. The expansion of our Montgomery County location will enable us to leverage our presence in that market more effectively.

In addition, opening a new dispenser Empress George's County is expected to be equally attractive based on the limited number of competitors in the size of the local marketplace.

Virginia, we expect to open two more dispensaries that I've already been cited in one first half of 2020 for affirming our leadership position in one of the country's most attractive markets. Finally, everybody's favorite New York. Our adult use application has been submitted we are preparing to co locate facilities and in turn.

Activate garment manufacturing capacity in anticipation of a <unk> 23 approval for wholesale and retail sales. We continue to look for two additional dispensary locations to round out our portfolio.

Third patent is cash flow prioritization, which we will be driven by the following initiatives steady state capex for the past several quarters <unk> seen will continue with limited capital spend going forward based on our prior period investments are focused on gross profit operating profit portfolio rationalization, SG&A optimization and improved tax strategies.

The leveraged by a reduction in the anticipated reduction in interest expense and finally, our initiatives to stabilize our capital market's dynamic as a first step we consolidated our trading activity. This quarter on <unk>, Canada, which is a senior exchange that will enable us to enhance regulatory oversight increased market transparency and eliminate risks associated with venture exchanges.

We've been working to rebuild our relationships with investors lenders and other financial Counterparties that have atrophied candidly over the past 16 months during the proposed merger and then this morning, we announced share repurchase program to allow the company to purchase its equity, which we believe is one of the best ways to deliver shareholder value and generate a return on investment for our capital.

Finally, we transitioned away from Columbia care and announced our conversion to the Colombia to the cannabis company.

We believe this will improve our retail consumer awareness raise employee excitement and better align our name with our mission and market dynamics and finally, we believe that the cannabis company will support our outreach efforts to better connect with retail investors and recapture the institutional momentum that will come with rescheduling.

Although we didn't have a full quarter as a standalone company as you can see we've taken advantage of every minute.

It's been an interesting period for our organization and leadership team, we have taken the right steps to position the cannabis company for a very successful 24 with a clear pathway to show you all how we can leverage our best in class operations and generate the margin profile to prove it doing so our intent is to deliver shareholder value over the next several years in a way that we haven't done so in the past.

Which leads us to our third quarter performance.

Despite clear pricing pressure, we were able to deliver a stable top line.

Q3, achieving approximately $130 million in revenue similarly through aggressive cost management and resource allocation. We also showed a slight improvement to our adjusted EBITDA margin in dollar terms and margin with over $20 million for the second consecutive quarter. This was accomplished in spite of gross margin pressures as you will hear about from my colleagues <unk>.

<unk> pricing pressure in several markets impacted the average basket size at the retail level by nearly 7% across the portfolio. This was offset by a six 8% sequential increase in transaction led by a doubling in Maryland, which saw 100% over 100% increase quarter over quarter and a one 5% improvement in revenue per square foot in our locations that have not.

That have been opened less than 12 months.

Our dedicated wholesale effort did not begin in earnest until late in the quarter. The team was able to increase our wholesale revenue contribution sequentially by 3% by leveraging our strong brands, taking an enterprise approach with training programs with.

With trading partners and formalizing a national wholesale team is Jesse will highlight we are.

Just getting started with our revamped wholesale strategy and are very very excited about what the future.

The future holds for us as importantly, we are making substantive progress in managing our liquidity strengthening our balance sheet, reducing reducing interest expense and methodically marching towards positive cash flow from operations, which we achieved in the quarter one quarter ahead of our guidance.

In a moment Derek will provide a more detailed overview on these topics lastly, before I turn the call over to my colleagues I would like to spend a moment discussing the regulatory environment. We have one of the best footprints in at $80 billion emerging market as.

Is clearly demonstrated by the electorate or the state of Ohio last week.

And in New York, This week or sorry last week by accepting and moving forward with the expansion of its adult use market, whether it's a red state Blue State. There is a continued groundswell of support across our country for the legalization of cannabis the passage of issued two in Ohio sets in motion and the transition to adult use while regulators and legislators move at the speed of government we looked for.

<unk> to welcoming all Ohio.

Our five retail locations with additional locations expected as a reminder, Ohio is a top five market in terms of revenue and adjusted EBITDA for us as David will discuss opportunities remain to further expand our network in that state, notably, Ohio is the 24th state to legalize recreational use of cannabis and more than half of the U S population now lives in the jurisdiction.

Where the possession and use of cannabis is legal.

And as I mentioned, a few minutes ago. Our company is one of the best positioned geographically to capitalize on the continuation of this trend.

We saw it in New Jersey, we saw it in Maryland, Ohio is in motion as our Delaware, Virginia, Pennsylvania, and New York.

In addition to progress at the state level. We are also on the precipice of historic Federal rescheduling of cannabis, which would which will reshape the financial profile of the industry. Once enacted that while there are no guarantees in Washington, we are as confident as ever that we will see a positive news in 2024 as I've said before our best days are ahead of US Let me close my.

Talks with where I began cannabis company maintains a strategic geographic footprint of retail locations had fully built out cultivation capacity across the country. Our operations are improving as we institutionalize a number of changes across the portfolio, we're growing our brands and improving our capital structure. The massive growing industry. We are proud to stand as the cannabis company and we look forward.

Word to keeping you apprised of our progress as we achieved positive cash flow profitability and drive shareholder value over the coming quarters now with that let me turn the call over to Derek.

Yes.

Thank you Nick and good morning, everyone.

I'll provide a summary of the financial results for the third quarter discuss key trends in our markets and comment on the continuing initiatives to strengthen our balance sheet.

For the third quarter, we achieved $129 2 million in revenue flat compared to the second quarter and down two 6% from the prior year.

Adjusted gross profit was $50 3 million a decrease of three 6% sequentially from Q2.

Adjusted gross margin of 39% was down slightly from Q2, and we continue to see an approximately five percentage point impact of absorption accounting from underutilized facilities.

Adjusted EBITDA was $20 5 million up 1% sequentially over Q2 and down 2% year over year.

Our adjusted EBITDA margin was 15, 9% a slight improvement over Q2 and also up over the same period in 2022.

As we move into detailed supporting our results. It should be noted that we had a little over eight weeks as standalone operations in the quarter after breaking from the <unk> agreement.

Not surprisingly the quarter, therefore had a number of transactions, reflecting unwinding from that situation and relaunch as a standalone company.

During the third quarter, we opened one additional cannabis retail location in Suffolk, Virginia, bringing our store count to 86 as of today.

We anticipate new store openings in 2024, but none through the balance of this calendar year.

In Q3 retail revenue decreased less than 1% sequentially driven by a marked decline in average basket size in a number of our markets. Despite continued growth in transaction volume.

Part of this was anticipated as we reduced pricing on certain products in key markets to help clear through inventory.

Wholesale revenue grew more than 3% sequentially as compared to the second quarter.

As we began executing on our new wholesale initiative.

As we've highlighted previously due to the rationalization of certain elevation assets and temporarily taken canopy offline our gross margin remains impacted by them.

Favorable absorption underutilized sites, requiring us to expense overhead costs, rather than capitalizing them into inventory.

In Q3, this once again reduced gross margin by approximately five percentage points.

We view increasing utilization at our cultivation sites as an opportunity to recapture gross margin in 2024.

The third quarter was also impacted by a number of onetime charges related to the terminated merger agreement.

These were primarily inventory write downs and for accounting purposes. The reversal of assets previously treated as held for sale during the transaction period.

At the end of July we announced some incremental cost reductions primarily from completing integration of the <unk> acquisition.

Together with previously announced initiatives to close or reduce cultivation operations close unprofitable retail stores and eliminate corporate positions. We're on track to generate a net $38 million in annual operating savings.

On to our liquidity.

We ended the third quarter with $60 million in cash on hand, excluding restricted cash balances as we completed a $25 million equity offering in September.

Capital expenditures with $2 5 million in the quarter supporting the store opening and certain manufacturing upgrades.

Cash flow from operations in the quarter was $1 $8 million consistent with our stated target of generating positive operating cash flow by Q4 this year.

Our next senior debt maturity is in December when $5 6 million of convertible notes become due and which we intend to settle out of available cash.

In October we used the proceeds from our recent equity offering to redeem the majority of our missed expensive debt instrument, 13% senior notes due may 2024.

Early redemption alone provides $3 3 million in annualized interest savings with now $13 2 million of the senior debt obligation remaining.

As previously noted we have taken additional measures to strengthen our balance sheet, including two new mortgages that closed in early August grossing is $8 million and used to pay off the seller notes.

We've also announced today the signing of a definitive agreement to divest our Utah assets for $6 6 million in gross proceeds.

We continue to target initiatives to Delever, the balance sheet reduce interest expense through the remainder of this year and into 2024.

With that let me turn the call over to David to share our operational achievements and ongoing growth opportunities Dave.

David.

Thank you Derrick I will now highlight some of our operational results and developments for the third quarter on a revenue basis, our top five markets alphabetically, where Colorado, Maryland, New Jersey, Ohio and Virginia.

Lynn replace California in Q3 as adult use sales began at the start of the quarter on an adjusted EBITDA basis, our top five markets were Maryland, New Jersey, Ohio, Pennsylvania, and Virginia unchanged from Q2.

I want to point out the New Jersey, and Virginia remains top markets, which continues to demonstrate the strength of our emerging markets.

Maryland had its first full quarter of adult use sales and we were pleased with the results we saw with a 55% increase in revenue.

Our product portfolio has improved and we're committed to continuing to meet the growing consumer demand in that market as adult use takes hold.

Wholesale revenue in Maryland increased 30% over Q2.

During the quarter, we increased the diversity of our product offerings planned new genetics introduced a number of new Skus and continued to optimize our cultivation efficiencies.

Did see a decline in average basket size in Maryland, consistent with transitions to adult use and that was offset by the doubling of transaction volumes.

We have one additional retail location development, which we anticipate opening in 2024, which will bring us to the state cap of four retail locations.

Operations in New Jersey continue to perform well as we capitalize on the growing market and innovative products that we're bringing to the market the new form factors launched in Q3.

Janet and harvested new strains and we are seeing high testing quality flower out of our two facilities with.

With additional retail stores opening in the market, we saw a 35% increase in wholesale sequentially and remain focused on generating opportunities for additional wholesale partnerships are two candidates relocations.

<unk> remain among the top performers international portfolio, our third New Jersey retail location is in development and expected to open in 2024.

Onto Ohio, we have seen a significant increase in average potency and turbines in the plans coming out of our facilities.

Overall garden health is improving and we're seeing success with branded products via our retail and wholesale channels. We did see pricing software softness in the quarter a function of targeting more competitive pricing as well as a reduction in inventory.

Ohio continues to represent a wholesale growth opportunity for us as additional dispensaries come online and we look forward to the markets transition to adult use in the future as we anticipate adding three retail locations to the five already operating in our portfolio.

In Pennsylvania, our cultivation team focus on providing the market with a wider variety of extracts and higher testing flower strains that can command higher price points, we generated 3% increase in wholesale revenue during the quarter and are steadily moving inventory through our retail doors.

During the quarter, we continued to leverage different pricing strategies as you saw a decline in wholesale pricing in the market.

Virginia continues to be a top market, where we saw single digit topline growth sequentially as we opened our 10th location in the state during the quarter.

Operationally, we are streamlining our cultivation efforts in our two cultivation facilities.

Flowers consistently testing well and the team continues to plan for S. Genetics, we are in the process of developing two additional retail locations in 2020 for it to reach our market leading maximum of 12 in the state.

I want to thank the team for their continued commitment to quality and innovation, we are improving our operational efficiency every day and our improved operating procedures and strong team will propel both our wholesale and retail businesses going forward I'm excited about our position in the market and our continued focus on operational execution I will now turn the call over to Jesse.

Jesse.

Thanks, David.

Busy quarter for the company as you saw in September we announced a corporate rebrand and launched the cannabis company, which I wanted to discuss in more detail. This wasn't just a face lift for the company branding. This was about reconnecting to our passion and what drives us which is our customers re engaging with our brands and partners continuing to remove the stigma that still surrounds the cannabis industry and <unk>.

Following a sense of pride for being part of this evolving industry during a pivotal time.

A lot of thought went into the preparation and execution of this corporate rebrand we wanted to ensure that all aspects of who we are our name the experience we provide our customers with.

Commitment that we have through our history.

Our history in the industry, all aligned with where we feel we are headed as a company.

We wanted to approach our new identity in a way that recognize our past and celebrated our future. We knew we had a mainland retail, but not only works, but also developed excellent customer loyalty and positive reviews. We also mean that we wanted to continue to leverage our current strengths and our ultimate mission to deliver a higher experience.

Goal is to provide a platform from which our team can deliver a welcoming approachable experience that meets the customer wherever they are in their candidates journey. It was clear that our future is the cannabis.

This rebound was not only for our customers' brands and partners. After a long period of uncertainty for employees, we truly wanted to reconnect with our team and show them that we are proud to lead a cannabis company as they are to work for a cannabis company.

We wanted to show them that we are connected to something that is inclusive and positive we are connected by candidates.

Since our last update we've made progress towards reaching our goals of transforming the way we approach building brands and redefining the consumer experience we have.

Developed a national centralized new product development process for each region to better execute in track product and brand launches.

Work is paying off we introduced a number of our brands to markets across the portfolio and increase the number of Skus we offer.

During the quarter, we expanded our offering of students trained in Virginia launched numerous skus, including a one gram hybrid date, one gram sativa pre rolls three five gram hybrid flower.

Also launched 28 Gram flour, marking the first time the cannabis company have sold four ounces in the Virginia market.

We also launched 20, new Skus of Massachusetts, including several strains of high testing flower a variety of topical and heavy fast acting gummies in six flavors also including highly chocolate bars are.

Amber concentrate has continued to perform well as we bring that product to additional markets, we extended the brand into Colorado, and California, where it received great reviews, and California Amber clear won five awards at the farmers, including first place in overall solvent cards category and best looking cart.

We are also took home first place at the URL Cup in Arizona now for a few honorable mention for the quarter, we expanded the partnership with the <unk> brand in Delaware now offering a pizza elixir on PD NJ brand as well.

We launched a premium triple seven flower in Colorado and is now available at all of our retail locations in the state and finally in Florida, We received approval to launch several of our brands in Q4, 23, including hubby, demonstrating and classics.

We look forward to bringing our award winning brands to customers in Florida and look forward to updating you on their performance on future earnings calls.

You've also heard US mentioned the newly established national wholesale team while.

While we saw modest growth in wholesale revenue in Q3, we are just getting started.

Dedicated team is ensuring that our brands and products are available and increasingly more retail locations throughout the country beyond just our stellar footprint of 86 locations as.

As we increase our wholesale program, we expect to see increased capacity utilization and our cultivation facilities as well as our upgraded manufacturing capabilities.

In that vein, we have some exciting new partnerships and development, which we will be announcing in the coming months.

We've come a long way in the past few months and have continued to implement changes that will make us a better company, we remain committed to listening to our customers and delivering the best products and experiences to keep their needs.

Curious Brian for the cannabis company and we're grateful to have you all here to witness our evolution.

With that I'll turn the call back over to Nick to take your questions Nick.

Okay. Thank you.

Operator can we open up the call for questions.

Thank you as a reminder to ask a question. Please press star one on your telephone and wait for your name to be announced to withdraw your question. Please press star one again.

Please standby, while we compile the Q&A roster.

The first question comes from Aaron Grey with Alliance Global Your line is open.

Hi, good morning, and thank you for the questions.

First one for me just wanted to talk a little bit about adobe's conversion talking about Merrill Lynch specifically.

Up nicely on the corner sequentially and it looks like it might have.

Lagged the market overall, so kind of a high level view in terms of the market conversions I know you have a new store coming online, but speaking to Maryland, and maybe some of your learnings.

From New Jersey, and we also have new store coming there.

Of our adult use market and can you speak to some of the learnings you've had from adult use conversions.

Do you think you did well we might have wanted to do better to kind of capture more of the initial market share, especially when you have these these higher average sale prices at the early days.

And maybe how you might look to executing upcoming adult use conversions in markets, such as Ohio, and then potential markets, such as Florida, Pennsylvania, and Virginia that can come in as well. Thank you.

Sure. This is David I'll take that I think we've.

We've been through a few of these adult use conversions and I think we've tried to take lessons from each one of them.

As it relates to Maryland, I think one of the one of the things we are trying to improve on is consistent with what we've seen in new Jersey is literally just getting the capacity and the throughput potential for people that want to come through our doors. So limiting lines optimizing peak times with staffing and technology continues to be a focus for us.

I think there is.

The introduction of any adult use market brings new competition I think dynamic pricing in the marketplace is highly relevant for adult use converting market, so being able to be reactive it's hyper local level.

On the.

On the downside to make sure youre keeping market share, but also when you know you've got products that are turning that are in high demand to optimize your price points. So.

From a retail perspective, it's certainly about optimizing our footprint.

<unk> staffing and technology to get people through the door and to make sure that we don't have a drop in our customer journey from a quality perspective. So that's a balancing act of times. When we opened the floodgates. If you will for adult use volumes that come in but I think each time, we've entered an adult use conversion we've done we've done better than the previous one.

The caveat I'll always as each market looks a little bit different but those are the types of things. We tried to get ahead of and planned for some markets. It's easier to do when youre coming out of the medical program into an adult use program from a physical location and setup perspective.

And so we're trying to think about that proactively in markets like Virginia in markets like Ohio, and certainly in New York So.

From a from a throughput.

Transaction capture perspective, right out of the gate It really comes down to technology labor and optimization of the pricing and on the menu.

And the only thing I would add to that is.

Every state has its own has its own story in Maryland, We just don't have that much more capacity in Montgomery County, So we have to fund any location.

PG County has been notoriously difficult to find a spot we've been looking for a couple of years now we think we finally found two alternatives that we're in the process of negotiating.

And turning those around and actually opening the door.

Not to be that difficult because we've done it so many times.

But that's on the one hand in New Jersey, we've been looking at this one area for the better part of a year.

We had a problem with the New Jersey Department of transportation and believe it or not.

Rest of the state and infrastructure locally with supportive of us moving forward with a particular particular location.

And it's hard to handicap, what happens when you have somebody at the Dod and New Jersey, who decides to interpret a regulation one way and it doesn't make any sense to anyone else.

Thats.

That's something we would have loved to have avoided the pitfalls of dealing with local state and municipal governments all on a single issue.

I think on the flip side that you could look at Virginia, where we have built out our infrastructure, where we are prepared for conversion and where we are the market leader.

We recognize that that's an opportunity for us to really take advantage of a very sizable marketplace that's coming online.

And I would say New York is the same way right. We're probably the most scaled operator in New York right now we have all of our facilities open.

Some of our competitors can't even apply because they don't have their dispensaries open yet.

So that may have been a prudent decision up until this point, but now that New York has accepted our application and we expect them to move fairly quickly Im sure you saw the headline this morning out of New York.

Second largest cannabis market in United States prolifically affected by the by the illicit market, but I think our value proposition is better than something that could possibly be leased with pheno and I think that the state will be very supportive of that once the applications are reviewed and accepted so.

I think we shoot for perfection.

We're clearly making strides in new Jersey, and Maryland, we've been a beneficiary of it.

But we also for every for every New Jersey, we have our Massachusetts rate and so we need to see stabilization across the portfolio in order to see real sort of <unk>.

Forward progress and I think that we just happen to have more catalysts over the next 12 months and I think a lot of folks do because we're ready New York, We're ready in Virginia, We're ready in Pennsylvania, We're ready in a number of states that are coming along in Delaware.

And I think that unlike some others, we actually have more sort of organic sort of let's call. It untapped option value embedded in our new Jersey, because we don't have a third location opened I think in Maryland, PG County in a better location on behalf of every county are going to be enormously valuable because it's still a limited license states. So.

It's a fair question, but I think that the the way we've tried to address it as best we can in the context of all the local dynamics that we have to we have to deal with.

Okay, alright, great. Thanks for that color there and then on speaking to Virginia writes an important market for you.

And it seems like there might have been some prospects for.

For Adobe has kind of turned back on with Democrats take in house last week, so given the store on the regulatory build out we've had.

And the house one is under a pumpkin control do you think the prospects improve are you more bullish on something being passed or do you believe the pumpkin governor who seemingly against those cameras remains a major hurdle given potential veto there. Thank you.

It's hard to it's hard to tell whether or not yung Kim would veto something at the end of the day I think that he has his own platform that he is looking at and I think that the.

There were some changes in some pretty important.

<unk> positions.

On both sides of the legislature, but where it is.

Hedge entails we went right it's still a massive market without any competitors on the borders how do you have a very significant sort of let's call. It a transitional.

Cyclical sort of population that comes in Virginia every summer.

That we benefit from.

A number of changes that would meet the medical program, which make it accessible so.

Those young king of ultimately.

Ultimately.

Vito This I think the most important question.

Most important fact pattern that has looked at Ohio, Ohio, the Red state as a Republican Governor is basically central right from a political landscape perspective, but they overwhelmingly approved legalization at the at the state level. So young Kim is clearly in a political fight for his life.

Virginia Republican Party did not do well in.

In the last election.

Polling matters, so and our issue polls better than almost every other issue out there because it's the only thing that Republicans or Democrats seem to hardcore Republicans hardware Democrats seem to agree on so actually.

Cautiously optimistic, but I'm, even more optimistic because the market is great without any changes so.

It doesn't I don't think anybody at Columbia.

The cannabis company loses sleep over.

Over over sort of whether or not yung Kim is going to sort of put it in that kind of a political line because I don't think its I don't think the juice is worth the squeeze for them to do that.

Yes.

Okay, Great I appreciate the comment I'm going to jump back in the queue.

Thank you please standby for the next question.

The next question comes from Frederico go matched with a deep deep ATB capital markets. Your line is open.

Hi, Good morning, Thank you for taking my questions.

My first question is just on the margin drag that you mentioned coming from <unk>.

Under utilization of your capacity.

Can you remind us from which states that's coming from and then Youll heading into 2024.

How fast do you think you can recover some of that margin doesn't rely on the traction of your wholesale initiatives or are there any other drivers here that can help that.

Improve that capacity utilization. Thank you.

So let me, let me hand, it over to Derek <unk> sure happy to.

The overall drag as you referred to is five percentage points on our gross margin and the background to that is where we have restructured and we've taken down canopy era overhead costs associated with those facilities that just have to be expense quarterly quarterly we've restructured to take out the variable.

But the fixed costs.

Remain and that.

That's a pool of cost that can't be capitalized into inventory.

In terms of the markets, where we've got canopy offline and temporarily offline.

It's primarily Pennsylvania.

Some in New York.

At noon.

New Jersey little bit in Illinois, a little.

In Ohio.

Okay.

And a little bit of a genome.

We've announced those as part of the restructuring program again.

$8 million in annualized savings from a cash basis.

They are part of adding that to the second part of your question on how that improves we included in our prepared remarks today that there's some opportunities in 2024 as that cultivation gets turned on again that we will be able to reduce that overhang of currently five percentage points. So yes, as we increase.

Wholesale.

As transaction volume continues as it as it has in Q3.

So there are opportunities to turn on some of that canopy, then absorbed some of those costs into inventory and reduced that 5% to a lower level.

I mean, the one thing I would say about the sort of let's call. It the.

Think about it is if its pre funded capex, meaning we spent the money to build out the capability in anticipation of market dynamic changes.

Ohio, if we hadn't made this investment already we will be struggling right now to make the investment in time to capture the value that will be created from the conversion to adult use. So I think speaking to a question that was asked earlier what lessons that we've learned the lessons that we've learned is that we need to be ready for the markets when they transition.

Sure.

Just capacity there we did that intentionally because we believe that when the market opens up is going to be a significant market opportunity for us the same in new Jersey.

And so.

That it is important to remember a lot of the things that we're doing right now whether it's wholesale whether it's increasing our own.

Our own retail network and with many of these markets or if it's simply taking advantage of the fact that the licensing structure is opening up a new new operators are coming to the market that don't have their own supply chain. That's all very good for us because the regulators are effectively opening the spigot and allowing us to sort of capture a far greater market opportunity.

Thank you for the color.

My second question is just on regarding your in Tid.

Analysis morning could you expand on the rationale of the airport for that and how it fits within our capital allocation framework just considering.

Some of the other options that you have in terms of debt repayment, but also the growth investments like opening the stores et cetera. So just how do you look at those options.

Hi.

Why why DMC idea at this point thank you.

Sure I'll start off I think it is very simple we have a cost of capital of the company and the cost of equity is.

The equity value in the equity.

Call. It support we received from our investors.

It is a leading indicator for the basically the way.

Fixed income capital markets think about our company of the volatility we've seen in our stock has been frustrating for everybody.

And there have been some technical reasons, why we've seen that volatility portfolio issues within investors that had exposure to our name as well as others.

So that type of market opportunity comes along and it's frankly, it's a great moment in time when the company should be able to take advantage of its balance sheet capacity.

Put it to work for the benefit of shareholders.

There is no reason in the world why we should be in a position where we have to let the wave scratching our head.

We have a program like this in place and we do now so I think the idea here is to be very methodical and deliberate in the way we allocate capital we have a process internally that we go through to make these decisions.

Thank you.

Youre hearing is that the board has spoken and the board supports management and management supports the shareholders along with the board and we want to make sure that sort of our investors recognize that this is.

The days of us having to kind of wait and sit on the sidelines are over.

The ability and willingness to step in when and if necessary to provide the support and just sort of generate a return on capital that we believe is outsized relative to other opportunities in the marketplace just based on what we see in our own portfolio over the next many many months. So let me stop there for a second and see if Derek and leaving to add to that.

Yes, so to your point on capital allocation, yet we are still very disciplined on how we are deploying capital whether it's in.

Cultivation side, so those who had we've invested heavily.

To get ourselves ready for adult conditions in all the markets to the point, where we've absolutely cultivar.

Cultivation offline because store openings that have plans that we put capital to cover we are reducing our debt improving up.

Interest savings as a result, so this is another.

Aspect to that capital deployment deployment option that we now have the ability to do in an environment, where we are now creating positive operating cash flow.

It's just another option for us to add to those deployment decisions.

Yes, the only thing I would add is just.

This is a tool that we haven't had in our toolkit previously so we know how this at our disposal and I think what you've seen for.

The cannabis company as of late has a disproportionate impact.

From based on one particular situation with just sort of a catalyst for getting this program in place even though it's something that may have been warranted for quite some time so.

Obviously, no guarantee that the exercise that we want to have this available it.

Should it be predictive.

Thank you very much.

Back in the queue. Thank you.

Please standby for the next question.

The next question comes from Thai, calling with eight capital your line is open.

Hey, everyone. Thanks for the question here.

It was encouraging to see the volume growth kind of offset some of the basket and pricing pressure that you mentioned at the top of the call I'm. Just wondering if you could elaborate on how much of that pricing pressure was sort of from your own efforts to reduce inventory levels and then kind of following on that do you.

Back to see pricing sort of firm up.

Coming quarters, as you get that inventory down to a more sustainable level.

Thats actually a very good question I'm looking at Derek right now I haven't I haven't answered I'd like to give but I'm not going to get out.

I'm going to I'm going to pass it over to Derek.

Yes.

There's no perfect answer to this and the split on the average basket size decline in exactly who is coming into a retail location, who otherwise wouldn't have come in with additional discounting as we're working through inventory.

But it's a meaningful impact in the quarter.

We've seen average basket size declines in previous quarter, reflecting the industry pressure on pricing at this quarter was a little more pronounced.

And so it's difficult again to one packet, but where we're seeing high transaction volume increase to offset that as you mentioned, that's encouraging we're continuing to see that every quarter and particularly in a place like Maryland, where we had doubling of transaction volume as a result of the conversion.

So it's a little bit of an offset but we're not expecting those types of moves to be consistent quarter over quarter from Allen.

Let me also add one more thing and I'm going to look at David and.

Derek to kind of weigh in.

What we've said in prior periods is that we wanted to take steps to basically clear through inventory to drive cash flow, which we've done.

Some of those products were not high margin products, meaning there were they were basically bulk sales to go through that that inventory quickly.

And that came at a cost and that cost was margin.

So from a cash flow perspective.

One of the things we had highlighted as a source of cash was working capital going forward I think we've achieved that and we will continue to achieve that but to your point. The idea is that we can kind of reset our inventory and our cost of goods sold.

To align directly with our strategy rather than a strategy of having assets that were either being sold to third parties.

The company that was being sold to an external party, which may have had vastly different views on how to manage the business that we were we had to accommodate so the whole point of what's going through sort of this let's call. It post transaction.

Clearing of the decks is to do exactly what you're suggesting which is to put us in a position where we can see some improvement in gross margin and put us in a position where we have the products that we want on the shelf that we want in the inventory that we think are going to be more attractively priced higher margin and that will have a different demand profile both from a wholesale and retail perspective is that a fair way.

To characterize it guys.

Okay, Yes.

Does that is that helpful.

Yes, no that's great I appreciate the color there and then just for my follow up.

And Nick are Derek I'm wondering if I could.

To get you to elaborate on a comment that Nick made earlier in the call about.

And what you might potentially be able to manage the <unk> component of your tax going forward, particularly in view of the potential rescheduling catalyst here just wondering if I could get a little more context on that remark.

Sure.

As Eric in terms of the ongoing tax payments, we are continuing to make tax payments our income tax payable for the quarter was down versus Q2.

You're going to operate in the environment with $2 88.

The rescheduling that is anticipated to come out of Washington.

We'll move cannabis into a non <unk> tax category and.

At that point, we will have a much lower tax burden every quarter every year.

We're not clear on the timing of that so there is a rescheduling announcement and then there will be an IRS announcement typically those things go hand in hand.

But from our perspective, we're not relying on the IRS to retrospectively.

Respectively give us large tax refund, we're anticipating that will be implemented but it will help.

Net income figure it will reduce our tax burden and obviously improve operating cash flow position beyond what is already turning positive.

One very simple sort of way to think about it is that in the quarter about 88% of our revenue came out of our retail network.

Thats a significant exposure to AE, because SG&A is where you get smoked on.

The distribution piece it really gets affected by 280 <unk>.

As we move more so into wholesale.

That will have a variety of impacts in terms of allocations and so all of the things that go into the way kind of the ultimate tax bill on the tax taxation is calculated so that.

That should improve.

Just based on that alone.

That's great guys. Thanks for that.

Please standby for the next question.

The next question comes from Matt Mcginley with Needham Your line is open.

Thank you my follow up is on kind of some of the comments you made on gross margin. So does the discounting impacts have less of an impact in the fourth quarter and can you improve gross margins sequentially from what you reported in the third and then I guess exclusive of that five point impact you mentioned from absorption you also had.

<unk> manufacturing that will improve your efficiency, but as I think about all of those things.

Totality you have a few of these states you mentioned that won't likely see higher utilization in 'twenty four and so those absorption impacts probably don't go away, but there is this restructuring impact, but I'm not sure how near term that is and how meaningful that would be.

And then compounded with the relatively seem less discounting from a from a cleaner inventory position.

You mentioned a couple of impacts here, but I'm just not sure how meaningful. These rfps are very near term impacts of these are things, we're not going to see for for quite some time.

The gross margin side.

Yes, happy to address that and yes. There is a lot of factors that you've mentioned that are all working in conjunction here as we move into Q4, we're still working through some of this excess inventory. So that will continue to be a drag on gross margin in Q4, as we're working through that.

That is to reduce inventory that was built up.

Arguably during the arrangement agreement with <unk>, where we were building inventory in certain states that would be disposed of that would be part of integration. So it will take a couple of quarters to work through that.

As we turn to 2024 when inventory will.

Arguably reduce deep reduced down to more normal levels and yes, we will have those catalysts of increased utilization at cultivation sites.

As we turn on more wholesale opportunities as we continue to see transaction volume and we will eat into that five percentage point overhang of under utilized in addition to the benefits from no longer having to overly discount inventory in the retail and wholesale markets.

One way to look at it and Derek Derek you can correct me. If you. Please correct me if I misstate something.

The ideas that we would finish up any kind of changes structural changes to the business in the fourth quarter and anticipate in anticipation of 2024, and so we've certainly seen an increase in in demand of our products right because the particularly the among the branded.

And refined products, both from a wholesale and a retail perspective.

And thats, helping with the.

With the absorption accounting issue we've referenced.

But we're not anticipating a huge impact until we're finished cleaning the decks and I think that happens, but that work is done in <unk>. So are we expecting.

Stability in gross margin, yes are we expecting a massive improvement in gross margin not until 'twenty four but.

That's it.

That's a bit of turning the ship because remember the minute we open up.

<unk> room in any facility.

And we start planting plants.

Recognize that sort of allocation of the absorption of overhead until the plant's harvested.

So we were we were sort of eight weeks.

With eight weeks in the third quarter.

Even if we planted plants the day the transaction ended we wouldn't be able to sort of we wouldn't recognize that until until some time at the end of the fourth quarter. So there is just a timing issue here that relates to how all of this gets accounted for.

That's why we're really focusing on first quarter first half of 2024.

Got it.

And then with the changes that you mentioned, you're making to the wholesale program are you gaining traction with distribution and more retail doors.

I guess, what can you point to that gives you optimism that this part of the business isn't just stable, but youll be able to grow from here.

So let me turn that over to Jesse Jesse why don't you weigh in on this.

Yes, I mean look I think as we mentioned in the call and sort of as we spoke to this is this is an entirely new sort of effort with regards to an organized national wholesale approach, which has been something that.

<unk> has not historically been I would say.

And institutional strength right and so with the leadership in place now with team members.

Basically being fully staffed we're already starting to see.

Traction with not only conversations.

Conversations as mentioned on the call at the enterprise level, So the way in which we're approaching partnerships with either multistate and large single state operators, but also with more fragmented.

Retail supply chains like something like in New Jersey. So.

In the coming quarters as we move into next year, we really will start to have significantly more data to back up obviously, what we are already seeing directionally conversationally. That's happening on these calls and in these meetings right now, but I think theres no question that that is a significant opportunity for us moving forward in <unk>.

We're already starting to see those returns and building some strength.

Okay. Thank you.

Please standby for the next question.

Okay.

The next question comes from Matt Bottomley with Canaccord. Your line is open.

Hi, Good morning, everyone. Just wanted to touch on two markets, New York and Pennsylvania. So Nick maybe just following some of your commentary on New York I'm just wondering.

Nothing specific to cannabis guidance or store openings or market opportunity, but just.

Where you think the moderate to upside here and maybe the bullish side is for that market overall, just in its structure or is it sort of eased bodega as that are need to be closed down that are selling cannabis is it conversion of illicit to legal obviously store openings overall their legal would be it would be nice, but what's your expectation or hope for what 2024, it looks like specifically in terms of what that environment.

<unk> might might look like.

I think it's really three things first.

The licensing process that we just submitted the applications under.

We will resume for non.

Sort of let's call it incumbents, meaning all of the other licenses that need to be issued for operators that would increase the market size and the access to a regulated market would resume and thats going to create some let's call. It a demand profile of some sort for wholesale.

The value proposition and I'm sure you've seen this in states like Maryland defend all issues real.

And the third of the problems with the supply chain in the illicit market seem to be doing a wonderful job of blowing themselves up not to say that thats, a panacea, but the combination of basically not surprisingly.

Illicit market poisoning its own consumers for a quick Buck and enforcement, which is now not only going after just the operators, but also going after the landlords, which in New York State is is like sacrosanct landlord decide where you can where you can and cannot live.

They are now squarely in the targets of the regulators all of that's very positive.

I think the fact that <unk> and Adams and the rest of the sort of let's call. It the leadership cast in New York State recognize that this is a very very simple way to fix a massive budgetary hole.

I'll kind of convalesce at a point, where the marketplace that we would be a participant in ought to be attractive now how quickly that moves.

<unk> expands I'm not sure.

I think that our product offering is far more attractive than what the producers could have ever produced.

I think that the market there is a pent up demand for licenses amongst many of the operators and I think that just being able to increase the the access point for through our own dispensaries will have a huge impact on our business in Europe, because the business is really languished over the past two years, so do I have.

<unk> expectations at that point to an.

An outcome like the state of Illinois, No, but do I think eventually get there. Yes. The question is how much time does it take.

And it's.

I think that that is something typical new York, it's a little bit like turning us oil tanker. It takes some time. So I think we're cautiously optimistic right. It's another way to leverage existing infrastructure and fit that fixed assets and I think that the.

We happen to have the best supply chain out there from a wholesale perspective, so that's I think that's.

That's a positive outcome.

Alright, I appreciate all that and then just the other market.

<unk> was Pennsylvania, so that seems to be a region in Q3 reporting that a lot of msos at least in the prepared remarks haven't really touched on a lot. We know there is historically some wholesale headwinds there.

It's still in your top five from adjusted EBIT profitability or a dollar standpoint.

Im just wondering if you can give any more updates on where that market is how you. How you look at its growth into 2024, and where pricing is kind.

Kind of looks to be ending the year relative to in earlier quarters. This year, where we know there was some pressure.

This is David I'll take that one we continue to be.

Due to the ASIC about our ability to retail in Pennsylvania with a three doors I know, we're under scale, but the retail footprint relative to some of our competitors MSR competitors, but those stores have continued to deliver from a performance perspective, so kudos to the Pennsylvania team and the locations.

And we obviously have a large cultivation manufacturing facility, that's a legacy G leaf.

Operations, and we did a lot in the last two quarters to take can it be down to reduce our costs in that facility and are working working on not only increasing the throughput on the cultivation side with potentially putting more plants and their life is we're seeing some demand for what we're going to market with incremental throughput on the on the.

Harvest side on the manufacturing product category basis. So.

We're I would say cautiously optimistic about Pennsylvania in 2024, we probably love to be have a larger footprint there.

When the opportunity presents itself, but we've done a lot to right. The ship from back of house perspective to prepare for the current Mark a medical program environment, but also as we think about what adult use could look like in that marketplace and I think we've got an asset that's that's kind of unrivaled in the state for window East comes.

Okay I appreciate all that thanks.

Please standby for the next question.

The next question comes from Andrew simple with <unk> capital markets. Your line is open.

Hi, there good morning, Thanks for taking my question.

So you spoke to cash flow prioritization in the prepared remarks, just wondering on the back of that whether you've.

Got any idea of what the Capex budget might be for 2024, obviously the pace of that has been had been declining this year as major projects that wrapped up.

And in particular are you planning to make any investments in states apart.

Ahead of possible I don't use catalysts, most notably, Ohio, and Florida, what what are your plans in those two states.

Yes. So this is Eric I'll take that so Q3, capex $2 5 million fairly consistent with what we've been doing in the last few quarters at a much lower level than we've had historically when we were building out markets in anticipation of adult use.

Not expecting major changes to that figure at quarterly we do have new stores that are opening that we're supporting and the major investments, we're making are upgrading manufacturing capabilities continuing to act.

Keep cultivation manufacturing sites sites maintained.

We're not yet to the point of providing guidance for next year, but we anticipate staying at these low levels.

With our needed investment in new stores as we open them.

To the extent, we add stores in Ohio based on adult use that'll be an incremental capex spend.

A good return on investment anticipated for that other markets as well and we'll be opportunistic as we look to other markets as they evolve as well.

The only thing I would add is the.

The real capital intensity.

<unk> has already taken place so we don't need to add any cultivation capacity any manufacturing capacity that would be material in nature at all.

This per square foot buildout costs for our third dispenser in New Jersey.

It's de Minimis.

Look we're not anticipating a spike in capex or use and proceeds to sort of go forward and turn on some of those dispensaries, because we don't need to so I think that the bright side is sort of the capex ought to stay at a fairly reduced rate because we're not opening up any new markets and then thats.

<unk>, obviously, a disproportionate cash flow impact, we also don't need any more cultivation and manufacturing capacity, which on a per square foot basis as the most capital intensive part of the business.

From this point on its really just leveraging existing infrastructure and obviously as we open up new retail stores. It gives us the ability to begin to sort of eat away at that absorption accounting issue that Eric mentioned earlier.

Great. That's helpful. And then maybe for Paul if I could ask for a little bit.

Additional color on what are the more opaque state markets, which is Virginia.

Patient count has been trending in that state.

Have you continued to see a pickup as regulators of east barriers to patient sign ups or are you beginning to see that slow down a little bit in the third quarter and what's the expectation going forward.

I'll take this one this is David you no longer have to actually registered with the state of the patient. So this is from our perspective, we're measuring transaction volume and basket sizes and door openings.

As any sort of emerging medical program.

State number one determination in terms of.

Pam is doors opening and so we continue to be focused on getting the next to open. So that we can continue to provide patient access. So every time, we open a door.

Two two regions, we've seen an increase in patient count if you will or transaction volume. So we're still very optimistic about the total medical program opportunity in front of us prior to adult use and see the return coming from the doors that we've opened and then we continue to focus on for the next two in early 2024.

Great. Thanks for taking my questions.

I show no further questions.

This concludes today's conference call.

For participating you may now disconnect.

Yeah.

Okay.

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