Ayr Wellness Inc

Welcome to the AIR Wellness 3rd Quarter 2021 Earnings Call. Joining us today are AIR CEO Jonathan Sandelman, the company's CFO Brad Asher, and the company's co-chief operating officers Jennifer Drake and Jason Griffith. The company will discuss forward-looking matters on this call, including targets for revenues and adjusted EBITDA. This forward-looking information is subject to the assumptions and risks as described in the company's management discussion and analysis for the quarter ended September 30th, 2021. As well, we remind you that adjusted EBITDA is a non-GAAP measure. We refer you to the reconciliation to GAAP measures and other disclosure concerning non-GAAP measures contained in AIRS management discussion and analysis for the quarter ended September 30th, 2021. I will now turn the call over to AIR CEO, Jonathan Sandelman. Please go ahead.

Good morning, everyone, and thank you for joining our conference call today. We have a lot to cover today in terms of our record results in our operations, despite headwinds in some of our markets. Some very exciting milestones in our branded consumer business and our most recent acquisitions. We consistently see growing demand for cannabis, but ebbs and flows in supply and demand can create fluctuations in pricing. Taking a step back, increases in supply in cannabis are often responding to anticipated demand catalysts like adult use legalization or the timing of dispensary openings. Supply is there for good reasons. But when supply outpaces demand, you could see near-term price fluctuation. We've said again and again that we seek to be the largest scale cultivator of high-quality cannabis in the United States. First and foremost, we want to produce the best product for our customers because in cannabis, it's all about what's inside the box. We have seen high-quality flour maintain price across the markets. In our experience, quality serves as a mitigant to price volatility, but it does not eliminate it. And across CPC history, brand loyalty is another way to mitigate price volatility. In our business, we have tried to carefully plan the timing of capacity addition in our key states to match the anticipated increases in demand from the broader market in our own stores. Vertical integration is a real benefit to help balance out ebbs and flows in the wholesale market, as we can redirect products through our stores when the wholesale market is soft. The supply and demand imbalances that have recently impacted wholesale prices may be transitory, or they may persist into next year. We want to emphasize again that supply exists for a reason. Adult use demand is around the corner in Pennsylvania, New Jersey, greater Boston, and Florida. Because of these temporary timing mismatches, prices may continue to be volatile this quarter and perhaps in 2022. As we've said before, quality and branding mitigate these impacts, which is why we are excited to introduce you today to an updated air House of Brands. The unveiling of our new corporate, retail, and CPG brands represent the next phase in the evolution of our company, with brand designs to represent the quality of what's inside the box. Our well-calibrated portfolio of power brands, which consist of Kind Premium Flour, Origin Extract, Stick Pre-Roll Company, and Levy & Fuse Seltzer, reflect the very best of cannabis, and are developed from data-driven, consumer-centric insights. They represent leading market categories for current and future consumers, alongside being the highest quality, which is why we have invested the bulk of our marketing and resources into building and scaling these brands across key markets. We are also unveiling a collection of core national brands to offer variety in forms, dose and experience. These core brands address large audiences in the same power categories, but in a much broader fashion. We're starting from an already strong foundation with strong existing wholesale businesses in Massachusetts and a growing business in Nevada, Pennsylvania, and Arizona. We ended the third quarter with our products in over 350 doors, up from 100 at the beginning of the year. And while I'd love to walk you through the entire portfolio in this call, that is more than we have time for this morning. So please have a look at our new website and investor deck, which showcases the brands in detail. Lab, we are unveiling today an updated air retail concept and corporate brand. We've built this retail concept very intentionally for the customer experience in our stores to reflect the quality of our products and our commitment to our local community. At AIR, we are committed to thinking long-term. We understand that brand building in this industry is still in its early stages. But the reasons that we've committed to this path is because we know that great products and great brands create their own categories and consumer segments. And we continue to invest in our quality, our brands going forward. With that, I'll turn it over to our co-chief operating officer, Jason Griffith, who will walk us through the details of how we're building the foundation for this new house of brands.

Thanks, John. With the rollout of our new national brands, executing against our goal of being the largest scale producer of high-quality cannabis flower in the United States is more important than ever. Consistent quality across markets is critical for brand building. We continue to make major investments in our cultivation operations, facilities, and talent to build that foundation for successful brands. We have several large capital projects ongoing in Massachusetts, New Jersey, Pennsylvania, Ohio, Arizona, and Florida. All in, when these projects are complete, we will be doubling our cultivation and production square feet from 554,000 to 1.2 million square feet and tripling our biomass capacity from just under 100,000 pounds annually to over 300,000 pounds, all in support of our national brand. As you can imagine, given the ongoing supply and labor shortages, port delays and other factors, We have seen some projects delayed even beyond the cushion we previously factored in. In particular, our cultivation projects in Massachusetts, New Jersey, and Ohio are likely to slip a quarter versus our prior plan, but we are pushing to move them forward as quickly and efficiently as we can. We invested close to $27 million in the third quarter and CapEx and plan to spend another 125 to 150 million over the next 12 months to complete these and other projects. Just as important, we hired several senior people in lean manufacturing, purchasing, production, and quality control to lead this process. We have also centralized and created a national wholesale platform to streamline our sales efforts. I want to spend some time specifically on Florida, since it is our largest cultivation and the one we get the most questions about. We continue to make steady progress on the cultivation there, including physical improvements such as new lights and panels, and process improvements like implementing our SOPs and quality controls. These improvements have resulted in increased yields and better quality flower in terms of THC content and terpene profiles. As you can imagine, summer is the hardest time to grow in hot, humid Florida, so progress is not always in a straight line, but the overall trend is up and we are now consistently harvesting 22 strains. This fall, we also planted our first 10 acres of hoop houses which will significantly increase our biomass production beginning in early 2022 and leave more of our hybrid greenhouse space available for premium flower cultivation. We have another 10 acres set to come online in mid-2022. This increase in supply is critical to bringing our product mix, inventory, and retail productivity to a level we can be proud of. Which brings me to the retail business, where particularly in Florida, we continue to expand our footprint. Overall, we are now operating 65 dispensaries across our eight state footprint, 42 of which are in Florida. We are targeting 50 Florida stores by January 2022 and have LOIs or leases on an additional 15 bringing us to at least 65 by the end of 2022. As we unify our retail stores under the new Air brand, we will be bringing the best retailing practices from across our markets to our full retail portfolio to drive improved store-level productivity and margin. With five of our eight markets yet to convert to adult use, we see retail as a tremendous growth opportunity for years to come. In the near term, retail growth drivers will come from the launch of our flagship adult use stores in greater Boston early next year, followed by the adult use conversion in New Jersey. In Florida, while productivity per store is not yet where we'd like it to be given supply constraints, we know that it is only temporary. So securing the best locations now in this market before adult use is the priority. We will look to convert those 50-plus stores to air-branded stores in 2022. Now I'd like to turn the call over to Brad to run through the third quarter financials.

Thanks, Jason, and good morning, everyone. Q3 sales increased $4.9 million to $96.2 million, representing an increase of 111% over prior year and 5% over prior quarter. This was driven by organic growth as well as the 15-day contribution from the New Jersey acquisition, which closed later than expected this quarter on September 15th. When removing the New Jersey acquisition from our Q3 sales, we still recognized sequential growth in both wholesale and retail during a quarter that was largely flat based on available third-party data. Adjusted EBITDA for the quarter was $26 million, representing a 40% increase over prior year on an apples-to-apples gap basis. and a 5% decrease over prior quarter, driven by an increase in SG&A, which I will get to in a bit. Adjusted gross profit increased to $56.6 million for the quarter, compared to $28.6 million in prior year and $53.1 million in prior quarter. Adjusted gross profit margins of 59% represents a 70 basis point sequential increase from prior quarter. The increase was largely driven by the continuous improvement and automation on the cog side, in addition to the normal course fluctuations based on inventory flow through, as well as product and market mix. Overall, we believe our consistency and adjusted gross margin percentages speaks for itself. While we expect a minor dip over the next one to two quarters, we anticipate maintaining an attractive margin profile through 22. Although we acknowledge this will be dependent on market dynamics. SG&A expense as a percentage of sales at 33.6% represents a sequential increase of 322 basis points from prior quarter. The increase was largely due to our continued investment in building out infrastructure, including the addition of approximately 300 employees, representing an increase of nearly 20% across our workforce during the quarter. While we expect operating expenses to increase on a dollar basis, as we continue to expand our footprint, We anticipate a minor increase as a percentage of sales in Q4 of this year before this begins to decline gradually in 22 as we build more leverage throughout the year. The temporary increase is expected here ahead of increases in revenue as we continue to build scale and depth in our existing markets while expanding in new markets. Lastly, we ended the quarter with $94.4 million of cash on hand, which is inclusive of $50.7 million of proceeds from the cash incentive on warrant exercises offered during the period, but does not include the $150 million debt financing, which closed earlier this month, further strengthening our capital position to fund our growth initiatives. In Q3, we had positive operating cash flow by managing working capital across operations. We will continue to make an investment in building up inventory as our cultivation facilities and new stores come online throughout 22. We expect to consistently generate significant cash flow from operations once the cultivation facilities are online and contributing sales in 2022. In Q3, we paid $76.2 million for investing activities, which will drive future EBITDA. This comprised of $26.9 million of CapEx to advance our cultivation projects across nearly all key states, along with approximately $49 million paid in the quarter New Jersey acquisitions. inclusive of purchase consideration, and bridge financing. The investment we are making in the business today, a way of technology, corporate infrastructure, and compliance readiness, will prepare us for the step function in revenue next year. We feel more prepared now than ever before and excited to continue this once-in-a-lifetime journey. With that, I'll hand it over to our co-COO, Jennifer Drake.

Thanks, Brad. We've had an incredibly transformative last 12 months in terms of increasing our total footprint and growth. We've expanded from two states to eight, increased our retail presence from seven stores to 65, and tripled our cultivation capacity. Having recently added $200 million in cash to our balance sheet, $150 from our senior notes and $50 from the cash exercise of our warrants, we feel confident in our ability to continue our growth driven by investments in footprint, M&A, and expansion projects. But the most important assets to drive this growth are our people. This year alone, our headcount has grown from 700 at the start of the year to over 2,000 people today. The hardest part of scaling any business is finding the right people to lead growth and improve the business with the right controls and standards in place. To that end, in the past six months, we've added over 20 senior people in operations, marketing, IT, HR, and other corporate functions. Our corporate SG&A expense has increased as a result of these critical additions and ahead of major expansion projects coming online in the next few quarters. This is an investment well spent and necessary for long-term success. The operating leverage of that corporate SG&A will be evident in 2022 as our investments in footprint and brands by the corporate SG&A investment begin to generate material revenue. Looking at the fourth quarter, we anticipate top-line growth of at least 10% sequentially, despite the supply, demand, and balances that John mentioned earlier, particularly in the Massachusetts and Pennsylvania wholesale markets. We continue investments in support behind our brand, and with that in mind, we expect fourth quarter adjusted EBITDA to remain relatively flat compared with the third quarter. Because this price and supply volatility may persist into 2022, we think it's prudent to introduce a range into next year's expectations for adjusted EBITDA. We are now forecasting 2022 adjusted EBITDA of $250 to $300 million compared to our prior forecast of $300 million. This range also reflects the delays Jason mentioned earlier on some of our capital expansion projects. where it's important to highlight three things. One, the whole country is experiencing supply chain disruptions. Of course, we always factor delays into our expectations for these projects, because this is cannabis after all, and there are delays. In recent weeks, supply chain disruptions have eaten through our timing cushion in these projects, as Jason mentioned. Two, Given Air has several ongoing CapEx projects. These delays have disproportionately affected us. And three, most importantly, these delays don't impact the ultimate earnings power of our business. The most important drivers of AIR's earnings power in 2022 are and have always been timing of our capital projects, the M&A pipeline, and approvals to begin adult use in Massachusetts and New Jersey. We still see a very achievable path to the $300 million in adjusted EBITDA projections for 2022, but we want to be prudent and reflect changes that we think may have the potential to persist. As 2022 progresses, we'll update you on the market environment and we'll tighten up our forecast. Regarding revenue, we remain comfortable with our prior expectations of $800 million. I'll now turn it back to John for his closing remarks.

Thanks, Jen. We have built our company from day one to withstand headwinds. We have extremely strong foundations in our team, our culture, our systems, and controls, and now our brand. We are ready to launch the next phase of the evolution of our company. Building leading CPG brands is not easy work, and this is not a task we have taken on lightly. Quality at scale is what we've built this company's infrastructure to deliver, and now we're building the brand to put that quality in the box for our consumers to enjoy. We put a lot of thought, research, investment, and effort into our decisions around branding to ensure we have the right products and assets to lead air into the future as a leading cannabis CPG company. We will capitalize on the current market volatility and take the opportunity and expand our footprint. As we announced today with two great new stores in Chicago, consolidation within the cannabis industry, we believe, is being pulled forward. Companies like AIR, with the resources to be the buyer of great assets in this environment, are extremely well positioned to lead the industry into the future. In the cannabis business, conditions change day by day. The good news is, at AERA, we have the people, the system, the financial strength to pivot where needed. And that's when it benefits us and continues to drive exceptional growth and return for our shareholders. With that, I'd like to open it up to questions.

Thank you. We will now begin the question and answer sessions. To join the question queue, you may press star then 1 on your telephone keypad. You will hear a tone acknowledging your request. If you are using a speakerphone, please pick up your handset before pressing any keys. To withdraw your question, please press star then 2. We will pause for a moment as callers join the queue. Our first question comes from Owen Bennett of Jefferies. Please go ahead.

Morning, guys. Hope all well. I actually had a couple of questions. So first one is just on the pricing pressures you've been seeing in some of your markets. Can you maybe give some indication, please, of how much pricing is being pressured at wholesale? And I know you said you think it may continue in 2022, but do you think the pricing could get even worse? That's the first question. Thanks.

Thanks, Owen.

What is it, Jason? Why don't you address that question, please?

Hey, Owen. Thanks for the question. So, in terms of pricing pressure, we're seeing, you know, downdrafts, certainly in Massachusetts, Pennsylvania, and Nevada as well. I think what we've seen is a significant increase of supply coming into the market, and we've seen competitors start to really push that pricing lower as they're trying to move more products. So we've seen in the neighborhood of 10 to 20% decreases, and it really depends supplier by supplier. And it appears to us that it really is more of a company by company occurrence. And This may continue, in our opinion, throughout the first quarter, potentially a bit longer, but we see it, you know, potentially abiding towards later in the year.

John Sandelman Oh, and this is John Sandelman. Let me follow up with Jason saying, yeah, how are you? We're, in my view, what we're seeing is a temporary supply and demand imbalance. we're choosing in the fourth quarter, instead of participating to what we think is temporary irrational behavior, but to take our new power brands and the quality that we strive to grow and produce and simply hold that supply that we have into the first quarter when we'll have nine stores in Pennsylvania and adult use stores in Massachusetts. And so we made a business choice. We have the ability to sell it through retail in the first quarter or participate in the rational temporary behavior of some of our competitors.

Okay, very clear. Thank you. And that just takes me on to the next question around the new brand portfolios, the power brands and the core brands. Just on the power brands, how much of a premium generally will they be priced versus the core brands? And do you plan to have the entire portfolio of power brands in every state you are in?

So the answer is that we'll have our power brands in every state we participate. You can see in our numbers from the beginning of the year, we were in 100 stores, and now we're in 350 stores. So the power brands will be not only in the air stores, but will be in our wholesale customer stores. The second part of your question, I'm sorry?

I was just wondering then, you're obviously going to have the core brands as well. I mean, what's generally going to be the pricing difference between the power brands, which are probably at the premium space? Are the core brands more value-focused or are they sort of mid-price focused? Does it depend on which state?

So what we said on the call and what we see every day, that quality and our power brands speak to the quality of the flour that we grow, right, and the products we make. Premium products, premium flour in every market that we participate in is a price mitigant to pricing volatility. So, the best quality products in every market we participate have been able to maintain and command a premium. That premium is different in each marketplace. So, I don't have a general overall percentage for you, But that is true in every market that we are in.

Great. I'll show you how it all comes, guys.

Our next question comes from Matt McGinley of Needham. Please go ahead.

Great. Thank you. So, on the fourth quarter guidance, I'm a little bit surprised the top line guidance only calls for 10 percent top line growth, given you've already added the three very high volume dispensaries in Pennsylvania and you have that full quarter benefit from the asset acquired in New Jersey. Will the revenue actually be down in some of your core states like Massachusetts and Nevada in the fourth quarter?

Hey Matt, thanks. So what John had said before, we'll just reiterate, we are making a choice regarding whether we want to participate in the wholesale market at some of these lower price points or whether we'd rather hold our brands for what we see as increased demand, whether it's more stores in Pennsylvania in Q1 as we get to nine, or adult use stores in Massachusetts, for example. So we are having less wholesale revenue, but modest same-store sales growth in retail, and obviously some acquisitions.

So Matt, it's John. If you think about our business plan in Massachusetts, previously, we had a significant wholesale business because we didn't, frankly, have adult-use stores. But we do today. We will, in the first quarter, have adult-use stores. So now, instead of having one major channel to sell our products in, which was wholesale, we now have two. And so, simply, we can asset allocate in a way AIR has never been able to do before. So again, what I said is we can participate today in what we think is irrational behavior by a few or simply hold that inventory of quality products and pull the lever we've never had before, which is simply selling into our adult-use stores, which we expect the volume to go up exponentially. And it's a rational business case. This is a long-term business. I could do something and participate irrationally, or I could simply take that product and sell it at a major premium one month later, two months later.

Okay. Appreciate that. And then I guess my second question is on the 22 guidance. I appreciate that you guys even give 22 guidance, but you stated that the wholesale price volatility would be a factor in the lower EBITDA guidance, but why wouldn't that also... you know, impact revenues, you know, I guess, or just with all the other projects you have coming online and the incremental M&A, did that make up for any softness you might see within that, within the wholesale business? And I guess on top of that, do you still think that you could have six states with a hundred million in, in, in revenue in 22, or are some of these delayed cultivation projects in New Jersey and Arizona likely to keep that, that number under the a hundred million mark into, into next year?

There are a number of things going on in revenue that keep us comfortable, that keep us comfortable, Matt, with the 800. For example, we've added more stores in Florida than we initially expected with respect to the initial guidance that we put out some time ago to give people a sense of the earnings power of our business, which really is the point of our guidance. Our business has gone, as I said on the call, through such a transition over the last 12 months, we really thought it was important to give people a sense of what that meant in terms of numbers. So in terms of revenue, the things that keep us comfortable with the initial guidance that we provided are we've added a lot more stores in Florida than we initially expected. We've added that additional hoop house capability in Florida, which we did not initially expect. We've added more non-vertically integrated stores in Illinois. All of those things add more to revenue than they do to EBITDA because, as you know, our Florida business is still kind of ramping up. So those four-wall stores have a little bit lower four-wall EBITDA than the average across our platform. And things like non-vertically integrated retail stores in Illinois also lower EBITDA margins, so they're contributing more to revenue than to EBITDA. And the other thing to remember is when we have these delays in our big capital expansion projects, we're going to be buying at wholesale for longer and selling that through our retail stores, and that will contribute to revenue and be less contributing to EBITDA.

Okay, that's very helpful. Thank you.

Our next question comes from Russell Stanley of Beacon Securities. Please go ahead.

Good morning, and thank you for taking my question. Just wanted to dive in a little more on Massachusetts. You're now on 137 shelves there with the Milford expansion coming online. I just wanted to get a sense. I understand the decision to hold off, you know, focusing on wholesale into early next year with the expected increase your own retail going at all years, but just wanted to get a sense as to the expected market reception for that additional expansion in Milford and the extent to which you've pre-marketed that capacity and how you plan to bring it online once construction is complete. Do you anticipate phasing in that production or do you have demand or anticipate demand to take all of it? Thank you.

So thanks for the question, Ross. I talked about in my opening remarks about what we feel is a temporary imbalance between supply and demand in the industry. But the reality is at AIR, we're actually short product. So we've managed our supply, demand imbalance. If we didn't bring on M3 and the adult use stores came in, it would in fact eat into our wholesale revenues because we wouldn't have enough supply. In Pennsylvania, we are short supply with nine stores in the state and looking at the potential in 2023 of adult use. In Florida, today, we don't have enough product. We're building capacity and efficiencies to supply the increases we are achieving in the retail opening. So, yes, we talk about a temporary supply and demand imbalance in the industry because you have to build supply ahead of the catalyst, which is adult use happening in several of our states, in five out of eight states that we're in. We have managed that supply and demand very carefully so that we can maintain the pricing on our premium brands. Why spend the money and time building brands to simply discount them as soon as you build them? And when I talk about the new brands we've built and delaying by several weeks selling those brands that we built as premium as discounted brands in the fourth quarter by simply moving them out in a few weeks, AIR achieves higher revenue, higher EBITDA, But most importantly, for the long term, we maintain the franchise value in those brands that we've worked so hard to create.

Great. Maybe if I can move on to Ohio. I think this is one of your more overlooked markets, but you've got multiple legalization efforts underway and a bill that would expand the medical program substantially. I'm just wondering, is this market becoming more of a priority? You've been active on M&A in Illinois, but on Ohio, just wondering what the opportunities are there. If you can speak to your participation in the licensing round and or what you're seeing on the M&A front given this market's potential growth.

So I'll start off, and then Jen can add some comments. Ohio, while we always had high expectation for this state, and it was 11 million people, was a conservative state in terms of its regulatory restrictions. That has changed recently, and it has changed rapidly. The per square foot that's going to be permissible in cultivation is expected to increase. We've seen this in many medical markets. They start off conservatively, and when they add chronic pain as one of the ailments, then the market tends to really increase in size. Yes, we are participating in the licensing round because we've always said we will be vertical in every state we participate because we care about the quality of the products we put in our box, and we can only ensure that to the consumer when we control the entire process. Jen?

Yeah, I think John hit on most of the things that I was going to highlight. We've always thought it's going to be a great state, but a little bit slower. I mean, it's the same population as Pennsylvania, essentially. And as the legislature becomes more open to cannabis, things may move faster. So 100% participating in some of the conversations with the legislature, very involved as one of the few Tier 1 cultivation license holders. So it's definitely a state we're focused on. And as you allude to, Russ, it may move faster than previously expected, which is great.

Excellent. Thanks for the call. I'll get back in the queue.

Our next question comes from Matt Bottomley of Canaccord Genuity. Please go ahead.

Good morning, everyone. Thanks for all of the color and commentary this morning. Just wanted to go back to one of the comments and questions that Matt had a couple comments ago just on the revenue guidance of $800 million. Just looking at your run rate exiting the year using your Q4 guidance is about $420 million or somewhere around there. So I'm just curious if we can get any more commentary on elements within your forecast that maybe are independent of your own execution or are near control. So when New Jersey ultimately turns online, the first sales out of your Massachusetts adult use store, just things that might be more material to the assumptions that go into that $800 million versus what's open and operating already today.

So the biggest drivers in our 2022 have always been Our cultivation pipelines coming online, you know, according to our timeframe, which we've discussed. The turning on of adult use in Massachusetts and Pennsylvania, which Q1. Sorry, I said Massachusetts and Pennsylvania. I meant Massachusetts and New Jersey. Sorry. In Massachusetts and New Jersey. In Massachusetts, our timeframes are two stores in Q1, as we've talked about many, many times. There's no change to that. And this third store is a little bit more uncertain up in the air in Somerville, as I think every analyst on this call has had a conversation with us about. So there's really no change to our expectations in Massachusetts. And in New Jersey, we still expect to be sometime early in Q2 with respect to adult use. Brad, did you want to add something?

I want to add something. While Jen's talking about the third store, that store has a run rate as a medical store of $20 million. So versus most adult-use stores in this state, it's outperforming as a medical store versus their adult-use stores. And versus adult-use stores around the United States, a $20 million run rate is superior. So I am less concerned about the third store because of its absolute performance The big kick here is the Boylston store and the Watertown stores.

Okay, great. That's all very great details. And then just my second question here, just sort of more, you know, from the philosophy of management here when it comes to M&A. So clearly, you know, you have a very attractive portfolio here and materially different from where you were a year ago. So just in terms of, you know, spending time focusing on integrating and growing what you have versus, you know, more M&A opportunities. I'm just curious what we might anticipate from you guys going forward here. Clearly, you've gone deeper in Pennsylvania and then this morning in Illinois. Are you looking to kind of round out where you are already, or are there additional markets in the next quarters or year here that we might expect you to enter?

So what I've always said from day one is that we are going to run the most operationally efficient businesses. And that doesn't necessarily mean to be in every state in the United States. We've always taken a very focused approach on share of wallet. And we've said in the past, 12 states roughly will represent 80 percent of the consumer wallet. And we want to be in those states. So, are there more revenue or, sorry, M&A opportunities within the states we are in today? The answer is in some, yes. Are there more M&A opportunities available in other states since we're only eight states? The answer is yes.

Okay, thanks again, all.

Our next question comes from Andrew Semple of Echelon Capital Markets. Please go ahead.

Morning and congrats on the third quarter results. First question here would just be on the EBITDA margins. You know, you're guiding towards higher sales in Q4, but flat EBITDA sequentially, implying some pressure on the EBITDA margin profile. Just want to get a sense of what's the bigger driver there. Are you seeing any pressure on gross margins given the pricing environment, or is it more on the OPEX side related to the investments you're making into the business?

Yeah, thank you for the question. So looking at the margins, I think it's important to also recognize the contribution from retail and wholesale each of those quarters. So for Q4, our retail contribution is actually increasing. We'll see that as well in Q1. It's not until Q2 and Q3 when our cultivation capacity comes online that you actually have that massive benefit to margin. I think it's important to understand the magnitude of the cultivation capacity. So Jason mentioned going from 100,000 pounds to 300,000, and that really drives margins for the business.

Right. So just to clarify there, it's your retail stores running ahead of the cultivation capacity coming online.

Correct. And having to buy in the wholesale market instead of being vertically integrated. Gotcha.

Great. That's helpful. Second question here, you know, appreciated the color and the prepared remarks on the supply chain challenges, you know, impacting the CapEx projects underway. Just wondering if there's any of the facility build-outs in particular that have seen setbacks, or are you generally experiencing this across all of your CapEx projects underway?

I would say it's a little bit across the board. It's not as if there's one project that's materially delayed, and as we said, we really do look to build cushion into these projects. And it's just as everyone in the country and everyone in the world has experienced, you know, there are just things that push things back a month, a month, a month, and then, you know, at some point you get to the end of your cushion. And so we wanted to just let people know where we were and the expectation change.

Understood. Appreciate the color. Thanks for taking my questions.

Our next question comes from Scott Fortune of Roth Capital Partners. Please go ahead.

Good morning. Thanks for the questions. You mentioned New Jersey is a key state. Can you provide a little color? I know you have coming on board to Q22 here, but for that market kind of sell through currently of the product with the three stores currently in place and the mix of wholesale and And then how do you, are you starting to build inventory ahead of adult use? How, how can we look at that in New Jersey with Seltree currently with wholesale coming on board more in QT20 here?

Yeah. So in terms of our, our mix today, we do not currently have a wholesale business in New Jersey. It's 100% feeding our stores and we're going to have that temporary period where we're gonna have to buy in the market. until our cultivation capacity comes online when REC first starts. So until that happens, we're not going to have a wholesale business until that cultivation capacity comes online, which is Q2.

Okay, I appreciate that. And then looking at west, the western states in Arizona, we've seen a lot of pricing pressures there. What are you seeing from Nevada, the volume and transactions? Are those holding up despite the pricing? How do you guys kind of look at those markets kind of going into 4Q and 1Q here as a softness of pricing is more transitory here. Just kind of more color on the volume and transaction sizes thing from that standpoint.

Sure, sure. In Nevada, we're a net buyer because our retail stores are so productive. So we see both sides of that and our Nevada business continues to be just such an engine for us overall. So I would say we're, you know, our Nevada business has, you know, is a perfect example of that balance that John mentioned earlier where, you know, we have both the capability to go into the wholesale market and sell in wholesale if that's a better option for our capacity. And that capacity, by the way, is going to increase very shortly materially by adding Tahoe Hydro, which should close you know, beginning, we think, early next year. So that's great and only increases our flexibility. And we can go into our retail market as well, which is, as you know, excellent, excellent, excellent Nevada.

So I want to add to that. The Nevada question is an interesting question, right? So we talk about quality flour in every market we participate is a price mitigate because price quality sells at a premium, right? So when you think about what we sell into the wholesale market when we sell our flour, we sell our kind flour, which trades today at about a 25% premium to the current market, wholesale market. So again, we grow quality, we sell it at a premium. That's our wholesale business there, okay, when it comes to flour. Tahoe Hydro, the acquisition that we made, is considered one or the premium flour in this state, which consistently sells at a premium. I'll say it one more time. Premium is a price mitigant. Premium quality trades at a premium price. And now in Arizona, we introduced kind flour. And that also today, in a very competitive market, is selling at a premium to the current wholesale prices.

Thanks for the call.

Once again, if you have a question, please press star then 1. Our next question comes from Howard Penny of Hedgeye. Please go ahead.

Thank you very much for the question. I wanted to play devil's advocate for a second on your guidance. I think if I understood it correctly for the 2022 GNA leverage, I'm making the assumption that the investments that you're making, which are necessary to this year, you get leverage in 2022, but you also have $200 million or thereabouts of cash on the balance sheets, which means you're going to continue to invest in the business and geographic expansion, which also suggests further investments in the business. So I just, maybe you can run through sort of the future growth of the company expansion in future states and leverage with G&A, knowing that you need to make, continue to make investments in the business to grow the business. Thanks. I don't know if I said that correctly, but anyway.

Yeah, we certainly expect to be investing in the business going forward in, you know, in, what we generally think of as footprint, which means M&A expansion and capital projects. So that's deepening our presence in existing markets. It means expanding to new markets that we find attractive. So all of those investments in the business will absolutely have returns. And so that's why when we suggested that when we widened our band for our EBITDA guidance for 2022, That's why we said, while we want to be measured and prudent, we also see a very achievable path to the 300 that we had previously guided to.

Howard, it's John. I'm not sure I understand your question, but I'm going to try to answer it.

Go ahead. This is a bigger picture question. You grew from three states to eight states in 2021. You're going to grow probably three more states in 2022, and those states will require further investment. Yet you're guiding to leverage on the G&A line. So I'm trying to balance the investments required in a business, the growth in geographic, and the guidance for leverage on the G&A line. Does that clarify?

Yeah. So, Howard, the assets that we have today, we've talked about the CapEx, and that's in the range of 250 to 300, right? If your question is, hey, John, you have all this cash on your balance sheet, you've just told the group that you're going to be in more states, how are you not including that in your EBITDA going forward? Well, that's just not the way we forecast. If the question is, will you be in more states, obviously we've stated yes. Do we have the capital to do it? Yes. Will that drive EBITDA in the future? We like to think that we buy things at good prices that are going to create shareholder value, so the answer is yes also. And of course, if it's something we haven't signed or already agreed to buy, we're not going to include it in the EBITDA at this point. But there should be an expectation that we will grow our footprint in 22.

Thanks for letting me in. Appreciate it.

This concludes today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.