Cresco Labs Inc.
Q3 2021 Earnings Call Transcript

Published: 11 Nov 2021

[Operator:]

Welcome to the Cresco Labs, state quota 2021 earnings conference. Call. My name is Hannah and I'll be your operator today. Before handing over to the team, I would like to remind you there is an opportunity to ask questions and if you do wish to ask a question in today's call . I will now hand over to Jake Graves to begin today's session.

[Jake Graves:]

Good morning, and welcome to Cresco Labs Third Quarter 2021 earnings conference call. On the call today, we have Chief Executive Officer and Co-Founder, Charlie Bachtell, Chief Financial Officer, Dennis Olis, and Chief Commercial Officer Greg Butler, who will be available for Q&A. Prior to this call, we issued our third quarter earnings press release, which has been filed on SEDAR and is available on our Investor Relations website. Each preliminary results for the third quarter of 2021 are provided prior to the completion of all internal and external review and therefore are subject to adjustment until the filing of the Company's quarterly financial statements. We plan to file our corresponding financial statements and MD&A for the 3, 9 months ended September 30th, 2021 on SEDAR and EDGAR next week. Certain statements made on today's call may contain forward-looking information within the meaning of applicable securities legislation, as well as within the meaning of the Safe Harbor provisions of the U.S Private Securities Litigation Reform Act of 1995. These forward-looking statements may include estimates, projections, goals, forecasts, or assumptions that are based on current expectations and are not representative of historical facts or information. Such forward-looking statements represent the Company's beliefs regarding future events, plans, or objectives, which are inherently uncertain and are subject to a number of risks and uncertainties that may cause our actual results or performance to differ materially from such forward-looking statements, including economic conditions and changes in applicable regulations. Additional information regarding the material factors and assumptions forming the basis for our forward-looking statements and risk factors can be found in our earnings press release and in Cresco Labs filings with SEDAR and with the Securities and Exchange Commission. Cresco Labs does not undertake any duty to publicly announce the results of any revisions to any of its forward-looking statements, or to update or supplement any information provided on today's call. Please also note that all financial information on today's call is presented in U.S. dollars and all interim financial information is unaudited. In addition, during today's conference call, Cresco Labs will refer to certain non-GAAP financial measures such as adjusted EBITDA and adjusted gross margin, which do not have any standardized meaning prescribed by GAAP. Please refer to our earnings press release for the calculation of these measures and the reconciliations to most directly comparable measures calculated and presented in accordance with GAAP. These non-GAAP financial measures should not be considered superior to, as a substitute for, or as an alternative to, and should only be considered in conjunction with the GAAP financial measures presented in our financial statements. With that, I will turn the call over to Charlie.

[Charlie Bachtell:]

Good morning, everybody, and thank you for joining us on the call today. Let me first wish a very happy Veterans Day to all members of military service past and present and their families, including my father. We sincerely thank you for your sacrifice, your bravery, and the example you set for us all. We're very pleased to share our Q3 results, as we followed up a strong first half of the year with an outstanding quarter of substantial margin expansion, integration of accretive M&A to drive market depth, and continued execution as the number 1 wholesaler of branded products in cannabis. The outlook for the industry and for our business has never looked better than it does today, as the U.S. cannabis market is on track for over 40% growth this year and Cresco Labs is set to outpace that growth once again. What has always remained a constant part of the Cresco Labs' story, is having a clear and focused strategy of building the most strategic geographic footprint, obtaining material positions in each state, and emphasizing the middle 2 verticals of the value chain. By adapting a traditional CPG approach to cannabis, we've demonstrated our ability to reach and sustain Number 1 market share positions in large markets and we're poised to repeat that success in multiple key states. As a cultivator, we're regenerating quality, potency, and uniformity at an unprecedented scale. We're delivering the best portfolio of branded products suited to the needs of retail customers and end consumers. Our sophisticated supply planning and analytics show us how to tailor our operations at a localized level. And our highly efficient retail platform meets consumers where they want to be met, feedbacks essential data, and supports our wholesale channel. I'd like to recognize the incredible team of leaders that make up the Cresco Labs family. This team is responsible for our organization, having the number 1 and number 2 market share position in 3 different billion-dollar-plus markets, being the number 1 wholesaler branded cannabis products in the industry for VDSA having the number one best-selling brand of candidates in the industry and generating the highest per store revenue of any scale national retailer. While these achievements helped validate our thesis, they are only possible with an incredible team all working in harmony to execute this strategic playbook, state by state by state. As cannabis markets inevitably evolve, our differentiated approach and ability to execute it, positions us to outcompete in both the near and long-term. Turning to the quarter, revenue in Q3 was $215 million, an increase of $6 million sequentially and 41% year-over-year. With $109 million net wholesale revenue, we remain the number 1 wholesaler of branded cannabis products in the industry. With $106 million of retail revenue from 37 contributing stores, Sunnyside remains the most effective and productive per store retail platform among national retailers. Q3 adjusted gross margin increased to 54%, and adjusted EBITDA increased to $56 million, growing 24% sequentially. As we have conveyed, we're delivering the profitability in operating leverage forecasted from the investments made early in the year, and we're demonstrating responsible growth as we scale. Now let's review the 3 specific ways Cresco Labs is delivering growth and shareholder value in 2021. We remain committed to our plans laid out at the beginning of this year, and we continue to find that our differentiated strategy is working. Number 1

[Dennis Olis:]

Thank you, Charlie, and good morning everyone. I'll begin by reviewing the financial results from the quarter, then highlight a few items from the balance sheet and discuss our capital position. Because of the proximity of the Cultivate transaction close to quarter end, our financials are expected to be filed next week on SEDAR and EDGAR, as we complete the final review of purchase accounting for Cultivate. Turning to our results, we're very pleased to report a strong Q3 during which we produced an $11 million increase to adjusted EBITDA during a quarter where revenue grew by $6 million. After a period of investing in our infrastructure, deepening operations within our footprint, and integrating new assets, we're delivering higher margins as forecasted, and we're demonstrating responsible growth as we scale. Revenue in the third quarter was $215 million, an increase of $6 million quarter-over-quarter, and $62 million year-over-year. Revenue growth was driven by continued execution in Illinois, new store openings in Florida, and a month of Cultivate. This was offset in part by the beginning shift toward own -brand distribution in California, and muted market growth in Pennsylvania after an incredibly strong Q2. Q3 revenue mix was 51% wholesale and 49% retail. Our differentiated focus on the middle 2 verticals of the value chain, once again, resulted in the highest wholesale revenue in the industry at $109 million. Our Sunnyside retail platform generated $106 million of revenue from 37 stores, which continues to make us the most productive per store retailer among top MSOs. Looking ahead, Massachusetts will be a material driver of wholesale revenue growth as we reached full output in the newly expanded Fall River facility and integrate cultivates operations over the coming quarters. We expect to make the first harvest at our new Michigan facility over the coming weeks, which will begin meaningfully contributing to sales in early 2022. Q4 California revenue will include some third-party sales from exited distribution agreements, so Q1 will be the first quarter, fully reflecting the shift to predominantly owned brands. On the retail side, near-term growth drivers include new store openings in Florida, the additions of Cure Penn, Oral Harvest, and Sunnyside stores in Pennsylvania, as well as Blair Wellness stores in Maryland. Given this initiative in both wholesale and retail, and with the expected closing of pending M&A, we reiterate expected Q4 revenue of between $235 to $245 million. Turning to gross profit; in Q3, we generated $117 million or 54% of revenue, excluding the fair value of markup of acquired inventory, a 9% increase quarter-over-quarter. As predicted, gross margins increased as we completed facility expansions in several states, and the costs associated with those facilities were absorbed over a larger revenue base. We expect gross margins to be positively impacted over the coming quarters as we roll off lower margin sales in California, grow Florida operations, increase automation, and achieve greater scale in more of our markets. Third quarter, SG&A expense excluding share-based compensation and non-core items was $65.7 million or 30% of revenue, an improvement from 32% in Q2. The reduction in SG&A dollars, is a result of completing major corporate infrastructure investments and the strongly executed in immigration plan with Bluemont to drive out costs. The increased operating leverage in Q3 is even more impressive considering we absorbed Cultivate SG&A for a full month. Looking ahead as we execute our integration playbook for the next group of transactions, we expect SG&A as a percent of revenue to continue to improve in the fourth quarter and throughout 2022. Adjusted EBITDA for the third quarter was $56 million dollars, a 24% increase from Q2 represented a margin of over 26%. Again, during a quarter when revenue grew by $6 million, we generated an $11 million boost to the bottom line. Contribution to profitability came from gross margin expansion, continued operating leverage improvement, and closing of accretive acquisitions. As we continue to deepen operations across more states, we reiterate expected Q4 adjusted EBITDA margins of 30%. During the quarter, in connection with our exit from third-party distribution agreements in California, we followed applicable accounting rules to evaluate goodwill and other intangibles associated with the Origin House transaction and took a non-cash impairment charge of approximately $290 million. The original transaction valuation was primarily ascribed to third-party distribution business and its customers, and this charge reflects our strategic move towards focusing on more profitable owned brand sales. However, it's important to note a few substantial benefits we have realized from the acquisition in our overall business. The cultivation team and techniques acquired to Origin House lead our cultivation practices across all of our existing facilities nationwide and those forthcoming. We've leveraged the longstanding relationships developed by the continuum distribution team to get our owned brand under 100s of shelves across the state, and the benefits will continue to grow as we expand the Floracal brand across our footprint in the future. We are better positioned to compete in all of our markets because of the organizational capabilities acquired, and those we've developed in the world's largest and most competitive cannabis market. We continue to invest in the organic expansion of our wholesale and retail channels. In the third quarter, CapEx was approximately $26 million, $4 million of which was funded through tenant improvement allowances. With $253 million in cash at the end of Q3, we've put ourselves in a strong position to capitalize on the opportunities in front of us, and deliver growth and shareholder value. Q3 was another outstanding quarter at Cresco Labs and a very strong start to the second half of the year. We replenished our balance sheet with non - dilutive capital, we closed the transformational acquisition in Massachusetts while announcing several new deals, and we made massive improvements in bottom line profitability as infrastructure investments began to bear fruit. Looking forward, we're excited about growing our Florida footprint with multiple new stores opening in our pipeline, launching a robust wholesale business in Michigan, operating additional capacity and opening more Sunnyside stores in Pennsylvania, gearing up for New York adult use, and executing our differentiated strategy to achieve more top market share positions in key states. 2022 is set to be another record year, and we couldn't be more excited of what's to come. Thank you for your time today. I'll now ask the operator to open the line for questions.

[Charlie Bachtell:]

Operator? With us, you'll get the queue open. Operator, we're here, already? everybody, we got some technical difficulties we'll -- bear with us, we'll get this fixed.

[Operator:]

Sorry for the wait their ladies and gentlemen. Our first question today comes from of . Angie please go ahead. Your line is open.

[Unidentified Analyst:]

Hi. Good morning. Thanks for taking my questions and congrats on the strong quarter. Looking at your adjusted EBITDA margins, it's pretty impressive what you've done from Q1 until now. You've reiterated Q4 guidance, which is basically a continuation of that strong margin expansion. I'm wondering if you can provide a little bit more color on the puts and takes there -- you've got a lot of acquisitions contributing, could you maybe talk about which acquisitions you feel could be the most margin accreditive. At the same time dive a little bit deeper into California. What exactly does that do to your margins? You've already adjusted your guidance for revenues accordingly. A little bit more color on that could be helpful. Thank you.

[Greg Butler:]

Sure. I'll be happy to provide that for you. When we look at adjusted EBITDA, we've seen improvements both in gross margin as a percentage of revenue, as well as our managing our SG&A expenses. Some of the key drivers of that; certainly, the move to Florida has been accretive for the Company. The margins that we see in Florida are higher than the average margins across the board, so that has been a very accretive acquisition. We've gotten through most of the integration efforts with that acquisition, so we are seeing the benefits from an SG&A standpoint in addition to the margin uplift that we get from that. Same thing with Massachusetts. In Cultivation deal closed in the quarter, we did have 1 month of SG&A costs in Q3 related to the Cultivate acquisition but we've done quite a bit to increase the -- its synergies between our facility and theirs. Some of the other key drivers, the expansion that we did in -- both in Ohio and Massachusetts. We've talked about that in the first half of the year, that we carried that costs without having revenue to offset that. Now as those 2 investments have started to bear fruit, we're starting to see an uplift in our margins associated with that. As it relates to California, we did see -- California had more of a drop-in revenue in the third quarter than it really had an impact on margins. We'll start to see some of that margin improve in Q4 as we really focus on driving more profitable business across the portfolio and get away from some of the third-party vendors that we have there that were less profitable than the overarching business, where you will see some of that carried forward into Q4 and we'll -- Q1 will be the first quarter where we have the full benefit of the strategy change in California. So, we're excited about the growth that we saw from Q2 to Q3 in adjusted EBITDA. We expect that to carry into Q4. We expect see our gross margins continue to improve sequentially from Q3 to Q4, and we'll continue to manage our SG&A cost effectively.

[Unidentified Analyst:]

Thanks for that additional color and maybe thinking a little bit more about California there, could you give a little bit more color on the reasoning behind the pivot there? And do you see any risk to your own brands? A little bit more color on that could be helpful.

[Charlie Bachtell:]

Thanks, David. This is Charlie. As far as the overall strategic decision there, it was precipitated by not only market dynamics, but the original strategy as it relates to California, to really get our own brands out there. So, you take those two together, the original strategic initiative, along with listening to what the market is telling you and seeing how it's unfolding and making smart strategic decisions, including pivots, is something that we pride ourselves on. As it relates to our own brands, so far we've seen positive response with our ability to capture additional shelf space for our own brands through this pivot. So, excited about the opportunity ahead for us there, and also proud of the team for making the decisions that we've made to really improve the health of the revenue and the strength of the revenue that we're driving out of each of our states.

[Greg Butler:]

Thanks for that. Congrats on the great quarter. And I will get back in the queue.

[Charlie Bachtell:]

Thank you.

[Operator:]

Thank you. As a reminder, Please note questions will be kept to a maximum of one question per person. Our next question comes from Aaron Grey of Alliance Global Partners. Aaron, please go ahead. Your line is open.

[Aaron Grey:]

Hi, good morning, and congrats on the margin improvement in the quarter, it's great to see. to expand a little bit for some of your commentary within Pennsylvania. You mentioned it getting a little bit more competitive, good velocity with your own brands, I'm just curious, as the market potentially gets more competitive if things don't turn around on the overall sales, just curious in -- as you guys as net wholesaler, more people look to sell within their own stores. Do you feel like it might get more competitive on wholesale side? And then obviously with your move to add more retail, that helps kind of insulate you potentially from some pricing pressure. Just curious in terms of your view of potentially adding even more to the retail side to help insulate you guys from being too much exposed to the wholesale side pressure continues in Pennsylvania. Thanks.

[Charlie Bachtell:]

Yeah Aaron, good morning. Thanks for the question. As it relates to PA, yeah I think you laid out some of the rationale in your questions, and we're very proud of the position that we've been able to create there as the number 1 market share from the wholesale perspective in that state and we've done it with only 4 of our own stores. As we've talked about, historically, we and others use retail to support wholesale initiatives. We utilize that in all the markets where we're vertical. So, yes, I think it was -- not only are we bullish on the future for Pennsylvania, even though there is increasing competition, let's not forget, it's a billion-dollar plus medical market that still has adult use in its future. So, proud of the execution, the market position we've been able to gain with a very light touch on retail on that state. We want to make sure that we have all of the assets that we would like to have as that state continues to progress and not only open up for adult use, but definitely it strengthens our competitive position with having more retail in that state too. And then Greg, any additional color? Good. Okay. Yeah it's -- we're really happy with the move that we're making in PA. Sets us up great for today and for long term.

[Aaron Grey:]

Great, thanks for the call. I'll jump back in the queue.

[Charlie Bachtell:]

Thanks Aaron.

[Operator:]

Thank you. Our next question today comes from Vivien Azer of Cowen. Vivien, please go ahead. Your line is open.

[Vivien Azer:]

Good morning. Charlie, I was hoping to pivot back to California, a 2-part question, please. Number 1), you noted that the business was down sequentially. That makes sense as you do prioritize third-party brands. But could you speak to the revenue trends just for your own business quarter-over-quarter, and then number 2, as you free up some margin or perhaps a little bit more margin with this pivot, do you envision having to redeploy some of that margin back into discounting or promotional investments, just given some of the competitive activity you're seeing in the marketplace?.

[Greg Butler:]

So, I want to give you more color on California from an own-brand perspective, as Charlie mentioned before, we're pleased with what we're seeing with our owned brands. Roughly, we now -- within our portfolio have the top -- one of the top selling flower brands in the state. Our combined portfolio of Floracal and high supply have been progressing very well in the state on a quarter-over-quarter basis, and holding and taking share. We're also encouraged with what we've launched in Q3 on our newly expand portfolio where we are now offering the high-end, under a newly launched live resin product with Floracal, which we're very excited about how it's going to move in the market as we get into Q4. And then also flying in the more value segment with our high supply vape. It's had some very strong success going in stores. And then our innovation we've brought to market under our edible’s portfolio with Sours, for example. And the good news it's had a really strong start in . So, from a quarter-over-quarter perspective, we're pleased with how those brands are performing and then also the lineup of how we've strengthened our own portfolio as we head into Q4.

[Dennis Olis:]

And Vivian from a margin perspective, again, our focus is on driving more profitable business, not just in California, but across the entire portfolio. So, with the margin, the third-party margin businesses are small, low single-digit business for us. We'll take some of that money will reinvest it in branding our own products there, but it won't be a material uplift and additional spend in California.

[Vivien Azer:]

Great. Thank you.

[Operator:]

Our next question comes from Camillo Lyon of BTIG. Camillo, please go ahead. Your line is open.

[Camilo Lyon:]

Thanks. Good morning, everyone. 2 questions. Just going back, the first one on Pennsylvania, going back to that topic of state, and clearly there's been a plateauing of demand in that market. Yet it seems like the data that we track, it seems like you saw an increase in that -- in the last month of the quarter. I'm just curious to know what happened, either it's a pretty sharp increase for you and does this portend potential acceleration in demand as we head into 2022. And then the second question I have is on your cash balance, $253 million, very healthy. How would you prioritize the state that you'd plan to deploy that capital in? Is it more on expanding into existing states or are you looking aggressively to enter other East Coast markets that you're not currently in?

[Greg Butler:]

Morning, so, on Pennsylvania, what we're encouraged by when we saw going from Q3 to Q2 is the growth on our Cresco own products. I think you mentioned Cresco liquid live vape has now -- has not -- has continued to grow and holds its position and share. And we're encouraged by that, especially as we get into Q4, as we continue to bring premium flower into the marketplace. So, on the wholesale side, even though the market is roughly flat, on our quarter-over-quarter basis, what we're encouraged by is both the strength of our existing portfolio, and some of the new news that we're bringing into market under our flower side of our business to really help us not only solidify that share in the state, but also grow as we get into Q4. So that's really our focus on how we ensure that we are holding and growing our business in the market.

[Charlie Bachtell:]

And the second part of your question, Camillo, this is Charlie. As far as where we're going to deploy capital, ER Strategies remains the same. We are developing the most strategic footprint that we can, and we're driving to achieve that meaningful material market position. So very happy with the strength of the balance sheet and the cash on hand, it is going to be used to deploy in the states that we're primarily already in to increase capacity and breadth that we have in those markets to achieve that depth that we're always driving for.

[Camilo Lyon:]

Great. Thanks so much and good luck for the rest of the year.

[Operator:]

Thank you. Our next question comes from Owen Bennett of Jefferies. Owen, please go ahead. Your line is open.

[Derrick Wenger:]

Hi. Good morning. This is actually Derick calling in for Owen. Congrats on the quarter. I guess my question really actually revolves around the -- upsizing the credit facility. You're getting the 9.5% on that. It's lower than you were previously paying, but I'm just wondering, going long-term, what are the type of credit metrics that these lenders are looking at when determining these rates? And is it besides federal legalization or lack thereof? And I guess if there is a legalization or Banking Act or some legislation that's passed, do you expect that there's still going to be this type of Cannabis industry risk premium on debt or do you think that lenders are going to provide more type of market cost of debt going forward? Hoping that'd be helpful. Thank you.

[Dennis Olis:]

Yes, thanks Owen -- Derick, this is Dennis. So, as it relates to the current debt facility, we're very happy with the rate that we achieved, the 9.5% non - dilutive generation of cash for us. That's allowing us to make strategic investments in a number of states that Charlie just discussed. As far as the metrics that the bankers look for, it's really looking at the future of the business and where your growth opportunities are and the margin improvement abilities that you have as Company. So, we feel very comfortable with the metrics that are being used in our ability to capitalize that. As you know, we had that -- we just announced a $400 million facility with the option for another $100 million on top of that. So, we feel like we are in a very strong position from a balance sheet to make some strategic acquisitions and you use our -- deploy our cash appropriately to generate shareholder value. As it relates to the banking changes and the potential impact on and so forth, I do believe that there will still be a risk premium for cannabis companies, even post reform. What that is yet to be seen. I think the overall cost of capital will come down as capital markets open up to us and the options that we'll have will continue to increase but I do believe that there will be a slight premium still for the cannabis companies going forward.

[Derrick Wenger:]

Thanks. .

[Operator:]

Thank you. Our next question comes from Matt Mcginley of Needham. Matt, please go ahead. Your line is open.

[Matt Mcginley:]

Yes, thank you. Dennis, you noted that the core G&A dollars were $65.7 million in the third quarter, which looks like it actually declined a little bit from the $66 million you reported in the second quarter, as you noted, that despite having Cultivate G&A, that would have added a little bit to that dollar base in the third quarter. What did you realize savings in the third quarter? And then you noted improvement in that rate into the fourth quarter. But how should dollar growth look from there? It's impressive that you basically kept flat quarter-to-quarter, but I'm not sure what that would look like int the fourth quarter, given you will be growing the business pretty significantly.

[Dennis Olis:]

Yeah, thanks for the question. We did see an improvement in overall spend. That's really been driven by a maniacal focus on cost management, but also really reaping the benefits of the integration efforts that we had with Blommer. We carried a full quarter of cost in Q2. We've done quite a bit to drive some synergies across that business in Florida that's allowed us to actually reduce our overall spend. And again, just -- with some of the automation in some of the investments we've made in people and processes, we're starting to see the benefits of some of that and we're able to reduce some of our third-party outside spend. As relates to Q4 and going forward, we do expect the total absolute dollars to increase as we'll have another 2 months of Cultivate expense in addition to some of the expense related to the acquisitions that we still have planned for Q4.

[Matt Mcginley:]

Okay. Thank you.

[Operator:]

Thank you. Our next question comes from Pablo Zuanic of Cantor Fitzgerald. Pablo, please go ahead, your line is open.

[Pablo Zuanic:]

Charlie, 2 questions. 1

[Charlie Bachtell:]

Thanks, Pablo. As it relates to Illinois and an update on those next store openings; unfortunately, it is in the legal process. I would conservatively say we're looking at back half of next year as to when we would start to see stores opening, of course. Again, when you're involved in litigation, that could be accelerated, it could be delayed. So, I think we're just sort of reasonably and conservatively looking at second half of the year. And yeah, growth between now and then is going to be driven by the same stores. Now keep in mind, some of the 110 -- not even sure if all 110 and are producing revenue at this point, I think it's a 108, but -- so you still have some opportunities from new stores and some that have just opened up in the last 3 to 6 months are still getting their feet underneath them. We'll continue to drive efficiencies. We'll continue to be able to get more juice from the same squeezed from our platform as we increase efficiencies and capabilities. So, there's growth opportunities, but without question, the main catalyst comes from a 185 new stores opening up and we're very excited about when that's going to happen. Greg.

[Greg Butler:]

The two things that add is in advanced of those stores opening on the wholesale side, I think what you're seeing is the strength of our wholesale portfolio. As we continue to strengthen that, that is what's going to help us to do both take share, hold share, and grow our share of shelf. And you've seen it, Cresco right now is the number one brand sold across BDS. We've built nationally. We built in the mid largest Concentrate brands, we're number 1 in many of our markets. I think through that, you should hopefully confidence in as we are building a portfolio of really strong winning brands. So, whether the market is growing or whether the market is slowing, we can take share with those brands. On the retail side, what we're encouraged about with our retail trends is we are still saying -- seeing trip growth and trips driving our store growth. And so, as we look at the health of that market going forward, we are planning to ensure that we continue to drive trips into Sunnyside to drive an overall revenue. And we've proven that with the sequential growth that we've continued to drive out of our Sunnyside footprint and that's how we'll drive growth in advance of the stores opening, which obviously will be another catalyst that will help sustain growth.

[Charlie Bachtell:]

The second part of your question under New York. Yeah, we have been able to get some flower into our stores and not a meaningful amount. Of course, that'll improve and increase as more capacity comes online, it's very limited right now. And as far as our progress that we're making in that state, site identified moving forward, we've got enough information from the state to make us feel comfortable in pursuing the design that we have, which also includes some flexibility to account for any adjustments per expectation that actually get released as it relates like Canopy caps. And we're excited, we'll be ready for Adult-use as soon as that happens. And I think as others have commented, that's likely -- probably the beginning of '23.

[Pablo Zuanic:]

Got it. Thank you.

[Operator:]

Thank you. Our next question comes from Scott Fortune of Growth Capital Partners. Scott, please go ahead. Your line is open.

[Scott Fortune:]

Good morning and thanks for the questions. Following up on that as you look up your CapEx, your expectations here, we know the guidance has stepped up and production is bringing online messages as in Ohio, how should we look at the production ramp as we look into 2022 and the CapEx dollars spend for that going forward?

[Dennis Olis:]

This is Dennis. From a CapEx perspective, we will continue to make investments in Florida, Charlie just done talking about New York that will be at a substantial investment that we'll make in '22 that will bear fruit in 2023. We've got Michigan coming live at the very tail end of this quarter, those are dollars that we've had available to us that are ramping down. But we're going to continue to use -- to spend capital dollars as we rollout new retail stores, as we expand our footprint in Florida, as we build up the Laurel Harvest acquisition in Pennsylvania, so we will continue to go deeper in the states that we're in today to provide more availability of product, work on automation to help drive margins even better than where they are at today, and we'll be strategic in where we use those dollars and make sure that we get the appropriate returns.

[Scott Fortune:]

Thanks for the color.

[Operator:]

Thank you. Our next question comes from Derek Dley of Canaccord Genuity of -- Derek, please go ahead, your line is open.

[Derek Dley:]

Yeah. Thanks. Just following up on that last question, just curious which States within your current footprint are States where you think you can go. Materially deeper, obviously done a great job of adding assets in Pennsylvania and Massachusetts of late. And then secondly, just in terms of the leverage you're expecting to get on your EBITDA margins in Q4 up above 400 basis points, how should we think about that in terms of the split between gross margin and SG&A leverage?

[Dennis Olis:]

Again, this is Dennis. So, from an investment standpoint and capital dollars, we'll continue to invest in the states that I just talked about in Florida and in PA and other states. We'll look to invest perhaps in Maryland. And again, just to go deeper in the states that we're already in, making sure that we're staying active and that we've got appropriate supply as demand comes up. At some point, we we'll have to make some investments in Illinois, perhaps in advance of the additional stores going live. That'll probably be a late 2022 investment that will yield benefits in 2023. As it relates to EBITDA in Q4, we expect it the improvements to come both on the gross margin perspective as again, we continue to wean off some of the third-party California business. And as we go break some of the acquisitions that we've had in Massachusetts and the expanded Florida, those opportunities bear more revenue that will help our overall margin performance on a gross margin perspective. From an EBITDA standpoint, while the total dollars will increase a little bit related to some of the acquisitions as a percentage of revenue, we'll continue to see that percentage drop and will continue to be more efficient as the total spend as a percentage of revenue.

[Derek Dley:]

Okay. Thank you very much.

[Dennis Olis:]

Thank you. Our next question comes from Kenric Tyghe of ATB capital markets. Kenric, please go ahead. Your line is open.

[Kenric Tyghe:]

Thank you. Good morning. I wanted to speak to promotional intensity in how irrational is that to your mind. And then how has that evolved through the fourth quarter and how should we think about that evolution through 2022 and perhaps, if you'd concentrate your comments around some of the states in which that -- it's being grabbing more headlines, I'm thinking Florida, Pennsylvania, perhaps to a lesser extent, Illinois, any insight that'd be really valuable. Thank you.

[Greg Butler:]

Good morning. So, you're absolutely correct. We are seeing some increased price promotions in some of our markets like Florida and Pennsylvania. Our point of view on that is what we've built and what we're continuing to build in the state is what's going to help shield us from what's the come-on pricing. And that's why we have built our brands to make sure that we are continuously driving up on the premium side and offering high-quality that commands higher prices. And also bringing in our value portfolio to ensure that we're insulated against deep discounts need to happen on Premium Brands. In our view, as we've looked across our market, it is managing our portfolio, whether that's through higher-quality innovation or finding value that we can enter, that really is going to defend us around what pricing to come. And we're encouraged by what we're seeing on Florida on how that's working for us and we've got some exciting news in the months ahead, that's going to continue to help strengthen our portfolio in Florida. And in Pennsylvania, as Charlie mentioned earlier, even with all the price activity that's happening, we've continued to hold a really material market share and drive incredible velocity on our Cresco brand without even owning the majority of retail in the state. And so that does show you that we are building a portfolio that enables us to compete and drive growth even despite whether it's short-term price promotion activity that we're seeing right now, whether that continues longer into the future.

[Kenric Tyghe:]

Thank you and congrats on the quarter.

[Greg Butler:]

Thank you.

[Operator:]

Thank you. Our next question comes from Andrew Semple of Echelon Capital Markets. Andrew, please go ahead. Your line is open.

[Andrew Stemco:]

Hi there. Good morning, and congrats on the results. My question is on the wholesale business. Could you elaborate on some of the dynamics between pricing and volume within that segment for the quarter? And then in addressing that, were there any regional differences between volume and pricing factors between Eastern and Midwest markets compared to the western business within your portfolio?

[Greg Butler:]

Hi, and it's Greg. I'll take that one too because I think it's a continuation of our last conversation. So, let me start with your question on regional pricing. Clearly in the West, in California, and we see this in -- Owen 's indicated dataset that we have available, there was both significant price compression in this quarter and there were also some light unit volume declines in this quarter too. And if you think back to Q2, we saw price compression, but we saw total revenue growth because unit volume was up. And so that deep price discounting in western markets has intensified from Q2 to Q3 perspective. Moving east, really the 2 that we were seeing the most price promotion activity is the 2 markets we just discussed, Florida being one and then Pennsylvania being the other, where there has been an increase in price activity over last couple of months. Our point-of-view though is the same as what we discussed before, which is we have to assume that we're going to either in price promo activity or price compression comes in the future, and we have to be ready for that. And that's why we're building our bands in our portfolio to make sure that we have the right portfolio that allows us to compete against price and preimmunize to make sure we're both driving revenue and margin, and that pricing comes. And as Dennis mentioned before, the capital that we're investing in things like automation, that will also help us become a leaner manufacturer. And be able to continue to grow margins, even in a surprise compression. So, we're seeing it. We're planning for it. We have to anticipate whether we see it next quarter or quarters ahead, that it likely will come and we're building our brand portfolio and our manufacturing footprint to make sure that we are very competitive and drive economics for it.

[Andrew Stemco:]

Thank you, Greg. Appreciate the color.

[Operator:]

Thank you, that was asked, final question. I will now hand back to the Cresco Labs management team for any closing remarks.

[Charlie Bachtell:]

You were very brief. Thank you. Thank you very much for your time today. I want to thank the fantastic team here at Cresco Labs for incredible execution and commitment to being nimble in such a dynamic industry. And lastly, thank you to our Veterans and happy Veterans Day. We look forward to talking to everybody, with our Q4 results in the months ahead. Thank you.

[Operator:]

Thank you. Ladies and gentlemen. This concludes today's