KushCo Holdings, Inc.
Q1 2021 Earnings Call Transcript

Published: 12 Jan 2021

Operator:

Greetings, and welcome to the KushCo Holdings Fiscal First Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note this conference is being recorded. I will now turn the conference over to your host, Mr. Najim Mostamand, KushCo’s Director of Investor Relations. Mr. Mostamand, you may begin.
Najim Mostamand:

All right. Thank you, operator. Good afternoon, and welcome to the KushCo Holdings fiscal first quarter 2021 earnings conference call. A replay of this call will be archived on the Investor Relations section of the KushCo Holdings website, ir.kushco.com.
Nicholas Kovacevich:

Thanks, Najim, and thank you all for attending our fiscal first quarter 2021 earnings call. We hope everyone had a wonderful holiday break, and we wish you all a very happy new year. Following a transformational Q4, where we returned to growth and achieved profitability for the first time in more than three years, fiscal Q1 was more of the same results on both the topline and bottom line as we had communicated on our last earnings call. The incremental difference, of course, has been the additional traction we are generating with our top MSO and LP customers, particularly with cross-selling additional SKUs, locking in some more long-term supply contracts and putting ourselves in a position to be the clear choice for all ancillary solutions. But before I can shed light into this progress, I'd like to turn to our financial results for the quarter here on Slide 5 in the supplemental earnings slides, which can be found on the financial results page of our IR website at ir.kushco.com. Starting with revenue, we ended the quarter slightly up from last quarter at $26.8 million of sale. We started the quarter at a slow pace, given we were coming off the end of a fiscal year, but we quickly regained the momentum we had in Q4 during October and November as we secured some key new MSO and regional operator accounts and we expanded business with our current client list. In fact, we were expecting more significant growth in Q1, but like many other importers of goods, we were hit with unexpected and uncontrollable shipping delays due to record-breaking shipments to U.S. ports around the holiday season, which were exacerbated by COVID-19 restrictions. These restrictions have been imposed by local, state and federal agencies and have led to reduced personnel of importers, government staff and others in the supply chain.
Stephen Christoffersen:

Thanks, Nick. We are excited to have developed a strong foundation in these past few quarters to drive continued profitable growth. With some of the early data we are seeing here in Q2, we believe we are in a strong position to gain momentum going into the second half of our fiscal year, which should coincide with several new adult-use programs going live as well as our customers continuing to ramp up the footprint, both organically and inorganically. Looking at our Q1 financial results, I will now turn to Slide 10, which displays the snapshot of our income statement for the quarter. Total net revenue decreased 23% year-over-year, but increased 1% quarter-over-quarter to $26.8 million. As Nick mentioned, we are expecting strong sequential growth in Q1, but faced some shipping-related headwinds in November that pushed out several orders into Q2. Fortunately, we shipped a lot of those orders out in December and have a nice backlog to execute on. On a GAAP basis, gross profit for the first quarter was $5.7 million or 21% GAAP gross margins. As Nick mentioned, gross margins were down this quarter, primarily due to an increase in shipping and tariff charges. Looking ahead, we believe that shipping charges will normalize and we will continue to ship more products on boat, which should help drive stronger margins. As we mentioned on our last call, we believe that 25% GAAP gross margins is a good target for our business given the efficiencies we have established as a result of our 2020 strategic plan. Although we do expect to see some margin compression as we penetrate our larger customers further, we do expect this to be offset somewhat by the introduction of higher margin products, such as our new vape offering, as well as continued efficiencies in our supply chains and plans to further consolidate our warehouse footprint in the coming quarters. As a reminder, we closed on three of our warehouses and subleased another one as part of our 2020 strategic plan to right-size the business and better align it with our larger MSOs, LPs and leading brands. As it stands today, we have five facilities in the U.S. and planned to consolidate our footprint into two large warehouses, one large West Coast facility, and one large East Coast facility. What we have found is that it no longer makes sense to have the warehouses in each major market, given that our customers are moving to 90 and 120-day demand plans, in some instances, transactions are being done not in cash anymore and the fact that there's hardly any difference in the shipping times. For that reason, we have been negotiating with our landlords and expect to complete this consolidation in late fiscal Q2 or Q3. The net result of this consolidation will be that we have better inventory management and we will avoid unnecessary transfer costs between our warehouses, which will help improve our margins, not to mention our facilities costs and our overall cash SG&A. On a non-GAAP basis excluding the impact of the China trade tariffs, gross profit was approximately $5.9 million or 24% of revenue. For a complete reconciliation of GAAP to non-GAAP financial information, please visit the reconciliation table at the end of this presentation or in our fiscal Q1 earnings release. Sales, general, and administrative expense for fiscal Q1 2021 was approximately $8.8 million, which was down from $10.3 million in the prior quarter and $21.1 million compared to Q1 a year-ago. Cash SG&A, which excludes non-cash expenses, such as bad debt, stock-based compensation, depreciation and amortization was $6.5 million, which was down 10% sequentially and more than 55% from fiscal Q1 2020. The big drivers sequentially were reduction in consulting and lower facilities costs. As Nick alluded to, we've done a great job removing non-essential cost out of this business. But we do expect a small uptick in our cash SG&A again, given our investments in our personnel to grow the business. Fortunately, we don't expect this to be a big increase and still believe that we can operate this business efficiently while growing profitably at this current cost structure of around $7 million in cash SG&A for the quarter. Turning to the next item on a GAAP basis, net loss for fiscal Q1 2021 was $4.5 million or negative $0.03 per share, which represents an improvement of the net loss of approximately $7.3 million or negative $0.06 per share in Q4 2020. On a non-GAAP basis, excluding the impact of certain non-recurring charges, our net loss for the quarter was approximately $1.9 million or negative $0.01 per share. And finally, our adjusted EBITDA for the quarter was $0.5 million compared to $1 million in Q4 and negative $6.8 million in Q1 2020. As you can see on Slide 11, this represents our second consecutive quarter of positive adjusted EBITDA. What I think makes this resolve even more impressive is the fact that we had virtually flat revenue and softer margins for the quarter. We expect there to be a stronger growth throughout the remainder of the year and do expect the shipping-related delays to resolve soon. And this should translate into higher revenue and margins and ultimately higher adjusted EBITDA. Our goal is to continue growing this business profitably, and we believe we have set up a nice foundation to do so. Turning now to Slide 12, which provides a snapshot of our balance sheet as of the end of fiscal Q1. Our AR for Q1 increased to $12 million due to the fact that we are generating more credit sales from our top MSOs and LP customers, particularly leading up to our Chinese new year, which starts early next month. This has been offset by our continued success in generating strong collections activity for smaller accounts that we had previously written off. Both of these initiatives have been very encouraging and speak to the overall improvement in AR quality that we are seeing, especially as more of our credit is tied up to the strongest operators who have shown the ability and track record to pay their invoices in full and on time. Moving on, our total inventory as of the end of Q1 was approximately $34.7 million as compared to $28 million as of the end of Q4 and $40 million as of the end of Q1 2019. As expected, we've ramped up our purchases during fiscal Q1 ahead of Chinese new year, and to do our best to avoid supply disruptions caused by the COVID-19 pandemic. The major difference between this year's inventory ramp and the previous year's inventory ramp is that we feel much better about the group of customers that we are earmarking this inventory for. Rather than mostly stock items that were being sold to a wide group of customers last year, our purchases in Q1 were mostly tied to custom projects completed for our top MSOs and LP customers. These are products that have our customers name on it, and we feel a lot better about the sell-through potential of these items. And you can see on the next row in the slide how inventory purchases ahead of Chinese new year affected our cash position for the quarter. We did have to draw on the credit line in Q1 to support these purchases, but are pleased that we are able to sell most of that inventory in just the month of December alone. We continue to believe that our current cash on hand, improving collections activity and line of credit, that we are in a strong financial and liquidity position to achieve our sales goals over the coming quarters. Our cost structure has been right-sized and we can support a high level of revenues with virtually the same operations footprint and headcount that we currently have. Lastly, I want to provide a quick update on our debt refinancing process. As a reminder, we currently have $19 million due at the end of April, 2021. We've been evaluating some term sheets and believe we can execute on an appropriate solution before the note is due, especially given the fact that we are now a profitable business that is more aligned with MSOs and LPs than ever before. With that, I'll turn it back to Nick.
Nicholas Kovacevich:

All right. Thanks, Stephen. Let's turn to our last slide, Slide 14, which covers our guidance and our outlook for the remainder of fiscal 2021. As we touched on in the call, we had our strongest December in company history, generating $14.7 million in revenue, putting us on track to achieve substantial growth in Q2. So four months into the year, and we are sitting at north of $40 million in sales. If we remain completely flat for the next eight months, we would be generating at least $120 million for all of fiscal 2021. For that reason, we are increasing our full fiscal year revenue guidance to be between $130 million and $160 million up from the $120 million to $150 million range we had previously disclosed. This is due to a number of factors. Number one, we are continuing to see outsized growth with our MSO and LP customers as evidenced by our strong December and how we see the rest of the year panning out with some of the large custom projects we have in the pipeline. Number two, we have invested significantly in our sales team, bringing on folks from traditional CPG and other relevant backgrounds to nurture deep relationships with our top customers and to further penetrate our newer prospects. And number three, we are starting to secure a more long-term supply contracts, giving us better visibility into future business and acting like a right of first refusal for all of our products and services. If we are locking in a customer, we are not expecting to win all of their business overnight, but we do expect to have the opportunity to pitch the rest of our business that we currently are not servicing them with, which gives us a great chance to cross-sell and further penetrate these customers. We are still choosing to have a wide range on this guidance, just because of the uncertainty around the pandemic and how it will impact our customers and the markets in which they operate. That being said, we are targeting the midpoint of this full-year guidance range for $145 million in revenue as a base case. Given how our customers are ramping up their cultivation, expanding it to new and existing markets, acquiring competitor and increasingly having the capital markets to fund the next stages of growth, we feel very good about our ability to achieve this goal. Of course, we are hearing some encouraging developments out of Arizona and New Jersey around the rollout of their new adult-use programs. If these programs do have somewhat of an accelerated rollout and can go live in the calendar first half of 2021, then we do believe there is upside to this midpoint where we might be able to achieve upwards of $160 million in sale. And on the EBITDA side, we are reiterating our previous guidance of between $5 million to $7 million for the full fiscal year. Overall, we are excited to have delivered another quarter of profitable growth, despite some of the headwinds that not only impacted our industry, but that impacted the entire global economy. Q2 is shaping up to be a much stronger quarter as we further penetrate the leading MSOs and LPs with supply contracts, higher margin custom projects, and a wider array of our products and solutions through our cross-selling efforts. We believe that as we continue to penetrate these early customers, and as they make up a bigger and bigger portion of our overall business that our growth trajectory will start to mirror their impressive growth numbers. And with that, I'd like to now turn the call over to the operator to begin our Q&A session.
Operator:

Thank you. At this time, we will be conducting a question-and-answer session. And our first question is from Owen Bennett with Jefferies. Please proceed with your question.
Owen Bennett:

Good afternoon, gentlemen…
Nicholas Kovacevich:

Hey, Owen. We are doing well. Thanks. Hope the same for you.
Owen Bennett:

I think I had a couple of questions related to the recent political developments. So first would be on your balance sheet. So do you think where you need to be with regards to being able to fully capitalize on the recent political developments, especially with cash starting to look a bit lower now? And obviously, to this, we saw one of the MSOs do quite a chunky raise on the back of the Georgia runoffs. And I just wanted to know how you are thinking around this and maybe leading to ramp up spending now? And then second is, I guess, very much linked to that first question and giving the – given the growing interest in the space right now, it seems you guys are missing a big opportunity in terms of institutional ownership and not being on NASDAQ. So I just wanted to get the latest around them possible of listing. Thank you.
Nicholas Kovacevich:

Yes. Great questions Owen. I'll go ahead and start…
Stephen Christoffersen:

Nick, I’ll take the first part and do you want to take the second part – yes, go ahead.
Nicholas Kovacevich:

Okay. Go ahead, Stephen. You take the first part, sorry.
Stephen Christoffersen:

Hey, Owen. Thanks for the question. Yes. So just a reminder to everybody out there that this is really kind of our busy season in terms of the balance sheet as we ramp up for the Chinese new year. So we saw just basically a bunch of orders coming in. Q1, you saw the December number that came in as well. So we're happy that we’re able to sort of meet all of the incoming demand and we've also been working very closely with our vendors as well. You can see sort of that payables balance increase. Really that's a function of one of our largest OEM manufacturing partners issuing us sort of credit terms as well that we can tap into. And then we expect certainly in Q2 for that sort of to flip and reverse and come back down and get us into a better liquidity profile. So that's just kind of to be expected for this time of the year.
Nicholas Kovacevich:

Yes. And also, I'll piggyback on that to say that the credit facility we have in place with Monroe is a scalable credit facility. It's a $35 million line with a $15 million accordion. I mean the beauty of our pivot to our new model is we're focused on customers that are much more credit worthy. So we're extending credit terms to the largest MSOs in the marketplace. Our lender has no problem lending against those receivables, and we also know we're collecting on time because as you mentioned, those companies are flushed with cash and hitting the market to tap more cash. So again, it's – the way that we’re able to pivot actually sets us up for the ability to grow and scale our business without the need of equity capital that we've traditionally had to do. We also know that the inventory that we're buying for these elite clients is turning faster than our previous model, where we look to buy a wide range of SKUs and hoped that customers would come and buy them from us. It's not the case providing SKUs specifically curated for our clients and these large MSOs are going to need them on an increasing basis as the market continues to heat up. So again, those are – that is inventory that is – we can borrow against with our lender. So we believe that we can use that credit facility to scale. We do believe that we can leverage our vendors for additional credit terms as Stephen mentioned. And we ultimately believe that we can scale this business significantly higher than where it is today vis-a-vis those mechanisms. But that's not to say that we're not always keeping and I think where we're at right now, we still tell we're significantly undervalued. If you just look at the multiples, you mentioned some of the ancillary companies that are traded on NASDAQ, if you look at our multiple compared to theirs, I mean, we're not even in the same stratosphere. So we'd like to see that get maybe a little bit corrected and obviously the quickest way to do it as you mentioned, Owen. And segwayed into your second question would be to up-list ourselves under NASDAQ. As we said in the past, there's not a lot we can say about our progress there. Everybody is aware though that the exchange is extremely busy given all the activity. So we're working just as you would expect we are. We know the benefit, I mean, again, just look at some of our peers. It wasn't long ago that we traded in line with our generation for years. Honestly, the stocks traded in line. They were fortunate to get the up-listing about a year ago. We unfortunately have struggled to get the up-listing, and look where they are today. So we know the benefit of the up-listing and what it could potentially bring to the stock. So it's certainly a high priority, it’s certainly something that we're very focused on. But unfortunately, as we always say, it's something that is somewhat out of our control. So we're going to ultimately going to be able to control what we can control. And I think we're doing that with our – managing our costs, and then focusing on revenue and growth model that really works as we tune with where the market is going and we see that being the MSOs and LPs.
Owen Bennett:

Thank you, guys. Very helpful.
Nicholas Kovacevich:

Thanks, Owen.
Operator:

Our next question is from Vivien Azer with Cowen. Please proceed with your question.
Vivien Azer:

Hi. Good afternoon.
Nicholas Kovacevich:

Hi, Vivien. Good afternoon.
Stephen Christoffersen:

Hi, Vivien.
Vivien Azer:

So encouraging upward revision to your guidance, given the kind of the lumpy nature of certainly the first half. I was wondering whether either of you is going to comment on consensus revenue expectations for fiscal 2Q, which are hovering at around $32 million. Thanks.
Nicholas Kovacevich:

Yes. We feel really good about that number, obviously in light of the near $15 million in December. We specifically did not guide to Q2 because again, we just don't know what the situation with the ports is going to be like. There's been delays. We actually saw – we actually kind of front ran some of that and that in part led to that large December. But we feel very good about $32 million. We're certainly expecting to achieve some number higher than $32 million. But we haven't – we didn't give guidance just because we're keeping it open in light of all the variables. But if you do the math on the year-end guidance, and we did say we feel very good about the midpoint of the range. So call it a $145 million. If we were to do $32 million, let's say that number that you threw out, that would put us just shy of $60 million through the first half of the year, meaning that we would need to achieve $85 million on the back half to hit the midpoint of that range. So I hope that gives you kind of an idea of where we expect to land. That would be a little bit of a big jump from $32 million, but we feel great about being able to beat that number. We just don't want to guide too much higher given the uncertainty.
Vivien Azer:

Sure. That's reasonable. Thanks for the incremental color. That's really helpful. And then in terms of your facility rationalization, your depreciation has come down considerably over the last two quarters, how should we think about that going forward?
Stephen Christoffersen:

Yes. So there is couple of things on depreciation I think are worth calling out. Number one is we re-classed our stainless steel tanks. So in fiscal 2020, we bought about $3 million of stainless steel tanks as part of our initiative there. We re-classed up in COGS. Previously was down in OpEx. So when you're looking at sort of the GAAP gross margins, that did provide, call it a 100 basis point headwind in the GAAP gross margins for the quarter. So we'll be depreciating that there. And then, we'll obviously be ramping up a fair amount of CapEx to get this new large West Coast facility online. So there's going to be some CapEx expenses, mostly around racking, et cetera. But yes, once it's all kind of settled, then we think that probably you get sort of a normalized sort of depreciation run rate here. So…
Vivien Azer:

Okay. So just – if I hear you correctly, there's potential for some sequential growth with the onboarding of the West Coast and then kind of normalized on a go-forward basis?
Stephen Christoffersen:

That's right. Especially over Q2 – our current quarter and next quarter because we're going to – we haven't closed down these other facilities just yet. So we actually are floating some additional facilities. And so as we exit those, most likely Q4 will be kind of like, call it, the clean depreciation quarter, if you think about it that way. And that will be normalized from there.
Vivien Azer:

Perfect. That's really helpful. I will jump back in the queue. Thanks very much.
Nicholas Kovacevich:

Thanks, Vivien.
Stephen Christoffersen:

Thanks, Vivien.
Operator:

Our next question is from Aaron Grey with Alliance Global Partners. Please proceed with your question.
Aaron Grey:

Hey guys. Good evening, and thanks for the questions.
Nicholas Kovacevich:

Thanks for joining, Aaron.
Aaron Grey:

Absolutely. So first one for me. Just wanted to know, could you quantify it all and maybe the impact that you saw from the shipping delays and how much it impacted during the first quarter and might've helped the $14.7 million in December, just so we can get a better kind of normalized rate there? I guess just how material it might've been?
Nicholas Kovacevich:

Yes. I’ll let Stephen jump in, in terms of the margin impact. And then I can talk about the revenue.
Stephen Christoffersen:

Sure. Yes. So from a margin perspective, you're looking probably 200 to 300 basis points on just sort of the inefficiencies around the freight component as well as there's some tariffs in there as well. And then like I mentioned with Vivien, you had the depreciation now landing in COGS for the stainless steel tanks.
Nicholas Kovacevich:

Yes. And then in terms of revenue, Aaron, we believe that that was somewhere between $2 million and $3 million, that probably moved into December from November. We're keeping our eye on it because things are still backed up. I mean I was out in Huntington Beach yesterday – on Sunday, surfing some waves, and there's a huge containership parked right out there right in front. And that was about number 25 or 28 in the long line of containerships waiting to get into the Long Beach port. So the situation is not resolved whatsoever. But we do expect it to resolve post Chinese new year. So think about all the goods getting out of China really by the end of January. And then no ships leaving during the first two to three weeks of February due to that holiday. And by the time those ships arrive in mid-to-late February, they should be able to clear them out. And I would say have sort of a fresh start in March. So we're just still being a little bit mindful of the impact of revenue and we're doing in margin too, because we're going to be a little bit overly cautious. A lot of these contracts that we mentioned are very positive, but they do come with commitments on our end to ensure product comes on time. So we sometimes have to be a little overly cautious in air freight, some of the stuff typically vape, which isn't too expensive to air ship compared to boat ship. Although we prefer to boat ship, we're going to on the air side – air on the side of caution and air freight just to ensure that we're getting these goods here on time. So there's a bit of moving parts there. We don't think it's a huge number that's moving from one period to the other. And everything does seem to be in line. And as we mentioned, there's a little bit more lumpiness to our business as well.
Aaron Grey:

All right. Great. Thanks. That's super helpful. Second question is going to be just regarding your guys customer base. You talked about tracking alongside some of the explosive growth you're seeing from some of your customers. More recently when you talked about your customer rationalization you had a few quarters ago, you've been talking more about kind of the core 100 customers. So just curious to see how that's been evolving for you guys as you continue to work more and more with the larger players in the space? Do you believe that over time that kind of core customer kind of rationalizes further for maybe I think the top 100 to more like a top 50, just as you might start to see different growth rates and demand from the customers you're seeing from maybe like a top 20 or 50 compared to thinking about it from the top 100 as that looks to be about 90% of your revenues now? Thanks.
Nicholas Kovacevich:

Yes. Great question. And our top 100 is continuing to improve. There's some folks that were in that group that have been since kicked out of that group as we've garnered new larger clients that have moved into that group, but there's a different story as you're alluding to around really probably a more concentrated group. And I don't even think it's 50. I think we're probably talking about 20 customers that are going to be driving two thirds of our revenue at some point. We'll look into it. We'll look at kind of potentially breaking that out. But yes, a lot of our revenue is getting driven by the largest of the large operators, which is no surprise as you guys see the numbers and the growth from some of these truly elite MSOs. So those will be – making up a bigger and bigger portion of our revenue when it comes to that top 100, and then the top 100 as you've seen, as they're making up a bigger and bigger portion of our total revenue, but I don't expect it to get too much larger than 90%. I think that's kind of where it should be. And then the next door is going to be as we've mentioned, what's the top 10 or top 20 driving out of that quarterly revenue. And we'll take a deeper dive, but I can say anecdotally that's certainly growing. The top 20 customers are producing more and more revenue of our total revenue for KushCo.
Aaron Grey:

Fantastic. Thanks for that color and I'll pass it along.
Nicholas Kovacevich:

Thank you, Aaron.
Operator:

And our next question is from Bobby Burleson with Canaccord. Please proceed with your question.
Robert Burleson:

Hey guys. Thanks for taking the questions. So just curious on California, you talked about things starting to turn around for you there. Can you kind of break out how much of that is stabilization in the vape side of the business? Or what is behind that dynamic on a product basis?
Nicholas Kovacevich:

Yes. It's actually a packaging. We're getting a lot of traction with our glass jars, which is something that is a much lower average selling price than vape per se. California is still a very price sensitive market, so we do see more competition when it comes to vape. The operators here for the most part aren't at the large enough scale where they need a reliable supply chain partner like Kush and CCELL to survive. They are in a situation where they can make a decision to lower their costs and drive bottom line improvement, even if it means more headache in the short-term, and they're not at that scale where they're worried that they're not going to have these other carts or whatever vapes are they're using available to them, which would be the case for a large MSO that's relying on hundreds of thousands to millions of units a month, right. So we're seeing that dynamic in California, which is why that the sales growth hasn't been there, but we've replaced a lot of the vape revenue that we had prepaid crisis with a packaging revenue, which is great. It's higher margin, sticky. So we like that. But the thing that's really holding us back still in California is the ability to extend credit terms. Obviously there's exceptions, right? But still the broad market is not as credit worthy as we want to underwrite to. And the public companies are getting more and more financing. We're seeing that. The private markets are still extremely tough, try raising money right now for a cannabis brand that's doing $20 million in topline and breakeven on the bottom line. You're going to be hard pressed to find more than a couple million dollars from friends and family. So that dynamic is still in play in California. And so we've been less aggressive in extending terms and we have some clients that haven't been able to pay us in a timely fashion. We're working with them. They're paying us, but they are getting a little bit behind. And when they get behind, we don't further extend them product, which is something we did in the past and got us into trouble. So we're being much smarter and that's really kind of what's hampering our growth in California, and we expect the real growth to come when the MSO start taking a more significant presence, which we know will happen in the next one to two years. The MSOs have to be in California. Some of them are already coming in, but we're going to see more heavy investment from MSOs and that's when we'll see our California revenue really tick up.
Robert Burleson:

Okay. Great. And you took up your revenue guidance, but you left your EBITDA guidance where it was. Curious, what kind of mix, you talked about three main drivers there, right? Your concentration in MSO and LP, large customers there. You talked about some custom packaging projects. There was a third driver that slips out of my mind here. Got it in my notes. But just curious, in terms of the mix there, what might drive the EBITDA up to the high-end of the range or maybe comp you to take the EBITDA guidance up?
Nicholas Kovacevich:

Yes. I forget the ones you just said, Stephen, do you know, something was missing there.
Stephen Christoffersen:

In terms of our…
Nicholas Kovacevich:

Our margin drivers.
Stephen Christoffersen:

Yes.
Nicholas Kovacevich:

I mean, within the vape category, the pods we called out, the custom packaging products. And I think we mentioned…
Stephen Christoffersen:

The long-term supply agreement was the third one.
Nicholas Kovacevich:

Yes, yes. Long-term supply agreement. So I think when we think about margin, obviously, those are things that we think are positive. On the flip side, we're also factoring in what's currently happening in freight, as we mentioned, two to three margin points that we estimate gone from Q1 due to this freight issue. So I think that's what's – until we see that clear out, I think we want to be a little bit more hesitant that we were going to reevaluate obviously top and bottom line guidance at the end of next quarter. So hopefully we're on a good track there and we can make an adjustment, but we feel good about $5 million to $7 million in light of these variables. And so we want to be cautious. We're also – we didn't know how long it would take to do the warehouse, further optimization of the warehouse. We're looking to accelerate that a little bit. We're trying to close down the two facilities by the end of this month. There's some negotiations that need to be had, et cetera. So there's some moving parts. And I think when we get to the end of Q2, I think we'll have a better visibility on the EBITDA for the year, and if we want to make any changes to that number. But as of now, we still feel very good about the $5 million to $7 million range.
Robert Burleson:

Okay. Great. And then you talked about kind of a pro forma gross margin, if you stripped out the shipping headwinds in Q1 of about, I think 24%, you guys reported a 21%, and you think normalized is 25%. So it sounds like we're on a path to get towards that normalized at some point. Is it kind of a linear path or more of a step function? How quickly do you think split the difference maybe between 21% and 25% along the way? How does that trajectory look to you guys?
Nicholas Kovacevich:

Yes. I think – go ahead, Stephen. Sorry, go ahead.
Stephen Christoffersen:

Yes. Sorry. So from a GAAP gross margin perspective, like I mentioned, so I think, we are going to get more efficient with our overall sort of the indirect costs that are sitting up in COGS as it relates to our facilities that are currently in there today that they obviously will go away after we exit some of these facilities and get to our large East Coast and large West Coast facility. So we expect the facilities cost embedded in the COGS to come down. We talked about the 100 basis point sort of headwind in the GAAP gross margins related to the reclassification of the tanks in the COGS. So I think we get to our – kind of like I mentioned earlier, our steady state gross margin profile by Q4. So if we're sitting here in the middle of Q2, I really expect by, call it, the end of May – April, May timeframe for gross margins just to continue to get better. And so I think Q4 would be a sort of a good target for the business to kind of hit that steady state.
Robert Burleson:

Okay. Great. All right. Thanks guys.
Nicholas Kovacevich:

Thanks Bobby. Appreciate it.
Stephen Christoffersen:

Thanks Bobby.
Operator:

And our next question is from Scott Fortune with ROTH Capital Partners. Please proceed with your question.
Scott Fortune:

Good afternoon. Thanks for the questions. Real quick, you mentioned disciplined growth, where is kind of sales ramping up from the employee side to bolster that growth, kind of, are you looking at new initiatives or kind of fill in the ramp or providing extra resources for the growth initiatives in place? Just kind of step me through kind of what you're looking at from a disciplined growth side of things?
Nicholas Kovacevich:

Yes. I mean, number one, the nice thing about our strategic pivot to focus on the MSOs is they're going to buy more stuff as they grow and that typically doesn't require a ton more resources. So we know that's a benefit with our model. But we're still going to also add some resources. We are going to hire some additional sales and support folks on that side of the business. We're obviously able to reduce some staff with the closure of these warehouses. So there's a little bit of a give and take there. But yes, we do plan to add some incremental headcount, which is why we've said, we don't think the $6.5 million in cash SG&A is specifically where we're going to be going forward. We like the $7 million number kind of around that range. So we do plan to add a little bit more incremental resources as we onboard new clients which we have been, and as we expand the business with them, we need to give them more attention on that front. So that will help with the growth also new product launches. That's also a key. We've got custom projects that have been in the pipeline, that are – some have recently hit the market. We have a big pipeline behind that of projects that will hit the market. We've developed some of our own products, what we call new product innovation that's going to be hitting the market. And then our partner CCELL, as we mentioned, we've been gaining traction with some of the new pod systems that have recently hit the market. They're also innovating. We just launched the new fully stainless steel vape cart 510 thread, which is becoming more and more important as states are ramping up their testing requirements. So we just think that the innovation coming out of CCELL who's parent company, I think last we spoke was $25 billion. They were now worth $50 billion. So, they've got plenty of reasons to continue to innovate and bring best-in-class products to the market and where their sales arm here in the U.S. So, as they do the R&D and bring these products to market, we're going to benefit by getting them into our client's hands and getting them into the marketplace here in North America.
Scott Fortune:

Okay. I appreciate the color. And just real quick follow-up on the – you have four long-term supply contracts, you’re looking to move those up. What type of cross-selling success are you seeing kind of offering deeper offerings there? Are these contracts adding more of the customized services? Is that kind of what we expect as you get longer-term supply contracts in place here?
Nicholas Kovacevich:

Yes. Exactly. I think the – anytime we're going to go through the process, and it's not easy, which is why we're so well-suited to win this business because we spent a lot of time in getting good at this process of bringing a custom product to market. It requires a lot of resources and it's a commitment. And so we do require a contract to go alongside. That's why you're seeing these contracts come in and we expect more to come in the future. So that's good also, as I mentioned, innovation, whether it's with CCELL, whether it's with our stainless steel tanks, we're able to leverage those to pair up contracts as well. So the contracts are great and then we're seeing from a logistics standpoint, folks looking to consolidate their vendors, people are just getting smarter, right? There's MSOs that – I mean, even to this day, haven't centralized all of their purchasing. I mean they're not getting the benefits of the scale that they have as a consolidated organization. They've acquired companies. Those companies have kept purchasing these products in whatever fashion they were doing prior to the consolidation and now management teams after going through couple of years just expanding every market they could, now they're starting to really put together how does this becomes more efficient. And it's through centralized buying, it’s through centralizing your vendors and leveraging the vendors that you have to do more with them. So that plays directly to our advantage. And that's what we've really set up to be able to do and to manage the logistics. If it's hard for us to get products to our clients on time, given what's happening with the freight globally right now, can you imagine the MSOs or large operators that have taken this on themselves and “buying direct” they're rethinking that strategy. So this is a perfect opportunity for us to show our value and why you would partner with us because we help manage those logistics on the backend. And storage, these companies are expanding like crazy. If they have a warehouse – if you have a warehouse for cultivation right now in a state like Illinois, would you want to dedicate 10 square feet, well alone 3,000 square feet for your packaging? No. Of course, not. You want to maximize your cultivation because you're selling every single ounce of cannabis you can produce. That's where we come in, right? We can store these products for our clients at our various warehouses, and we'll have our two main hubs and we'll have everything they need, and then we can just ship it to whatever facility they ask within one to two days anywhere in the country. So all of these reasons people are looking to expand the business they're doing with us. It just makes their lives easier. They're saving money. And we’re doing a great job on the quality front, something, again, that our competition has yet to invest in is quality when it comes to packaging, and that's becoming a bigger and bigger focus point for the larger MSOs as they are getting to the point where really they have the market caps that they should be a little bit more defensive when it comes to liability and packaging quality is an important point to that.
Scott Fortune:

Thanks. Appreciate the detail. I will pass it on.
Nicholas Kovacevich:

All right. Thanks Scott.
Operator:

And our next question is from Greg Gibas with Northland Securities. Please proceed with your question.
Gregory Gibas:

Hey. Good afternoon, Nick and Stephen. Thanks for taking the questions. First, I guess, with respect to the international shipment delays, which products or segments were most impacted by that? And Nick, you mentioned $2 million to $3 million in revenue being pushed to fiscal Q2 from those shipment delays, do you expect any revenue in fiscal Q2 to be pushed to Q3 as a result of that disruption?
Nicholas Kovacevich:

Yes. Great question. So in terms of the products, we can air freight vape products fairly cost-effectively, we've historically done that. We've been trying to do more boat shipments just to maximize margins. However, in this environment we've gone back to air-freighting, which has led to the decrease in margin that we talked about. But we've been able to get those products over here. When it comes to packaging, we can't go down the road that we once did of air-freighting blast charges, it’s just far too expensive. So that's where the bigger impact is. And it's also pushing clients. The net positive of this is as we and other suppliers cannot guarantee stock inventory on certain items at all times, then we have the opportunity to tell our clients, hey, moving into a custom solution or moving into a contract, we'll guarantee your product. I mean we're seeing people opt in for that. So that's actually a little bit of a positive coming from this negative situation. So to answer your question, it's more of the packaging than it is the vape. We buy all of our butane and ethanol state side. So that's not been impacted at all. And then the second part of your question was regarding the revenue. And we don't know, is a short answer. I gave the outline of the Chinese new year. We believe that should give the port sufficient time to move through the backlog. And we also hope – we're also hopeful like many that COVID-19 pandemic will start to improve in the coming months because we're pretty much at the worst that it's ever been here in California. So if we're lucky, no, right? We should be able to capture the vast majority. But we also want to be cautious and prepare for potentially some of that revenue to slip.
Gregory Gibas:

Sure. That makes sense. Appreciate the help there. Nice to see the new MSO addition to in the quarter. If I could just kind of follow-up on a previous question, just wondering if you could update us on how those conversations, I guess, with the leading brands and operators that you don't do business with right now, how those conversations are going, and just do you see a lot of room, I guess, for more of those top MSO customer additions in the upcoming quarters?
Nicholas Kovacevich:

We do. Because for us, even though we're doing business with a lot of the MSOs, the vast majority, I would say, virtually almost all of them in some capacity, some of the business is very small. So we've got the – it's almost like a new client because we really don't have anything meaningful with several MSOs that we can really expand with. So yes, there's lots of opportunity. We know that there's going to be more MSOs. I mean, there's some private companies that are going public. There's more capital that's coming into this space. We're seeing now SPAC deals getting completed, which are creating either large regional operators or MSO like operators. So we expect there's going to be plenty of room to run there. And then of course, the big of the big are only going get bigger. So that's a great sign for the ones that we're super locked in with.
Gregory Gibas:

Got it. Great point. Thanks guys.
Nicholas Kovacevich:

All right. Thank you.
Operator:

And we have reached the end of our question-and-answer session. I'll now turn the call back over to Nick for any closing remarks.
Nicholas Kovacevich:

All right. Well, thank you, everyone. We appreciate all the great questions as always. And thank you for tuning in to hear the company updates. We're very pleased with Q1. We're extremely pleased with our record December to start Q2. It was significantly more revenue than we've seen in previous Decembers. And so we feel very good that the momentum is behind us. The wind is at our sales, so to speak. We also feel good that we're executing on our plan. We're collecting from our clients, obviously with our early clients, they're paying their bills. But we're even collecting from some of the stuff that we've written off. And I believe we've collected $1.3 million from stuff that we've written off since May. So that's a great sign and we expect to continue to do that. We've actually ramped up our legal efforts and we're going after folks to collect money that's owed to us and we believe we will. So that feels good. And we know we have the ability to continue growing this business with the capital we have at hand, the credit facility that's available to us. And we do have some debt due in April. And so as Stephen mentioned, we're in the market right now, speaking with folks and looking for ways to solve that to extend it, to refinance it. And our main motive there is really to minimize the dilution. There's multiple ways that we can obviously deal with this debt. But we're mindful of where the stock as we think we're significantly undervalued today. I mean, just look at our peers, the multiples that they're getting, and there's ancillary peers now to point to whether it's Hydrofarm or GrowGeneration or Greenlane, that's publicly traded and the multiples that they're getting are significantly higher than what we're getting. So we want to be mindful of the fact that we're trading where we are. Anything we do is highly diluted at these levels. So we want to minimize the impact that we have in terms of equity dilution. But of course, we're going to solve this and we have several ways in which we can attack it, all of which we're evaluating now and have things that we can move on very quickly. We're not going to – we're not planning to get up against the gun on this debt that's due. So with that, last time we spoke, just changing gears, wanted to kind of circle back to the election. We talked and there is a lot of uncertainty. None of us could have predicted what has transpired on the political stage in these last few months. Yet, one thing that does not remain uncertain is the resounding support our industry continues to receive from the American people and from – in a lot of cases now are elected leaders. We've seen five new states recently legalized adult-use marijuana. We're seeing New York publicly say that they're going to legalize. We're seeing governors from other states, specifically in the Northeast, all talking about legalizing marijuana. And what's important is there's also red states that have legalized are talking about legalizing cannabis too. So there's tremendous momentum behind our industry that accelerated even further with the Georgia Senate races, where we saw the two candidates that fully support legalizing marijuana, win their runoff races and give control of the Senate to the Democratic Party effectively through the Tiebreaker vote, Vice President, Kamala Harris. So we expect a lot of progression at the federal level, which is going to lead to more capital markets activity, which means the companies that we support are only going to get stronger and grow faster, which is incredible. And we're hoping that through the federal initiatives, we can also see more social equity granted to our industry because we do believe it's the right thing. Now while all this is definitely exciting, we're also proud to be part of this historic moment. But we do acknowledge that these milestones will still take several years at the earliest. Until then, we're very encouraged to continue our strategy of digging deeper with the top MSO customers that we're working with. And also expanding with MSO customers that we're not doing as much with today and be able to ride the growth that we know they're going to continue to have. They'll have the sandbox to themselves for at least a few more years. So nothing is really going to change on the ground. And this just further strengthens our position as one of the leading providers of ancillary solutions to this elite customer group. Their continued success validates our strategy to focus on lean MSOs and LP operators, and should only help drive stronger profitable growth for KushCo in years to come, especially since our business does not require significant CapEx and is already well equipped to service these types of larger customers once more states legalize and rollout these adult-use and medical cannabis programs. Overall, these truly are exciting times, but we believe the real fun is yet to happen. We have a lot more innings left in the game despite recently celebrating our 10-year anniversary as a company. And of course, I thank all of you for following and for choosing KushCo as your play on this great and unprecedented industry opportunity. Thank you all again for listening. We look forward to updating you on our next earnings call, until then take care and be safe.
Operator:

Thank you, ladies and gentlemen. This concludes today's conference call. You may now disconnect.

KushCo Holdings, Inc. Q1 2021 Earnings Call Transcript

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KushCo Holdings, Inc.
Q1 2021 Earnings Call Transcript