Edited Transcript of HARV.CD earnings conference call or presentation 11-Aug-20 9:00pm GMT

I’ll now turn the call over to Steve White, Harvest’s Founder and Chief Executive Officer. Please go ahead.

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [3]

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Thank you, Christine. Good afternoon, everyone, and thank you for joining us. I appreciate your continued support and interest in Harvest and the opportunity to provide you with an update on our organization. Today, I’m very pleased to be able to report continued progress towards reaching our goal to return to profitability. Second quarter results exceeded expectations. Revenue was up significantly. We quickly and meaningfully reduced cost. Our adjusted EBITDA turned positive earlier than expected, and we haven’t seen a single one of our core markets expand to allow recreational sales yet. But before diving into second quarter results, I’d like to welcome Deborah Keeley to the Executive team as our Chief Financial Officer. I’ll speak more about Deborah a little later. I also want to take a moment to recognize our team’s continued work. 2020 has left an indelible mark on our country and the world, and its profound impacts are likely to persist for quite some time. Despite all the twists and turns presented during this unexpected and unprecedented year, and the continued challenges of operating within a rapidly emerging and yet still federally illegal industry, our team is performing like their work is as it has been designated, essential. And as our second quarter results demonstrate, these ongoing efforts are bearing fruit as we move closer towards our primary organizational goal of returning to profitability. Our people are a valued and critical component of our success and essential to our plan to return to profitability.

Now turning to second quarter results. As I’ve said many times before, Harvest has a plan that we are executing. During this call, I’ll provide an update on our progress and discuss recent developments, including an overview of investments in our core markets, then Deborah will present more detailed financial results and guidance. Overall, I’m pleased to report that our performance is tracking according to and in some cases, ahead of our plan. Improving quarterly trends demonstrate the considerable progress we’ve made over the past few quarters. On an absolute basis, revenue and gross profit are increasing, while overhead is decreasing, resulting in improved and now positive adjusted EBITDA for the second quarter. Our second quarter sales of almost $56 million represents a 109% increase year-over-year and a 26% increase from the first quarter. Higher revenue sequentially was driven by growth in existing operations in our retail and wholesale segments and full quarter contributions from recent acquisitions. Although we are opening and acquiring fewer retail locations in 2020 compared to 2019, our second quarter results demonstrate that growth from existing stores remains strong.

Now turning to costs. Since the end of 2019, Harvest has returned to our roots. That means a focus on operations and expansion in core markets, it means streamlining the business for greater efficiency and it means implementing stringent cost controls. We still believe that we have additional opportunities to further reduce costs while growing the business and we expect to demonstrate further progress in the future. We are also actively managing our liquidity. Harvest ended the second quarter of 2020 with approximately $62 million in cash and $291 million in debt. We have sufficient capital to service our debt in 2020 and 2021, and we have the flexibility to accelerate or delay capital expenditures as our capital position changes. We will make necessary adjustments to our plan to ensure that we meet our obligations while continuing to pursue profitable growth.

And lastly, we’ve had a few developments at Harvest since our last call in May. First, in April, we hired Deborah Keeley, and in June, we elevated her to Chief Financial Officer. Deborah is a seasoned executive with a proven track record in both public and private growth companies. Her skill set and experience as an operationally-focused leader are an excellent match for Harvest as the company continues to evolve and focus more acutely on execution. She’s been working diligently and has already made impactful contributions to the organization as we continue to refine and implement our plan. We’re excited to have her on board. Second, with respect to the ongoing COVID-19 pandemic, we have not experienced the unmanageable disruptions to our operations to date. Admittedly, we’ve had some instances where we experienced staffing issues, resulting in some lost retail hours and manufacturing challenges. We’ve also seen minor delays in permitting and construction due to COVID-19. To this point, we have been able to manage these issues as they arise. All of our facilities have remained online with modified operating procedures to safeguard employees, patients and customers. In accordance with state and local guidelines, we have also resumed in-store purchases at all of our retail dispensaries. We continue to monitor how sales trends are impacted by COVID-19 and its macroeconomic repercussions. Finally, we announced the completion of the divestiture of 8 planned and operational California retail assets of High Times Holdings. The agreement with High Times includes the potential sale of 2 additional retail assets in California, pending completion of closing conditions. We may complete additional divestitures of noncore assets, where practical, in order to free resources to focus on our core markets.

As we’ve highlighted before, part of our strategic plan includes making targeted investments with fast and favorable returns in our core markets. During the first half of 2020, we spent approximately $18 million on capital expenditures. With 77% of those investments made in Arizona, Florida, Maryland and Pennsylvania. Those 4 core markets are medical markets with limited license regulatory structures, continued patient growth and future potential upside from adult-use consumption. Each of those core markets has continued to perform well. Our home state of Arizona is one of the fastest-growing medical markets in the U.S. The number of qualified patients as of May 2020 was over 245,000, up 23% from a year earlier. Total marijuana sold year-to-date through May 2020 was almost 82,000 pounds, up 30% from the same time period in 2019. Harvest has the largest retail presence in the state with 14 open retail dispensaries supported by cultivation facilities in Camp Verde, El Mirage, Phoenix and Willcox, and processing and manufacturing facilities in Flagstaff and Phoenix. Following the acquisition of Arizona Natural Selections in the first quarter, we’ve been able to streamline our distribution and warehousing operations in Arizona to improve logistics and better meet our needs. In 2020, we are expanding indoor cultivation and processing at the Phoenix facility as well as the greenhouse cultivation at Willcox, with new capacity expected to be completed during the first half of 2021. We also expect one additional retail location by year-end, given the strength of the current market conditions and potential upside from the expected rollout of adult-use cannabis consumption in 2021. In Arizona, the ballot initiative for cannabis for adult use continues to achieve important milestones ahead of the November 2020 election. In early July, the campaign submitted almost 437,000 signatures in support of the Smart and Safe Arizona initiative. That was about 200,000 more than what was required. Last week, the campaign survived a legal challenge based upon the proposed 100-word ballot summary, less than 24 hours ago, the Secretary of State actually confirmed that enough signatures were validated to qualify the recreational initiative for the ballot. The prohibition is to challenge the 100-word summary, recently filed an appeal of the lower court’s decision. And once that appeal is rejected, the recreational initiative will officially be on the ballots, Prop 207. We are — today, we’re more confident than ever that it will pass. The initiative gathered signatures faster than any initiative in the state’s history. And the polling, both what’s been published and our own internal polling showed strong support for recreational marijuana in Arizona. This catalyst will be a very significant event for our organization.

The Florida market has been strong in 2020 with approximately 20% patient growth through the month of June. In Florida, we operate 6 open retail dispensaries and indoor cultivation and processing facility and a secure outdoor cultivation and processing facility. Product from cultivation expansion at the end of 2019 continues to ramp, resulting in higher sales and margins at our retail locations. Another cultivation expansion is currently underway, with new product and store openings coming into the market in 2021.

Maryland has been a solid limited license market for several years and reported over 100,000 certified patients as of July 2020. Total dispensary sales for the state reached over $110 million during the second quarter, up over 20% sequentially. In Maryland, we currently have 3 open retail dispensaries and a cultivation and processing facility in Hancock. Harvest is a net wholesaler in the state of Maryland with strong sales outside of our retail operation. We have completed some upgrades and expansion to our cultivation and processing facility in Hancock to increase supply to our own retail locations and support overall continued market growth.

The Pennsylvania market has experienced rapid growth and a supply constraint. Harvest currently operates 5 open retail dispensaries in Pennsylvania and the recently acquired cultivation and processing facility in Reading. Harvest has 5 retail licenses, allowing for up to 15 potential retail locations. We are currently expanding cultivation and manufacturing operations to alleviate product supply constraints, enhance margins and support the opening of additional retail locations in 2020 and 2021. We firmly believe that investing in markets with favorable regulatory frameworks and limited licenses to operate afford the company the best opportunity to return to profitability in the near term. We look forward to demonstrating further progress with respect to our overall plan and our goal to return to profitability. We remain very confident about the long-term trajectory of the industry. And we believe harvest will continue to be a strong and focused operator in the U.S. cannabis industry. We’re highly encouraged by the increasing level of discourse regarding the importance of the regulated cannabis industry as an essential business, and we look forward to contributing to the advancement of the industry as layers of prohibition are removed over time.

With that, I’d like to turn the call over to Deborah, who will discuss our specific financial results and updated guidance.

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Deborah K. Keeley, Harvest Health & Recreation Inc. – CFO [4]

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Thank you, Steve. Good afternoon, everyone. I’m going to provide an overview of our second quarter financial results and updated guidance for 2020. Please refer to the press release and slide presentation for full details.

As you just heard Steve mention, we had a great second quarter. Our strong performance in the second quarter was driven by a combination of revenue growth, operating leverage and cost reductions. For the second quarter, revenue was $55.7 million, representing an increase of 109% year-over-year and 26% sequentially. Revenue growth was driven by the full quarter contribution of acquisitions completed in the first quarter, in addition to growth in existing retail and wholesale operations. Discontinued operations for the second quarter include revenue and cost associated with the sale of retail assets in California, the closure of the Michigan retail location and inventory associated with discontinued product lines. The earnings presentation includes first quarter 2020 results that reflect the changes with discontinued operations. Approximately 84% of our second quarter revenue was derived from our core markets: Arizona, Florida, Maryland and Pennsylvania. Revenue mix during the second quarter was 76% retail, 13% wholesale and 11% licensing and other. As of August 11, 2020, Harvest owned, operated or managed 35 retail locations in 7 States, including 14 open dispensaries in Arizona. Harvest owned and operated dispensaries exclude retail locations serviced through Interurban. For the 13 stores that were opened in Q2 of 2019, same-store sales increased by 49% year-over-year. As one of the oldest operators in the U.S. cannabis industry, some of our comp stores have been operating for many years. Despite the long operating history for our stores, we are still realizing strong growth in our retail base. For the 31 stores that were opened in both the first and second quarters of 2020, same-store sales increased by 29% sequentially. During the second quarter, we realized a 4% increase in traffic and 24% increase in basket size compared to the first quarter.

Gross margin before biological asset adjustment during the second quarter was 42.1% compared to 25.1% in the second quarter of 2019 and 41% during the first quarter of 2020. Gross margins in our retail business range between upper 40% to lower 50% and we expect those margins to improve over time as we increase our retail presence in states with higher-margin opportunities, and we leverage more of our internally produced product and we continue to focus on reducing cost. The margin contribution from wholesale and licensing revenue can vary significantly due to the product mix, market and contract terms. The sequential improvement in gross margin in the second quarter was driven by a greater percentage of higher-margin retail revenue, partly offset by lower gross margin derived from wholesale and licensing revenue. We remain focused on expanding the most profitable components of our business, and we expect our margins will continue to trend upwards overall with some quarterly fluctuations due to mix and market changes.

Second quarter SG&A was $22.7 million or 41% of revenue compared to 56% of revenue during the first quarter. We expect SG&A as a percentage of revenue will continue to decline over time as our revenue growth outpaces increases in expenses. Net loss for the quarter was $18.3 million compared to a loss of $20 million during the first quarter of 2020. Second quarter adjusted EBITDA, excluding the impact of biological asset adjustments, was positive $4.1 million, an improvement compared to the first quarter adjusted EBITDA of negative $3.6 million. The sequential improvement was due to a combination of revenue growth, economies of scale and additional reductions in operating expenses. I am so proud that, again, we reported positive adjusted EBITDA, reaching the milestone ahead of our prior guidance. I really appreciate all the efforts from our team to achieve this milestone.

Turning now to guidance. We are increasing our 2020 full year revenue target to approximately $215 million to $220 million, up from our prior target of $200 million. The revised target reflects the strong performance in the second quarter, while taking into account the lack of visibility, given the current macroeconomic environment. The revised revenue target includes the completed divestment of retail assets to High Times, but does not contemplate any additional divestitures. In the event that additional asset sales are completed, we will provide an updated revenue target at that time, if warranted. The revenue forecast includes continued growth driven by retail dispensary openings, same store sales growth and new and expanded cultivation and manufacturing operations. Forecast for 2020 assume no impacts or disruptions that we don’t successfully manage, including those caused by the COVID-19 pandemic beyond the manageable instances such as minor delays in permitting and construction or staffing issues. As Steve highlighted, Harvest has been streamlining operations and reducing costs for several quarters, we expect to realize the $24 million in annualized savings estimated at the time of our first quarter call. We have identified additional opportunities to further reduce costs, and we will provide additional details once those reductions have been implemented.

Harvest ended the second quarter of 2020 with approximately $62 million in cash and $291 million in debt. As of August 7, Harvest had approximately $64 million in cash. Debt service for the remainder of the year is approximately $24 million, which we expect to be partly offset by incoming capital. We estimate sources of capital between $10 million and $40 million, potentially including collection of notes receivable, new and extended financing arrangements and divestitures of noncore assets. Capital expenditures for the remainder of the year are expected to range between $10 million and $30 million in addition to the $18 million spent during the first half of 2020. We are actively managing our liquidity and have sufficient capital to service our debt in 2020 and 2021. As Steve indicated earlier in the call, we are committed to returning to profitability through a combination of targeted investments, operational efficiencies and scale, and cost-reduction measures. We believe Harvest is well positioned and will emerge as a stronger company.

With that, let’s open up the call to questions.

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Questions and Answers

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Operator [1]

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Our first question comes from the line of Aaron Grey with Alliance Global.

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Aaron Thomas Grey, Alliance Global Partners, Research Division – MD & Head of Consumer Research [2]

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Congrats on the strong quarter and flexing the profitability. Quick question that I have for the updated guidance. Just if I look at it, what it implies for the back half of the year, looks like it implies relatively modest growth for the back half. So can you just talk about the assumptions there? Is there — just kind of that you’re seeing in the marketplace? Was it something that kind of boosted the second quarter a little bit for the $56 million? Or just kind of what the reasoning looks for that because I know it doesn’t include any additional divestitures and also does not include the California retail assets. So any additional color there would be helpful in terms of those assumptions.

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Deborah K. Keeley, Harvest Health & Recreation Inc. – CFO [3]

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Sure. Thanks. So as it relates to our guidance, we factored in several variables when we revisited the guidance for 2020. The first variable we considered was the strong performance that we had in Q2. We had 109% year-over-year growth and 24% sequentially. Most of our growth comes from retail operations, which is about 76% of our revenue. And although these were impressive measures, it also creates a high hurdle on a go-forward basis as there is uncertainty and lack of visibility in our current macroeconomic environment, specifically around unemployment, unemployment benefits, the stimulus package. So based on those factors, we are comfortable with the new guidance we provided of $215 million to $220 million. And as it relates to whether or not the ICG revenue was included, that revenue was not included in our Q2 and it is also not included in our revised guidance, and neither is any divestitures that we might consider.

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [4]

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And Aaron, this is Steve. A couple of other little things to consider. I mean, this guidance question or creating this target was just something that we talk about a lot internally because this is an iterative process we go through and we’re making decisions about capital allocation. And so there’s — there are a handful of categories that cause us to be conservative. Obviously, there’s the COVID-19 situation and all the macroeconomic consequences of what’s happening, the high unemployment and things like that. We just don’t have a model to know what’s going to happen in the regulated cannabis industry in a recession or even a depression. You also have to keep in mind that we divested some of our open retail stores in California. The other thing that a lot of people don’t fully appreciate or understand is that the licensing and other category that we report is not a — it’s not a number that’s growing. And so when we look at growth rates at the retail level, you’re going to see a really healthy growth rate quarter-over-quarter and year-over-year. But with respect to licensing and other, it’s going to remain flat. We also saw — in Q2, we saw bumps from bigger national actions like stimulus checks and things like that, which is — and we don’t know if that’s going to happen in Q3 or Q4. We hope it is, but we don’t have any idea.

And then lastly, we don’t expect to be opening as many new facilities as we have in previous years for the back half of this year. That being said, there are a number of reasons why — there are a number of bases for optimism as well. So despite the challenges associated with COVID, we’ve managed it operationally quite well, and I don’t think there have been any significant impacts to anything that we’re doing or to our numbers. Our retail stores are doing really well and growing at a healthy rate. Thus far, demand has not been adversely affected by changing macroeconomic conditions. And lastly, it’s also true that the further we go down this road, the more pleased we are with the team and how they’re performing under these circumstances. So there’s a lot that’s gone into this discussion, and that’s how you kind of put that in a big bowl and mix it up, and that’s how we come out with the new target. Hopefully, that’s helpful.

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Aaron Thomas Grey, Alliance Global Partners, Research Division – MD & Head of Consumer Research [5]

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No, absolutely. That’s helpful. Just one more for me and then I’ll jump back in the queue. Just as we look at the margin profile, and I see that coming up sequentially to 42%. As we look at the revenue mix with 76% retail, can you help kind of dissect between how much of that retail revenue is from your own product versus third party? Because, obviously, being vertically integrated and one of that coming from your own product helps capture more margins. So we’d just love to know how much of that is within your own versus third-party and how that’s kind of evolved as well?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [6]

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Thanks, Aaron. It’s a good question, but it’s a tough one to answer. And it’s a tough one to answer because state-by-state, the answer is completely different. And so in Florida, for example, 100% of our revenue is from our own products, whereas we can point to a number of other states where that percentage is much lower. And so what we’ve always targeted in a state that allows vertical integration where we have cultivation, we have manufacturing, we have retail, is about a 60-40 mix. We’re somewhere in the range of 60% of the products that we sell are manufactured by us. That number is seriously going to ebb and flow though with market dynamics. And like I said, in some markets, it’s just — it’s either not possible to have that kind of balance or there are other conditions that don’t allow it.

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Operator [7]

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Your next question comes from the line of Vivien Azer with Cowen.

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Vivien Nicole Azer, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [8]

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To follow up on Aaron’s question. As you guys think about kind of the balance of the dynamic between full vertical integration and not. What comes to mind for me is the potential catalyst, a meaningful one in Arizona, and I’m looking at the slide deck, very helpful and just curious how you think about this market in particular because as I think about your business as a market share leader, you have a unique purview in just thinking about how pricing might evolve in the marketplace, given changing dynamics in terms of like industry supply and cultivation capacity. So you’ve kind of laid out your current footprint to kind of wrap it up. And so I’d love to hear how you’re thinking about what 2021 might look like as you’re thinking about your CapEx profile and balancing wholesale versus retail in this very important market specifically?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [9]

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Thanks, Vivien. Yes, so Arizona, obviously, I mean, it’s no secret to anybody that, that market has been a market where we’ve had the largest presence for quite a number of years now. And so for us, as we look at that, we compare — we think about Arizona going rec. And you look at examples of other states that went rec and how that changes numbers, how that changes margin profiles, how that changes pricing. And you start making comparisons to other states. And there aren’t — it’s not an exact science to know exactly how that market is going to change in March when we expect to start seeing recreational sales. And it — largely, we saw last year, Illinois was the big splashy market that everybody talked about. But what we had in Illinois was we had a weak medical market turning into a really strong recreational market. And so you saw significant supply constraints. In Arizona, you don’t really have that because you have vertical licenses. So you have even in the medical market up to 130 cultivators and up to 130 manufacturers. And so you’re not going to see what you saw in Illinois where people are running out of product. As a result, you don’t have to look at it quite the way that people do in Illinois, where it is helpful to be a cultivator, a manufacturer and therefore, a wholesaler. In Arizona, a lot of different — the way that their licenses are set up, a lot of people cultivate their own product. It helps with their margin profiles, but it also means there are less wholesale opportunities in the state of Arizona than there are in some of these others. For us, what we see happening is increased demand for regulated cannabis sales. We expect that to happen in March, and we expect it to ramp over probably the following 24 months from there. We anticipate — we look at the market as a $2 billion market at maturity. When we reach that maturity will depend on a whole lot of factors that we’re not exactly certain of.

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Vivien Nicole Azer, Cowen and Company, LLC, Research Division – MD & Senior Research Analyst [10]

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That was a really robust answer. I appreciate all the detail. And I would assume that adjacency to California probably plays a role there too. Just to follow-up, and then I’ll get back in the queue myself. March is an interesting call out, I believe the fastest transition from medical to adult-use was Nevada and that took 8 months. So can you just offer a little more specificity around what gives you comfort in March?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [11]

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Yes. It’s a very good question, and it was something that we thought a lot about when the initiative was being created. And frankly, what it does is it places an incredible burden on the regulator here in Arizona to make sure that their rules are ready and they’re ready to start accepting applications and start regulating these businesses earlier. So there have been — the campaign has kept the regulator informed of the developments, has talked through what some of their responsibilities would be under that initiative. And the regulator is prepared to move at warp speed. When that commitment was made to work at warp speed was before they were also handling this thing called COVID, so that department, I imagine, is going to be quite stressed. But what we’ve seen over time with the regulator in Arizona is that, if you give them a task and you give them a time frame to do it, they’re going to get it done. And so we have full expectations that they will create rules in the time allotted. And it wouldn’t surprise me to learn that when events occur like signature validation that they aren’t starting to prepare in drafting rules early, so they can meet those deadlines.

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Operator [12]

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Up next is Kenric Tyghe with ATB Capital Markets.

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Kenric Saen Tyghe, ATB Capital Markets Inc., Research Division – MD of Consumer & Retail and Analyst [13]

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Congrats on the quarter. And if I could quickly, Steve, just follow-up. Firstly, on Arizona, garnering increased interest from a number of players. And obviously, with the most recent positive developments, one would expect that to increase. But to my mind, with that and heading into recreational use, one could reasonably expect to see some — a marked increase in competitive intensity in the Arizona market. How do you think about the evolution of the market, the competitive intensity? And how well positioned you are to continue leading in that market?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [14]

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Thanks, Kenric. It’s a good question. I think for whatever reason, Arizona has been a great medical market, but has been very underrated and not talked about enough. And part of that has to do with the fact that there hasn’t been a lot of MSO activity. In Arizona, it also happens to be true that none of you analysts live in Arizona. So that might have something to do with it as well, but be — it is a place where you have seen another company build up assets in Arizona, that being Curaleaf. You’ve seen Cresco move into the market. So it wouldn’t surprise me to see others start moving into the market. What is underappreciated about Arizona is the operational depth of the existing operators here, the non-MSOs, even some that are just Arizona-specific operators. You have a lot of very good, very sound operations here. And you’ve also had cultivators and product manufacturers from other states creatively get into the Arizona market without actually getting licenses themselves. So it is a fairly well-developed market already. We are confident that we are going to continue to perform well in Arizona. We’ve been — as you know, over the past few years, we’ve been continuing to make investments to prepare for the November and ultimately March dates when recreational sales begin. So we’re just really looking forward to it. And for us, it is obviously a very big deal.

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Kenric Saen Tyghe, ATB Capital Markets Inc., Research Division – MD of Consumer & Retail and Analyst [15]

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That’s great. And maybe I just don’t want to belabor the Arizona one too long, I’ll switch to Pennsylvania quickly. Now that’s a market that’s difficult for us to track on the outside. Obviously, it’s been surprising everybody in terms of its growth and growth trajectory through this year. How much of the surprise in quarter, both your top line and gross margin were reflective of the strength in Pennsylvania and sort of how that market has been tracking. And then I think the second piece of that would be a number of your large competitors have completed some big capacity expansions in that market. How balanced do you think the market is today? How is Pennsylvania business tracking versus your expectation given the above sort of dynamics?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [16]

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So while we haven’t provided specific information on what the individual states themselves are doing. I can tell you that we are seeing in our core markets pretty consistent growth over time. Pennsylvania is a market that I, frankly, a couple of years ago, wildly underestimated. And it has grown beyond everybody’s really expectations. And for us, that means a big part of that is the fact that it is supply constrained. The acquisition of that Franklin Labs, a cultivation and manufacturing facility, was a very important acquisition for us in Q1. And so you are seeing — you will see contribution or at least a full quarter contribution from that acquisition in Q2. We don’t call out specifically what it is, but this was the first quarter where you saw the full quarter contribution. We plan on continuing to invest in that facility, ramping up flower production and ultimately, product production, so we can supply our own stores and eventually the wholesale market there as well. But it’s a great market.

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Operator [17]

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Our next question comes from the line of Andrew Partheniou with Stifel GMP.

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Andrew Partheniou, Stifel GMP Research – Analyst [18]

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Congrats on a great quarter, guys. Maybe if I could talk a little bit about your exposure to your core markets and how that will change over time with the investments that you guys are making right now, especially that you made in your cultivation, do you see any kind of step changes as you guys expand cultivation in terms of getting growing rooms online and harvesting them, could you give a little bit of color on maybe timing or magnitude on your core states? Or any additional color in that respect?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [19]

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Thank you, Andrew, and welcome. The — so the question was related to the specific investments that we’re making in the core markets, those being Arizona, Florida, Maryland and Pennsylvania. We haven’t specifically broken out and haven’t provided any information related to the very specific investments we are making there. What we can tell you is that we are making investments in capacity in each of those 4 markets, and those — there are opportunities. As we look at opportunities to make investments, one thing that we consider is the market itself, the market opportunity because we’re looking at — and when we make capital expenditures, we’re really looking at 3 things. First, we’re looking at whether or not we are — need to spend money to preserve a license. Two, we’re looking at the return on that invested capital. And three, we’re looking at how quickly we’re going to see that return. And so we’ve identified those 4 core markets. Those are not markets where we need to spend money to preserve licenses. But they are markets that we’ve identified as being the best opportunities for us to see big returns and see them quickly as we continue to proceed to profitability. And so what I can tell you is those will be the 4 markets that we continue to invest in. Quarter-over-quarter, you’ve seen us give additional information as it relates to our business. You can expect next quarter for us to continue to give more information, so that you can better understand some of the investments we’re making. But with respect to specific investments and timing in those markets, we aren’t giving specific information at this time.

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Andrew Partheniou, Stifel GMP Research – Analyst [20]

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Okay. Maybe on the other side of the equation on your costs, really good cost control here, even in the face of adding acquisitions, your SG&A base has come down nicely. Wondering, as you guys have your investments in your various markets, how do we see that SG&A base change? Also in the face of the savings that you guys have already realized, I think in the past you’ve mentioned something around $24 million in annualized savings. Could we see any more than that? And how much of that have we seen in this quarter?

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Deborah K. Keeley, Harvest Health & Recreation Inc. – CFO [21]

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Sure. Thanks for the question. So as we have communicated in our Q1 call, we had identified $24 million in annualized cost savings, and we will achieve those cost savings. We also believe that there are opportunities for additional cost savings in the future. We’re continuing to evaluate a lot of processes and streamlining our operations and really looking under the hood of everything, looking at all of our cost, contracts, if we can renegotiate contracts. So we do believe that there are further opportunities in the future to continue to reduce our cost.

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [22]

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And Andrew, the $24 million was — those were cost savings that we identified last quarter. As Deborah mentioned, we continue to evaluate, we continue to squeeze on some of the operational expenses that we have. We have realized some additional cost savings, but it isn’t to the degree of the previous one. So we haven’t actually called it out specifically. We anticipate that in Q3 or Q4 that we may do that. But we have continued to see some additional cost savings. We anticipate that we will continue into the future to see more cost savings. But we’ll — and we’ll give you more detail on that in future calls, but it’s nothing to the degree of the bigger cost cut that we announced previously.

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Deborah K. Keeley, Harvest Health & Recreation Inc. – CFO [23]

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And we started the cost reductions in Q1 and then continued into Q2, but the full cost reductions that we’ve outlined will happen in Q3 and Q4 of this year.

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Operator [24]

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Next up is Matt Bottomley, Canaccord Genuity.

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Matt Bottomley, Canaccord Genuity Corp., Research Division – Analyst [25]

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Just wanted to pivot back to Pennsylvania, it’s a market a lot of your peers and yourself are really cheerleading here, and it seems like there’s really good growth. So given that you have one of the leading retail exposures there and now with Franklin in the mix, are you opening up retail as fast as reasonably possible based on the locations that you want? Or is there a reason that you might be tapering off exactly how you’re opening up, given the supply-constrained nature? And then just second to that, if you can give some sort of range of what might plausibly open the remainder of the year in terms of retail for you guys in that market?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [26]

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Good. Thank you, Matt. It’s — so we are — you identified it, it is supply constrained. So we have not been opening stores as quickly as we possibly could. We do anticipate that we will see store openings potentially in the back half of this year and into 2021. And that will coincide, not coincidentally, with what we expect to see with increased capacity coming out of that cultivation and manufacturing acquisition we made in Q1. So the sequencing of that is, we acquired that asset, we have built up that asset, increased capacity. As we start producing more and more product out of it, we will feel much more comfortable opening those retail stores. And so that’s what you’ll see from us.

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Matt Bottomley, Canaccord Genuity Corp., Research Division – Analyst [27]

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Perfect. And just one other question for me. Just on the sequential growth. Deborah, you had mentioned a metric, and apologies, I think I might have missed it, but 29% sequentially on the retail. Can you just break down that number, just so I understand a bit better between what was actually same-store growth quarter-over-quarter versus timing for acquisitions like ANS, which had a full period this quarter versus last?

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Deborah K. Keeley, Harvest Health & Recreation Inc. – CFO [28]

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Yes. Absolutely. So we said that our same-store sales comp was 49% year-over-year and 29% sequentially. And that 29% sequentially was based on 31 stores. And as I said, the California ICG revenue, that is not included in Q1 or Q2 in those numbers.

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Matt Bottomley, Canaccord Genuity Corp., Research Division – Analyst [29]

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Okay. So predominantly retail-driven there?

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Deborah K. Keeley, Harvest Health & Recreation Inc. – CFO [30]

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Yes. Absolutely.

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Operator [31]

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Next up is Graeme Kreindler with Eight Capital.

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Graeme Kreindler, Eight Capital, Research Division – Principal [32]

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Just maybe I can follow up from — with respect to some of the openings. From a bigger-picture perspective, as we’re looking at the revenue outlook expectations for 2015 (sic) [2021], Steve, you mentioned a bit about what you’re looking to do in Pennsylvania, but can you give any more details from a portfolio perspective with respect to — you mentioned there’d be some retail openings, what states those might come from? Or how much square footage in a particular state is expected to come online and — in the rest of the year here to support that outlook?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [33]

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Thanks, Graeme. So the reason I was a little vaguer on the — a little more vague on the store openings is because we are shying away from giving specific guidance as to when stores are open because we’ve seen people kind of tie or tether their analysis to that. We don’t know that, that’s the best way to evaluate Harvest as an organization or our progress. What we can say is — what we did mention is that you can expect this year that we’ll open another store in Arizona, and that’s frankly because we have an additional license in Arizona without an associated open store. And so we are through — largely through the process of getting that built out and open. With respect to Pennsylvania, there is a timing issue, which makes it challenging for us, which is, we — like a lot of people did in the state of Florida, we opened stores when we didn’t have enough product to justify the opening of those stores. And so we want to make sure that we learn from the mistakes of the past. And in Pennsylvania what we want to make certain of is that we can supply those stores once we open them. So the sequencing of opening those stores is going to be related entirely to the ramp-up in cultivation in Pennsylvania. With respect to the actual metrics and production metrics state-by-state, it’s not information that we’ve provided to date. Although you can expect, as I’ve mentioned before, for us to continue to provide more and more information each and every quarter going forward.

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Graeme Kreindler, Eight Capital, Research Division – Principal [34]

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Okay. Understood. And then just as a follow-up there. With respect to the CapEx expectations, you’ve got the range between $10 million to $30 million. How much of that CapEx is directly tied to supporting the 2020 revenue outlook versus how much of that is building the foundation for operations into 2021?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [35]

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It is largely dedicated to building the foundation for 2021. There’s very little return that we’ll see on that investment in 2020. It is largely dedicated to cultivation and manufacturing capacity in our core markets.

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Operator [36]

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Your next question comes from the line of Russell Stanley with Beacon Securities.

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Russell Stanley, Beacon Securities Limited, Research Division – MD & Research Analyst [37]

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Congrats on the quarter and the progress in Arizona. My first question just relates to the potential for some additional noncore divestitures. I’m just wondering, are you seeing increased interest in those assets, increased demand there, given some improvement in market sentiment? And I guess, how aggressively are you pursuing sales at this point?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [38]

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I wouldn’t characterize our pursuit as aggressive as we look at it. But what we ask ourselves internally is when we test our conviction about a market, we ask ourselves whether we would want to continue to invest in it and if we have the ability to. If the answer is we don’t have the ability to or that we can’t, then seeing the benefits of leverage, we probably would prefer to divest that asset, reinvest the cash in another one where we do have operating leverage. And so while we’re not aggressively pursuing any divestitures, there are things that we would consider in noncore states where we’re not inclined to add additional assets there. As far as interest goes, we are seeing capital start to free up for acquisitions. And so the activity along those lines is increasing some.

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Russell Stanley, Beacon Securities Limited, Research Division – MD & Research Analyst [39]

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That’s great. And maybe if I could ask a quick question on Maryland as well. I think you’re still in the market, so to speak, for a fourth dispensary that would put you into cap. What is that market like? Are there many sellers? And are there a number of one-offs available like that? Or… I think from an MSO perspective or from many of the companies we see have multiple licenses there, so how easy is it to find a one-off license for sale?

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Steven Mathew White, Harvest Health & Recreation Inc. – Founder, CEO & Director [40]

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It’s a great question, and you probably picked up on the fact that we didn’t mention that we were going to add another retail dispensary for the first time in a couple of quarters, which should signal to you that while we still continue to plan to do it, it hasn’t been as easy to find the right asset as we originally anticipated. The — frankly, the — for the assets that we’re interested in, in the state of Maryland, the prices are a little bit high. We are continuing to monitor that state. We are interested in adding an additional retail store in the state of Maryland. We do anticipate doing it at some point in the future, but we just haven’t found the right acquisition at this point.

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Operator [41]

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And we have no further questions at this time. So thank you all for joining, and this concludes today’s call.