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Edited Transcript of TMT.H.V earnings conference call or presentation 26-Nov-19 10:00pm GMT

Q1 2020 Medmen Enterprises Inc Earnings Call

RICHMOND Nov 30, 2019 (Thomson StreetEvents) -- Edited Transcript of Medmen Enterprises Inc earnings conference call or presentation Tuesday, November 26, 2019 at 10:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Adam Bierman

MedMen Enterprises Inc. - Co-Founder, CEO & Director

* Stéphanie Van Hassel

MedMen Enterprises Inc. - VP of IR

* Zeeshan Hyder

MedMen Enterprises Inc. - CFO

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Conference Call Participants

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* Brett Michael Hundley

Seaport Global Securities LLC, Research Division - Research Analyst

* Graeme Kreindler

Eight Capital, Research Division - Principal

* Jesse Pytlak

Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research

* Matt Bottomley

Canaccord Genuity Corp., Research Division - Analyst

* Scott Thomas Fortune

Roth Capital Partners, LLC, Research Division - Director & Research Analyst

* Vivien Nicole Azer

Cowen and Company, LLC, Research Division - MD & Senior Research Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the MedMen First Quarter Fiscal 2020 Earnings Conference Call. (Operator Instructions)

I would now like to hand the conference over to your speaker today, Stéphanie Van Hassel. Thank you. Please go ahead.

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Stéphanie Van Hassel, MedMen Enterprises Inc. - VP of IR [2]

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Thank you. Good afternoon, and welcome, everyone. Today, I'm joined by MedMen's Co-Founder and CEO, Adam Bierman; and CFO, Zeeshan Hyder. On today's call, management will provide prepared remarks, and then we will open the call to your questions. Earlier today, we issued a press release announcing first quarter fiscal 2020 results ended on September 28, 2019. The press release, along with our financial statements and MD&A, are available on the company's website and filed on SEDAR.

Before we begin, I'd like to remind you that the comments on today's call will include forward-looking statements, which by their nature, involve estimates, projections, goals, forecasts and assumptions and are subject to risks and uncertainties that could cause actual results or outcomes to differ materially from those expressed in the forward-looking statements. And certain material factors or assumptions were applied in drawing a conclusion or making a forecast in such statements.

Forward-looking statements relate to, among other things, the business and operations of MedMen, our plans for new stores and factories, our financial and operational expectations, our expectations as to future sources of funding, the terms, conditions, structuring and timing for completion of acquisitions and the prospects of MedMen upon completion of the acquisition. These forward-looking statements speak only as of the date of this conference call and should not be relied upon as predictions of future events. Additional information about the material factors and assumptions forming the basis of the forward-looking statements and risk factors can be found in MedMen's annual information form dated November 8, 2019, the management's discussion and analysis for the period ended September 28, 2019, and the earnings press release issued earlier today, all of which are available under the company's profile on SEDAR.

During today's conference call, MedMen will refer to certain non-IFRS measures that do not have any standardized meaning prescribed by IFRS such as EBITDA and adjusted EBITDA, which are defined in the earnings press release we issued earlier today. Reconciliations to IFRS measures are contained in the press release and our MD&A. Please note, all financial information is provided in U.S. dollars, unless otherwise indicated.

Now with that, I'd like to turn the call over to Adam.

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Adam Bierman, MedMen Enterprises Inc. - Co-Founder, CEO & Director [3]

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Good afternoon, and thanks for joining us today. On November 15, we announced our five-part strategy to reduce our costs and accelerate our path towards profitability. Through a rightsizing of our organization and a newly intensified focus on generating positive cash flow, we have entered fiscal 2020 on a laser-focused mission toward building a leaner and more flexible company that can continue to develop its exemplary leadership position as the most recognizable cannabis brand and retailer in the U.S.

Through the execution of these goals, we expect to be EBITDA-positive by the end of calendar year 2020. Our recent decisions to streamline our business and cut costs were necessary, and now we are taking an even deeper look at our operations as we evaluate our priorities. In making changes, we said goodbye to many of our hardworking, mission-based employees who have been strong contributors to MedMen's growth over the years. We thank each and every one of them for their dedication and support. Now we must turn our attention to building a stronger, more financially efficient organization, which better serves our stakeholders in the coming year and beyond.

At the same time as we are cost cutting, we must find ways to promote our growth, and therefore, we will continue to invest in those areas that matter most to our company. These include operationalizing our highest ROI licenses, optimizing our retail vendor agreements, investing in our employees and culture and scaling our delivery and loyalty platforms. We must unlock our operating leverage, and these areas of continued investment will enable us to do so.

Moving forward, our focus will be on our core markets, particularly California, the most important cannabis market in the world. In the first quarter 2020, retail revenues across our 13 California retail locations totaled $30 million, up 61% year-over-year and 9% sequentially.

During the quarter, we closed the acquisition of a flagship retail location in Long Beach and launched our delivery program in the state. With over 400 products now delivered in California, MedMen delivery is the most robust delivery program of its kind. In Nevada, we also brought delivery service to our customers in Q1, launching same-day delivery in September. Residents of Southern Nevada can now access roughly 300 products as well as enjoy MedMen's unparalleled retail experience from the convenience of their residences.

In Florida, we are currently licensed for 35 retail locations. We opened 3 stores in the first quarter of 2020, including St. Petersburg, Key West and Pensacola and another 4 stores post quarter end in Jacksonville, Orlando, Tallahassee and Sarasota. This brings our total Florida store count to 8 this calendar year, and we are on track to open our South Beach location in the coming weeks. The only limiting factor in Florida to date has been our own supply of product, and as we expand our Eustis factory, we anticipate an uptick in our ability to service the Florida market. Further, we have high expectations from medical stores once Florida transitions to a recreational state.

In Illinois, we also eagerly await the transition to recreational sales, which is slated to begin on January 1, 2020. Illinois is projected to be a $2 billion recreational cannabis market at maturity and with our premier Chicago location in Oak Park, this legislation bodes well for MedMen in Illinois. The transfer of the Evanston store, which we received through the PharmaCann merger termination, is anticipated to close by mid-December.

Beyond investing in our core retail markets, we will continue to develop our first-of-a-kind delivery platform. Once delivery is fully ramped in all of our core geographies, we will be able to serve over 50% of our total addressable market across the U.S. Although we are still gathering preliminary analytics on our nascent program, we are proud to report that we have already surpassed $6 million in annualized delivery sales within 3 months of launching and are seeing average basket sizes from delivery customers greater than the average basket size we record from in-store sales. We are also generating strong gross margins on each purchase by strategically deploying our drivers to make multiple deliveries in nearby locations for each scheduled trip. We will keep you updated as our delivery platform progresses, including the launch of delivery in Florida this December.

Over the past several years, we've made strategic investments into our foundational technology to be able to quickly deliver new and improved retail shopping experiences to our customers. Our efforts focused on providing a fully immersive shopping experience spanning all possible ways of reaching our target customer base. This includes our delivery platform as well as our recently launched loyalty program, MedMen Buds. Launched this past July, MedMen Buds has over 170,000 individual participants and continues to grow daily with memberships in California comprising the majority of the total loyalty network. Through our loyalty program, we are building one of our industry's most robust data repositories, cultivating a tremendous breadth of information on how, when and why consumers are purchasing cannabis in both medical and recreational markets, so we can customize the shopping experience, stock our retail stores with preferred product and ensure we are partnering with the right brands to best serve our customer base.

Whether our customers are purchasing our product through one of our trained sales associates in-store, buying ahead of time online for in-store pickup or adding to their mobile baskets for delivery, we keep track of exactly what types of products they purchase, their average basket size and various other demographics from gender to age and geographic location. Through the collection of millions of these points of sale data points, each and every day, we improve our brand awareness, increase our customer stickiness, elevate our shopping experience and ultimately, improve our Four Wall economics.

We are headed in the right direction, executing against the plan, day after day. We appreciate your support as we position MedMen toward long-term growth.

With that, I'll turn the call over to Zeeshan, our CFO, to review our first quarter performance and our five-part plan to EBITDA-positive in further detail.

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [4]

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Thank you, Adam. Over the past month, since assuming the role of CFO, I've spent a significant amount of time on our long-term strategy and how to best position MedMen for profitability while also maintaining growth. The first phase of this process, which incorporated all of our senior-level teams input is our recently announced plan to be EBITDA-positive by the end of calendar year 2020. To that end, we have set 5 specific goals for the company which include: one, focusing on our core markets while simultaneously divesting any noncore assets; two, reducing our corporate SG&A; three, driving asset-level EBITDA at both our retail stores and factories; four, limiting our cash outlays over the next 12 months; and five, reinvesting in both our employees and our culture. I'll refer back to these goals during the remainder of my prepared remarks.

Before going further, I want to pause here and provide a few quick notes. Consistent with prior quarters, all the figures on today's call are in U.S. dollars. In addition, I will refer to our top line performance in terms of system-wide revenue, as we believe that is the best representation of our economic progress. You can find further information on these financial measures in our MD&A for the first quarter.

With that, let's get into our results for the first quarter. System-wide revenue for Q1 '20 was $44 million, up 105% from $21.5 million in the same period last year and up 5% sequentially. Gross profit before biological asset adjustment was $21.8 million or a margin of 50% compared to $11.7 million or a margin of 54% in the prior year period. Operating expenses for the quarter totaled $66.1 million, a decrease from $73 million in the prior year period.

First quarter 2020 net loss attributable to shareholders of MedMen Enterprises was $31.5 million or $0.16 per basic and diluted share. Overall, adjusted EBITDA loss for the quarter was $22.2 million compared to $39.4 million in the previous quarter. Please note that in the fiscal first quarter of 2020, the company applied IFRS 16 leases, effectively requiring the company to capitalize the majority of its property leases, which were previously treated as operating leases. Under the old methodology, this would have resulted in an additional approximate $7 million adjusted EBITDA loss in the fiscal first quarter.

Let's now take a deeper look at the details around adjusted EBITDA and the buildup from our 4 operating units, which includes: retail operations, manufacturing, corporate SG&A and preopening expenses.

Starting with our retail highlights for the quarter. Retail revenue for Q1 '20 totaled $41.5 million, up 94% year-over-year and up 6% sequentially. In California alone, which represents approximately 75% of our retail revenue, we were up 9% sequentially. This increase in revenue was driven by growth in our same-store sales and new stores coming online during Q1. While we don't report the same-store sales growth across our retail footprint, we would like to highlight the year-over-year increases for a few of our flagship locations. Our Beverly Hills location was up 82% year-over-year. Our downtown Los Angeles location was up 69% year-over-year. Our LAX location was up 65% year-over-year, and our Abbot Kinney store was up 64% year-over-year.

Going forward, we believe the expansion of our retail revenue will be driven by the growth of each of our current stores as well as the opening of new flagship locations in our core geographic markets.

In line with our first goal of focusing on our core business, when it comes to new store openings and current store expansions, we will emphasize operationalizing only our highest ROI licenses. These include locations that have the potential to generate $10 million or more in sales within their first year of operation. We have 37 nonoperational licenses at present, several of which are in recreational markets and have the potential to generate significant revenue going forward once they're open. Having a higher threshold for new store openings and store expansions will likely result in a scaling back our target of 30 stores in California by the end of calendar 2020 and delaying certain expansions.

The prominent stores we still expect to open are Pasadena, Long Beach, Emeryville, Grover Beach and 2 in San Francisco. Outside of California, we plan to open our Highlands location in Las Vegas, albeit at a much lower cost; 3 additional stores in Illinois, including Evanston, to bring us to 4 locations in the state; and 2 stores in Massachusetts, Fenway and Newton, which are pending state approval. In total, that is 12 new recreational stores, which we believe have the potential to generate at least $15 million on average on a steady-state run rate annualized revenue, which represents in total $180 million in an additional revenue.

We will also continue expanding certain lower-performing stores, such as our LAX location, which is currently on an annualized run rate of over $16 million, despite having a sales floor that is less than 1,000 square feet at present and our Oak Park location in Illinois, which is prime for recreational, given its location alongside a high-traffic Trader Joe's store.

As part of this strategy, we will not be opening additional Florida stores beyond 9 for the foreseeable future, given the limitations on supply. We will reassess our strategy each quarter. In total, we expect to be on a $300 million-plus retail annualized run rate by the end of calendar 2020, with our revised retail expansion strategy, assuming no regulatory or licensing delays.

We will also divest noncore assets which aren't critical to our strategy today. This includes the sale of our interest in Treehouse. To date, we received approximately $13 million in total proceeds. We are also in the process of selling off other noncore licenses in states that are not a priority to us today to free up additional cash for working capital and growth within our brand-building markets. We've already received substantial interest in these noncore assets and expect to provide updates on these sales on a rolling basis.

In line with our fourth objective, limiting our cash outflows as we invest in our core assets and divest our noncore assets, we will also delay any major capital-intensive projects.

As mentioned earlier, this means indefinitely postponing the build-out or expansion of retail stores, not core to our business, such as the additional Florida locations, which were originally expected to open in early 2020 and the expansion of our Arizona stores. We anticipate this delay in capital-intensive projects will save management approximately $55 million in CapEx.

In addition to further manage cash outflows, we will slow down our M&A, focusing only on highly accretive bolt-on deals in our core markets of California and Nevada.

Turning to our retail margins. Retail gross margins for the first quarter of 2020 were 52% versus 50% for the fourth quarter 2019. In California, specifically, our retail gross margins were 53% for the quarter. As I noted on last quarter's call, increasing retail gross margins remains a focus for MedMen.

We recently signed vendor agreements with a number of our top suppliers in California, which includes terms that the brands must generate a minimum of 60% gross margin to remain on store shelves. We anticipate signing agreements like this with at least 8 brands in total, comprising approximately 30% of our retail sales. We will also look to rationalize other retail costs such as payroll expenses to further reduce retail-level operating expenses to drive margin and EBITDA.

At the end of last week, we reduced our retail headcount by over 175 employees across California, Nevada and Florida, and we'll look to make further reductions. With the heavy taxes on cannabis retail, particularly in California, we are looking at deeper savings within our stores to improve the cash flow profile of our retail business.

Speaking specifically about EBITDA, overall retail EBITDA, prior to local taxes, was $4 million for the first quarter, representing a 9% Four Wall EBITDA margin. In California, our Four Wall EBITDA margin prior to local taxes was 17%. If you include both local taxes and distribution costs into our calculation of adjusted retail EBITDA, we recorded a margin of 4% compared to 7% in the previous quarter. Objective three, which was driving asset-level EBITDA, will be achieved through the aforementioned retail optimization, along with scaling our delivery platform.

On the cultivation and manufacturing. For the quarter, we reported cultivation and manufacturing revenue from operations of $2.5 million and an adjusted EBITDA loss of $1.4 million, an improvement from $4 million in the previous quarter. These losses largely extend from our factories in Florida and California. For the first time ever, Mustang in Nevada produced positive EBITDA for the quarter. Our California and Nevada factories are both expected to be at full capacity in the first half of calendar 2020.

For our California factory, we expect all output to be used by our in-house brands for sales through our California retail footprint. Assuming 10,000 pounds of output, this would represent approximately 30% to 40% of our retail shelves, with the potential for additional penetration through further utilization of the manufacturing and extraction space.

During this ramp-up period, we will continue to grow our private-label business to drive our retail margins and EBITDA. We are already seeing progress in this regard as over the past 8 weeks, Statemade was a high-selling pre-rolls brand across all

MedMen stores in Nevada as well as select stores in California.

Next, I'd like to discuss reducing our corporate SG&A, our third reporting unit. As of our December 2018 quarter, the company's SG&A was $154 million on an annualized run rate basis. For the first quarter 2020, our corporate SG&A loss was $30.6 million, which represents $122 million on an annualized run rate basis and a 21% decrease from the all-time high in December. This does not reflect our recently instituted corporate SG&A reduction plan, which includes bringing our corporate SG&A to $85 million on an annualized basis by the end of our fiscal third quarter 2020. This figure will be achieved by a number of near-term initiatives, including: one, a reduction in force, which we initiated just over a week ago, this should save us approximately $10 million per year; two, scaling back our technology and marketing spend, which would lead to roughly $20 million in annualized savings; three, renegotiating ancillary costs such as healthcare, D&O and property insurance, which would save us at least $2 million per year; fourth, consolidating our corporate offices; fifth, flattening the organization to foster greater efficiency; and last but not least, realigning performance incentives, heavily weighting company bonuses to EBITDA-level targets. We plan to continue reevaluating our corporate SG&A needs and will be undergoing Phase 2 of these efforts in the coming weeks.

Our fourth and final reporting unit is preopening expenses. For the first quarter, we incurred $5.5 million in preopening expenses, which include rent expenses for retail stores and factories not yet operational. As more stores open, and we are producing in all of our factories, we expect preopening expenses will significantly decline. The majority of our preopening losses to date relate to our Desert Hot Springs facility in California and the leases we've secured across Florida. We will also look to actively [syllabication] where there is no plan to open a store in the next 6 months. The reduction in preopening expenses in fiscal 2020 will support our reduction in cash outlays.

Let's now turn to our balance sheet metrics for the quarter. We ended the first quarter 2020 with $42.2 million of cash and cash equivalents. We understand the challenges in the capital markets for all cannabis operators, including ourselves, but believe that our current cash balance, in combination with the additional $10 million in capital, we are obligated to receive under our Gotham Green convertible note and other pending asset sales, will provide us with runway as we enter calendar year 2020.

In summary, by following these 5 key objectives over the coming year, we will emerge from fiscal 2020, a leaner, more financially and operationally efficient company. We promise to update our shareholders as we continue to make progress against each of these initiatives.

Thank you, again, for your time today and for your continued support. We wish everyone a very happy Thanksgiving and a safe holiday season. We will now open up the call to your questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question comes from Graeme Kreindler of Eight Capital.

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Graeme Kreindler, Eight Capital, Research Division - Principal [2]

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I just wanted to start out with a housekeeping matter. With respect to the $300 million retail run rate at the end of 2020, is that on a fiscal or calendar year basis?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [3]

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Graeme, yes, that's on a calendar year basis.

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Graeme Kreindler, Eight Capital, Research Division - Principal [4]

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Okay. And then I wanted to ask a question with respect to the growth seen in California. I know you had 9% sequential growth this quarter on the California level assets, but it looks like what was previously double-digit sequential growth on a quarterly basis in California has now come down to high single digit. And I know you outlined a significant expansion at retail in terms of that market. But I was just wondering -- in terms of driving organic growth across the assets in California, I was wondering what sort of factors are going to be key in terms of keeping that ramp up going? And then what are the main risk factors with respect to operating in a competitive market like that?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [5]

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Yes. Good question. So I would say there's a couple of things there. One, in terms of the 9%, we only had 1 store in California opened during the quarter. I think historically, you've seen some more store openings to get to that kind of sequential double-digit increase. In terms of the second part of your question about what factors we see driving those numbers up going forward. I think there's a few different things there. One, I think, with our loyalty program, you're seeing a lot more repeat visits from our customers. And we're seeing that in the data so far, not only repeat visits, but increased ADS that's coming from our loyalty members. And then the second part of that is delivery -- as we've launched delivery, we're past $6 million in annualized revenue, a lot of our in-store customers are seeing value in having a omnichannel type option for the stores. So all of that revenue will then go -- flow down through the stores, and that's how we're also kind of factoring in growth going forward for our California locations.

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Graeme Kreindler, Eight Capital, Research Division - Principal [6]

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Okay. And then just one final follow-up. Is there any -- you see any effects of seasonality within the retail environment in California? And could you mention in terms of the illicit market, how that's been playing out over time, and how that is affecting the business?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [7]

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For the most part, in our California locations, we've seen slight seasonality around certain holidays and things like 4/20 and Thanksgiving and holiday season. For the most part, cannabis retail, especially in recreational market, behaves more like alcohol where you also see similar types of bumps in sales, but overall, you don't see the same type of seasonality that you'd see in a non-alcohol or food-related category. And the second part of that question around the illicit market. I think the illicit market in California is still pretty robust. You have seen some shutting down of stores and delivery services. But for the most part, they still are competing with the legal operators in the state. For us, we don't really see the full impact from the illicit market given the locations that we have today. But over time, that is something to monitor.

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Operator [8]

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Your next question comes from Brett Hundley of Seaport Global.

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Brett Michael Hundley, Seaport Global Securities LLC, Research Division - Research Analyst [9]

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Zeeshan, if I can ask you a couple funding-related questions. So on your amended agreement with GGP, can we just revisit the language around access to the fourth tranche? And just the word consent there by both parties, can you just explain that to us a little bit and maybe get us comfortable with your ability to access that funding going forward? So that's the first part of my question.

And can you talk to us a little bit about I think the -- one of the amendment to that facility allows you to look at other financing opportunities. Can you just talk to us a little bit about what the marketplace looks like on that side as well?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [10]

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Yes. On the GGP funding question around the 2 tranches, so the $10 million tranche, that's obligated to come in based on the amendment. We'll be receiving that tranche by November 29. As it relates to the final tranche, as you referenced, that's at the option of both parties. So depending on the company's stock price, I mean, other kind of performance metrics at that time, it's going to require mutual consent by both parties. So we'll see at that date whether it makes sense for both sides and we'll have a plan after that.

For the second question around -- yes. Go ahead.

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Brett Michael Hundley, Seaport Global Securities LLC, Research Division - Research Analyst [11]

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Sorry, I was leading right into that, if you can finish up on that question.

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [12]

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Yes. So the second part of the question around the financing situation. So as you can imagine, the capital markets have dried up for cannabis. I think, historically, prior to the amendment, there were restrictions on our ability to access certain debt and equity instruments. With the amendment, we now have the flexibility to kind of open up what we're able to do from a financing perspective, knowing that there are still challenges in the marketplace.

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Brett Michael Hundley, Seaport Global Securities LLC, Research Division - Research Analyst [13]

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Okay. All right. I appreciate that comment. So maybe with that as a backdrop, maybe we can go into the potential for sale proceeds from any future divestitures? I mean, can you at least give us a hurdle in the sense of what might be possible out there? It was good to hear you guys say that there doesn't appear to be market demand for some of these licenses and assets that are noncore. But I mean, can you give us a hurdle? I mean, do you think that the company can do better than $20 million, $25 million in proceeds? Would it be below that? Just any comment that you can give to us, I think, would be helpful as well.

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [14]

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On the first question. So as it relates to the asset sales, we've already received close to $20 million in proceeds from the sale of our GP interest in Treehouse as well as our sale of certain brand investments. Anything beyond that relates to actual licenses that we owned. And as we noted in our last press release, we have engaged Canaccord to gauge interest in those licenses. Based on some of the initial feedback we received, there are pockets of capital available to acquire some of these licenses. A lot of these offers are not coming from the kind of existing MSOs who also have kind of balance sheet that don't justify huge cash outlays, but there are other pockets of capital, other private equity funds, SPAC and things like that, they do have cash to go acquire these assets at these valuations.

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Brett Michael Hundley, Seaport Global Securities LLC, Research Division - Research Analyst [15]

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Okay. And then just one quick one, and I'll jump in the queue. Did -- I suppose it wouldn't be you guys at this point, but did PharmaCann participate in that Chicago lottery? And do you have a sense for what location they may have garnered that would be transferred over to you?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [16]

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So through the PharmaCann termination, we received their Evanston store, which comes with an additional location in Greater Chicago. So we'll have updates on the exact address as we build out that store.

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Operator [17]

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Your next question comes from Matt Bottomley of Canaccord.

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Matt Bottomley, Canaccord Genuity Corp., Research Division - Analyst [18]

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Just wondering if you guys can expand a little bit more, provide a little more detail on what you define as noncore? I know you had mentioned, obviously, you're looking at prime real estate locations in various markets, which is what you've always been telegraphing since day 1, but can you give any more color on what markets those might be? And then specifically with New York, because obviously, you have one of the better locations in Manhattan, but that's a market that doesn't necessarily line up, in my view, with the direction of the company, considering that, that market -- there's some unknowns with respect to how far or how long it's going to take for it to ramp up or potentially get recreational contribution. So anything outside of California and Nevada that you consider to be that noncore nugget of your business?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [19]

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Good question. The way we view core versus noncore relates to if we're going to get revenue or EBITDA contribution in a significant way from those assets in the next 2 years. So I can't kind of little lay out each license and tell you if it's core or not core, that's how we're thinking about it. So based on that, you can kind of guess what we're open to potentially divesting today to bring in cash on the balance sheet.

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Matt Bottomley, Canaccord Genuity Corp., Research Division - Analyst [20]

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Okay. And then just on your gross margin. So outside of the Four Wall, it looks like your consolidated gross margins also saw a decent uptick this quarter. Is that all just from increased scale at Mustang and California and potentially Florida? Is there anything in there we should be aware of? And do you think that current level that you reported this quarter is sustainable in the near term?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [21]

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Most of that increase in gross margin is coming from our retail stores, particularly in California. And what we've seen over the past few months is us just having more leverage with some of our key vendors. With all the new vendor agreements that we're putting in place, we're going to be targeting 60%-plus as a baseline for our retail locations in California, which represents 75% of our overall sales. So I think a lot of that growth in margin will come from that footprint.

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Matt Bottomley, Canaccord Genuity Corp., Research Division - Analyst [22]

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Great. And just one more for me. Just on the -- a bit of a housekeeping, but just on the balance sheet there. So you talked a bit about cash and the proceeds from Gotham that could be coming in, just on your actual current liabilities, now your AP balance has been growing or at least growing in excess of your top line for many quarters now. So can you give some color? I think, you have about $50-so million in AP and accruals outstanding. Are those typical 90-day terms? Or are there other longer-term accruals in there that we don't have visibility on? Any sort of granularity on what proportion of that balance might be a near term, call it, 3 months payout.

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [23]

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I would think of our AP balance as kind of 2 main buckets. One is on the inventory side. So these are the brand vendors that we have in our stores. And the other kind of half is payments related to store build-outs. So the reason why you saw the big bump in AP, had more to do with -- on the CapEx side of things and payments that we have due to some of these contractors, particularly in Florida. A lot of those terms aren't necessarily the standard 30- or 60-day terms that you see with some of the brand vendors. So we're working with all of our vendors across all areas to figure out payment plans as it relates to that. And usually, our contractor payments are deferred out 90 days plus.

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Operator [24]

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Your next question comes from Scott Fortune of Roth Capital.

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Scott Thomas Fortune, Roth Capital Partners, LLC, Research Division - Director & Research Analyst [25]

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A real quick follow-up on the $300 million for the calendar year '20, and you kind of laid out the stores where you're looking to add to. How many stores are you kind of expected to be operating at that level to get to that $300 million annual rate?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [26]

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That is 13 additional stores beyond the 33 that we have open today.

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Scott Thomas Fortune, Roth Capital Partners, LLC, Research Division - Director & Research Analyst [27]

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Okay. Perfect. And then can you provide a little bit more color on the CapEx as it build out, as -- we're not going further into Florida, I guess, 1 more store there. But a little bit kind of a color on the CapEx for 2020 as we look out here?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [28]

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The CapEx related to those 13 stores, currently, we're estimating roughly $20 million to $25 million. A few of those stores will be funded by Treehouse, so it won't require any cash off of our balance sheet. But that's kind of the number based on our existing store ramp-up schedule.

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Scott Thomas Fortune, Roth Capital Partners, LLC, Research Division - Director & Research Analyst [29]

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Okay. And then real quick, you -- the last tranche is $115 million that potentially you guys have to mutually agree on that. Is that correct, the $115 million that's left out there?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [30]

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Yes, that's correct.

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Scott Thomas Fortune, Roth Capital Partners, LLC, Research Division - Director & Research Analyst [31]

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Okay. And then you mentioned -- last question for me is kind of the delivery platform and mix shift from your own brands into the stores? Can we get a little more color on the percentage increase of what you're getting from the average basket on the delivery platform? And then what kind of the Nevada mix is from your own brands versus third party in the stores as you target that up?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [32]

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On delivery right now, our ADS in California is higher through delivery than it is through our in-store. So through delivery, we're just under $80, we're about $4 higher than what we're seeing in the stores. So delivery has been an accretive business model for us. We're profitable on a cash flow basis through delivery right now from almost all of our California locations. In Nevada, right now, our private label constitute roughly 10% of our in-store sales. But as we noted in the press release and MD&A, Mustang will be at full capacity in the next few months, and we're already in a process of putting together production planning for all of our in-house brands as well as some of the third-party brands that we've signed up through these licensing agreements.

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Operator [33]

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Your next question comes from Vivien Azer of Cowen.

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Vivien Nicole Azer, Cowen and Company, LLC, Research Division - MD & Senior Research Analyst [34]

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I wanted to go back to the top line, please. Zeeshan, I appreciated your commentary earlier on kind of an absence of new doors, perhaps muting California's growth at 9% quarter-over-quarter. My bigger concern is that outside of California, you guys didn't grow at all sequentially. One of the unfortunate reality is of being a late reporter in the earnings season is that we've heard from all of your peers, and you guys are going to be the only company that didn't grow double digits, and not all of your peers, open doors in new markets to drive that growth. And I think it begs a bigger question. Cannabis is supposed to be a nascent industry, the absence of new doors, in particular, given your updated guidance for 2020, like you guys should be able to grow sequentially without new doors. So a couple of -- that's -- some high-level commentary, thanks for indulging it. Now my specific questions are, what markets outside of California declined and why?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [35]

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Let's go market-by-market, as it relates to that question because I think it's an important part of kind of what we have going on here. So in California, year-over-year, we're up 51% from our California locations. As you go into Nevada, our stores there -- a store like Paradise is also up over 50% year-over-year. I think what you're referencing, based on the overall kind of sequential growth has a lot to do with some of the other markets, most notably, Arizona where we've seen a decline in both wholesale and retail revenue. Part of that is just us not focusing on growing that market given other markets that are a lot more core to the business today. And with New York, that market has been pretty stagnant for us over the last 6 months. Also given the same reasons, we're not giving the same attention there in terms of marketing and other support that we're giving to our California locations. I mean our brand, in general, is built for recreational. So I wouldn't expect any huge increases in any medical markets that we're in other than Florida where we have a path to hitting $6 million-plus per store once we get the supply in the system.

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Vivien Nicole Azer, Cowen and Company, LLC, Research Division - MD & Senior Research Analyst [36]

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Okay. That's reasonable enough, I guess. I guess I'm honestly surprised that revenues came in below what I thought was a conservative estimate on our part as well as consensus. So looking ahead then, as we think about your resize kind of aspirations, if you will, I worry a little bit, and so help give me comfort on this one that Arizona was weak because you opted to prioritize something else. Now as you look ahead to the next year, there are tons of things that you have to prioritize, very few of which have anything to do with like actual revenue realization. It's all about cost-cutting, rightsizing, making sure that you're adequately funded. So how are you guys going to balance that?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [37]

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Is the question, balancing growth with cost-cutting at corporate?

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Vivien Nicole Azer, Cowen and Company, LLC, Research Division - MD & Senior Research Analyst [38]

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That's exactly right.

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [39]

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I think part of the rightsizing of the company and scaling back the number of states that we're in is about focusing on markets where we are going to see a lot more growth in the near term, which are California and Nevada. So even though we are cutting costs at corporate, none of that will affect the growth or the care that we're putting into our California market. It's doing the reverse. It's focusing more on markets that are moving the needle today.

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Operator [40]

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Your next question comes from Jesse Pytlak of Cormark.

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Jesse Pytlak, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [41]

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Just starting on the preopening expenses. Is it fair to maybe think that this number is kind of trough now? Or can it expand further from here? And then can you just maybe just give some type of indication in terms of how many leases you might have to potentially sublease?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [42]

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I would say that preopening expenses will come down over the next 12 months. We've been signing up fewer and fewer leases for our nonoperational locations. I think a lot of those relate to Florida. So we mentioned that we're going to be subleasing nonoperating leases, a few of those are in Florida, a few are in New York. And then there's also a few in California where we don't see a near-term path to opening up a store.

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Jesse Pytlak, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [43]

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Okay. And then just kind of moving on in terms of the cost savings initiatives in terms of those deals that you locked with the vendors for -- to ensure 60% gross margin, is there a potential to expand that to further brand partners? Or have you tried and got pushback? Or kind of how is the -- how are those conversations progressing?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [44]

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Can you please repeat that question?

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Jesse Pytlak, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [45]

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Sure. So just on the vendor relationships with the agreements that you signed to ensure that 60% gross margin level with those 8 brands in California, have you had -- have you tried to expand those conversations with other brand partners and received any pushback? Or is there potential to expand it with other partners? Or -- can you may be just talk a bit more about the dynamics there?

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Zeeshan Hyder, MedMen Enterprises Inc. - CFO [46]

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Yes, the 8 that we referenced was just the first kind of wave of those agreements, there's going to be agreements with most of the brands that we're selling in our stores to get them on these new vendor terms. That was a step 1 of this, but eventually, we'll be across all California locations, in other locations and other recreational markets.

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Operator [47]

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This completes the allotted time for questions. Thank you for participating in today's call. You may now disconnect.