UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 6-K
REPORT OF FOREIGN PRIVATE ISSUER PURSUANT TO
RULE 13a-16 OR 15d-16
UNDER THE SECURITIES EXCHANGE ACT OF 1934
For the month of May, 2024.
Commission File Number 000-56261
Glass House Brands Inc.
(Translation of registrant’s name into English)
3645 Long Beach Blvd.
Long Beach, California 90807
(Address of principal executive office)
Indicate by check mark whether the registrant
files or will file annual reports under cover of Form 20-F or Form 40-F.
Form 20-F ¨
Form 40-F x
SIGNATURES
Pursuant to the requirements of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| |
Glass House Brands Inc. |
| |
|
| Date: May 14, 2024 |
/s/ Kyle Kazan |
| |
By: Kyle Kazan |
| |
Title: Chief Executive Officer |
EXHIBIT INDEX
Exhibit
99.1
GLASS HOUSE BRANDS
INC.
UNAUDITED CONDENSED
INTERIM
CONSOLIDATED
FINANCIAL STATEMENTS
AS OF
MARCH 31,
2024 AND DECEMBER 31, 2023
AND FOR THE THREE
MONTHS ENDED
MARCH 31,
2024 AND 2023
GLASS HOUSE
BRANDS INC.
Table
of Contents
| |
Page(s) |
| |
|
| Unaudited Condensed Interim Consolidated Balance
Sheets |
1 |
| |
|
| Unaudited Condensed Interim Consolidated Statements of Operations |
2 |
| |
|
| Unaudited Condensed Interim Consolidated Statements of Changes
in Shareholders’ Equity |
3 - 4 |
| |
|
| Unaudited Condensed Interim Consolidated Statements of Cash
Flows |
5 |
| |
|
| Notes to Unaudited Condensed Interim Consolidated Financial
Statements |
6 – 22 |
GLASS HOUSE
BRANDS INC.
Condensed Consolidated
Balance Sheets
As
of March 31, 2024 and December 31, 2023
| | |
2024 | | |
2023 | |
| ASSETS | |
| | | |
| | |
| Current Assets: | |
| | | |
| | |
| Cash | |
$ | 21,407,806 | | |
$ | 29,524,252 | |
| Restricted Cash | |
| 3,000,000 | | |
| 3,000,000 | |
| Accounts Receivable, Net | |
| 3,007,644 | | |
| 3,979,135 | |
| Prepaid Expenses and Other Current
Assets | |
| 3,455,474 | | |
| 3,873,399 | |
| Inventory | |
| 11,210,084 | | |
| 8,839,537 | |
| Total Current Assets | |
| 42,081,008 | | |
| 49,216,323 | |
| | |
| | | |
| | |
| Operating Lease Right-of-Use Assets, Net | |
| 8,569,740 | | |
| 8,959,645 | |
| Finance Lease Right-of-Use Assets, Net | |
| 2,051,395 | | |
| 1,900,183 | |
| Long Term Investments | |
| 2,345,223 | | |
| 2,327,043 | |
| Property, Plant and Equipment, Net | |
| 214,711,802 | | |
| 215,686,369 | |
| Intangible Assets, Net | |
| 21,007,284 | | |
| 21,212,980 | |
| Other Assets | |
| 4,480,283 | | |
| 4,472,454 | |
| TOTAL ASSETS | |
$ | 295,246,735 | | |
$ | 303,774,997 | |
| LIABILITIES AND SHAREHOLDERS’ EQUITY | |
| | |
| |
| LIABILITIES: | |
| | |
| |
| Current Liabilities: | |
| | | |
| | |
| Accounts Payable and Accrued
Liabilities | |
$ | 29,771,111 | | |
$ | 26,931,887 | |
| Income Taxes Payable | |
| 8,187,557 | | |
| 7,878,991 | |
| Contingent Shares and Earnout Liabilities | |
| 41,042,000 | | |
| 34,589,000 | |
| Shares Payable | |
| 8,581,467 | | |
| 8,569,594 | |
| Current Portion of Operating Lease
Liabilities | |
| 1,362,634 | | |
| 1,452,472 | |
| Current Portion of Finance Lease Liabilities | |
| 459,807 | | |
| 386,779 | |
| Current Portion
of Notes Payable | |
| 7,551,112 | | |
| 7,550,324 | |
| Total Current Liabilities | |
| 96,955,688 | | |
| 87,359,047 | |
| | |
| | | |
| | |
| Operating Lease Liabilities, Net of Current Portion | |
| 7,419,599 | | |
| 7,703,968 | |
| Finance Lease Liabilities, Net of Current Portion | |
| 1,615,763 | | |
| 1,519,649 | |
| Other Non-Current Liabilities | |
| 5,969,506 | | |
| 5,443,818 | |
| Notes Payable, Net of Current Portion | |
| 54,882,682 | | |
| 56,512,600 | |
| TOTAL LIABILITIES | |
| 166,843,238 | | |
| 158,539,082 | |
| | |
| | | |
| | |
| MEZZANINE NON-CONTROLLING INTEREST: | |
| | | |
| | |
GH Group,Inc.
Preferred Series B Shares (no par value, 55,000 shares authorized, 49,969 shares
issued and outstanding as of March 31, 2024 and
December 31, 2023) | |
| 59,172,415 | | |
| 57,545,155 | |
GH Group,Inc.
Preferred Series C Shares (no par value, 5,000 shares authorized, 5,000 shares issued
and outstanding as of March 31, 2024 and
December 31, 2023) | |
| 5,763,498 | | |
| 5,608,093 | |
GH Group,Inc.
Preferred Series D Shares (no par value, 15,000 shares authorized, 15,000 shares
issued and outstanding as of March 31, 2024
and December 31, 2023) | |
| 15,000,000 | | |
| 15,000,000 | |
| | |
| | | |
| | |
| SHAREHOLDERS' EQUITY: | |
| | | |
| | |
| Multiple Voting
Shares (No par value, unlimited shares authorized, 4,754,979 shares issued and outstanding as of March 31, 2024 and December 31,
2023) | |
| - | | |
| - | |
Subordinate Voting
Shares (No par value, unlimited shares authorized, 62,757,368 and 61,986,686
shares issued and outstanding as of March 31, 2024
and December 31, 2023, respectively) | |
| - | | |
| - | |
Exchangeable
Shares (No par value, unlimited shares authorized, 8,472,262 and 8,953,951 shares
issued and outstanding as of March 31, 2024
and December 31, 2023, respectively) | |
| - | | |
| - | |
| Additional Paid-In Capital | |
| 284,115,532 | | |
| 280,695,032 | |
| Accumulated Deficit | |
| (209,265,723 | ) | |
| (190,934,649 | ) |
| Total Shareholders' Equity Attributable
to the Company | |
| 74,849,809 | | |
| 89,760,383 | |
| Non-Controlling
Interest | |
| (26,382,225 | ) | |
| (22,677,716 | ) |
| | |
| | | |
| | |
| TOTAL SHAREHOLDERS'
EQUITY | |
| 128,403,497 | | |
| 145,235,915 | |
| | |
| | | |
| | |
| TOTAL LIABILITIES AND SHAREHOLDERS’
EQUITY | |
$ | 295,246,735 | | |
$ | 303,774,997 | |
The
accompanying notes are an integral part of these Unaudited
Condensed Interim Consolidated Financial Statements.
GLASS HOUSE BRANDS INC.
Unaudited Condensed
Interim Consolidated Statements of Operations
For the Three
Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
| | |
2024 | | |
2023 | |
| Revenues, Net | |
$ | 30,100,588 | | |
$ | 27,554,710 | |
| Cost of Goods Sold
(Exclusive of Depreciation and Amortization Shown Separately Below) | |
| 17,574,471 | | |
| 14,980,859 | |
| | |
| | | |
| | |
| Gross Profit | |
| 12,526,117 | | |
| 12,573,851 | |
| | |
| | | |
| | |
| Operating Expenses: | |
| | | |
| | |
| General and Administrative | |
| 13,527,595 | | |
| 11,386,052 | |
| Sales and Marketing | |
| 477,159 | | |
| 652,253 | |
| Professional Fees | |
| 3,663,336 | | |
| 1,499,934 | |
| Depreciation and Amortization | |
| 3,715,544 | | |
| 3,836,390 | |
| Impairment Expense for Goodwill | |
| - | | |
| 14,143,983 | |
| Impairment Expense
for Intangible Assets | |
| - | | |
| 5,526,000 | |
| | |
| | | |
| | |
| Total Operating
Expenses | |
| 21,383,634 | | |
| 37,044,612 | |
| | |
| | | |
| | |
| Loss from Operations | |
| (8,857,517 | ) | |
| (24,470,761 | ) |
| | |
| | | |
| | |
| Other Expense (Income): | |
| | | |
| | |
| Interest Expense | |
| 2,205,458 | | |
| 2,080,294 | |
| Interest Income | |
| (34 | ) | |
| (45,034 | ) |
| (Gain) Loss on Equity Method Investments | |
| (18,180 | ) | |
| 2,263,697 | |
| Gain on Change in Fair Value of Derivative
Asset | |
| (112,524 | ) | |
| (13,227 | ) |
| Loss on Change in Fair Value of Contingent
Liabilities and Shares Payable | |
| 6,464,873 | | |
| 3,409,774 | |
| Other Expense,
Net | |
| 37,330 | | |
| 242,635 | |
| | |
| | | |
| | |
| Total Other Expense,
Net | |
| 8,576,923 | | |
| 7,938,139 | |
| | |
| | | |
| | |
| Loss from Operations Before Provision for Income Tax Expense | |
| (17,434,440 | ) | |
| (32,408,900 | ) |
| Provision for Income Tax Expense | |
| 834,254 | | |
| 2,374,261 | |
| | |
| | | |
| | |
| Net Loss | |
| (18,268,694 | ) | |
| (34,783,161 | ) |
| | |
| | | |
| | |
| Net Income (Loss) Attributable to Non-Controlling
Interest | |
| 62,380 | | |
| (36,734 | ) |
| | |
| | | |
| | |
| Net Loss Attributable to the Company | |
$ | (18,331,074 | ) | |
$ | (34,746,427 | ) |
| | |
| | | |
| | |
| Loss Per Share - Basic | |
$ | (0.30 | ) | |
$ | (0.52 | ) |
| | |
| | | |
| | |
| Loss Earnings Per Share - Diluted | |
$ | (0.30 | ) | |
$ | (0.52 | ) |
| | |
| | | |
| | |
| Weighted-Average Shares Outstanding
- Basic | |
| 73,158,443 | | |
| 72,460,677 | |
| | |
| | | |
| | |
| Weighted-Average Shares Outstanding
- Diluted | |
| 73,158,443 | | |
| 72,460,677 | |
The
accompanying notes are an integral part of these Unaudited Condensed Interim Consolidated Financial
Statements.
GLASS HOUSE
BRANDS INC.
Unaudited Condensed Interim Consolidated Statements
of Changes in Shareholders’ Equity
For the Three
Months Ended March 31, 2024
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
| |
Units |
|
Units | |
Units | |
| |
| |
| |
$ Amount | |
$ Amount | |
$ Amount | |
| |
| |
| |
Multiple
Voting |
Equity | |
Exchangeable
Voting | |
Additional Paid-
In | |
Accumulated | |
TOTAL
EQUITY
ATTRIBUTABLE
TO | |
Mezzanine Non-
Controlling
Equity
Preferred | |
Mezzanine Non-
Controlling
Equity
Preferred | |
Mezzanine Non-
Controlling
Equity
Preferred | |
Non-
Controlling | |
TOTAL
SHAREHOLDERS' | |
| |
Shares |
|
Shares | |
Shares | |
Capital | |
Deficit | |
SHAREHOLDERS | |
Series B | |
Series C | |
Series D | |
Interest | |
EQUITY | |
| BALANCE AS OF DECEMBER 31, 2023 |
| 4,754,979 |
| 61,986,686 | |
8,953,951 | |
$ | 280,695,032 | |
$ | (190,934,649 | ) |
$ | 89,760,383 | |
$ | 57,545,155 | |
$ | 5,608,093 | |
$ | 15,000,000 | |
$ | (22,677,716 | ) |
$ | 145,235,915 | |
| |
| |
| | |
| |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| Net (Loss) Income |
| - |
| - | |
- | |
| - | |
| (18,331,074 | ) |
| (18,331,074 | ) |
| - | |
| - | |
| - | |
| 62,380 | |
| (18,268,694 | ) |
| |
| |
| | |
| |
| | |
| | |
| - | |
| | |
| | |
| | |
| | |
| - | |
| Share-Based Compensation from Options
and RSU's |
| - |
| - | |
- | |
| 3,271,702 | |
| - | |
| 3,271,702 | |
| - | |
| - | |
| - | |
| - | |
| 3,271,702 | |
| Shares Issued for Exercise of Warrants |
| - |
| 27,400 | |
- | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| Issuance for Conversion of Exchangeable
Shares |
| - |
| 481,689 | |
(481,689 | ) |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| Shares Issued for Conversion of Restricted
Stock Units |
| - |
| 195,710 | |
- | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| Shares Issued for Exercise of Options |
| - |
| 65,883 | |
- | |
| 148,798 | |
| - | |
| 148,798 | |
| - | |
| - | |
| - | |
| - | |
| 148,798 | |
| Distributions to Non-Controlling Interest
Holders |
| - |
| - | |
- | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| (46,726 | ) |
| (46,726 | ) |
| Dividends - Preferred Shareholders |
| - |
| - | |
- | |
| - | |
| - | |
| - | |
| 1,627,260 | |
| 155,405 | |
| - | |
| (3,720,163 | ) |
| (1,937,498 | ) |
| BALANCE AS OF MARCH 31, 2024 |
| 4,754,979 |
| 62,757,368 | |
8,472,262 | |
$ | 284,115,532 | |
$ | (209,265,723 | ) |
$ | 74,849,809 | |
$ | 59,172,415 | |
$ | 5,763,498 | |
$ | 15,000,000 | |
$ | (26,382,225 | ) |
$ | 128,403,497 | |
The
accompanying notes are an integral part of these Unaudited Condensed Interim Consolidated Financial
Statements.
GLASS HOUSE
BRANDS INC.
Unaudited Condensed
Interim Consolidated Statements of Changes in Shareholders’ Equity
For the Three
Months Ended March 31, 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
| | |
Units | |
Units | |
Units | |
| |
| |
| |
$ Amount | |
$ Amount | |
$ Amount | |
| |
| |
| | |
Multiple
Voting | |
Equity | |
Exchangeable
Voting | |
Additional Paid-
In | |
Accumulated | |
TOTAL
EQUITY
ATTRIBUTABLE
TO | |
Mezzanine Non-
Controlling
Equity
Preferred | |
Mezzanine Non-
Controlling
Equity
Preferred | |
Mezzanine Non-
Controlling
Equity
Preferred | |
Non-
Controlling | |
TOTAL
SHAREHOLDERS' | |
| | |
Shares | |
Shares | |
Shares | |
Capital | |
Deficit | |
SHAREHOLDERS | |
Series B | |
Series C | |
Series D | |
Interest | |
EQUITY | |
| BALANCE AS OF DECEMBER 31, 2022 | |
| 4,754,979 | |
| 55,653,855 | |
| 12,566,550
| |
$ | 261,527,245 | |
$ | (92,665,231 | ) |
$ | 168,862,014 | |
$ | 51,774,193 | |
$ | 4,759,925 | |
$ | - | |
$ | (4,261,516 | ) |
$ | 221,134,616 | |
| Net Loss | |
| - | |
| - | |
| - | |
| - | |
| (34,746,427 | ) |
| (34,746,427 | ) |
| - | |
| - | |
| - | |
| (36,734 | ) |
| (34,783,161 | ) |
| Share-Based Compensation from Options
and RSU's | |
| - | |
| - | |
| - | |
| 1,631,088 | |
| - | |
| 1,631,088 | |
| - | |
| - | |
| - | |
| - | |
| 1,631,088 | |
| Issuance of Series C Preferred Shares
and Warrants | |
| - | |
| - | |
| - | |
| 84,174 | |
| - | |
| 84,174 | |
| - | |
| 215,826 | |
| - | |
| - | |
| 300,000 | |
| Adjustment of Series C Preferred
Shares to Redemption Value | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| 84,174 | |
| - | |
| (84,174 | ) |
| - | |
| Issuance for Conversion of Exchangeable
Shares | |
| - | |
| 1,602,345 | |
| (1,602,345 | ) |
| - | |
| - | |
| - | |
| - | |
| | |
| | |
| - | |
| - | |
| Shares Issued for Conversion of Restricted
Stock Units | |
| - | |
| 155,721 | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| Distributions to Non-Controlling Interest
Holders | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| (46,308 | ) |
| (46,308 | ) |
| Dividends - Preferred Shareholders | |
| - | |
| - | |
| - | |
| - | |
| - | |
| - | |
| 1,339,529 | |
| 124,963 | |
| - | |
| (2,831,990 | ) |
| (1,367,498 | ) |
| BALANCE AS OF MARCH 31, 2023 | |
| 4,754,979 | |
| 57,411,921 | |
| 10,964,205 | |
$ | 263,242,507 | |
$ | (127,411,658 | ) |
$ | 135,830,849 | |
$ | 53,113,722 | |
$ | 5,184,888 | |
$ | - | |
$ | (7,260,722 | ) |
$ | 186,868,737 | |
The
accompanying notes are an integral part of these Unaudited Condensed Interim Consolidated Financial
Statements.
GLASS HOUSE
BRANDS INC.
Unaudited Condensed
Interim Consolidated Statements of Cash Flows
For the Three
Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
| | |
2024 | | |
2023 | |
| CASH FLOWS FROM OPERATING ACTIVITIES: | |
| | | |
| | |
| Net Loss | |
$ | (18,268,694 | ) | |
$ | (34,783,161 | ) |
| Adjustments to Reconcile Net Loss to Net
Cash Provided By (Used In) Operating Activities: | |
| | | |
| | |
| Deferred Tax Benefit | |
| - | | |
| 76,489 | |
| Bad Debt Expense, Net of Recoveries | |
| (9,438 | ) | |
| (81,266 | ) |
| Depreciation and Amortization | |
| 3,715,544 | | |
| 3,836,388 | |
| (Gain) Loss on Equity Method Investments | |
| (18,180 | ) | |
| 2,263,697 | |
| Impairment Expense for Goodwill | |
| - | | |
| 14,143,983 | |
| Impairment Expense for Intangible Assets | |
| - | | |
| 5,526,000 | |
| Non-Cash Operating Lease Costs | |
| 389,905 | | |
| 285,191 | |
| Accretion of Debt Discount and Loan
Origination Fees | |
| 259,169 | | |
| 245,035 | |
| Gain on Change in Fair Value of Derivative
Asset | |
| (112,524 | ) | |
| (13,227 | ) |
| Loss on Change in Fair Value of Contingent
Liabilities and Shares Payable | |
| 6,464,873 | | |
| 3,409,774 | |
| Share-Based Compensation | |
| 3,271,702 | | |
| 1,631,088 | |
| Changes in Operating Assets and Liabilities: | |
| | | |
| | |
| Accounts Receivable | |
| 980,929 | | |
| 2,343,286 | |
| Prepaid Expenses and Other Current Assets | |
| 417,925 | | |
| 3,369,261 | |
| Inventory | |
| (2,370,547 | ) | |
| (2,323,587 | ) |
| Other Assets | |
| 104,695 | | |
| (47,614 | ) |
| Accounts Payable and Accrued Liabilities | |
| 2,896,974 | | |
| 2,571,734 | |
| Interest Payments on Finance Leases | |
| (57,750 | ) | |
| - | |
| Income Taxes Payable | |
| 308,566 | | |
| 2,004,427 | |
| Operating Lease Liabilities | |
| (374,207 | ) | |
| (253,764 | ) |
| Other Non-Current Liabilities | |
| 525,688 | | |
| 254,440 | |
| NET CASH (USED IN) PROVIDED BY
OPERATING ACTIVITIES | |
| (1,875,370 | ) | |
| 4,458,174 | |
| | |
| | | |
| | |
| CASH FLOWS FROM INVESTING ACTIVITIES: | |
| | | |
| | |
| Purchases of Property and Equipment | |
| (2,405,126 | ) | |
| (1,089,858 | ) |
| Issuance of Note Receivable | |
| - | | |
| (45,000 | ) |
| NET CASH USED IN INVESTING ACTIVITIES | |
| (2,405,126 | ) | |
| (1,134,858 | ) |
| | |
| | | |
| | |
| CASH FLOWS FROM FINANCING ACTIVITIES: | |
| | | |
| | |
| Proceeds from the Issuance of Notes Payable | |
| - | | |
| 42,638 | |
| Proceeds from the Issuance of Preferred Shares | |
| - | | |
| 300,000 | |
| Payment on Finance Lease | |
| (112,225 | ) | |
| (15,453 | ) |
| Payments on Notes Payable | |
| (1,888,299 | ) | |
| (11,946 | ) |
| Cash Received for Exercise of Options | |
| 148,798 | | |
| - | |
| Distributions to Non-Controlling Interest Holders | |
| (46,726 | ) | |
| (46,308 | ) |
| Distributions to Preferred Shareholders | |
| (1,937,498 | ) | |
| (1,367,498 | ) |
| NET CASH
USED IN FINANCING ACTIVITIES | |
| (3,835,950 | ) | |
| (1,098,567 | ) |
| | |
| | | |
| | |
NET (DECREASE) INCREASE IN CASH,
RESTRICTED CASH AND
CASH EQUIVALENTS | |
| (8,116,446 | ) | |
| 2,224,749 | |
| Cash, Restricted Cash and Cash Equivalents, Beginning of Period | |
| 32,524,252 | | |
| 14,143,502 | |
| CASH, RESTRICTED CASH AND CASH
EQUIVALENTS, END OF PERIOD | |
$ | 24,407,806 | | |
$ | 16,368,251 | |
| | |
| | | |
| | |
| | |
| 2024 | | |
| 2023 | |
| | |
| | | |
| | |
| SUPPLEMENTAL DISCLOSURE FOR CASH FLOW INFORMATION | |
| | | |
| | |
| Cash Paid for Interest | |
$ | 1,510,829 | | |
$ | 1,597,007 | |
| Cash Paid for Taxes | |
$ | - | | |
$ | 38,906 | |
| | |
| | | |
| | |
| Non-Cash Investing and Financing Activities: | |
| | | |
| | |
| Adjustment of Preferred Shares to Redemption Value | |
$ | - | | |
$ | 84,174 | |
| Recognition of Right-of-Use Assets for Finance Leases | |
$ | 281,367 | | |
$ | - | |
| Interest Capitalized to Property and Equipment | |
$ | - | | |
$ | 85,748 | |
The accompanying notes are
an integral part of these Unaudited Condensed Interim Consolidated Financial Statements.
GLASS HOUSE
BRANDS INC.
Notes to Unaudited
Condensed Interim Consolidated Financial Statements
For the Three
Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
1. NATURE
OF OPERATIONS
Glass
House Brands Inc. (the “Company”), formerly known as Mercer Park Brand Acquisition Corp. (“Mercer Park”), was
incorporated under the Business Corporations Act (British Columbia) on April 16, 2019. The Company is a vertically integrated
cannabis company that operates exclusively in the state of California. The Company, through its subsidiaries
cultivates, manufactures, and distributes cannabis bulk flower and trim to wholesalers and consumer packaged goods to third-party retail
stores in the state of California. The Company also owns and operates retail cannabis stores in the state of California. The Company’s
subordinate voting shares (the “Subordinate Voting Shares”), restricted voting shares (the “Restricted Voting Shares”)
and limited voting shares (the “Limited Voting Shares”, and collectively with the Subordinate Voting Shares and the Restricted
Voting Shares, the “Equity Shares”), and common share purchase warrants are listed on the NEO Exchange Inc., trading under
the symbols “GLAS.A.U” and “GLAS.WT.U”, respectively. The Equity Shares and common share purchase warrants also
trade on the OTCQX in the United States under the symbols “GLASF” and “GHBWF”, respectively. The head office
and principal address of the Company is 3645 Long Beach Boulevard, Long Beach, California 90807. The Company’s registered office
in Canada is 666 Burrard Street, Suite 2500, Vancouver, BC V6C 2X8 Canada.
Liquidity
Historically,
the Company’s primary source of liquidity has been its operations, capital contributions made by equity investors and debt
issuances. The Company is meeting its current operational obligations as they become due from its current working capital and from
operations. However, the Company has sustained losses since inception and may require additional capital in the future. As of and
for the three months ended March 31, 2024, the Company had an accumulated deficit of $209,265,723,
a net loss attributable to the Company of $18,331,074 and
net cash used in operating activities of $1,875,370. The Company estimates that
based on current business operations and working capital, it will continue to meet its obligations as they become due in the short
term.
The Company is
generating cash from revenues and deploying its capital reserves to acquire and develop assets capable of producing additional revenues
and earnings over both the immediate and near term. Capital reserves are primarily being utilized for capital expenditures, facility
improvements, product development and marketing.
Liquidity
risk is the risk that the Company will not be able to meet its financial obligations associated with financial liabilities. The Company
manages its liquidity risk through the management of its capital structure. The Company’s approach to managing liquidity is to
ensure that it will have sufficient liquidity to settle obligations and liabilities when due. In the event sufficient cash flow is not
available from operating activities, the Company may continue to raise equity or debt capital from investors in order to meet liquidity
needs. If the Company is not able to secure adequate additional funding, the Company may be forced
to make reductions in spending, extend payment terms with suppliers, liquidate assets where possible, or suspend or curtail planned programs.
Any of these actions could materially harm the Company’s business, results of operations and future prospects. There can be no
assurance that such financing will be available or will be on terms acceptable to the Company.
The
significant accounting policies and critical estimates applied by the Company in these Unaudited Condensed Interim Consolidated Financial
Statements are the same as those applied in the Company’s audited Consolidated Financial Statements and accompanying notes for
the year ended December 31, 2023 and 2022, unless disclosed otherwise below. The Company’s audited Consolidated Financial
Statements for the year ended December 31, 2023 and 2022, filed on April 1, 2024, can be found on SEDAR+
at www.sedarplus.ca.
2. SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES
Basis of
Preparation
The accompanying
Unaudited Condensed Interim Consolidated Financial Statements have been prepared on a going concern basis in accordance with accounting
principles generally accepted in the United States of America (“GAAP”) and reflect the accounts and operations of the Company
and those of the Company’s subsidiaries in which the Company has a controlling financial interest. Investments in entities in which
the Company has significant influence, but less than a controlling financial interest, are accounted for using the equity method.
All intercompany
transactions and balances have been eliminated in consolidation. In the opinion of management, all adjustments (consisting only of normal
recurring adjustments) considered necessary for a fair presentation of the consolidated financial position of the Company as of March 31,
2024 and December 31, 2023, the consolidated results of operations and cash flows for the three months ended March 31, 2024
and 2023 have been included.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated
Financial Statements
For the Three
Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
2. SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
The accompanying
Unaudited Condensed Interim Consolidated Financial Statements do not include all of the information required for full annual financial
statements. Accordingly, certain information, footnotes and disclosures normally included in the annual financial statements, prepared
in accordance with GAAP, have been condensed or omitted. The financial data presented herein should be read in conjunction with the Company’s
audited Consolidated Financial Statements for the year ended December 31, 2023 and 2022, and the related notes thereto, and have
been prepared using the same accounting policies described therein.
Basis of
Consolidation
These Unaudited
Condensed Interim Consolidated Financial Statements as of March 31, 2024 and for the three months ended March 31, 2024 and
2023 include the accounts of the Company, its wholly-owned subsidiaries and entities over which the Company has control as defined in
ASC 810. Subsidiaries over which the Company has control are fully consolidated from the date control commences until the date control
ceases. Control exists when the Company has ownership of a majority voting interest, and, therefore, as a general rule ownership
by one reporting entity, directly or indirectly, of more than fifty percent of the outstanding voting securities of another entity. In
assessing control, potential voting rights that are currently exercisable are considered.
Non-Controlling Interest
Non-controlling
interest represents equity interests owned by parties that are not shareholders of the ultimate parent. The share of net assets attributable
to non-controlling interests is presented as a component of equity. Their share of net income or loss is recognized directly in equity.
Changes in the parent company’s ownership interest that do not result in a loss of control are accounted for as equity transactions.
Segmented
Information
The
Company currently operates in three reportable segments which are retail, wholesale biomass and
cannabis-related consumer packaged goods (“CPG”). All of the Company’s operations are in the United States of America
in the State of California. Intercompany sales and transactions are eliminated in consolidation. See “Note 19 – Segment
Information” for further information.
Employee
Retention Tax Credits
On March 27,
2020, the U.S. government enacted the Coronavirus Aid Relief and Security Act (the "CARES Act") to provide certain relief as
a result of the COVID-19 pandemic. The CARES Act provides tax relief, along with other stimulus measures, including a provision for an
Employee Retention Credit ("ERC"). As there is no authoritative guidance under GAAP on accounting for government assistance
to for-profit business entities, the Company accounts for the ERC by analogy to International Accounting Standard, Accounting for Government
Grants and Disclosure of Government Assistance ("IAS 20"). Since the filing of the ERC’s through March 31, 2024,
the Company filed with the Internal Revenue Service credits totaling $11,580,468. The Company will not recognize the amounts claimed
until it has been determined that the Company has reasonable assurance that the credits will be realized.
Restricted
Cash
Restricted cash
balances are those which meet the definition of cash and cash equivalents but are not available for use by the Company. As of March 31,
2024 and December 31, 2023, restricted cash was $3.0 million and $3.0 million, respectively, which is held in an escrow account
and used as an interest reserve for the senior term loan agreement. See “Note 12 – Notes Payable and Convertible Debentures”
for further discussion.
Loss per
Share
The
Company calculates basic earnings or loss per share by dividing net earnings or loss by the weighted-average number of the Equity Shares
(including the Exchangeable Shares, as defined herein, on an as-exchanged basis) outstanding during the period. Multiple Voting Shares,
as defined herein, are excluded from the calculation of earnings or loss per share as they do not participate in earnings or losses.
Diluted loss per share is the same as basic loss per share if the issuance of shares on the exercise
of convertible debentures, contingent shares, warrants, restricted stock units and share options are anti-dilutive. Diluted earnings
per share includes options, warrants, restricted stock units, and contingently issuable shares that are determined to be dilutive using
the treasury stock method for all equity instruments issuable in equity units and the “if converted” method for the Company’s
convertible debentures. See “Note 15 – Loss Per Share” for further information.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated
Financial Statements
For the Three
Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
3. CONCENTRATIONS OF BUSINESS AND
CREDIT RISK
The Company maintains
cash balances at its physical locations, which are not currently insured, and with various U.S. banks and credit unions with balances
in excess of the Federal Deposit Insurance Corporation and National Credit Union Share Insurance Fund limits, respectively. The failure
of a bank or credit union where the Company has significant deposits could result in a loss of a portion of such cash balances in excess
of the insured limit, which could materially and adversely affect the Company’s business, financial condition and results of operations.
As of March 31, 2024 and December 31, 2023, the Company has not experienced any losses with regards to its cash balances.
The Company provides
certain credit terms in the normal course of business to customers located throughout California. The Company performs ongoing credit
evaluations of its customers and maintains allowances for doubtful accounts based on factors surrounding the credit risk of specific
customers, historical and projected future trends, and other information. For the three months ended March 31, 2024 and 2023, there
were one (2024) and two (2023) customer(s), respectively, that comprised 15% and 27%, respectively, of the Company’s revenues.
As of March 31, 2024, the customer had a balance due to the Company of $744,277. As of December 31, 2023, the customer had
a balance due to the Company of $722,514.
4. INVENTORY
As of March 31,
2024 and December 31, 2023, inventory consists of the following:
| | |
2024 | |
2023 | |
| Raw Materials | |
$ | 1,381,861 | |
$ | 1,192,369 | |
| Work-in-Process | |
| 5,964,126 | |
| 3,326,832 | |
| Finished Goods | |
| 3,864,097 | |
| 4,320,336 | |
| Total Inventory | |
$ | 11,210,084 | |
$ | 8,839,537 | |
5. INVESTMENTS
The
Company has various investments in entities in which it holds a significant but non-controlling interest through voting equity or through
representation on the entities’ board of directors or equivalent governing bodies. Accordingly, the Company was deemed to have
significant influence resulting in the Company accounting for these investments under the equity method.
| | |
5042 Real
Estate
Investment, LLC | |
Reeform,
LLC | |
Lompoc
TIC, LLC | |
TOTAL | |
| Balance at December 31, 2023 | |
$ | 1,970,771 | |
$ | 164,235 | |
$ | 192,037 | |
$ | 2,327,043 | |
| Gain (Loss) on Equity Method Investments | |
| 48,928 | |
| (26,694 | ) |
| (4,054 | ) |
| 18,180 | |
| Balance at March 31, 2024 | |
$ | 2,019,699 | |
$ | 137,541 | |
$ | 187,983 | |
$ | 2,345,223 | |
During
the three months ended March 31, 2024 and 2023, the Company recorded net gain and loss from equity method investments of $18,180
and $2,263,697, respectively. These investments are recorded at the amount of the Company’s initial investment and adjusted for
the Company’s share of the investee’s income or loss and dividends paid.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
6. PROPERTY,
PLANT AND EQUIPMENT
As of March 31, 2024 and December 31,
2023, property, plant and equipment consist of the following:
| | |
2024 | | |
2023 | |
| Land | |
$ | 70,888,383 | | |
$ | 70,888,383 | |
| Buildings | |
| 154,194,844 | | |
| 143,206,685 | |
| Furniture and Fixtures | |
| 920,620 | | |
| 827,273 | |
| Leasehold Improvements | |
| 14,716,867 | | |
| 14,680,328 | |
| Equipment and Software | |
| 9,925,554 | | |
| 9,497,864 | |
| Construction in Progress | |
| 1,025,692 | | |
| 10,166,294 | |
| Total Property, Plant and Equipment | |
| 251,671,960 | | |
| 249,266,827 | |
| Less Accumulated Depreciation and Amortization | |
| (36,960,158 | ) | |
| (33,580,458 | ) |
| Property, Plant and Equipment, Net | |
$ | 214,711,802 | | |
$ | 215,686,369 | |
During the three months ended March 31,
2024 and 2023, the Company recorded depreciation expense of $3,509,848 and $3,419,388, respectively. The amount of amortization
recognized for finance leases during the three months ended March 31, 2024 and 2023 was $130,155 and $15,051, respectively, see
“Note 11 – Leases” for further information. Additionally, during the three months ended March 31, 2024
and 2023, the Company capitalized interest to property and equipment of nil and $85,748, respectively.
7. INTANGIBLE
ASSETS
As of March 31, 2024 and December 31,
2023, intangible assets consist of the following:
| | |
2024 | | |
2023 | |
| Definite Lived Intangible Assets | |
| | | |
| | |
| Customer Relationships | |
$ | 587,000 | | |
$ | 587,000 | |
| Intellectual Property | |
| 4,777,000 | | |
| 4,777,000 | |
| Total Definite Lived Intangible Assets | |
| 5,364,000 | | |
| 5,364,000 | |
| Less Accumulated Amortization | |
| (2,526,716 | ) | |
| (2,321,020 | ) |
| Definite Lived Intangible Assets, Net | |
| 2,837,284 | | |
| 3,042,980 | |
| Indefinite Lived Intangible Assets | |
| | | |
| | |
| Cannabis Licenses | |
| 18,170,000 | | |
| 18,170,000 | |
| Total Indefinite Lived Intangible Assets | |
| 18,170,000 | | |
| 18,170,000 | |
| Total Intangible Assets, Net | |
$ | 21,007,284 | | |
$ | 21,212,980 | |
For
the three months ended March 31, 2024 and 2023, the Company recorded amortization expense related to intangible assets of $205,696
and $417,000, respectively. During the three months ended March 31, 2023, the Company recognized $2,013,000 and $3,513,000 of other
than temporary impairment in customer relationships and intellectual property, respectively, as a result of updated earnings projections for unforeseen changes in market demand in the consumer-packaged goods market.
The following is the future minimum amortization
expense to be recognized for the years ended December 31:
| December 31: | |
| |
| 2024 (Remaining) | |
$ | 540,770 | |
| 2025 | |
| 718,616 | |
| 2026 | |
| 598,616 | |
| 2027 | |
| 465,283 | |
| 2028 | |
| 118,616 | |
| Thereafter | |
| 395,383 | |
| Total Future Amortization Expense | |
$ | 2,837,284 | |
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
8. GOODWILL
As of March 31, 2024 and December 31, 2023, goodwill was
nil.
Goodwill
is assigned to the reporting unit, which is the operating segment level or one level below the operating segment. Goodwill arises when
the purchase price for acquired businesses exceeds the fair value of tangible and intangible assets acquired less assumed liabilities.
Goodwill is reviewed annually for impairment or more frequently if impairment indicators arise. The goodwill impairment test compares
the fair value of a reporting unit with its carrying amount. The amount by which the carrying amount exceeds the reporting unit’s
fair value is recognized as a goodwill impairment loss. During the three months ended March 31, 2023, management noted indications
of impairment on the goodwill of its CPG reporting unit and recorded an impairment expense of $14,143,983 as a result of updated earnings projections for unforeseen changes in market demand in the consumer-packaged goods market.
9. ACCOUNTS
PAYABLE AND ACCRUED LIABILITIES
As of March 31, 2024 and December 31,
2023, accounts payable and accrued liabilities consist of the following:
| | |
2024 | | |
2023 | |
| Accounts Payable | |
$ | 6,463,530 | | |
$ | 5,539,966 | |
| Accrued Liabilities | |
| 15,406,716 | | |
| 13,123,070 | |
| Accrued Payroll and Related Liabilities | |
| 5,151,562 | | |
| 5,351,228 | |
| Sales Tax and Cannabis Taxes | |
| 2,749,303 | | |
| 2,917,623 | |
| Total Accounts Payable and Accrued Liabilities | |
$ | 29,771,111 | | |
$ | 26,931,887 | |
The Company offers a customer loyalty rewards
program that allows members to earn discounts on future purchases. Unused discounts earned by loyalty rewards program members are included
in accrued liabilities and recorded as a sales discount at the time a qualifying purchase is made. The value of points accrued as of
March 31, 2024 and December 31, 2023, was approximately $767,000 and $1,103,000, respectively.
10. CONTINGENT
SHARES AND EARNOUT LIABILITIES
As of March 31, 2024, activity related to
the contingent shares and earnout liabilities consist of the following:
| | |
2024 | |
| Balance at December 31, 2023 | |
$ | 34,589,000 | |
| Change in Fair Value of Contingent Liabilities | |
| 6,453,000 | |
| Balance at March 31, 2024 | |
$ | 41,042,000 | |
During the three months ended March 31,
2024 and 2023, the Company recorded losses on change in fair value of contingent liabilities of $6,453,000 and $3,402,763, respectively.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
11. LEASES
The below are the details of the lease cost and
other disclosures regarding the Company’s leases for the three months ended March 31, 2024 and 2023:
| | |
2024 | | |
2023 | |
| Finance Lease Cost: | |
| | | |
| | |
| Amortization of Finance Lease Right-of-Use Assets | |
$ | 130,155 | | |
$ | 15,051 | |
| Interest on Lease Liabilities | |
| 57,750 | | |
| 13,802 | |
| Operating Lease Cost | |
| 638,971 | | |
| 600,418 | |
| Short-Term Lease Costs | |
| 305,523 | | |
| 254,452 | |
| Total Lease Expenses | |
$ | 1,132,399 | | |
$ | 883,723 | |
| Cash Paid for Amounts Included in the Measurement of Lease Liabilities: | |
2024 | | |
2023 | |
| Operating Cash Flows from Finance Leases | |
$ | 56,932 | | |
$ | 14,064 | |
| Operating Cash Flows from Operating Leases | |
$ | 623,274 | | |
$ | 568,995 | |
| Financing Cash Flows from Finance Leases | |
$ | 112,225 | | |
$ | 15,453 | |
| Non-Cash Additions to Right-of-Use Assets and Lease Liabilities: | |
| | | |
| | |
| Recognition of Right-of-Use Assets for Finance Leases | |
$ | 281,367 | | |
$ | - | |
| | |
| | | |
| | |
| Weighted-Average Remaining Lease Term (Years) - Finance Leases | |
| 4 | | |
| 3 | |
| Weighted-Average Remaining Lease Term (Years) - Operating Leases | |
| 6 | | |
| 7 | |
| Weighted-Average Discount Rate - Finance Leases | |
| 11.12 | % | |
| 20.40 | % |
| Weighted-Average Discount Rate - Operating Leases | |
| 11.41 | % | |
| 12.00 | % |
Future minimum lease payments under non-cancelable
finance and operating leases as of March 31, 2024 are as follows:
| | |
Operating Leases | | |
Finance Leases | | |
| |
| December 31: | |
Third Parties | | |
Related Parties | | |
Third Parties | | |
Total | |
| 2024 (Remaining) | |
$ | 1,051,682 | | |
$ | 703,894 | | |
$ | 433,778 | | |
$ | 2,189,354 | |
| 2025 | |
| 1,399,104 | | |
| 554,267 | | |
| 618,956 | | |
| 2,572,327 | |
| 2026 | |
| 1,372,745 | | |
| 570,895 | | |
| 483,475 | | |
| 2,427,115 | |
| 2027 | |
| 1,126,862 | | |
| 588,022 | | |
| 497,045 | | |
| 2,211,929 | |
| 2028 | |
| 537,353 | | |
| 605,663 | | |
| 187,959 | | |
| 1,330,975 | |
| Thereafter | |
| 1,600,852 | | |
| 2,320,941 | | |
| - | | |
| 3,921,793 | |
| Total Future Minimum Lease Payments | |
| 7,088,598 | | |
| 5,343,682 | | |
| 2,221,213 | | |
| 14,653,493 | |
| Less Imputed Interest | |
| (1,979,852 | ) | |
| (1,670,195 | ) | |
| (145,643 | ) | |
| (3,795,690 | ) |
| Present Value of Lease Liability | |
| 5,108,746 | | |
| 3,673,487 | | |
| 2,075,570 | | |
| 10,857,803 | |
| Less Current Portion of Lease Liability | |
| (856,214 | ) | |
| (506,420 | ) | |
| (459,807 | ) | |
| (1,822,441 | ) |
| Present Value of Lease Liability, Net of Current Portion | |
$ | 4,252,532 | | |
$ | 3,167,067 | | |
$ | 1,615,763 | | |
$ | 9,035,362 | |
On
September 14, 2021, the Company entered into an agreement to lease out a portion of its real property at approximately $500,000
per month for 36 months. However, lease payments to the Company are abated if certain contingencies are met by the lessee. As
of March 31, 2024, such contingencies are expected to be met, and as a result, no rental income was recognized by the Company.
The
Company leases certain business facilities from related parties and third parties under non-cancellable operating lease agreements that
specify minimum rentals. The operating leases require monthly payments ranging from $800 to $56,000 and expire through November 2032.
Certain lease monthly payments may escalate up to 5.0% each year. In such cases, the variability in lease payments is included within
the current and noncurrent operating lease liabilities.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
12. NOTES
PAYABLE AND CONVERTIBLE DEBENTURES
As of March 31, 2024 and December 31,
2023, notes payable consist of the following:
| | |
2024 | | |
2023 | |
| Term loan payable maturing in November 30, 2026, bearing interest at 12.00 percent per annum | |
$ | 47,500,000 | | |
$ | 49,375,000 | |
| Convertible Debentures | |
| 16,006,084 | | |
| 16,006,084 | |
| Other | |
| 421,111 | | |
| 434,410 | |
| Total Notes Payable | |
| 63,927,195 | | |
| 65,815,494 | |
| Less Unamortized Debt Issuance Costs and Loan Origination Fees | |
| (1,493,401 | ) | |
| (1,752,570 | ) |
| Net Amount | |
$ | 62,433,794 | | |
$ | 64,062,924 | |
| Less Current Portion of Notes Payable | |
| (7,551,112 | ) | |
| (7,550,324 | ) |
| Notes Payable, Net of Current Portion | |
$ | 54,882,682 | | |
$ | 56,512,600 | |
Senior Secured Credit Agreement
On December 9, 2021 (the “Senior Secure
Closing Date”), the Company entered into a senior secured term loan agreement, as amended (the “Credit Agreement”),
for total available proceeds of up to $100,000,000 with funds managed by a U.S.-based private credit investment fund and other third-party
lenders (together, the “Senior Secured Lender”). Effective December 10, 2021, the Company closed on an initial term
loan through the Credit Agreement of $50,000,000. The principal amount under the Credit Agreement will be paid in monthly installments
in an aggregate amount equal to 1.25% per annum of the original principal amount, 24 months following the Senior Secure Closing Date,
with a maturity date through November 30, 2026. Interest will be paid, beginning December 31, 2021, in monthly installments
equal to the floating base rate plus the applicable term margin, or 5.25%. The interest rate will not be less than 10% per annum or exceed
12% per annum. As of March 31, 2024 and December 31, 2023, the interest rate was 12%.
The Company has optional and mandatory prepayments.
Mandatory prepayments include any voluntary and involuntary sale or disposition of assets by the Company or any restricted subsidiaries.
The outstanding principal amount of the obligation will be repaid by 100% of cash proceeds received from the sale or disposition of assets
with certain exemptions as defined in the Credit Agreement. As of the Senior Secure Closing Date, the Company deposited an interest reserve
in the amount of $3,000,000 into an escrow account and included as restricted cash in the Condensed Consolidated Balance Sheets as of
March 31, 2024 and December 31, 2023. Additionally, the Company’s real properties held in Glass House Farm LLC, Magu
Farm LLC and GH Camarillo LLC were pledged as security.
The Credit Agreement contains a financial covenant
which requires the Company to maintain liquidity in excess of $10,000,000 at all times. As of March 31, 2024 and December 31,
2023, the Company was in compliance with such financial covenant. Additionally, there are certain covenants which will require the Company
to maintain a specific minimum debt service coverage ratio (“DSCR”) which will be measured quarterly beginning with the quarter
ending December 31, 2022.
Amendments to the Senior Secured Credit
Agreement
On January 21, 2022, the Company amended
and restated the Credit Agreement (the “1st Amendment”) wherein certain events of default were waived.
On May 12, 2022, the Company amended and
restated the Credit Agreement (the “2nd Amendment”) wherein certain events of default were waived, and the Company
entered into an incremental term loan in the amount of $10,000,000 (the “Incremental Term Loan”), for total available proceeds
of $110,000,000. The Incremental Term Loan bears interest at a rate of 10% per annum and payable in monthly installments. In addition,
a 1% fee of the outstanding principal amount of the Incremental Term Loan is payable in monthly installments beginning August 1,
2022, with a maturity date through October 31, 2022. In connection with the Incremental Term Loan, the Company issued 175,000 warrants
to the Senior Secured Lender, with an exercise price of $11.50 per share, to acquire each Equity Share until June 26, 2026. The
fair value of the warrants were determined using Level 1 inputs as these warrants are openly traded on a stock exchange. During the year
ended December 31, 2022, the Company recorded an additional debt discount of $89,250 related to the change in terms of the Credit
Agreement. In addition to receiving the $10,000,000 in Incremental Term Loan, the Company paid $579,000 in direct loan fees, which are
recorded as a debt discount.
On August 30, 2022, the Company repaid the
$10,000,000 Incremental Term Loan in cash.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
12. NOTES
PAYABLE AND CONVERTIBLE DEBENTURES (Continued)
In March 2023, the Company entered into
an amendment to the Credit Agreement by which the Senior Secured Lender waived and deferred enforcement of certain covenants which require
the Company to maintain a specific minimum debt service coverage ratio beginning with the quarter ending on June 30, 2023. As of
March 31, 2024, the Company was in compliance with the Credit Agreement covenant. In connection with the amendment to the Credit
Agreement, the Company will pay an amount equal to 2% of the aggregate principal amount of the loan outstanding as of August 1,
2023. The Company recognized amendment fees of $1,000,000 as other expense and paid such fee on July 27, 2023.
On February 23, 2024, the
Company entered into Amendment Number Five to Credit Agreement, Waiver, and Consent with the Senior Secured Lender to among other things
approve of the Series C and D Offerings and to amend the Credit Agreement to change the Minimum EBITDA requirement to have an annualized
EBITDA of $20 million for the fiscal quarter period ending December 31, 2023, a LTM EBITDA of $20 million for the fiscal quarter
period ending March 31, 2024 and June 30, 2024, and a LTM EBITDA of $22.5 million for each month ending on July 31, 2024
and for each month ending thereafter. As of March 31, 2024, the EBITDA requirement have been met.
Convertible Debentures
On
April 28, 2022, the Company completed the Plus Products acquisition in which the purchase price was payable in part through an aggregate
of 20,005 unsecured convertible debenture notes which consist of 12,003 debenture notes (the “Series A Notes”)
and 8,002 debenture notes (the “Series B Notes”) (collectively, the “Plus Convertible Notes”). The Plus
Convertible Notes accrue interest at 8.00% per annum payable in semi-annual arrears until April 15, 2027 (the “Maturity Date”).
Interest is payable in cash, by the issuance of the Company’s Equity Shares or a combination of both at the sole discretion of
the Company, based on the 10-day VWAP of the Equity Shares ending 5 trading days prior to the interest payment date with a fixed exchange
rate of USD$1.00 to CAD$1.27.
The Series A Notes are redeemable, at the
sole option of the Company, in full or in part on a pro rata basis, and payable in cash, by the issuance of the Company’s Equity
Shares, or a combination of both, at any time through the Maturity Date based on the higher of (i) the 10-day VWAP of the Equity
Shares ending 5 trading days prior to the redemption date, or (ii) $4.08.
The Series B Notes are redeemable, at the
sole option of the Company, in full or in part on a pro rata basis, and payable in cash, by the issuance of the Company’s Equity
Shares, or a combination of both, at any time through the Maturity Date based on the lower of (i) the 10-day VWAP of the Equity
Shares ending 5 trading days prior to the redemption date, or (ii) $10.00 per Equity Share. In the event the Company’s Equity
Shares achieve a closing price of $10.00 per share over any period greater than or equal to 20 consecutive trading days, each holder
of the Series B Notes may elect to convert all or a portion of their holdings into the Company’s Equity Shares based on a
conversion price of $10.00 per Equity Share. As of March 31, 2024, the balance of $11,894,989 and $4,111,095 for the Series A
Notes and Series B Notes, respectively remain outstanding.
The
conversion features of the Series A Notes and Series B Notes were bifurcated from the related notes and classified as derivatives
due to the variability of price in accordance with ASC 815. Accordingly, the fair value of the conversion features for the Series A
Notes and Series B Notes were measured at fair value using a discounted cash flow model that is based on unobservable inputs.
During the three months ended March 31, 2024 and 2023, the Company recorded a change in derivative asset of approximately $113,000
and $13,000, respectively, as a component of change in fair value of derivatives in the Unaudited Condensed Interim Consolidated Statements
of Operations.
As of March 31, 2024, the scheduled maturities
of notes payable for the years ended December 31:
| December 31: | |
Principal
Payments | |
| 2024 (Remaining) | |
$ | 5,665,934 | |
| 2025 | |
| 7,557,658 | |
| 2026 | |
| 34,436,308 | |
| 2027 | |
| 16,267,295 | |
| 2028 | |
| - | |
| Thereafter | |
| - | |
| Total Future Minimum Principal Payments | |
$ | 63,927,195 | |
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
13. SHAREHOLDERS’
EQUITY
As
of March 31, 2024 and December 31, 2023, the authorized share capital of the Company is comprised of an unlimited number
of (i) the Subordinate Voting Shares, (ii) the Restricted Voting Shares, (iii) the Limited Voting Shares, (iv) the
Multiple Voting Shares and (v) the Preferred Shares.
Multiple Voting Shares
The
Company is authorized to issue an unlimited number of Multiple Voting Shares without nominal or par value. Holders of Multiple Voting
Shares are entitled to receive notice of any meeting of shareholders of the Company, and to attend, vote and speak at such meetings,
except those meetings at which only holders of a specific class of shares are entitled to vote separately as a class under the Business
Corporations Act (British Columbia). On all matters upon which holders of Multiple Voting Shares are entitled to vote, each Multiple
Voting Share entitles the holder thereof to 50 votes per Multiple Voting Share. Multiple Voting Shares are not entitled to dividends
and are not convertible. The Multiple Voting Shares had a three (3)-year sunset period that would have expired on June 29,
2024. At the annual general and special meeting of the shareholders of the Company held on June 23, 2023, shareholders passed a
special resolution to amend the Articles to extend the “sunset” date for the Multiple Voting Shares to June 29, 2027,
upon which they will be automatically redeemed for $0.001 per Multiple Voting Share.
Equity Shares
The holders of each class of the Equity Shares
are entitled to receive notice of, to attend (if applicable, virtually) and to vote at all meetings of shareholders of the Company, except
that they are not able to vote (but are entitled to receive notice of, to attend and to speak) at those meetings at which the holders
of a specific class are entitled to vote separately as a class under the Business Corporations Act (British Columbia) and except
that holders of the Limited Voting Shares are not entitled to vote for the election of directors of the Company. The Subordinate Voting
Shares and the Restricted Voting Shares carry one vote per share on all matters. The Limited Voting Shares carry one vote per share on
all matters except the election of directors, as the holders of the Limited Voting Shares do not have any entitlement to vote in respect
of the election for directors of the Company.
In the case of liquidation, dissolution or winding-up
of the Company, whether voluntary or involuntary, or in the event of any other distribution of assets of the Company among its shareholders
for the purpose of winding up its affairs, the holders of the Equity Shares are entitled, subject to the prior rights of the holders
of any shares of the Company ranking in priority to the Equity Shares (including any liquidation preference on any issued and outstanding
Multiple Voting Shares and/or Preferred Shares), to participate ratably the Company’s remaining property along with all holders
of the other classes of the Equity Shares (on a per share basis).
Exchangeable Shares of MPB Acquisition
Corp.
Exchangeable Shares are part of the authorized
share capital of MPB, a wholly-owned subsidiary of the Company, which entitle their holders to rights that are comparable to those rights
attached to the Equity Shares. The Exchangeable Shares carry one vote per share, and the aggregate voting power of the Exchangeable Shares
must not exceed 49.9% of the total voting power of all classes of shares of MPB. Until a holder exchanges their Exchangeable Shares for
the Equity Shares, the holder of such Exchangeable Shares will not have the right to vote at meetings of the shareholders of the Company,
though they will have the right to vote at meetings of the shareholders of MPB, including with respect to altering the rights of holders
of any of the Exchangeable Shares, or if MPB decides to take certain actions without fully protecting the holders of any of the Exchangeable
Shares, or as otherwise required by law. The Exchangeable Shares are exchangeable at any time, on a one-for-one basis, for the Equity
Shares at the option of the holder.
The Company treats the Exchangeable Shares as
options, each with a value equal to an Equity Share, which represents the holder’s claim on the equity of the Company. Pursuant
to the terms of the Exchangeable Shares, the Company and MPB are required to maintain the economic equivalency of such Exchangeable Shares
with the publicly traded Equity Shares of the Company. This means the Exchangeable Shares are required to share the same economic benefits
and retain the same proportionate ownership in the assets of the Company as the holders of the Equity Shares. The Company has presented
these Exchangeable Shares as a part of shareholders’ equity within these Consolidated Financial Statements due to (i) the
fact that they are economically equivalent to the Equity Shares, and (ii) the holders of the Exchangeable Shares are subject to
restrictions on transfer under US securities laws but may dispose of the Exchangeable Shares without such restriction by exchanging them
for Equity Shares. Changes in these assumptions would affect the presentation of the Exchangeable Shares from shareholders’ equity
to non-controlling interests; however, there would be no impact on earnings per share.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
13. SHAREHOLDERS’
EQUITY (Continued)
Preferred Shares GH Group, Inc.
The
authorized total number of preferred shares (the “GH Group Preferred Shares”) of GH Group is 50,000,000 of which 45,000,000
shares are designated as shares of Series A Preferred Shares (“GH Group Series A Preferred”), 55,000 shares are
designated as shares of Series B Preferred Shares (“GH Group Series B Preferred”), 5,000 shares of Series C
Preferred Shares (“GH Group Series C Preferred”) and 15,000 shares of Series D Preferred Shares (“GH Group
Series D Preferred”). Holders of the GH Group Preferred Shares are entitled to receive notice of and attend any meeting of
the shareholders of GH Group but are not entitled to vote. The GH Group Preferred Shares do not carry any voting rights and are
not convertible. In the event of a liquidation, voluntary or involuntary, dissolution or winding-up of GH Group, the holders of outstanding
GH Group Preferred Shares are entitled to be paid out of the assets of GH Group available for distribution to it stockholders, before
any payment shall be made to the holders of GH Group common stock, of which holders of GH Group Series B Preferred are to receive
payment prior to holders of GH Group Series A Preferred, GH Group Series C Preferred and GH Group Series D Preferred.
GH Group has the right to redeem all or a portion of the GH Group Preferred Shares from a holder for an amount equal to the liquidation
value and all unpaid accrued and accumulated dividends.
The
GH Group Series A Preferred carries a 15% cumulative dividend rate, which increases by 5% in the year following the first
anniversary of the date of issuance. The GH Group Series B Preferred and the GH Group Series C Preferred carry a 20% cumulative
dividend rate, which increases by 2.5% annually after the second anniversary and until the 54-month anniversary of the initial issuance.
The GH Group Series D Preferred carry a 15% cumulative dividend rate, which increases by 5% following the fifth anniversary of the
original issuance. Dividends are payable if and when declared by GH Group’s board of directors.
There were nil shares of the GH Group Series A
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023; there were 49,969 shares of the GH Group Series B
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023,; and there were 5,000 shares of the GH Group Series C
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023; and there were 15,000 shares of the GH Group Series D
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023. In accordance with the provisions above, the Company
recorded dividends to the holders of the GH Group Preferred Shares in the amount of $3,720,163 and $2,831,990 for the three months ended
March 31, 2024 and 2023, respectively.
Non-Controlling Interest
Non-controlling interest represents equity interests
owned by parties that are not shareholders of the ultimate parent. The share of net assets attributable to non-controlling interests
is presented as a component of equity. Their share of net income or loss is recognized directly in equity. Changes in the parent company’s
ownership interest that do not result in a loss of control are accounted for as equity transactions.
The Company recorded an income and loss attributable
to a non-controlling interest during the three months ended March 31, 2024 and 2023 of $62,380 and $36,734, respectively. The value
of the equity issuances issued to non-controlling interest members were determined using the estimated fair value of the equity of the
Company.
Variable Interest Entity
The below table summarizes information for entities
the Company has concluded to be variable interest entities (“VIE”) as the Company possesses the power to direct activities
through various agreements. Through these agreements, the Company can significantly impact the VIE and thus holds a controlling financial
interest. This information represents amounts before intercompany eliminations.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
13. SHAREHOLDERS’
EQUITY (Continued)
As of and for the three months ended March 31,
2024, the aggregate balances of the VIE included in the accompanying Unaudited Condensed Interim Consolidated Balance Sheets and Unaudited
Condensed Interim Consolidated Statements of Operations are as follows below.
| | |
2024 | |
| Current Assets | |
$ | 203,687 | |
| Non-Current Assets | |
$ | 4,237,197 | |
| Total Assets | |
$ | 4,440,884 | |
| | |
| | |
| Current Liabilities | |
$ | 7,493 | |
| Non-Current Liabilities | |
$ | 236,696 | |
| Total Liabilities | |
$ | 244,189 | |
| | |
| | |
| Revenues, Net | |
$ | 60,000 | |
| Net Income Attributable to Non-Controlling Interest | |
$ | 37,235 | |
14. SHARE-BASED
COMPENSATION
The Company has an amended and restated equity
incentive plan (the “Incentive Plan”) under which the Company may issue various types of equity instruments or instruments
that track to equity, more particularly the Equity Shares, to employees, officers, consultants and non-employee directors. The types
of equity instruments issuable under the Incentive Plan encompass, among other things, stock options, unrestricted stock bonus, and restricted
stock units (together, the “Awards”). The Awards are expensed and recorded as a component of general and administrative costs.
The maximum number of the Awards that may be issued under the Incentive Plan is 10% of the fully-diluted Equity Shares of the Company
(inclusive of the Equity Shares issuable in exchange for unrestricted Exchangeable Shares) as calculated using the treasury method. The
Incentive Plan is an “evergreen” plan, meaning that if an Award expires, becomes un-exercisable, or is cancelled, forfeited
or otherwise terminated without having been exercised or settled in full, as the case may be, the Equity Shares allocable to the unexercised
portion of an Award shall again become available for future grant or sale under the Incentive Plan (unless the Incentive Plan has terminated
by its terms), and the number of the Awards available for grant will increase as the number of issued and outstanding Equity Shares increases.
Granting and vesting of the Awards are determined by and recommended to the Board for approval by the Compensation, Nomination and Corporate
Governance Committee of the Board of Directors. The exercise price for options (if applicable) will generally not be less than the fair
market value of the Award at the time of grant and will generally expire after 5 years.
Stock Options
A reconciliation of the beginning and ending
balance of stock options outstanding is as follows:
| | | |
Number of
Stock Options | | |
Weighted-
Average Exercise
Price | |
| Balance as of December 31, 2023 | | |
| 1,435,794 | | |
$ | 2.84 | |
| Exercised | | |
| (65,883 | ) | |
| 2.87 | |
| Balance as of March 31, 2024 | | |
| 1,369,911 | | |
| 2.84 | |
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
14. SHARE-BASED
COMPENSATION (Continued)
The following table summarizes the stock options
that remain outstanding as of March 31, 2024:
| Security Issuable | |
Exercise
Price | |
Expiration Date | |
Stock Options
Outstanding | |
| Equity Shares | |
$ | 2.26 | |
October 2024 | |
606,242 | |
| Equity Shares | |
$ | 3.08 | |
April 2025 | |
113,969 | |
| Equity Shares | |
$ | 3.08 | |
January 2026 | |
541,005 | |
| Equity Shares | |
$ | 4.60 | |
October 2026 | |
108,695 | |
| | |
| | |
| |
1,369,911 | |
As of March 31, 2024 and December 31,
2023, options vested and exercisable were 1,369,911 and 1,416,870, respectively. During the three months ended March 31, 2024 and
2023, the Company recognized $2,758 and $152,662, respectively, in share-based compensation expense related to these stock options and
is included as a component of general and administrative expense in the Unaudited Condensed Interim Consolidated Statements of Operations.
As of March 31, 2024 options outstanding have a weighted-average remaining contractual life of 1.21 years.
Restricted Stock Units
A reconciliation of the beginning and ending
balance of restricted stock units outstanding is as follows:
| | |
Number of
Restricted Stock
Units | |
| Balance as of December 31, 2023 | |
| 2,533,575 | |
| Granted | |
| 1,393,526 | |
| Converted | |
| (195,710 | ) |
| Balance as of March 31, 2024 | |
| 3,731,391 | |
During
the three months ended March 31, 2024 and 2023, the Company recognized $3,268,944 and $1,478,426, respectively, in stock-based compensation
related to restricted stock units and is included as a component of general and administrative expense in the Unaudited Condensed
Interim Consolidated Statements of Operations. The fair value of the restricted stock units granted during the three months ended March 31,
2024 was determined using the value of the Equity Shares at the date of grant.
Stock Appreciation Right Units
During
the year ended December 31, 2020, GH Group granted 230,752 stock appreciation rights (“SARs units”) to various employees
of the Company. The SARs vest 33% one year after the grant date and the remaining 67% vest monthly, after the initial vesting, over two years. Vested and
exercised SARs will receive cash in the amount of the SARs exercised multiplied by the excess of the fair market value of an Equity
Share as of the exercise date over the stated strike price of the SAR. As the SARs are cash-settled, the Company recognizes the
value of the SAR as liabilities which are included in accounts payable and accrued liabilities in the Unaudited Condensed Interim
Consolidated Balance Sheets. As of March 31, 2024 and December 31, 2023, the Company recorded a liability of $564,614 and
$219,458, respectively.
A reconciliation of the beginning and ending
balance of the SARs outstanding is as follows:
| | |
Number of
Stock
Appreciation
Rights Units | |
| Balance as of December 31, 2023 | |
| 135,916 | |
| Exercised | |
| (1,948 | ) |
| Forfeited | |
| (1,892 | ) |
| Balance as of March 31, 2024 | |
| 132,076 | |
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
14. SHARE-BASED
COMPENSATION (Continued)
During the three months ended March 31, 2024 and 2023, the Company
recognized $345,156 and nil, respectively, in expense related to the SARs units.
Warrants
A reconciliation of the beginning and ending
balance of warrants outstanding is as follows:
| | |
Number of
Warrants | | |
Weighted-
Average Exercise
Price | |
| Balance as of December 31, 2023 | |
| 47,318,882 | | |
$ | 9.56 | |
| Exercised | |
| (100,000 | ) | |
| 5.00 | |
| Balance as of March 31, 2024 | |
| 47,218,882 | | |
| 9.57 | |
The following table summarizes the warrants that
remain outstanding as of March 31, 2024:
| Security Issuable | |
Exercise
Price | | |
Expiration Date | |
Warrants
Outstanding | | |
Warrants
Exercisable | |
| Equity Shares | |
$ | 11.50 | | |
June 2026 | |
| 30,664,500 | | |
| 30,664,500 | |
| Equity Shares | |
$ | 10.00 | | |
June 2024 | |
| 2,654,445 | | |
| 2,654,445 | |
| Equity Shares | |
$ | 5.00 | | |
August 2027 | |
| 10,899,937 | | |
| 10,899,937 | |
| Equity Shares | |
$ | 6.00 | | |
August 2028 | |
| 3,000,000 | | |
| 3,000,000 | |
| | |
| | | |
| |
| 47,218,882 | | |
| 47,218,882 | |
As of March 31, 2024, warrants outstanding
have a weighted-average remaining contractual life of 2.5 years.
15. LOSS
PER SHARE
The following is a reconciliation for the calculation
of basic and diluted loss per share for the three months ended March 31, 2024 and 2023:
| | |
2024 | | |
2023 | |
| Net Loss Attributable to the Company | |
$ | (18,331,074 | ) | |
$ | (34,746,427 | ) |
| Less Dividends and Increase in Redemption Values of GH Group Preferred Shares | |
| (3,720,163 | ) | |
| (2,916,164 | ) |
| Net Loss Attributable to the Company | |
| (22,051,237 | ) | |
| (37,662,591 | ) |
| Weighted-Average Shares Outstanding - Basic | |
| 73,158,443 | | |
| 72,460,677 | |
| Weighted-Average Shares Outstanding - Diluted | |
| 73,158,443 | | |
| 72,460,677 | |
| Loss Per Share Attributable to the Company - Basic | |
$ | (0.30 | ) | |
$ | (0.52 | ) |
| Loss Per Share Attributable to the Company - Diluted | |
$ | (0.30 | ) | |
$ | (0.52 | ) |
Diluted loss per share is the same as basic loss
per share as the issuance of shares on the exercise of convertible debentures, warrants and share options are anti-dilutive.
Net loss attributable to the Company, as reported,
is adjusted for dividends and various other adjustments as defined in ASC 260 “Earnings Per Share”.
After adjustments as defined in ASC 260, if the
Company is in a net loss position, diluted loss per share is the same as basic loss per share when the issuance of shares on the exercise
of convertible debentures, warrants, RSU’s and share options are antidilutive. After adjustments, as defined in ASC 260, if the
Company is in a net income position, diluted earnings per share includes options, warrants, RSUs, convertible debt and contingently issuable
shares that are determined to be dilutive using the treasury stock method for all equity instruments issuable in equity units and the
“if converted” method for the Company’s convertible debt.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
16. PROVISION
FOR INCOME TAXES AND DEFERRED INCOME TAXES
Provision for income taxes consists of the following
for the three months ended March 31, 2024 and 2023:
| | |
2024 | | |
2023 | |
| Current: | |
| | |
| |
| Federal | |
$ | 805,454 | | |
$ | 1,808,472 | |
| State | |
| 28,800 | | |
| 489,300 | |
| Total Current | |
| 834,254 | | |
| 2,297,772 | |
| | |
| | | |
| | |
| Deferred: | |
| | | |
| | |
| Federal | |
| - | | |
| 46,715 | |
| State | |
| - | | |
| 29,774 | |
| Total Deferred | |
| - | | |
| 76,489 | |
| Total Provision for Income Taxes | |
$ | 834,254 | | |
$ | 2,374,261 | |
The Company has used a discrete effective tax
rate method to calculate taxes for the three months ended March 31, 2024 and 2023. The Company determined that since small changes
in estimated ordinary income would result in significant changes in the estimated annual effective tax rate, the historical method would
not provide a reliable estimate for the fiscal three-month periods ended March 31, 2024 and 2023.
As the Company operates in the cannabis industry,
it is subject to the limits of IRC Section 280E (“Section 280E”) for U.S. federal income tax purposes under which
the Company is only allowed to deduct expenses directly related to the cost of goods sold. This results in permanent differences between
ordinary and necessary business expenses deemed nonallowable under Section 280E, and the Company deducts all operating expenses
on its state tax returns.
The Company has determined that the tax impact
of its corporate overhead allocation was less likely than not to be sustained on the merits as required under ASC 740 “Income
Taxes” due to the evolving interpretations of Section 280E. As a result, the Company included in the balance of total
unrecognized tax benefits as of March 31, 2024 and December 31, 2023, potential benefits of $5,969,506 and $5,443,818, respectively,
that if recognized would impact the effective tax rate on income from operations. Unrecognized tax benefits that reduce a net operating
loss, similar to tax loss or tax credit carryforwards, are presented as a reduction to deferred income taxes.
The Company’s evaluation of tax positions
was performed for those tax years which remain open for audit. The Company on occasion may be assessed interest or penalties by the taxing
authorities, although any such assessments historically have been minimal and immaterial to the Company’s financial results. In
the event the Company is assessed for interest and/or penalties, such amounts will be classified as income tax expense in the financial
statements.
As of March 31,2024, the Company’s
federal tax returns since 2020 and state tax returns since 2019 are still subject to adjustment upon audit. No tax returns are currently
being examined by any taxing authorities. While it is reasonably possible that certain portions of the unrecognized tax benefit may change
from a lapse in applicable statute of limitations, it is not possible to reasonably estimate the effect of any amount of such a change
to previously recorded uncertain tax positions in the next 12 months.
17. COMMITMENTS
AND CONTINGENCIES
Contingencies
The Company’s operations are subject to
a variety of local and state regulations. Failure to comply with one or more of these regulations could result in fines, restrictions
on its operations, or revocation, cancellation, non-renewal or other losses of permits, licensed and entitlements that could result in
the Company ceasing operations. While management of the Company believes that the Company is in compliance with applicable local and
state statues, regulations, and ordinances as of March 31, 2024 and December 31, 2023, cannabis laws and regulations continue
to evolve and are subject to differing interpretations. As a result, the Company may be subject to regulatory fines, penalties or restrictions
in the future.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
17. COMMITMENTS
AND CONTINGENCIES (Continued)
Claims and Litigation
From time to time, the Company may be involved
in litigation relating to claims arising out of operations in the normal course of business. As of March 31, 2024 and December 31, 2023, there were also no proceedings in which any of the Company’s
directors, officers or affiliates were an adverse party to the Company or had a material interest adverse to the Company’s interest.
Element 7 Litigation
On November 4, 2021, GH Group filed a
lawsuit in the Superior Court for the County of Los Angeles, Central District (Case No. 21STCV40401) against E7 and its principals
and owners Josh Black and Robert “Bobby” DiVito (together, “Element 7”) for a variety of claims, including
fraud and breach of contract and demanded performance under the E7 Agreements. Through the process of litigation, on
September 19, 2023, Element 7, APB and GH Group entered into a Settlement and General Mutual Release Agreement (the
“Element 7 Settlement”), where Element 7 agreed to pay GH Group $2,865,000 to settle the Element 7 Proceeding; provided,
that if Element 7 pays GH Group $1,865,250 by December 15, 2023, then Element 7 shall be entitled to a credit of $999,750
towards the $2,865,000 payment. In addition, Element 7 would retain ownership of its retail licenses.
On March 6, 2024, the Superior Court of
Los Angeles entered into a Final Judgment and Order against Element 7 for the amount of $2,865,000 in favor of GH Group.
Catalyst Litigation
The Company is the plaintiff in litigation in
the Central District Superior Court of the County of Los Angeles against Elliot Lewis (“Lewis”), Damian Martin (“Martin”),
South Cord Holdings LLC (“SCH”), and South Cord Management LLC (“SCM”) (collectively, “Catalyst Defendants”)
following various public, false, and defamatory statements by Lewis and Martin, co-founders of SCM and SCH, that the Company is the “largest
black marketeer” of cannabis in the history of the United States, only 25% of the Company’s cultivated cannabis is sold through
legal channels, and therefore 70-80% is sold illegally, and that the Company is engaging in illicit conduct to avoid taxes. The Company
continues to vigorously pursue its defamation claims and otherwise assert its rights with respect to the outrageous and defamatory statements
of the Catalyst Defendants.
The Company is the defendant in litigation in
the Central District Superior Court of the County of Los Angeles filed by 562 Discount Med, Inc. (“Discount Med”), an
affiliate of SCH and SCM. Discount Med has asserted claims against the Company for violation of California Business & Professions
Code Section 17200 et seq., California's Unfair Competition Law. Discount Med similarly alleged, like the Catalyst Defendants, that
the Company is the “largest black marketeer” of cannabis in California and has purposefully structured its business to profit
from the illicit market. The Company has denied all such allegations and asserted affirmative defenses.
18. RELATED
PARTY TRANSACTIONS
Leases
Neo Street Partners LLC, a company partially
owned by an executive and board member of the Company, entered into a five-year lease with a subsidiary of the Company. The lease, which
commenced in October 2018, provides for an initial annual base rent payment of $213,049 increasing to $243,491 for years two to
five. Rent expense for the three months ended March 31, 2024 and 2023 were $93,255 and $60,873, respectively.
3645 Long Beach LLC, a company partially owned
by an executive and board member of the Company, entered into a five-year lease with a subsidiary of the Company. The lease, which commenced
in December 2019, provides for an initial annual base rent payment of $64,477 increasing to $69,352 for year two and increasing
five percent per annum thereafter. Rent expense for the three months ended March 31, 2024 and 2023 were $20,071 and $19,115, respectively.
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
18. RELATED
PARTY TRANSACTIONS (Continued)
Isla Vista GHG LLC, a company partially owned
by executives and board members of the Company, entered into a ten-year lease with a subsidiary of the Company. The lease, which commences
on the first calendar day after the Company publicly announces the opening of the retail location at the leased property (“Commencement
Date”), provides for an initial monthly rent of $5,000 starting April 19, 2022 until the Commencement Date. Effective on the
Commencement Date, the initial annual base rent payment will be $144,000 and increasing three percent per annum thereafter. Rent expense
for the three months ended March 31, 2024 and 2023 were $67,250 and $67,250, respectively.
In August 2022, Kazan Trust dated December 10,
2004, a trust owned by an executive and board member of the Company, acquired partial ownership of a real estate entity that entered
into a ten-year lease with a subsidiary of the Company. The lease, which commenced in July 2022, provides for an initial annual
base rent payment of $36,489 increasing three percent per annum thereafter. Rent expense for the three months ended March 31, 2024
and 2023 were $9,122 and $9,122, respectively.
Consulting Agreement
Beach Front Property Management Inc, a company
that is majority-owned by an executive and board member of the Company, entered into a consulting agreement with the Company dated September 28,
2020. The monthly consulting fee is $10,860 for mergers and acquisitions advisory and assistance and real estate acquisition and financing
services. The agreement may be terminated by either party for any/or no reason without penalty upon seven days written notice. Consulting
fees for the three months ended March 31, 2024 and 2023 were $35,080 and $32,580, respectively.
19. SEGEMENT
INFORMATION
Operations by reportable segment for the year ending March 31,
2024 are as follows:
| | |
Three Months Ended March 31, 2024 | |
| | |
Retail | | |
Wholesale
Biomass | | |
CPG | | |
Corporate &
Other | | |
Total | |
| Total Revenues | |
$ | 9,920,925 | | |
$ | 15,926,559 | | |
$ | 4,253,104 | | |
$ | - | | |
$ | 30,100,588 | |
| Cost of Goods Sold | |
| 4,668,224 | | |
| 9,717,875 | | |
| 3,188,372 | | |
| - | | |
| 17,574,471 | |
| Gross Profit | |
| 5,252,701 | | |
| 6,208,684 | | |
| 1,064,732 | | |
| - | | |
| 12,526,117 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | |
| General and Administrative | |
| 3,394,108 | | |
| 1,825,542 | | |
| 190,957 | | |
| 8,116,988 | | |
| 13,527,595 | |
| Sales and Marketing | |
| 342,610 | | |
| 4,382 | | |
| 10,376 | | |
| 119,791 | | |
| 477,159 | |
| Professional Fees | |
| 8,623 | | |
| 52,387 | | |
| 34,050 | | |
| 3,568,276 | | |
| 3,663,336 | |
| Depreciation and Amortization | |
| 375,398 | | |
| 2,864,996 | | |
| 190,238 | | |
| 284,912 | | |
| 3,715,544 | |
| Income (Loss) from Operations | |
| 1,131,962 | | |
| 1,461,377 | | |
| 639,111 | | |
| (12,089,967 | ) | |
| (8,857,517 | ) |
| | |
| | | |
| | | |
| | | |
| | | |
| | |
| Other Expense (Income): | |
| | | |
| | | |
| | | |
| | | |
| | |
| Interest Expense | |
| 41,058 | | |
| 11,985 | | |
| 5,894 | | |
| 2,146,521 | | |
| 2,205,458 | |
| Interest Income | |
| - | | |
| - | | |
| (34 | ) | |
| - | | |
| (34 | ) |
| Gain on Equity Method Investments | |
| - | | |
| - | | |
| - | | |
| (18,180 | ) | |
| (18,180 | ) |
| Gain on Change in Fair Value of Derivative Asset | |
| - | | |
| - | | |
| - | | |
| (112,524 | ) | |
| (112,524 | ) |
| Loss on Change in Fair Value of Contingent Liabilities and Shares Payable | |
| - | | |
| - | | |
| - | | |
| 6,464,873 | | |
| 6,464,873 | |
| Other (Income)
Expense, Net | |
| (1,353 | ) | |
| 11,764 | | |
| 13,562 | | |
| 13,357 | | |
| 37,330 | |
| Total Other Expense | |
| 39,705 | | |
| 23,749 | | |
| 19,422 | | |
| 8,494,047 | | |
| 8,576,923 | |
| Income (Loss) Before Provision for Income Taxes | |
$ | 1,092,257 | | |
$ | 1,437,628 | | |
$ | 619,689 | | |
$ | (20,584,014 | ) | |
$ | (17,434,440 | ) |
| Total Assets as of March 31, 2024 | |
$ | 28,522,236 | | |
$ | 219,884,824 | | |
$ | 10,710,226 | | |
$ | 36,129,449 | | |
$ | 295,246,735 | |
GLASS HOUSE BRANDS INC.
Notes to Unaudited Condensed Interim Consolidated Financial Statements
For the Three Months Ended March 31, 2024 and 2023
(Amounts
Expressed in United States Dollars Unless Otherwise Stated)
19. SEGEMENT
INFORMATION (Continued)
Operations by reportable segment for the year ending March 31,
2023 are as follows:
| | |
Three Months Ended March 31, 2023 | |
| | |
Retail | | |
Wholesale Biomass | | |
CPG | | |
Corporate & Other | | |
Total | |
| Total Revenues | |
$ | 9,372,701 | | |
$ | 14,466,872 | | |
$ | 3,715,137 | | |
$ | - | | |
$ | 27,554,710 | |
| Cost of Goods Sold | |
| 4,092,065 | | |
| 8,302,087 | | |
| 2,586,707 | | |
| - | | |
| 14,980,859 | |
| Gross Profit | |
| 5,280,636 | | |
| 6,164,785 | | |
| 1,128,430 | | |
| - | | |
| 12,573,851 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | |
| General and Administrative | |
| 3,109,145 | | |
| 1,959,327 | | |
| 283,503 | | |
| 6,034,077 | | |
| 11,386,052 | |
| Sales and Marketing | |
| 345,366 | | |
| 26,845 | | |
| 66,784 | | |
| 213,258 | | |
| 652,253 | |
| Professional Fees | |
| 54,589 | | |
| 67,353 | | |
| 62,672 | | |
| 1,315,320 | | |
| 1,499,934 | |
| Depreciation and Amortization | |
| 231,509 | | |
| 2,930,292 | | |
| 178,001 | | |
| 496,588 | | |
| 3,836,390 | |
| Impairment Expense for Goodwill | |
| - | | |
| - | | |
| - | | |
| 14,143,983 | | |
| 14,143,983 | |
| Impairment Expense for Intangible Assets | |
| - | | |
| - | | |
| - | | |
| 5,526,000 | | |
| 5,526,000 | |
| (Loss) from Operations | |
| 1,540,027 | | |
| 1,180,968 | | |
| 537,470 | | |
| (27,729,226 | ) | |
| (24,470,761 | ) |
| Other Income (Expense): | |
| | | |
| | | |
| | | |
| | | |
| | |
| Interest Expense | |
| 266 | | |
| 10,074 | | |
| 3,090 | | |
| 2,066,864 | | |
| 2,080,294 | |
| Interest Income | |
| (34 | ) | |
| - | | |
| - | | |
| (45,000 | ) | |
| (45,034 | ) |
| Loss on Equity Method Investments | |
| - | | |
| - | | |
| - | | |
| 2,263,697 | | |
| 2,263,697 | |
| Gain on Change in Fair Value of Derivative Asset | |
| - | | |
| - | | |
| - | | |
| (13,227 | ) | |
| (13,227 | ) |
| Loss on Change in Fair Value of Contingent Liabilities and Shares Payable | |
| - | | |
| - | | |
| - | | |
| 3,409,774 | | |
| 3,409,774 | |
| Other (Income) Expense, Net | |
| (1,587 | ) | |
| 168,576 | | |
| 57,592 | | |
| 18,054 | | |
| 242,635 | |
| Total (Income)
Other Expense | |
| (1,355 | ) | |
| 178,650 | | |
| 60,682 | | |
| 7,700,162 | | |
| 7,938,139 | |
| Income
(Loss) Before Provision for Income Taxes | |
$ | 1,541,382 | | |
$ | 1,002,318 | | |
$ | 476,788 | | |
$ | (35,429,388 | ) | |
$ | (32,408,900 | ) |
| Total Assets as of December 31, 2023 | |
$ | 27,054,172 | | |
$ | 220,054,000 | | |
$ | 12,773,863 | | |
$ | 43,892,962 | | |
$ | 303,774,997 | |
20. SUBSEQUENT
EVENTS
Management has evaluated subsequent events through
the date of which these Unaudited Condensed Interim Consolidated Financial Statements were available to be issued.
Exhibit 99.2
GLASS HOUSE BRANDS
INC.
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND UNAUDITED RESULTS OF OPERATIONS
FOR THE THREE
MONTHS ENDED
MARCH 31,
2024 AND 2023
Introduction
This
management’s discussion and analysis of financial condition and results of operations (“MD&A”) is provided as of
May 14, 2024 and should be read together with Glass House Brands Inc.’s (the “Company”)
Unaudited Condensed Interim Consolidated Financial Statements (the “Financial Statements”) as of and for the March 31,
2024 and December 31, 2023 and for the three months ended March 31, 2024 and 2023, and the accompanying notes. The financial
results discussed herein have been prepared in accordance with generally accepted accounting principles in the United States of America
(“GAAP”) and, unless otherwise noted, are expressed in United States dollars. Additional information relating to the Company
can be found on SEDAR+ at www.sedarplus.ca.
Overview
The
Company, formerly known as Mercer Park Brand Acquisition Corp. (“Mercer Park”), was incorporated under the Business Corporations
Act (British Columbia) on April 16, 2019. The Company is a vertically integrated cannabis company that operates in the state
of California. The Company, through its subsidiaries, cultivates, manufactures, and distributes cannabis bulk flower and trim to wholesalers
and cannabis-related consumer packaged goods (“CPG”) to third-party retail stores in the state of California. The Company
also owns and operates retail cannabis stores in the state of California. The Company’s subordinate voting shares (the “Subordinate
Voting Shares”), restricted voting shares (the “Restricted Voting Shares”) and limited voting shares (the “Limited
Voting Shares”, and, collectively with the Subordinate Voting Shares and the Restricted Voting Shares, the “Equity Shares”),
and common share purchase warrants are listed on the Cboe Canada exchange, trading under the symbols “GLAS.A.U” and “GLAS.WT.U”,
respectively. The Equity Shares and common share purchase warrants also trade on the OTCQX in the United States under the symbols “GLASF”
and “GHBWF”, respectively. The head office and principal address of the Company is 3645 Long Beach Boulevard, Long Beach,
California 90807. The Company’s registered office in Canada is 666 Burrard Street, Suite 2500, Vancouver, BC V6C 2X8 Canada.
Major Business
Lines and Geographies
The Company
views its financial results under three business lines – the creation of extensible wholesale biomass, CPG and retail. The
Company currently generates all of its revenue in the state of California.
While many cannabis
businesses prioritize brand building and customer acquisition before securing a reliable product flow, the Company believes that in a
consumer-focused CPG space, consistent delivery of high-quality product at an attractive price point is a first principle and a prerequisite
for any other activity.
Cannabis Cultivation, Production
and Sales
The
Company operates multiple greenhouse cultivation facilities located in Carpinteria and Camarillo, California, and its manufacturing production
facility is located in Lompoc California. The Company operates an approximately 5.5 million square
foot hi-tech greenhouse facility located in Camarillo, California (“Camarillo Facility”). The Company completed Phase I of
the Camarillo Facility which is licensed and operational. The Company completed the first harvest in June 2022, four weeks earlier
than expected. The Company commenced construction on the next phase of the Camarillo Facility during 2023. The Company completed the
first harvest from this phase in the first quarter of 2024.
The
Company generates revenue by selling its products in bulk at wholesale and at retail to its own and third-party dispensaries in California,
including raw cannabis, cannabis oil, and cannabis consumer goods. The Company’s “Farmacy” branded dispensaries are
currently located in Santa Barbara, Santa Ana, Berkeley, Isla Vista and Santa Ynez, California. The Company also operates one dispensary
located in Los Angeles, California under the brand “The Pottery”. During the year ended
December 31, 2022, the Company completed the acquisition of Plus Products Holdings Inc., a leading edibles brand in California,
as well as the acquisitions of The Pottery and three Natural Healing Center retail dispensaries located in Grover Beach, Morro Bay and
Lemoore, California. In April 2023, the Company completed the acquisition of a Natural Healing Center retail dispensary located
in Turlock, California.
Market Update and Objectives
The state of California
represents the largest single state-legalized market for cannabis in the U.S., with an adult population of over 31 million. The California
market is highly fragmented, with over 5,000 cultivation licenses in operation, over 1,100 distribution licenses, over 1,200 operational
dispensaries, greater than 600 brands and a significant illicit market. In addition to this, burdened with high taxes, competition and
weakened consumer demand, California operators may find it difficult to operate in this market. While in recent years the Company has
seen wholesale prices decline from years past, the Company has seen some recent improvement in wholesale prices, and, due to its operations,
the Company believes it is best fit to capitalize on that. With this backdrop, the Company looks to continue to use scale in cultivation
and distribution (at wholesale and through its own retail dispensaries and third-party retailers) to achieve economies of scale that
will allow the Company to outperform competitors and build superior brand awareness and loyalty.
SELECTED FIANCIAL
INFORMATION
The following are
the results of our operations for the three months ended March 31, 2024 compared to the three months ended March 31, 2023:
| | |
In Thousands, Except Per
Share Data | |
| | |
March 31 | | |
March 31 | |
| | |
2024 | | |
2023 | |
| Revenues, Net | |
$ | 30,100 | | |
$ | 27,555 | |
| Cost of Goods Sold (Exclusive of Depreciation and Amortization Shown Separately Below) | |
| 17,574 | | |
| 14,981 | |
| Gross Profit | |
| 12,526 | | |
| 12,574 | |
| Operating Expenses: | |
| | | |
| | |
| General and Administrative | |
| 13,528 | | |
| 11,386 | |
| Sales and Marketing | |
| 477 | | |
| 652 | |
| Professional Fees | |
| 3,663 | | |
| 1,500 | |
| Depreciation and Amortization | |
| 3,716 | | |
| 3,836 | |
| Impairment Expense for Goodwill | |
| - | | |
| 14,144 | |
| Impairment Expense for Intangible Assets | |
| - | | |
| 5,526 | |
| Total Operating Expenses | |
| 21,384 | | |
| 37,044 | |
| Loss from Operations | |
| (8,858 | ) | |
| (24,470 | ) |
| | |
| | | |
| | |
| Other Expense (Income): | |
| | | |
| | |
| Interest Expense | |
| 2,206 | | |
| 2,080 | |
| Interest Income | |
| - | | |
| (45 | ) |
| (Gain) Loss on Equity Method Investments | |
| (18 | ) | |
| 2,264 | |
| Gain on Change in Fair Value of Derivative Asset | |
| (113 | ) | |
| (13 | ) |
| Loss on Change in Fair Value of Contingent Liabilities and Shares Payable | |
| 6,465 | | |
| 3,410 | |
| Other Expense (Income), Net | |
| 37 | | |
| 243 | |
| Total Other Expense, Net | |
| 8,577 | | |
| 7,939 | |
| Loss from Operations Before Provision for Income Tax Expense | |
| (17,435 | ) | |
| (32,409 | ) |
| Provision for Income Tax Expense | |
| 834 | | |
| 2,374 | |
| Net Loss | |
| (18,269 | ) | |
| (34,783 | ) |
| Net Income (Loss) Attributable to Non-Controlling Interest | |
| 62 | | |
| (37 | ) |
| | |
| | | |
| | |
| Net Loss Attributable to the Company | |
| (18,331 | ) | |
| (34,746 | ) |
| Loss Per Share - Basic | |
$ | (0.30 | ) | |
$ | (0.52 | ) |
| Loss Per Share - Diluted | |
$ | (0.30 | ) | |
$ | (0.52 | ) |
| | |
| | | |
| | |
| Weighted-Average Shares Outstanding - Basic | |
| 73,158,443 | | |
| 72,460,677 | |
| Weighted-Average Shares Outstanding - Diluted | |
| 73,158,443 | | |
| 72,460,677 | |
Revenue
Revenue for the
three months ended March 31, 2024 was $30.1 million, which represents an increase of $2.5 million, or 9%, from $27.6 million for
the three months ended March 31, 2023. The Company’s cannabis retail and wholesale biomass revenue increased by $0.5 million
and $1.5 million, or 6% and 10%, respectively, and CPG revenue increased by $0.5 million, or 14%, for the three months ended March 31,
2024 as compared to the same period in the prior year. The revenues from retail operations was relatively consistent period over period,
while the increase in wholesale biomass revenues during the year three months ended March 31, 2024 was primarily attributable to
increased production. As a result, the Camarillo facility reported $15.9 million in wholesale biomass revenue compared to $14.5 million
in the same period in the prior year. CPG revenues was relatively consistent with results from the same period in the prior year.
Cost of Goods Sold and Gross Profit
Cost of goods sold
for the three months ended March 31, 2024 was $17.6 million, an increase of $2.6 million, or 17%, compared with $15.0 million for
the three months ended March 31, 2023. Gross profit for the three months ended March 31, 2024 was $12.5 million, representing
a gross margin of 42%, compared to a gross profit of $12.6 million, representing a gross margin of 46% for the three months ended March 31,
2023. The increase in cost of goods sold during the three months ended March 31, 2024 was primarily attributable to the Company’s
growth in revenue and accompanying increase in production. Gross profit dollars across each segment for the three months ended March 31,
2024 was comparable with the prior year. However, the gross profit percentage for wholesale biomass was unfavorably impacted by ramp
up costs for the Company’s new harvest during the three months ended March 31, 2024 as compared to the same period in the
prior year.
Total Operating Expenses
Total operating
expenses for the three months ended March 31, 2024 was $21.4 million, a decrease of $15.6 million, or 42%, compared to total operating
expenses of $37.0 million for the three months ended March 31, 2023. The decrease in total operating expenses was attributable to
the factors described below.
General and administrative
expenses for the three months ended March 31, 2024 and 2023 were $13.5 million and $11.4 million, respectively, an increase of $2.1
million, or 18%. The increase in general and administrative expenses is primarily attributed to the Company’s cultivation expansion
of its new phase, incremental operating expenses and higher wages due to company performance.
Sales and marketing
expenses for the three months ended March 31, 2024 were largely consistent with the same period in the prior year.
Professional fees
for the three months ended March 31, 2024 and 2023 were $3.7 million and $1.5 million, respectively, an increase of $2.2 million,
or 147%. The increase in professional fees was primarily attributable to increases in legal and accounting fees as compared to the same
period in the prior year.
Depreciation and
amortization for the three months ended March 31, 2024 and 2023 were $3.7 million and $3.8 million, respectively, which is largely
consistent period over period.
There was no impairment expense for the three
months ended March 31, 2024 compared to $19.7 million in the prior year. During the first fiscal quarter of 2023, management
noted indicators of impairment related to CPG goodwill and intangible assets. As a result of the indicators
and an assessment of impairments, the Company recorded impairment expense for goodwill and intangible assets of $14.1 million and $5.5 million, respectively, for the three months ended
March 31, 2023.
Total Other Expense
Total other expense
for the three months ended March 31, 2024 and 2023 was $8.6 million and $7.9 million respectively, an increase of $0.7 million,
or 8%. The increase was primarily due to an unfavorable change in fair value of contingent liabilities and shares payable of $3.1 million,
or 91%, during the three months ended March 31, 2024 as compared to the prior period. This was offset by a decline in the loss on
equity method investments of $2.3 million or 100%.
Provision for Income Taxes
The provision for
income tax expense for the three months ended March 31, 2024 and 2023 was $0.8 million and $2.4 million, a favorable change of $1.6
million, or 67%. The favorable change in provision for income taxes was the result of the Company’s change in tax position.
Non-GAAP Financial Measures
In
addition to providing financial measurements based on GAAP, the Company provides additional financial metrics that are not defined under,
prepared in accordance with or a standardized financial measure under GAAP. Management uses such non-GAAP financial measures, in addition
to GAAP financial measures, to understand and compare operating results across accounting periods, for financial and operational decision-making,
for planning and forecasting purposes and to evaluate the Company’s financial performance. These non-GAAP financial measures (collectively,
the “non-GAAP financial measures”) are:
| EBITDA
|
|
Net
Income (Loss) (GAAP) adjusted for interest and financing costs, income taxes, depreciation, and amortization. This non-GAAP measure
represents the Company’s current operating profitability and ability to generate cash flow.
|
| Adjusted
EBITDA |
|
EBITDA
(non-GAAP) adjusted for share-based compensation, stock appreciation rights expense, change in equity method investments, impairment
expense for goodwill and intangible assets, change in fair value of derivative liabilities, change in fair value of contingent liabilities
and shares payable, acquisition-related professional fees, non-operational start-up costs and certain debt-related fees. Non-operational
start-up costs are set-up costs to prepare a location for its intended use. Start-up costs are expensed as incurred and are not indicative
of ongoing operations. This non-GAAP measure represents the Company’s current operating profitability and ability to generate
cash flow excluding non-recurring, irregular or one-time expenditures in order improve comparability.
|
Management
believes that these non-GAAP financial measures assess the Company’s ongoing business in a manner that allows for meaningful comparisons
and analysis of trends in the business, as they facilitate comparing financial results across accounting periods and to those of peer
companies. Management also believes that these non-GAAP financial measures enable investors to evaluate the Company’s operating
results and future prospects in the same manner as management. These non-GAAP financial measures may also exclude certain material non-cash
items, expenses and gains and other adjustments that may be unusual in nature, infrequent or that the Company believes are not reflective
of the Company’s ongoing operating results and performance.
As
there are no standardized methods of calculating these non-GAAP financial measures, the Company’s methods may differ from those
used by others, and accordingly, the use of these measures may not be directly comparable to similarly titled measures used by others
in the cannabis industry or otherwise. Accordingly, these non-GAAP financial measures are intended to provide additional information
and are not intended to represent and should not be considered as alternatives to net income, operating income or any other performance
measures derived in accordance with GAAP as measures of operating performance or operating cash flows or as measures of liquidity. Such
non-GAAP financial measures should only be considered in conjunction with the GAAP financial measures presented herein and in the Company’s
Financial Statements.
These
supplemental non-GAAP financial measures are presented because management has evaluated the financial results both including and excluding
the adjusted items and believe that the supplemental non-GAAP financial measures presented provide additional perspective and insights
when analyzing the core operating performance of the business. In addition, the Company believes investors use both GAAP and non-GAAP
measures to assess management’s past and future decisions associated with its priorities and allocation of capital, as well as
to analyze how the business operates in, or responds to, swings in economic cycles or to other events that impact the cannabis industry.
These non-GAAP
financial measures exclude certain material non-cash items and certain other adjustments the Company believes are not reflective of its
ongoing operations and performance. These non-GAAP financial measures are not intended to represent and should not be considered as alternatives
to net income, operating income or any other performance measures derived in accordance with GAAP as measures of operating performance
or operating cash flows or as measures of liquidity. These non-GAAP financial measures have important limitations as analytical tools
and should not be considered in isolation or as a substitute for any standardized measure under GAAP. For example, certain of these non-GAAP
financial measures:
| · | exclude
certain tax payments that may reduce cash available to the Company; |
| · | do
not reflect any cash capital expenditure requirements for the assets being depreciated and
amortized that may have to be replaced in the future; |
| · | do
not reflect changes in, or cash requirements for, working capital needs; and |
| · | do
not reflect the interest expense, or the cash requirements necessary to service interest
or principal payments on debt. |
Other companies
in the cannabis industry may calculate these measures differently than the Company does, limiting their usefulness as comparative measures.
Adjusted EBITDA (non-GAAP) (Unaudited)
The
following table provides a reconciliation of the Company’s net loss to Adjusted EBITDA (non-GAAP)
for the three months ended March 31, 2024 compared to three months ended March 31, 2023:
| | |
In Thousands, Except Per Share Data | |
| | |
March 31
| | |
March 31
| |
| | |
2024 | | |
2023 | |
| | |
| Unaudited
| | |
| Unaudited | |
| Net Loss (GAAP) | |
$ | (18,269 | ) | |
$ | (34,783 | ) |
| Depreciation and Amortization | |
| 3,716 | | |
| 3,836 | |
| Interest Expense | |
| 2,205 | | |
| 2,080 | |
| Income Tax Expense | |
| 834 | | |
| 2,374 | |
| | |
| | | |
| | |
| EBITDA (Non-GAAP) | |
| (11,513 | ) | |
| (26,493 | ) |
| Adjustments: | |
| | | |
| | |
| Share-Based Compensation | |
| 3,272 | | |
| 1,631 | |
| Stock Appreciation Rights Expense | |
| 345 | | |
| - | |
| Loss on Equity Method Investments | |
| (18 | ) | |
| 2,264 | |
| Impairment Expense for Goodwill | |
| - | | |
| 14,144 | |
| Impairment Expense for Intangible Assets | |
| - | | |
| 5,526 | |
| Change in Fair Value of Derivative Asset | |
| (113 | ) | |
| (13 | ) |
| Change in Fair Value of Contingent Liabilities and Shares Payable | |
| 6,465 | | |
| 3,410 | |
| Adjusted EBITDA (Non-GAAP) | |
| (1,561 | ) | |
| 469 | |
On a non-GAAP basis,
the Company recorded negative Adjusted EBITDA (Non-GAAP) of $1.6 million for the three months ended March 31, 2024, compared
to an Adjusted EBITDA (Non-GAAP) of $0.5 million for the three months ended March 31, 2023, an unfavorable variance of $2.0
million, or 433%. The Company’s reported EBITDA (Non-GAAP) of negative $11.5 million and negative $26.5 million for the three months
ended March 31, 2024 and 2023, respectively, a favorable change of $15.0 million, or 57%. Adjustments to EBITDA reported a decrease
of $17.0 million for the three months ended March 31, 2024 compared to the same period in the prior year. The change was primarily
driven by a decline in adjustments in non-recurring impairment expense for goodwill and intangibles of $19.7 million. This was offset
by higher share-based compensation of $1.6 million and an unfavorable change in change in fair value of contingent liabilities and shares
payable of $3.1 million as compared to the same period in the prior year.
Selected Quarterly Information
A summary of selected information for
each of the quarters presented is as follows:
| | | |
In Thousnads, except per share data | |
| | | |
Revenues | | |
Net (Loss) Income
Before
Non-Controlling
Interest | | |
(Loss) Earnings
Per Share - Basic
Attributable to
the Company | | |
(Loss) Earnings
Per Share -
Diluted
Attributable to
the Company | |
| | | |
Unaudited | | |
Unaudited | | |
| | |
| |
| March 31, 2024 | | |
$ | 30,100 | | |
$ | (18,269 | ) | |
$ | (0.30 | ) | |
$ | (0.30 | ) |
| December 31, 2023 | | |
$ | 40,429 | | |
$ | (38,115 | ) | |
$ | (0.58 | ) | |
$ | (0.58 | ) |
| September 30, 2023 | | |
$ | 48,187 | | |
$ | (210 | ) | |
$ | (0.10 | ) | |
$ | (0.10 | ) |
| June 30, 2023 | | |
$ | 44,665 | | |
$ | (24,952 | ) | |
$ | (0.39 | ) | |
$ | (0.39 | ) |
| March 31, 2023 | | |
$ | 27,555 | | |
$ | (34,783 | ) | |
$ | (0.52 | ) | |
$ | (0.52 | ) |
| December 31, 2022 | | |
$ | 29,936 | | |
$ | (13,912 | ) | |
$ | (0.28 | ) | |
$ | (0.28 | ) |
| September 30, 2022 | | |
$ | 27,281 | | |
$ | 15,255 | | |
$ | 0.05 | | |
$ | 0.04 | |
| June 30, 2022 | | |
$ | 15,486 | | |
$ | (13,894 | ) | |
$ | (0.22 | ) | |
$ | (0.22 | ) |
Revenue for the
quarter ended March 31, 2024 was $30.1 million, a decrease of $10.3 million, or 26%, as compared to revenue of $40.4 million for
the quarter ended December 31, 2023. The decrease in revenue was primarily due to decreased biomass sales at the Camarillo Facility
due to the seasonality of plant cycle which reported $15.9 million and $26.9 million for the quarters ended March 31, 2024 and December 31,
2023, respectively. Revenue for the quarter ended December 31, 2023 was $40.4 million, a decrease of $7.8 million, or 16%, as compared
to revenue of $48.2 million for the quarter ended September 30, 2023. The decrease in revenue was primarily due to decreased biomass
sales at the Camarillo Facility due to the seasonality of plant cycle which reported $26.9 million and $33.9 million for the quarters
ended December 31, 2023 and September 30, 2023, respectively. Revenue for the quarter ended September 30, 2023 was $48.2
million, an increase of $3.5 million, or 8%, as compared to revenue of $44.7 million for the quarter ended June 30, 2023. The increase
in revenue was primarily due to higher biomass sales at the Camarillo Facility driven by increased production due to seasonality of plant
cycle due the higher biomass sales at the Camarillo Facility of $3.2 million for the quarter ended September 30, 2023 as compared
to the prior quarter. Revenue for the quarter ended June 30, 2023 was $44.7 million, an increase of $17.1 million, or 62%, from
$27.6 million for the quarter ended March 31, 2023. The increase in revenue was primarily due to higher biomass sales at the Camarillo
Facility driven by increased production due to seasonality of plant cycle, and, to a lesser extent, an increase in average wholesale
biomass pricing. Revenue for the quarter ended March 31, 2023 was $27.6 million, a decrease of $2.4 million, or 8%, from $29.9 million
for the quarter ended December 31, 2022. The decrease in revenue was due to the seasonality of plant cycle during the quarter ended
March 31, 2023 as compared to the quarter ended December 31, 2022. Revenue for the quarter ended December 31, 2022 was
$29.9 million, an increase of $2.7 million, or 10% from $27.3 million for the quarter ended September 30, 2022. The increase in
revenue during the fourth quarter of 2022 is primarily due to the acquisitions of the Natural Healing Center retail dispensaries located
in Grover Beach, Lemoore and Morro Bay, California which reported $5.4 million in revenue as compared to nil during the third quarter
of 2022. Revenues for the quarter ended September 30, 2022 were $27.3 million, an increase of $11.8 million, or 76% from $15.5 million
for the quarter ended June 30, 2022. The increase was primarily due to the Company’s expanded cultivation operations of the
Camarillo Facility which completed the first harvest in June 2022.
Net loss for the
quarter ended March 31, 2024 was $18.3 million, which represents a favorable change of $19.8 million, or 52%, from a net loss of
$38.1 million for the quarter ended December 31, 2023. The favorable change was primarily due to the decline in impairments recognized
during the three months ended March 31, 2024, while $31.8 million of impairment was recognized during the three months ended December 31,
2023. Net loss for the quarter ended December 31, 2023 was $38.1 million, which represents an unfavorable change of $37.9 million,
or 18,050%, from a net loss of $0.2 million for the quarter ended September 30, 2023. The unfavorable change was primarily due to
increased loss from operations related to intangible impairments coupled with increased total other expense during the quarter ended
December 31, 2023 as compared to the third fiscal quarter of 2023. Net loss for the quarter ended September 30, 2023 was $0.2
million, which represents a favorable change of $24.7 million, or 99%, from a net loss of $25.0 million for the quarter ended June 30,
2023. The favorable change was primarily due to loss on change in fair value of contingent liabilities and shares payable of $19.1 million
reported during the quarter ended June 30, 2023 as compared to a gain of $4.0 million for the quarter ended September 30, 2023.
Net loss for the quarter ended June 30, 2023 was $25.0 million, which represents a favorable change of $9.8 million, or 28%, from
net loss of $34.8 million for the quarter ended March 31, 2023. The favorable change was primarily due to an increase in gross profit
coupled with a decrease in operating expenses for the quarter ended June 30, 2023. Net loss for the quarter ended March 31,
2023 was $34.8 million, which represents an unfavorable change of $20.9 million, or 150%, from net loss of $13.9 million for the quarter
ended December 31, 2022. The unfavorable change was due to impairment expense of $19.8 million recognized related to CPG goodwill
and intangible assets during the quarter ended March 31, 2023. Net loss for the quarter ended December 31, 2022 was $13.9 million,
which represents an unfavorable change of $29.2 million, or 191%, from net income of $15.3 million for the quarter ended September 30,
2022. The unfavorable change was due to a gain on change in fair value of contingent liabilities recognized during the quarter ended
September 30, 2022 of $31.1 million as compared to a loss on change in fair value of contingent liabilities of $2.1 million during
the fourth quarter of 2022. Net income for the quarter ended September 30, 2022 was $15.3 million, which represents a favorable
change of $29.1 million, or 210% from $13.9 million net loss for the quarter ended June 30, 2022. The decrease in net loss was primarily
due to the increase in other income of $25.1 million for the current quarter as a result of a gain on change in fair value of contingent
liabilities recognized.
Liquidity and Capital Resources
Overview
Historically,
the Company’s primary source of liquidity has been its operations, capital contributions made by equity investors and debt issuances.
The Company is meeting its current operational obligations as they become due from its current working capital and from operations. However,
the Company has sustained losses since inception and may require additional capital in the future. As of and for the three months ended
March 31, 2024, the Company had an accumulated deficit of $209.3 million, a net loss
attributable to the Company of $18.3 million and net cash used in operating activities
of $1.9 million. The Company estimates that based on current business operations and working capital, it will continue to meet its obligations
as they become due in the short term. The Company is generating cash from revenues and deploying
its capital reserves to acquire and develop assets capable of producing additional revenues and earnings over both the immediate and
near term. Capital reserves are primarily being utilized for capital expenditures, facility improvements, product development and marketing.
Liquidity
risk is the risk that the Company will not be able to meet its financial obligations associated with financial liabilities. The Company
manages liquidity risk through the management of its capital structure. The Company’s approach to managing liquidity is to ensure
that it will have sufficient liquidity to settle obligations and liabilities when due. In the event sufficient cash flow is not available
from operating activities, the Company may continue to raise equity or debt capital from investors in order to meet liquidity needs.
If the Company is not able to secure adequate additional funding, the Company may be forced to make
reductions in spending, extend payment terms with suppliers, liquidate assets where possible, or suspend or curtail planned programs.
Any of these actions could materially harm the Company’s business, results of operations and future prospects. There can be no
assurance that such financing will be available or will be on terms acceptable to the Company.
Private Placement
Financing
There
were no private placement financings during the three months ended March 31, 2024.
Financial Condition
Cash Flows
The following table
summarizes the Company’s Consolidated Statements of Cash Flows from the Financial Statements for the three months ended March 31,
2024 and 2023:
| | |
In Thousands | |
| | |
2024 | | |
2023 | |
| Net Cash (Used in) Provided by Operating
Activities | |
$ | (1,875 | ) | |
$ | 4,458 | |
| Net Cash Used in Investing Activities | |
| (2,405 | ) | |
| (1,135 | ) |
| Net Cash Used in Financing Activities | |
| (3,836 | ) | |
| (1,099 | ) |
| | |
| | | |
| | |
| Net (Decrease) Increase in Cash, Restricted Cash
and Cash Equivalents | |
| (8,116 | ) | |
| 2,224 | |
| Cash, Restricted Cash and Cash Equivalents, Beginning of Period | |
| 32,524 | | |
| 14,144 | |
| | |
| | | |
| | |
| Cash, Restricted Cash and Cash Equivalents, End of Period | |
$ | 24,408 | | |
$ | 16,368 | |
Cash Flow from
Operating Activities
Net
cash used in operating activities was $1.9 million for the three months ended March 31, 2024, a decrease in cash inflow of $6.3
million, or 142%, compared to net cash provided by operating activities of $4.5 million for the three months ended March 31, 2023.
The Company had a decrease in net loss of $16.5 million coupled with an unfavorable change in adjustments
to reconcile net loss to net cash provided by operating activities of $17.4 million as well as a net unfavorable change in operating
assets and liabilities of $5.5 million for the three months ended March 31, 2024, when compared to the same period in the prior
year.
Cash Flow from Investing Activities
Net
cash used in investing activities was $2.4 million for the three months ended March 31, 2024,
an increase of $1.3 million, or 112%, compared to $1.1 million for the three months ended March 31, 2023. This was primarily driven
by expenditures to open up the next phase of the Camarillo property during the three months ended March 31, 2024.
Cash Flow from Financing Activities
Net
cash used in financing activities was $3.8 million for the three months ended March 31, 2024,
an increase of $2.7 million, or 249%, compared to net cased used of $1.1 million for the three months ended March 31, 2023. This
was primarily driven by the increase in payments of the notes payable during the period ended March 31, 2024 compared to the same
period in the prior year.
As discussed in
the “Liquidity and Capital Resources” section above, the Company’s primary source of liquidity has been capital contributions
and debt capital made available from investors. In the event sufficient cash flow is not available from operating activities, the Company
may continue to raise equity capital from investors in order to meet liquidity needs.
Contractual
Obligations
The Company has
contractual obligations to make future payments, including debt agreements and lease agreements from third parties.
The following table
summarizes such obligations as of March 31, 2024:
| | |
In Thousands | |
| | |
2024 | | |
2025 | | |
2026-2027 | | |
After 2027 | | |
Total | |
| | |
(remaining) | | |
| | |
| | |
| | |
| |
| Notes Payable to Third Parties | |
$ | 5,665 | | |
$ | 7,558 | | |
$ | 50,704 | | |
$ | - | | |
$ | 63,927 | |
| Lease Obligations | |
| 2,189 | | |
| 2,572 | | |
| 4,639 | | |
| 5,253 | | |
| 14,653 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | |
| Total Contractual Obligations | |
$ | 7,854 | | |
$ | 10,130 | | |
$ | 55,343 | | |
$ | 5,253 | | |
$ | 78,580 | |
Off-Balance Sheet Arrangements
As of the date
of this MD&A, the Company does not have any off-balance sheet arrangements that have, or are reasonably likely to have, a current
or future effect on the results of operations or financial condition of the Company including, without limitation, such considerations
as liquidity and capital resources that have not previously been discussed.
Transactions with Related Parties
During the Three Months Ended March 31, 2024
Related parties
are defined as management and members of the Company and/or members of their immediate family and/or other companies and/or entities
in which a board member or senior officer is a principal owner or senior executive. Other than disclosed elsewhere in the financial statements,
related party transactions and balances are as follows:
Consulting Agreement
Beach Front Property
Management Inc., a company that is majority-owned by an executive and board member of the Company, entered into a consulting agreement
with the Company dated September 28, 2020. The monthly consulting fee is $0.01 million for M&A advisory and assistance and real
estate acquisition and financing services. The agreement may be terminated by either party for any/or no reason without penalty upon
seven days written notice. Consulting fees for the three months ended March 31, 2024 and 2023 were $0.35 million and $0.33 million,
respectively.
Leases
Neo Street Partners
LLC, a company partially owned by an executive and board member of the Company, entered into a five-year lease with a subsidiary of the
Company. The lease, which commenced in October 2018, provides for an initial annual base rent payment of $0.21 million increasing
to $0.24 million for years two to five. Rent expense for the three months ended March 31, 2024 and 2023 were $0.09 million and $0.06
million, respectively.
3645 Long Beach
LLC, a company partially owned by an executive and board member of the Company, entered into a five-year lease with a subsidiary of the
Company. The lease, which commenced in December 2019, provides for an initial annual base rent payment of $0.06 million increasing
to $0.07 million for year two and increasing five percent per annum thereafter. Rent expense for the three months ended March 31,
2024 and 2023 were $0.02 million and $0.02 million, respectively.
Isla Vista GHG
LLC, a company partially owned by executives and board members of the Company, entered into a ten-year lease with a subsidiary of the
Company. The lease, which commences on the first calendar day after the Company publicly announces the opening of the retail location
at the leased property (the “Commencement Date”), provides for an initial monthly rent of $0.01 million starting April 19,
2022 until the Commencement Date. Effective on the Commencement Date, the initial annual base rent payment will be $0.14 million and
increasing three percent per annum thereafter. Rent expense for the three months ended March 31, 2024 and 2023 were $0.07 million
and $0.07 million, respectively.
In August 2022,
the Kazan Trust dated December 10, 2004, a trust owned by an executive and board member of the Company, acquired partial ownership
of a real estate entity that entered into a ten-year lease with a subsidiary of the Company. The lease, which commenced in July 2022,
provides for an initial annual base rent payment of $0.04 million, increasing three percent per annum thereafter. Rent expense for the
three months ended March 31, 2024 and 2023 were $0.01 million and $0.01 million, respectively.
Critical Accounting Estimates
Use of Estimates
The
preparation of the Financial Statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities at the dates of the Financial Statements and the reported amounts of total net revenue
and expenses during the reporting period. The Company regularly evaluates significant estimates and assumptions related to the consolidation
or non-consolidation of variable interest entities, estimated useful lives, depreciation of property and equipment, amortization of intangible
assets, inventory valuation, share-based compensation, business combinations, goodwill impairment, long-lived asset impairment, purchased
asset valuations, fair value of financial instruments, compound financial instruments, derivative liabilities, deferred income tax asset
valuation allowances, incremental borrowing rates, lease terms applicable to lease contracts and going concern. These estimates and assumptions
are based on current facts, historical experience and various other factors that the Company believes to be reasonable under the circumstances,
the results of which form the basis for making judgments about the carrying values of assets and liabilities and the recording of revenue,
costs and expenses that are not readily apparent from other sources. The actual results the Company experiences may differ materially
and adversely from these estimates. To the extent there are material differences between the estimates and actual results, the Company’s
future results of operations will be affected.
Estimated Useful Lives and Depreciation
of Property and Equipment
Depreciation of
property and equipment is dependent upon estimates of useful lives which are determined through the exercise of judgment. The assessment
of any impairment of these assets is dependent upon estimates of recoverable amounts that take into account factors such as economic
and market conditions and the useful lives of assets.
Estimated Useful Lives and Amortization
of Intangible Assets
Amortization of
intangible assets is dependent upon estimates of useful lives and residual values which are determined through the exercise of judgment.
Intangible assets that have indefinite useful lives are not subject to amortization and are tested annually for impairment, or more frequently
if events or changes in circumstances indicate that they might be impaired. The assessment of any impairment of these assets is dependent
upon estimates of recoverable amounts that take into account factors such as economic and market conditions.
Impairment of Long-Lived Assets
For purposes of
the impairment test, long-lived assets such as property, plant and equipment and definite-lived intangible assets are grouped with other
assets and liabilities at the lowest level for which identifiable independent cash flows are available (“asset group”). The
Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of an asset
may not be recoverable. In order to determine if assets have been impaired, the impairment test is a two-step approach wherein the recoverability
test is performed first to determine whether the long-lived asset is recoverable. The recoverability test (Step 1) compares the carrying
amount of the asset to the sum of its future undiscounted cash flows using entity-specific assumptions generated through the asset’s
use and eventual disposition. If the carrying amount of the asset is less than the cash flows, the asset is recoverable and an impairment
is not recorded. If the carrying amount of the asset is greater than the cash flows, the asset is not fully recoverable and an impairment
loss calculation (Step 2) is required. The measurement of the impairment loss to be recognized is based on the difference between the
fair value and the carrying value of the asset group. Fair value can be determined using a market approach, income approach or cost approach.
The cash flow projection and fair value represents management’s best estimate, using appropriate and customary assumptions, projections
and methodologies, at the date of evaluation. The reversal of impairment losses is prohibited.
Leased Assets
In
accordance with ASC 842 “Leases” (“ASC 842”), the Company determines if an arrangement is a lease at inception.
The Company elected the package of practical expedients provided by ASC 842, which forgoes reassessment of the following upon adoption
of the new standard: (1) whether contracts contain leases for any expired or existing contracts, (2) the lease classification
for any expired or existing leases, and (3) initial direct costs for any existing or expired leases. In addition, the Company elected
an accounting policy to exclude from the balance sheet the right-of-use assets and lease liabilities related to short-term leases, which
are those leases with a lease term of twelve months or less that do not include an option to purchase the underlying asset that the Company
is reasonably certain to exercise.
The Company applies
judgment in determining whether a contract contains a lease and if a lease is classified as an operating lease or a finance lease. The
Company applies judgement in determining the lease term as the non-cancellable term of the lease, which may include options to extend
or terminate the lease when it is reasonably certain that the Company will exercise that option. All relevant factors that create an
economic incentive for it to exercise either the renewal or termination options are considered. The Company reassesses the lease term
if there is a significant event or change in circumstances that is within its control and affects its ability to exercise or not to exercise
the option to renew or to terminate. The Company applies judgment in allocating the consideration in a contract between lease and non-lease
components. It considers whether the Company can benefit from the right-of-use asset either on its own or together with other resources
and whether the asset is highly dependent on or highly interrelated with another right-of-use asset. Lessees are required to record a
right-of-use asset and a lease liability for all leases with a term greater than twelve months. Lease liabilities and their corresponding
right-of-use assets are recorded based on the present value of lease payments over the expected remaining lease term. The incremental
borrowing rate is determined using estimates which are based on the information available at commencement date and determines the present
value of lease payments if the implicit rate is unavailable.
Income Taxes
Deferred tax assets
and liabilities are recorded for the estimated future tax effects of temporary differences between the tax basis of assets and liabilities
and amounts reported in the Consolidated Balance Sheets of the Financial Statements. Effects of enacted tax law changes on deferred tax
assets and liabilities are reflected as adjustments to tax expense in the period in which the law is enacted. Deferred tax assets may
be reduced by a valuation allowance if it is deemed more likely than not that some or all of the deferred tax assets will not be realized.
The Company follows
accounting guidance issued by the Financial Accounting Standards Board (“FASB”) related to the application of accounting
for uncertainty in income taxes. Under this guidance, the Company assesses the likelihood of the financial statement effect of
a tax position that should be recognized when it is more likely than not that the position will be sustained upon examination by a taxing
authority based on the technical merits of the tax position, circumstances, and information available as of the reporting date.
Convertible Instruments
The Company evaluates
and accounts for conversion options embedded in its convertible instruments in accordance with ASC 815, “Accounting for Derivative
Instruments and Hedging Activities”. Professional standards generally provide three criteria that, if met, require companies
to bifurcate conversion options from their host instruments and account for them as free-standing derivative financial instruments. These
three criteria include circumstances in which (a) the economic characteristics and risks of the embedded derivative instrument are
not clearly and closely related to the economic characteristics and risks of the host contract, (b) the hybrid instrument that embodies
both the embedded derivative instrument and the host contract is not remeasured at fair value under otherwise applicable generally accepted
accounting principles with changes in fair value reported in earnings as they occur and (c) a separate instrument with the same
terms as the embedded derivative instrument would be considered a derivative instrument.
The Company applies
ASU 2020-06, “Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging— Contracts
in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity”
(“ASC 815-40”), which simplifies the accounting for convertible instruments by eliminating the requirement to separate embedded
conversion features from the host contract when the conversion features are not required to be accounted for as derivatives under ASC
815, “Derivatives and Hedging”, or that do not result in substantial premiums accounted for as paid-in capital. By
removing the separation model, a convertible debt instrument will be reported as a single liability instrument with no separate accounting
for embedded conversion features. This standard also removes certain settlement conditions that are required for contracts to qualify
for equity classification and simplifies the diluted earnings per share calculations by requiring that an entity use the “if-converted”
method and that the effect of potential share settlement be included in diluted earnings per share calculations. The Company also records,
when necessary, deemed dividends for the intrinsic value of conversion options embedded in preferred shares based upon the differences
between the fair value of the underlying common stock at the commitment date of the note transaction and the effective conversion price
embedded in the note. ASC 815-40 provides that generally, if an event is not within the entity’s control, or could require net
cash settlement, then the contract shall be classified as an asset or a liability.
Derivative Liabilities
The Company evaluates
its agreements to determine if such instruments have derivatives or contain features that qualify as embedded derivatives. For derivative
financial instruments that are accounted for as liabilities, the derivative instrument is initially recorded at its fair value and is
then re-valued at each reporting date, with changes in the fair value reported in the Consolidated Statements of Operations. In calculating
the fair value of derivative liabilities, the Company uses a valuation model when Level 1 inputs are not available to estimate fair value
at each reporting date. The classification of derivative instruments, including whether such instruments should be recorded as liabilities
or as equity, is evaluated at the end of each reporting period. Derivative instrument liabilities are classified in the Consolidated
Balance Sheets as current or non-current based on whether net-cash settlement of the derivative instrument could be required within twelve
months of the Balance Sheets dates.
Business Combinations
Business combinations
are accounted for using the acquisition method. The consideration transferred in a business combination is measured at fair value at
the date of acquisition. Acquisition-related transaction costs are expensed as incurred and included in the Consolidated Statements of
Operations of the Financial Statements. Identifiable assets and liabilities, including intangible assets, of acquired businesses are
recorded at their fair value at the date of acquisition. When the Company acquires control of a business, any previously held equity
interest is also remeasured to fair value. The excess of the purchase consideration and any previously held equity interest over the
fair value of identifiable net assets acquired is goodwill. If the fair value of identifiable net assets acquired exceeds the purchase
consideration and any previously held equity interest, the difference is recognized in the Consolidated Statements of Operations of the
Financial Statements immediately as a gain on acquisition.
Contingent consideration
is measured at its acquisition-date fair value and included as part of the consideration transferred in a business combination. The Company
allocates the total cost of the acquisition to the underlying net assets based on their respective estimated fair values. As part of
this allocation process, the Company identifies and attributes values and estimated lives to the intangible assets acquired.
These determinations
involve significant estimates and assumptions regarding multiple, highly subjective variables, including those with respect to future
cash flows, discount rates, asset lives, and the use of different valuation models, and therefore require considerable judgment. The
Company’s estimates and assumptions are based, in part, on the availability of listed market prices or other transparent market
data. These determinations affect the amount of amortization expense recognized in future periods. The Company bases its fair value estimates
on assumptions it believes to be reasonable but are inherently uncertain. Contingent consideration that is classified as equity is not
remeasured at subsequent reporting dates and its subsequent settlement is accounted for within equity. Contingent consideration that
is classified as an asset or a liability is remeasured at subsequent reporting dates in accordance with ASC 450, “Contingencies”,
as appropriate, with the corresponding gain or loss being recognized in earnings in accordance with ASC 805, “Business Combinations”.
Consolidation
of Variable Interest Entities (“VIE”)
ASC 810 requires
a variable interest holder to consolidate a VIE if that party has the power to direct the activities of the VIE that most significantly
impact the VIE’s economic performance and the obligation to absorb losses of the VIE that could potentially be significant to the
VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. To determine whether or not a variable
interest the Company holds could potentially be significant to the VIE, the Company considers both qualitative and quantitative factors
regarding the nature, size and form of the Company’s involvement with the VIE. The equity method of accounting is applied to entities
in which the Company is not the primary beneficiary or the entity is not a VIE and the Company does not have effective control, but can
exercise influence over the entity with respect to its operations and major decisions. The Company does not consolidate a VIE in which
it is not considered the primary beneficiary. The Company evaluates its relationships with all the VIE’s on an ongoing basis to
reassess if it continues to be the primary beneficiary.
Share-Based Compensation
The Company has
an equity incentive plan (the “Incentive Plan”) under which the Company may issue various types of equity instruments or
instruments that track to equity, more particularly the Equity Shares, to employees, officers, consultants and non-employee directors.
The types of equity instruments issuable under the Incentive Plan encompass, among other things, stock options, unrestricted stock bonus
and restricted stock units (together, “Awards”).
The Company accounts
for its share-based awards in accordance with ASC 718, “Compensation – Stock Compensation”, which requires fair
value measurement on the grant date and recognition of compensation expense for all share-based payment awards made to employees and
directors, including restricted share awards. For stock options, the Company estimates the fair value using a closed option valuation
(Black-Scholes) model. When there are market-related vesting conditions to the vesting term of the share-based compensation, the Company
uses a valuation model to estimate the probability of the market-related vesting conditions being met and will record the expense. The
fair value of restricted share awards is based upon the quoted market price of the common shares on the date of grant. The fair value
is then expensed over the requisite service periods of the awards, which is generally the performance period, net of estimated forfeitures,
and the related amount is recognized in the Consolidated Statements of Operations of the Financial Statements.
The fair value
models require the input of certain assumptions that require the Company’s judgment, including the expected term and the expected
share price volatility of the underlying share. The assumptions used in calculating the fair value of share-based compensation represent
management’s best estimates, but these estimates involve inherent uncertainties and the application of judgment. As a result, if
factors change resulting in the use of different assumptions, share-based compensation expense could be materially different in the future.
In addition, the Company is required to estimate the expected forfeiture rate and only recognize expense for those shares expected to
vest. If the actual forfeiture rate is materially different from management’s estimates, the share-based compensation expense could
be significantly different from what the Company has recorded in the current period.
Financial Instruments
Fair Value
The Company applies
fair value accounting for all financial assets and liabilities and non-financial assets and liabilities that are recognized or disclosed
at fair value in the Financial Statements on a recurring basis. The Company defines fair value as the price that would be received from
selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When
determining the fair value measurements for assets and liabilities that are required to be recorded at fair value, the Company considers
the principal or most advantageous market in which the Company would transact and the market-based risk measurements or assumptions that
market participants would use in pricing the asset or liability, such as risks inherent in valuation techniques, transfer restrictions
and credit risk. Fair value is estimated by applying the following hierarchy, which prioritizes the inputs used to measure fair value
into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant
to the fair value measurement:
Level
1 – Quoted prices in active markets for identical assets or liabilities.
Level
2 – Observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical
or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market
data for substantially the full term of the assets or liabilities.
Level
3 – Inputs that are generally unobservable and typically reflect management’s estimate of assumptions that market participants
would use in pricing the asset or liability.
Impairment
The Company assesses
all information available, including on a forward-looking basis the expected credit loss associated with its assets carried at amortized
cost. The impairment methodology applied depends on whether there has been a significant increase in credit risk. To assess whether there
is a significant increase in credit risk, the Company compares the risk of a default occurring on the asset at the reporting date with
the risk of default at the date of initial recognition based on available information, and forward-looking information that is reasonable
and supportive. For accounts receivable only, the Company applies the simplified approach as permitted by ASU 2016-13, “Financial
Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments”. The simplified approach to
the recognition of expected losses does not require the Company to track the changes in credit risk. Rather, the Company recognizes a
loss allowance based on lifetime expected credit losses at each reporting date from the date of the trade receivable.
Expected credit
losses are measured as the difference in the present value of the contractual cash flows that are due to the Company under the contract,
and the cash flows that the Company expects to receive. The Company assesses all information available, including past due status, credit
ratings, the existence of third-party insurance, and forward-looking macro-economic factors in the measurement of the expected credit
losses associated with its assets carried at amortized cost. The Company measures expected credit loss by considering the risk of default
over the contract period and incorporates forward-looking information into its measurement.
Changes in Accounting Policies Including
Adoption
None.
Recently Issued
Accounting Standards
None.
Financial Instruments and Other Instruments
Fair Value of
Financial Instruments
The Company’s
financial instruments consist of cash and cash equivalents, accounts receivables, investments, notes receivable, trade payables, accrued
liabilities, operating lease liabilities, derivatives, notes payable, acquisition consideration of assets and liabilities. All assets
and liabilities for which fair value is measured or disclosed in the Financial Statements are categorized within the fair value hierarchy.
This is described, as follows, based on the lowest level input that is significant to the fair value measurement as a whole:
Level 1 –
inputs are quoted prices in active markets for identical assets or liabilities at the measurement date.
Level 2 –
inputs are observable inputs other than quoted prices included within Level 1, such as quoted prices for similar assets or liabilities
in active markets, quoted prices for identical assets or liabilities in markets that are not active, or other inputs that are observable
directly or indirectly.
Level 3 –
inputs are unobservable inputs for the asset or liability that reflect the reporting entity’s own assumptions and are not based
on observable market data.
There have been
no transfers between fair value levels during the years.
Other Risks and Uncertainties
Credit Risk
Credit risk is
the risk of a potential loss to the Company if a customer or third party to a financial instrument fails to meet its contractual obligations.
The maximum credit exposure as of March 31, 2024 and December 31, 2023 is the carrying values of cash and cash equivalents,
accounts receivable and notes receivable. The Company does not have significant credit risk with respect to its customers. All cash and
cash equivalents are placed with major U.S. financial institutions. The Company provides credit to its customers in the normal course
of business and has established credit evaluation and monitoring processes to mitigate credit risk but has limited risk as the majority
of its sales are transacted with cash.
Liquidity Risk
Liquidity risk
is the risk that the Company will not be able to meet its financial obligations associated with financial liabilities. The Company manages
liquidity risk through the management of its capital structure. The Company’s approach to managing liquidity risk is to ensure
that it will have sufficient liquidity to settle obligations and liabilities when due. As of March 31, 2024 and December 31,
2023, cash generated from ongoing operations was not sufficient to fund operations and growth strategy as discussed above in “Liquidity
and Capital Resources”. The Company has therefore depended on financing from sale of our equity and from debt financing to fund
our operations. Overall, management does not expect the net cash contribution from our operations and investments to be positive in the
near term, and the Company therefore expect to rely on financing from equity or debt.
Interest Rate Risk
Interest rate risk
is the risk that the fair value or future cash flows of a financial instrument will fluctuate because of changes in market interest rates.
Cash and cash equivalents bear interest at market rates. The Company’s financial liabilities have fixed rates of interest and therefore
expose the Company to a limited interest rate fair value risk.
Price Risk
Price risk is the
risk of variability in fair value due to movements in equity or market prices. The Company’s investments are susceptible to price
risk arising from uncertainties about their future outlook, future values and the impact of market conditions. The fair value of investments
in privately-held entities are based on a market approach, which uses prices and other relevant information generated by market transactions
involving identical or comparable assets or liabilities.
Tax Risk
Tax risk is the
risk of changes in the tax environment that would have a material adverse effect on the Company’s business, results of operations,
and financial condition. Currently, state licensed marijuana businesses are assessed a comparatively high effective federal tax rate
due to Internal Revenue Code Section 280E, which bars businesses from deducting all expenses except their cost of goods sold when
calculating federal tax liability. Any increase in tax levies resulting from additional tax measures may have a further adverse effect
on the operations of the Company, while any decrease in such tax levies will be beneficial to future operations.
REGULATORY ENVIRONMENT: ISSUERS WITH CANNABIS-RELATED
ASSETS IN THE UNITED STATES
In accordance with Staff Notice 51-352, below
is a discussion of the current federal and California regulatory regimes where the Company is currently directly and indirectly involved,
through its subsidiaries and investments, in the cannabis industry.
In accordance with Staff Notice 51-352, the Company
evaluates, monitors and reassesses this disclosure, and any related risks, on an ongoing basis and the same will be supplemented, amended
and communicated to investors in public filings, including in the event of government policy changes or the introduction of new or amended
guidance, laws or regulations regarding the cannabis industry. Any non-compliance, citations or notices of violation which may have an
impact on the Company’s licenses, business activities, or operations will be promptly disclosed by the Company.
The Company derives its revenues from the
cannabis industry in California, and the industry is illegal under U.S. federal law.
The Company is involved (through its licensed
subsidiaries) in the cannabis industry in the U.S. where local state laws permit such activities. Currently, its subsidiaries and managed
entities are directly engaged in the cultivation, manufacture, processing, sale and distribution of cannabis and hold licenses in the
adult-use and/or medicinal cannabis marketplace in the state of California.
The Company’s Statement of Financial
Position and Operating Statement Exposure to U.S. Cannabis Related Activities.
As of the date of this MD&A, the majority
of the Company’s business was directly derived from U.S. cannabis-related activities. As such, the Company’s statement of
financial position and statement of profits and losses exposure to U.S. cannabis-related activities is 100%.
U.S. Federal Overview
The Controlled Substances Act
The U.S. federal government regulates drugs through
the federal Controlled Substances Act (21 U.S.C. § 811) (the “CSA”), which places controlled substances, including cannabis,
in one of five different schedules. Cannabis, except hemp containing less than 0.3% (on a dry weight basis) of the psychoactive ingredient
in cannabis, is classified as a Schedule I drug. As a Schedule I drug, the federal U.S. Drug Enforcement Agency considers cannabis to
have a high potential for abuse, no currently accepted medical use in treatment in the U.S., and a lack of accepted safety for use of
the drug under medical supervision1. The classification of cannabis as a Schedule I drug is inconsistent with what the Company
believes to be many valuable medical uses for cannabis accepted by physicians, researchers, patients, and others. As evidence of this,
the U.S. Food and Drug Administration (“FDA”) on June 25, 2018, approved Epidiolex an oral solution with an active ingredient,
CBD, that is derived from the cannabis plant for the treatment of seizures associated with two rare and severe forms of epilepsy, Lennox-
Gastaut syndrome and Dravet syndrome, in patients two years of age and older. Epidiolex was initially placed on Schedule V, the least
restrictive schedule of the CSA. On April 6, 2020, the U.S. Drug Enforcement Administration (“DEA”) removed Epidiolex
entirely from the CSA. This is the first FDA-approved drug that contains a purified drug substance derived from the cannabis plant. CBD
is a chemical component of cannabis that does not contain the intoxicating properties of tetrahydrocannabinol (“THC”), the
primary psychoactive component of cannabis2. The Company believes the CSA categorization as a Schedule I drug is not reflective
of the medicinal properties of cannabis or the public perception thereof, and numerous studies show cannabis is not able to be abused
in the same way as other Schedule I drugs, has medicinal properties, and can be safely administered3.
The federal position is also not necessarily consistent
with democratic approval of cannabis at the state government level in the U.S. Unlike in Canada, which has federal legislation uniformly
governing the cultivation, distribution, sale and possession of cannabis under the Cannabis Act, S.C. 2018, c. 16, (Canada) and the Cannabis
for Medical Purposes Regulations, cannabis is largely regulated at the state and local level in the U.S. state laws regulating cannabis
conflict with the CSA, which makes cannabis use and possession federally illegal. Although certain states and territories of the U.S.
authorize medical or adult-use cannabis production and distribution by licensed or registered entities, under U.S. federal law, the possession,
use, cultivation, and transfer of cannabis and any related drug paraphernalia is illegal, and any such acts are criminal acts. Although
the Company’s activities are compliant with applicable state and local laws, strict compliance with state and local laws with respect
to cannabis may neither absolve the Company of liability under U.S. federal law nor provide a defense to federal criminal charges that
may be brought against the Company. The Supremacy Clause of the U.S. Constitution establishes that the U.S. Constitution and federal laws
made pursuant to it are paramount and, in case of conflict between federal and state law, federal law shall apply.
Nonetheless, 47 U.S. states, the District of Columbia,
and the territories of Puerto Rico, the U.S. Virgin Islands, Guam, and the Northern Mariana Islands have legalized some form of cannabis
for medical use, while 21 states and the District of Columbia have legalized the adult-use of cannabis for recreational purposes. As more
and more states legalized medical and/or adult-use cannabis, the federal government attempted to provide clarity on the incongruity between
federal prohibition under the CSA and these state-legal regulatory frameworks. Notwithstanding the foregoing, cannabis remains illegal
under U.S. federal law, with cannabis listed as a Schedule I drug under the CSA.
121
U.S.C. 812(b)(1).
2Cannabis
containing THC in excess of 0.3% on a dry weight basis is defined federally as marijuana. The federal definition of marijuana is commonly
incorporated into state laws and regulations. Unless otherwise noted herein, we use cannabis and marijuana interchangeably.
3See
Lachenmeier, DW & Rehm, J. (2015). Comparative risk assessment of alcohol, tobacco, cannabis and other illicit drugs using the
margin of exposure approach. Scientific Reports, 5, 8126. doi: 10.1038/srep08126; see also Thomas, G & Davis, C. (2009).
Cannabis, Tobacco and Alcohol Use in Canada: Comparing risks of harm and costs to society. Visions Journal, 5. Retrieved from
http://www.heretohelp.bc.ca/sites/default/files/visions_cannabis.pdf; see also Jacobus et al. (2009). White matter integrity in adolescents
with histories of marijuana use and binge drinking. Neurotoxicology and Teratology, 31, 349-355. https://doi.org/10.1016/j.ntt.2009.07.006;
Could smoking pot cut risk of head, neck cancer? (2009 August 25). Retrieved from https://www.reuters.com/article/us-smoking-pot/could-smoking-pot-cut-risk-of-head-neck-cancer-idUSTRE57O5DC20090825;
Watson, SJ, Benson JA Jr. & Joy, JE. (2000). Marijuana and medicine: assessing the science base: a summary of the 1999 Institute
of Medicine report. Arch Gen Psychiatry Review, 57, 547-552. Retrieved from https://www.ncbi.nlm.nih.gov/pubmed/10839332; see
also Hoaken, Peter N.S. & Stewart, Sherry H. (2003). Drugs of abuse and the elicitation of human aggressive behavior. Addictive
Behaviours, 28, 1533-1554. Retrieved from http://www.ukcia.org/research/AgressiveBehavior.pdf; and see also Fals-Steward, W., Golden,
J. & Schumacher, JA. (2003). Intimate partner violence and substance use: a longitudinal day-to-day examination. Addictive
Behaviors, 28, 1555-1574. Retrieved from https://www.ncbi.nlm.nih.gov/pubmed/14656545.
Until 2018, the federal government provided guidance
to federal law enforcement agencies and banking institutions regarding cannabis through a series of memoranda from the Department of Justice
(“DOJ”). The most recent such memorandum was drafted by former Deputy Attorney General James Cole on August 29, 2013
(the “Cole Memorandum”)4. The Cole Memorandum offered guidance to federal enforcement agencies as to how to prioritize
civil enforcement, criminal investigations and prosecutions regarding cannabis in all states, and acknowledged that, notwithstanding the
designation of cannabis as a Schedule I controlled substance at the federal level, several states have enacted laws authorizing the use
of cannabis. The Cole Memorandum also noted that jurisdictions that have enacted laws legalizing cannabis in some form have also implemented
strong and effective regulatory and enforcement systems to control the cultivation, processing, distribution, sale and possession of cannabis.
As such, conduct in compliance with those laws and regulations is less likely to be a priority at the federal level. The Cole Memorandum
was seen by many state-legal cannabis companies as a safe harbor for their licensed operations that were conducted in full compliance
with all applicable state and local regulations. However, on January 4, 2018, former U.S. Attorney General Jeff Sessions rescinded
the Cole Memorandum. In the absence of a uniform federal policy, U.S. Attorneys with state-legal cannabis programs within their jurisdictions
are responsible for establishing enforcement priorities for their respective offices. For instance, Andrew Lelling, a former U.S. Attorney
for the District of Massachusetts, stated that while his office would not immunize any businesses from federal prosecution, he anticipated
focusing the office’s cannabis enforcement efforts on: (1) overproduction; (2) targeted sales to minors; and (3) organized
crime and interstate transportation of drug proceeds. Other U.S. attorneys provided less assurance, promising to enforce federal law,
including the CSA in appropriate circumstances.
Following his election, President Biden appointed
Merrick Garland to serve as the U.S. Attorney General. While Attorney General Garland indicated in his confirmation hearing that he did
not feel that enforcement of the federal cannabis prohibition against state-licensed business would not be a priority target of Department
of Justice resources, no formal enforcement policy has been issued to date. There is no guarantee that state laws legalizing and regulating
the sale and use of cannabis will not be repealed or overturned, or that local governmental authorities will not limit the applicability
of state laws within their respective jurisdictions. Unless and until the U.S. congress (“Congress”) amends the CSA with respect
to cannabis (and as to the timing or scope of any such potential amendments there can be no assurance), there is a risk that federal authorities
may enforce current U.S. federal law.
As an industry best practice, despite the rescission
of the Cole Memorandum, the Company abides by the following standard operating policies and procedures:
| 1. | Ensure that its operations are compliant with all licensing requirements as established by the applicable state, county, municipality,
town, township, borough, and other political/administrative divisions; |
| 2. | Ensure that its cannabis related activities adhere to the scope of the licensing obtained (for example: in the states where cannabis
is permitted only for adult-use, the products are only sold to individuals who meet the requisite age requirements); |
| 3. | Implement policies and procedures to ensure that cannabis products are not distributed to minors; |
| 4. | Implement policies and procedures to ensure that funds are not distributed to criminal enterprises, gangs or cartels; |
| 5. | Implement an inventory tracking system and necessary procedures to ensure that such compliance system is effective in tracking inventory
and preventing diversion of cannabis or cannabis products into those states where cannabis is not permitted by state law, or across any
state lines in general; |
| 6. | Ensure that its state-authorized cannabis business activity is not used as a cover or pretense for trafficking of other illegal drugs,
is engaged in any other illegal activity or any activities that are contrary to any applicable anti- money laundering statutes; and |
| 7. | Ensure that its products comply with applicable regulations and contain necessary disclaimers about the contents of the products to
prevent adverse public health consequences from cannabis use and prevent impaired driving. |
In addition, the Company conducts background checks
to ensure that the principals and management of its operating subsidiaries are of good character, have not been involved with other illegal
drugs, engaged in illegal activity or activities involving violence, or use of firearms in cultivation, manufacturing or distribution
of cannabis. The Company will also conduct ongoing reviews of the activities of its cannabis businesses, the premises on which they operate
and the policies and procedures that are related to possession of cannabis or cannabis products outside of the licensed premises, including
the cases where such possession is permitted by regulation. See “Compliance and Monitoring” section herein for additional
details.
4See James M. Cole, Memorandum for all United States
Attorneys re: Guidance Regarding Marijuana Enforcement (Aug. 29, 2013), available at https://www.justice.gov/iso/opa/resources/3052013829132756857467.pdf.
One legislative safeguard for the medical cannabis
industry remains in place: Congress has passed a so-called “rider” provision in the fiscal years 2015, 2016, 2017, 2018, 2019,
2020 and 2021 Consolidated Appropriations Acts to prevent the federal government from using congressionally appropriated funds to enforce
federal cannabis laws against regulated medical cannabis actors operating in compliance with state and local law. The rider is known as
the “Rohrabacher-Farr” Amendment after its original lead sponsors (it is also sometimes referred to as the “Rohrabacher-Blumenauer”
or “Joyce- Leahy” Amendment, but it is referred to in this MD&A as the “Rohrabacher-Farr Amendment”). The
Rohrabacher-Farr Amendment was included in the Consolidated Appropriations Act, 2023 and signed into law by President Biden on December 29,
2022. The Rohrabacher-Farr Amendment will remain in effect through the fiscal year, which ends September 30, 2023. There is no guarantee
that the Rohrabacher/Farr Amendment will be included in the omnibus appropriation package or a continuing budget resolution once the current
spending bill expires.
On October 6, 2022, President Biden announced
a series of marijuana-related initiatives. Included amongst them was a directive to the Secretary of Health and Human Services and the
Attorney General “to initiate the administrative process to review expeditiously how marijuana is scheduled under federal law. Federal
law currently classifies marijuana in Schedule I of the Controlled Substances Act, the classification meant for the most dangerous substances.”
This administrative review would be conducted by the FDA and the DEA. It is unclear when these agencies would complete their respective
reviews nor is it clear whether the reviews would result in any change in the classification of marijuana.
On December 2, 2022, President Biden signed
into law H.R. 8454, the “Medical Marijuana and Cannabidiol Research Expansion Act,” (the “Research Expansion Act”)
which establishes a new registration process for conducting research on marijuana and for manufacturing marijuana products for research
purposes and drug development. The Research Expansion Act is the first piece of standalone federal cannabis reform legislation in U.S.
history. Among other things, the Research Expansion Act; (i) directs the DEA to register practitioners to conduct cannabis and CBD
research and manufacturers to supply cannabis for research purposes; (ii) expressly allows the DEA to register manufacturers and
distributors of cannabis or CBD for the purposes of commercial production of a drug approved by the FDA; (iii) requires the DEA to
assess whether there is an adequate and uninterrupted supply of cannabis for research purposes; (iii) permits registered entities
to manufacture, distribute, dispense, or possess cannabis or CBD for purposes of medical research; (iv) clarifies that physicians
do not violate the CSA when they discuss the potential harms and benefits of cannabis and CBD with patients; and (v) directs the
DHHS to coordinate with the National Institutes of Health and other agencies to report on the “therapeutic potential” of cannabis
for conditions such as epilepsy, and the impact of cannabis on adolescent brain development.
Nevertheless, for the time being, cannabis remains
a Schedule I controlled substance at the federal level. The federal government of the U.S. has always reserved the right to enforce federal
law regarding the sale and disbursement of medical or adult-use cannabis, even if state law sanctions such sale and disbursement. If the
U.S. federal government begins to enforce U.S. federal laws relating to cannabis in states where the sale and use of cannabis is currently
legal, or if existing applicable state laws are repealed or curtailed, the Company’s business, results of operations, financial
condition and prospects could be materially adversely affected.
There is a growing consensus among cannabis businesses
and numerous members of Congress that prosecutorial discretion is not law and temporary legislative riders, such as the Rohrabacher-Farr
Amendment, are an inappropriate way to protect lawful medical cannabis businesses. Numerous bills have been introduced in Congress in
recent years to decriminalize aspects of state-legal cannabis trades. The Company has observed that each year more congressmen and congresswomen
sign on and cosponsor cannabis legalization bills. In light of all this, it is anticipated that the federal government will eventually
repeal the federal prohibition on cannabis and thereby leave the states to decide for themselves whether to permit regulated cannabis
cultivation, production and sale, just as states are free today to decide policies governing the distribution of alcohol or tobacco.
The most comprehensive proposal for reform of
federal legislation on cannabis was introduced on July 21, 2022, by U.S. Senate Majority Leader Chuck Schumer (D-NY) along with Cory
Booker (D-NJ), and Ron Wyden (D-OR) when they filed the Cannabis Administration and Opportunity Act (the “CAOA”). The CAOA
would have removed cannabis from Schedule 1 of the CSA, which would permit its decriminalization and allow the expungement of federal
non-violent cannabis crimes. The CAOA would also have imposed a federal tax on cannabis of 10% in its first year of enactment, eventually
increasing to 25% in 5% increments. The taxes raised would be used to petition fund programs to benefit communities disproportionately
impacted by the “War on Drugs”.
The CAOA would have enshrined the current state
cannabis licensing regimes but introduces additional federal permitting of cannabis wholesalers. Regulatory responsibility for cannabis
control would be transferred from the DEA to the Alcohol and Tobacco Tax and Trade Bureau and the Bureau of Alcohol Tobacco Firearms and
Explosives.
The filing of the CAOA by Democratic congressional
leaders in the 117th Congress represented a significant milestone in the move toward federal legalization of cannabis. While
the CAOA suggested that legalization may come with significant federal tax burden, federal legalization will also bring long-awaited benefits
to the industry of the removal of the Section 280E tax burden, clarity as to the status of state-licensed cannabis businesses, broad
access to the banking and card payment system, increased availability, and reduced cost, of capital.
The CAOA failed to pass the 117th Congress.
Another bill, the Marijuana Opportunity Reinvestment
and Expungement (MORE) Act, proposed in the U.S. House of Representatives would have decriminalized and de-scheduled cannabis from the
CSA, provide for reinvestment in certain persons adversely impacted by the “War on Drugs,” and provide for expungement of
certain cannabis offenses, among other things. The MORE Act passed U.S. House of Representatives on April 1, 2022, but was not taken
up in the Senate before the end of the 117th Congress.
There can be no assurance that the CAOA, the MORE
Act or similar comprehensive legislation that would de-schedule cannabis and de-criminalize will be passed in the near future or at all.
If such legislation is passed, there is no guarantee that it will include provisions that preserve the current state-based cannabis programs
under which the Company’s subsidiaries operate or that such legislation will otherwise be favorable the Company and its business.
Money Laundering Laws
Under U.S. federal law, it may potentially be
a violation of federal money laundering statutes for financial institutions to take any proceeds from the sale of any Schedule I controlled
substance. Due to the CSA categorization of marijuana as a Schedule I drug, federal law makes it illegal for financial institutions that
depend on the Federal Reserve’s money transfer system to take any proceeds from marijuana sales as deposits. Banks and other financial
institutions could be prosecuted and possibly convicted of money laundering for providing services to cannabis businesses under the U.S.
Currency and Foreign Transactions Reporting Act of 1970 (the “Bank Secrecy Act”). Therefore, under the Bank Secrecy Act, banks
or other financial institutions that provide a cannabis business with a checking account, debit or credit card, small business loan, or
any other service could be charged with money laundering or conspiracy.
While there has been no change in U.S. federal
banking laws to accommodate businesses in the large and increasing number of U.S. states that have legalized medical and/or adult-use
marijuana, in 2014, the Department of the Treasury Financial Crimes Enforcement Network (“FinCEN”) issued guidance to prosecutors
of money laundering and other financial crimes (the “FinCEN Guidance”) and notified banks that it would not seek enforcement
of money laundering laws against banks that service cannabis companies operating under state law, provided that strict due diligence and
reporting standards are met. The FinCEN Guidance advised prosecutors not to focus their enforcement efforts on banks and other financial
institutions that serve marijuana-related businesses so long as that business is legal in their state and none of the federal enforcement
priorities referenced in the Cole Memorandum are being violated (such as keeping marijuana away from children and out of the hands of
organized crime). The FinCEN Guidance also clarifies how financial institutions can provide services to marijuana-related businesses consistent
with their Bank Secrecy Act obligations, including thorough customer due diligence, but makes it clear that they are doing so at their
own risk. The customer due diligence steps include:
| 1. | Verifying with the appropriate state authorities whether the business is duly licensed and registered; |
| 2. | Reviewing the license application (and related documentation) submitted by the business for obtaining a state license to operate its
marijuana-related business; |
| 3. | Requesting from state licensing and enforcement authorities available information about the business and related parties; |
| 4. | Developing an understanding of the normal and expected activity for the business, including the types of products to be sold and the
type of customers to be served (e.g., medical versus adult-use customers); |
| 5. | Ongoing monitoring of publicly available sources for adverse information about the business and related parties; |
| 6. | Ongoing monitoring for suspicious activity, including for any of the red flags described in this guidance; and |
| 7. | Refreshing information obtained as part of customer due diligence on a periodic basis and commensurate with the risk. |
With respect to information regarding state licensure
obtained in connection with such customer due diligence, a financial institution may reasonably rely on the accuracy of information provided
by state licensing authorities, where states make such information available.
Because most banks and other financial institutions
are unwilling to provide any banking or financial services to cannabis businesses, these businesses can be forced into becoming “cash-only”
businesses. While the FinCEN Guidance decreased some risk for banks and financial institutions considering serving the industry, in practice
it has not increased banks’ willingness to provide services to cannabis businesses, and most banks continue to decline to operate
under the strict requirements provided under the FinCEN Guidance. This is because, as described above, the current law does not provide
banks immunity from prosecution, and it also requires banks and other financial institutions to undertake time-consuming and costly due
diligence on each cannabis business they accept as a customer.
The few state-chartered banks and/or credit unions
that have agreed to work with marijuana businesses are limiting those accounts to small percentages of their total deposits to avoid creating
a liquidity risk. Since, theoretically, the federal government could change the banking laws as it relates to marijuana businesses at
any time and without notice, these state- charted banks and credit unions must keep sufficient cash on hand to be able to return the full
value of all deposits from marijuana businesses in a single day, while also keeping sufficient liquid capital on hand to serve their other
customers. Those state-chartered banks and credit unions that do have customers in the marijuana industry charge marijuana businesses
high fees to pass on the added cost of ensuring compliance with the FinCEN Guidance. Unlike the Cole Memorandum, however, the FinCEN Guidance
from 2014 has not been rescinded.
The former Secretary of the U.S. Department of
the Treasury, Steven Mnuchin, publicly stated that he did not have a desire to rescind the FinCEN Guidance.5 The current Secretary
of the Treasury, Janet Yellen, has not yet articulated an official position of the U.S. Department of the Treasury with regard to the
FinCEN Guidance and thus as an industry best practice and consistent with its standard operating procedures, the Company adheres to all
customer due diligence steps in the FinCEN Guidance.
In both Canada and the U.S., transactions involving
banks and other financial institutions are both difficult and unpredictable under the current legal and regulatory landscape. Legislative
changes could help to reduce or eliminate these challenges for companies in the cannabis space and would improve the efficiency of both
significant and minor financial transactions.
In the absence of comprehensive reform of federal
cannabis legislation that would decriminalize the cannabis industry, a growing number of members of Congress have expressed support for
federal legislation that would eliminate from the scope of federal money laundering statutes the financing activity of businesses operating
under state-sanctioned cannabis programs. On September 26, 2019, the U.S. House of Representatives passed the Secured and Fair Enforcement
Banking Act of 2019 (commonly known as the “SAFE Banking Act”), which aims to provide safe harbor and guidance to financial
institutions that work with legal U.S. cannabis businesses. The SAFE Banking Act has since been introduced and has passed the U.S. House
of Representatives several times, but still awaits action from the U.S. Senate. The SAFE Banking Act has also been proposed as a rider
to federal annual budget bills and the National Defense Appropriations Act. However, such attempts have failed, most recently with respect
to inclusion the Consolidated Appropriate Act, signed by President Biden on December 29, 2022. While Congress may consider legislation
in the future that may permanently address these issues, there can be no assurance of the content of any proposed legislation or that
such legislation is ever passed. The Company’s inability, or limitations on the Company’s ability, to open or maintain bank
accounts, obtain other banking services and/or accept credit card and debit card payments may make it difficult for the Company to operate
and conduct its business as planned or to operate efficiently.
Federal Taxation of Cannabis Businesses
An additional challenge to cannabis-related businesses
is that the provisions of Section 280E are being applied by the IRS to businesses operating in the medical and adult-use cannabis
industry. Section 280E prohibits businesses from deducting certain expenses associated with the trafficking of controlled substances
within the meaning of Schedule I and II of the CSA. The IRS has applied Section 280E broadly in tax audits against various cannabis
businesses in the U.S. that are permitted under applicable state laws, seeking substantial sums in tax liabilities, interest and penalties
resulting from underpayment of taxes due to the lack of deductibility of otherwise ordinary business expenses, the deduction of which
is prohibited by Section 280E. Although the IRS issued a clarification allowing the deduction of certain expenses that can be categorized
as cost of goods sold, the scope of such items is interpreted very narrowly, and the bulk of operating costs and general administrative
costs are not permitted to be deducted. Therefore, businesses in the state-legal cannabis industry are subject to higher effective tax
rates and thus may be less profitable than they would otherwise be.
5 Angell,
Tom. (2018 February 6). Trump Treasury Secretary Wants Marijuana Money In Banks, available at https://www.forbes.com/sites/tomangell/2018/02/06/trump-treasury-secretary-wants-
marijuana-money-in-banks/#2848046a3a53; see also Mnuchin: Treasury is reviewing cannabis policies. (2018 February 7), available
at http://www.scotsmanguide.com/News/2018/02/Mnuchin-- Treasury-is-reviewing-cannabis-policies/.
Reform of Federal Legislation on Industrial
Hemp
On December 20, 2018, former President Donald
Trump signed the Agriculture Improvement Act of 2018, Pub. L. 115- 334, (popularly known as the “2018 Farm Bill”) into law.6
Under the 2018 Farm Bill, industrial and commercial hemp is no longer to be classified as a Schedule I controlled substance in the U.S.
Hemp includes the plant cannabis sativa L and any part of that plant, including seeds, derivatives, extracts, cannabinoids and isomers,
which contain no more than 0.3% of delta-9-THC concentration by dry weight. The 2018 Farm Bill allows states to create regulatory programs
allowing for the licensed cultivation of hemp and production of hemp-derived products. Hemp and products derived from it, such as CBD,
may then be sold into commerce and transported across state lines, provided that the hemp from which any product is derived was cultivated
under a license issued by an authorized state program approved by the U.S. Department of Agriculture and otherwise meets the definition
of hemp.
Despite the removal of CBD extracted from hemp
and other hemp extracts, produced under authorized state hemp programs from the Controlled Substance Act, the FDA’s stated position
remains that it is a prohibited act under the Federal Food, Drug, and Cosmetic Act to introduce into interstate commerce a food to which
CBD, THC or cannabinoids has been added, or to market a product containing these ingredients as a dietary supplement.7 However,
on January 26, 2023, the FDA concluded that a new regulatory pathway for CBD is needed that balances individual’s desire for
access to CBD products with the regulatory oversight needed to manage risks. The FDA is seeking support from Congress to develop a new
regulatory pathway.
On a state level, the November 2020 elections
included multiple initiatives on state ballots regarding cannabis, all of which passed. In Arizona and New Jersey, adult-use cannabis
ballot initiatives passed. Similarly, adult-use passed in Montana, medical use passed in Mississippi, and both adult-use and medical use
passed in South Dakota; the legalization of adult-use in South Dakota was later nullified by state courts for procedural reasons. Barring
any further legal challenges, these states are expected to adopt governing rules and regulations to expand their cannabis programs
accordingly. In the 2022 election cycle, voters in Arkansas, North Dakota and South Dakota rejected ballot measures aimed at legalizing
recreational use of cannabis while in two other states, Maryland and Missouri, votes approved measures legalizing cannabis for adult use.
The results of the 2022 Congressional elections
may impact the likelihood of any legal developments regarding cannabis at the national level, including the passage of the CAOA, the SAFE
Banking Act and the MORE Act. While President Biden campaigned on a platform that included cannabis decriminalization and, as noted above,
has taken steps to review current federal agency policy concerning cannabis, the Republicans, who have tended to be less supportive than
Democrats of federal cannabis reforms, took control of the United States House of Representatives, which could impact the prospects for
cannabis reform legislation.
Service Providers
As a result of any adverse change to the approach
in enforcement of U.S. cannabis laws, adverse regulatory or political change, additional scrutiny by regulatory authorities, adverse change
in public perception in respect of the consumption of marijuana or otherwise, third party service providers to the Company could suspend
or withdraw their services, which may have a material adverse effect on the Company’s business, revenues, operating results, financial
condition, or prospects.
Ability to Access Capital
Given the current U.S. federal laws regarding
cannabis, traditional bank financing is typically not available to U.S. cannabis companies. Specifically, the federal illegality of marijuana
in the U.S. means that financial transactions involving proceeds generated by cannabis-related conduct can form the basis for prosecution
under money laundering statutes, the unlicensed money transmitter statute and the Bank Secrecy Act. As a result, businesses involved in
the cannabis industry often have difficulty finding a bank willing to accept their business. Banks who do accept deposits from cannabis-related
businesses in the U.S. must do so in compliance with the Cole Memorandum and the FinCEN guidance, both discussed above.
The Company requires equity and/or debt financing
to support on-going operations, to undertake capital expenditures or to undertake acquisitions or other business combination transactions.
There can be no assurance that additional financing will be available to the Company when needed or on terms which are acceptable. The
Company’s inability to raise financing through traditional banking to fund on-going operations, capital expenditures or acquisitions
could limit its growth and may have a material adverse effect upon the Company’s business, results of operations, financial condition
or prospects.
If additional funds are raised through further
issuances of equity or convertible debt securities, existing Company shareholders could suffer significant dilution, and any new equity
securities issued could have rights, preferences and privileges superior to existing holders of Equity Shares.
6
H.R.2 - 115th Congress (2017-2018): Agriculture Improvement Act of 2018, Congress.gov (2018),https://www.congress.gov/bill/115th-congress/house-bill/2/text.
7
Notably, to date the FDA’s enforcement activities in respect of the sale of CBD foods and supplements has been largely
focused upon those manufacturers and distributors that have made impermissible claims about the efficacy of CBD for treating certain
diseases and medical conditions.
Heightened Scrutiny by Regulatory Authorities
For the reasons set forth above, the Company’s
existing operations in the U.S., and any future operations or investments of the Company, may become the subject of heightened scrutiny
by regulators, stock exchanges and other authorities in Canada. As a result, the Company may be subject to significant direct and indirect
interaction with public officials. There can be no assurance that this heightened scrutiny will not in turn lead to the imposition of
certain restrictions on the Company’s ability to operate or invest in any other jurisdictions or have consequences for its stock
exchange listing or Canadian reporting obligations, in addition to those described herein.
Change to government policy or public opinion
may also result in a significant influence on the regulation of the cannabis industry in Canada, the U.S., or elsewhere. A negative shift
in the public’s perception of medical or adult-use cannabis in the U.S. or any other applicable jurisdiction could affect future
legislation or regulation, or enforcement. Such a shift could cause state jurisdictions to abandon initiatives or proposals to legalize
medical or adult-use cannabis, thereby limiting the number of new state jurisdictions into which the Company could expand. Any inability
to fully implement the Company’s business strategy in the state in which the Company currently operates may have a material adverse
effect on the Company’s business, financial condition, and results of operations. See the “Risk Factors” section of
the Annual Information Form for additional details.
Further, violations of any federal laws and regulations
could result in significant fines, penalties, administrative sanctions, convictions, or settlements arising from civil proceedings conducted
by either the federal government or private citizens, or criminal charges, including, but not limited to, disgorgement of profits, asset
forfeiture, and cessation of business activities or divestiture. Any enforcement action against the Company or any of its licensed operating
facilities could have a material adverse effect on (1) the Company’s reputation, (2) the Company’s ability to conduct
business, (3) the Company’s holdings (directly or indirectly) of medical or adult-use cannabis licenses in the U.S., (4) the
listing or quoting of the Company’s securities on various stock exchanges, (5) the Company’s financial position, (6) the
Company’s operating results, profitability, or liquidity, or (7) the market price of the Company’s publicly traded shares.
In addition, it is difficult for the Company to estimate the time or resources that would be needed for the investigation of any such
matters or their final resolution because the time and resources that may be necessary depend on the nature and extent of any information
requested by the applicable authorities involved, and such time or resources could be substantial. See the “Risk Factors”
section of the Annual Information Form for additional details. The Company’s business activities, and the business activities
of its subsidiaries, while believed to be compliant with applicable U.S. state and local laws, currently are illegal under U.S. federal
law.
Further to the indication by CDS Clearing and
Depository Services Inc. (“CDS”), Canada’s central securities depository, clearing and settling trades in the Canadian
equity, fixed income and money markets that it would refuse to settle trades for cannabis issuers that have investments in the U.S., the
TMX Group, the owner and operator of CDS, subsequently issued a statement in August 2017 reaffirming that there is no CDS ban on
the clearing of securities of issuers with cannabis-related activities in the U.S., despite media reports to the contrary and that the
TMX Group was working with regulators to arrive at a solution that will clarify this matter, which would be communicated at a later time.
In February 2018, following discussions with
the Canadian Securities Administrators and recognized Canadian securities exchanges, the TMX Group announced the signing of a Memorandum
of Understanding (“MOU”) with The Aequitas NEO Exchange Inc., the CSE, the Toronto Stock Exchange, and the TSX Venture Exchange.
The MOU outlines the parties’ understanding of Canada’s regulatory framework applicable to the rules, procedures, and regulatory
oversight of the exchanges and CDS as it relates to issuers with cannabis-related activities in the U.S. The MOU confirms, with respect
to the clearing of listed securities, that CDS relies on the exchanges to review the conduct of listed issuers. As a result, there is
currently no CDS ban on the clearing of securities of issuers with cannabis-related activities in the U.S. However, there can be no guarantee
that this approach to regulation will continue in the future. If such a ban were to be implemented at a time when the Company’s
equity shares are listed on a stock exchange, it would have a material adverse effect on the ability of such holders to make and settle
trades. In particular, such equity would become highly illiquid as until an alternative was implemented, investors would have no ability
to affect a trade of securities through the facilities of the applicable stock exchange.
Compliance and Monitoring
As of the date of this MD&A, the Company believes
that each of its licensed operating entities (a) holds all applicable licenses to cultivate, manufacture, possess, and/or distribute
cannabis in California, and (b) is in good standing and in material compliance with California’s cannabis regulatory program.
The Company is in material compliance with its obligations under state laws related to its cannabis cultivation, processing and dispensary
licenses, other than minor violations that would not result in a material fine, suspension or revocation of any relevant license.
The Company uses reasonable commercial efforts
to ensure that its business is in material compliance with laws and applicable licensing requirements and engages in the regulatory and
legislative process nationally and in the state where we operate through our compliance department, outside government relations consultants,
cannabis industry groups and legal counsel.
The compliance department is managed by our General
Counsel and Corporate Secretary, Benjamin Vega (the “General Counsel”). The Company’s compliance department is charged
with knowing the local regulatory process in the State of California and is responsible for monitoring developments with their governing
bodies. The compliance department regularly reports regulatory developments to the Company’s General Counsel through written and
oral communications and is charged with the creation and implementation of plans regarding all regulatory developments. The Company’s
General Counsel works with external legal advisors in California to ensure that the Company is in on-going compliance with applicable
state laws.
Although the Company believes that its business
activities are materially compliant with applicable and state and local laws of the U.S., strict compliance with state and local laws
with respect to cannabis may neither absolve the Company of liability under U.S. federal law nor provide a defense to any federal proceeding
which may be brought against the Company. Any such proceedings brought against the Company may result in a material adverse effect on
the Company. The Company derives 100% of its revenues from the cannabis industry in California, which industry is illegal under U.S. federal
law. Even where the Company’s cannabis-related activities are compliant with applicable state and local laws, such activities remain
illegal under U.S. federal law. The enforcement of relevant federal laws is a significant risk.
In addition to the above disclosure, please see
the “Risk Factors” section of the Annual Information Form for further risk factors associated with the operations
of the Company and the Company.
California Legal Framework and How It Affects
Our Business
California Licensing Scheme
California’s licensing body for medical
and adult-use cannabis is the Department of Cannabis Control (“DCC”). There is no limit to the number licenses California
may issue; however, some jurisdictions have a limit on the number of licenses they will issue. Each license grants one licensed premise
and the main classes of licenses are: cultivation, retailer, distributor, manufacturer, microbusiness, event organizer, and testing laboratory.
Additionally, a license may not be held by, or issued to, any person holding office in, or employed by, any agency of the State of California
or any of its political subdivisions when the duties of such person are associated with enforcement of laws or regulations regarding cannabis
or cannabis products. There are no requirements for vertical integration; however, California does define specific cultivation license
types by canopy size.
California Medical Patient Requirements
Edibles labeled as “FOR MEDICAL USE ONLY”
and only available for sale to a medicinal-use patient, may contain up to 500mg THC per package (adult use limit is 100mg THC/package).
Topicals labeled as “FOR MEDICAL USE ONLY” and only available for sale to a medicinal-use patient, may contain up to 2000mg
THC per package (adult use limit is 1000mg THC/package).
California Recent and Proposed Legislation
On October 6, 2021, California Governor Gavin
Newsom signed Assembly Bill 45 (“AB 45”) into law. AB 45 permits the manufacture and sale of products that contain hemp derived
CBD including foods, beverages, dietary supplements, cosmetics, and pet products. Under AB 45, the California Department of Public Health
(“CDPH”) will serve as the primary regulator of hemp derived CBD products. The CDPH has three primary requirements to manufacture
and sell hemp products in California: (1) possess a license or registration for your specific commodity (such as processed food registration);
(2) obtain an Industrial Hemp Enrollment and Oversight (IHEO) authorization for each commodity; and (3) comply with CDPH law,
such as the Sherman Food, Drug and Cosmetic law and the 2018 Farm Bill. The DCC plan to integrate industrial hemp into the cannabis supply
chain remains to be released and approved.
For
a detailed description of risk factors associated with the Company and its operations, please see the “Risk Factors” section
of the Company’s Annual Information Form for the year ended December 31, 2022, available on SEDAR+ at www.sedarplus.ca.
Shareholders’ Equity
As
of March 31, 2024 and December 31, 2023, the authorized share capital of the Company is comprised of an unlimited number
of (i) Subordinate Voting Shares, (ii) Restricted Voting Shares, (iii) Limited Voting Shares, (iv) Multiple Voting
Shares and (v) Preferred Shares:
Multiple Voting Shares
The
Company is authorized to issue an unlimited number of Multiple Voting Shares without nominal or par value. Holders of Multiple Voting
Shares are entitled to receive notice of any meeting of shareholders of the Company, and to attend, vote and speak at such meetings, except
those meetings at which only holders of a specific class of shares are entitled to vote separately as a class under the Business Corporations
Act (British Columbia). On all matters upon which holders of Multiple Voting Shares are entitled to vote, each Multiple Voting Share entitles
the holder thereof to 50 votes per Multiple Voting Share. Multiple Voting Shares are not entitled to dividends and are not convertible.
The Multiple Voting Shares had a three (3)-year sunset period that would have expired June 29, 2024. At the annual general and special
meeting of the shareholders of the Company held on June 23, 2023, shareholders passed a special resolution to amend the Articles
to extend the “sunset” date for the Multiple Voting Shares to June 29, 2027, upon which they will be automatically redeemed
for $0.001 per Multiple Voting Share.
Equity Shares
The holders of each class of Equity Shares are
entitled to receive notice of, to attend (if applicable, virtually) and to vote at all meetings of shareholders of the Company, except
that they are not able to vote (but are entitled to receive notice of, to attend and to speak) at those meetings at which the holders
of a specific class are entitled to vote separately as a class under the Business Corporations Act (British Columbia) and except
that holders of Limited Voting Shares are not entitled to vote for the election of directors of the Company. The Subordinate Voting Shares
and Restricted Voting Shares carry one vote per share on all matters. The Limited Voting Shares carry one vote per share on all matters
except the election of directors, as the holders of Limited Voting Shares do not have any entitlement to vote in respect of the election
for directors of the Company.
In the case of liquidation, dissolution or winding-up
of the Company, whether voluntary or involuntary, or in the event of any other distribution of assets of the Company among its shareholders
for the purpose of winding up its affairs, the holders of Equity Shares are entitled, subject to the prior rights of the holders of any
shares of the Company ranking in priority to the Equity Shares (including any liquidation preference on any issued and outstanding Multiple
Voting Shares and/or Preferred Shares), to participate ratably the Company’s remaining property along with all holders of the other
classes of Equity Shares (on a per share basis).
Exchangeable Shares of MPB Acquisition Corp.
Exchangeable Shares are part of the authorized
share capital of MPB Acquisition Corp. (“MPB”), a wholly-owned subsidiary of the Company, which entitle their holders to rights
that are comparable to those rights attached to the Equity Shares. The Exchangeable Shares must not exceed 49.9% of the total voting power
of all classes of shares of MPB. Until a holder exchanges their Exchangeable Shares for Equity Shares, the holder of such Exchangeable
Shares will not have the right to vote at meetings of the shareholders of the Company, though they will have the right to vote at meetings
of the shareholders of MPB, including with respect to altering the rights of holders of any of the Exchangeable Shares, or if MPB decides
to take certain actions without fully protecting the holders of any of the Exchangeable Shares, or as otherwise required by law. The Exchangeable
Shares are exchangeable at any time, on a one-for-one basis, for the Equity Shares at the option of the holder.
The Company treats the Exchangeable Shares as
options, each with a value equal to an Equity Share, which represents the holder’s claim on the equity of the Company. Pursuant
to the terms of the Exchangeable Shares, the Company and MPB are required to maintain the economic equivalency of such Exchangeable Shares
with the publicly traded Equity Shares of the Company. This means the Exchangeable Shares are required to share the same economic benefits
and retain the same proportionate ownership in the assets of the Company as the holders of the Equity Shares. The Company has presented
these Exchangeable Shares as a part of shareholders’ equity within these Consolidated Financial Statements due to (i) the fact
that they are economically equivalent to the Equity Shares, and (ii) the holders of the Exchangeable Shares are subject to restrictions
on transfer under the U.S. securities laws but may dispose of the Exchangeable Shares without such restriction by exchanging them for
the Equity Shares. Changes in these assumptions would affect the presentation of the Exchangeable Shares from shareholders’ equity
to non-controlling interests; however, there would be no impact on earnings per share.
Preferred Shares of GH Group, Inc.
The authorized
total number of preferred shares (the “GH Group Preferred Shares”) of GH Group is 50,000,000 of which 45,000,000 shares are
designated as shares of Series A Preferred Shares (“GH Group Series A Preferred”), 55,000 shares are designated
as shares of Series B Preferred Shares (“GH Group Series B Preferred”), 5,000 shares of Series C Preferred
Shares (“GH Group Series C Preferred”) and 15,000 shares of Series D Preferred Shares (“GH Group Series D
Preferred”). Holders of the GH Group Preferred Shares are entitled to receive notice of and attend any meeting of the shareholders
of GH Group but are not entitled to vote. The GH Group Preferred Shares do not carry any voting rights and are not convertible. In the
event of a liquidation, voluntary or involuntary, dissolution or winding-up of GH Group, the holders of outstanding GH Group Preferred
Shares are entitled to be paid out of the assets of GH Group available for distribution to it stockholders, before any payment shall be
made to the holders of GH Group common stock, of which holders of GH Group Series B Preferred are to receive payment prior to holders
of GH Group Series A Preferred, GH Group Series C Preferred and GH Group Series D Preferred. GH Group has the right to
redeem all or a portion of the GH Group Preferred Shares from a holder for an amount equal to the liquidation value and all unpaid accrued
and accumulated dividends.
The
GH Group Series A Preferred carries a 15% cumulative dividend rate, which increases by 5% in the year following the first
anniversary of the date of issuance. The GH Group Series B Preferred and the GH Group Series C Preferred carry a 20% cumulative
dividend rate, which increases by 2.5% annually after the second anniversary and until the 54-month anniversary of the initial issuance.
The GH Group Series D Preferred carry a 15% cumulative dividend rate, which increases by 5% following the fifth anniversary of the
original issuance. Dividends are payable if and when declared by GH Group’s board of directors.
There were nil shares of the GH Group Series A
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023; there were 49,969 shares of the GH Group Series B
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023; there were 5,000 shares of the GH Group Series C
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023; and there were 15,000 shares of the GH Group Series D
Preferred issued and outstanding as of March 31, 2024 and December 31, 2023.
Shares Outstanding
As of April 29, 2024, the Company had 4,754,979
Multiple Voting Shares and 63,161,904 Equity Shares issued and outstanding. There
are 8,101,086 Exchangeable Shares issued and outstanding in the capital of MPB Acquisition
Corp. In addition, the Company had an aggregate of 47,198,882 warrants, 1,344,373
stock options and 3,648,276 RSUs outstanding as of April 29, 2024.
The following
table summarizes the Equity Shares that were issued and outstanding as of April 29, 2024:
| Equity Shares | |
Issued and Outstanding | |
| Subordinate Voting Shares (SVS) | |
| 9,415,614 | |
| Restricted Voting Shares (RVS) | |
| 4,660,634 | |
| Limited Voting Shares (LVS) | |
| 49,085,656 | |
| | |
| | |
| | |
| 63,161,904 | |
Cautionary Note Regarding Forward-Looking Information
This MD&A contains certain forward-looking
information and forward-looking statements, as defined in applicable securities laws (collectively referred to herein as “forward-looking
statements”). These statements relate to future events or the Company’s future performance. All statements other than statements
of historical fact are forward-looking statements. Often, but not always, forward-looking statements can be identified by the use of words
such as “plans”, “expects”, “is expected”, “budget”, “scheduled”, “estimates”,
“continues”, “forecasts”, “projects”, “predicts”, “intends”, “anticipates”
or “believes”, or variations of, or the negatives of, such words and phrases, or statements that certain actions, events or
results “may”, “could”, “would”, “should”, “might” or “will” be
taken, occur or be achieved. Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause
actual results to differ materially from those anticipated in such forward-looking statements. Forward looking statements include, but
are not limited to: statements concerning the completion of, and matters relating to, the various proposed transactions discussed by the
Company herein and the expected timing related thereto; the expected operations, financial results and condition of the Company; general
economic trends; expectations of market size and growth in the United States and California, the State the Company operates in; cannabis
cultivation, production and extraction capacity estimates and projections; additional funding requirements; the Company’s future
objectives and strategies to achieve those objectives; the Company’s estimated cash flow and capitalization and adequacy thereof;
and other statements with respect to management’s beliefs, plans, estimates and intentions, and similar statements concerning anticipated
future events, results, circumstances, performance or expectations that are not historical facts.
Inherent in forward-looking statements are risks,
uncertainties, and other factors beyond the Company’s ability to predict or control. Factors that could cause such differences include,
but are not limited to: cannabis is a controlled substance under applicable legislation; the enforcement of cannabis laws could change;
differing regulatory requirements across jurisdictions may hinder economies of scale; legal, regulatory or other political change; the
unpredictable nature of the cannabis industry; regulatory scrutiny; the impact of regulatory scrutiny on the ability to raise capital;
anti-money laundering laws and regulations; any reclassification of cannabis or changes in the federal legality and regulation of U.S.
controlled substances; restrictions on the availability of favorable locations; enforceability of contracts; general regulatory and licensing
risks; California regulatory regime and transfer and grant of licenses; limitations on ownership of licenses; regulatory action from the
Food and Drug Administration; competition; ability to attract and retain customers; unfavorable publicity or consumer perception; results
of future clinical research and/or controversy surrounding vaporizers and vaporizer products; limited market data and difficulty to forecast;
constraints on marketing products; execution of the Company’s business strategy; reliance on management; ability to establish and
maintain effective internal control over financial reporting; competition from synthetic production and technological advances; fraudulent
or illegal activity by employees, contractors and consultants; product liability and recalls; risks related to product development and
identifying markets for sale; dependence on suppliers, manufacturers, and contractors; reliance on inputs; reliance on equipment and skilled
labor; service providers; litigation and any unexpected outcomes thereof; intellectual property risks; information technology systems,
cyber-attacks, security, and privacy breaches; bonding and insurance coverage; transportation; energy costs; risks inherent in an agricultural
business; management of growth; risks of leverage; future acquisitions or dispositions; difficulty attracting and retaining personnel;
and past performance not being indicative of future results.
Readers are cautioned that the factors outlined
herein are not an exhaustive list of the factors or assumptions that may affect the forward-looking statements, and that the assumptions
underlying such statements may prove to be incorrect. Actual results and developments are likely to differ, and may differ materially,
from those expressed or implied by the forward-looking statements contained in this MD&A. Forward-looking statements involve known
and unknown risks, uncertainties and other factors that may cause the Company’s actual results, performance, or achievements to
be materially different from any of its future results, performance or achievements expressed or implied by forward-looking statements.
All forward-looking statements herein are qualified by this cautionary statement. The forward-looking statements in this MD&A speak
only as of the date of this MD&A or as of the date specified in such statement. Accordingly, readers should not place undue reliance
on forward-looking statements. The Company undertakes no obligation to update publicly or otherwise revise any forward-looking statements
whether because of new information or future events or otherwise, except as may be required by law. If the Company does update one or
more forward-looking statements, no inference should be drawn that it will make additional updates with respect to those or other forward-looking
statements, unless required by law.
Disclosure Controls and Internal Control over Financial Reporting
In accordance with National Instrument 52-109
– Certification of Disclosure in Issuers’ Annual and Interim Filings (“NI 52-109”), management is responsible
for establishing and maintaining adequate Disclosure Controls and Procedures (“DCP”) and Internal Control Over Financial Reporting
(“ICFR”).
Disclosure Controls and Procedures
In accordance with NI 52-109, management, including
the Chief Executive Officer (“CEO”) and the Chief Financial Officer (“CFO”) of the Company, have evaluated the
effectiveness of the Company’s DCP. Based on the evaluation of the Company’s DCP as of March 31, 2024, the Company’s
CEO and CFO concluded that, as a result of the material weaknesses in our ICFR described below, the Company’s DCP were not effective
as of such date.
Internal Control Over Financial Reporting
Our
management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined
in Rules 13a-15(f) and 15d-15(f) under the Exchange Act in relation to criteria described in Internal Control–Integrated
Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). ICFR
is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with applicable U.S. GAAP. Internal control over financial reporting should include those
policies and procedures that establish the following:
| · | maintenance of records in reasonable detail, that accurately and fairly reflect the transactions and dispositions of our assets; |
| · | reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with
applicable GAAP; |
| · | receipts and expenditures are only being made in accordance with authorizations of management and the
board of directors of the Company; and |
| · | reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition
of our assets that could have a material effect on the financial instruments. |
A material weakness is a deficiency, or combination
of control deficiencies, in ICFR, such that there is a reasonable possibility that a material misstatement of the annual or interim financial
statements will not be prevented or detected on a timely basis.
Management has
concluded that as of March 31, 2024, our DCP were not effective to ensure that information required to be disclosed in reports we
file or submit under the Exchange Act or under applicable Canadian securities laws is recorded, processed, summarized and reported within
the time periods specified therein, and accumulated and reported to management to allow timely discussions regarding required disclosure.
As a result, management noted the following material weaknesses:
As of December 31,
2023 we have material weaknesses in our ICFR relating to use of estimates and assumptions that affect the reported amounts of certain
assets and liabilities at the dates of the Financial Statements and the reported amount of total expenses during the reporting period.
The Company did not appropriately review the accounting treatment relating to the accounting for complex financing transactions and for
business combinations. The Company did not appropriately assess its distributor agreements for appropriate accounting treatments. The
Company is not regularly performing an analysis and review of the costs and valuation of its CPG raw materials and CPG and retail finished
goods. The Company did not appropriately account for impairments for its long-lived assets and goodwill resulting in changes in the impairment
of goodwill. The Company did not appropriately identify all acquired intangible assets, resulting in changes to the purchase price allocation.
The Company did not appropriately assess the terms and conditions related to the GH Group Preferred Shares issued during the year, did
not properly value the Equity Shares issued in one of the business combinations that closed during the year and did not identify and account
for certain deferred Equity Share issuances that are a apart of the consideration of the acquisitions that closed during the year. As
a result the Company corrected the classification and the recorded amounts related to the GH Group Series B Preferred Shares and
the treatment and valuation of the acquisition transactions. No other material errors were identified in the Financial Statements as a
result of the material weaknesses. These material weaknesses create a reasonable possibility that material misstatements in interim or
annual financial statements would not be prevented or detected on a timely basis.
Remediation
of Material Weakness in ICFR
Management, with
oversight from the audit committee, will implement remediation measures related to the material weaknesses identified. The Company will
implement a plan which includes providing more comprehensive and timely training to control owners related to non-routine transactions.
The Company will proactively hire additional personnel with requisite skills to review complex non-routine transactions including, but
not limited to asset acquisition and credit worthiness of the holders of our financial instruments and accounting for distribution agreements.
Additionally, management will incorporate additional and timely reviews of updated costing and valuations of inventory by experienced
employees. Management believes these measures, and others that may be implemented, will remediate the material weaknesses in ICFR described
above. We will continue to monitor and evaluate the effectiveness of our ICFR over financial reporting on an ongoing basis and are committed
to taking further action and implementing additional improvements as necessary and as funds allow.
No assurance can be provided at this time that
the actions and remediation efforts will effectively remediate the material weakness described above or prevent the incidence of other
material weaknesses in the Company’s ICFR in the future. Management, including the CEO and CFO, does not expect that disclosure
controls and procedures or ICFR will prevent all errors, even as the remediation measures are implemented and further improved to address
the material weakness. A control system is subject to inherent limitations and even those systems determined to be effective can provide
only reasonable, but not absolute, assurance that control objectives will be met with respect to financial statement preparation and presentation.
Limitations of Controls and Procedures
Our management, including the CEO and CFO of the
Company, believes that any DCP or ICFR, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance
that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control
systems, they cannot provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been prevented
or detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can
occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion
of two or more people, or by unauthorized override of the control. The design of any control system also is based in part upon certain
assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated
goals under all potential future conditions. Accordingly, because of the inherent limitations in a cost-effective control system, misstatements
due to error or fraud may occur and not be detected.
Additional Information
Additional
information relating to the Company, including the Company’s Annual Information Form for the year ended December 31,
2023, is available on SEDAR+ at www.sedarplus.ca.
Glass House Brands (QX) (USOTC:GLASF)
Historical Stock Chart
From Oct 2024 to Nov 2024
Glass House Brands (QX) (USOTC:GLASF)
Historical Stock Chart
From Nov 2023 to Nov 2024
