Hello and welcome to GrowGeneration's Third Quarter 2023 Earnings Conference Call. My name is Teri, and I will be coordinating your call today. Following prepared remarks, we will open the call to questions from analysts with instructions to be given at that time. I will now hand the call over to Clay Crumbliss with ICR.

Good afternoon, and welcome to the GrowGeneration third quarter 2023 earnings results conference call. Today's call is being recorded. With us are Mr. Darren Lampert, Co-Founder and Chief Executive Officer; and Greg Sanders, Chief Financial Officer of GrowGeneration Corp. You should have access to the company's third quarter earnings press release issued after the market closed today. This information is available on the investor relations section of the GrowGeneration website at ir.growgeneration.com. Certain comments made on this call include forward-looking statements which are subject to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on management's current expectations and beliefs concerning future events and are subjected to several risks and uncertainties that could cause actual results to differ materially from those described in these forward-looking statements. Please refer to today's press release and other filings with the SEC for a detailed discussion of the risks that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today. During the call, we'll use some non-GAAP financial measures as we describe business performance. The SEC filing as well as the earnings press release which provide reconciliations of the non-GAAP financial measures to the most directly comparable GAAP measures are all available on our website. Following our prepared remarks, we will take questions from research analysts. We ask that you please limit yourself to one question and one follow-up. If you have additional questions, please reenter the queue and we will take them as time allows. Now I will turn the call over to our Co-founder and CEO, Darren Lampert. Darren?

Thanks, Clay. Good afternoon, everyone. Thank you for joining us today to discuss our third quarter 2023 financial results and our full year 2023 guidance. As always, I want to thank each one of our employees, of course, our company for their continued support of GrowGen. I'm grateful to our entire team for their continued hard work, dedication, and for being steadfast in executing our company's strategy. I'm pleased with GrowGen's third quarter results. And I'm happy to discuss the progress we've made to drive future growth and profitability, including the launch of our new ERP system and East region Distribution Center on July 1 and the success of our proprietary brands. Despite the ongoing challenges in our industry, which we have discussed extensively in the past, GrowGen remains in a strong financial position with sufficient liquidity to continue investing for growth, while putting profitability at the forefront of all we do. In the third quarter of 2023, we generated net revenue of 55.7 million, which represents a 13% decline over the second quarter of 2023, consistent with the expectations we communicated on our second quarter call. Gross margins improved 320 basis points to 29.1% versus the prior year's comparable quarter of 25.9% and improved 230 basis points from second quarter gross margins of 26.8%. We ended the third quarter with 66.6 million of cash, cash equivalents and marketable securities, no debt and 76 million of inventory on our balance sheet. Year-to-date, we've generated approximately 2.8 million of operating cash flow. While the federal legislative agenda has not moved definitively in our favor, it does seem to be getting more favorable. There's renewed optimism for federal reform with SAFE Act passing the Senate Committee on Banking and potentially heading to the Senate floor for a full vote. And if approved…

Thank you, Darren, and good afternoon, everyone. First, I will address our third quarter 2023 financial results. And then I will discuss our updated full year 2023 guidance. For the third quarter, GrowGeneration generated revenue of 55.7 million versus 70.9 million in the third quarter of 2022 representing a decline of approximately 21.4% Our same-store sales for the third quarter 2023 were 40.7 million compared to prior year sales of 47.5 million representing a 14.4% decline against the comparable year ago quarter. Comparable same-store sales in the third quarter represent a modest sequential improvement over the prior quarter on a percentage basis. Our ecommerce division generated $2.7 million of revenue versus 3.1 million in the year-ago period, representing a decline of 10.2% year-over-year. Our distribution and other revenue was 11.5 million for the quarter compared to 19.8 million in the year-ago period, representing a decline of 42%, largely due to a few large one-time transactions in the year ago period. Gross profit margin was 29.1% for the third quarter of 2023, which is an improvement of 320 basis points to the year-ago period. The increase in gross margin in the third quarter of 2023 was largely attributed to the improvement of proprietary brands sales as a percent of revenue, which increased to 16.6% of sales in the third quarter versus 13% of sales in the year ago period. Additionally, the company is executing on more bulk buys with the development of our distribution network that has led to favorable gross margin performance in the quarter. Store operating costs and other operational expenses declined from 13.6 million in the third quarter of 2022 to 11.9 million in the third quarter of 2023 representing a 12.2% reduction. The savings year-over-year were primarily attributed to rationalization efforts of our store comp and personnel…

Thank you, Greg. Before we open the line for your questions, I want to reiterate that GrowGen is on solid financial footing with a strong balance sheet, healthy liquidity and a solid cash position. We continue to manage our business prudently through the current industry landscape with an emphasis on sustainable growth, margin expansion and profitability. We were encouraged by our continued progress and remain laser-focused on continuing what we can control to continue to build a stronger, nimbler and more profitable company. Thank you for your time today. And thank you for your interest in GrowGeneration. We will now take your questions. Operator?

Thank you. [Operator Instructions] Your first question comes from Aaron Grey from Alliance Global Partners. Please go ahead.

Hi, good evening. And thank you for the questions. So first question for me. I just want to talk about some of the reform. Most notably the potential rescheduling of Schedule 3. For you guys, maybe more of an indirect impacts and obviously not being impacted by the 280E tax right now, but a lot of your clients are so. How do you think about potential indirect impacts a schedule and Schedule 3 could have removal of 280E, potentially with some of your players where you're pulling back on CapEx initiatives and how that could change in the indirect benefits you guys could have come back. Thank you.

Aaron, I find it quite exciting. And I think the industry needs it. Currently, there's hundreds of millions of dollars right now being spent on 280E tax penalties as you probably know. I mean, we're talking hundreds of millions of dollars. And with this money coming back into the industry, if rescheduled the money will go to the MSOs and the large single state operators back onto their balance sheets to strengthen balance sheets. And with that we do believe, we will start coming into expansion of facilities and also more importantly into refreshing facilities. We've seen so many build outs from 2019 to 2021 and with the life expectancy of LED lighting and D use and a lot of the durable products that they use, that will be becoming a tremendous upfront cycle coming and there's going to be a lot of durable products going out in the next couple of years to refresh a lot of the facilities out there right now. So we are quite excited as you know, GrowGen's bread and butter is the large commercial operators out there. So we believe that we will get a majority -- a lot of the business coming out of 280E, if it goes away with the rescheduling. So we're excited about it. And we got our fingers crossed. And like we all know, the next couple months, we should be hearing something.

Okay, great. Thanks for that color. And then second one for me. Just kind of bring down, the store fleet, 50 now sounds like it'd be at about 44, another six in the upcoming quarter. Number one, how do you feel what the store fleet at that level, like, kind of hold their, maybe some smaller growth opportunities, open up some new stores. And then, number two, on the 40%, same-store sales decline, could you maybe provide what that might be on a pro forma basis on what the new 44 would be, including the six plan to consolidate in 4Q. Thank you.

Yes. I'll start and then send it over to Greg. With the six stores there and that brings us down to 50. So you're double counting the six. So we weren't at 56. With the six stores, we're talking about closing this month, that would bring us down to 50. We've already shut those stores in the midst of consolidating them. So that brings us down to 50. We still do have a small amount of work to do on the portfolio. And the way we're looking at it right now, with the build out of our distribution center in Ohio, the success of our private label brands, and the launch of our ERP system, POS and also warehouse, we're becoming much more efficient. And we're starting to see right now, the stores don't need as much product in it, our customers are much more reliable, they're planning much better. And with that, we just don't need redundancies within the footprint. And when you take a look, what we've closed in the last four months, it was 12 stores. I think 15 during the last seven or eight months, but most of them are within 30 miles of another store. They were smaller stores that were majority were bought through acquisitions. And those weren't the main stores within the acquisitions. So we feel pretty comfortable right now. We believe that, there'll be tremendous savings, not only through the store closures, but also through consolidation of back office staff and accounting. So it's two-fold opposed to one. And when you look at the stores that we've closed, the 12 stores that we closed accounted for about $22 million of business in 2022. Greg, you have anything to add to that?

Yes. No, I think that's spot-on Darren. And I think, for the comp question in isolation, what we'll see on a quarterly basis is a reduction of approximately 3 million to 4 million, depending on the quarter at this point. We did see some down performances in some of those locations that we've consolidated throughout the course of the year, and into the fourth quarter as well. And the number around 50, Aaron, just to mention is inclusive of the Q4 activity, where we've ceased operations within November and expect to conclude the operational procedures are on closing by the end of the month. So that's an all-in number for us at this point.

Aaron just a little more color, with seven stores in California, three stores in Colorado, one store in Michigan, and the one store in Washington.

Thank you. Your next question comes from Andrew Carter from Stifel. Please go ahead.

Hey, thanks. Just wanted to build on that just a little bit with the same stores. Obviously, you're closing the more redundant locations and therefore there should be some kind of lift within the cannibalization. So I think looking back in it seems like the absolute decline is moderating quite a bit in 4Q, given the absence of stores. But when do you think cannibalization category, you could see actually a return to same-store sales growth of the current base.

I believe that we see it next year. We've been bouncing along the bottom this year, our same-store sales for the last six months had been in that 14% down range. We are seeing a lot more commercial bidding coming into GrowGen right now. And with the uptake of our private label products, and distribution and being able to get products to our customers quicker than any other store in the country. We do believe that business is going to -- it's going to restart and GrowGen will be a better company for it. Can I tell you it's going to happen, in the first quarter, fourth quarter of this year? I can't tell you that. But with what's going on in legislation right now, I think its 280E. I think if we reschedule, you'll see money coming back into this industry. So we're very optimistic, where we brought the cost levels of this company. We've brought cost down almost $25 million over the last couple of years. We bought inventory down over 30 million over the last couple of years. So we're working hard to getting this company back profitable and getting same-store sales the other way. We've closed a lot of them. a lot of the stores that we closed were redundant, but a portion of them are also non-performing, too. And with our private label penetration up about 17% right now, and we believe that goes into the 20s next year, we think that will feel same-store sales growth at our stores.

Second question I want to ask and just kind of stepping back like, you're closing the stores, I guess, during the super cycle, it could have kind of given you some false read in the category of kind of the necessity of that last mile. Do you believe like this step back in the footprint, you'll be just as well positioned with the category accelerates? Or is this or are there some trade-offs? Or is this a category where last mile is necessary? What I mean is that grower doesn't have to have it in 24 hours, they can live with 48. Therefore, ship from Ohio, just kind of those puts and takes as you're thinking about being prepared for the eventual return to growth in this category.

Yes. When I look at GrowGen, right now in our store accounts, where we are. And with boots on the ground with our commercial team, I think we're better positioned than we've ever been, with the launch of our new ERP system distribution and private label. And the one thing that we're starting to see is forecasting coming from our customers. And like we've always said, we don't represent that much of the illegal markets. So our bread and butter is the legal markets. So with more money going back onto the balance sheets, if you see a reschedule, we do believe that business is going to come to GrowGen, and will make us a better company for it. So it's what keeps us optimistic. And, again, we will continue to cut where needed and continue to get this company, Andrew, where it needs to be. And then, you've seen it through the year. You've seen it through our numbers right now. But the most exciting part of GrowGen right now, is the uptake of our private label products and the brands that we're bringing to market. We're launching Drip powders this quarter. To follow up on our Drip nutrient lines that's had a tremendous first year for us. We're adding products onto our Char Coir brands, we are launching a benching from our MMI company, single tier benching. So there's a lot of excitement in our company right now. But getting costs in line with really, it's the new norm in the business, if you ask me, there are people waking up in the morning and deciding to go out and start growing. That's kind of -- that's run its course. So you're seeing, many more legal growers out there. And also single license in states that are allowing, [indiscernible], Ohio yesterday, they have very favorable home grow rules in Ohio. You probably will see a store from GrowGen in Ohio this year. It's not going to probably first quarter next year, and we will still be expanding. But you're probably talking one or two stores in states not what we used to have. The industry right now is more predictable and forecasting is better. So less is more right now for us.

And your next question is from Eric Des Lauriers from Craig-Hallum Capital Group. Please go ahead.

I guess first one, just kind of following up on the store outlook here. It sounds like you're mostly consolidating stores in these more legacy on limited license markets here. You mentioned Ohio is a place that you might look to add a store within the next couple of months here. Beyond this newly legalized Ohio State here, are there other states that you are looking to sort of continue expanding in? I guess, just how should we think of the overall expansion plans kind of going forward here? Is it kind of following states as they legalized or do you have sort of a more extensive roadmap for call it the next the next year or so?

States that are legalizing depending upon rules, and again, in the Ohio rules were favorable. We have a 100,000 square foot warehouse in Ohio. So we'll probably only need to store in Ohio and ship out of our warehouses within 24 hours. We're still looking at New York. We're looking at Pennsylvania, Maryland, and a couple of other states. We've looked at another store in Missouri in New Jersey. But right now, we're taking a wait and see attitude, the states that we're already in, we're relieved that we're pretty well served in those states and aren't looking to add to footprints. But if something comes up that's beneficial to our shareholders, we will do it. What we're really looking for right now is, stores that are closing, we're bringing them into the GrowGen umbrella, buying some inventory from them, and taking customer lists, and sometimes some employees. We did that in St. Louis this year and it worked out tremendously for us. So it's just that wait and see and see where the market goes. But the one thing that we will continue to do is keep our balance sheet extremely strong, until we see a real turn in the industry.

It's helpful. I appreciate that color. Next one for me. I think I caught in some of the Q&A here that. You think private label as a percentage of overall sales? Or maybe as a percent of retail sales, I'm not sure. But that could go up into the 20s next year, that I think that's an increase from sort of previous commentary. Could you just kind of expand on that a bit of, do you need to get additional new products in line here. I know you have a handful that you've just recently introduced here, is this sort of portfolio of proprietary brands now sufficient to get you to that 20% plus level and if you could kind of -- if you're willing to share any kind of longer term goals of where you think private label could be as a percentage of sales, that'd be helpful. Thanks.

I believe that what we have in-house right now with the launch of Drip Hydro powders, will bring us into that 20%-mark next year. We're also doing a lot of work to the harvest company. And we will be launching products into IGC next year, pruners and garden in a box that we've just started to roll out, certain mushroom kits that we're rolling out. Char Coir has had a wonderful 2023. And we continue to launch new Char Coir products from Char Coir. We just entered the propagation space with coco coins. So there's a lot going on right now in our private label division. And it's really what's fueling GrowGen right now starting to feel new customers coming to our stores, and also on the distribution side of it. So we're excited. And we do believe you will see that number in the 20s next year. Further out into 2025, we do believe it will continue to grow. We believe there's a lot of wonderful products from other [indiscernible] vendors out there right now. So we believe somewhere between that 30% to 35% number when we fully grow up, and that'll probably be 2026-27. We do believe, we'd reach that number.

Your next question comes from Brian Nagel from Oppenheimer. Please go ahead.

So I apologize. This is repetitive. So I do unfortunate, jump in the call late, but just with regard to the store closings? Are you are -- is this repositioning within markets? Are you with these closings exiting some markets? And then a second question, and I apologize if you may have already laid this out? How should we think about kind of the near-term financial implications of closing the stores, from a sales loss perspective, as well as an expense reduction perspective.

The 12 stores that we've closed, Brian in the last four months, we weren't losing markets. They were redundancies. I think probably 10 or 11 of the stores within 30 miles of another stores that we had. They were smaller stores within regions and not performing as well as we would have liked. And we've done a decent job getting out of most of the leases right now and cutting the costs. When you look from a financial side of it, those 12 stores accounted for about $22 million of business in 2022 and that was tailing off into 2023. From a revenue standpoint, what we believe we're going to keep somewhere in that 50% mark. We usually, we'll keep a majority of the commercial customers and depending upon which store it is, and how close there's another store to it. That's where the homegrown markets will fall. Now we believe that again GrowGen still is the best on -- we have best stock in our stores. We have the best solutions, and again, people still want to shop with us. So we are incentivizing our staff to keep these customers, to go getting the customers. We are doing work before closing stores with contacting customers and giving them benefits to come to the next nearest store of GrowGen. Also, we'll have a little more color for that, probably in six months when we really get an understanding of what percentage we kept, but we do track it. Right now for guidance, we aren't changing guidance for 2023. So with that, probably dropped 3 million or 4 million off the fourth quarter, but we still look very comfortable with guidance right now for the year.

That's very helpful, Darren. And then, there is a follow-up question, if I could. Sorry, same caveat, if you've addressed that, I apologize. But gross margin looks a bit better here. No, I guess when you confirm that, but then also, how should we think about the drivers here better gross margins in Q3.

Greg, you can take that.

Yes. So I think when you look at the third quarter gross margin, the primary driver within the period itself was private label more than any other independent factor. On a quarter-over-quarter basis, we drove in a private label from 15 to 17 year-over-year was 13% to 17%, 75% of our Q3 sales were from the retail business, which in itself improved a point and a half on margin. Primarily from some of the private label benefits, also some improvements and mix as well as price increases within some of our products, as we're focused on profitability of the business. Separate from that, I think you're starting to see early signs of some of the margin improvements from the distribution development and investments that we've made, as we're going out and negotiating larger bulk buys, negotiating points off those SKUs that we're bringing into our portfolio. And then, recognizing a slightly larger margin on the sale itself. So there's a lot of factors that go into it. But we were very, very pleased with how the quarter reported. And we're optimistic that we'll continue to build on this into future periods.

Your next question comes from Scott Fortune from ROTH MKM. Please go ahead.

Yes. Good afternoon, and thanks for the questions. Just kind of follow up on that, can you break down a little bit, and provide a little more color on the sustainable kind of modeling, looking to deal with the consumables, what percent came from consumables versus equipment mix. I know, we see rescheduling, which we think is likely that could increase the equipment side of it. But just kind of gives us a sense of how that makes and how you see it kind of going forward in '24 moving forward with the margin improvement there.

Greg, do you have any specifics with that, or do you want me to take it?

Maybe I'll just start down and pass it over to you. I mean what we've seen on a consumables versus durables basis, over the last several quarters is certainly more stabilization in the consumables end of our business primarily, and the Char Coir and Drip lines, which are our private label brands. I think Char Coir at this point in time is, maybe our best-selling brand in our entire portfolio. So you're seeing about a 75%, 25% mix, which has been generally consistent over the last three or four quarters, as we've looked at the business, and certainly down from some of the higher end years or quarters in 2020 and 2021, and we're seeing a lot of build activity. So we do have a fair amount of comfort at this point with -- we're consumables are and how they're supporting kind of the baseline of the business. And Darren, I'll pass it over to you.

Hey, Scott. On the other side of that, with rescheduling, rescheduling does come, there is no question that build outs will, presume money will come into the industry. And we still believe that there's a tremendous refresh cycle coming. So with that, consumables will stay the same, if not started ticking up a notch as people hopefully, start opening up certain rooms that they've closed. But we do believe you'll see a tremendous lift on the durable side of it and on the lighting side of it, on the DU side of it. And we are seeing much more bidding, and we're seeing a tremendous amount of bidding right now on commercial products around the country, in anticipation of rescheduling. So I think our commercial team has been extremely busy, the busiest that they've been in the last couple of years, albeit it takes time to get these projects done. But the amount of quoting we're doing right now is certainly much different than we've seen and it's much better than we've seen in the last couple years.

Great. I appreciate that color. And then, just one other, where are you with the inventory levels? Kind of, obviously, with the discounting of inventory from competitors, that kind of playing out here? Are we still seeing some pressures there? And then, was consolidating your store base, what's kind of the normalized inventory level that you're looking at it? I know, you have, like 76 million or something like that this quarter? And where are the turns that are kind of viewed focused on targeting towards getting on inventory level side of things?

Greg, I think that one question is over to you.

Yes. So inventory, we're highly focused on this quarter. As we moved into our new European warehouse management systems, we loaded on inventory a little bit heading into that, kind of massive change management piece in our business, which we think went pretty well. So now we're looking at, eliminating redundancies in our inventory and driving progress in the fourth quarter. We think there is opportunity to improve upon our turns. Where we're adding inventory more than anywhere else right now is on our private label side of things as there's longer lead times and demand is increasing. We still have a lot of very, very good vendors domestically that -- we have great partnerships with as well, that will continue to carry their products and sell through. But we think there's opportunity to reduce inventory, 5 or so million in the fourth quarter, and then, we'll probably have more color on the next call in terms of what that might look like for '24.

[Operator Instructions] Your next question comes from Mark Smith from Lake Street Capital Markets. Please go ahead.

Hi, guys. Just a follow-up from that last one. Darren within your private label, what is your mix look like, they are kind of consumables versus durables?

I would say consumables, probably is about 80% of it right now, on the 17%. And we have a lighting brand, ion lights that have been quite successful. It is our leading lighting brand right now at GrowGen. But, the leading part of our portfolio right now on our private label side is certainly Char Coir and Drip has had a tremendous launch this year and is growing very quickly. So, we believe that will stay somewhere like that 80:20, maybe 90:10, but much more on the consumable side and the durable side. The only thing on the durable side, you'll see from GrowGen is a lighting brand ion. And, again, some people include fans in durables, or consumables, we do have a decent light --we have decent fan business, the DuraBreeze brand has been selling for many years. And that's really the nine yards of what you're seeing. The only difference next year, we are bringing the market to single tier bench from MMI that we believe will make some inroads into the industry.

Okay. And then, as we look at, potential growth down the road. What are you seeing in kind of M&A market for stores? You said you're looking at some that are kind of closures right now. And what's kind of your strategy, as far as mix that you see is -- in buying versus building?

Right now, we haven't been 100% concentrating on it, Mark. We've been getting our own house in order, especially with the launch of our ERP system. So we've had a quiet six months on the M&A side. What we do believe next year, you will see us back, certainly nothing like you've seen in the past. We will do it slowly and deliberately. And depends what markets we're going into and what is there. We still do believe with our distribution centers working. And our commercial team out there, there's a lot of large commercial growers that don't come to the stores anymore, we can ship out of our warehouses to them. So we're just balancing it right now. If you ask me, we'll probably add five stores to the portfolio next year, but you will see some kind of consolidations from GrowGen next year, depending upon leases, but certainly nowhere in the realm of what you've seen this year.

And there are no further questions at this time. Ladies and gentlemen, this concludes your conference call for today. We thank you for joining and you may now disconnect your lines. Thank you.