STEM HOLDINGS, INC. Forward Looking Statements
This Interim Report on Form 10-Q contains, in addition to historical
information, certain forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 ("PLSRA"), Section 27A of the
Securities Act of 1933, as amended (the "Securities Act"), and section 21E of
the Securities Exchange Act of 1934, as amended (the "Exchange Act") regarding
Stem Holdings, Inc. (the "Company" or "Stem", also referred to as "us", "we" or
"our"). Forward-looking statements give our current expectations or forecasts of
future events. You can identify these statements by the fact that they do not
relate strictly to historical or current facts. Forward-looking statements
involve risks and uncertainties. Forward-looking statements include statements
regarding, among other things, (a) our projected sales, profitability, and cash
flows, (b) our growth strategies, (c) anticipated trends in our industries, (d)
our future financing plans and (e) our anticipated needs for working capital.
They are generally identifiable by use of the words "may," "will," "should,"
"anticipate," "estimate," "plans," "potential," "projects," "continuing,"
"ongoing," "expects," "management believes," "we believe," "we intend" or the
negative of these words or other variations on these words or comparable
terminology. These statements may be found under "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and "Description of
Business," as well as in this Form 10-Q generally. In particular, these include
statements relating to future actions, prospective products or product
approvals, future performance or results of current and anticipated products,
sales efforts, expenses, the outcome of contingencies such as legal proceedings,
and financial results.
Any or all of our forward-looking statements in this report may turn out to be inaccurate. They can be affected by inaccurate assumptions we might make or by known or unknown risks or uncertainties. Consequently, no forward-looking statement can be guaranteed. Actual future results may vary materially as a result of various factors, including, without limitation, the risks outlined under "Risk Factors" detailed in the Company's Form 10 and S-1 registration statements and matters described in this Form 10-Q generally. In light of these risks and uncertainties, there can be no assurance that the forward-looking statements contained in this filing will in fact occur. You should not place undue reliance on these forward-looking statements. The forward-looking statements speak only as of the date on which they are made, and, except to the extent required by federal securities laws, we undertake no obligation to publicly update any forward-looking statements, whether as the result of new information, future events, or otherwise. We intend that all forward-looking statements be subject to the safe harbor provisions of the PSLRA. For the three and nine months endedJune 30, 2022 , the financial statements have been prepared by management in accordance with the standards of thePublic Company Accounting Oversight Board (United States ). For the three and nine months endedJune 30, 2022 , the unaudited interim financial statements have been prepared by management in accordance with the condensing rules of theUnited States Securities and Exchange Commission . Results of Operations For the Three Months Ended June 30, Change ($ in thousands) 2022 2021 $ % Gross Revenue $ 4,823 $ 6,362 (1,539 ) (24 )% Discounts and returns (652 ) (934 ) 282 (30 )% Cost of goods sold 3,500 3,948 (448 ) (11 )% Consulting fees 104 614 (510 ) (83 )% Professional fees 551 849 (298 ) (35 )% General and administration 2,555 3,489 (934 ) (27 )% Other income, net 3,011 7,143 (4,132 ) 58 % Loss from discontinued operations - (1,082 ) 1,082 (100 )% Net income (loss) $ 471 $ 2,589
Comparison of the results of operations for the three months ended
The Company had net revenues during the three months endedJune 30, 2022 , of$4,171 compared with$5,428 for the comparable period of 2021, the decrease in revenue was primarily related to a decrease in flower sales related to general market conditions.
Cost of goods for the three months endedJune 30, 2022 , amounted to$3,500 compared to$3,948 in the comparable period of the prior year. These costs include both the cost of finished product purchased for retail and the cost of cultivation and processing for the grow facilities and sold at the wholesale level. In the three months endedJune 30, 2022 , we incurred consulting costs of$104 compared to$614 in the comparable period of the prior year. The decrease in consulting fees was attributed to a decrease in stock-based consulting expenses. In the three months endedJune 30, 2022 , we incurred professional fees of$551 compared to$849 in the comparable period of the prior year. Those fees are primarily for legal, accounting, and related services that pertains to our being a public company in boththe United States andCanada . In the three months endedJune 30, 2022 , we incurred general and administrative costs of$2,555 compared to$3,489 . This decrease relates primarily to a decrease in costs related to advertising and promotion, office expenses, and salaries. 40 For the Nine Months Ended June 30, Change ($ in thousands) 2022 2021 $ % Gross Revenue $ 14,578 $ 18,883 (4,305 ) (23 )% Discounts and returns (2,061 ) (2,697 ) (635 ) (24 )% Cost of goods sold 10,691 10,969 (278 ) (3 )% Consulting fees 633 2,676 (2,043 ) (76 )% Professional fees 2,543 2,635 (92 ) (3 )% General and administration 8,744 8,385 359 4 % Impairment of intangibles 795 - 795 100 % Other income (expenses), net 5,458 1,109 4,349 (392 )% Loss from discontinued operations (1,745 ) (1,946 ) 201 10 % Net loss $ (7,177 ) $ (9,316 )
Comparison of the results of operations for the nine months ended
The Company had net revenues during the nine months endedJune 30, 2022 , of$12,517 compared with$16,186 for the comparable period of 2021, the decrease in revenue was primarily related to a decrease in flower sales related to general market conditions.
Cost of goods for the nine months endedJune 30, 2022 , amounted to$10,691 compared to$10,969 in the comparable period of the prior year. These costs include both the cost of finished product purchased for retail and the cost of cultivation and processing for the grow facilities and sold at the wholesale level. In the nine months endedJune 30, 2022 , we incurred consulting costs of$663 compared to$2,676 in the comparable period of the prior year. We mitigated our consulting expenses which were stock based in the prior year. In the nine months endedJune 30, 2022 , we incurred professional fees of$2,543 compared to$2,635 in the comparable period of the prior year. Those fees are primarily for legal, accounting and related services relating to our being a public company in boththe United States andCanada . In nine months endedJune 30, 2022 , we incurred general and administrative costs of$8,744 compared to$8,385 , these costs include payroll, depreciation and amortization, insurance, rent expense and other general costs. We expect that these costs will increase as we increase our operations.
LIQUIDITY AND FINANCIAL CONDITION
Liquidity and Capital Resources
The Company had cash of
Cash Flow
For the nine months ended
Net cash flows used in continuing operating activities was$5,764 for the nine months endedJune 30, 2022 , as compared net cash flow used in continuing operating activities to$6,653 for the nine months endedJune 30, 2021 , a change of$889 .
? Net cash flow used in operating activities for the nine months endedJune 30, 2022 primarily reflected a net loss of$7,177 adjusted for the add-back of non-cash items consisting of loss from discontinued operations of$1,745 , depreciation and amortization of approximately$1,247 , stock-based compensation and consulting expense of approximately$880 , amortization of debt discount of$13 , amortization of intangible assets of$655 , impairment of investments of$288 , issuance of common stock in connection with consulting agreements and interest payments of$189 , recognition of derivative liability of$340 , offset by a decrease in warrant liability of$2,183 , gain on extinguishment of debt of$803 , foreign currency translation adjustment of$62 , a gain from disposal of a subsidiary of$831 , gain on sale of property of$1,155 , change operating assets and liabilities consisting of a decrease in inventory of$21 , a decrease in accounts payable and accrued expenses of$124 , a decrease in prepaids of$217 , an increase in other of$103 , and a decrease in other assets of$1,402 . Net cash flow used in operating activities for the nine months endedJune 30, 2021 primarily reflected a net loss of$9,316 adjusted for the add-back of non-cash items consisting of loss from discontinued operations of$1,946 , depreciation and amortization of$3,745 , stock-based compensation expense of$4,284 , non-cash rent and interest$331 , amortization of debt discount of$606 , and other adjustments of$209 offset by the change in foreign currency translation of$29 , a gain in sale of equity method investments of$200 , and a gain on the sale of a property of$766 , a change in the fair value of derivative and warrant liabilities of$675 , a change in operating assets and liabilities consisting of an decrease in accounts payable and accrued expenses of$3,248 , an increase in prepaid expenses and other operating assets of$3,540 . 41
? Net cash flow provided by investing activities for the nine months endedJune 30, 2022 , amounted to$3,329 and consisted of$206 used in the purchase of property and equipment,$1,651 provided from the sale of an equity method investment, and$2,173 provided from the sale of a property. Additionally, a net of$288 was provided by investments, and$1 related to repayment of a related party. Net cash flow provided by investing activities for the nine months endedJune 30, 2021 , amounted to$591 and consisted of$425 used in the purchase of property and equipment,$179 for project costs and an additional$560 was used in investments, offset by cash received related to the sale of a property of$1,505 and a net of$250 related to investment in equity method investees. ? Net cash provided by financing activities was$31 for the nine months endedJune 30, 2022 , as compared to$14,985 for the nine months endedJune 30, 2021 . During the nine months endedJune 30, 2022 , we received proceeds of$285 for the issuance of common shares,$625 related to note payables offset by repayments of$879 of notes payable. During the nine months endedJune 30, 2021 , we received proceeds from the issuance of common shares of$17,713 offset by$1,697 of repayment on notes payable was incurred and$1,031 for the forgiveness of debt. CRITICAL ACCOUNTING POLICIES Principles of Consolidation The Company's policy is to consolidate all entities that it controls by ownership of a majority of the outstanding voting stock. In addition, the Company consolidates entities that meet the definition of a variable interest entity ("VIE") for which it is the primary beneficiary. The primary beneficiary is the party who has the power to direct the activities of a VIE that most significantly impact the entity's economic performance and who has an obligation to absorb losses of the entity or a right to receive benefits from the entity that could potentially be significant to the entity. For consolidated entities that are less than wholly owned, the third party's holding of equity interest is presented as noncontrolling interests in the Company's Consolidated Balance Sheets and Consolidated Statements of Changes in Stockholders' Equity. The portion of net loss attributable to the noncontrolling interests is presented as net loss attributable to noncontrolling interests in the Company's Consolidated Statements of Operations. Use of Estimates The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the application of accounting policies and the reported amounts of assets, liabilities, income, and expenses. The most significant estimates included in these consolidated financial statements are those associated with the assumptions used to value equity instruments, valuation of its long live assets for impairment testing, valuation of intangible assets, and the valuation of inventory. These estimates and assumptions are based on current facts, historical experience and various other factors believed to be reasonable given the circumstances that exist at the time the financial statements are prepared. Actual results 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.
Impairment of Long-Lived Assets
The Company reviews the carrying value of its long-lived assets, which include property and equipment, for indicators of impairment whenever events or changes in circumstances indicate that the carrying value of an asset or asset group may not be recoverable. The Company considers the following to be some examples of important indicators that may trigger an impairment review: (i) significant under-performance or losses of assets relative to expected historical or projected future operating results; (ii) significant changes in the manner or use of assets or in the Company's overall strategy with respect to the manner or use of the acquired assets or changes in the Company's overall business strategy; (iii) significant negative industry or economic trends; (iv) increased competitive pressures; (v) a significant decline in the Company's stock price for a sustained period of time; and (vi) regulatory changes. The Company evaluates assets for potential impairment indicators at least annually and more frequently upon the occurrence of such events. The Company does not test for impairment in the year of acquisition of properties, as long as those properties are acquired from unrelated third parties. The Company assesses the recoverability of its long-lived assets by comparing the projected undiscounted net cash flows associated with the related long-lived asset or group of long-lived assets over their remaining estimated useful lives against their respective carrying amounts. In cases where estimated future net undiscounted cash flows are less than the carrying value, an impairment loss is recognized equal to an amount by which the carrying value exceeds the fair value of the asset or asset group. Fair value is generally determined using the assets expected future discounted cash flows or market value, if readily determinable. If long-lived assets are determined to be recoverable, but the newly determined remaining estimated useful lives are shorter than originally estimated, the net book values of the long-lived assets are depreciated and amortized prospectively over the newly determined remaining estimated useful lives. 42 An impairment expense of approximately$795,000 was recorded for the nine months endedJune 30, 2022 . During the nine months endedJune 30, 2021 , the Company determined that no impairment was required.
Goodwill .Goodwill represents the excess acquisition cost over the fair value of net tangible and intangible assets acquired.Goodwill is not amortized and is subject to annual impairment testing on or between annual tests if an event or change in circumstance occurs that would more likely than not reduce the fair value of a reporting unit below its carrying value. In testing for goodwill impairment, the Company has the option to first assess qualitative factors to determine whether the existence of events or circumstances lead to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events and circumstances, the Company concludes that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is not required. If the Company concludes otherwise, the Company is required to perform the two-step impairment test. The goodwill impairment test is performed at the reporting unit level by comparing the estimated fair value of a reporting unit with its respective carrying value. If the estimated fair value exceeds the carrying value, goodwill at the reporting unit level is not impaired. If the estimated fair value is less than the carrying value, further analysis is necessary to determine the amount of impairment, if any, by comparing the implied fair value of the reporting unit's goodwill to the carrying value of the reporting unit's goodwill. Intangible Assets. Intangible assets deemed to have finite lives are amortized on a straight-line basis over their estimated useful lives, where the useful life is the period over which the asset is expected to contribute directly, or indirectly, to our future cash flows. Intangible assets are reviewed for impairment on an interim basis when certain events or circumstances exist. For amortizable intangible assets, impairment exists when the carrying amount of the intangible asset exceeds its fair value. At least annually, the remaining useful life is evaluated. An intangible asset with an indefinite useful life is not amortized but assessed for impairment annually, or more frequently, when events or changes in circumstances occur indicating that it is more likely than not that the indefinite-lived asset is impaired. Impairment exists when the carrying amount exceeds its fair value. In testing for impairment, the Company has the option to first perform a qualitative assessment to determine whether it is more likely than not that an impairment exists. If it is determined that it is not more likely than not that an impairment exists, a quantitative impairment test is not necessary. If the Company concludes otherwise, it is required to perform a quantitative impairment test. To the extent an impairment loss is recognized, the loss establishes the new cost basis of the asset that is amortized over the remaining useful life of that asset, if any. Subsequent reversal of impairment losses is not permitted.
During the nine months ended
Business Combinations The Company applies the provisions of ASC 805 in the accounting for acquisitions. ASC 805 requires the Company to recognize separately from goodwill the assets acquired, and the liabilities assumed at their acquisition date fair values.Goodwill as of the acquisition date is measured as the excess of consideration transferred over the net of the acquisition date fair values of the assets acquired and the liabilities assumed. While the Company uses its best estimates and assumptions to accurately apply preliminary value to assets acquired and liabilities assumed at the acquisition date as well as contingent consideration, where applicable, these estimates are inherently uncertain and subject to refinement. As a result, during the measurement period, which may be up to one year from the acquisition date, the Company records adjustments in the current period, rather than a revision to a prior period. Upon the conclusion of the measurement period or final determination of the values of the assets acquired or liabilities assumed, whichever comes first, any subsequent adjustments are recorded in the consolidated statements of operations. Accounting for business combinations requires management to make significant estimates and assumptions, especially at the acquisition date, including estimates for intangible assets, contractual obligations assumed, restructuring liabilities, pre-acquisition contingencies, and contingent consideration, where applicable. Although the Company believes the assumptions and estimates made have been reasonable and appropriate, they are based in part on historical experience and information obtained from management of the acquired companies and are inherently uncertain. Unanticipated events and circumstances may occur that may affect the accuracy or validity of such assumptions, estimates, or
actual results. 43 Revenue Recognition The Company recognizes revenue when its customer obtains control of promised goods or services, in an amount that reflects the consideration which the entity expects to receive in exchange for those goods or services. To determine revenue recognition for arrangements that an entity determines are within the scope of Accounting Standards Codification (ASC) Topic 606, Revenue from Contracts with Customers (Topic 606), the entity performs the following five steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when (or as) the entity satisfies a performance obligation. The Company only applies the five-step model to contracts when it is probable that the entity will collect the consideration it is entitled to in exchange for the goods or services it transfers to the customer. At contract inception, once the contract is determined to be within the scope of Topic 606, the Company assesses the goods or services promised within each contract and determines those that are performance obligations and assesses whether each promised good or service is distinct. The Company then recognizes as revenue the amount of the transaction price that is allocated to the respective performance obligation when (or as) the performance obligation is satisfied. Revenue for the Company's product sales has not been adjusted for the effects of a financing component as the Company expects, at contract inception, that the period between when the Company's transfers control of the product and when the Company receives payment will be one year or less. Product shipping and handling costs are included in cost of product sales. EffectiveOctober 1, 2019 , the Company adopted the requirements of ASU 2014-09 (ASC 606) and related amendments, using the modified retrospective method. The adoption of ASC 606 did not have a significant impact on the Company's revenue recognition policy as revenues related to wholesale and retail revenue are recorded upon transfer of merchandise to the customer, which was the effective policy under ASC 605 previously.
The following policies reflect specific criteria for the various revenue streams of the Company:
Cannabis Dispensary, Cultivation and Production
Revenue is recognized upon transfer of retail merchandise to the customer upon sale transaction, at which time its performance obligation is complete. Revenue is recognized upon delivery of product to the wholesale customer, at which time the Company's performance obligation is complete. Terms are generally between cash on delivery to 30 days for the Company's wholesale customers. The Company's sales environment is somewhat unique, in that once the product is sold to the customer (retail) or delivered (wholesale) there are essentially no returns allowed or warranty available to the customer under the various state laws. Delivery
1) Identify the contract with a customer
The Company sells retail products directly to customers. In these sales there is no formal contract with the customer. These sales have commercial substance and there are no issues with collectability as the customer pays the cost of the goods at the time of purchase or delivery.
2) Identify the performance obligations in the contract
The Company sells its products directly to consumers. In this case these sales represent a performance obligation with the sales and any necessary deliveries of those products.
3) Determine the transaction price
The sales that are done directly to the customer have no variable consideration or financing component. The transaction price is the cost that those goods are being sold for plus any additional delivery costs.
4) Allocate the transaction price to performance obligations in the contract
For the goods that the Company sells directly to customers, the transaction price is allocated between the cost of the goods and any delivery fees that may be incurred to deliver to the customer.
5) Recognize revenue when or as the Company satisfies a performance obligation
For the sales of the Company's own goods the performance obligation is complete once the customer has received the product.
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CONTRACTUAL OBLIGATIONS AND COMMITMENTS
As noted earlier in Note 1, the Company, engages in a business that constitutes an illegal act under the laws of the United States Federal Government. This raises several possible issues which may impact the Company's overall operations, not the least of which are related to traditional banking and other key operational risks. Since cannabis remains illegal on the federal level, and most traditional banks are federally insured, those financial institutions will not service cannabis businesses. In states where medical or recreational marijuana is legal, dispensary owners, manufacturers, and anybody who "touches the plant," continue to face a host of operational hurdles. While local, state-chartered banks and credit unions now accept cannabis commerce, there remains a reluctance by traditional banks to do business with them. Aside from a huge inconvenience and the need to find creative ways to manage financial flow, payroll logistics, and payment of taxes, this also poses tremendous risks to controls as a result of operating a lucrative business in cash. This lack of access to traditional banking may inhibit industry growth.
Despite the uncertainties surrounding the Federal government's position on legalized marijuana, the Company does not believe these risks will have a substantive impact on its planned operations in the near term.
As ofJune 30, 2022 , the Company has acquired interests in several entities. As part of those interests, the Company has commitments to fund the acquisition of licenses and permits to allow for the cultivation and sale of cannabis and related products inthe United States . As ofJune 30, 2022 , Company estimates that its investees will need up to approximately$500,000 to complete the acquisition of licenses and permits, to fund the buildout or expansion of facilities to fully operate in their respective cannabis markets, which will encompass several years of development.
OFF-BALANCE SHEET ARRANGEMENTS
The Company does not have any off-balance sheet arrangements.
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