22nd Century Group Q4 2023 Earnings Call Transcript

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March 28, 2024

There are 6 speakers on the call.

Operator

Welcome to 22nd Century Group's 4th Quarter 2023 Conference Call and Webcast. At this time, all participants have been placed in a listen only mode. The floor will be open for questions following management's prepared remarks for Coverings Research Analyst on the call. It is now my pleasure to turn the floor over to Matt Kreps, Investor Relations for 22nd Century Group. Please begin.

Speaker 1

Hello, and welcome to 22nd Century's 4th quarter results conference call. Joining me today are Larry Firestone, CEO and Hugh Kinsman, CFO. Earlier today, we issued a press release announcing our results for the Q4 of 2023. The release and 10 ks are available in the Investors section of our website at 22ndcentury.com. We'll start today's call with prepared remarks from Larry and Hugh before moving into a Q and A session with our analysts.

Speaker 1

If you have questions about our business not addressed on this call, you are welcome to e mail Investor Relations using the contact information provided in today's press release. Before we begin, a few reminders for today's call. Some of the statements made today are forward looking. Forward looking statements are subject to risks, uncertainties and other factors that may cause actual results to differ materially from those contemplated by these statements. Additional information regarding these factors can be found in our annual, quarterly and other reports filed with the SEC.

Speaker 1

During today's call, we may also discuss non GAAP financial measures, including adjusted EBITDA, which we define as earnings before interest, taxes, depreciation and amortization as adjusted for certain non cash and non operating expenses. For more details on these measures, please refer to our release issued earlier today. And with that, I'll now turn the call over to Larry.

Speaker 2

Good morning, and thank you for joining 22nd Century's Q4 2023 earnings call. I will cover the business status and Hugh will cover the financials and then we will open it up for questions. The timing of this call is interesting since it technically covers the Q4 results, but so much has changed over the past 4 months that the results are not reflective of how the company is operating today. Since our focus is 100% on how 22nd Century moves forward to become a self sustaining, profitable and cash flowing business, a lot of the information contained in my part of the discussion will be oriented towards the shape of the company in the Q1 and so some of this will cross over to the Q1 earnings call in mid May. Our priority is what is good for the company comes first.

Speaker 2

We are dedicated to making 22nd Century live within its skin, which is a profitable cash positive NASDAQ listed company with a strong foothold in the tobacco space focused on nicotine harm reduction. 1 of the first big changes was the sale of the GBV hempcannabis business at the end of December. This move helped us on several fronts. 1st, GVB was the largest source of cash burn in 2023 with a lot of unfunded overhead that was driving some of our largest losses. And second, any company that has operations around cannabis, there is what I call a tax on the business.

Speaker 2

This tax comes in the form of a cost premium on just about every cost that the entire company incurs. For example, insurance, Insuring a business with a cannabis component not only costs significantly more, but the mainstream insurers pass on underwriting the policies due to the fact that cannabis is involved. The same scenario spreads wide across the supply chain. So there's an inherent limitation on what the company can do to keep its cost structure under control. Unfortunately, this tax on the business crosses over to to cash drain that the hemp cannabis business was causing, but also will allow us to lower our cost in the tobacco business as well.

Speaker 2

Now let's talk about the actions we've taken in the past 120 days to strengthen our core tobacco business. We've returned to our fundamental mission of using our patented biotechnology for creation of products that address the harms of nicotine addiction and commercializing those products. We've cut our ongoing management, labor, overhead costs significantly and that includes me. All employment agreements for the company's executives have been terminated, meaning everyone is employed at will. As an example, I do not have an employment agreement.

Speaker 2

If I fail, I can be terminated without a severance payment. For the results in 2023, there are no bonuses paid or planned and no equity compensation past what was already granted when I came on board. The same is planned for 2024. Spending on consultants and advisors has been terminated except only those few that are mission critical. Your Board of Directors has been working without compensation effective in the last quarter of 2023 and the overall board compensation has been cut aggressively for when payment does resume.

Speaker 2

We've reduced our overall headcount and right now we have about 60 people in the company. We've raised our prices on our filtered cigar business, which has traditionally lost money at the gross profit line. We will get this part of the business on the right side of the profit line or exit it. We eliminated our 2nd shift at our production facility and consolidated production to 1 shift for a substantial productivity gain. We closed our facilities in Buffalo and Maryland and consolidated all of our operations to our factory in North Carolina.

Speaker 2

We sold excess tobacco inventory. And although we took a non cash accounting charge to cost of goods sold, this provided us with a non dilutive cash infusion of approximately 1,200,000 dollars That's an illustration of just some of the major actions we have taken. There are many more, but these are the major ones. As a result of this hard work, we've reduced our cash burn substantially and are still driving towards a much lower financial breakeven point than we had as a company in 2023. We expect to reach breakeven in the Q1 of 2025.

Speaker 2

What I can tell you is the cash burn is now massively smaller than last year when at times we are burning $15,000,000 in the quarter. As we operate today, we are still working through prior cash obligations, but we're on a downward slope, which is much lower than where we were last year. As a part of closing the gap, in addition to the cost reductions, we're working on new profitable revenue opportunities for both VLN and the contract manufacturing or CMO business to drive higher gross profits and get to our breakeven as soon as possible. We have several CMO opportunities that are near term and once they go live, we'll gradually lift our revenue. These will counter some of the contracts that we will be offloading where we lose money.

Speaker 2

Once the dust settles, we're going to be in better shape. The additional CMO volume also helps our manufacturing overhead absorption. So the more volume we run through the factory on the same overhead cost, the lower our cost per cart will be on existing products. This business will continue to get healthier as we go. Now

Speaker 3

I'm going to

Speaker 2

talk BLN. And I know I'm the new guy and picking up where others have left off, but I couldn't be more excited about VLN and its possibilities in the marketplace for consumer health and for the success of 22nd Century. Let me first say that VLN LN means very low nicotine. The scientific community uses the acronym VLNC to represent very low nicotine content. Our trademark brand VLN is to nicotine harm reduction from cigarettes as decaf coffee is to coffee or skim milk is to milk.

Speaker 2

If anyone has told you that you need to cut back, we are the alternative. We are the brand in the marketplace representing the only very low nicotine cigarette and VLN name stands for something very important and it's up to us to make it count. 2nd, I'm going to do a little level setting for our shareholders. It's been widely speculated and anticipated that various government agencies from the U. S.

Speaker 2

And other countries are going to enact laws or some form of legislation that will position our VLN cigarettes as the only alternative for smokers, essentially opening up a lane where only VLN can travel. We can't simply rely on government action as a part of our business plan. We also can't count on legislation of this type to happen anytime soon and even with action. I don't believe that the U. S.

Speaker 2

Government will enact a law so that VLN is the only cigarette on the market. We must build this brand and this company from the ground up so that our success will not only be dependent solely on legislation or federal action that would result in a huge hit to a major industry that provides substantial financial infrastructure within our domestic economy. Think about jobs, taxes, revenue, importexport related to the overall tobacco industry. We also cannot assume or bet solely on whether the U. S.

Speaker 2

Government will make sure that our population of menthol smokers have menthol cigarettes available to them if they enact a law that prohibits them from being manufactured or sold in the U. S. Even absent government action, I would offer that our government, including the FDA believes that the smoking population in the U. S. Will heed the warnings on the pack and realize the harmful addictive nature of cigarettes and take the initiative to stop smoking on their own and solve the problem.

Speaker 2

The overarching cost in lives, healthcare and infrastructure related to smoking is huge. So how do we move this forward and achieve success without relying on government actions? It's common knowledge that a majority of smokers want to quit and they are trying to quit consistently year after year and they need help to smoke less. They need tools such as VLN. We are an authorized and unique enabler to help reduce nicotine consumption.

Speaker 4

We are

Speaker 2

the 1st and only combustible cigarette to receive an FDA authorization that specifically focuses on nicotine harm reduction. We are well protected from an intellectual property standpoint. We have a tool, our VLN cigarette, we believe that smokers will want to use in their fight to quit smoking. Introducing a new category in any market, much less the cigarette market is disruptive, difficult and very much a ground game to make the smokers in various states where VLN has distribution become aware that this product exists and the benefits of VLN's use. Being in that position, we must focus on developing an audience that uses our VLN products and communicates the positive results our customers have experienced so far and make sure success is known and the word is passed to others in the market.

Speaker 2

Like all segments of consumer brand markets, getting consumers to become aware and give new or a different brand a shot takes trusted results, time, energy and resources. The mission to drive reduced harm for smokers and acquire customers who want to reduce their nicotine intake is a simple math equation. The simple math is from a nicotine content perspective, 1 pack of 20 VLN cigarettes equals 1 single cigarette of any standard brand. What that means to a smoker who smokes a pack a day is the nicotine intake of smoking VLN for a full year would be the equivalent of smoking a standard cigarette for 2 and a half weeks. To their pocketbook, a pack a day smoker is spending the equivalent of $2.50 an hour on a full time hourly rate to smoke and more to a part time worker.

Speaker 2

Financially, for 22nd Century, from the 5,100 retail outlets that currently carry VLN, we need them to sell 9 packs per week to completely carry the company's overhead costs or essentially just 1 card in a week. This does not seem like a heavy lift as we increase the VLN brand awareness, but we need to increase the awareness on a very small budget at this time. We do know that specific retail chains and independent retailers currently selling VLN are developing separate in store categories focused on harm reduction products for smokers. These categories would highlight products like VLN and give adult smokers an alternative to traditional cigarettes. This action and commitment by retailers would be a major step forward in VLN brand awareness.

Speaker 2

As we continue working on our branding and our product awareness initiatives, while we strengthen our financial capability and move towards profitability, we will increase our spending efforts with strategic retail partners and getting the message to smokers. As part of our strategy, we're looking to further increase our store distribution with relevant retailers and continue to build support with the medical and scientific community that understands the importance of the VLN brand to public health. We also plan to continue to drive awareness through social and digital channels and to activate the incredibly important peer to peer advocacy process that supports smokers as they take these life changing steps to reduce their smoking addiction. These efforts to get just the 1 carton per week store average plus our plans to improve the CMO sales and margin contribution put us on a path to profitability. We have laid the foundation, cut the cost and now we can focus on building the business to get there as quickly as possible.

Speaker 2

A couple of other topics to cover as you saw in this morning's press release, we initiated the reverse stock split of 1 to 16 to regain compliance with the NASDAQ listing rules. Trading under the reverse split will begin April 2. As we evaluated the options, the same way we're turning the company around, we decided to move to the end state and closed the discussion around the reverse split. Part of that decision included discussions with our incumbent equity investors who have supported 22nd Century through the past 12 months, and we believe are willing to support the company's greatly reduced cash needs as long as we close the gap to profitability and remain a NASDAQ listed company. I will now turn the call over to Hugh to review the financial results for Q4 and 2023.

Speaker 5

Thank you, Larry, and good morning to everyone. Our Q4 financial results are presented on a continuing operations basis, which excludes our hemp cannabis business, which has been classified as discontinued operations. Net sales decreased by 26% quarter over quarter to $7,400,000 reflecting our ongoing reallocation of production resources to higher margin product mix, focused on VLN and conventional cigarette products as compared to lower margin filtered cigars. Gross profit decreased quarter quarter to negative $7,800,000 due to lower filtered cigar unit sales and the shift in product mix from filtered cigars to conventional cigarettes. Additionally, we recorded approximately $8,000,000 in inventory reserves, primarily related to excess and obsolete tobacco leaf inventory.

Speaker 5

Excluding the inventory reserve charge, gross margin would have been positive $200,000 for the quarter. Net loss for the Q4 was $22,000,000 as compared to $11,000,000 in the comparable prior year period. However, adjusted EBITDA loss decreased significantly to negative $3,200,000 in Q4 2023 compared to negative $9,900,000 for the same quarter prior year, reflecting a substantial reduction in operating expenses and implementation of efficiency initiatives. As outlined in our earnings release, we provide adjusted EBITDA as a non GAAP measure aligned with our operating performance. As a result of the efforts undertaken by Larry since joining

Speaker 1

the company and our cost

Speaker 5

cutting initiatives and operational efficiencies, we have substantially decreased the cash needs of our business, as evidenced by improvement in adjusted operating performance. Those efforts are ongoing in 2024 as we work to minimize cash requirements going forward and ultimately move the company to cash positive results. And a few key highlights from our balance sheet include in our earnings release today. Of note, total assets decreased substantially to $27,500,000 primarily due to the write down of intangible assets, including goodwill, reflecting the divestiture of the hemp cannabis business. Cash balances remained relatively unchanged at $2,000,000 for Q4 2023, reflecting a significant decrease in cash loss from operations due to reduction in operating expenses and the hempcannabis divestiture.

Speaker 5

Finally, I should note that we are vigorously pursuing our lawsuit against Dorchester Insurance Company based on their failure to pay any amount towards our claim for business interruption insurance following a devastating fire that destroyed our Grass Valley, Oregon manufacturing facility. We're seeking $9,000,000 in actual damages in addition to the significant consequential damages. We will now open up the call for questions.

Operator

Thank you. Ladies and gentlemen, we will now begin the question and answer Your first question comes from Aaron Grey with Alliance Global Partners. Please go ahead.

Speaker 3

Hi, good morning and thank you for the questions. This is Remi Smith on for Aaron Grey. So my first question for VLN, could you speak to some of the sales or velocity specifically that you've seen so far from VOM cigarettes in any of your markets?

Speaker 2

It's 2023 was largely a stocking year. So we've seen stock up in the stores. The takeoff of the product has been slow. And in early 2024, in January, we also raised the price. So we had some pull in coming from that.

Speaker 2

But it really is now sort of a traction game out in the market and that's our challenge. So I would say that our big lift right now is getting from the stocking point of view up to, as I mentioned, a carton per store. But I don't have exact numbers for you. That's something we're working on. It's on the sell through side.

Speaker 3

Okay. I appreciate the color there. And then my second question, I'm still focusing a little bit on VLN. So appreciate the focus on profitability and the cost cuts this quarter. But given the education need to continue to build awareness for VLN, can you speak a little bit more, prior to additional details on your planned marketing spend and initiatives to building that awareness?

Speaker 2

Yes. We're working on we're actually engaging to work on a little bit of brand enhancement around VLN. We've got some strategies that may allow, I would say, additional SKUs to be brought to the market, as well as consumer awareness materials that are out there that comply with the FDA. That's where we've fallen short is going through 2023. We pulled the funding for pretty much all of that.

Speaker 2

So, we'll start to present the product in retail, again, in compliance with the FDA. And that should help attract some attention as well as the packaging and the information we provide. We're also redressing our social networks in the website that we have and especially the Tri VLN website, which has information has been pretty stale out there. So I would say we're going through right now on a very, very thin budget, a total redress of the VLN presentation.

Speaker 3

Thank you. And my last question shifting over to CMO. So could you speak to a little bit of the CMO opportunities that you have, given tobacco is a more mature category with structural declines? Any color in terms of where you're seeing those opportunities potentially in additional white label opportunities? Any color on that would be helpful.

Speaker 2

Yes, they are additional white label opportunities. So we have we've got a great asset in North Carolina at our production facility that we call NASSCO. And we've got some customers that need volume that either it exceeds their current volume or they're doing a cost benefit analysis and figuring out that they'd like to use our tools in their structure. So we've got, I want to say, 6 opportunities for additional volume coming into NASSCO in the form of CMO opportunities. And that's the as we look at it, as I mentioned, it's kind of a 2 dimensional play.

Speaker 2

1 is certainly higher top line and we're quoting profitably now. And the second is, as we absorb our overhead, it will reduce the carton cost for everything that we're doing on NASCO.

Speaker 3

Great. I appreciate the color there and I'll hop back in the queue.

Speaker 2

Okay.

Operator

Your next question comes from Jim McIlree with Dawson James. Please go ahead.

Speaker 3

Yes. Thank you. Good morning.

Speaker 2

Good morning, Jim.

Speaker 4

Can you talk about the GVB note whether or not they need to raise capital in order to pay you guys off?

Speaker 2

Yes, I will let Hugh take that one.

Speaker 5

Yes. Hey, Jim. The answer is yes. Our understanding is they're in the process of getting that completed. I know they've received term sheets for refinancing that facility.

Speaker 5

And I think they're kind of going through the process of selecting the final lender and then closing a transaction. So the answer is they're making significant progress and steadily moving towards the refinancing.

Speaker 4

Okay. And then secondly on the insurance recovery, I know you addressed it. I was just hoping it could be maybe a little bit more predictive on what you think the outcome will be and when?

Speaker 2

Sure. I'll take that. You want to take that, Hugh?

Speaker 5

No, Larry. Go ahead. That's fine.

Speaker 2

Yeah. I'll just take the front end of that. If I miss anything Hugh, fill in. But so we have a hearing coming up in April, 1st hearing. And so that should kick off the process.

Speaker 2

But I think, Jim, as you know, I mean, this is in the courts. It's in Oregon. It's in federal court in Oregon. So the timing wise, it's going to be a docket question. But being more predictive on the outcome, we feel pretty strong about the outcome.

Speaker 2

We have just to kind of put a point on it, we have business interruption insurance. It's there for a reason. The business got interrupted. We went to the insurance company to get paid and they didn't pay. So that's a huge problem, huge gap in their commitment and huge gap in the policy.

Speaker 2

And so the numbers are the numbers that were put together. And so unfortunately, we instead of having them hit their commitment and what we paid for, we've got to take them to court in order to win. So it's a long longer process drawn out, but we feel pretty confident and everything has been put together.

Speaker 4

Okay. Thank you. And I'm just trying to understand, there seems to be a conflict between the growth of VLN and the limited resources to make it grow. And it seems like you really can't make it you really can't get it to grow and drive that business until you get additional cash resources. And I'm just puzzled over the timing and how you guys are looking at accomplishing growth in VLN given the limited resources right now?

Speaker 2

Well, first of all, there's many ways that we can, I would say, enhance the presentation of VLN in the market? Price is 1. I don't like to touch price as a first option, but it's certainly out there for us. And then we've got some major chains that are carrying VLN right now. And so to move some market awareness material into a major chain, It's the good news is whatever money we spend gets pretty widely distributed.

Speaker 2

So those will be discussions that we'll be having with the chains. And then, of course, the digital world is that we have has been pretty dormant for the last when I looked at our website and I looked at our socials, I'd say it's been dormant now for about I'll just throw a number, 6 months. So we can start to activate a lot of that on a very little budget. As we go, as we grow, as VLN starts to sell, VLN is a very profitable product for us. Margins are very healthy, very, very tobacco industry healthy.

Speaker 2

So we just need to get the product moving through the stores and that should start the generation of cash, generation of profitability.

Operator

There are no further questions at this time. I will now turn the call over to Larry for closing remarks.

Speaker 2

Thank you. I'd like to thank everyone for joining our call today. In closing, I'll emphasize that we are absolutely focused on turning 22nd Century around and becoming a profitable company for the first time in the company's history. This, as I described earlier, is going to require our full focus on the business of making and selling cigarettes, our BLN brand and our CMO brands as well and keeping our costs in line. We look forward to updating you again soon in mid May on our Q1 2024 conference call.

Speaker 2

But lastly, I'd like to thank our employees who keep driving 22nd Century forward. That concludes our remarks.

Operator

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating in Apti. Please disconnect.

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22nd Century Group Q4 2023
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