Ispire Technology - Q3 2024

Transcript

Operator (participant)

Hello, everyone, and welcome to today's conference call to discuss Ispire's financial results for its fiscal third quarter, 2024, ended March 31, 2024. At this time, I would like to inform you that this conference is being recorded and that all participants are in a listen-only mode. We will be facilitating a question-and-answer session following the prepared remarks from the company. Joining us today are Mr. Michael Wang, the company's co-CEO, and Mr. Daniel Machock, the company's CFO. First, Mr. Wang will brief you on the company's key highlights, and then Mr. Machock will review the company's financial results. Before we begin, I would like to remind you that this conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact in this announcement are forward-looking statements.

Forward-looking statements are based on estimates and assumptions made by the company in terms of its experience and its perception of historical trends, current conditions, and expected future developments, as well as other factors that the company believes are relevant. These forward-looking statements involve known and unknown risks and uncertainties, and many factors could cause the company's actual results or performance to differ materially from those expressed or implied by the forward-looking statements. Further information regarding this and other risk factors are included in the company's filings with the SEC. The company undertakes no obligation to update forward-looking statements to reflect subsequent or current events or circumstances, or to change in its expectations, except as may be required by law. I would now like to turn the call over to Mr. Wang. Mr. Wang, please go ahead.

Michael Wang (Co-CEO)

Thank you, operator, and thank you all for joining us this morning. During the fiscal third quarter, we continued building the foundation for future growth while maintaining our momentum in financial performance. Total revenue reached $30 million. That's an increase of 24% over the same three-month period last year. The quarter saw cannabis hardware revenue increase by 57% to $11.9 million, compared to the same three-month period last year. While tobacco vaping products grew 9% to $18.1 million. During the quarter, we successfully balanced increasing profitability and increasing in our research and innovation, while maintaining and sustaining growth in our existing markets, as well as positioning ourselves to expand into new markets with broad potential. The third quarter proved to be very productive for Ispire, as multiple segments of our business experienced growth and expansion.

We entered into a joint venture with Berify and Chemular to leverage Berify's patented blockchain-based authentication technology and Chemular's industry-leading regulatory expertise to create a next-generation point of use age verification technology for e-cigarettes that will prevent underage access and improve user experience. This joint venture represents an opportunity for Ispire to bring our innovation to the e-cig market while addressing an unmet need within the sector to better safeguard underage access to vaping products. This technology aims to introduce safer industry practices, including real-time biometric identity platforms, geo-fencing capabilities, user-friendly point of use age verification, and product authentication systems. Innovation remains one of the core values of our mission, and we are thrilled to pioneer this groundbreaking advancement. On April thirtieth, we announced a collaboration with a subsidiary of Acreage Holdings, expanding the use of our innovative Ispire ONE technology into Acreage retail facilities across the US.

Acreage is a leading retailer with a strong customer network, and our goal is to infuse our best-in-class precision dosing vapor products and the filling machine technology into their facilities to streamline vape production for them. Ultimately, the partnership will strengthen our brand by showcasing our technology and manufacturing capabilities and demonstrate the strength of our full suite of OEM, ODM customization services. Ispire ONE technology includes capless technology that simplifies devices by creating single-piece design, reducing leakage, contamination, and device failure. Another advantage includes bottom filling capabilities that prevent heating core oversaturation, enhancing device reliability. Thirdly, a one-step operation that allows for easier device loading, unparalleled accuracy and speed, simplified operation, and reduced operating expenses for operators and brands.

Our Ispire ONE technology offers enhanced operational efficiency and marks a pivotal moment for Ispire by leveraging our capabilities beyond traditional products to provide enhanced customer operation and brand reputation, and solidifying our position in the industry as a strategic partner and a leading innovator. Another key highlight this quarter is the successful closing of our $12.3 million public offering in March. We are very encouraged by our achievement, as our team was able to overcome a very, very volatile macro environment to successfully complete this transaction, creating additional growth opportunities for Ispire. Gross proceeds from the offering will primarily be used to fund the previously mentioned joint venture with Berify and Chemular, as well as expanding and streamlining operations in our Malaysian manufacturing facility.

Since its opening in February of 2024, our Malaysian facility continues to trend in alignment with our operational initiatives to achieve higher gross margin. In just a few short months, we have already started shipping products and generating revenue. We are also seeing the positive impact on our gross margin. Our team continues to work diligently on multiple PMTA, that is a pre-market tobacco product applications. We are working on multiple applications to ensure that our best-in-class e-cigarette technology can access additional nicotine markets and customers, such as the $80 billion US nicotine market, ultimately driving worldwide demand for our technology and creating long-term value. Finally, turning to another key partnership. Our five-year exclusive global manufacturing and distribution agreement with BRKFST has seen tremendous growth relative to revenue and global brand recognition.

After a successful 2-month test marketing in Africa, we are on target to launch our co-branded product first in Africa this month with a major retailer, followed by Europe, the U.K., and the Middle East later in the year. Our core mission focuses primarily on innovation and maintaining our market leadership position. The third quarter was critical for Ispire, as we implemented many of our key strategic initiatives and entered into several partnerships, as well as expanding many of our existing relationships. We continue to expand Ispire's cutting-edge technology into additional markets in the U.S. and globally, while raising our expectations for the opportunities for our products. With that, I will turn the call over to our CFO, Dan Machock, who will review and comment on our financial results.

Daniel Machock (CFO)

Thank you, Michael, and thanks for everyone for being on the call. I'd like to take a minute to walk through our financials. I will summarize some of our key financial results for the third quarter of 2024. In my comments on the quarterly results, I will refer to the fiscal third quarter of 2024 as the three months ended March 31, 2024. All comparisons are to the prior three months, ended March 31, 2023, unless otherwise stated. As Michael mentioned, we achieved continued sustainable growth for the fiscal third quarter of 2024.

US cannabis vaping hardware sales increased by 57% to $11.9 million, and the sales of tobacco vaping products were $18.1 million in the third quarter of 2024, versus $16.5 million for the same period in the previous fiscal year. Overall, our total revenue for the 2024 fiscal third quarter period increased by 24% to $30 million year-over-year. For the nine-month period ending March 31, 2024, revenue increased to $114.6 million, or by 38% compared to the previous year. Gross profit for the fiscal third quarter in 2024 rose to $6.1 million, representing a 35% increase compared to the same period of the previous fiscal year.

We experienced an increase in gross margin to 20.4% from 18.7% in the previous last year. The gross margin for tobacco vaping products was 15.8% for the fiscal third quarter of 2024, compared to 15.8% for the same period in the previous fiscal year. Cannabis gross margin for the quarter was 27.4%, compared to 25.0% during the same period last year. During the nine-month period ending this quarter, gross profit increased to $19.2 million, or 34.6% year-over-year. Total operating expenses for the fiscal third quarter of 2024 increased by 63.7% to $11.8 million, compared to $7.2 million for the same period the previous year.

Operating expenses for the nine-month period increased by 66.5% to $29.8 million. The increase in expenses was due primarily to an increase in our marketing campaign and trade shows and an increase in employee headcount related to the expansion of our cannabis business and manufacturing. As a result, our net loss was $5.9 million for the fiscal third quarter 2024, as compared to $2.3 million for the fiscal third quarter 2023. This increase reflects the impact of our increased operating expenses, primarily due to the opening of our Malaysian facility and activities to support the growth of our business. Net loss for the nine-month period ending March 31, 2024, was $11.3 million, as compared to $4.5 million for the previous year. Turning to the balance sheet and liquidity.

As of March 31, 2024, and June 30, 2023, we had working capital of $28.9 million and $28.8 million, respectively. We believe that our current cash and cash flow generated from our operations will be sufficient to meet our working capital needs for the next 12 months. Net cash used in operating activities was $16.9 million for the 9-month period ending March 31, 2024, compared to the net cash provided by operating activities of $1.6 million for the same period last year. Net cash provided by investing activities was $5.9 million, compared to $10.1 million used in investing activities in the same period last year.

Net cash provided by financing activities was $10.1 million, compared to $42.0 million used in financing activities in the previous year. This concludes our fiscal third quarter 2024 financial results review. I will now turn it back over to you, Michael. Michael?

Michael Wang (Co-CEO)

Thanks, Dan. Before we open the call to questions, I would like to expand on how our key strategies relate to our long-term financial goals. As we move forward in fiscal 2024, we believe our strategic investments and continued innovation position us for sustained future profitable growth. I would like to reiterate that our focus at Ispire remains on innovation. We strive to be a leader in the industry, using our technology to help redefine what best-in-class products are and set a new standard for excellence. We are evaluating potential partnerships, growth opportunities, and ways to streamline our supply chain so that they align with our overall mission on a consistent basis. We look forward to sharing future updates and progress. If you have any questions, please contact us through email at [email protected]. Operator, this completes our prepared remarks, and we are now open to questions. Please go ahead.

Operator (participant)

Thank you. At this time, we will be conducting a question-and-answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star key. Our first question comes from the line of Scott Fortune with Roth MKM. Please proceed with your question.

Scott Fortune (Managing Director and Senior Research Analyst)

Good morning, and thank you for the questions. Just want to put a little focus on, on the cannabis segment to start and kind of the drop-off in revenues sequentially. Nice year-over-year growth there, but just really unpack the drivers that, that drove the revenues in, in that segment. And what now moving forward expectations in the last quarter into 2025 here? I know you, you've given a, a previous outlook of the cannabis revenue of $80 million-$90 million, but just any additional color would be great on, on how we look at that, the cannabis segment moving forward here, going forward, that'd be great. Thanks.

Michael Wang (Co-CEO)

Scott, thank you for the question. A very important one. As far as the drop-off in revenue from the cannabis side, I would say there are two key drivers. Number one is really the Chinese factory New Year shutdown period that essentially affect stop production for more than three weeks for us. Of course, it's not just us, it's everybody in the whole industry. So that really put a dent on the revenue generation side and how much they could fulfill after they came back from holiday. And still yet ship out in time to the customers before the end of March. So that, that was, I would say, driver number one.

But I think a more meaningful driver, Scott, is our Ispire ONE. We had high expectation for Ispire ONE, so did our customers. After we presented Ispire ONE to the customers in November last year, this product line was absolutely well received by all customers and potential customers alike. Everybody was embracing this product. However, in the actual execution phase, we realized that there was a bit of a challenge we need to overcome for all the customers. With Ispire ONE, essentially, our primary target customers would be the big MSOs and the large brands. This is where they can gain the most efficiency through using our device as well as the filling mechanism.

In talking to those customers, we found out that a lot of those large brands and the MSOs already invested millions and millions of dollars in filling machines that fills the devices. So, of course, a lot of the customers are saying, "We already invested so much into existing filling machines, even though they do things the old way, from expense point of view, we really hate to throw those machines out." So that certainly gave us, on one hand, a very important data point. On the other hand, we had to find ways to not only internally provide newer machines with more capabilities. But on the other hand, we have been working with the key filling machine manufacturers to provide the so-called add-on capabilities.

So, such capabilities would cost very little in most cases, and that would give the operators, in this case, MSOs and big brands, the ability to continue to use the equipment they invested millions of dollars in. So this process of designing the add-on capabilities and so on slowed down the revenue growth in the Ispire ONE family. So that's another key, I would say, key driver. Scott, I think this is probably a bigger driver because it takes, I would say, a few months for such add-on capabilities to be ready and shipped to the customers.

So, I think to answer your second half of the question, this process is probably going to impact our revenue by 4-6 months, I would say, to be on the safe side. So, I think second half of this year, we will have everything ready. I think the effect would be somewhat on the recent quarter, somewhat on the current quarter. So cannabis side will be affected by just a filling machine challenge. But we are optimistic we'll overcome it, and we will partner up with many MSOs and big brands. Scott?

Scott Fortune (Managing Director and Senior Research Analyst)

Yeah, I appreciate that color. Just a little quick follow-up on that. I mean, you focus a lot on the MSOs and the large brand operators. Congrats on signing up Acreage. But kind of where are you at as far as penetration in MSOs? Still very early process.

Michael Wang (Co-CEO)

Sorry, all I heard was music.

Scott Fortune (Managing Director and Senior Research Analyst)

Yes, sorry about that. I just wanted to follow up on you. You signed Acreage recently. How many of the large MSOs have you brought on board with the Ispire One? And obviously, kind of with the add-on, you expect more there, just, but just kind of very early in the process, but just want to get a sense of, of the large operators adopting the Ispire ONE now currently.

Michael Wang (Co-CEO)

We are talking to multiple MSOs, Scott. I would say right now, actively, in negotiation and the testing phase, four MSOs and a couple of big brands. At this point, I am not able to share the names, but one big brand is from California. They purchase about $20 million worth of vaping devices every year. So we are hoping to carve out a big chunk of that $20 million. Another is MSO that we are working with, Chicago-based. And this MSO is expecting to purchase well over $20 million worth of Ispire ONE on annual basis. So these are two, I would say, deep in negotiation type of deals.

We certainly are talking to several other, Scott.

Scott Fortune (Managing Director and Senior Research Analyst)

Got it. No, I really appreciate that. And then kind of similar question on the tobacco outlook. Essentially, you guys are removing guidance. You, you had a $95-$100 million expectation there, but just kind of the sequential decrease there, and what were you expecting from growth-wise to meet that fiscal year guidance that you proposed first? Just kind of a little more color on the tobacco side of things, would it be helpful?

Michael Wang (Co-CEO)

Yeah. To the tobacco side, Scott, in a way, as a result of the cannabis revenue, I guess, impact from the two factors I described, we decided to stop giving guidance altogether on both cannabis and the e-cigarette. On the e-cig side, I think from original guidance point of view, we will fare much better than the cannabis side. Indeed, just recent quarter, as you saw, nicotine side didn't grow as much. It only grew by 9% from last year. This is partially because of the 3+ weeks of factory shutdown by a little bit. Second thing is more about the European market.

I think there is a phenomenon where, because let's say in the UK, UK right now is our largest European market for our tobacco products. UK, as we all know, regulators decided to stop selling disposables altogether, by April 1, 2025, next year. So, while that in the long run will certainly benefit our open systems business, which is the majority of our current nicotine products, worldwide. But in the short term, there's almost seem to be a big rush into buying disposables and, so on and so forth, until April next year, when disposables disappear from the UK market. So that was our interpretation for why that market is affected a little bit.

But overall, I think the nicotine sides, Scott, will be closer to the original guidance than the cannabis side. However, looking ahead, Scott, as we launch our disposable products worldwide, I think the potential is obviously promising, but the expectation varies greatly. So from that point of view, we decided until we have a rather predictable trend, we do not give guidance right now. We'll just see how it exactly shapes up in the next 6-7 months.

Scott Fortune (Managing Director and Senior Research Analyst)

Perfect. And then one last question for me. Nice improvement on the gross margin side, but kind of digging in there, kind of really unpack the drivers of the improved 500 basis points in gross margins, kind of moving forward with some Malaysia manufacturing coming on board. Just kind of kind of expectations. I know you, you've kind of targeted 30% plus gross margins over next year, potentially, but just kind of how we should look at gross margins moving forward, as you had saw a nice pickup on the cannabis side, but a little bit flat on the tobacco side.

Michael Wang (Co-CEO)

Gross margin is going to be, Scott, a very important priority for us. We know it's important to boost gross margin. That's number one, and most importantly, Scott, also, to get us to break even on profitability ASAP, while trying to juggle the growth opportunities. So, from that point of view, on the cannabis side, certainly, gross margin saw a big boost from same period last year. Cannabis gross margin for the recent quarter went up to 27.5%. So on one hand it's a reflection of Malaysia's contribution to our business.

On the other hand, it's also because, as we become more mindful of the financial performance and profitability, we are very conscientious about each deal and what kind of long-term and short-term impact each deal would have on our business. I think I mentioned to everybody last quarter during the call that we implemented a so-called deal desk process for a series of reviews to be carried out on each proposed deal. So on one hand, we minimize credit risk. On the other hand, we maximize gross margin through the process. So that deal desk process also started to impact business. So, I think, Scott, on the cannabis side, those factors together made gross margin go up.

Going forward, I think I would expect for us to continue to make progress on both the cannabis side and nicotine side to improve gross margin. And as nicotine business globally takes off, I have confidence that gross margin on the nicotine side will see an increase rather quickly. So far, the disposable products we made or are currently making would yield a very healthy margin for us. So, I think it will be reflected in the margin in the coming quarters and years. Scott?

Scott Fortune (Managing Director and Senior Research Analyst)

I appreciate the color. Thank you, and I will jump back in the queue.

Operator (participant)

Thank you. Our next question comes from the line of Bo Pei with US Tiger Securities. Please proceed with your question.

Bo Pei (Senior Equity Research Analyst)

Hi, Michael. Hi, Daniel. Thanks for taking my questions. So I have a follow-up on the Ispire ONE delay. So, in your original guidance or expectation, I just wanna know what percentage of revenue was expected to come from Ispire ONE, I guess, to quantitatively understand the potential impact on our cannabis revenue in the next few quarters. And also related to that, with the new add-on technology, does that impact your, you know, potential revenue outlook? Like, the potential market size of the Ispire ONE, does that mean you have to change your strategy to get customers or, or, you know, get customer at a slower pace than you originally expected? Thank you. And I also have a follow-up.

Michael Wang (Co-CEO)

Okay. Bo, thank you. I'll answer your question from a couple different angles. Angle number one is the machine side. We are well underway in terms of getting the add-on features developed with existing filling machine manufacturers. So, in some cases, the capabilities should become available by July. And some additional capabilities would come soon after that. So I think the impact of Ispire ONE on our overall cannabis revenue for this fiscal year, according to our original plan, certainly it will affect just the current quarter. I don't mean Q3, I mean Q4, the current quarter, probably a little more than it affected the recent quarter.

So, you got it right. In our projections, certainly in the next eight quarters or two years out, Ispire ONE would generate a bigger and bigger percentage of our total cannabis revenue. So, that future outlook doesn't change. It's just, I think the 4-6 month delay, because of the machine, would push the model or projection out by 4-6 months. On the other hand, this filling machine issue mainly only affects the big operators, the MSOs and the big brands. It doesn't affect smaller operators. So we are selling the machine and the devices to smaller operators now because they view this machine very suitable to the volume they are producing.

So, it's not a complete stop, it's just larger accounts we will need the solution for. And these solutions, Bo, do not, you know, come as expensive development. They are just basic add-on features to the existing filling machines. So from our value proposition point of view, and from the cost to customer point of view, it doesn't really change from our original plan, because original plan was based on us providing the filling machine to the customer directly. And the cost of those machines is similar to the add-on features the big filling machine manufacturers would incur in developing the add-on. So I hope I answered the question.

Basically, the revenue expectation is pushed out by about 4-6 months on the larger accounts.

Bo Pei (Senior Equity Research Analyst)

Hello? Got it. Yeah, thank you, Michael. And then also, if I remember correctly, last quarter earnings call, you mentioned, based on, then expectation, right? You expect the company to be, breakeven in the June quarter. Now with, Ispire ONE got delayed, and then, you have the, tobacco, sales also not as strong as we expected. What is the updated, breakeven, outlook for the company?

Michael Wang (Co-CEO)

Yeah. You totally are correct. We were expecting, based on so among those expectations, we would break even the current quarter, the June quarter. Yeah, as a result of revenue shortfall on the Ispire ONE side and probably a little bit of shortfall on the tobacco side. I think we will also need to push the breakeven quarter out by another quarter. We know the global co-branded e-cigarette through the partnership with Burna Boy will kick in this quarter, meaning the June quarter, and it would accelerate towards the second half of the year. So we know that will start contributing to the top line and the bottom line.

And so, based on that, we feel breakeven would be happening the next quarter, the September quarter.

Bo Pei (Senior Equity Research Analyst)

Got it. Got it. Thank you so much. And then one last question from me. So, I see you have strengthened the balance sheet with the recent secondary offering, and then it seems also the operating cash flow returned to positive in the March quarter. But can you also share some outlook for the operating cash flow in the next few quarters? Are you seeing any, you know, special activities from your accounts payable and accounts receivable?

Michael Wang (Co-CEO)

Overall, cash flow consideration for the next couple quarters, so I would say will be largely driven by a couple strategic projects. Number one is our PMTA applications. As I said earlier, this summer, we will submit our applications with its verification technology built in. So, with that application process, we expect to spend upward of $5 million in applications fee. As we all know, FDA charges a significant amount for PMTA. So I think that will be a key driver. The second, relatively smaller driver is our contribution, capital contribution to the joint venture with Berify and Camula.

The actual cash outlay there is going to be actually based on the operating needs of the joint venture. The board of the joint venture will review financial condition and cash flow and would require capital investors to fund the ongoing needs. So that would be a second factor, although I know that will be relatively small. Now, indeed, what affects the cash flow a lot is on the AR side and to a lesser degree on the AP side. On the AR side, through our deal desk, we have maintained, I would say, quite nice control in terms of not only credit risk, but also payment terms.

Through the review of each potential deal, we have become very, very aggressive in terms of collecting cash from the customer ASAP. So on that front, I think we should start seeing progress in terms of a total AP. However, internally, we have a tracking KPI that's what we view as a leading indicator of AP condition. That KPI we use is the Days Sales Outstanding. So that's basically everybody knows that average number of Days Sales Outstanding. By that KPI, we have seen in the last six months that Days Sales Outstanding nearly halved. So that's an indication for what our AP condition going forward.

We are going to stick to this very strict deal desk process. On the cannabis side, until we all know, until 280E is removed, and the operators have better cash to play with, or more cash flow to use, I think the industry will continue to be under payment pressure. So this is our way of dealing with this pressure through the deal desk. On the other hand, we certainly hope 280E would someday be removed. That will be a huge win to everybody, including us. But I hope I answered your question.

Bo Pei (Senior Equity Research Analyst)

Yes, that was very helpful. Thank you so much. That's all my questions.

Operator (participant)

Thank you. We have reached the end of the question and answer session. Now, to turn the call back over to Michael Wang for closing remarks.

Michael Wang (Co-CEO)

Once again, I want to thank everybody for joining me and Dan today. On one hand, as I just shared, the strategic investment we have made will have a long-term implication and a value generation promise for us. On the other hand, existing partnerships have really started to pay off. Most importantly, even though we talk about the shortfall from Ispire One side, it's going to be a very powerful weapon for us going forward. We feel this is a learning process for us in understanding the filling machine landscape. Now we have a solution. We feel real good about the next four, five quarters ahead.

In the meanwhile, I want to thank you all for supporting us and for join us to hear our story today. Please reach out directly if you have my contact info. We can have one-on-one times if certain questions are more suited for that. Thank you all for here.

Operator (participant)

Thank you. This concludes today's conference, and you may disconnect your lines at this time. Thank you for your participation.