Item 7. Management’s Discussion and Analysis
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Management’s
discussion and analysis (“MD&A”) should be read in conjunction with the consolidated financial statements and accompanying
notes included in Item 8 of this Annual Report on Form 10-K (annual report), which include additional information about our accounting
policies, practices, and the transactions underlying our financial results. The preparation of our consolidated financial statements in conformity
with accounting principles generally accepted in the United States of America (U.S. GAAP) requires us to make estimates and assumptions
that affect the reported amounts in our consolidated financial statements and the accompanying notes, including various claims and contingencies
related to lawsuits, taxes, environmental and other matters arising during the normal course of business. We apply our best judgment,
our knowledge of existing facts, circumstances, and actions that we may undertake in the future in determining the estimates that affect
our consolidated financial statements. We evaluate our estimates on an ongoing basis using our historical experience, as well as other
factors we believe appropriate under the circumstances, such as current economic conditions, and adjust or revise our estimates as circumstances
change. As future events and their effects cannot be determined with precision, actual results may differ from these estimates. Our
MD&A contains forward-looking statements that discuss, among other things, future expectations and projections regarding future developments,
operations, and financial condition. All forward-looking statements are based on management’s existing beliefs about present and
future events outside of management’s control and on assumptions that may prove to be incorrect. If any underlying assumptions prove
incorrect, our actual results may vary materially from those anticipated, estimated, projected, or intended. We undertake no obligation
to publicly update or revise any forward-looking statements to reflect actual results, changes in expectations, events or circumstances
after the date of this Report is filed. TREES Corporation and its subsidiaries are referred to collectively
as “TREES” “the Company,” “we, “us” or “our” in the following discussion and analysis.
Going
Concern
We incurred net losses of $7,082,258 and $9,475,067
during the years ended December 31, 2023 and 2022 , respectively, and had an accumulated deficit
of $100,484,340 and $93,384,382 as of December 31, 2023 and December 31, 2022. We had
cash and cash equivalents of $969,676 and $2,583,833 as of December 31, 2023 , and December
31, 2022, respectively.
The consolidated financial statements included
elsewhere in this Form 10-K, have been prepared on the basis of continuity of operations, realization of assets, and the satisfaction
of liabilities and commitments in the ordinary course of business. We have incurred recurring losses and negative cash flows from operations
since inception and have primarily funded our operations with proceeds from the issuance of debt and equity. We expect our operating losses
to continue into the foreseeable future as we continue to execute our acquisition and growth strategy. As a result, we have concluded
that there is substantial doubt about our ability to continue as a going concern. The accompanying consolidated financial statements do
not include any adjustments that might result from the outcome of this uncertainty.
Our ability to continue as a going concern is
dependent upon our ability to raise additional capital to fund operations, support our planned investing activities, and repay our debt
obligations as they become due. If we are unable to obtain additional funding, we would be forced to delay, reduce, or eliminate some
or all of our acquisition efforts, which could adversely affect our growth plans.
Results of Operations
The following tables set forth, for the periods
indicated, are statements of operations data. The tables and the discussion below should be read in conjunction with the accompanying
consolidated financial statements and the notes thereto appearing in Item 8 in this Report.
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Consolidated Results
Year Ended December 31,
Percent
2023
2022
Change
Change
Revenues
$ 18,136,880
$ 13,444,542
$ 4,692,338
35 %
Costs and expenses
(22,111,538 )
(16,619,467 )
(5,492,071 )
33 %
Other expense
(2,919,752 )
(6,100,703 )
3,180,951
(52 )%
Net loss from continuing operations before income taxes
(6,894,410 )
(9,275,628 )
2,381,218
(26 )%
Gain (loss) from discontinued operations
—
5,478
(5,478 )
(100 )%
Loss from operations before income taxes
$ (6,894,410 )
$ (9,270,150 )
$ 2,375,740
(26 )%
Revenues
The sales generated by Green Tree and Green Man,
which we acquired in Q4 2022, contributed to the increase in revenues for the year ended December 31, 2023 compared to December 31, 2022.
Costs and expenses
Year Ended December 31,
Percent
2023
2022
Change
Change
Cost of sales
$ 11,564,386
$ 8,577,487
$ 2,986,899
35 %
Selling, general and administrative
8,223,102
6,557,992
1,665,110
25 %
Stock-based compensation
69,071
188,330
(119,259 )
(63 )%
Professional fees
1,380,567
964,282
416,285
43 %
Depreciation and amortization
874,412
331,376
543,036
164 %
$ 22,111,538
$ 16,619,467
$ 5,492,071
33 %
Cost of sales increased for the year ended December
31, 2023, as compared to December 31, 2022 due to the additional sales from the Green Tree and Green Man acquisitions.
Selling, general and administrative expense increased
for the year ended December 31, 2023, as compared to December 31, 2022, due to the increased expenses resulting from the acquisition of
three dispensaries in the fourth quarter of 2022 and one additional dispensary license in the first quarter of 2023. This resulted in
an increase in employees and an increase in rent expense.
Professional fees consist primarily of accounting
and legal expenses. Professional fees increased for the year ended December 31, 2023 as compared to December 31, 2022 due to the acquisition
activity in the first quarter of 2023, as well as the accrued legal expenses for the settlement reached in the second quarter of 2023.
Stock-based compensation included the following:
Year Ended December 31,
Percent
2023
2022
Change
Change
Employee awards
$ 69,071
$ 188,330
$ (119,259 )
(63 )%
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Stock-based awards are issued under our 2020 Omnibus
Incentive Plan, which was approved by shareholders on November 23, 2020 and our 2014 Equity Incentive Plan, which was approved by shareholders
on June 26, 2015. Expense varies primarily due to the number of stock awards granted and the share price on the date of grant. The
decrease in expense for the year ended December 31, 2023 as compared to December 31, 2022 is due to the decrease in the number of
stock-based awards granted.
Depreciation and amortization expense increased
in 2023 due to amortization related to the intangible assets acquired in the Green Man and Green Tree acquisitions in December 2022, which
had useful lives of one year and two years, respectively.
Other Expense
Year Ended December 31,
Percent
2023
2022
Change
Change
Amortization of debt discount
$ 811,722
$ 1,817,334
$ (1,005,612 )
(55 )%
Interest expense
1,763,413
983,181
780,232
79 %
Loss on extinguishment of debt
218,237
310,622
(92,385 )
(30 )%
Loss on impairment of assets
1,516,000
3,004,319
(1,488,319 )
(50 )%
Gain on derivative liability
(792 )
(22,809 )
22,017
(97 )%
Gain on change in fair value of contingent earnout
(492,148 )
—
(492,148 )
(100 )%
Other income
(896,680 )
8,056
(904,736 )
(11,231 )%
$ 2,919,752
$ 6,100,703
$ (3,180,951 )
(52 )%
Amortization of debt discount decreased during
the year ended December 31, 2023 as compared to December 31, 2022 due to the rollover and repayment of the 10% Notes in 2022.
Interest expense increased during the year ended December 31, 2023 as compared to December 31, 2022 due to the additional borrowings
from the issuance of the 12% Notes held until they were restructured in Q4 2023. The loss on extinguishment of debt during the year ended
December 31, 2023 relates to the extinguishment of the 468 debt in October 2023. The loss on extinguishment of debt during the year
ended December 31, 2022 relates to the rollover and repayment of the 10% Notes. The loss on impairment of assets during the years
ended December 31, 2023 and December 31, 2022 is due primarily to goodwill impairments at our Trees Oregon locations included
in our Retail segment in 2023 and goodwill and intangible impairments at out Trees Oregon locations included in our Retail segment. The
gain on warrant derivative liability reflects the change in the fair value of the 2019 Warrants. The gain on change in the fair value
of contingent earnout during the year ended December 31, 2023 is due to changes in the fair value of the contingent earnout liability
related to the Green Tree Acquisition. Other income during the year ended December 31, 2023 increased as compared to December 31,
2022 due to the Company applying for employee retention credits through the CARES Act.
Retail
Year Ended December 31,
Percent
2023
2022
Change
Change
Revenues
$ 17,722,565
$ 12,934,904
$ 4,787,661
37 %
Costs and expenses
(17,568,330 )
(13,117,039 )
(4,451,291 )
34 %
$ 154,235
$ (182,135 )
$ 336,370
(185 )%
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With the acquisition of Green Tree on December
12, 2022, and the acquisition of Green Man on December 19, 2022, as well as the acquisition of the dispensary license for 468 Federal
Street, retail revenue increased for the year ended December 31, 2023, compared to December 31, 2022. Costs and expenses also increased
as a result of the acquisitions.
Cultivation
Year Ended December 31,
Percent
2023
2022
Change
Change
Revenues
$ 2,531,399
$ 1,693,762
$ 837,637
49 %
Costs and expenses
(4,468,658 )
(2,643,457 )
(1,825,201 )
69 %
$ (1,937,259 )
$ (949,695 )
$ (987,564 )
104 %
The increase in revenues for the year ended December 31, 2023 compared
to December 31, 2022 is attributed to the increase in sales made to our dispensaries which are eliminated in consolidation. The
increase in cost and expenses for the year ended December 31, 2023 compared to December 31, 2022 is attributed to the acquisitions
of Green Tree and Green Man that occurred during December of 2022, as well as the increase in sales made to our dispensaries. The costs
and expense incurred between our dispensaries and cultivation locations are eliminated in consolidation.
Non-GAAP Financial Measures
Adjusted EBITDA is a non-GAAP
financial measure. We define Adjusted EBITDA as net loss calculated in accordance with GAAP, adjusted for discontinued operations,
the impact of stock-based compensation expense, acquisition related expenses, non-recurring professional fees in relation to litigation
and other non-recurring expenses, depreciation and amortization, amortization of debt discounts and equity issuance costs, loss on extinguishment
of debt, interest expense, income taxes and certain other non-cash items. Below we have provided a reconciliation of Adjusted EBITDA to
the most directly comparable GAAP measure, which is net loss.
We believe that the disclosure
of Adjusted EBITDA provides investors with a better comparison of our period-to-period operating results. We exclude the effects of certain
items when we evaluate key measures of our performance internally and in assessing the impact of known trends and uncertainties on our
business. We also believe that excluding the effects of these items provides a more comparable view of the underlying dynamics of our
operations. We believe such information provides additional meaningful methods of evaluating certain aspects of our operating performance
from period to period on a basis that may not be otherwise apparent on a GAAP basis. This supplemental financial information should be
considered in addition to, not in lieu of, our consolidated financial statements.
Year Ended December 31,
2023
2022
Net loss from continuing operations
$ (7,082,258 )
$ (9,480,545 )
Adjustment for loss from discontinued operations
—
5,478
Net loss
(7,082,258 )
(9,475,067 )
Adjustments:
Stock-based compensation
69,071
188,330
Depreciation and amortization
874,412
331,376
Amortization of debt discount
811,722
1,817,334
Loss on extinguishment of debt
218,237
310,622
Loss on impairment of assets
1,516,000
3,004,319
Interest expense
1,763,413
983,181
Loss on sale of assets
—
8,056
Gain on derivative liability
(792 )
(22,809 )
Gain on change in fair value of contingent earnout
(492,148 )
—
Severance
—
4,731
Acquisition related expenses
—
1,027,099
Provision for income taxes
187,848
204,917
Other (income) expense
(896,680 )
—
Total adjustments
4,051,083
7,857,156
Adjusted EBITDA
$ (3,031,175 )
$ (1,617,911 )
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Liquidity
Sources of liquidity
Our sources of liquidity historically have included the issuance of
debt, common stock, or other equity-based instruments and the cash exercise of common stock options and warrants. We anticipate our significant
uses of resources will include funding operations.
In December 2023, we restructured our debt obligations
with the Green Tree entities to eliminate these obligations. Subsequent to this restructuring we received $500,000 from the issuance of
a working capital loan in full in December 2023.
In September 2022, we received $10,587,250 in cash in a private placement
with certain accredited investors pursuant to the 12% Notes to be used for acquisition of dispensaries and operating capital.
Sources and uses of cash
We had cash of approximately $969,676 and $2,583,833, respectively,
on December 31, 2023 and 2022. Our cash flows from operating, investing, and financing activities were as follows:
Year Ended December 31,
2023
2022
Net cash used in operating activities
$ (1,125,482 )
$ (2,049,857 )
Net cash used in investing activities
$ (304,420 )
$ (1,945,586 )
Net cash (used in) provided by financing activities
$ (184,255 )
$ 4,525,226
Net cash used in operating activities decreased
in 2023 due to the decreased net loss driven from the expenses described above as well as changes in working capital components, primarily
larger reductions in inventory and increases in payables in 2023 compared to 2022.
Net cash used in investing activities decreased in 2023 due to the
decreased level of acquisitions compared to 2022.
Net cash used in financing activities increased
in 2023 due to an increase in payments on notes payable and finance leases, and less debt raised.
Capital Resources
We have no material commitments for capital expenditures
as of December 31, 2023. Part of our growth strategy, however, is to acquire businesses. We would anticipate funding such activity
through cash on hand, the issuance of debt, Common Stock, and warrants for our Common Stock or a combination thereof.
Off-Balance Sheet Arrangements
We currently have no off-balance sheet arrangements.
Critical Accounting Policies
The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the amounts of revenues
and expenses. Critical accounting policies are those that require the application of management’s most difficult, subjective, or
complex judgments, often because of the need to make estimates about the effect of matters that are inherently uncertain and that may
change in subsequent periods. In applying these critical accounting policies, our management uses its judgment to determine the appropriate
assumptions to be used in making certain estimates. Actual results may differ from these estimates.
We define critical accounting policies as those
that are reflective of significant judgments and uncertainties, and which may potentially result in materially different results under
different assumptions and conditions. In applying these critical accounting policies, our management uses its judgment to determine the
appropriate assumptions to be used in making certain estimates. These estimates are subject to an inherent degree of uncertainty.
Business Combinations
Amounts paid for acquisitions are allocated to
the assets acquired and liabilities assumed based on their estimated fair value at the date of acquisition. The fair value of identifiable
intangible assets is based on detailed valuations that use information and assumptions provided by management, including expected future
cash flows. We allocate any excess purchase price over the fair value of the net assets and liabilities acquired to goodwill. Identifiable
intangible assets with finite lives are amortized over their useful lives. Acquisition-related costs, including advisory, legal, accounting,
valuation, and other costs, are expensed in the periods in which the costs are incurred. The results of operations of acquired businesses
are included in the consolidated financial statements from the acquisition date.
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Goodwill and Intangibles
Goodwill represents the excess of purchase price
over the fair value of identifiable net assets acquired in a business combination. Goodwill and long-lived intangible assets are tested
for impairment at least annually in accordance with the provisions of ASC No. 350, Intangibles-Goodwill and Other (“ASC No.
350”). ASC No. 350 requires that goodwill be tested for impairment at the reporting unit level (operating segment or one level below
an operating segment) on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than
not reduce the fair value of a reporting unit below its carry value. Application of the goodwill impairment test requires judgement, including
the identification of reporting units, assignment of assets and liabilities to reporting units, assignment of goodwill to reporting units,
and determination of the fair value of each reporting unit. We test goodwill annually in December, unless an event occurs that would cause
us to believe the value is impaired at an interim date. See Notes 1 and 10 to our consolidated financial statements for a description of
our goodwill and intangible asset valuation and impairment policies and associated impacts for the reported periods.
Intangible assets with finite useful lives are
amortized over their respective estimated useful lives and reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of the asset may not be recoverable.
Impairment of Long-lived Assets
We periodically evaluate whether the carrying
value of property and equipment has been impaired when circumstances indicate the carrying value of those assets may not be recoverable.
The carrying amount is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual
disposition of the asset. If the carrying value is not recoverable, the impairment loss is measured as the excess of the asset’s
carrying value over its fair value.
Our impairment analyses require management to
apply judgment in estimating future cash flows as well as asset fair values, including forecasting useful lives of the assets, assessing
the probability of different outcomes, and selecting the discount rate that reflects the risk inherent in future cash flows. If the carrying
value is not recoverable, we assess the fair value of long-lived assets using commonly accepted techniques, and may use more than one
method, including, but not limited to, recent third-party comparable sales and undiscounted cash flow models. If actual results are not
consistent with our assumptions and estimates, or our assumptions and estimates change due to new information, we may be exposed to an
impairment charge in the future.
Accounting for Discontinued Operations
We regularly review underperforming assets to
determine if a sale or disposal might be a better way to monetize the assets. When an asset group is considered for sale or disposal,
we review the transaction to determine if or when the entity qualifies as a discontinued operation in accordance with the criteria of
FASB ASC Topic 205-20, Discontinued Operations. The FASB has issued authoritative guidance that raises the threshold for disposals to
qualify as discontinued operations. Under this guidance, a discontinued operation is (1) a component of an entity or group of components
that have been disposed of or are classified as held for sale and represent a strategic shift that has or will have a major effect on
an entity’s operations and financial results, or (2) an acquired business that is classified as held for sale on the acquisition
date.
Debt with Equity-linked Features
We may issue debt that has separate warrants,
conversion features, or other equity-linked attributes.
Debt with warrants – When we
issue debt with warrants, we treat the warrants as a debt discount, record as a contra-liability against the debt, and amortize the balance
over the life of the underlying debt as amortization of debt discount expense in the consolidated statements of operations. The offset
to the contra-liability is recorded as additional paid in capital in our consolidated balance sheets. If the debt is retired early, the
associated debt discount is then recognized immediately as amortization of debt discount expense in the consolidated statement of operations.
The debt is treated as conventional debt.
30
We determine the value of the non-complex warrants
using the Black-Scholes Option Pricing Model (“Black-Scholes”) using the stock price on the date of issuance, the risk-free
interest rate associated with the life of the debt, and the volatility of our stock. For warrants with complex terms, we use the binomial
lattice model to estimate their fair value.
Convertible Debt - When we issue debt with
a conversion feature, we must first assess whether the conversion feature meets the requirements to be treated as a derivative. If the
conversion feature within convertible debt meets the requirements to be treated as a derivative, we estimate the fair value of the convertible
debt derivative using Black-Scholes upon the date of issuance, using the stock price on the date of issuance, the risk-free interest rate
associated with the life of the debt, and the estimated volatility of our stock.
Modification of Debt
When we change the terms of existing notes payable,
we evaluate the amendments under ASC 470-50, Debt Modification and Extinguishment to determine whether the change should be treated
as a modification or as a debt extinguishment. This evaluation includes analyzing whether there are significant and consequential changes
to the economic substance of the note. If the change is deemed insignificant then the change is considered a debt modification, whereas
if the change is substantial the change is reflected as a debt extinguishment.
Equity-based Payments
We estimate the fair value of equity-based instruments
issued to employees or to third parties for services or goods using Black-Scholes or the Binomial Model, which requires us to estimate
the volatility of our stock and forfeiture rate.
Revenue Recognition
ASC Topic 606, “Revenue from Contracts with
Customers” (“ASC 606”) requires that an entity recognize revenue to depict the transfer of promised goods or services
to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services.
ASC 606 defines a five-step process to achieve this core principle and, in doing so, judgment and estimates may be required within the
revenue recognition process including identifying performance obligations in the contract, estimating the amount of variable consideration
to include in the transaction price and allocating the transaction price to each separate performance obligation.
The following five steps are applied to achieve
that core principle:
● Step 1: Identify the contract with the customer;
● Step 2: Identify the performance obligations
in the contract;
● Step 3: Determine the transaction price;
● Step 4: Allocate the transaction price to the
performance obligations in the contract; and
● Step 5: Recognize revenue when the company satisfies
a performance obligation.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISKS
As a “smaller reporting company” as defined by Item 10 of
Regulation S-K, we are not required to provide information required by this Item.
31