Phil Carlson - Managing Director, KCSA Nick Kovacevich - Chairman and CEO Jim McCormick - CFO and COO

Thank you. Good afternoon and welcome to Kush Bottles first quarter fiscal 2018 financial results conference call.

A replay of this call will be archived in the Investor Relations section of the Kush Bottles website. Before we begin, please let me remind you that during the course of this conference call, Kush Bottles management may make forward-looking statements.

These forward-looking statements are based on current expectations that are subject to a number of risks and uncertainties that may cause actual results to differ materially from expectations. These risks are outlined in the Risk Factors section of our SEC filings.

Any forward-looking statements should be considered in light of these factors. Please also note, as a Safe Harbor any outlook we present is as of today and management does not undertake any obligation to revise any forward-looking statements in the future.

With me on the call today are Mr. Nick Kovacevich, Kush Bottles’ Chairman and Chief Executive Officer, and Mr.

Jim McCormick, Kush Bottles’ Chief Financial Officer and Chief Operating Officer. With that, I’d now like to hand the call over to Nick.

Nick, please go ahead.

Thank you, Phil, and thank you to everyone who’s joined our call to discuss the results from our first fiscal quarter of 2018. It has only been weeks since our last quarterly update call.

However, as you are aware, the cannabis industry moves at a rapid pace. So, I’m pleased to see so many of you calling in to hear our latest updates.

We entered the fiscal year with excellent momentum as the impact of our strategic initiatives we implemented throughout last year started to take hold. This was reflected in the strong financial results reported in this quarter.

Revenues reached a record $8.85 million, representing a 258% increase compared with the corresponding period in the prior year. On a sequential basis, revenues were in line with our Q4 2017 revenues, which is the trend we’ve seen historically moving from Q4 to Q1.

Our year-over-year revenue growth was driven by both organic growth and the successful integration of CMP Wellness into our core business. Through CMP Wellness, we were able to generate strong vaporizer sales, which is one of the fastest growing segments of the cannabis market.

Our steady organic growth reflected improved recognition of the Kush Bottles brand, our broader customer reach and overall growth in the cannabis industry. Importantly, the impact of our growth strategy trickled down to the bottom line and we were pleased to report record net profit of $95,000 in fiscal Q1 2018 compared with a loss of $161,000 in the same quarter of the prior year period.

During the first fiscal quarter of 2018, our main focus was on positioning Kush Bottles to capitalize on the legalization of adult-use sales in California which took place on January 1, 2018. California is not only the U.S.

largest cannabis market but is also our home market. Estimates vary, but some reports say that California’s cannabis market is expected to reach $3.7 billion in 2018 alone and that number may increase over $5 billion in 2019.

Many of our clients have been granted temporary licenses, and we are working with them closely as California finalizes its permanent regulations over the next 6 to 12 months. As this hectic transition period begins to transform into a more normalized market, we see a tremendous opportunity to scale the business.

We have been operating in California since 2010 and have already extensively invested in sales, marketing and infrastructure to position Kush Bottles as the go-to-provider of ancillary products to California’s cannabis industry. Partnering with Kush Bottles provides our clients with meaningful advantages in two separate and distinct areas of their business strategy.

Firstly, by supporting their branding efforts, which for many emerging cannabis companies is integral to their business strategies. Establishing their brand is one way in which they can establish customer loyalty among their target market, and using our customizable branding solutions therefore gives them an edge over the competition.

Secondly, we help them to ensure they are in compliance with local and state laws, and therefore ease their concerns about how to stay on the right side of the state regulators. Nowhere is it seeing more evidence as it is in California where the state has outlined a comprehensive regulatory framework for the licensing and enforcement of cultivation, manufacturing, retail sale, transportation, storage and delivery and other aspects of the commercial cannabis market.

As a result of these regulations, our services are becoming more and more integral to cannabis businesses as they seek to establish their unique brands, while also adapting to the raft of regulatory updates associated with the adult-use legalization. While we do not expect the California market to professionalize overnight, we do believe that we have a significant opportunity to grow sales through 2018 and beyond as the market matures.

In Nevada, we have seen sustained strengthening in demand after legal adult-use sales started on July 1, 2017, and we continue to grow our customer and distributor relationships in that region as well as in other states that have legalized cannabis. The rapid evolution of the cannabis market and shift toward widespread legalization presents a major opportunity for Kush Bottles.

Recent polling data shows that 94% of Americans support medical marijuana and 64% support adult-use laws. Despite this overwhelming public support, last week it was announced that Jeff Sessions is rescinding the Cole Memo, which as many of you are aware, laid out guidelines for states to avoid federal interference with their marijuana laws.

The Cole Memo was not a federal law and we do not expect this to make any material impact to companies that are operating within their domestic states legal framework. It is our strong belief that the United States is steadily moving toward increased regulation of the cannabis plant and regardless of any temporary policy headwinds created by Jeff Sessions that this is a long-trend that cannot be stopped.

We are already seeing long-term structural changes in the industry as a result of increased state level regulation such as an increase in prepackaged cannabis products, a stronger emphasis on safety and responsible manufacturing practices which requires better labeling and put the onus on cultivars and distributors to market their products using responsible methods that comply with new regulations. While the rapidly changing regulatory landscape does create temporary confusion in the market, it is ultimately paving the way for a much more socially responsible and economically sound approach to cannabis.

This is not just our view, it is the view supported by several strong state attorney generals, many of who have come out publicly in support of legal cannabis markets. Moreover, 76% of American voters including 72% of republicans believe that federal government should not interfere with the rights of states to determine their own cannabis laws, according to survey data published by the Gallup in 2017 October.

For these reasons, we are incredibly excited about the opportunity before us and remain confident that macro trends will continue to go in our favor. But all times, we remain committed to growing our value for our loyal shareholders by not only building a stable, profitable business but also ensuring we have a strong corporate governance structure and management team in place to support our development and to a major provider to the cannabis industry.

With this in mind, we were proud to appoint Barbara Goodstein to our Board of Directors in Q1 2018. Barbara is an accomplished executive who has spearheaded award winning marketing campaigns and we believe her presence will help build the Kush Bottles brand at this critical juncture in our growth.

Furthermore, her investment background strengthens our credibility as a leading player in the cannabis space among the financial community. I am confident that Barbara will be an asset as we position the Company to further capitalize on the emerging global cannabis industry and I am proud to welcome her to the Board.

Before I turn the call over to Jim to discuss our financial results, I would like to mention that Ben Wu is stepping down as President and Chief Operating Officer and Jim McCormick will be taking on the role of COO in addition to continuing as CFO. I would like to thank Ben for all of his contributions to the Company which have helped to build Kush Bottles into the scalable best-in-class distribution platform that it is today.

Ben joined the Company four years ago when Kush Bottles was still in its infancy when the Company was sub $1 million in annual revenue and had less than a dozen full time employees. Ben has accomplished his initiatives with great success, growing the Company revenues by 20 times and increasing the workforce by six times.

More importantly, Ben has helped build a scalable platform that the Company can now leverage to continue our rapid growth for years to come. Ben will now support the Company as a consultant with new initiatives centered around regulatory, legal, M&A and new product development during this transition period.

Jim is more than qualified to take over as a Chief Operating Officer and has already proved to be an invaluable asset in his short time that he’s been here, demonstrating strong business acumen and deep industry knowledge in his role as CFO. Jim has vast operational experience including GM roles at multi-billion dollar companies and we are trying to leverage his experience to help push Kush Bottles to that next level.

With that, I will now turn the call over to Jim McCormick, our CFO and COO, who will then go over detail around our financial results for the quarter.

Thank you, Nick. I’ll now go into detail about this year’s financial results.

These are also found in our Form 10-Q, which we filed with the Securities Exchange Commission this morning. Total revenues increased 258% to $8.85 million in fiscal first quarter of 2018 from $2.5 million in fiscal Q1 2017.

This includes sales from the acquisition of CMP Wellness, which closed on May 1, 2017. The remaining increase is due to continued overall growth in a number of customers’ average order size and order volume in all states.

Gross profits increased to $2.7 million in fiscal first quarter of 2018, up from $0.8 million in the fiscal first quarter of 2017 as a result of overall growth in sales. Gross margins were 30%, compared with 34% in the prior year, due to higher sales of vaporizers, which are lower margin products.

Operating expenses in fiscal Q1 2018 were $2.5 million, compared with $971,000 in the fiscal first quarter of 2017. The increase in operating expenses was primarily due to higher SG&A costs were $1.9 million compared with $0.8 million in the same period in the prior year.

This supported expansion of our operations and build out of our sales and distribution platform as well as our internal infrastructure. Stock compensation expense increased by approximately $266,000 due to the amortization of stock options and stock payments.

Depreciation and amortization expense increased by approximately $193,000 as a result of the amortization of intangible assets associated with Roll-uh-Bowl acquisition and the acquisition of CMP Wellness in 2017. Income before taxes for the fiscal first quarter of 2018 was approximately $149,000 compared with a loss of $162,000 in Q1 [Audio Gap].

Looking ahead, we intend to continue to practice a financially disciplined approach to building out the business in line with the growth of the sector. With that, I’ll now turn the call back to Phil Carlson for the Q&A session.

Thanks Jim. Nick, following the comments earlier this month by Jeff Sessions, we’ve seen some uncertainty in the industry.

Based on this, what are you seeing in the market today and will there be any long-term impact?

As I mentioned in the call, we see the news from Mr. Jeff Sessions rescinding the Coal Memo to really have no material impact to our business.

The memo was simply a recommendation for local federal prosecutors to stay away from prosecuting any cannabis clients that are operating within the state’s framework. Now with the rescission of that, it really puts the onus on those local federal prosecutors to treat each of those instances with their own discretion.

And what we’ve seen come out so far is lack of appetite from a lot of these local federal prosecutors to even want to start talking about going after cannabis. And we believe that if there is enforcement of cannabis operators, it will be of those operators that are operating illegally hiding behind state legal frameworks to do interstate commerce and things that are really should not be allowed.

So, ultimately, we view this as not much of an impact to our business, really strengthening the need for having compliant products and practices. And we see a lot of our clients embracing this to become more compliant and to really adhere above and beyond to what their local and state regulations intend for them to do.

Great. Jim, congratulations on your recent appointment to COO.

Based on your previous experience, what do you see as the biggest opportunities today for Kush Bottles?

Well, first, thanks for the appointment. I’m very excited about taking on the additional responsibilities here at Kush Bottles.

There are numerous significant opportunities. It’s exciting time to be part of this Company and part of this sector.

In my 30 years of experience, I’ve never seen a sector that has so much potential for growth, a sector that’s expected to be top $20 billion in revenues in the very short term. So, first and foremost, that opportunity to grow in that framework is very exciting and the huge opportunity for the Company.

The second thing I see as our position as a public Company and our access to capital and giving us the ability to grow within this sector is really something that differentiates us from many of our competitors. The way the Company has been built, thanks to Nick and Ben and the team, has put us in a unique position to capture a disproportionate share of that growth as we go forward.

And as we stand here today, one of the opportunities that we have is our scale that we’ve built so far. We’ve got a presence in some of the key states, namely here in California which we’re leveraging.

And that scale will be transferable across the rest of the U.S. as we go forward.

So, I think the Company is very well positioned from an operational and a financial standpoint to grow with the sector as we go forward.

Great. Jim, can you comment on international expansion?

What markets are you looking outside of the U.S. and Canada?

And are you seeing any traction?

Well, this dovetails to the previous question. The cannabis legalization phenomenon in the U.S.

is not just isolated here; we’ve seen efforts in Europe, South America and around the world. This trend is going to continue globally.

Obviously, we have a significant opportunity right here at home, but we are keeping our eye out around the world, namely in Canada which is a very developed cannabis market and ahead of the adult-use legalization, which is in the near future -- it’s something we’re keeping a very close eye on. It represents a fairly substantial short-term opportunity.

But, we’re watching abroad as well, not just in Canada but we’ve got a lot in our play here in U.S. as well.

Okay. Nick, any plans to launch new products in 2018?

Yes, absolutely. We have said all along, this business is really a distribution platform and it’s a platform in which we want to continue to plug new and innovative products through.

And so, we are looking into the market. We have field sales reps in almost every major market here in the U.S.

We have distribution centers spread out strategically as well. And so all that market feedback gets rolled back in and over to our supply chain team and we can kind of figure out which products are going to be the most viable in different markets based on the regulation, based on the market trends, and the opportunities we see within our existing client book.

So, we are going to continue to develop new products. We’re up to about 2,500 SKUs now.

We are looking at products that are focused around the highest growth segments of the industry. One of the reason we are very excited to be fully integrated with the CMP Wellness acquisition and giving us the platform to distribute vaporizers through, we believe that there is going to be opportunities around packaging those vaporizers within regulated markets.

We believe there is going to be opportunities around the concentrate segment of the industry which is another fast growing segment and also the pre-roll segment of the industry. So, you can expect more products to come from us, more strategic partnerships but most importantly, reinforcing the supply chain to make sure that we have enough stock to meet the demand when it’s coming down the pipeline.

Okay. Another one for Nick.

Do you have any plans to expand to the East Coast with Massachusetts and Maine coming on line?

Absolutely. This is the right time to be looking at the northeast.

We just hired our first boots on the ground sales specialist in the northeast that will be out visiting clients that we already work with and prospecting with new clients, and also searching out an area to find a home based in the northeast for us to open up the distribution center there. We expect to fast track these initiatives and hopefully be there ahead of or just-in-time with the onset of those legal adult-use markets.

From everything we are seeing is Massachusetts is pushing along and hoping to legal by July 1st. That date could certainly flip, but we know there is enough medical business there that for us it makes sense to start focusing some efforts.

So, we are certainly looking at the Northeast. We are looking at other markets like Vegas where we’re getting a lot of traction in Nevada.

We are looking at Northern California and some of the mix of buying power shifting from the LA dispensary markets to the Northern California grower markets. So, there is a lot of expansion opportunity and certainly we want to be anywhere where we think we are going to get a great return on investment.

Okay. Nick, how much growth can be handled in maxing out production at existing facilities to support big changes, like the California market going recreational?

So, we have a lot of different SKUs, as I mentioned and a lot of those we try to manufacture with the contract manufacturers here domestically; a lot of them we also source from around the world. So, we are working with all of our manufacturing partners to make sure that we have ample firepower to ramp up our buying and make sure that we have product in-stock.

In terms of our distribution centers, we are currently in the process of moving our headquarters from our location in Santa Ana to our new location in Garden Grove which is significantly larger in terms of its footprint and we are building out state-of-the-art distribution capabilities there so that we can be highly efficient in that new facility. We are also looking, as I mentioned, at opening up additional distribution centers.

Whether it’s more in California, in Nevada or certainly the Northeast, we believe that we’ll have a big enough infrastructure footprint from a distribution standpoint to be able to procure and store and ship all the products that our clients need. So, it’s really a two-front effort where we’re working on just the raw supply chain production power.

And then, we’re also working on the distribution center capacity and the ability to distribute this product efficiently to the marketplace.

Okay. One more for Nick.

What was the increase in the SG&A costs primarily related to?

Yes. Our Company is right at that stage where we’ve grown from a very small Company to now a Company that’s more meaningful in terms of our size and scope.

But our goal and our ambition is to get to that next level, which we see as getting into the hundreds of millions of dollars of revenue at some point. And so, we’re preparing for that ahead of schedule.

What we’re trying to do is beef up our infrastructure. We’re trying to make sure that we have the right senior managers in place that we’re building out our junior management team, so that they are more capable and self-sufficient.

And we’re building out our sales infrastructure. Like I mentioned, we’re hiring additional resources.

And all of this is ahead of the curve playing on what we’re seeing from a regulatory standpoint coming to fruition, seeing our market opportunities in the markets where we’re already present and how those are opening up and expanding. And we believe that our investment today should pay off for us down the road.

So, we’re willing to spend a little bit more and increase that SG&A with the expectation of the return coming at some point in the near future or certainly in the years to come.

Okay. Last question for Jim.

Does the Company have any plans to up-list to a national exchange in 2018?

We certainly do. But, I think building on what Nick just said, as a company that’s building out and preparing for the future, we’re taking steps that will lead us down that path in terms of building our infrastructure, which includes our systems, our internal control framework, the addition of Barbra to our Board.

These things make us a better company. We’ve also just announced and hired a senior public company controller, who will be joining our team here, starting next week, which will give us additional bandwidth internally to meet the growing needs of the business.

So, we’re taking all of those steps as necessary steps as the Company expands. These steps are also completely in line with the up-listing process to one of the larger exchanges, NASDAQ or NYSE.

However, some of that is out of our control. Nonetheless, we do think as the Company evolves, this would be a natural step.

Whether it’s in 2018 or early 2019, I can’t really say. Again, that’s largely out of our control.

However, in the meantime, we’ll continue to take those steps, which will lead us down that path, which is just the right thing to do in the good course of governance and building the business but also as prerequisite to up-listing to one of those exchanges.

Perfect. We’ll turn the call back over to Nick for his closing remarks.

Thank you, Phil. And thank you to everyone who’s joined the call with us today.

When we think about how to leverage the cannabis opportunity, our focus at all times is on building out a diverse range of high quality products and solutions maintaining excellent supply chain management and of course upholding a financially responsible approach to business management. We believe that by striving for excellence and by being at the cutting edge of the emerging legal cannabis market, we’ve become integrated and indispensable to our cannabis clients.

So far, this strategy has been born out of our increasingly strong reputation as a high quality, reliable provider of supplies, packaging, branding solutions and compliant solutions to the cannabis market, and by rapidly strengthening our financial results. As long-term shareholders, your support of Kush Bottles is invaluable and has helped us to get where we are today.

Thank you for your ongoing support. And I look forward to updating you next quarter.