Good afternoon. My name is Krista, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Safe Harbor Financial Third Quarter 2023 Earnings Call. [Operator Instructions]..

I will now turn the conference over to Erika Kay, Vice President. Erika, you may begin your conference. .

Thank you. Good afternoon, everyone, and welcome to the Third Quarter 2023 Earnings Conference Call for Safe Harbor Financial.

Before we start, please note that remarks made today include forward-looking statements, including statements with respect to the company's outlook and the company's expectations regarding its market opportunities and other financial operational matters.

Each forward-looking statement discussed on today's call is subject to risks and uncertainties that could cause actual results to differ materially from those projected in such statements..

Actual results and the timing of certain events may differ materially from the results or timing predicted or implied by such forward-looking statements, and reported results should not be considered as an indication for future performance.

Additional information regarding these factors appears under the heading Risk Factors in the company's filings with the Securities and Exchange Commission or the SEC, which are available at www.sec.gov and on our website at ir.shfinancial.org.

The forward-looking statements in this call will speak only as of today's date, and the company undertakes no obligation to update or revise any of these statements..

Also during the call, Safe Harbor will present both GAAP and non-GAAP financial measures. A reconciliation of non-GAAP to GAAP measures is included in today's earnings press release, which you can find on the company's Investor Relations website or on the SEC website..

Today's call is being recorded, and a copy of the recording will be available on Safe Harbor's Investor Relations website. All dollar amounts expressed today are in U.S. currency..

Presenting today will be Sundie Seefried, Chief Executive Officer; and Jim Dennedy, Chief Financial Officer of Safe Harbor. I'll now hand the call over to Sundie. Sundie, please go ahead. .

Thank you, Erika, and welcome to our 2023 Third Quarter Earnings Call. This is a very exciting time for Safe Harbor as we continue to advance new growth opportunities to scale our compliant cannabis finance infrastructure with the introduction of new deposit and credit tools for cannabis-related businesses or CRBs.

Our third quarter results speak to the strength of our fintech platform as it continues to support the cannabis industry with access to these financial services while driving new high-margin revenue streams for Safe Harbor..

onboarding due diligence fees, monthly account compliance fees based upon deposit activity, Safe Harbor programming licensing, investment income and loan activity income composed of origination fees, servicing fees and interest income..

We partner with financial institutions, utilizing their balance sheets for both lending and depository activities in exchange for a fee-share agreement.

Our proprietary fintech platform connects our CRB clients and the financial institutions allowing Safe Harbor to service the CRB clients directly, while the financial institution remains the money transmitter.

This fintech platform, which sits on top of the financial institution and interfaces with its core system allows us to provide a robust and compliant cannabis infrastructure for our clients. Whereby they can make payments [ to suppliers ] and facilitate other transactions.

The Safe Harbor interface directly works with the financial institution to fulfill requests and share data between Safe Harbor and the financial institution for servicing clients and allowing Safe Harbor to manage compliance and other support services..

Onboarding due diligence fees, CRBs being a high-risk market due to the cash intensive nature of the business require greater attention to KYC or know your customer regulations.

This is a labor-intensive activity requiring human resources to analyze the safety and soundness of the operation and prevent any non-licensed or illicit entities from accessing the financial system. Because this often takes approximately 2 weeks, we charge our incoming clients a fee for onboarding. .

Monthly account compliance fees based upon deposit activity, CRB accounts require additional monthly quarterly and/or annual monitoring and validation of funds to meet bank secrecy obligations. We charge monthly fees on accounts for this monitoring and validation, averaging over $700 per account per month.

Additionally, we earn fees on depository transactions such as wire, ACH origination and other financial service transactions..

Investment income, our financial institution agreements allow us to profit from CRB balances on deposit. The majority of our deposits remain liquid and earn overnight rates from the Federal Reserve, and we share fees on this income as part of our agreements with our partner financial institutions..

Loan activity income, our fastest-growing income is from building our credit portfolio. This income consists of an origination fee on the requested credit facility, annual servicing fees for monitoring and interest income.

Safe Harbor earns a spread on the difference between the interest rate and the cost of funds negotiated with our partner financial institutions, allowing for a more reasonably priced credit facility.

Due to the complex nature of the cannabis businesses as well as other risk factors resulting in a higher level of monitoring, we are able to charge a premium rate compared to normal commercial lending rates..

Safe Harbor program licensing. We do not actively seek to sell our IP licensing to new financial institutions as a primary source of revenue, but carefully consider the markets that we could license to another financial institution in exchange for utilization of our proprietary software and IP.

This provides a minor percent of revenue but allows us to focus on the fastest-growing markets while still profiting on less desirable markets. As you can see, our business model is unique, operating at the intersection of finance and cannabis industry.

Growth in each of these revenue segments speaks directly to the value and need for our specific expertise within our finally developed business lines..

With that, I'd like to turn to our key growth metrics, which clearly correlate one with another. Account relationship equates to an increased deposit base. Increased deposit base equates to greater lending opportunity at more favorable cost of funds.

And the combination of both depository and credit services equates to long-term profitable relationships together building market share..

Account relationships, deposit base. We had a key milestone in the third quarter by facilitating through our partner banks, over $20 billion in cannabis-related funds since our inception in 2015. We remain on target to exceed $4 billion in deposits in 2023, which would represent a 31% increase over 2022.

Our strong quarter 3 deposit activity resulted in $2.23 million of deposit and onboarding income, an increase of over 63% from the same period in 2022. Our average active accounts for the quarter increased 49.6% to 986 from 659 in the third quarter of 2022..

Balances on deposit increased 36.5% to $216.9 million in the third quarter of 2023 compared to $158.9 million in the third quarter of 2022. Our increased deposit base has also had a significant impact on investment income.

These rate increases have positively affected our overall investment income, which increased 112% year-over-year to $1.19 million in third quarter of 2023..

Lending opportunities, we continue to see a strong demand for CRB real estate lending and are consistently maintaining a pipeline of potential credit opportunities in excess of $100 million. Securing the best collateralized loans is a priority..

In July, we increased our lending and deposit relationship with a Tier 1 multistate operator by originating 3 new loans for affiliates of the MSO in the aggregate amount of $4.3 million. In September, we originated a $3 million loan for our Washington-based THC-infused beverage company to support its national expansion..

Our increased loan activity is driving a new level of growth for Safe Harbor. Not only are we growing the number of CRB accounts alongside lending relationships, we are growing their value as we recognized new revenue streams from newly launched services.

In the third quarter, we issued a total of $7.2 million in credit facilities, bringing our loan balance over $42 million, with present term sheet commitments issued in excess of $20 million and our ongoing ability to extend highly competitive rates, due to our established banking relationships, we expect a solid fourth quarter..

As you know, we're currently operating in a rising rate -- rising rate environment that has seen rates go from near 0 in March of 2022 to the current federal funds rate of 5.5%.

While these rate increases have been necessary to cool high inflationary measures, the rate increases have also helped to generate additional revenue for the company as we saw our loan interest income increased by almost 120% to $906,213 from $412,296 in the third quarter of 2022..

New credit products. I would like to now -- like to discuss the new financial services that we have successfully integrated into our platform this past quarter. Early in third quarter, we launched an interest-bearing deposit accounts to provide depositors with the opportunity to earn interest on deposited funds.

This is a first interest-bearing account product broadly available to U.S. cannabis businesses. In September, we launched a new line of credit products nationwide, creating credit facilities for cannabis enterprises ranging from $25,000 to $1 million at market lending normalized rates.

With the introduction of these new financial and treasury tools, Safe Harbor is providing its ability -- proving its ability to play an integral part in normalizing banking for cannabis and -- for the cannabis industry to drive future cannabis finance..

I would like to take a minute to discuss our recent announcement regarding the restructuring of certain deferred consideration with Abaca in November of 2022. Following the closing of the initial transaction, which closed in November of 2022, the cannabis industry as a whole has been impacted by ongoing legal and regulatory roadblocks.

In order to prevent dilution of stock at the 1-year anniversary of closing, we worked with the Abaca founders and shareholders to support the long-term viability of Safe Harbor by restructuring the original terms of the Abaca acquisition. .

As a result of our mutually agreed upon amended terms, we were able to reduce the over-dilution by 10% while providing long-term benefits to both the company and its shareholders.

I'd like to thank the Abaca shareholders for their willingness to come to an updated agreement, and we look forward to executing on our business strategy while expanding our footprint across the U.S..

SAFER Banking Act. Before turning the discussion over to Jim, I would like to touch on the macro environment and how we believe recent legislative developments will positively impact Safe Harbor.

The advancement of the Secure and Fair Enforcement Regulation, SAFER, Banking Act and recent push to move cannabis from a Schedule 1 to a Schedule 3 drug under the Controlled Substances Act, is reshaping the legal and regulatory landscape surrounding cannabis and is opening the door to additional growth opportunities for Safe Harbor to serve a larger customer base.

As advances are made to loosen the regulatory strangle on the cannabis industry, we believe more and more cannabis businesses and financial institutions will seek our expertise in facilitating reliable and normalized banking services to grow their businesses as these financial solutions become more readily available. .

The SAFER Banking Act, which passed the Senate Committee vote in September, provides protection for federally regulated financial institutions that serve state-sanctioned marijuana businesses, creating new opportunities to offer deposit accounts, insurance and other financial services to companies operating in this space.

While this is a positive step forward toward legalizing the cannabis industry, challenges remain for financial institutions banking the cannabis companies to fulfill their BSA obligations..

As the cannabis industry continues to mature, we believe Safe Harbor will increasingly become the go-to fintech partners to CRBs and the financial institutions serving the industry. I'd now like to turn the call over to Jim to discuss our financial results as of September 30, 2023.

Jim?.

Thank you, Sundie, and good afternoon, everyone. For the 3 months ended September 30, 2023, Safe Harbor reported revenue of $4.3 million, up 79% from $2.4 million in the comparable prior year period.

For the 9 months ended September 30, 2023, Safe Harbor reported total revenue of $13.1 million, an increase of 122% from $5.9 million for the prior year period. In the third quarter of 2023, revenue for deposit, activity and onboarding was $2.2 million, an increase of $864,000 or 65% versus the comparable prior year period..

For the 9 months ended September 30, 2023, revenue for deposit activity and onboarding was $7 million, an increase of more than $2.8 million or 67% versus the comparable prior year period.

The increase for both the 3 months ended and the 9 months ended periods was attributable to the acquired accounts from the Abaca transaction, an increase in the total number of accounts and a higher level of deposit activity than the prior year periods..

Revenue earned in the 3 months ended September 30, 2023, for investment income was $1.19 million, an increase of $627,000 or 111% versus the prior year period. For the 9 months ended September 30, 2023, investment income was $4 million, an increase of $3 million or 300% versus the prior year period.

The increase is attributable to higher interest rates and significantly higher deposit balances maintained by our clients with our financial institution partners..

In the third quarter, loan interest income grew 119% or $493,000 versus the comparable prior year period to $906,000. For the 9 months ended September 30, 2023, loan interest income grew $1.3 million or 191% versus the comparable prior year period to $1.98 million.

The increase in revenue was attributable to placing a greater volume of high-quality loans in both the 3 months ended and 9 months ended periods versus the prior year periods..

Safe Harbor program income for the 3 months ended September 30, 2023, decreased by $31,000 or 81% versus the prior year period to $7,000 and for the 9 months ended September 30, 2023, Safe Harbor program decreased $78,000 or 62% versus the prior year period to $48,000.

The income decrease in this element of revenue has been intentional as we strategically reduced the number of financial institutions permitted to license our program..

Moving down the income statement. For the 3 months ended September 30, 2023, total operating expenses were $3.8 million compared to $1.6 million for the comparable prior year period.

Total operating expenses include employee compensation and benefits, professional services, rent, provisions for loan losses, sales, marketing, general and administrative expenses.

The increase in operating expenses was largely driven by an increase in employee compensation and benefit-related expenses, professional services expenses and provision for loan losses. For the 9 months ended 30 September 2023, total operating expenses were $32.1 million versus $4.2 million in the prior year period..

Excluding an impairment charge of $16.9 million taken in the second quarter of 2023. Total operating expenses for the 9 months ended September 30, 2023, were $15.2 million.

Apart from the impairment charges in the second quarter, the higher operating expenses for both the 3 months and 9 months ended 2023 compared to their respective prior year periods were attributable to increased headcount, resulting from stand-alone operations separate from Partner Colorado Credit Union, higher compensation-related expenses and stock-based compensation expenses.

The increase in professional service expense was largely associated with the [ de-stack ] transaction and restructuring of de-stack related financial instruments. The increase in loan loss expense was attributable to the higher amount of credit placed in 2023 versus 2022..

Compared to the preceding quarters of 2023, when separating out the impairment charges, the business has reduced its overall level of operating expense as we continue to focus on expense elimination and efficiency gains throughout all elements of the business.

Consequently, net loss in the third quarter of 2023 was $748,000 compared to net income of $595,000 in the comparable prior year period. And for the 9 months ended September 30, 2023, the company reported a net loss of $19.8 million compared to net income of $1.4 million in the 9 months ended 2022..

When adjusting net income for interest, taxes and depreciation and amortization expense and further adjustments to exclude noncash, unusual and/or infrequent costs, we compute on adjusted EBITDA which management believes is a better measure to evaluate our operating performance.

A reconciliation of net income to adjusted EBITDA is provided in the press release and 8-K filed earlier today. Adjusted EBITDA for the quarter ended September 30, 2023, was $1.05 million versus $1.02 million in the comparable prior year period.

And for the 9 months ended September 30, 2023, the company reported adjusted EBITDA of $2.3 million versus $2.15 million in the comparable prior year 9 months ended 2022..

Moving to the balance sheet. At the end of September 30, 2023, the company reported cash and cash equivalents of $8.95 million compared to $8.4 million at the December 31, 2022.

Cash used in operating activities through the third quarter of 2023 was $225,000 versus $1.97 million in cash provided by operating activities in the comparable prior year period.

This was mainly due to the previously cited higher than normal run rate for compensation and employee benefits in 2023 as well as a higher than normal run rate for professional service expense in 2023 associated with working through the many complex financial instruments placed at the time of the de-stack in September of 2022..

Turning to our liquidity. The company reported a net working capital deficit on September 30, 2023, of $9.4 million versus $39.3 million at December 31, 2022. Our working capital deficit of $9.4 million includes $14.7 million associated with the deferred consideration owed to the sellers of Abaca in the form of stock -- common stock of the company.

Excluding the stock portion of the deferred consideration, the company would have had a positive working capital of approximately $5.3 million, an increase of more than $2.8 million over the prior sequential quarter, the period ended June 30, 2023..

Looking ahead to the balance of 2023, we expect to report full year revenue for 2023 in the range of $16 million to $16.5 million. Looking beyond the year-end, the company is pursuing initiatives to catalyze higher rates of growth for the business. We are in discussions with several financial institutions to acquire their portfolio of accounts.

This will bring new client depository relationships in new states and will bring relationships with additional financial institutions. These new relationships will increase the total number of accounts, total value of deposits with financial institution partners and total lending capacity..

To capitalize these initiatives, the business is also in discussions with partners to invest in our company to fund these growth initiatives. In our discussions with our capital partners, we are mindful that the cost of capital to fuel these growth initiatives needs to be less than the return on invested capital we expect from these pursuits.

We have a well-developed model for this type of analysis, and we rely on this model to help inform the purchase price of the acquired portfolio, including the cost of merger integration, contain the cost of capital such that any project we pursue will be accretive to the income statement, balance sheet and shareholder capital and shape the business plan so that we earn the expected return model..

Beyond our full year revenue guidance, we have not issued detailed guidance to date due to the transition of our company from a private to a public company. However, we do intend to provide more detailed guidance in the coming year.

We believe after a year of performance and managing through the de-stack and debt issues, we have a great ability to anticipate future revenue, operating expenses, earnings and other key metrics important to our shareholders..

With that, I will now turn the call back to Sundie, if -- or to the operator for any questions. .

[Operator Instructions] Your first question comes from the line of Will Waller from M3F, Inc. .

You disclosed in the press release that deposit balances on average at the financial institution clients were about $216.9 million in the quarter. I was just curious if you could disclose how much of that roughly is Partner Colorado Credit Union versus other financial institutions. .

Well, I'll take that question. We haven't disclosed that in previous calls or disclosed it publicly. But I would say the easiest way to come about is about 3/4 of that, anywhere from like 2/3 to 3/4 of that is of Partner Colorado. .

[Operator Instructions] We have no questions in our queue at this time. I will now turn the call over to Sundie Seefried for closing remarks. .

Thank you. I would like to thank everyone again for joining us on today's call and for your continued interest in Safe Harbor Financial.

We have proven the strength and value of our business model, now given our strong financial institutional partnership network, which continues to grow and our success in advancing new growth initiatives to meet the needs of today's cannabis industry participants, we believe we are on a strong path for continued results..

We look forward to updating with you on our next -- continued progress on our next quarterly conference call. Thank you, and have a great day. .

This concludes today's conference call. Thank you for your participation, and you may now disconnect..