Village Farms International, Inc. (VFF) on Q1 2021 Results - Earnings Call Transcript
Operator: Good morning, ladies and gentlemen. Welcome to the Village Farms International's First Quarter 2021 Financial Results Conference Call. This morning Village Farms issued a news release reporting its financial results for the first quarter ended March 31, 2021. That news release, along with the company's financial statements are available on the company's website at villagefarms.com under the Investors heading. Please note that today's call is being broadcast live over the Internet and will be archived for both replay by telephone and via the Internet, beginning approximately one hour following completion of the call. Details of how to access the replays are available in yesterday's news release.
Michael DeGiglio: Thank you, James. Good morning, everyone. With me for today's call is Village Farms' Chief Financial Officer, Steve Ruffini. This morning, I'll spend a few minutes highlighting the key takeaways for the quarter and then Steve will review the financial results and I'll return with some concluding thoughts and then we'll open up the call to questions. On to the quarter. So, Q1 was a solid start for 2021 for Pure Sunfarms, most notably retail branded sales, which is the core focus of the business increased 20% sequentially and marks our third consecutive quarter of 20% or greater sequential growth. That's a 115% increase in our retail branded sales over the last three quarters, and when we factor in the fewer numbers of selling days in Q1 as compared to Q4, our sequential retail branded sales growth was actually 23%. We would have been pleased with the Q1 growth in a normal market environment, but we view this performance as especially encouraging, given the softness in the Canadian retail sales in Q1 due to the impact of the pandemic-related lockdowns across much of Canada. Clearly, Pure Sunfarms has excellent momentum, momentum that's being driven by the right marketing strategy and the successful execution of that strategy. Specifically, high quality premium products that customers want at an everyday price. And I want to note that that includes our large format offerings, which includes our highest quality strains in the large format.
Stephen Ruffini: Thanks Mike. Just to reiterate, our 2021 Q1 results reflect a full quarter of Pure Sunfarms results, whereas when comparing our consolidated results to Q1 2020, Pure Sunfarms was not consolidated. As such, sales, cost of sales, and SG&A have changed significantly year-on-year. To simplify the comparison of Pure Sunfarms' results as we've done in the past, we show that Pure Sunfarms results for Q1 2021, Q4 2020, and Q1 2020 on a standalone basis in our press release. With the addition of a full quarter of Pure Sunfarms, we have begun segment reporting in 2021. Our operating segments are produce cannabis, clean energy, and corporate, most of which are related to being a public company and have historically been included inside the produce division. I also want to note again, as I did last quarter, that our results for Pure Sunfarms reflect the non-cash impact of the write-up of inventory to its net realizable value upon the acquisition of all of Pure Sunfarms last November. That impact was a US$2.8 million or CAD3.5 million increase in our cost of sales in Q1 2021 compared to a US$3.3 million and a CAD4.2 million Canadian write-up in our cost of goods sold in Q4 2020. This effectively meant that from accounting perspective, a portion of our Q1 sales and our Q4 sales had a zero gross margin as they were written-up to the fair market value on the acquisition date. But I also need to remind the audience that offsetting this was a $23.6 million statutory gain we realized upon the acquisition of Pure Sunfarms in Q4 2020 on the books of Village Farms. With respect to what's remaining, there is a little less than US$1 million of increase in the fair market value left on our Pure Sunfarms inventory, so we're about through with the inventory write-up.
Michael DeGiglio: Hi, thanks, Steve. So concluding here on my closing comments before we take some questions. As we look ahead to 2021, we believe it's shaping up to be another year of steady progress and execution and our strategy based on large scale, high growth opportunities for the near term, medium, and long-term. As we have been throughout our 30 year plus history, we will be prudently optimistic. It is an opportunistic as well. It is a year of building on a tremendous success of Pure Sunfarms to-date, taking Pure Sunfarms to the next level of success, revenue growth, and profitability. And we do expect to continue to capture more of our proportionate share of the growth in the Canadian market as I mentioned. Our model for consistent, sustainable profitability has been proven and our significant economies of scale over the next year will propel this to new levels as we capture more of the industry's profit pool. Medium term, we will continue to be optimistic about the evolution of the regulatory environment in the USA. We are being patient, prudent, and strategic to ensure responsible investment in the right way at the right time. The U.S. is clearly a massive opportunity, but it's also a long-term opportunity. Using my boxing metaphor from earlier, the bell that start the matches barely run in the USA. We are aggressively working behind the scenes, continuing to evaluate the breadth of opportunities from our seat here in the United States to be prepared regardless of how this plays out. I want to remind you that in Canada Pure Sunfarms entered the branded retail market at least many of the other large players. Being a later entrant too allowed us to create a winning business plan and the most profitable business model at Pure Sunfarms and we think that same dynamic is setting up in the U.S. market as well, because, in fact, we think it is likely that the U.S. market will look very different than it does today upon full legalization, and that will give new entrants to market a significant advantage. Because of how the regulatory environment unfolds, we are preparing with multiple parallel strategies that will bring us to bear our deep experience including now our success in Canada. Our organizational strength and one of the largest greenhouse footprints in the USA. Again, over 6,000,000 square feet in some of the best-growing areas in the Continental U.S. For the longer term, we are planning to see to leverage our cannabis success and leadership beyond North America to strategically targeted markets, where there is high growth opportunities in these international markets, again through efficient capital investment and we believe our foundation in Canada, especially cultivation expertise positions us well for success. As I noted on our last call, we increased our investment in our Asia-Pacific partner Altum earlier this year to 12%, which is indicative of both the progress and our increased confidence in the opportunity here. Before I open the call to questions, I want to touch on one important topic that has long been a part of our DNA here at Village Farms, one that in these heady days of early days of cannabis industry, we haven't spent much time talking about and that is sustainable agricultural practices. Controlled environment greenhouse growing is by far the most sustainable form of agriculture, period. We are now the oldest operating greenhouse produce company in the United States with over 30 years behind us. And in this responsible way of growing, just to reiterate, we don't use soil, so there is no soil erosion depletion of nutrients. We can grow 30 to 40 times more yield per acre than a field grower. We recirculate water, meaning 86% less water usage than outdoor growing. And no reaching into the ground water whatsoever. We capture our CO2 from our boilers and put it back into our greenhouses, which the plants convert to oxygen, meaning not just a neutral carbon footprint, but negative carbon footprint. All of this has long been a foundational principle of a produce operations, which now has enabled us to lead the cannabis industry in this regard, where the cultivation practices are identical. It's something we're quite proud of not only because of the positive environmental and social implications, but also because we know it makes us better, more profitable operators. With that, we'll turn it over to any questions that anyone has. Operator, James?
Operator: And our first question comes from the line of Doug Cooper with Beacon Securities. Go ahead, please. Your line is open.
Doug Cooper: Just a couple things for me. Just first let's start with - on the gross margin. I just want to make sure I'm clear, Steve. So reported gross margin 29%, is that inclusive of the inventory write-up that you talked about?
Stephen Ruffini: We back that out, so that's the true gross margin. That store gross margin is left.
Doug Cooper: Okay. And that includes some cost of sales in there, correct? So if I take the 22.1 times 0.29, G&A was $5 million in the quarter, Pure Sunfarms?
Stephen Ruffini: Yes.
Doug Cooper: So excluding cost of sales that are included in the gross margin, you are upwards of mid 30s, I would guess. Is that right?
Stephen Ruffini: No, the 29% we've added back the inventory
Doug Cooper: The inventory, but not the - there is still depreciation of the fixed assets in that number, correct?
Stephen Ruffini: Correct. Yes, we've always - both in produce and cannabis we always include depreciation as part of cost of sales.
Doug Cooper: Okay.
Stephen Ruffini: Capital has not decreased.
Doug Cooper: Yes. Can you give us an idea of sort of what the pricing environment is like and maybe just what percentage large format was of your flower sales in the quarter?
Stephen Ruffini: Yes, I mean, with respect to the pricing environment, there was no change in our pricing. I mean, pricing does vary based on strains, and obviously based on format. But quarter-on-quarter sequentially there was zero change in our - I can't speak to the overall marketplace and what other people are experiencing, but with respect to us, it was . The SKUs that I did look at was exactly the same. With respect to the breakdown for the quarter, between large format and small format, the large format was roughly, let's say, 60% of our flower sales and small format was 40%.
Doug Cooper: Can you give us an idea what the pricing differential between those two is on a per gram basis?
Michael DeGiglio: Again, it's based on the strains. It varies.
Doug Cooper: Okay. Longer term when you get more production in, you get more economies of scale, what would your long-term EBITDA or gross margin targets be you think? What should we be thinking about from a longer-term perspective, assuming pricing remains where it is?
Michael DeGiglio: Well I mean, there is a lot of variables, Doug. I mean, who is going to be in the marketplace, that's one thing. It's still too many players. So I think long-term we have to look at who are the survivors. That's going to be a big impact as well. So I think - we think it will get better, but we are forecasting those stay pretty steady, because again our pricing is based on what the pricing for the gray market is regardless of anyone else. And as that changes then maybe pricing will increase going forward.
Operator: Our next question comes from the line of Aaron Grey with Alliance. Go ahead please. Your line is open.
Aaron Grey: Good morning, thanks for the questions. Great to see the continued growth on the flower side quarter-over-quarter, so want to specifically kind of speak to Ontario where you guys continue to outperform. Just curious, as we see more stores roll out in the province, particularly after things normalize from COVID hopefully soon? Can you speak to how you're working to ensure Pure Sunfarms has the appropriate shelf space to continue or maintain gaining share and as these incremental stores come online? Thanks.
Michael DeGiglio: Yes, I think, we're well positioned for that. I mean, some of the - besides the lockdown at the consumer level and the stay-at-home orders especially in Ontario, that's affected commerce in such that the distribution centers are maybe not operating at full capacity for the same reasons, store rollouts as well. So as I said in my remarks, we've been in contact and our future growth is based on the confidence we have in discussing that with the provincial distributors. So we feel very solid about gaining more market share as gets back to normal, whenever that may occur in Canada.
Aaron Grey: All right, great thanks for that color. And then second question from me is just on the 2.0 products. Michael, you mentioned slight quarter-over-quarter - you mentioned that you're hoping they'd be a little bit better, yourselves have spoke to kind of a different competitive environment with more producers are specializing in that part of the market, I think is what you said? So just curious, because you've had such great efforts in terms of your 1.0 flower product on the Pure Sunfarms brand, how are you looking to kind of potentially leverage that with 2.0 products? What are your plans to hopefully improve your performance in the category to perform better to what you would like to expect? Thanks.
Michael DeGiglio: Yes, well, the team at Pure Sunfarms, as I said they are very focused on it there and war room mode right now as they say and looking at those products. But again, I want to remind everybody, we didn't roll any of those out until the later part of last year so, we're not even approaching a full year and again, we're at 90%, 92% of the approved products from Health Canada just not in confectionery or beverage. We think those markets still are quite small and have to be proven out, not that we won't be at some point if we think there's going to be traction there, but within the other 2.0 products, yes, we are focused on increasing that market share. We think some clarity coming out of Health Canada that will help that position and I won't comment more on that. But also, we think we've put - like our gummies we put that against anyone with all fresh fruit and the taste. And I think potency we have a lot more strains coming on with higher potency. It seems to be what the market is really looking for. So I think a combination of all those attributes because the high potency will translate into some of the derivative products as well. And we just keep hammering away, but that's the best color I can give you at this point.
Operator: Our next question comes from the line of Rahul Sarugaser with Raymond James. Go ahead, please. Your line is open.
Rahul Sarugaser: Thank you for taking the questions and, congrats on the strong quarter just wanted to - both of you brought up the inventory write-off. I was wondering to get a little more clarity here. So it looks like that write-off for the quarter was - that non-cash write-off was around $2.9 million. So if we add that back or effectively correct that on the reported EBITDA of $0.4 million that would actually be an EBITDA of around $3.3 million. Is that right?
Stephen Ruffini: What was that question again, Rahul? I wasn't - you broke up there?
Rahul Sarugaser: I'll repeat that. So given the non-cash write-off of inventory on the consolidation, given that - and also that the adjusted - your reported adjusted EBITDA was $0.4 million. So if we correct for that, the corrective adjusted EBITDA number was - equals to $3.3 million, is that right?
Stephen Ruffini: No, we've added it back already.
Rahul Sarugaser: You have added it back. Okay, great. And then in terms of the 20% quarter-over-quarter growth in retail sales now, we've seen many of your peers showing declining quarter-over-quarter growth? So could you give us a little more color, Mike, potentially on how Pure Sunfarms has been able to drive that while much of the sector is showing a decline?
Michael DeGiglio: Well I mean, I kind of said in my remarks, Rahul, I think that one, the execution by Pure Sunfarms and the quality of the products at the price point, we have is just driving. That's been our model from day one, that's been our strategy. We've never wavered from when we entered the market that we need to - that price point. You have to have - I think it's - everything we produce is a premium quality and I think people talk about premium and value. It's nothing value. Our high format, large format rather is made up of 100% of our top selling strains. It's not secondary product or anything. So we just discount it because it's a high volume sales. So if you go into Costco and buy four pounds of olives you are going to get a better price than go into a regular grocer where you buy a can of olives. And I think that sometimes gets misconstrued, maybe some in the market want that to be misconstrued that it has to do with the premium versus non-premium product if there's anything from truth. And I think that's resonated, because even in today's pandemic times in Canada where people want a good deal on a large format, you could see that drove about 50%, 60% of our sales in the first quarter. If it wasn't premium product, it wouldn't be there. And I can't speak for what others are doing, but we saw the data where there was a client with everybody and we just think it has to do it our quality strains, our execution that's driving. And that's why I said, we're very proud of that execution by the team and we think we've got it pretty right so far.
Stephen Ruffini: Yes Rahul, 75% of our large format sales were the single strains, so that's what's moving the needle, because of our quality, we're able to do that.
Rahul Sarugaser: No, no.
Michael DeGiglio: And of course, because of our cost of production as well, I just want to make that clear. We couldn't do it and be profitable if we didn't have low-cost production, we did and the scale.
Operator: And our next question comes from the line of Eric Des Lauriers with Craig-Hallum Capital. Go ahead, please. Your line is open.
Eric Des Lauriers: Okay, great. Thanks for taking my questions guys and congrats again on the steady execution here. I was wondering if you could talk a bit more about the dynamic between retail and wholesale channels, especially as provincial buyers are becoming more prudent with their inventory purchases, presumably that would benefit you guys with the number one retail brand? But wondering if you could talk a bit more about how that's impacting your wholesale buyers. You mentioned a profitability threshold. Just wondering if you can sort of elaborate a bit on how these changing purchasing dynamics at the provincial level are impacting your wholesale customers? Thanks.
Michael DeGiglio: I can't speak for others that we sell, but if I was to put myself in that environment and I do. I look at it that in order to compete at the retail level, if you're not being able to cultivate your own product that meets that quality that. And what the market wants, let's just say in terms of freshness, quality, and potency at a profit, then you have to go out and buy product from competitors, so to speak. However, if you have to compete with the price points that are out there, not just Pure Sunfarms, but as I said, the price points were set by the gray market and are to a large degree that you have to be able to purchase at a lower enough price to then be able - purchase bulk at a low enough price, then package it, label it, do all the things you need to do, sell it, make a profit and be competitive. But I think that's a hard row to hoe up in Canada, so to speak. So that's why we're really not focused on it, but we're not going to just sell it at a price that doesn't make sense. The other thing is, as the market is demanding higher potency, that's first and foremost for us and of course, others would want that higher potency and there is a limit to what that is and we're never going to lower our inventory levels for future quarters beyond what we think is prudent to meet retail customers' demand. So there's a lot that goes into it and that's why we say it's very strategic and we're much more - we call it unbranded sales because there is a portion of that those sales that are going to maybe light asset model players that are strategic and are willing to pay us a higher price, because they have a branded situation as opposed to maybe other LPs. And I want to elaborate more, but I hope that helps.
Operator: And our next question comes from the line of Scott Fortune with ROTH Capital Partners. Go ahead, please. Your line is open.
Scott Fortune: Yes, good morning and thanks for taking the questions. Want to call out some of the other provinces and just with respect of you bringing on more production starting in third quarter from the Delta 2 facility. How much of this is driven from Ontario or you have some of the new provinces? I know you're not in Quebec or some of the other provinces opportunities going forward here for you guys?
Michael DeGiglio: Yes well, in our plans we didn't this year include Quebec. Of course we're working hard on it. We would love to be in Quebec, but we want to be realistic with the timing of that. But I think one of the drivers for Ontario was just the aggressive roll out now. They are really on a fast track rolling out of the stores. We didn't see that much in the other provincial areas. So I think post lockdown that those provincial areas will continue to add retail stores, which will help. But I would say, outside of Quebec, Ontario is a big driver, but so is BC and so is Alberta. And keep in mind that our Delta 2 facility, like our Delta 3 has 16 grow rooms. So as we bring on eight by the end of the year, we can vary that down to seven, increase it to nine to 12, till we get to full capacity. And that's something that we're doing every month as we rationalize the increase in capacity. Again, as I mentioned in my comments, we're not going to produce what we can't sell and have huge inventory levels. That just doesn't make sense, but we have complete flexibility. And as I said, Scott, last summer we brought down production very low to align with what the market was and what our specific sales were. So I think that formula for managing that is solid for us.
Scott Fortune: And just kind of a follow-up, maybe Steve can help. What is the CapEx for the kind of the target for the year? And then on that note, what about additional international initiatives going into Europe potentially? I know you guys are looking at kind of getting EU GMP certified per se. From that standpoint, any color on kind of the European timing or initiatives over there?
Michael DeGiglio: Well, I'll answer the second part and I'll turn it to Steve on the CapEx. So we have been aggressively working on the European theater. It's - the pandemic has affected things there. It's a highly regulated market. We definitely want to be engaged in it, but we don't feel pressured to move forward just for the sake of announcing it without the right strategy, which is clearly going to leverage up our strengths that have proven ourselves in Canada. Just like we are in the U.S., for the EU, we're watching it very clearly what the penetration rates of medicinal are in the other states. So, we're being patient as well. As far as the Netherlands, we're not out yet. We've been working on that. The coffee shop experiment there, can't say much more about that. And then in the Asia-Pacific region, as we mentioned, we are gearing up there. In fact, we should hopefully have our EU GMP certification by August-September this year. We're ramping up now to start commence high THC sales at a Pure Sunfarms for the medicinal market in Australia. We think we'll be shipping product this year to start and ramping up our programs in Australia as well as supporting Altum in their continued penetration into Hong Kong and we're working on Japan now and of course other markets for the future. So those are the two areas internationally that we are very focused on, but I do want to say that, number one is the USA as I mentioned. We just don't want to - we want to be very clear on how the USA is going to go forward. We don't want to deploy capital that would be sunk cost type of investment down the road as things change in that environment.
Stephen Ruffini: And, Scott, with respect to CapEx, remaining CapEx for the rest of the year is between US$22 million and US$25 million, between produce and cannabis for rest of this year. Much of the Delta, the West half of Delta 2 is completed. It's waiting for Health Canada's seal of approval and the rest is - CapEx for the year is partially the East half of Delta 2 as well as enhancements to our operations both with cannabis and with produce.
Operator: Our next question comes from the line of Rahul Sarugaser with Raymond James. Go ahead, please. Your line is open.
Rahul Sarugaser: Thanks, Mike and just one quick follow-up question. There has been quite a few movements in the Texas legislature and given the significant assets that you have in Texas? Are there any thoughts you can share in terms of how those legislative changes that are - or potential legislative changes may impact how you guys are looking at the states in the U.S.?
Michael DeGiglio: Well, Steve, we are hoping that the state would move more aggressively into medicinal. Yes, the House did pass a bill, but their definition medicinal was to increase the THC to 5% which is still really low, particularly for our patient. So doesn't really necessarily assist a lot of the people that need higher THC, which is unfortunate. That being said, the Senate hasn't even - essentially, they have recognized the House Bill, but they haven't even assigned it to a committee yet and time is running out. So at this stage, we don't see any room, but things could change over the next two weeks. Ultimately, what we believe may happen like Texas itself isn't going to move, but the Texas constitution forces it to follow federal law. So with the federal government, we will reschedule cannabis which Schumer and others in the federal government have certainly been hinting towards, then Texas will have to move, so which is fine. So maybe Texas legislature will be forced to catch up with the times and ultimately Texas is a very business-friendly state. As we stated, cannabis, particularly where we're located in West Texas, it's great growing climate. And we believe Texas will get onboard kicking and screaming maybe, but they will get onboard with the rest of the United States hopefully, next year at the latest.
Stephen Ruffini: Yes, and I would just say, yes, we're a little bit disappointed. We've been operating there for a quarter century or more and it was a slow start on hemp in Texas. So maybe this legislative session won't happen. Steve said the entry point will be the federal. But the other side of that coin is, nobody's there. So when it goes, we will go aggressively either way, whether it's Texas first, or the federal government first. And I think at some point, when you really look at the Northern country Canada and Southern country Mexico all legalizing as well as the adjacent states of Texas at some point that just need to make a decision we hope in the right way. So that's part of being patient, Rahul.
Rahul Sarugaser: Indeed, great. Thank you for taking the follow-up questions.
Michael DeGiglio: Thanks.
Operator: And there are no further questions in queue at this time. I'd like to turn the call back over to Mr. DeGiglio
Michael DeGiglio: Okay, thanks, James. And thanks once again everyone for joining us today. Thanks for your continued interest and support of Village Farms and we certainly look forward to speaking with you again on our next call. Have a good day.
Operator: This concludes today's conference call. You may now disconnect.
