Auxly Cannabis Group Inc. ($XLY)

Good morning, ladies and gentlemen, and welcome to the Auxly Cannabis Group Q1 2026 Financial Results Conference Call. [Operator Instructions] This call is being recorded on Thursday, May 14, 2026. I would now like to turn the conference over to Hugo Alves, CEO. Please go ahead.

Thank you, operator. Hello. Good morning. I'm Hugo Alves, Auxly's Co-Founder and Chief Executive Officer. I'd like to welcome all of you to Auxly Cannabis Group's Q1 2026 Conference Call and Webcast. Joining me on the conference call today are Travis Wong, our Chief Financial Officer; and Mark Charbonneau, our Head of Investor Relations. Today, I'll share key takeaways from the quarter, and then we'll open the call up to questions from analysts and answer some questions that have come through our Investor Relations inbox over the last few days. Before we begin, I'd like to remind you that our remarks may contain forward-looking information, and actual results could differ materially. Forward-looking information is subject to many risks and uncertainties. Certain factors or assumptions applied in the forward-looking information can be found in our latest annual information form and management discussion and analysis. These documents are available on our website and at sedarplus.ca. More generally, if you have questions once this call is completed, please reach out to our Investor Relations. Our contact information can be found at the end of our earnings press release. Turning to our financial results. Our Q1 2026 financial results represented seasonal records in net revenue, adjusted EBITDA and cash flow from operations. Net revenue reached $39.8 million, an increase of 22% year-over-year against the backdrop of industry growth of approximately 2% over the same period. Gross margin on finished cannabis inventory sold increased to 55%, up from 48% in Q1 2025. Adjusted EBITDA was $12.3 million, an increase of 65% year-over-year and representing an EBITDA margin of 31%. Cash flow from operations before working capital changes reached $11.3 million, an increase of 102% year-over-year and representing a 92% conversion from adjusted EBITDA. Our 22% net revenue growth is driven by the continued success of Back Forty as Canada's #1 cannabis brand by dollars sold, a position Back Forty has held since December of 2024. The seasonally slow first calendar quarter of the year typically results in a sequential decline in net revenue for Auxly of 3% to 6%. In Q1 2026, our sequential decline was less than 1%, just shy of an overall quarterly record. We are seeing strong demand across the board for our flower, pre-rolls and vapes. Consumers continue to be drawn to the Back Forty value proposition of high THC and consistent quality at a competitive price. Compared to Q1 2025, we are also benefiting from higher incremental volumes across the portfolio and improved pricing in the flower portfolio, which was partially offset by price compression on vape products. Our gross margin of 55% and EBITDA margin of 31% reflect improved manufacturing processes to reduce operating costs, higher cultivation yields, efficiency improvements across the operating footprint, strategic procurement initiatives that further reduce costs and a relatively fixed overhead cost base. We believe these margin improvements are structural and sustainable over the long term. Our improved profitability is translating directly into cash flow with interest expense down by almost half relative to Q1 2025 and little change to working capital as compared to year-end. Auxly ended the quarter with over $42 million in cash and $45 million in debt on the balance sheet. This is the strongest our balance sheet has been in years. Our outlook for 2026 is unchanged from when we reported Q4 '25 results just 2 months ago. We believe Auxly can continue to grow net revenue above market rates through continued investment in distribution and innovation and increased quality and capacity at Auxly Leamington. We plan to maintain profitability through continued investments in efficiency and rigorous cost control across the organization. And we expect the conversion of profitability to cash flow from operations to improve through the reduction of interest expense and stabilization of working capital investments. And the continued strong demand for our products gives us the confidence to keep building for the future through a $10 million to $12 million capital program at Auxly Leamington to increase quality, capacity and efficiency and also give us greater optionality for international sales in the future. As our financial position strengthens, capital allocation is becoming an increasingly important part of how we create long-term value. Our trailing 12-month cash flow from operations before working capital was approximately $44 million, and we plan on improving that figure over the next 12 months. After considering our full CapEx budget of $10 million to $12 million, we expect significant free cash flow in 2026. What do we plan to do with that cash? In April, we updated the market that our Stalking Horse bid for the assets of Ayurcann, another Canadian LP was not selected as the winning bid and we declined to increase our offer for the assets. We weighed the opportunity cost of diverting organizational focus away from a business that is delivering strong organic growth and industry-leading profitability and determined that we would rather be patient and disciplined than stretch on a transaction. While we are not the winning bidder for the Ayurcann assets, we believe cannabis markets will continue to present attractive acquisition opportunities, and our shareholders can expect that we will continue evaluating inorganic growth opportunities that can advance our strategy and deliver returns well in excess of our cost of capital. In April, we also announced the initiation of a normal course issuer bid, allowing Auxly to purchase up to approximately 4.9% of its issued and outstanding share capital. With Auxly shares trading at approximately 4.8x EV to EBITDA on a trailing basis, we believe that our current share price does not reflect the intrinsic value we have built and that repurchasing our own shares can generate a compelling return on capital. Beyond our NCIB and selective M&A, we will continue investing in the organic growth that is driving our results, whether that's capital projects to support additional capacity and quality, continued innovation leadership in our core categories or working capital investments to fuel revenue growth. We are thrilled with the growing demand we are seeing for our high-quality products domestically and the product progress we're making against our winning at home strategy. We are also seeing strong demand for our products internationally and believe that international channels remain a compelling opportunity for continued growth and profitability over the coming years. And underpinning all of this is our commitment to maintaining a strong balance sheet, so we can fund these initiatives from our own cash flow without the need to access equity markets. To conclude, the Auxly team is focused and aligned in our pursuit of quality, innovation and profitability. We are delighted with our Q1 2026 results and seeing continued strong demand for our outstanding products as we head into the summer months. I'd like to thank our teams in Leamington, Charlottetown and Toronto, whose commitment, passion and resilience are the driving force behind Auxly's emergence as an industry leader. And we are, of course, also grateful for the continued support of our shareholders, vendors and partners. We are building to last and the best is yet to come. That concludes our prepared remarks. We are going to take calls from analysts, and then we'll answer some questions that our investors have sent to us over the last few days. Operator, I ask that you please open the call for questions.

[Operator Instructions] Your first question comes from Ben Stonkus from Haywood Securities.

This is Ben on for Neal here. Congrats on the quarter, guys. Just to kick things off here, you alluded to it a bit in the prepared remarks, but can you give us a bit more color on how the Leamington upgrades are progressing operationally? Any early read-throughs yet on the yield or quality from the work that's been done so far?

It's Travis here, CFO. Thanks for that question. So first off, I can confirm that we are on track to meet our guidance of between $10 million and $12 million of CapEx this year. Right now, we're in the process of confirming what that will look like. We do know and I can speak to that the key components will be around our post-harvest environment and improving how we do that post-harvest activity. That will include drying, curing, processing and packaging. I can also confirm that we're looking at how that CapEx can be spent to increase capacity and increase our yields at the facility. And this both will improve quality and COGS, we expect going forward.

Great. And then maybe changing gears to revenue mix. We see that dried flower and pre-rolls may have about 69% of net revenue in the quarter, which is up notably from 63% a year ago or from 63% a year ago. Can you provide a bit more detail about what you're seeing as to what's driving the strength and how we should think about this mix for the balance of the year?

Ben, it's Hugo. We were -- what's driving it is very, very strong demand for our flower products. The Back Forty value proposition is resonating with consumers, consistent, high-quality, high THC at a great competitive price. And then -- so right now, to give you an idea of what that means from a flower perspective. 3 of the top 10 cultivars in Canada when you look at total cultivar sales are coming out of Auxly Leamington, Liquid Imagination, Fire Breath and Chemozilla. No other producer can boast that. So the flower quality, I think, is #1, right? We're producing high-quality product consistently. And then innovation, right? Our Backpackers product was the innovation hit of the summer last year. Right now, the top 3 SKUs in Canada, total market are Back Forty branded product. It's our Liquid Imagination 28 gram, Fire Breath 28 gram, but those 2 have been the top 2 SKUs in market for a while now. The #3 SKU is now Backpackers Liquid Imagination. And so you're seeing the poll of innovation in pre-rolls, that's using, obviously, a lot of flower -- a lot of flower sales, and now we're going to continue innovating in pre-rolls. We've leaned into the Backpacker. We launched with 2 flavors. We've got 4 new flavors in the market now that are doing really well. And we plan on releasing another pre-roll innovation this summer for our consumers for a different occasion that we think will be very popular as well.

Perfect. That's great color. And then just one last one for me. Looking at margins, 55% gross margin in the quarter is pretty consistent with where you were in the back half of last year. Maybe a question for you, Travis, but the last call, you flagged that margins starting with 5 is sort of your internal benchmark. Is that the right way to think about it as Leamington -- as the Leamington work starts to come online? And is there anything else that could push that higher through the rest of the year?

Great question. And I think the guidance of a margin starting with 5 continues to be the target we have internally. A lot of the improvements we've made in gross margin are structural. As Hugo alluded in his prepared remarks, these are higher cultivation yields, improved manufacturing processes, both at Leamington and Charlottetown as well as strategic procurement initiatives that permanently decreased our packaging costs, for example. Anything kind of -- in the kind of now talking about mid-50s higher than in the kind of high 50s, that can differ depending on some of the tailwinds we have in the market, what we're seeing in the pricing with our portfolio. But overall, very pleased with that margin performance we had in Q1.

And there are no further questions at this time. I will turn the call back over to Hugo.

Hi, everyone, Mark Charbonneau here. We'll just take some questions that our investors have sent over the past week. Number one, can Auxly keep pace with the revenue growth for the balance of 2026?

Yes. I think we are really encouraged by the Q1 results and the demand picture for our products is very strong. As you know, we don't provide strict guidance. However, that being said, we do expect the Canadian cannabis recreational market to grow at approximately 5% and that we think we can do better than that this year. We have a strong innovation pipeline that we expect to be popular with our consumers, and we believe Back Forty is the best value proposition in the market and it's becoming increasingly relevant as consumer budgets become more stretched.

Thanks, Travis. And that's probably a good segue to the next one, which is how much of your growth is attributable to the Back Forty value proposition versus tighter supply with other LPs allocating product internationally?

Yes, I'll take that one, Travis. I think it's principally the Back Forty value proposition, the incredible quality and value that we consistently deliver to our consumers, right? It's the strength and success of our product innovation and also the strength of our partnerships and distribution that support our brands in market. So I agree, international is taking some supply abroad, but there are also a lot of LPs exiting the market through insolvency or voluntarily, which is taking supply off-line. So I think, overall, we view the supply and pricing dynamics in Canada as stable. But I think the success and growth of our Back Forty brand is driven by quality, consistency and value. Our consumers and customers trust and love the brand and products, and we view those dynamics as only getting stronger over time.

Next, with respect to innovation, can you give us an update on how your recent product launches are performing?

Yes, I'll take that one as well. I think it's a great question. Innovation is a key driver to our growth and I think a core competitive advantage. In our 3 core categories of flower, pre-rolls and vape, we look to take an innovation leadership position. And I think the results that we're seeing from each of our recent launches have demonstrated that we really understand our consumers and our customers and that we're able to create great new products that are incremental to our existing portfolio. These innovations are expanding the pie for us, not just reshuffling it. And I think that also plays an important role in protecting our profitability. As we saw recently last quarter with vape price compression, we were able to offset that pressure with the higher price point of our new and innovative Back Forty boosted vapes and also the success of our South Point branded product, which is already a top 20 strain in Ontario. And again, I'll use this opportunity just to shout out the Auxly team for the great continued performance. As I mentioned earlier, in the month of April, all 3 of the top SKUs total market were a Back Forty branded product.

Any update on international shipments throughout the quarter?

Yes. We continue to make small shipments to test markets, but the revenue is not material. And I would remind our shareholders that our strategy is to win at home. We know our consumers. We know how to innovate. We know how to generate strong cash flows in Canada. We're going to continue to explore international markets. We think that they provide a good avenue for continued growth and profitability over the long term. And we believe that the factors that have made us successful here in Canada will also apply to those international markets over the long term, right? Consumers want consistent high-quality products at a great value. And we know how to do that exceptionally well. And those competitive advantages, I think, give us the ability to win anywhere in the world that we choose to compete. But we think it's important to be careful, to learn by doing as these markets entail new risks and are still very dynamic. Pricing, for example, can change rapidly. So we'll continue to advance our longer-term international plans, including enhancing our capabilities at Auxly Leamington, but we are focused at winning at home. We're not forecasting material international revenue in 2026, but we will continue to make test shipments.

And our last question here is can you provide more details on the Ayurcann transaction? Why didn't you raise your bid?

Sure. Another bidder came into the mix about 2 days before the auction deadline and did bid more than our original bid. After completing our due diligence, we did revisit our numbers and felt that our original bid was the right price for us. At the same time, we are seeing increasing demand for our branded products. So what's not in the numbers is the opportunity cost of having to divert the time and attention away from the business that is already delivering organic growth. Accordingly, we felt it was better to remain disciplined rather than stretch on this particular transaction.

Okay. So I think that wraps it up. And thank you, everyone, for joining us today. And if you have further questions, please don't hesitate to reach out to us. Thanks, everyone.

Ladies and gentlemen, this concludes today's conference call. You may now disconnect. Thank you.