Entourage Health Corp. (ENTG) Earnings Call Transcript & Summary

Good morning, everyone, and welcome to the Entourage Health Corp. Third Quarter 2021 Results Conference Call. [Operator Instructions] And the conference is being recorded. [Operator Instructions] I would now like to turn the conference over to Marianella delaBarrera, Senior Vice President, Communications and Corporate Affairs with Entourage Health. Please go ahead.

Thank you, Ariel, and good morning, everyone. Welcome to Entourage Health's Third Quarter 2021 Results Conference Call. Please note, this call is being recorded. For comments of our press releases and supporting documents filed on November 15 or to retrieve a recording of this call, please visit the Investor Relations page of our website at www.entouragehealthcorp.com. A replay will be available later this afternoon. With us on today's call, George Scorsis, Interim Chief Executive Officer and Executive Chairman of Entourage Health; and Beth Carreon, our Chief Financial Officer. Today, we'll review the business highlights and financial results for the third quarter of 2021 as well as discuss recent developments. Following formal remarks, we will open the floor to your questions. I would also like to remind everyone that during today's call, we will discuss our business outlook and make forward-looking statements. Actual events or results could differ materially due to several risks and uncertainties including those mentioned in our most recent filings with SEDAR. These comments are made based on predictions and expectations as of today. Other than as required by applicable securities laws, the company does not assume any obligation to update or revise them to reflect new events or circumstances. Now at this time, it's my pleasure to introduce George. Please go ahead, George.

Thanks, Marianella, and thank you to everyone for joining us this morning. 2021 has been a transformational year for our company. We just delivered our fourth consecutive quarter of revenue growth to a record $14.9 million, an increase of 94% year-over-year, a significant accomplishment in an otherwise challenging cannabis market in Canada. While I'm pleased with how the business has performed, I believe us to be in the early innings of what Entourage and the category will become. We made a strategic decision to implement numerous initiatives and targets to make the organization more fiscally disciplined internally and more consumer and patient-centric externally. We are now starting to see the positive impact of our business transformation that positions us well for what we believe will be a breakout year in 2022. In that time, we've seen numerous small and mid-tier LPs scooped up by big LPs or frankly just purchasing market share. We are very different. We have the market share and it is expanding organically as we carve out our own path and footprint, all backed by unique investor that believes in our approach and our financial rigor. On that note, I want to acknowledge a key player that has helped us shape our financial perspective. Under best leadership, we've improved a number of our financial KPIs over the last 6 months. We see meaningful improvements in cash burn and SG&A and implemented new inventory controls. We are also currently restructuring our debt. Our continued growth will lead to achieving positive adjusted EBITDA by no later than the fourth quarter of 2022. In addition, Entourage is recording another quarter of solid revenue growth. We captured key partnerships with Boston Beer, which speaks volumes to our capabilities and completed the acquisition of craft cultivator CannTx Life Sciences, all of which are a direct result of the goals we set earlier this year. This quarter, we also continued to see substantial growth in the sale of our adult-use brands, Color cannabis and Saturday cannabis. We're delivering consistent quality crafted products, resulting in an increase in demand and expanded market share. This demand has led us into a fourth consecutive quarter of net positive revenue growth, reporting $14.9 million in total revenue. It's our highest quarter to date, reflecting a 94% year-over-year increase and our fourth sequential quarter of growth. Notably, our adult-use net revenue for the quarter increased by 102% compared to last year. What this shows us is that we're seeing a consistent increase in market share rising another 10% in Q3. Additionally, we noted market share increases in certain dried flower products formats rising to an average 2.2% compared to our peer brands. This further demonstrates we are listening to our customers and our consumers and the retailers to gain insights into what the market wants. We are delivering quality production. Our next steps expand into high-margin products and channels with our well-defined product pipeline of trusted brands and unique product formats. We are making a leap into the premium channel with the exit from our outdoor growing to enhance our greenhouse and craft cultivation. How will we do this? This brings me to the value-add of CannTx acquisition and the introduction of craft brand Royal City cannabis company into our portfolio. We're moving ahead with offering craft cultivars, new genetics, new products such as iced as well as production of vapes, pre-rolls and flower products. The CannTx addition was a strategically thought out and deliberate 2-way courtship that has been in the works for well over a year. This is not something new to us. This team is highly regarded in our organization because we've been working together since last summer to enhance our cultivation practices. While keeping a pulse check on the industry, we realize the significance of establishing strong relationships with strategic partners we know well. M&A activity in this industry continues to be extremely active. So we wanted to ensure we were bringing on board an asset that would be a value add. We chose a much different path. One that will create platform to ensure we are right in the cross-section of delivering high-quality products consistently in a quickly evolving space. We are now in a really good position, which makes us more nimble than the larger LPs, and we can generate craft, quality products on a proven and larger platform. In early 2021, we noted that we wanted to participate in higher-margin categories rather than being a wholesaler as was done in previous years at this organization. Exiting from growing outdoors and adding premium flower products and brands from Royal City plays perfectly into our strategic goals. There is no doubt that craft cannabis is appealing to consumers and patients. We will continue using this proven growing techniques that are crafted dedicated, thoughtful and sustainable, and we are excited to be entering this market. Royal City is part of the Ontario Cannabis Store designation, an elite group of craft growers that we are proud to support. I'm looking forward to sharing more about what our teams are working on, such as the introduction of the craft collective whereby we support micro cultivators looking to expand into retail markets. This reflects how proud we are to be supporting a push for high-quality cannabis production in Canada. Mentoring craft cannabis businesses will be key to elevating our industry, and we're fully here for that. Another example of this is the recent collaboration we launched with Red Market Brands. One of Canada's first wholly-owned indigenous cannabis brands. Conscious consumers can purchase Red Market products produced by Entourage's team in Guelph facility, a portion of the sale will be redirected to the indigenous communities and First Nation-led business endeavors. We're heading back to our roots. When we used to provide genetics and start-up materials to other LPs, but we're doing it in a socially responsible manner with businesses that meet our company values and our ethos. So how does CannTx value add impact to our medical market offerings? Simply put, we're providing our medical clients with consistent quality produce cultivars. Our Starseed Medicinal team continues to build out our patient base and expand our presence on the medical side. Starseed Medicinals referral program realized a 78% conversion rate over the last quarter as the medical program introduced new SKUs and cultivars such as CannTx cultivars Royal Goddess and Rockstar Tuna. We also added transdermal patches to our Mary's Medicinals lineup. That also included topicals. We now have close to 40 SKUs on this platform, a significant increase year-over-year. We continue to see a major opportunity within our medical business. We are now working with some of the biggest names in the insured benefit space to help curate programs. In fact, we have numerous health benefit providers signed for our platform with some of the most trusted insurance providers in it such as Greenfield, Manulife, Great-West Life and Canada Life part of our portfolio. Additionally, we are in discussions with new LiUNA Locals and third-party union groups to expand coverage into other parts of Canada. As the LP with a proprietary platform in existence since 2018, we are the leaders in this space, and we are considered the benchmark when it comes to providing medical cannabis as an insured benefit, looking forward to more coming from this great team. Additional area of growth in 2022. In Q3, we also established a strategic partnership, as I mentioned earlier, with Boston Beer. And one of our long-term processor collaborators peak processing to launch a line of nonalcoholic cannabis-infused beverages. Boston Beer is a $6 billion company that produces craft beer and seltzers in the U.S. They've done their research, and they have selected partnerships that represent long-term growth and success. We're excited to be selected among this group. In summary, our accelerated path to profitability has remained relatively simple, yet effective from the start. We have focused on growth, optimization, efficiency, quality and most important people. Focusing on cost optimization, identifying further synergies and integration approaches, we are already seeing improvements in cash flow and savings initiatives. With 2022 fast approaching, our strategic direction will be to continue to build shareholder value as we gain momentum for our continued strong performance into Q4. We have increased our distribution channels, scaled our portfolio and establish beneficial partnerships setting us up for long-term success. This concludes my opening remarks. I'll now hand it over to Beth Carreon, our CFO.

Thank you, George, and thank you to everyone joining us on our call this morning. Today, I will review the financial highlights for the 3 and 9 months ended September 30, 2021. Please note that the financial information we discuss today is prepared in accordance with International Financial Reporting Standards, or IFRS, and is in Canadian dollars, unless otherwise indicated. To start, our third quarter revenue grew by $7.2 million or plus 94% to $14.9 million compared to the same quarter in 2020. Our net revenue, that is revenue [ plus ] excise duty grew by $4.5 million or plus 71% to $10.8 million compared to the same quarter in 2020. Excluding the impact of a onetime true-up of excise duty recognized in Q3, which was related to prior quarters of this year, net revenue growth versus Q3 2020 was plus 80%. We experienced another quarter of growth across all product channels with medical up plus 25%, driven by increase in number of patients. Adult-use growing plus 102%, driven by innovation and increased distribution points, and finally bulk, which made up 3% of our total Q3 net revenue grew plus 34%. For the 9 months ended September 30, 2021, our net revenue grew by $7.3 million or plus 30% to $31.7 million. Excluding bulk sales, our net revenue grew by $12 million or plus 63.5%. To note, our channel mix year-to-date is comprised of 36% medical, 61% adult-use and 3% bulk. On a sequential basis, Q3 revenue increased plus 8.5% compared to Q2, while our net revenue grew plus 1.7%. The net revenue growth was driven by plus 8.2% sequential growth in adult-use and plus 92% in bulk, partly offset by sequential decline in medical of minus 16%. Excluding impact of the onetime true-up of excise duty mentioned earlier, quarter-over-quarter growth of total net revenue was plus 7.1%, mainly driven by adult-use, which grew at plus 16.5%. Revenue growth is higher compared to net revenue growth due to customer and product mix, which impacts excise duty rates. In general, the slight quarter-over-quarter decline in medical sales is attributable to seasonality in health insurance benefit coverage. The quarter-over-quarter growth in adults-use mainly driven by the demand for color, pre-rolls and, Saturdays, 8-gram flower. As for bulk, we continue to leverage bulk sales to rebalance our biomass inventory. For the 9 months ended September 30, 2021, our average selling price per gram after excise duty decreased to $2.52 per gram compared to $2.99 per gram for the same period in 2020, partly due to mix with higher adult-use sales compared to medical and partly due to lingering market factors related to pricing. On a sequential basis, Q3 average selling price program after excise duty of $2.61 per gram marked an increase of plus 12% compared to Q2 average selling price of $2.33 per gram. We continue to expect our average selling price on an aggregate basis to remain stable or improve over time as we introduce more premium innovation and format. Gross loss before changes in fair value was minus $4.2 million for the 3 months ended Q3 2021 compared to gross of $69,000 for the same period in 2020. Gross margin before changes in fair value for Q3 was minus 38.5% of net revenue compared to gross margin of 1.1% in Q3 2020. The year-over-year decline is partly due to higher excise duties, which represents 28% of revenue in Q3 2021 versus only 18% in Q3 2020, also partly due to inventory adjustments, which included onetime $2 million packaging write-offs and partly due to channel mix. On a sequential basis, Q3 gross margin before changes in fair value of minus 38.5% for the decline compared to Q2 gross margin of 29.4%. You would recall that we noted during last quarter's earnings call that there was a onetime true-up related extraction and that gross margin before changes in fair value for the 6 months ended June 30, 2021, was 16.1%. Q3 decline compared to first half of this year, in gross margin, is due to the earlier mentioned onetime true-up of excise duty, increased freight due to customer mix, inventory adjustments, and finally, channel mix where adult-use sales represented 69% of Q3 net revenue compared to 56% during the first half of this year. Gross loss before changes in fair value for the 9 months ended September 30, 2021, was minus $0.8 million compared to gross profit of $0.5 million for the same period in 2020. Excluding the impact of the $2 million onetime packaging write-off mentioned earlier, gross loss turns to gross margin of $1.2 million or 4% of net revenue for the 9 months ended September 30, 2021, compared to 2% for the same period in 2020, or 200 basis point improvement year-over-year. Weighted average cost per gram from clone to harvest of inventory on hand as of September 30, 2021, decreased by 14% to $0.32 from $0.37 in the same period last year. Our weighted average cost program of inventory on hand decreased by 74% to $0.55 from $2.11 in 2020, partly due to inventory write-down in the latter part of 2020 and partly due to operational efficiencies. We expect year-over-year improvement in our gross profit before changes in fair value given the business transformation we've initiated an impact of mix from higher-margin products and channels. From an operations perspective, kilograms harvested for the 9 months ended September 30, 2021, decreased by over 3,800 kilograms or minus 26% to 11,341 kilograms during the same period in 2020, mainly due to continued adherence to a disciplined approach of aligning supply and demand. Moving to expenses. Third quarter of our selling, general and administrative expenses was $4.5 million or $0.8 million lower compared to the same period last year, mainly driven by lower salaries and benefits. On a sequential basis, Q3 SG&A is lower by $5.9 million compared to Q2, mainly due to reduction in professional and consulting expenses as majority of [ this ] and was nonrepeat in nature. Net loss for the 9 months ended September 30, 2021, was $34.4 million or $0.15 loss per share loss of $44.1 million or $0.21 loss per share of 2020. Adjusted EBITDA declined by $2.6 million from $6.9 million during the 9 month period in 2020 mainly because of fair value changes for the biological assets in production. Turning to our balance sheet. We ended the third quarter with cash and cash equivalents of $12.4 million or a reduction of $3.1 million from the $15.5 million at the end of the second quarter. On a sequential basis, cash used in operating activities in Q3 was $2.2 million compared to $4.2 million in Q2 as we adhere to relentless discipline in expense management. We are in active discussions related to various options that will give us more liquidity and greater financial flexibility to manage our operations and execute on our plans. For the 9 months ended September 30, 2021, loans and borrowings from our 2 secured credit facilities and the unsecured convertible debentures are classified as current. Discussions are ongoing with all our lenders to amend payment terms. And as noted in our recent press releases, we signed additional amendments with our 2 secured credit facilities that included amendment of conversion date from June 30, 2021 to December 31, 2021. For the 9 months ended September 30, 2021, we are compliant with all applicable covenants. In summary, our third quarter results reflect our sales momentum and our focus on efficiency and productivity, which we expect to continue into next year and allow us to deliver positive adjusted EBITDA no later than fourth quarter of 2022. The transformation into a performance-driven organization and a track record to date of delivering results has further strengthened the commitment of our strategic partners to work with us in ensuring Entourage has a meaningful and profitable presence in the Canadian cannabis market. With that, I will turn the call back over to George for closing remarks.

Thank you, Beth. Once again, we are pleased to have delivered another record quarter. I really believe that this confirms the strength and effectiveness of our business transformation initiatives, which we have been implementing for some time and are now really seeing our results and benefits. We are confident that Entourage will continue to see further revenue growth given its solid foundation. I want to thank our shareholders for their continued confidence and support during this time, which we recognize has been challenging for many in our industry. We look forward to moving further along on the path to profitability as we continue to build an efficient and outstanding organization and produce quality products for both patients and consumers. The past year thus far has been tremendously changed for the better, and I look forward to speaking with you all again as we continue to grow and evolve. Over to Marianella.

Thank you, George and Beth. This concludes our opening remarks, and we are now ready for the question period. Ariel, please proceed with the instructions to call in.

[Operator Instructions] Our first question comes from Graeme Kreindler of Eight Capital.

I wanted to start off by just unpacking the goal of being adjusted EBITDA positive by the fourth quarter of 2022. Does the company have any revenue and gross margin levels in mind where it would hit a breakeven and then ultimately see acceleration into adjusted EBITDA positive from there?

It's a great question. But let me start by saying in part, our ambition from a gross margin perspective will be minimum would be in the high 20s to below 30s to hit breakeven. However, as we continue to look at mix in terms of channel and in terms of product within that mix, meeting within that channel, that would impact the overall gross margin. In George's earlier comments, the acquisition of CannTx will help us on that journey of premiumization. So that gives us confidence that we are on track to hit that minimum high 20s, low 30s gross margin on an aggregate basis.

Okay. Then just as a follow-up, with regard to the prepared remarks talking about the various initiatives right now with respect to both adult-use and in the medical channel in terms of getting more partners additional products there. Is there any sort of target mix by channel that you're looking at into 2022 as it relates to that overall EBITDA positive goal?

Graeme, great question. So what we've undergone as part of our transformation is actually look through. We've done a SKU by SKU rationalization and really to understand where and what SKUs are effective in the marketplace with the consumer and patient, but also which ones provide greater gross margin. And in terms of what SKUs will offer for both medical and adult-use, obviously, we're going to lead towards the higher-margin products, but also ones that turn on the shelf and differentiate us. But we're also not going to be competing in sectors that -- or in certain product categories that just create a negative gross margin for us and are noneffective. So we're actually -- we've gone through that analysis. So in terms of giving you an aggregate number, it's going to continuously evolve as our cost structures continue to change. And also, as we provide automation, that's going to change within our organization and be able to provide higher margin in certain SKUs, which will drive harder in the marketplace. So ultimately, it's an ever-evolving platform that we're looking at.

Okay. Understood. I appreciate that, George. And then just from a working capital standpoint here, how much investment in working capital are you expecting as you see an acceleration in sales? Just putting that in relation to consumer preferences, which are ever-changing, weight against the existing inventory on the balance sheet, what does that look like over the next couple of quarters here?