Pyxus International, Inc. (PYYX) Earnings Call Transcript & Summary

Good day, ladies and gentlemen, and welcome to today's Pyxus International, Inc. Fiscal Year Third Quarter 2021 Earnings Call. [Operator Instructions] As a reminder, this call is being recorded. I would now like to introduce your host for today's conference call, Joel Thomas, Chief Financial Officer. Mr. Thomas you may begin your conference.

Thank you, Jenny. With me this evening is Pieter Sikkel, our President and CEO. Before we begin discussing our financial results, I would like to cover a few points. You may hear statements during the course of this call that express our belief, expectation or intention as well as those that are not historical fact. These statements are forward-looking and involve a number of risks and uncertainties that may cause actual events and results to differ materially from these forward-looking statements. These risks and uncertainties are described in detail along with other risks and uncertainties in our filings with the SEC, including our most recent Form 10-K. We do not undertake to update any forward-looking statements made on this conference call to reflect any change in management's expectations or any change in assumptions or circumstances on which these statements are based. Included in our call today may be a discussion of non-GAAP financial measurements, including earnings before interest, taxes, depreciation and amortization, commonly referred to as EBITDA, and adjusted EBITDA that are not measures of results of operations under generally accepted accounting principles in the United States and should not be considered as an alternative to U.S. GAAP measurements. A table, including a reconciliation of and other disclosures regarding these non-GAAP financial measures is available on our website at www.pyxus.com. Note that in connection with the emergence from Chapter 11 cases, Pyxus qualified for fresh start reporting as detailed in our Form 10-Q filed with the SEC. And due to the application of fresh start reporting, the pre-emergence and post-emergence periods are not comparable. Any replay, rebroadcast, transcript or other reproduction of this conference call other than the replay as provided by Pyxus International has not been authorized and is strictly prohibited. Investors should be aware that any unauthorized reproduction of this conference call may not be an accurate reflection of its contents. Now I'll hand the call over to Pieter.

Hello, everyone, and thank you for joining us this evening. Fiscal year 2021 continues to be a year of evolution for our business. Since the completion of our financial restructuring, we've undergone a strategic review of all business units and categories in which we operate in order to develop a stronger, more streamlined strategy to improve financial performance. We see the potential for increased leaf tobacco volume in fiscal year '22 from countries including the United States and Brazil. In addition, the developments in the e-liquids category following the September 2020 PMTA submission deadline, paired with increased enforcement of PMTA regulation, provide an encouraging opportunity for potential future growth. The tobacco industry, like many other industries, has been impacted by the COVID-19 pandemic. We continue to experience disruption in our supply chain and distribution channels. While the volume of customer orders is in line with expectations and we have adequate supply of product to meet demand, we have been impacted by procedural delays with regards to fulfillment of customer orders. This has resulted in the timing of fulfillment of certain orders shifting to the fourth quarter of fiscal year 2021 and others to the first quarter of fiscal year 2022. Despite these challenges, we continue to manage our working capital closely, and at December 31, 2020, inventory decreased $100.1 million or 11.5% to $771.8 million compared to the prior year. Additionally, we expect our uncommitted inventory to be near the midpoint of our stated range of $50 million to $150 million by fiscal year-end. As we complete significant initiatives under the Global Operations Efficiency Program, we are beginning to see the benefits in reduced cost of goods and services sold as a percentage of sales and the flow through to gross profit. Additionally, going forward, we expect to see positive impacts from reduced SG&A as well. Further, we are experiencing the benefits from the completion of our financial restructuring with $24.9 million of interest expense for the quarter, a $7.3 million or 22.7% reduction compared to the prior year. In addition, we believe there are opportunities for growth in our current market segments with our customer base, that coupled with our financial restructuring and the Global Operations Efficiency Program, better position the company for the post-COVID environment. We also look forward to sharing our enhanced global ESG strategy for how we intend to deliver performance in a compliant and sustainable manner. I'd like to thank all of our employees for their extraordinary resilience throughout what has been one of the most challenging periods in recent history. Their hard work, along with the support from our customers, suppliers and other partners who support our business, enabled us to continue to operate during these unprecedented times. Our fiscal year 2021 has presented significant challenges for our company, the communities where we work and the world. We believe the year has been a critical step forward for our company's long-term success so that we may continue to live by our purpose: to transform people's lives so that together we can grow a better world. With that, I'll turn it over to Joel to provide a financial update. Joel?

Thank you, Pieter. With regards to our third quarter results, sales and other operating revenues increased $16.3 million or 4.5% to $379.6 million for the 3 months ended December 31, 2020, compared to the prior year same period. This increase was due to a 5.4% increase in leaf volume and an increase in cannabinoid revenue attributable to sales occurring in most of the Canadian provinces as well as the launch of the GO! cannabinoid product line. These increases were partially offset by a 1.8% decrease in leaf average sales prices. The 5.4% increase in leaf volume was driven by the timing of shipments in North America and South America and was partially offset by a decrease in volume from smaller crop sizes in Africa and shipping delays in Africa caused by the COVID-19 pandemic. The 1.8% decrease in leaf average sales prices was attributable to product mix in Africa, Asia and Europe having a lower concentration of lamina and was partially offset by product mix having a higher concentration of lamina in North America and changes in foreign exchange rates in Europe. Cost of goods and services sold increased $8.9 million or 2.9% to $317 million for the 3 months ended December 31, 2020, compared to the same period in the prior year. This increase was mainly due to the increase in sales and other operating revenues. Gross profit as a percentage of sales increased to 16.5% for the 3 months ended December 31, 2020, from 15.2% for the same period last year. This increase was attributable to lower conversion costs in South America and changes in foreign exchange rates in Europe. These increases were partially offset by product mix in Africa, Asia and Europe, having a lower concentration of lamina and higher conversion costs in Africa. SG&A expenses were $45.9 million for the 3 months ended December 31, 2020, and 2019. The current year included $3.3 million of expenses associated with our emergence from the Chapter 11 cases. The prior year included $1.9 million of costs incurred to evaluate and develop plans for a potential partial monetization of interests in subsidiaries in the Other Products and Services segment. Restructuring and asset impairment charges increased $7.1 million to $7.8 million for the 3 months ended December 31, 2020, compared to the prior year same period. This increase was attributable to employee separation and impairment charges related to restructuring of certain U.S. operations, which included our industrial hemp and CBD businesses and the continued restructuring of certain African operations. Interest expense decreased $7.3 million to $24.9 million for the 3 months ended December 31, 2020, compared to the same period of the prior year. This decrease was driven by lower outstanding long-term debt balances as well as lower balances on African seasonal lines of credit. The company's liquidity requirements are affected by various factors including crop seasonality, foreign currency and interest rates, green tobacco prices, customer mix, crop size and quality, branding, marketing and advertising expense to support growth of the Other Products and Services segment, legal and professional costs and funding obligations under the debtor-in-possession facility extended to the company's Canadian cannabis subsidiaries during the pendency of the proceedings that they commenced under Canada's Companies' Creditor Arrangement Act in January 2021. As of December 31, 2020, the company's available credit lines and cash totaled $428.6 million, including $293.9 million of availability under foreign seasonal lines of credit. We are excited about the future of our business. And on that note, operator, please open the line for questions.

[Operator Instructions] And we will go first to Ann Gurkin of Davenport.

I was wondering if I could ask a couple of questions, beginning with where do you see what was -- what the historic tobacco business? Where do you see that EBITDA potential for that business looking out several years?

Yes. Ann, we've not provided any guidance at this point, but that will be coming at some point in the probably the not-too-distant future. But if we look at where the tobacco business has been historically over the last probably 4 or 5 years, that should stay consistent. We actually see opportunities for further growth. And so we're, again, pretty excited about the future in our tobacco business.

It looked like in the filing you put out back in January that for the year ended March '20, sales were $1.5 billion, which seems to be a little bit -- running a little bit behind where it used to be like $1.8 million, $1.9 million. So I was curious if you've lost market share, although you say you have opportunities to gain market share. So can you help me kind of reconcile those numbers?

Yes. I mean, I think, Ann, we're still in a COVID-impacted year. So it's with our geographical profile and our profile of our customer base. It takes -- certain of our customers in operation are a little bit more delayed, I would say than, they or we might expect. So we anticipate to see that run through in the next couple of quarters as we get through the year. And then as we go into next year, we're pretty pleased or even excited with the indications that we have. The contract is growing. The beginning of purchasing is going, and we anticipate to see more normalization of those revenues and volumes going up and, hopefully, some growth as we go into the new year. We were pretty positive in our disclosure to date regarding that. So the only other factor, I think, we've got to keep looking at is what the exchange rates do. Obviously, the U.S. dollar is pretty strong, particularly against in certain operations, so Brazil, Argentina, Turkey and so on. So that affects a little bit the dollar revenue coming from those operations. But at the same time, with volume improvement and margin improvement, we expect to see positive growth as we go forward.

Okay. And then asking about the debt, it looks like you exited this quarter with about $900 million net debt, netting up cash. I guess I'm just curious, coming out of this restructuring or creating NewCo, you all have been burdened with $1 billion, $1.2 billion in debt for year after year after year, and you've come out from this restructuring with really close to that $2 billion debt level. Why wasn't that restructured more? Can you help me understand your expectations for how you're going to pay down that debt? For years, you've had that excess of $1 billion debt on the core business. And I was just curious your thought process there.

Yes. No, Ann, we're very excited about our new capital structure. If you go back a year ago, December 31, 2019, our net debt was at $1.410 billion, and we closed out at this quarter end at $862.5 million. So we were down roughly of $548 million year-over-year or about 38.9%. So we have a vastly different capital structure than what we had a year ago, and I think we are very well positioned for where we're driving the business. So at any rate, we feel very fortunate.

Yes. But before you expand it into the adjacent businesses or cannabis in Canada, wherever you want to call it. The core tobacco business carried that like $1.1 billion, $1.2 billion debt year after year after year. So you're really bringing it down to a net of $862 million, whatever. It's still a heavy debt load. And so I'm just curious why that wasn't restructured more.

Yes. You got to be careful when you're looking at debt levels and net debt levels and trying to draw parallels between a year-end debt number for us, a fiscal year-end number and a second or third quarter number. Remember that we have seasonally adjusted increases in debt related to working capital, especially in our second and third quarters related to Southern Hemisphere building of inventory positions to meet our order book. And so you've really got to look at period-over-period examples related to the balance sheet and not just year-end compared to any quarter. So pretty important. So again, that's why when you again look at last year versus this year, there's, again, almost a 40% decrease in net debt. And the balance sheet is very well positioned as we move forward.

So do you have a target as to how much debt you plan to pay down each year or a target for the absolute -- or the net debt level over a multiyear period for the core tobacco business?

Yes. I think a couple of things there. One, we are planning to utilize free cash flow to pay down debt. We haven't given any targets yet. I think the other side of this is, when we think about the cost cuts that we have been focusing on our operational improvements, we see real opportunities to improve our EBITDA at a consolidated level. And hopefully, we'll see some pretty dramatic improvements here over the next 12 to 18 months. And so that's where a lot of our focus is today. And so when you combine both of those pieces together, over time, we should see our leverage coming back in. And again, we've got a good start based on the new balance sheet.

Okay. And what is your target CapEx spending over the next 12 months?

It's really going to be to support the tobacco business and should be -- tobacco and should be consistent with what we've seen historically. So kind of in the -- we've historically kind of been in that $15 million to maybe as high as $25 million, somewhere in that range with the tobacco business.

Okay. Great. And then just was curious, the thought process given the Democratic administration in the U.S., a more favorable environment for cannabis potential to get some legislation or legislation to move forward. Why exit that business at this point when it looks like the market dynamic, particularly in the U.S., maybe is turning or becoming a little more favorable? So I'm just curious, why this juncture -- was this the time to get out of that business in Canada?

Yes. I think that we've really looked at the opportunities that we see in tobacco and in nicotine delivery, and again, this is where we've got, I think, a very strong business, and there are a lot of opportunities globally. And so we're going to go where our strength is and where we see opportunities. And we've had some challenges related to some of the new start-up businesses and anything that is free cash flow negative or has been free cash flow negative. We've looked very critically at, and we're going forward to strike this. So we're, again, really excited about the prospects for our tobacco business and our nicotine vapor inhalable business, and we're going to continue to push in that regard.

And we'll go to our next question from Ian Parkinson of Polygon.

The sales look extremely low. If I look at what Universal reported the other day and extrapolate this, you guys had expect materially higher sales. So I'd like to get some comments on that and some comments on your expectation for the full year. But on the plus side, the gross margin seems much higher than normal. So what's the explanation to both of those?

Well, I mean, I think, Ian, as I said, we also targeted [ ISLs ] in the quarter. But with COVID, with the various requirements that customers have got to go through and with disruption from certain countries to certain countries in terms of container availability and freight rates, we've seen some slippage from quarter 3 into quarter 4, and likely will be some from quarter 4 into quarter 1 of next year. The tobacco there, it's ready, it's packed. And I think there was a great article in the Washington Post actually a few weeks ago that talked about exorbitant and freight rates, for example, from China to Europe and back again, and that has had some effect in terms of being able to get volumes out. So that's more a timing issue. We were also pleased with the gross margin improvement, and I think it was a good quarter for that. We continue to be focused on costs throughout the organization, and that was a good result for the quarter.

Yes. And if you look at the quarter and look at -- in aggregate both of our tobacco segments and look at tobacco in total, our Q has moved up $4.6 million from $84.9 million in the prior year to $89.5 million. So it's a 5.4% increase year-over-year, which was very positive. And that resulted in an $11.4 million pickup in that top line. So we came in -- we're looking at the tobacco businesses discretely, $371 million, up from $359.5 million in the prior year. So I think we're starting to see some improvements. And we're pushing really hard as we're going into the fourth quarter, trying to get everything to move that we think we can get moved during the period. There's a little -- some challenges still out there related to the COVID, and a lot of that has to do with our customers as well as some of the markets that we're shipping at. But the order book is strong and our outlook is very good at this point.

Yes. Obviously, last year was extremely weak, especially towards the end of the year. So I guess people are hoping not that you'll be best than last year, but you'll be back to more of a difficult year. So do you have any guidance for full year sales?

We've not put anything out there yet. We will be getting back to guidance at some point, but just not yet. I think a lot of companies that are experiencing COVID challenges have kind of held back from providing values. And again, I think it's appropriate based on where we are right now to be thoughtful around that. But we will be coming back to guidance at some point. And again, we see continuing to push for improvements as we look out into next year and the year after. So -- and again, we think we're very well positioned, good order book and customer base that is working with us related to their future orders. So we see opportunities to grow.

I guess we're halfway through Q4, so providing guidance for the full year is not that aggressive. I appreciate providing longer-term guidance given the unusual disruptions is more difficult. But essentially, we're asking to forecast the next 6 weeks.

Yes. So a couple of things on that front, right? I think in a normal year, we probably would not hesitate. Our fourth quarter is typically the biggest quarter of the year for us, and we've got a very big fourth quarter shaping up for this year. And then at the same time, you've got COVID that's been kicking up in various parts of the world, and it's actually cause certain countries go back on lock in, and that's affected certain customers. Now the good news is we've got containers generally where we need them today. We are packed and ready to go. But there are a lot of moving pieces, especially in the last 3 to 4 weeks of the quarter. And just at this point, not appropriate for us to put anything out there. But again, this year is looking, I think, very good. We've built off of what was a tough third quarter last year, a better third quarter this year, third fiscal quarter. And we're going to be pushing as hard as we can in the fourth quarter. And hopefully, building some energy going into fiscal '22, where again we see a really good order book developing and really good opportunities. So...

And I appreciate that. I don't want to come across [indiscernible] because I acknowledge there's a lot of uncertainties and changes in [ revenue ], just all of those make it even harder from our side to try and understand what the business is doing. In terms of having all the tobacco, I guess, inventories are $771 million at the moment, they were $871 million a year ago. Why is it $100 million lighter?

Well, a couple of things. I mean sales were up, obviously, in the quarter. So that's very much a positive. We also had currency impacts affecting inventory. We had the shorter crops in Africa, and I mentioned the sales up in the third quarter. So I think all of those items impacted where the dollar value of our inventory was. And again, I think it's also a lot of focus on trying to manage our working capital position. And to be $100 million down year-over-year on inventory but being in a position to be able to hit all of our orders for the rest of this year and what we're seeing as we're moving into next year, I think we feel very good about where we are. And you can also see that again in the way that we've been able to bring working capital related debt down as well, and so I think we feel pretty good about where we are on inventory.

Yes. Just to piggyback on that a little bit. Uncommitted is down year-over-year, which is obviously a positive. And of that uncommitted at the end of the quarter, a significant amount is very committed, and we're just waiting to go through the process of getting all the contracts and everything in there. So that's part of the reduction there. And the other is the green unpacked inventory is also significantly reduced year-on-year, and it's partly due to the delayed start-up of certain crops in some jurisdictions around the world as well.

Yes. And then if I look at SG&A, I think it was, what, $45 million for the quarter. Yes. So if I annualize that, I get to around $180 million run rate figure. What do you think that number should be in a year or 2?

Yes. I think if you look back at where we were probably 4 or 5 years ago, that's probably a pretty darn good target for where we'd like to be. We've not provided any guidance on that. But a lot of the efficiency improvement related work that we've been doing, I think, is geared to try to bring SG&A in as much as we can. And so it should -- you should start to see it start to move in. I think it's also important to point out that there were certain items that should not be recurring that flow through that line item in the current quarter. So I think we called this out. So...

Got you. Okay. I think the thing where we struggle with is seeing inventory down, but the message of sales are there. They're just delayed. Just trying to reconcile those is difficult, again, given the less granular information that we see. So any help you can give us on understanding what Q4 and Q1 would look like is obviously appreciated.

Yes. I mean, I think, Ian, as I've said, I mean, I think we should work through these delays over the next -- this quarter and the next. And then hopefully, we will be on a much more normalized time frame as for fiscal '22. We're doing everything we can, including opening our factories early to get samples out because we obviously still don't have customer travel going on. And hopefully, COVID cooperate, and we should get back to a more normalized kind of schedule for the various operations around the globe, including shipments going out in the next financial year.

I was just going to say also on inventory, we've got a bit of a write-up in the Q that I would direct you to. And if you go to Note 10, there's a little bit of a breakout there, and you can kind of see the components and a bit on it. So I think we're very well positioned on inventory.

Okay. And if you look at Universal's results, was there anything do you found surprising or inconsistent with how your business is behaving?