Supremex Inc. (SXP) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Supremex Inc. Second Quarter 2021 Results Conference Call. [Operator Instructions] Also be reminded that this call is being recorded on Thursday, August 12, 2021. I would now like to turn the call over to Danielle Ste-Marie. Please go ahead.

Thank you, Jessica. Good morning, ladies and gentlemen. My name is Danielle Ste-Marie, and I'm an independent adviser and act in an investor relations capacity for Supremex. With us today is Stewart Emerson, President and CEO; and Mary Chronopoulos, who recently joined the company as Chief Financial Officer and Corporate Secretary. I would like to welcome you to today's conference call to discuss our financial and operational results for the second quarter ended June 30, 2021, which were released earlier today. This call will be held in English. [Foreign Language] For a more detailed analysis of our results, please see our financial statements, our management discussion and analysis and our press release disclosed earlier this morning and available on the company's website and on SEDAR. In addition, we posted a presentation supporting this conference call, which is available through the webcast and on our website. I would like to remind listeners that this conference call contains forward-looking information within the meaning of applicable Canadian securities laws, and I refer the audience to the forward-looking statements as detailed in the presentation supporting this conference call. Furthermore, risks and uncertainties are discussed throughout the annual information form dated March 31, 2021, under the heading Risk Factors and updated in our latest MD&A. Unless stated otherwise, all figures are expressed in Canadian dollars. During this call and on the accompanying presentation, we use various non-IFRS measures, including adjusted EBITDA and adjusted net earnings. These terms are also defined in our MD&A. With these formalities out of the way, I would like to turn the call over to Stewart Emerson, President and CEO at Supremex, to review this period's key operational highlights. Stewart?

Thank you, Danielle, and good morning, everyone. Before I start our -- the review of operational results, I'd like to take this opportunity to introduce Mary Chronopoulos, who was appointed to the position of CFO in -- effective May 31 of this year. Mary is a highly accomplished financial executive with over 20 years' experience in finance with large private and public companies. She was previously Chief Financial Officer at Energir, a diversified energy company with over $2.5 billion in sales, and has held various executive roles in finance, with leading retail and consumer packaged goods companies, including Group BMR, Aldo Group and Saputo. I look forward to working with Mary, channeling her energy, enthusiasm and experience toward the Supremex growth strategy and diversification strategy. So I'm extremely pleased with our second quarter results. After robust 2020 and Q1, and despite the obvious COVID-related challenges, we're coming out of the first half of the year in a strong position with continued revenue and profitability growth anchored firmly in our strategic plan. In fact, the second quarter of 2021 marks our sixth consecutive quarter of year-over-year improvement in adjusted EBITDA profitability. This strong performance comes from activities across the organization, including growing packaging revenues, strong market share gains in U.S. envelope, supported by the Canadian envelope locations, continued rationalization and synergies in the Canadian envelope platform, the Q1 2021 strategic acquisition of Vista Graphic Communications in the U.S., and finally, our ability to quickly implement price increases across all of our lines of business in lockstep with rapid cost inflation, particularly in the price of paper. This is an important driver of profitability in the quarter and historically. For added color on the packaging side, profitability was supported by a growth in sales as a result of the acquisition of Vista Graphic Communications, a COVID rebound, particularly in the health and beauty segment, and the ability to quickly pass through cost increases and by the continued improvement of our folding carton operations. The revenue growth experienced in this segment overcame a sizable negative foreign exchange impact as an important and growing share of revenues in packaging comes from U.S. customers. Continued ongoing growth experienced in the U.S. envelope market is the result of focused efforts and specific investments dedicated to strengthening our internal sales teams on both sides of the border and from the additional available capacity unlocked in the Royal Envelope acquisition, which allowed us to strengthen both our position in Canada and continue to slowly gain market share south of the border. This growth was also in spite of negative FX conversion in both the quarter and year-to-date as 100% of it is transacted in U.S. dollars. Canadian envelope continues to perform well as the economy starts to gain life. We are encouraged as we see customers starting to rebuild inventories and an improvement in the product mix. Importantly, we are positioned to swiftly implement price increases in lockstep with rising costs, and the team has executed well. Finally, we continue to extract procurement and cost synergies from the Royal acquisition which, coupled with the closure of the Edmonton facility and the downsizing of the Moncton facility, benefited our bottom line. Clearly, the Supremex Inc. results demonstrate the potential and value of our growth and diversification strategy. Of course, none of this happens without the dedication and hard work of our team members. We've worked tirelessly and safely to see us through the worst of the pandemic and allowed us to continue to service our customers in a consistent, predictable and reliable fashion that they have become accustomed to which translated to profitable growth with -- for the company. We intend to renew our Normal Course Issuer Bid, which has been very active over the past 12 months. Since the start of the current NCIB, scheduled to expire August 16 of this year, we've repurchased a total of 1,326,200 common shares, representing 4.7% of the total shares outstanding. We believe the combination of the NCIB renewal and the continued dedication to our growth and diversification objectives is a capital allocation strategy that has the potential to return the most value to shareholders. Looking ahead, while the longer-term effects of the health crisis on envelope demand is unclear, I expect the Canadian envelope market to improve in the coming quarters with the reopening of the economy, increased activity, customers rebuilding inventory and potentially the reemergence of direct mail, partially compensating in the short term for the longer-term secular decline. In the U.S. envelope market, while it is not easy, we still have less than 5% of the market. And I am confident that the efforts to build our sales and marketing teams, along with the additional capacity unlocked in the Royal acquisition, will continue to pay dividends in the U.S. envelope market. As for packaging, we are very excited. Vista Graphic Communications integration is going extremely well. We've installed a strong operator with 30-plus years experience in the packaging industry into the General Manager's position. Customers have embraced the transition and are excited about the expanded capability we bring to the table. The e-commerce equipment ordered and slated for the Vista Indianapolis location is running about 2 months' late from the manufacturer, but we expect to have the much needed additional capacity in the U.S. by the end of 2021. Serving our growing American e-commerce customer base locally and added capacity will provide significant cost advantages and growth opportunities that we expect to recognize in 2022. We have a robust pipeline in both e-commerce and folding carton. And while both the labor and raw material markets remain extremely tight, we are well positioned for important continued growth in packaging. As always, our operational priorities remain, to manage the Canadian envelope platform, to maximize its cash flow generation, to grow into the U.S. envelope market using both Canadian and U.S. assets and continued penetration and diversification in the growing value-added packaging segment. I would now turn the call over to Mary Chronopoulos, our Chief Financial Officer, to review our financial results. Mary?

Thank you very much, Stewart. Good morning, everyone. I'm very proud to join the Supremex family, particularly at this time and can't wait to help the team further implement its growth and diversification strategy. We're pleased to report that total revenue for the second quarter of 2021 was up 8.7% to $51.8 million. Revenue from the envelope segment was up 7.6% or $2.4 million to $35.2 million. Our Canadian envelope revenue grew by 4.5% or $1 million to $23.2 million. Average selling prices increased by 9.4% from last year's comparable period on swiftly implemented price increases to reflect rising input costs and for changes in product mix, offset by volume decreases of 4.5% from the secular decline affecting the envelope market. Revenue for the U.S. envelope market increased by 14.1% or $1.4 million to $12 million. The volume of units sold increased by 28.7% from efforts dedicated to gain market share and from the COVID-19 economic rebound. Although price increases were implemented in the United States market, our average selling price, once translated in Canadian dollars, actually decreased by 11.3% from the negative foreign exchange translation during the period. Packaging and specialty products segment revenue grew by 11.1% or $1.7 million to $16.6 million, primarily from the acquisition of Vista Graphic Communications concluded on March 8, 2021. Our second quarter EBITDA and adjusted EBITDA increased by 24.1% and 24.2%, respectively, to $8.6 million from $6.9 million in the second quarter of 2020. This resulted from higher revenue in both segments, operational efficiencies derived from the cost optimization plan and $900,000 recorded in subsidies. Adjusted EBITDA margins increased by 16.5% of revenue compared to 14.5% in the equivalent quarter of 2020. Excluding the contribution of the subsidies, adjusted EBITDA margin stood at 14.9% of revenue in the second quarter of 2021. The envelope segment adjusted EBITDA was up 10.6% to $6.3 million. The operating profitability of the Canadian envelope operations improved with the operational efficiencies derived from the cost optimization plan, in addition to higher sales volume. On a percentage of segmented revenue, adjusted EBITDA from the envelope segment was 18%, up from 17.5% in the equivalent period of 2020. The packaging and specialty products segment's adjusted EBITDA grew by 20.6% to $2.4 million, primarily from the acquisition of Vista Graphic Communications. Adjusted EBITDA margins from the packaging and specialty operations increased by 14.5% to 13.3% in the equivalent quarter of 2020. The balance of the variance results primarily from the contributions of CEWS. Q2 2021 net earnings and adjusted net earnings were $3.4 million or $0.12 per share compared to $1.9 million or $0.07 per share for the equivalent period in 2020. Cash flows related to operating activities decreased by $4.9 million from $10.7 million in Q2 2020, resulting from a negative net change in working capital. Total net debt stands at $54 million, down from $56.8 million despite an amount of $2.7 million used to acquire Vista Graphics Communications in Q1 2021. During Q2 2021, the company also purchased 488,100 common shares for cancellation under its NCIB program for a total consideration of $1,106,683. And as Stewart mentioned, we intend to renew our Normal Course Issuer Bid expiring on August 16, 2021. The press release will be issued upon its approval by the TSX. I would now like to turn the call over to analysts for questions. Operator?

[Operator Instructions]

Operator, I see there's someone on the queue. I think you might want to let them through.

Absolutely. So our first question comes from Neil Linsdell of iA Capital Markets.

So that's some pretty good performance in a difficult market. Can you -- you talked about the U.S. envelope, I think that was kind of quite strong. You talked about market share gains. How much of that or the improvement over the last year was kind of a restocking after destocking in Q2 2020 versus efforts to really expand your customer base?

In the U.S., I mean when we talk about restocking, that was primarily directed towards Canadian envelope customers. In the U.S., while there was some, the majority of it is further penetration of both customers and the market as a whole. Limited impact on restocking and the volume. I think the big driver there, Neil, if I could just expand a little bit is our capacity out of the Canadian operations. Available capacity of the Canadian operations has increased as we've moved some of the Royal production were met for Eastern Canada to our Montreal locations. And for Western Canada to our Western Canada locations creates additional capacity in Toronto that we can sell into the U.S. Really helped us -- helped the team out there to grow.

And is that -- what is exactly the clients looking for in the U.S.? Is it really about surety of better supply that you're able to offer because of your scale? Or is it more the -- is it more of a pricing or product [indiscernible] or anything?

Yes. The U.S. market is clearly more price sensitive than the Canadian envelope market is. But there's significant supply chain issues out there being 1 of the top 5 or 5 largest envelope manufacturers in North America. We have a pretty robust supply chain. So we're able to do some things on the raw material side that perhaps some of the smaller U.S. competitors can't do. So it's a little bit shoring up supply chain. And the other part, as being a big provider with vast resources, we can bring some things to the table that other suppliers can't and customers appreciate it.

And is that like technological innovation because you do probably have bigger R&D budgets than some of the other competitors?

Yes. I would say R&D is probably not it. Most of it envelopes and envelopes -- but there are some -- there are things that we can do as some capabilities that we have that not everybody has. I mean they're not proprietary by any stretch, but the ability to print 4 colors and double windows and large windows, not everybody can do that. And as we get -- as the sales team has built out and is reaching new customers and introducing Supremex, with these capabilities, it's -- we're an appealing and attractive option for new customers.

Okay. Just -- and reflecting back over the last, say, 12 or 18 months, and I'm thinking more about the packaging side, but this could be applicable to the envelope side. With everything that your customers have had to go through to change their practices or procedures or where they're focusing on, what -- can you talk about how customers are behaving or kind of products or technology they're asking for now that is going to work in your favor or that you have to change your approach to be able to address it? I'm just wondering about like how the pandemic and everything has changed what they're looking at?

There's a few things in there. With the scarcity of supply and rapid inflation, I think customers are sort of first focusing on ensuring that they have product available. And they're securing the supply chain, just to make sure that they've got products. So they're gravitating towards more Tier 1 type suppliers that have more robust supply chains themselves for raw materials. The other thing is as we work from home, the requirement for IT capabilities and integration, storefronts, electronic medias, which inherently come or we're able to provide with scale are becoming more and more important for customers as they're reaching into their supply chain remotely. So a lot more pressure on IT to deliver storefronts and integration to the ERP platforms. I think the other thing, if I can just say it out loud, it's a bit of a trend, and I -- there seems to be -- and again, it probably goes back to the supply chain. There seems to be less RFQ-ing of volume where we're not seeing large customers that would traditionally go through a cycle of RFQs on a regular basis. They seem to be put on hold a little bit. And again, I think that's just as they're focusing on other things and people are working remotely versus working through some of those initiatives.

And specifically, I guess that applies to the packaging as well as the envelope. But on the packaging, I'm wondering if with the growth of e-commerce and people looking at their -- how they're dealing with their packaging going from like plastic to cardboard or anything like that have -- is there any noticeable differences in what customers are looking for or new customers that are looking for your types of solutions that kind of stand out?

Absolutely. Sorry, if I misinterpreted your first question. So yes, I mean, our customers are just a microcosm of society at large. The first threshold they have to clear is the stuff available. We've really positioned ourselves as the environmental solution as most paper-based companies have. So we've -- customers are constantly looking to us to rightsize packaging, make it more efficient and to push through the courier or mail stream and then the environmental side of renewable raw materials like paper. So yes, I mean, it's an important consideration for customers, particularly on the e-commerce side.

Yes. And I'm just wondering about how much you think of yourselves as kind of an ESG-focused company or a friendly company from that perspective?

Yes. The formality of ESG, we're not quite there, but we certainly position ourselves with our customers on the environmental side of the ledger.