Vireo Growth Inc. (VREO) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Vireo Health International First Quarter 2020 Earnings Conference Call. [Operator Instructions ] Please be advised that today's conference is being recorded. [Operator Instructions] I would now like to hand the conference over to your speaker for today, Sam Gibbons with Investor Relations. Please go ahead.

Thank you, Jack, and thanks to everyone for joining us. With me on today's call is our Chief Executive Officer, Dr. Kyle Kingsley; and our Chief Financial Officer, Shaun Nugent. Today's conference call is being webcast live from the Investor Relations section of our website, and dial in and webcast details for the call have also been provided on Slide 3 of today's presentation, which is also available on our website. Before we get started, I'd like to remind everyone that today's call may contain forward-looking statements within the meaning of North American securities laws. These statements are based on management's current expectations and involve risks and uncertainties that could differ materially from actual events and those described in such forward-looking statements. For more information on forward-looking statements, please refer to cautionary note regarding forward-looking statements in today's earnings release. Now I'll hand the call over to Dr. Kingsley.

Thanks, Sam. Good morning, everyone, and thank you all for joining us. Before we begin the review of the quarter, I'd like to provide a brief update on our response to the coronavirus pandemic. As we discussed in our last call, we've been able to maintain our operations in each of our core state-based markets with essential service designations. Thus far, we've been fortunate to avoid any significant disruptions to the performance of our business, and we're continuing to carefully monitor our local operations closely. There are also encouraging signs that some of the temporary approvals to patient point-of-sale protocols to help with social distancing guidelines may become permanent in some of our markets. This type of regulatory development could help streamline operations and potentially contribute to growth in patient enrollment and sales. I'd also like to remind investors that we continue to believe that each of our core markets has the potential to enact adult-use legislation over the next 6 to 24 months, which could be transformative for revenue growth and profitability across our operating footprint. Please turn to Slides 4 and 5, where we've provided a summary of highlights from the quarter, which was the strongest quarter of revenue growth in our company's history. Total revenues grew 34% sequentially and more than doubled with 110% growth year-over-year. We're continuing to experience good growth across most of our state-based programs, but performance in the first quarter was especially strong in Minnesota and Pennsylvania. Patient enrollments in Minnesota continue to grow nicely, and we believe recent initiatives to improve market share within the state are beginning to gain traction. We've recently introduced new lines of tablet products that are unique to this market, and we're excited about the potential for additional new product introductions in the future. We also see great opportunities for our 4 additional dispensary licenses, which were allowed by the state legislature last year. And we should be able to discuss those potential locations in more detail on next quarter's earnings call. In Pennsylvania, we're benefiting from increased sell-through of retail sales as our first 2 dispensaries, which opened late last year, are continuing to ramp up sales levels. We've also been pleased with our recent progress in Arizona, Maryland and New Mexico, and we expect each of those to remain strong growth drivers for us over the near to medium term. New product introductions, expanding retail dispensary locations and more favorable retail versus wholesale revenue mix in the future are all areas of potential performance improvement in these markets for Vireo, and we believe we'll be able to execute on the strategic priorities in the coming quarters. Sales were roughly flat in New York during the quarter as retail traffic declined amidst the coronavirus were somewhat offset by wholesale channel growth as well as growth in our home delivery business. For those of you who are new to the Vireo story, we have previously discussed home delivery representing approximately 1/3 of our sales in the New York market. But amidst the coronavirus, that figure has begun approaching 50% and would not surprise me if that number keeps growing. We can't overstate the long-term potential we see in the New York market. And as one of the first 5 operators in the States' medical cannabis program, we built our home delivery business and e-commerce platform from front to back and own and operate the entire infrastructure supporting that part of our business. We expect New York to be a very strong growth driver for Vireo in the future if and when the regulatory environment shifts to adult use, and investors should be mindful that the unit economics for home delivery business have significant potential for margin expansion within an adult-use market. Our adjusted EBITDA performance in the quarter declined compared to prior year, but there are several important areas of clarification within that comparison that should be helpful for investors in understanding the overall trends for our business. First and foremost, first quarter adjusted EBITDA performance was impacted by a onetime gain on a derivative liability of $1.3 million related to the warrants issued in connection with the quarter 1 2020 private placement where we raised $7.8 million of capital for operations. I'd also point out that we incurred about $340,000 of severance expenses which will not recur, and that the full impacts of recent cost reduction initiatives won't begin to materialize in our results until next quarter. As a reminder, we began reducing SG&A and other corporate overhead late last year, and we're continuing to work towards further improvements in our cost structure so we can drive stronger operating leverage in the future as we increase scale in our attractive limited-license market jurisdictions. Overall, we're pleased with our first quarter performance and the direction of our business, and we're confident that our strategy to accelerate our path to becoming cash flow positive by focusing on our core markets is in the best interest of all stakeholders. With improving revenue growth, disciplined cost controls and minimal CapEx requirements moving forward, we believe Vireo is in an excellent position to execute our operating strategy and begin generating positive cash flow in the middle of 2021. Please also be mindful that we're continuing to receive good level of interest from multiple parties regarding the potential divestiture of some of our portfolio of assets and that any potential cash work fall between now and our expected inflection point to generating positive cash flow could be covered by these types of transactions. We're also not opposed to parting ways with a core asset, if it would mean capitalizing the company well into the future without handicapping our long-term potential. Finally, as many of you know, we're continuing to focus on opportunities we see to commercialize several of the long-term opportunities we see within our intellectual property portfolio. We're not in a position to discuss any of these work streams in detail on today's call, but we do expect to have additional announcements about our progress in these areas during the second half of calendar year 2020. That concludes my prepared remarks. I'll now hand the call over to Shaun.

Thank you, Kyle, and thanks to everyone for joining today's call. I'll begin my financial discussion on Slide 5 of today's presentation, where we provided an overview of key financial metrics for the first quarter. All numbers stated refer to U.S. dollars amounts unless otherwise noted. Total revenue for the first quarter was $12.1 million, 110% increase over Q1 2019 and 34% sequentially compared to the last quarter. Revenue growth was driven by retail sales growth in Minnesota and Pennsylvania, wholesale growth in Pennsylvania and Maryland and the acquisitions we completed in Arizona and New Mexico near the end of Q1 2019. Retail revenue through our own dispensaries was $8.2 million in Q1 2020, an increase of approximately 58% compared to 5.2% in Q1 2019. Wholesale revenue of our branded products to third-party dispensaries was $3.9 million in Q1 2020 and reflected revenue from B2B customers in Arizona, Maryland, New York, Ohio and Pennsylvania. Before biological adjustments required by IFRS, the company generated Q1 2020 gross profit of $3.4 million or 28% of revenue as compared to $2.1 million or 37% in the same period last year. The variance in gross profit before fair value adjustments compared to prior year was driven by continued planned overcapacity in several production facilities, a temporary increase in the portion of sales in wholesale versus retail markets, increased demand for concentrated distillate products and increased competition across several markets as they mature. Total operating expense for Q1 were $9.7 million compared to $3.7 million in Q1 2019. This increase is attributable principally to an increase in salary and wages, professional fees and general administrative expenses, including share-based compensation. Other expenses were $995,000 during Q1 2020 compared to $4.6 million in Q1 2019. The favorable reduction in other expenses was primarily attributable to the $3.5 million listing expense related to the company's co-public transaction in the prior year quarter and the gain on derivative liabilities of $1.3 million associated with the private placement warrants that were Canadian denominated. Net loss for the first quarter was $2 million compared to a net loss of $3.4 million in the first quarter of last year. Excluding fair value adjustments, the gain on derivative liability and share-based compensation, adjusted net loss for the first quarter was $8.1 million compared to adjusted net loss of approximately $4.8 million in the prior year quarter. Adjusted EBITDA was a loss of $3.3 million compared to a loss of $1.2 million in Q1 2019. Please refer to the reconciliation of non-IFRS items in the management discussion and analysis, which will be available on SEDAR today, for additional details regarding these metrics. We ended the quarter with total assets of $62.2 million, including cash on hand of $11.7 million. Total current liabilities were $7 million, with 0 debt currently due within 12 months. As of March 31, 2020, there were 37,952,477 equity shares issued and outstanding and 153,463,362 shares outstanding on an as converted fully diluted basis. Again, for additional details surrounding our share structure, including warrants and option grants, please refer to our disclosure surrounding share capital and our quarterly financial statements filed on SEDAR. We're continuing to take a proactive approach to capital allocation decisions and believe it's prudent within our current environment to only deploy capital in our core markets, where we expect to see near-term returns on investments. As Kyle had mentioned, we do not anticipate any additional capital expenditure of significance until further notice beyond ongoing tenant improvement projects funded by our real estate partners. We take responsibility to strong stewards of shareholder capital seriously and believe our recent cost reduction initiatives, combined with lower CapEx spending and expectations for continued revenue growth, position us to begin generating positive cash flow during the first half of 2021. That concludes our prepared remarks, operator. We'll now open the line for analyst questions.

[Operator Instructions] Matt Bottomley with Canaccord Genuity.

I guess, I just wanted to expand a little bit on the dynamic between minimal or nominal CapEx going forward and where some of the growth drivers are in the existing wholesale business and at the 13 retail stores. So just any commentary on maybe where you already have operating leverage or fixed cost that will -- you'll be able to piggyback off to continue to see growth in the existing portfolio versus parts of your portfolio where it will take additional capital to really get additional support.

Thank you. Good question. As we look at our kind of our -- the businesses we've platformed at going forward, the core market is our focus. And we've spent a considerable amount of capital in previous quarters on building out our facilities for scale in many markets, Minnesota, New York are good examples, where we have overcapacity and we built that intentionally with the concept that we're going to get more pull-through from retail. As we expand our business through logical capital expenditures in these core markets, through retail apparatus, that pull-through will allow us to maximize the capacity thus reducing kind of the marginal cost associated with each incremental sale. So we believe that, that focus on core markets with real smart investment in those key areas, those key core markets, will be able to generate the kind of returns that we think are attributed to this type of business.

And then the other question I had is just on a sort of outlook if you could provide for the current quarter, if any. Obviously, there were some special issues that have varied. A lot of that did happen, I think, initially in Minnesota. So any sort of impact on the business there? Or any other trends have been independent of that, that if you could speak of with respect to? What's kind of going to be, I guess, the second quarter of a COVID environment?

Yes. I can speak to that. Things have stabilized substantially here in Minnesota. We did not have any business interruptions of consequence as a result of COVID. And in fact, we've actually seen some augmented flexibility on the regulation side, things like curbside pickup, teleconsultations, both for certifying physicians and for our pharmacists. These are all things that we're hoping we can make these permanent or semi-permanent. It really adds kind of efficiencies. The protest that we've seen really have not been an issue for our dispensaries. We were proactive. And again, no business interruption. We're hopeful, again, that the regulatory changes that we've seen will lead to long-term business efficiencies.

Great. And then just last question for me. One state in particular, Pennsylvania, is a market I'm spending a lot more time trying to understand. I think that maybe after Florida, maybe Arizona, it depends on the better interactive growth profiles out there. So can you just comment on the trends you've seen in that market? And just to confirm, do you still have the ability to open up a third location? And if so, is that considered core market where you might invest capital also?

Yes. Pennsylvania is one of our core markets. We have seen some downward pressure on pricing. Just being transparent, one of the things that isn't optimal for us and PA is sort of the mismatch between our production capacity. We have an 89,000 square foot facility there. And as you mentioned, we only have 2 of our -- 2 of 3 dispensaries open. So it would be great to augment our retail apparatus there. We will make our decision on the third dispensary the same way we do make all of our kind of capital allocation decisions. We have other opportunities that may be more cost effective, but we are authorized to do that third dispensary. That could happen in 2020 potentially.

[Operator Instructions] Graeme Kreindler with Eight Capital.

Just a follow-up with respect to the CapEx. I appreciate the commentary there in terms of what's expected for the year. I was just wondering, does that commentary about minimal CapEx, does that include any sort of budget for potential additional retail openings, whether it be in a market like Minnesota or the potential for a third location in Pennsylvania that you just mentioned?

Yes. So just I can run you through things that we're interested in, on the retail side. There's 4 additional dispensaries authorized in Minnesota. These would be very high-yield for us. There's a dispensary license in Maryland -- Frederick, Maryland, that we're interested in working on. There's a third dispensary in Pennsylvania. Then there's also 1 or 2 additional dispensaries potentially in New Mexico as we look at adult-use potentially in that state. So the retail expansion is definitely a focus. We're getting pretty cost effective on implementing these green goods dispensaries.

So then with respect to the commentary on CapEx, is a portion of that spend allocated to opening additional retail, maybe not necessarily narrow down exactly which markets and when, but there is some border element to that.

Yes. Absolutely, Graeme.

Understood. Okay. Then with respect to -- looking at the operating expenses that declined about $1 million sequentially quarter-over-quarter. You've made moves to decrease the operating expenses here, which it looks like we'll start to see that show up in Q2. So I was just wondering, is it possible to quantify what sort of savings we can see throughout the year and how that's going to be spread out over the next couple quarters?

Yes. Thanks. Good question. I think as I look at our corporate spending, as you indicated, we did some pretty significant adjustments in kind of the middle of 1Q. And to your point, we won't see a lot of that start to roll through until 2Q and then ultimately, 3Q and 4Q. In terms of kind of targets, we don't have any real target set. I do know that we've taken out quite a bit of expense. We've given some kind of guidance around the 20% to 25% in the past. And I think that as we continue to kind of optimize our operation, I do believe we'll be able to get to that point. We're not there yet where it's going to be kind of continuous improvement throughout 2020 and 2021. But we certainly believe there's a good opportunity for us to really maximize our cost structure around this core strategy, the kind of business strategy that we've kind of implemented over the last quarter.

Okay. Understood. Just to follow-up on that. So with respect to 2020, should we expect for the OpEx to decline on an absolute basis or as a percentage of sales to see that come down? How should we be thinking about that for the balance of the year?

We'll have -- it will reduce both on an absolute and a percentage of revenue basis. However, I will note that as we look at G&A costs and overhead, as we plan it into the future, we're more focused on the metric as it relates to a percentage of revenue than the discrete spend.

Okay. And then my last question here. With respect to the adjusted gross margin before any fair value impact bounced back -- increased very nicely here in the quarter. I was wondering in terms of what trends we could expect on that gross margin. You have continued tenant improvements that you're expecting to have come throughout the year. So how could that impact the gross margin? And as you scale up should we expect some volatility or are things at a point where they're at a pretty good state, and we can expect an increased trend as you get more efficient?

Yes. I think that we're on a good trend right here. I don't think it's a volatile situation. Certainly, we are -- we have some overcapacity in a couple of our facilities -- planned overcapacity from that perspective as we are anticipating kind of some future changes that would kind of have a pretty significant inflection point with respect to revenue. We had a kind of a shift in our mix in the first quarter as well, which kind of puts some margin pressure. As we look forward, I think that, that will normalize a little bit more as we kind of expand the retail footprint that Kyle just alluded to. So we believe that we'll start to see kind of quarter-over-quarter improvements in our margins as we scale revenue to take advantage of the capacity as well as kind of get our retail wholesale mix more in line with kind of our long-term perspective.

Russ Stanley with Beacon Securities.

Just a follow-up on your cash flow target for mid-2021, becoming -- pardon me, cash flow positive. I just want to clarify what metric you're referring to, is that net of CapEx as well? And a follow-up to that, I guess, can you elaborate on which markets you're already cash flow positive in?

Yes. Thanks. Good question. Thanks. I think as you look at -- as we start to look at our business going forward and kind of to looking at where we're going to be cash flow positive, when we talk about cash flow positive, we're talking about cash flow positive, after taxes, after CapEx, after our occupancy costs. So true cash flow positive, thus, that we'll have to be able to fund additional growth from operations. That's the goal that we're trying to see. With respect to our individual marketplaces, we have a -- we're a very centralized organization. And on a decentralized basis, as you look at the various markets, our Minnesota market is our strongest market. We generated 56% revenue growth in Minnesota in the first quarter. It's a strong market for us and a cash flow positive market. We're also very bullish on Arizona as well. As far as the rest of the markets are concerned, we're continuing to focus in on operating at the lowest cost level and believe that the combination of those 2 markets I mentioned and the other core markets as they start to ramp up and get to full operation, we expect that all those different state jurisdictions will contribute to cash flow positive in the mid part of 2021.

[Operator Instructions] There are no further questions at this time. I would now like to turn the call back over to Dr. Kingsley.

Thanks again for joining us this morning. We appreciate your continued support, and look forward to speaking to you all again on our second quarter earnings call in August.

This concludes today's conference call. We thank you for your participation. You may now disconnect.