Rubicon Organics Inc. (ROMJF) Q1 2023 Earnings Call Transcript

Rubicon Organics Inc. (OTCQX:ROMJF) Q1 2023 Results Conference Call May 23, 2023 10:00 AM ET

Company Participants

Margaret Brodie - Interim CEO & CFO

Conference Call Participants

Michael Freeman - Raymond James

Neal Gilmer - Haywood Securities

Operator

Good morning, everyone. Welcome to Rubicon Organics First Quarter March 31, 2023 Financial Results Conference Call. As a reminder, this conference is being recorded on May 23, 2023. At this time all participants are in a listen-only mode. Following the presentation we will conduct a question-and-answer session. Instructions will be provided at that time for research analysts to queue for questions.

Before we begin, I will refer you to Slide 2 of our presentation, which contains Rubicon's caution regarding forward-looking statements and non-GAAP measures. Today's presenter will be Margaret Brodie, Interim CEO and CFO.

I will now turn the call over to Margaret Brodie for the presentation.

Margaret Brodie

Thank you, operator, and good morning, everyone. Today, I'll provide an update on Rubicon Organics performance in Q1 2023, highlighting our progress as an emerging winner in the Canadian cannabis market.

In Q1 2023, we achieved net revenue of $8.8 million for the 3 months ended Q1 '23, a 71% increase in the prior -- same period in the prior year, and we achieved both positive operating cash flow and adjusted EBITDA of $200,000, marking our fourth consecutive quarter of positive adjusted EBITDA and third consecutive quarter of positive operating cash flow.

Over the last 3 months, and the past 12 months, our growth rate has consistently exceeded the overall cannabis markets growth rate, resulting in our national market share growing from 1.8% in Q1 '22 to 2.1% in the total market of Q1 '23 and 5.3% in the premium flower and pre-roll market in the same period.

Despite Q1 being the cannabis industry's seasonally sluggish quarter, in Q1 '23, we have established a solid foundation for achieving profitability through the remainder of '23 and plan to deliver on that.

Let's move on to discussing each of our key priorities for the year and how we are progressing against each one. We have 4 key priorities for '23, as you can see, firstly, to optimize yield and cultivation of the Delta facility. Secondly, we seek to maximize the Canadian premium opportunity. Thirdly, we want to drive efficiency in systems and processes. And lastly, we aim to build a proud and engaged team who deliver outstanding results.

As you would have seen from me before, our fourth priority is to optimize yields and cultivation at the Delta facility.

Rubicon is dedicated to providing the Canadian market with super premium quality cannabis flower products as our primary focus. As a flower first business, we prioritized excellence in this domain and constantly strive to enhance our flower quality. We maintain an unwavering and endless commitment to continuous improvement, acknowledging that we can always push quality further.

Producing on a large scale in the greenhouse environment is subject to seasonal influence, which can present challenges. We recognize and navigate these factors, ensuring that our operations remain robust and adaptable.

Additionally, while commercializing new strengths to meet evolving market demand, we also uphold our brand standards, introducing further complexities that we diligently address. By acknowledging the hurdles inherent in our industry and proactively addressing them, we maintain our dedication to delivering exceptional cannabis products while upholding our commitment to quality and customer satisfaction.

Rubicon's cultivation and processing teams are constantly evaluating data, looking at improvements in trailing new genetics and methodologies to improve our products, and we believe the steady incremental improvements in our quality are demonstrated in the market with recent drops in both Simply Bare Organic and 1964 Supply Co.

At the end of April, we made necessary improvements to our second cultivation compartment with respect to its ground cover. Now that this groundwork is completed, the remaining 50% of the facility, which does not have table, is ready for their installation planned for August of '23. Tables will firstly improve air circulation, which is a contributor to product quality and reduces its humidity risk and increases our total yield capacity by providing more production roads.

As we previously mentioned, tables have now been ordered with an installation plan for late December, and we expect to see the positive impact of these tables in late '23 and early '24 crops.

Secondly, we seek to maximize the Canadian premium opportunity. Our goal is to optimize the gross margin per gram produced by offering customers the right genetics and product formats at the appropriate price to value. We aim to grow the Simply Bare brand and enhance the gross profit of other brands. As we currently face capacity limitations, we are strategically making product decisions to maximize contribution margins, while meeting consumer and customer, i.e., the provinces demand.

In '22, infused pre-rolls gained market share and consumer interest impacting our pre-roll business. However, our introduction of infused pre-rolls in both Simply Bare and 1964 have revitalized the category for us. Furthermore, we launched exciting new genetics in 23, including Cleopatra and White Rainbow and Simply Bare, which we anticipate will drive momentum for the brand. We have taken the first step to achieve incremental gross profit beyond our production capacity at Delta. And in April, launched 1964 single strain live rosin edibles in 2 flavors in Ontario and B.C., expecting to generate additional sales and gross profit with minimal impact on Delta's capacity.

Additionally, we have been establishing contract grow relationships to ensure Rubicon's quality standards, and we anticipate the initial outcomes of this program in late '23. These projects are projected to contribute increased net revenue and gross profit.

Thirdly, we want to drive efficiency and process in systems. To improve efficiency, Rubicon is evaluating new information systems and plan to implement them in the second half of '23, reducing reliance on manual processes and key individuals. Though it will drive short-term nonrecurring costs, new systems will increase Rubicon's resilience and repeatability, readiness for further growth. We have also kicked off a piece of work to increase the knowledge base of the wider business and further embed and institutionalize the Rubicon way of operating to build our business resilience and continuity consistency.

Lastly, we aim to build a proud and engaged team who deliver outstanding results. At Rubicon, we placed a strong emphasis on team member engagement and pride to ensure the delivery of a premium product while minimizing costs related to team member turnover.

Currently, our '23 engagement surveys in progress, allowing us to gather valuable feedback from our team members.

Additionally, we are actively seeking input from across the company to refresh the Rubicon value as we embark on the next phase of our business.

In line with our commitment to accountability, we are preparing to release our third environmental, social and governance report in the upcoming months.

The overall cannabis market continues to grow in Canada. And according to Statistics Canada, in '22, we saw sales in the legal market of $4.5 billion.

As many of you are aware, it is estimated that there remains 40% to 50% of consumers still purchasing in the black market, and we expect a large share of those customers to shift into the legal market over the coming years with the total Canadian market continuing to grow.

Regarding the premium market, although it is still outpacing the overall market with a 17% growth rate at the end of Q1, we are observing convergence beginning between premium growth and overall growth, indicating a deceleration trend. However, it is important to note that the legal cannabis market continues to expand, and there is significant potential for growth. In the last 18 months, there has been a large increase in competition in the premium category, largely driven from the craft movement, but I can report that Rubicon saw growth across all 4 key provinces in which it operates; British Columbia, Alberta, Ontario and Quebec in Q1 '23 compared to the same period last year. as competition in the premium space intensified it becomes crucial for us to adapt and realign our approach to address changing market dynamics. We are particularly encouraged by results in Ontario, the company -- the country's largest market and we'll continue to focus on expanding our presence and driving growth in that region.

As we saw from the market growth with our 5 brands and various product sizes and formats, we believe we are well positioned to respond to any potential changes in market place and appeal across pocketbooks.

One of our core strength lies in the breadth and brand portfolio from the super-premium, Simply Bare Organic, establishing itself as a leader super-premium and the organic category -- excuse me, to 1964 code targeting legacy consumers and histologic strange from pre-utilization date.

We have strategically diversified our offerings to cover a wide range of formats, sizes and product categories with this approach allowing us to be competitive and agile regardless of the market's direction.

In terms of our results for Q1 '23, you can see from the chart that in the first quarter of '23, the company earned $8.8 million in revenue, 71% up versus the same quarter prior year, and was down versus our record performance in Q4 '22. We anticipated this seasonal well and remain on track for our plans in '23.

The growth in the quarter is broad-based across the portfolio as we have doubled the number of SKUs as compared to the same period a year ago and delivered growth from all brands in our portfolio as well as each of the top 4 provinces.

The growth on Simply Bare was driven by the launch of new strains, larger format and infused per offering being the [Live Basin] roll that was launched in the fourth quarter of '22. 1964 has been the primary driver of the company's growth with a wide range of products now listed across all key provinces and our hero strain Comatose being complemented by new strain launches such as Gelato41 and Super Lemon Haze, which we believe are beginning to resonate with the 1964 consumer.

Looking across the profit line, we see continued growth year-on-year and the expansion of our margin from 14% in Q1 '22 to 34% in Q1 '23, as we see the results of our operating leverage on higher sales over a fixed cost base.

Margin did dip down versus Q4 '22 as a result of seasonal sales dip, but we expect that to recover as sales pick back up next quarter. Overall, we are pleased to start our fiscal year with positive adjusted EBITDA, marketing in the fourth consecutive quarter we achieved this milestone. And looking to cash, we did have a small expected dip in the first quarter but we expect this to pick back up again as sales increase in the summer months of stronger demand for our product. We continue to invest in this facility this year, notably in tables as previously mentioned, but also other operational improvements. We expect CapEx spend to be less than $4 million total for the year, which should leave us with increasing cash balance and a strong working capital position. For information, currently, our cash balance is approximately $8 million.

As we look to the rolling 12-month run rate, we again see broad-based growth coming across our entire portfolio of brands in all key regions. Our super premium brand, Simply Bare is back to net revenue growth for the rolling 12 months, thanks to a stronger 12 Q1 performance on the back of new strain launches and a full quarter of infused pre-rolls being in the market.

With overall premium growth slowing and increased quality competition, we continue to review Simply Bare portfolio to ensure we have a competitive product operating market.

As for 1964, it continues to be the primary driver of total growth in the company over the rolling 12 months. As 22 stats introduce a wider portfolio of products across all major provinces, and we continue to see a strong rate of sale for all of our key product formats.

As we move forward and find ourselves with demand outstripping supply, we expect to face tougher comparisons as we begin lapping ourselves, but we anticipate a strong summer overall.

Looking at gross profit. We continue to see gross profit expansion over the rolling 12 months. as we realize operating leverage from our fixed cost base. Production costs were up in Q1 relative to the prior year despite savings we are experiencing from our BC Hydro project. We continue to refine our growing its and have invested increased cultivation labor as we believe this will result in higher quality yields.

As we saw previously, 2022 was a turning point to Rubicon. And although Q1 is seasonally lower in the cannabis industry, we've continued to deliver positive operating cash flow and adjusted EBITDA Q1 '23, with all 3 metrics indicated herein, demonstrate significant improvement on Q1 2022. Adjusted EBITDA continues to be an important measure for Rubicon as it strips out the noncash items in addition to the EBITDA calculation, such as share-based payments and the gains and losses of biological assets accounting standard, which can have significant swings as we saw between Q3 and Q4 '22.

The year-on-year profitability -- excuse me, improvement in profitability was driven by the 71% increase in our revenue, increased throughput at the facility and continued prudence with our spending in OpEx. Our Q1 results have bolstered our confidence in our business plan for '23 and set the foundation for another strong year of results for Rubicon.

Now to the Canadian cannabis sector and Rubicon Organics within it. 2023 looks to be a challenging year for most of the Canadian cannabis industry. There is currently a financial time bomb in the industry from the ongoing challenges of competing against the black market to a heavily regulated attack in waiting gather body down from licensed producers to retail stores.

Many of our competitors are sitting on multimillion dollar excise bill unpaid to the CRA, and we hear that the tax authority is beginning to come calling. The consensus view from analysts is that in '23, we will see excess low and mediocre quality supply. -- and inefficient operations led the legal industry through closures and bankruptcy. While that is not what many of our companies in the cannabis industry want to hear, I believe that the government is expecting the industry to move on to a stage of more balanced supply-demand equilibrium before making any major changes that will impact the economics of both the federal and provincial level.

So how does that impact Rubicon? As I mentioned before, the legal market is still growing, and the premium category is experiencing double-digit growth. Rubicon is currently capacity constrained, and we are making choices to maximize contribution margin given our constrained product supply. Having a desirable product that consumers want to buy together with our positive EBITDA trajectory and solid balance sheet, I expect that we will emerge as a winner and be in a position to make compelling growth choices as time goes on. And I should mention that I'm lucky to work with a talented, focused and committed leadership team and Board.

In the spring, we have announced our new proposed Board members and the onboarding process is underway. We plan to hold our AGM in this summer, whereby we expect our Board observers will be successful with their nominations. And our Compensation Committee is currently seeking third-party input on appropriate compensation for Board members and C-Suite to stay in line with appropriate comparators.

The Board has also decided that the CEO role will be determined once the new Board is fully onboarded and voted on to the Board and the new group will make the selection of the permanent CEO.

For the time being, I will continue as interim CEO and CFO. The existing leadership team continues with the strategy and is focused on our next milestone. So wrapping up, the overall industry is in a very poor state, which means in order to demonstrate a compelling offer to potential investors, Rubicon needs to remain focused on our strategy and deliver positive results to ultimately drive value for our shareholders.

In addition to driving results, I need to start telling our story to all levels of government and interested investors, and you can expect more of that from me in 2023.

Few companies in the cannabis sectors are positioned financially, such as Rubicon Organics with our premium market position balance sheet and positive trajectory, we expect to deliver continued growth in net revenue, resulting in an increase in gross profit and adjusted EBITDA for the full year of 2023.

And so we would now like to open the line for analyst questions. Operator, please open the line.

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from Neal Gilmer of Haywood Securities.

Neal Gilmer

Margaret, maybe if we could try to expand a little bit on the new tables an area that you talked about in your prepared remarks. Can you sort of characterize sort of how much of the facility, like what sort of percentage that is right now? And am I correct in understanding that there's no growing there in the current time so that you put these tables in. And like you said, you see the benefit later this year. I'm just trying to get a gauge for sort of where you're operating at right now and where you can get to once that project is complete.

Margaret Brodie

Great question. Thanks, Neal. We are growing in the -- we have 5 growing compartments [indiscernible] within the facility at this stage, and we are growing in all of those departments now in about 50% of the facility. We do not have plants on table. What that means is they sit right on the gravel floor and they're ground cover in the facility. When that goes in, we'll be able to actually install additional plants, yes. So we believe it's only about a 7% increase in overall space, but it's -- actually, we believe the impact of yield is expected to be better than that given that it will have a larger impact on quality once things are raising make better air circulation through it. So it should I'll say 7% for now and hold my cards close to my chest. But we think the overall impact on quality will be more significant than that.

Neal Gilmer

Okay. And then just talking to the gross margins. I understand the dip in Q1 with the lower revenue. Your production costs were basically unchanged from Q4.

Margaret Brodie

Yes.

Neal Gilmer

The Q4 level was about 41% adjusted is their room for improvement on top of that? I think we talked a little bit on the last call about this or you say you’re always looking at opportunities. But just trying to say, I think you touched in your prepared remarks saying you expect improvement, but just didn’t know is 41% sort of the run rate going forward, aside from the seasonality in Q1?

Margaret Brodie

I think that’s probably a fair place to put us at the 41%. I think that would – the management team won’t kick me for saying that. Look, is all about the revenue line, which drives everything to the bottom line given the correction cost. Products that are going that are not being produced in our facility, are mixed from our higher gross profit and some are lower. So depending on how large that gets. It will impact that ratio. But I think that’s probably a good place to start.

Operator

[Operator Instructions] The next question comes from Michael Freeman of Raymond James.

Michael Freeman

I wonder if we could talk about Simply Bare, and how you think about this as the most important opportunity for margin growth and the best use of Rubicon's Delta facility. I'm wondering how you're approaching growing the proportion of sales that are through the Simply Bare brand?

And then just as a separate question, I wonder how you're thinking about price. And if you've had to give back price at all on the Simply Bare brand in the recent quarters.

Margaret Brodie

Good question on simply there. Look, we've seen a large increase and you could have seen that in the market to anybody speaking about it in the last number of years has been we're going to go after premium. We're going to go after premiums. You can't just go after premium. You actually have to have the quality, remembering that consumers are buying an item where they can't see the content until they open it up. So the brand promise is very important, and we believe that we are starting to establish that with simply there. Both if there was a recent study done by Brightfield which showed that the top 3 brands with brand recognition by blood tenders across the country. One was general admission. The other two were 1964 and Simply Bare because of that brand promise that this study to get to be delivered.

In terms of growth, I'm not going to -- I'm going to dodge the question a little bit because my marketing team would kill me on all of their tactics. What I can say is new news and genetics is a really important part of that and finding compelling and interesting flavors and commercializing them is one of the important steps but also looking at product formats that are the latest trends and where is that going.

In terms of price, price compression has been, I would say, inconsistent across the country. It's dependent on where some of our competitors have moved, but we've largely held price. The OCS has announced standard markup across its retail platforms to -- so from the OCS to retailers, that will be input in the fall in September, it's going to took place.

There's a bit of game theory happening in the market right now in terms of what people hold price or not. Obviously, I won't say what Rubicon's choices will be, but I think we are currently in a fairly irrational market where a number of companies are in very dire financial straits and we'll do anything to turn their inventory into product sales. We believe that our product quality stands for itself. Simply Bare is an excellent product on the market, as you can see. So I don't think that we are anticipating price decreases.

And sort of following along from that, I would say that in terms of my remarks, look, we're seeing the CRA come in and starting to knock on the doors asking for excise payments. They'll probably start garnishing payments from the provinces soon.

When that starts to happen, we are going to see excess product come out of the market because those LPs just won't be able to continue. They won't be able to fund themselves anymore. And I think from there, I think in the short term, we'll probably have a lot of pressure this summer in probably the low end of the category. And I think then there'll be more opportunity for Rubicon on the other side on everything from price to volume to getting on shelf.

Michael Freeman

All right, and I think following thread to the end of your answer there. I wonder if you could you can provide us a bit of commentary on how you think federal and provincial governments might act to reform on aspects like excise taxes and regulatory fees that are being impressive to the industry today, time lines we might be thinking about for these things and how Rubicon might act in the midst of all these potential events?

Margaret Brodie

Great question. As we get through the next 12 months, I believe that this summer is unfortunately going to be very difficult for a number of companies. If CLA does start garnishing the payments from the provinces, which means they just won't be able to continue to operate. I do expect that the federal government is listening. I think we're hearing that now, and I know provincially in British Columbia Ministry of Farms is taking up the mantle of the cannabis industry.

Recently, Rob wrote a letter to Ottawa, he's made some public statements and some changes. You'll also see last week, he revealed that window coverings were not necessary and some amendments to rules making it safer for tenders in store and reducing stigma of people coming into cannabis stores, which is what we'd like to see.

I believe that there, unfortunately, will be more blood in the streets before the federal government makes change. And I believe they're waiting for as I said, that supply-demand equation to balance a bit more. So my expectation would be next spring, we may see some movement or we may get an announcement on a review of the excise regime, but I don't think the change will be quick.

Coming out of that for us, we'll survive through that. In fact, we'll, I believe, emerge from that in a good, solid position. And that will allow us to take advantage of the moment in terms of distressed facilities, in terms of opportunity on shelf and brand awareness.

Michael Freeman

That's really helpful. And last question for me is you've mentioned seeking contract grow in previous quarters and in your commentary today. I wonder if you could describe to us the qualities of a good partner in contract growing, and I guess the importance in the overall strategy given the capacity constraints, you've described at the Delta facility. Yes -- and how this. Just describe overall how you seek to grow the output from the contract growth and the core facility. Yes.

Margaret Brodie

Sure. From the core facility, the biggest impact that we can have on our results is actually not additional biomass. It's actually increasing the share of Simply Bare, remembering that it's about 1/3 of our sales. That will be the largest way we can improve our results by increasing that percentage. But there are excellent growers out in Canada. We are limited in terms of how we could sell various products, given that we're an organic company. So we are looking at -- we are not looking at doing any contract growth for our Simply Bare brand to be clear. That will all be from our Delta facility.

And as we look forward, it will be for 1964 specifically. And the quality is -- I don't want to go into all the qualities of the would make somebody a great grower because there are a lot of people out there that believe that they are. And you've been in the cannabis industry for a while, you know that everybody is the best grower in the world.

But we think we've got them, so we can laugh certainly about that. Finding solid partners in the cannabis industry is tough, so we actually do a lot of due diligence. And what's important is do what you say you can do, have that premium quality standard, and we won't put anything substandard in our brands. And -- so we'll -- we're largely looking in British Columbia and Quebec. And if it's Quebec, it's really top-tier growers that they've got out there as well. And in British Columbia, it would be organic.

Operator

Thank you. There are no further questions at this time. Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.