Title

Presentation

Village Farms International, Inc. misses on earnings expectations. Reported EPS is $-0.06 EPS, expectations were $-0.05.

Operator: Good morning, ladies and gentlemen. Welcome to Village Farms International’s First Quarter 2023 Financial Results Conference Call. This morning, Village Farms issued a news release reporting its financial results for the first quarter ended March 31, 2023, that news release along with the company’s financial statements are available on the company’s website at villagefarms.com under the Investors heading. Please note that today’s call is being broadcast live over the Internet and will be archived for replay both by telephone and via the Internet beginning approximately 1 hour following completion of the call. Details of how to access the replays are available in today’s news release. Before we begin, let me remind you that forward-looking statements may be made today during or after the formal part of this conference call.

Certain material assumptions were applied in providing these statements, many of which are beyond our control. These statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expressed or implied in forward-looking statements. A summary of these underlying assumptions, risks and uncertainties is contained in the company’s various securities filings with the SEC and Canadian regulators, including its Form 10-K, MD&A for the year ended December 31, 2022 and 10-Q for the quarter ended March 31, 2023, which will be available on EDGAR. These forward-looking statements are made as of today’s date. And except as required by applicable securities law, we undertake no obligation to publicly update or revise any such statements.

I would now like to turn the call over to Michael DeGiglio, Chief Executive Officer of Village Farms International. Please go ahead, Mr. DeGiglio.

Michael DeGiglio: Thank you, Bella. Good morning, everyone, and thank you for joining us on today’s call. With me are Village Farms’ Chief Financial Officer, Steve Ruffini; Village Farms’ Head of Canadian Cannabis, Mandesh Dosanjh; and Village Farms’ Executive Vice President of Corporate Affairs, Ann Gillin Lefever; and Patti Smith, Vice President and Corporate Control. As per our usual format, Steve and I will review the operating highlights and financial results for the quarter, and then open up the call for questions. So let’s begin. The first quarter was a solid start to 2023 with 3 particularly noteworthy highlights. First, our fresh produce business is tracking towards our goal of achieving sustainable positive adjusted EBITDA for this year.

Fresh delivered its third consecutive quarter of significant sequential improvement, approaching breakeven adjusted EBITDA with a Q1 EBITDA loss of just under $1 million. That’s a $5.2 million turnaround from Q1 last year and a $2 million improvement from Q4. While there’s still much work to be done, I’m encouraged by the meaningful and steady progress over the past several quarters. Second, despite what remains a very difficult environment in which to operate, our Canadian cannabis business continues to be one of the best and most consistent performers in the country. Retail branded sales once again significantly outpaced market growth, and we expanded market share while continuing to generate positive adjusted EBITDA, which we did again this quarter.

And third, we have added markets to our Canadian export channel, which is generating strong momentum in this part of our international cannabis strategy, where margins are much higher and taxation is rational. Let me address each of these, starting with Canadian cannabis first. Village Farms’ Canadian cannabis business keeps putting up big points on the scoreboard, which in a normal operating environment would be recognized. There are 3 key areas in which the team continues to deliver: One, our #1 position in dried flower category nationally, which we have held consistently for 5 quarters now, and which remains the largest product category and the basis for all product formats; two, our strategic acquisition of Rose LifeScience, which has been accretive to their growth in the important Quebec market, and thus a contributor to our overall growth; and three, our execution, commercialization and investment in innovation, which propelled us into the #2 market share position overall last year and which we maintained during Q1 of this year.

Notably, we are 1 of just 3 of the top 10 producers that meaningfully grew market share over the past year, and we outpaced the second biggest gainer by more than 2:1. Our low-cost production capabilities and continued incremental gains in our efficiency enabled us to generate year-over-year growth in adjusted EBITDA, our 18th consecutive quarter in positive territory. The team is focused on execution against those variables in our control. Yet despite the proven and sustainable strategic advantages built into our Canadian cannabis model, we are operating in a structure that keeps much beyond our control. It feels like we are playing the game with one hand and both feet tied behind our back. The iconic federal legalization of cannabis in Canada is approaching the 6-year mark.

It was a bold, courageous and progressive move designed to bring about the availability of a safe, regulated product, create a new healthy competitive industry and convert an illicit market into beneficial tax revenue. As we speak, when many other governments exploring legalization, we are asked about the Canadian model. There are many positives: The availability of a safe, regulated product; innovation and emerging research to benefit the consumer; and a partnership between operators and regulators where the rules are largely transparent or at least a means to discuss. Yet as we and other LPs have noted respectfully in our conversations with the regulators, the Canadian excise tax is strangling the economics of producers and as a result, not generating the sustainable tax dollars government expected.

To put this in context, Q1 alone, we incurred CAD 18.6 million in excise tax, more than our entire payroll expense on branded sales of CAD 47 million or 40% of our provincial sales in the quarter. This does not include payroll tax or property tax or licensing tax or income tax. If we were an alcohol tobacco company, that nearly CAD 19 million in excise tax would be in the neighborhood of just under CAD 5 million. Let me say that again: If we were an alcohol tobacco company, we’d have paid roughly CAD 14 million less in tax this quarter alone. It’s ludicrous. It’s not surprising that then, as others have noted, the majority of LPs are not paying these taxes. We suspect the economics do not allow it. It has been well documented by industry experts that the government is solely the most profitable entity in the Canadian cannabis supply chain, and we believe the illicit trade is likely the most profitable.

This has provided the illicit markets ample room to underprice the legal, safe market, a major reason why the illicit market remains strong and underground for the industry. It’s questionable then if the legal industry will be able to convert to remain 40% or so of all Canadian cannabis sales, that is still illicit product under excise tax regime. This is clearly inconsistent with the industry’s desired contribution in that it challenges local enforcement efforts. It challenges profitability. Just look at the lack of the corporate income tax contributions, the thousands of job losses and impacts on ancillary businesses and local communities. And it challenges future investment. Innovation cannot be filtered out of continued capital injection.

I feel this is another area that illicit trade can surpass the industry. More [indiscernible] tax structure, flat per gram tax takes the absurd to another level in the contents of the rapid expansion of the value segment of the market, including our own Fraser Valley Weed Company. All of this is one reason we are attracted to the opportunities in international markets. The second highlight for our Q1. Leveraging experience in Canada for international opportunities, with their attractive profit profile is a core part of our cannabis strategy, and we are seeing very good momentum. Year-over-year export sales were up more than tenfold and now contribute nearly 7% to our Canadian cannabis segment sales. Most of the export growth to date, including this quarter, has come from our first export market [indiscernible].

Earlier this year, we added a second export market with the launch of Pure Sunfarms brands in Israel. And last week, we announced our launch in the German medicinal market, after successfully completing all testing protocols and testament to our team and local partner, IUVO Therapeutics. While the lead up to both market launches had its delays, I’m pleased that we have received follow-on orders for both countries, and we are thrilled to build our business with some local partners. And then finally, my third takeaway for Q1 is a significant turnaround in our fresh produce business. Fresh is an important strategic business for Village Farms. We are committed to de-risking it and returning it to profitability as part of our long-term growth strategy.

Q1 was another very encouraging step in that direction. The macro environment has improved, oversupply is getting under control and we have made adjustments for inflation. We continue to work on our improvements across all aspects of our operations from greenhouse to customers receiving docs, including best-in-class operating protocols to manage plant viruses, as you know, that’s been difficult the last few years. Our fresh results for the first quarter continue to support our confidence in sustainable improvement, improved financial performance for our produce business this year and reinforce our belief in the value of this business. Fresh and cannabis are synergistic. Each benefits from the other’s expertise, assets and deep rooted experience.

We have capitalized on these synergies in Canada and have long eyed the United States. As such, we have formally applied for a medicinal license in Texas, where the lead use of medicinal cannabis may be greatly expanded to include chronic pain. While the number of potential licenses and timing of when a state will make a decision are unknown, we are encouraged by the potential to contribute our cannabis expertise of decades of investment in the state of Texas and our deep agriculture routes to any future plans by Texas to award additional licenses. Should we receive a license, we will work with the stock exchanges towards an acceptable ownership structure that would enable us to participate in the market. With respect to our current CBD business in the United States, Balance Health Botanicals continue to hold its own in another very difficult market in which to operate.

We continue to benefit from the success of Synergy+ and its line of products last year. So far this year, this business is operating more or less on plan. And with the continued focus on costs supporting near breakeven adjusted EBITDA. Regulation of the CBD business would be a meaningful game changer for this business, and we eagerly wait the outcome of the Farm Bill 2023 this year. The potential review of the category, in the meantime, the team is operating under the highest production standards, both from our current customers as well as the opportunity to expand when food drug mass retails are ready and open. So with that, I’ll turn the call over to Steve for a more detailed review of financials. Steve?

Stephen Ruffini: Thanks, Mike. Consolidated sales for all of Village Farms for the first quarter were $64.7 million, a decrease of 8% from Q1 of last year, with the decrease due to lower sales from fresh produce and U.S. cannabis, which were partially offset by Canadian cannabis sales. On a constant currency basis, sales declined 5%, with a stronger year-over-year U.S. dollar reducing our reported number by 2.6%. On a constant currency basis, our cannabis business sales were 48% of our consolidated U.S. dollar sales. Consolidated net loss for the quarter was $6.6 million or $0.06 per share compared to a net loss of $6.5 million or $0.07 per share for the same period last year. The slight increase in net loss was mainly due to our improved operating loss of improvement of $2.2 million, being offset by a higher year-on-year in our income tax expense of $2.3 million as we are booking a valuation allowance for our U.S. tax losses, which we started in Q4 of 2022.

Operating loss before tax for Q1 improved 27% from Q1 last year. Improvement was mainly the result of the improved operating performance from VF Fresh. Consolidated adjusted EBITDA for Q1 was $519,000. This is a significant year-over-year improvement from negative $6.1 million for Q1 last year, which is mainly the result of a $5.2 million fresh produce EBITDA turnaround Mike discussed earlier, as well as higher EBITDA from our Canadian businesses and a 13% year-over-year decrease in corporate costs to $2.2 million, excluding stock compensation. Turning to our Canadian cannabis results, which I will discuss in Canadian dollars to provide a more accurate gauge of period-to-period performance without exchange fluctuations. Net sales for Q1 grew 23% year-over-year to CAD 34 million, with retail branded sales growing 40%, once again outpacing overall Canadian market growth by a wide margin.

Beginning this quarter, we are breaking out our international export sales in our Canadian cannabis business as they are becoming a larger part of our sales mix. And as Mike discussed, with more favorable margins, is an increased focus for us. International sales were $1.7 million, which was a 750% increase over Q1 of last year. Non-branded or wholesale sales for Q1 were $2.3 million compared with $4.9 million in Q1 last year. As already low spot prices in an oversupplied market were further eroded by large inventory liquidations. As we have discussed many times, the wholesale market is opportunistic for us, and we have been selective around our participation in the current market environment, with the expectation of improved pricing when supply is more aligned with the [indiscernible].

Gross margin for Canadian cannabis in Q1 was 33%, essentially in line with our 34% in adjusted gross margin we reported in Q1 of 2022, which excluded the purchase price inventory adjustment in that period. The slight decrease in margin was primarily related to a sales mix with a higher portion of lower-margin Fraser Valley sales as that brand continues to have success in the value segment of the market, and it was not launched until the back half of 2022, being, for the most part, offset by the higher margins on our higher international sales. Selling, general and administrative expenses for Canadian cannabis for Q1 were CAD 9.3 million or 27% of net sales, unchanged from CAD 9.3 million in Q1 last year, but down as a percentage of sales from 34% in Q1 2022.

On a sequential basis, SG&A costs were down on a dollar-on-dollar basis, from $9.8 million in Q4 and unchanged as a percent of sales. I will note that Q1 is typically elevated on a percentage of sales basis due to seasonally lower sales. SG&A cost efficiency remain an organizational-wide focus. Our Canadian cannabis operations delivered their 18th consecutive quarter of positive adjusted EBITDA of CAD 5.3 million, which was up 95% from CAD 2.7 million for the Q1 of last year. We continue to generate solid positive EBITDA in a tough and uber-competitive pricing market. Moving now to our U.S. cannabis operations, for which I will revert back to U.S. dollars. U.S. cannabis sales for Q1 2023 generated entirely by our CBD business, Balanced Health were $5 million, generating a gross margin of 65%.

This compares with sales of $7 million and a gross margin of 67% for Q1 last year. The sales decrease was primarily due to the industry-wide challenges, which we have mitigated with new product introductions, including our Synergy+ line of hemp-derived THC products. Adjusted EBITDA for U.S. cannabis was just under breakeven at negative $151,000 compared to a positive $580,000 in adjusted EBITDA in Q1 of last year. Based on the information we have, we continue to believe that we are outperforming the majority of CBD-focused peers. Turning now to fresh produce. Although our financial performance continues to be impacted by inflationary pressures, we achieved our third consecutive quarter of sequential improvement in this business, which resulted in a considerable year-over-year improvement.

Produce sales were down 16% year-over-year with an increase in sales from our own facilities being offset by lower produce sales from our other suppliers due to lower year-on-year volumes, as we transition our partner growers during 2023. The lower year-on-year volumes were offset by a 27% increase in price due to both generally higher market pricing in early 2023 versus early 2022, as well as our success in having a higher percentage of VF Fresh sales going direct to retail accounts, who generally pay a higher price than our wholesale accounts, which is one of the early wins in our operational plan. The higher sales price is the primary driver of our improved EBITDA. Adjusted EBITDA loss for fresh produce took another step closer to breakeven with a loss of $995,000, which was a substantial improvement over the loss of $6.2 million in Q1 of last year, as well as the negative $3 million for Q4 of 2022.

A continued stabilization of the macro environment and our work on improving yields and customer profitability continues to support our confidence in substantially improved financial performance from this business in 2023. Turning now to cash and the balance sheet. At the end of Q1, we had cash of $34.9 million and $80.3 million of working capital, which are substantial increases from the $21.7 million and $60.8 million, respectively, at the end of the fourth quarter of 2022. Total debt at the end of Q1 was $52 million, down slightly from $53.5 million at the end of the prior quarter as our recurring loan amortization is close to $1.5 million per quarter. I’m also very pleased to report we extended the Pure Sunfarms revolving and non-revolving credit facilities, which now expire in February 2026 from February 2024 under the same terms, conditions and covenants.

In the current environment of tighter credit, higher interest rates, lower risk tolerance, financial challenges of many of our Canadian cannabis peers, as well as the regulatory focus on the health of our financial institutions, the extension is a strong indicator by our lenders in our cannabis business operations. And now I’ll turn the call back to Mike.

Michael DeGiglio: Thank you, Steve. So in closing, I want to reiterate some points. One, we are pursuing return-enhancing growth opportunities that line up with our expertise and core capabilities. This focus matters. We are still in the very early stages of cannabis markets in North America and around the world, and there are many wrinkles in these markets still to be ironed out. Two, we are holding ourselves accountable for what is in our control. And finally, I appreciate listening to our reflections on the challenges in the Canadian cannabis sector. I also appreciate the partnership of many in this industry. Governments are making bold decisions to revise decade long entrenched stigmas about cannabis, and we applaud their strategic rationale to provide a safe, regulated product.

This is core to our DNA also. Village Farms will continue to work with all regulators to get the balance right to achieve these goals for the benefit of the industry, for the benefit of consumers and for the benefit of Village Farms and all its stakeholders. We’ll turn over for calls at this point. Operator, Bella, we’re ready.

Operator: [Operator Instructions]. And our first question comes from the line of Frederico Gomes with ATB Capital Markets.

Operator: [Operator Instructions]. And your next question comes from the line of Aaron Grey with Alliance Global Partners.

Operator: And your next question comes from the line of Eric Des Lauriers with Craig-Hallum Capital Group. .

Operator: Your next question comes from the line of Michael Freeman with Raymond James.

Operator: And your next question comes from the line of Ben Klimber with Stifel GMP.

Operator: [Operator Instructions]. We have a follow-up question from Ben Klimber from Stifel. It looks like he has withdrawn the question. Yes. We don’t have further questions in the queue. I will now turn the call back over to Mr. DeGiglio.

Michael DeGiglio: All right. Thank you, Bella, and thank you to everyone for joining us today, and we certainly look forward to speaking to you at the time of our Q2 announcement and conference call in August. Have a great day. Thank you. Thanks, operator.

Operator: This concludes today’s conference call. Thank you for your participation. You may now disconnect.