Flow Beverage Corp.

Good morning, everyone. Welcome to Flow Beverage Corp's fiscal Q2 2024 conference call. As a reminder, this conference call is being recorded on June 17, 2024. At this time, all participants are in the 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 up for questions. Before we begin, we would like to remind you that today's presentation and discussion contains forward-looking statements that involve known and unknown risks and uncertainties and other factors that could cause actual results or actual events to differ materially from current expectation and may cause actual results, performance, or achievements to be materially different from those implied by such statements. The forward-looking statements are based upon and include the company's current internal estimates, plans, expectations, opinions, forecasts, projections, targets, guidance, or other statements that are not statements of fact. Any statements contained herein or discussed during today's session that are not statements of historical fact may be deemed to be forward-looking statements. A number of factors could cause actual events, performance, or results to differ materially from what is projected in the forward leaking statements. A more complete discussion of the risks and uncertainties facing the company appear in the company's annual information form, dated January 29, 2024, and the company's management's discussion and analysis for the three months ended April 30, 2024, which are available under the company's profile on CDER+. You are cautioned not to place under reliance on these forward-looking statements, which only speak to date of this presentation. The company disclaims any intention or obligation except to the extent required by law to update or revise any forward-looking statements as a result of new information or future updates or for any reasons. Any forward-looking statement contained herein or discussed during today's session is expressly qualified in its entirety by the above cautionary statement. I will now turn the call over to Nicholas, Chief Executive Officer of Flo. Please go ahead, Nicholas.

Thank you, operator. Good morning, everybody. I'm joined here today by Trent McDonald, Flo's Chief Financial Officer and EVP of Operations. On today's call, We're going to start by providing an overview of Flo's recent milestones, in particular, our Aurora facility expansion. Before I pass the call to Trent, I'll also review Flo's strategic growth priorities for our fiscal 2024. Trent will then take you through a detailed review of our Q2 2024 financial results and share an update on our operational priorities. After Trent's remarks, we'll open the call for questions from our analysts. This morning, we reported the most profitable quarter since becoming a public company three years ago. We delivered our lowest adjusted EBITDA loss as a public company, and we focused on our most profitable channels for the flow branded growth. and realize the financial benefits of our restructuring and operational transformation. With this momentum, we are entering the summer hydration season with a recent, innovative Flo brand and Tetra Pak, and we are positioned to build our progress in profitability and cash flow. In November 2023, we signed a five-year contract $115 million co-packing agreement with Beatbox to produce their party punches in Tetra Prisma format. Just last week, we began commercial production on Beatbox in our Aurora facility. It took about six months to add the fourth line and additional equipment to accommodate the increased production volume that we expect from this take or pay agreement. There were also a few steps prior to starting production since this was our first contract to produce alcoholic beverages. On slide four of our presentation, you can see the first pallet of Beatbox Party Punch rolling off our Aurora facility. Since commissioning just happened last week, there was no revenue attributed to Beatbox's contract in Q2, but we have began to monetize this contract in Q3 and expect it to accelerate in Q4. Also remember, we have recently signed co-packing agreements with BioSteel and Joy Burst for a cumulative minimum net revenue to flow of $148 million over the next five years. We have also been very selective adding co-packing partners ensuring that it contributes to the revenue from these relationships is profitable for flow and provides growth based on the success of achieving by our branded partners. Our strategic growth priorities have not changed. Over the summer hydration season, we are going to be focused on our trade spend in national grocery in both Canada and the US, as well as gas and convenience channels in Canada. These channels provide an optimal mix of volume and profitability for flow and are proven channels. Scaling our co-packing business is also going to be a significant initiative over the next few months. It's going well so far. and we are evaluating a path to add additional lines in Aurora as well. With our contracted revenue from our co-packers, a return to profitable growth for a re-energized flow brand, and continued financial improvements, we still expect to achieve positive EBITDA, adjusted EBITDA, and cash flow from our operations in Q4, which begins this August, September, and October. This concludes my remarks, and now I'll pass it to Trent.

Thank you, Nicholas. As Nicholas said, Flo has achieved its most profitable quarter as a public company in Q2 2024. While the exit of unprofitable commercial partnerships in the United States did offset Flo Brand's net revenue growth in certain profitable channels in Canadian e-commerce, the real story in Q2 2024 was our gross margin increasing to 28%, versus 18% in the same quarter last year, and of course, negative 15% in Q1 of this fiscal year, 2024. There were four primary drivers for our greatly improved gross margin. Our net revenue was comprised of higher profitability channels for the Flo brand. Two, the consolidation of production of the Flo brand at our Aurora production facility, has improved profitability as we no longer outsource any of the production of flow. Three, we have realized improved production utilization at Aurora through the optimization of our operations. And four, we have increased co-packing revenue and volume, which is utilizing capacity and increasing our absorption rate. Our adjusted EBITDA loss was $3.5 million compared to $6.6 million this time last year and a $9.2 million loss just last quarter. As Nicholas mentioned, this is by far the best result we have achieved in the past three years. In addition to significantly improved gross margin, our operating expenses reflected decreased general and administrative expense, as our operational optimization is now approximately 90% complete and lower salaries and benefits reflecting our recent corporate restructuring. We believe we can still improve on profitability and cash flow in the coming two quarters, and we are reiterating, as Nick just alluded to, that our target is to have positive adjusted EBITDA and cash flow from operations in Q4 of this fiscal year. Turning to a bit more detailed review of our P&L, the 26% decrease in flow-branded net revenue is primarily of our own doing, from exiting retail and food service partnerships in the U.S. that were simply unprofitable and were not providing the return for our investment. Unfortunately, this did offset the progress we have been making in other more profitable channels, such as conventional grocery and natural foods. There are lots of good signs with regards to the flow brand, and we are growing in the channels where we deem it to be necessary to grow. While COPAC net revenue increased 13% year over year, we have yet to hit our full stride in this line of business, as these results, as Nick mentioned, do not include contribution from the box contracts. Gross profit increased by almost $1 million due to the factors I just mentioned, which resulted in gross margin of 28%. Sales and marketing expenses remained consistent with prior quarters, and I will reiterate that we hope to invest more in this item once we meet our profitability and cash flow targets. General and administrative expenses were down 26% as compared to Q2 2023, and 40% from just one quarter ago in Q1. This reflects a substantive completion in our efforts to overhaul our logistics functions and other operational transformation initiatives. Salaries and benefits are also down 35% as compared to Q2 of last year and 23% sequentially. This, again, represents the continued impact of our corporate restructuring. To achieve our targets of a positive adjusted EBITDA and cash flow from operations in Q4, we still have to continue executing in all aspects of our business. We expect to see a resumption of growth in the flow brand net revenue in future quarters as the impact of exiting unprofitable contracts and competitor reselling over certain U.S. e-commerce channels begin to abate. We are very excited about the summer hydration campaign and our focused effort to grow across Canada and U.S. grocery as well as Canadian gas convenience. Scaling our operations to meet the requirements of our co-manufacturing agreements is also going to be a big driver of both net revenue and gross profit in the coming quarters. Gross margin has lots of room to improve as we reach full capacity utilization with our fourth production line and our cost per unit produced continues to come down significantly. With our functional areas restructured and our operational transformation effectively complete, Our operating expenses should be at a level where improvements in gross profit can provide significant operating leverage to adjust to EBITDA. All of that said, and as I continuously talk to on these calls, flow is still trading at a very low multiple compared to other of our competitors within the industry. Right now, we're at 0.9 times revenue, and on a trading basis, 0.7 times revenue. Looking forward, sorry. This is compared to our publicly traded peers that have a simple average over three and well over five on a weighted average basis. Now, to close this valuation gap, we understand that the burden is on us. We have to continue to deliver on the things that we say we're going to do. What you see in Q2 is a realization of those efforts, and that is just the beginning. We believe, again, that we're going to have a stronger back half of the year and then leap off into FY25 on an extremely positive note. In the meantime, we appreciate all your support. And with that, operator, please open the line for questions.

Thank you. And ladies and gentlemen, we will now begin the question and answer session. To ask a question, you may press the star, then the number one on your touchtone phone. If you're using a speakerphone, please pick up your handset before pressing any keys. To withdraw your question, please press the star, followed by the number two. One moment, please, for your first question. And your first question comes from the line of Martin Landry with Stipple. Please go ahead.

Hi, good morning, guys. Good morning. I would like to touch on the Flow branded revenues. I understand that you've exited some channels and it's impacting your sales growth. Perhaps if we exclude those and look at... your existing doors and look at where you're focused in terms of the retail channels you want to grow in traditional grocery and natural food in the US. Are your flow branded sales in these channels growing? Is your velocity increasing? Is there any data point that you can share with us that could give us a bit of color?

Yeah, it's a great question, and we continue to say it is. So the reality is that a couple things. Look, start with Canadian e-comm. Canadian e-comm is up over 40% this quarter. The U.S. grocery and natural food, up over 25%. Our Canadian grocery, up over 20%. And these are... We had some delays that we had internally that are going to stretch into Q3, so sort of a switch to sort of a transformation of sales from one quarter to the next. So not to give guidance, but we believe Q3 and Q4 are going to be very good for us as a flow brand. And then as we begin to comp some of these things just in Q1, you're going to start seeing actual growth on a top line comparatively. but across all channels, but that being the case right now, we are growing in those channels and not, and not insignificant myself.

Okay.

Okay. Cause, cause when I, when I'm looking for instance, at your Canadian sales, when I, when I exclude co-packing and you know, it, it feels like your flu branded sales are down year over year. Would that be correct?

Uh, in certain channels? Yes. Um, but in other channels, absolutely not. Um, they're up significantly. So there's, there's a couple of channels that even in Canada that we have had challenges with, uh, when in terms of profitability and we pulled back.

Okay. Okay. Okay. That's fair. And then, um, Turning to your co-packing sales, you know, there's going to be a significant ramp up in revenues. Can you give us some color and help on how to model this? Like perhaps, I don't know if you can talk to a little bit what's your current run rate in terms of revenues in your co-packing segment?

Yeah, I think, you know, This particular quarter, I think that's indicative of what you might see again in Q3 or, you know, in around, close to it. And then in Q4, you're going to see another ramp. There's another piece of equipment that we're putting into our production facility in Aurora. It's basically a sterilizer. And that allows us to run, it gives us a lot more flexibility on COPAC. Right now, we can only run two of our four lines at any given time on COPAC. But that opens up the world where we could run four lines if we really want to. Of course, we have flow we're still going to manufacture. But, you know, we could run, you know, we have a lot more flexibility. So we expect COPAC is going to increase in Q4, especially as beatbox continues to ramp up.

Okay. And my last question is on your balance sheet. Your cash balance is low. What's the plan here? Do you expect to seek additional funding or do you think you're able to bootstrap till you've got positive cash flows? Can you just talk to that a little bit?

yeah you know we bootstrapping is a great term uh because we've been doing a lot of it uh and we continue to do that we've said it's going to be a challenging you know two to four quarters going going forward uh working capital wise but we've been getting extremely creative we have some very supportive people behind us uh starting with our with our secure lenders and others uh around us so We still see ourselves being able to get through this without doing anything overly diluted or crazy. And so there's that path that we continue to do. We're doing some prepay stuff with our big vendors and we're doing some other things. But again, it's going to be, we're just sort of hand them out, continue to do that. But we're doing it and we're making it work. And again, we have a lot of support people. behind this company right now, and we see a very clear path to get all the way up to the end of this.

Okay, that's it for me. Best of luck. Thanks, Martin. Thanks, Martin.

Your next question comes from the line of Najib Islam with Canaccord Genuity. Please go ahead.

Sure. So my first question is, would you mind sharing where you're currently at with the utilization rate in Aurora and what your target is over the next few quarters?

Yeah, sure. In Q2, we actually didn't have the highest utilization rate. I would say we were at, quite frankly, around 45% utilization on the four lines because we actually went live on the fourth line in early February. But by the time we got ramped up with some of our co-packing partners, and there was some logistical issues on their part, as one would expect as they ramp up. And then we've been trying to deplete inventory for flow because we have been over inventory and we're carrying too much of it on a balance sheet. So in Q2, we were using a lot of our capacity. Now, Q3, we think that's going to go up probably into about the 75% mark, maybe closer to 80. And then by Q4, we're going to be at Pretty much 100% utilization.

Sure, that's great. And is there any way you could quantify the pickup and cadence of the gross margin improvements that you're expecting to realize alongside it?

Yeah, sure. You know, our goal is to come off the end of this year. And, you know, we're literally at the very middle of our Q3 right now. So Q4 starts in 45 days-ish. And our goal is to come out of Q4 with margins that start with a four.

Sure, got it. And could you also speak to the 10% of the operational transformation that's still left and what benefits you're hoping to realize through it?

Yeah, there's still some things we're doing in logistics, specifically around e-comm and the consolidation of some of our longer broad line projects. and we're looking at things on the West Coast and what we can do to improve there. Just in general, we've been doing this redesign of logistics for some time now, stripped, I would say, on an annualized basis. If you look at our sort of 2023 year as a basis, probably stripped about $7 million out of it, but I think there's still a couple million left to go. There's not a hell of a lot left in G&A and salaries. But you'll see a lot of it coming out of logistics, which helps COGS from an e-com perspective, and it does, in fact, help G&A.

Sure, got it. And for my last question, so on the branded side, could you highlight where you're seeing some of the strength in the Canadian e-commerce side specifically?

The e-com? Yep. In Canada specifically. Yeah, well, e-com's up over 40% in Canada e-com in the quarter. So, I mean, that's broadly speaking in our best markets and it's across most of our product lines. You know, original OG is a big seller, obviously, and continues to be a big seller for us on e-com channels. But it's sort of status quo in terms of the product mix that you see going through e-com. We're just doing very well at it. We continue to have the positive impact that comes from having Starbucks as a food service partner in Canada and Live Nation as And Live Nation just got going here in May, you know, across Canada, the concert series is starting. And unlike last year, we're going to be there for the entire season. Last year, we came in, I think, late June or early July this year. So we're going to get the benefits of a couple extra months. And I think you're going to see, you know, e-comm continue to be strong in Canada through the rest of the year.

Yeah. And we also improved our distribution that we're going to remove resellers in Canada in Q2 and strengthen our relationship with Amazon selling direct and marketing products on Amazon as well. So that definitely set us up for very high growth in Q3 and Q4. And you started to see it in Q2 as well.

Sure. Got it. Thanks. That's all from my end.

I'll pass it along. Thank you.

And once again, if you would like to ask a question, simply press the star followed by the number one on your telephone keypad. Your next question comes from the line of Sean McCowan with Roth Capital Partners. Steve, go ahead.

Good morning, guys. Thanks for taking the time. Hi, Sean. Hi. So I wanted to flesh out a little bit more your comments on, like Starbucks and some other food service customers, can you talk about progress being made there and potential for expansion?

With Starbucks, we're definitely expanding our SKUs with them, and definitely our margin overall will improve. With food service, we continue to sell in Accor, with their 87 properties across North America, and also plan to expand throughout the summer and into the fall. Those are our two big food service contracts that allow for us to get great brand expansion and brand exposure, but also are profitable channels for us. And as we mentioned, we've exited the unprofitable channels so that it allows us to focus in on profitable channels, both in food service across North through drug and mass as well.

Great. Thank you. And Trent, just following up on your comments regarding being at pretty much full capacity, exiting the fiscal year, as you add additional capacity in anticipation of future growth, are we going to see any

noticeable reduction in absorption as a result or do you just fill that up so fast that we really don't have that on the right it's yeah our goal is to uh increase the fourth line to six lines uh that's our goal um and we anticipate doing that in the first and have it fully commissioned first half of next calendar year um and for For us, I can tell you, Sean, that they are pretty much already sold out. So we know what we'll be doing by then. We know what our co-packing clients are going to be doing by then. And it's going to be a literal juggling act just to get there because we have so much capacity that is required and only so much capacity that can be utilized.

Would it be safe to infer that as you add these new lines, because you've already got so much experience under your belt, that it's going to be a lot smoother than maybe, you know, adding lines earlier in the stage?

You know, alcohol is brand new for us. It took, you know, to be very blunt about it, we're a little delayed in getting live with Beatbox versus where we thought we would have been 10, 12 months ago. We thought we'd be a little, we would have been, you know, producing for three months now by this point. But, you know, it's a learning curve. And, you know, we're going to start slow this first four to six weeks and then start to ramp up from there. But once you, to your point, you have it, you know, we're going to continue to be able to expand on that. So you put another line up, it's just more of the same. And we already know very well how to do production for our other COPAX lines. We've been doing it for years, and so another line won't present any challenges at all.

Okay.

Thank you very much. Appreciate it. Thank you, Sean.

And ladies and gentlemen, that ends our Q&A portion for today's call. Thank you, everyone, for joining. This concludes the conference. You may now disconnect.