Neptune Technologies (NEPT) Q2 2019 Earnings Conference Call Transcript

Neptune Technologies (NEPT)
Q2 2019 Earnings Conference Call
Nov. 13, 2018 5:00 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good afternoon. My name is Gabriel, and I will be your conference operator today. At this time, I would like to welcome everyone to the Neptune Wellness Solutions 2019 second-quarter earnings conference call. [Operator instructions] Thank you.

Mr. Mario Paradis, CFO of Neptune, you may begin your conference.

Mario Paradis -- Chief Financial Officer

Thank you, Gabriel. Good afternoon, everyone, and thank you for joining us. As mentioned, the purpose of today's call is to review our results for the second-quarter results ended September 30, 2018. Joining me today is Jim Hamilton, our president and CEO.

As usual, Jim will review Neptune's operational quarter and highlights, and I will discuss our quarterly financial results. Before we begin, I'd like to remind you that all amounts are in Canadian dollars and today's remarks contain forward-looking information that represents our expectations as of today, and accordingly, are subject to change. We do not undertake any obligation to update any forward-looking statements except as may be required by Canadian and U.S. securities laws.

A number of assumptions were made by us in preparing these forward-looking statements, which are subject to risks. Results may differ materially, and details on these risks and assumptions can be found in our filing with the Canadian Securities Commission and with the Securities Exchange Commission. Now I'll turn the call over to you, Jim.

Jim Hamilton -- President and Chief Executive Officer

Mario, thank you very much. Good afternoon, everybody, and hello from Las Vegas. We are here attending something called the MJBizCon. This is, what we understand, the largest cannabis tradeshow in the world with north of 20,000 in attendance and this falls actually several days also here in Las Vegas with one of the largest nutrition products shows.

So it's been a very, very busy week with customers, which you can probably hear in the tone of my voice. But we're very happy to be here. We're very happy to be with you today and share with you -- on Page 4, there's a presentation on our website if -- for those following along, where we want to talk a little bit about some of the highlights. Mario will take over with some comments on the financials and then a little bit more detailed commentary both on our cannabis business progress, nutrition business, and then some concluding comments, and we'll welcome questions at that time.

Just flipping to Page 5, and we are very, very, very happy with how things are progressing with our license. So, for many of those who are following know that we received approximately eight weeks ago our readiness letter, which was wonderfully received. Mario, very happy to get that, and we submitted our average package immediately thereafter. And I'd like to inform everybody that we're very happy and pleased over the engagement that we've had the last weeks and days with Health Canada in terms of the very, very final stages of getting our processing license.

Relative to the site, we'll show you some pictures in a moment but our Phase 1 investment is completed and is ready to go pending the licensing. And the Phase 2 expansion bring us up to 200,000 kilos equivalent of process material is on time and on track for completion, March 2019. We had a great revenue quarter and our nutrition business is very, very solid. You'll see Mario talk about that as well as some of the other numbers and our cash balance and balance sheet remains very, very strong.

So with that said maybe, Mario, you can take us through some of the more detailed look at the financials, then we'll come back and talk more about the business stuff. Mario, take it away.

Mario Paradis -- Chief Financial Officer

Yes. Thank you, Jim. Good afternoon again, everyone. I'd like to remind you that our results are in Canadian dollars and today's remark may contain forward-looking statements.

My comments today will focus on the quarterly performance unless otherwise indicated. I also want to remind you that we stopped to consolidate Acasti Pharma after the third quarter last year. However, the comparative results of our quarterly results of operation in the consolidated financial statements still include, I guess, these numbers for the three months period ending September 2017. In addition, considering our recent entry in the cannabis industry, we will discuss our two reportable operating segments being the nutraceutical and the cannabis segments.

Corporate, general, and administrative expenses, net finance costs, and income taxes are not allocated to these segments and they are presented as unallocated costs. Consolidated results for the second fiscal quarter 2019 can be found in our press release and in Neptune's consolidated financial statements and related MD&A available on SEDAR, EDGAR, and in the Investors section of our Neptune website. I am now at Page 7 of the deck. Total revenues coming from the nutraceutical segment for the second quarter were CAD 7.1 million, an increase of 18% when compared with the same period last year after excluding crude oil manufacturing business.

Revenue also increased 37% sequentially from the first quarter this year. Our quarterly gross margin as a percentage of sales were 28% compared to 29% for the same period last year and in line also with our expectations. In terms of dollars, gross margin including royalties generated CAD 2.4 million a CAD 0.3 million over last year mainly related to increased royalty revenues. In terms of EBITDA contribution from the nutraceuticals segment, the adjusted EBITDA for the quarter was CAD 1.5 million compared to an adjusted EBITDA of CAD 1 million last year.

This 50% increase is directly related to higher royalties and also to the reduction in selling, general, and administrative expenses following the exit from the crude oil manufacturing business last year. R&D expenses related to the cannabis segment were CAD 1.6 million and mainly consisted of salaries and fixed costs at our manufacturing plant in Sherbrooke, including the depreciation in order to prepare the site and start the cannabis oil extraction business in compliance with Health Canada requirements. The non-IFRS operating loss in the cannabis segment before taking into consideration noncash stock-based compensation and the depreciation and amortization was CAD 1.3 million for the second quarter and stable with the first quarter of the year. Corporate, general, and administrative expenses totaled CAD 1.9 million during this quarter, compared with CAD 1.4 million for the same period last year.

This increase in CAD 0.5 million is mainly due to the increase in compensation including CAD 0.5 million -- CAD 0.4 million of non-stock-based compensation and also to some legal fees and other expenses. The non-IFRS consolidated operating loss for the quarter was CAD 1.2 million compared to a loss of CAD 0.2 million last year excluding Acasti's results. The variation is mainly related to our exit of crude oil business, investment in the cannabis business development, and the increase in corporate G&A expenses. Turning now to our liquidity.

At the end of September 2018, our cash position was CAD 20.5 million and total debt was CAD 4 million. Our Phase 1 now being completed we did announce budget CAD 4 million or 80% has already been paid and we still have approximately CAD 1 million to be paid during the current quarter. As for the CAD 5 million Phase 2 investment, most of the investment should be disbursed before the end of the current fiscal year. We continue to have a strong balance sheet and a cash position to execute our growth strategy.

Now let's turn the call to you, Jim.

Jim Hamilton -- President and Chief Executive Officer

Mario, thank you very much and you just fast forward to Page 11 and talked a little bit about our cannabis business and progress toward commercialization. I just wanted to review again with everybody our Multi-Phase Path to Growth, which is in the near-term is to be focused upon immediate commercialization of this business. It's nothing like to be in business to be in business and that will be for us a B2B focused on extraction, purification, and the formulation of differentiated forms, and we're executing I think very, very well against that. Longer term, of course, we have designs on doing much more.

I do believe, and as I shared with so many of you in our meetings, that this is a fundamental global a new consumer product . And that consumer product phenomena globally will be anchored in wellness and in the medical channel. That is where the regulatory frame will permit entry, and this very much will be our focus in the longer term in a B2C global fashion and work in that regard toward that end through M&A and licensing activities, which we have under way as we speak. Looking to Page 12, I just wanted to share with everyone that, as I mentioned, the global wellness business that has expanding opportunity for product application based on extracts and there's also a very interesting expanding regulatory pathway to consumers that is also developing.

I mean, a lot of us look at the classic Canadian frame cannabis, but there is more pathways to consumer and there is expected to be more through natural products, beauty cosmetics, animals, etc.  Moving to Page 13, and a little bit more commentary on the licenses I mentioned at the opening of the call and the issuance of the license to process under the new regulation is progressing. As mentioned earlier, we have submitted our evidence package and this is, again, progressing very, very well. We've had engagement with Health Canada toward that end and we're very, very happy with the progression there. I think it's important to note, Mario and I were just talking before the call under the new Regs post October 16, there has been no new licenses to process or produce issued, but we think that could change imminently.

Looking at the Page 14, our Phase 1 investment, as I mentioned, was completed end of August. This is our site in Sherbrooke cGMP nutrition products facility, which will -- is about 50,000 square foot. But the last time, we shared some pictures from the outside. Here's a couple pictures inside in terms of one element of our Phase 1 installation.

Our lab, which is fully outfitted and operational. And for those who haven't yet, we posted a video on the website a couple of weeks ago, which was basically walkabout inside the facility. And I would welcome everyone to take a tour if you haven't done so already. And looking at Page 15 just on that tour you'll see Phase 1 investment, which was CAD 5 million, largely around site security and compliance but the Phase 2 investment to bring us up to 200 metric tons of processing capacity is on time and is on track and we have definitely opportunity to expand that site further.

OK. Hey, just jumping to Page 16, as I mentioned, there was a big nutrition products show here in the last days in Las Vegas and I think to quote our Vice President of Sales and Nutrition Marc Vaugeois when he said, "Jim, in my 28 years, I don't know if I remember ever being so busy at a tradeshow." We were mobbed and I was there, and we were and I think there is a reason for this. I think we're able to profile some super innovations that are very, very relevant to nutrition product companies in today's space. And just jumping to Page 17, one key example is a line that we've developed for nutrition products called -- what we're calling internally essentials.

This is a nutrition product approach to the endo-cannabinoid system. And there is a paging -- checking to a Page 18, there is a growing conversation clearly in the broader-based consumer products market around the endo-cannabinoid system, but many and many major corporations cannot participate in that conversation because the legal framework in their country and especially countries like the United States doesn't permit them, but if there is a way for them to engage consumers in that conversation, they're very, very motivated to do so. And these are some examples of products that we've been formulating that we were sharing as samples and discussions with so many major marketers in this space. These are turnkey solutions that again allow big brands that entry into the market in a federally illegal way, they can pre-position them to formulate more broadly should the regulations allow.

Moving to the next slide, a fantastic innovation that we got tremendous engagement with and projects. KetoCharged a product design to reap the benefits of ketones even though you're not on a ketogenic diet and can be very, very helpful and important opportunity for companies participating in the weight management space as well as a sports nutrition. So just a little bit on nutrition products.  In conclusion, Page 19, I would say our cannabis business is on track and moving toward our goals of commercialization this fiscal year. We are working closely with Health Canada to conclude this process on licensing and it is moving very, very nicely.

Phase 2 expansion is on track and on time toward the 200 metric ton processing capability. And our solutions business, you heard from Mario, we had a very good -- Mario, it was one of the best quarters in nutrition ever.

Mario Paradis -- Chief Financial Officer

Yes.

Jim Hamilton -- President and Chief Executive Officer

And I was just so excited to be part of the team here last couple of days with customers and with some very relevant projects that had just very, very impactful conversations. And we have a solid balance sheet, including CAD 20.5 million in cash. So those would probably conclude our formal remarks. We would be open to any questions or discussions.

So thank you very much for listening. 

Questions and Answers:

Operator

[Operator instructions] First question comes from the line of Doug Loe from Echelon Wealth. Your line is open.

Doug Loe -- Echelon Wealth Partners -- Analyst

Hi. Good afternoon, gentlemen. I hope you're enjoying your time in Las Vegas away from the conference itself. Just a couple of things, Mario, just wondered how much of the revenue from nutritional business is actually devoted to any cannabis oil formulation works so far.

Just want to kind of get a sense on -- comparing prior quarter, how much the cannabis business is sort of impacting legacy Biodroga business.

Mario Paradis -- Chief Financial Officer

It's approximately CAD 0.6 million that is coming from, let's say, retain business.

Doug Loe -- Echelon Wealth Partners -- Analyst

OK. No, that's great. And then, Jim, appreciate some of the new insights and some of the branded products that you expect to launch eminently. You have mentioned in prior conference calls the possibility that an angle into the nutritional supplement space that layers on cannabinoid formulations could involve some combinations with existing nutritional supplements including crude oil.

I think you might have mentioned in the prior call, just wondered how your thinking might have evolved there as the chemistry around cannabis oil formulations might relate to some of the work you're already doing in nutritional supplements and what imminent product launches might be forthcoming in that realm. And I'll leave it there. Thanks.

Jim Hamilton -- President and Chief Executive Officer

Doug, thank you very much. For me, and I think I probably before on these calls, I think the parallels between nutrition products in this industry are staggering. I think this industry, the cannabis industry, has parallels that are striking to the nutrition and wellness products of the 80s. And I think if one can learn from the growth and development of the industry and apply those lessons to this business there could be some very, very interesting gains in that regard.

As we say, we believe we can bring decades of experience in nutrition products to this industry and what is a great way to achieve success in nutrition products. And again value-added differentiated products that deliver on consumer needs and these aren't single-entity products. There are often conditions specific formulated for a specific design. So if one can marry formulation combined with some clinical work and provide a practitioner or that store manager with the raw material for conversation to engage the consumer, that's where you have the best value opportunities.

So that's what we believe. I think an example of that is work that I mentioned before that we have under way by looking at some raw proprietary products Maximil, as an example, an omega3 which is more readily absorbable, krill oil, where we have a license with the world's largest krill oil provider and to look at could these carrier oils provide a beneficial vehicle through which to deliver a formulated product. We sense that they may and we're very anxious to see some of the results of this research work which is due very, very shortly. And just maybe one last comment there, just if you could imagine for a moment a product like omega3 Maximil fish oil, which we know is good for information, combined with CBD product.

And you have again a differentiated and possibly a more efficacious product for the information space sold through control channels. So this is some of the things we're working on and we believe will be powerful for this business going forward.

Doug Loe -- Echelon Wealth Partners -- Analyst

That's super. I'll just jump in, operator, while I've got the line here. Jim, you've obviously talked about the additional CAD 5 million in the growth CAPEX that you're investing in adopting Sherbrooke for solvent extraction of cannabis oil. Extracting oils from biological organisms is obviously something that the firm has abundant expertise in.

Just wondering if there is any of the batches that you might have run through the facility so far, like any surprises on some of the idiosyncrasies and how you might be able to optimize yields and so forth as they relate to cannabis oil extraction?

Jim Hamilton -- President and Chief Executive Officer

I would say there's always learning and we've done a tremendous amount of off-site R&D batch processing. We've also been to numerous countries around the world and stood shoulder to shoulder with people that are working on same to observe and to learn. And I would say there is learnings -- I don't know if there is surprises, Doug, but there has been learnings. And some of those learnings were the fuel for which we did those that patent filings that we announced a couple months ago, where, I guess, there were surprises, Doug, in the end because our team looked at the results and thought, "Oh, boy, this is interesting.

We better put some patents around it." Of course there's always the difference between the lab scale and the big scale, but some of the things we've seen did surprise us and it surprised us in a very positive manner.

Doug Loe -- Echelon Wealth Partners -- Analyst

Great. Thanks, Jim.

Jim Hamilton -- President and Chief Executive Officer

My pleasure, Doug.

Operator

[Operator instructions] Your next question comes from the line of Frank Michaels from -- he's a private investor. Your line is open.

Unidentified speaker

Hi there. I wonder if you can hear me.

Jim Hamilton -- President and Chief Executive Officer

Yes, good afternoon.

Unidentified speaker

Hi there. I've got a couple of questions specifically on the timing. I was just going historically through the events and presentations. I've heard before on time and on track, and initially the licenses were due to arrive July or August.

That was the presentation that was made in New York back in November 2017, June this year 2018 the reference is still the same. There's no timeline changes yet. Presentation in August everything got switched around and the actual license to produce now is Q3, Q4, which is front row center right now. So I presume you have a fairly clear expectations right now that you will be seeing the license approval anytime now and then, I guess, the license to sale now has been pushed off a quarter or two into the 2019 year.

Can you talk about -- a little bit more, give a little bit more clarity on that?

Jim Hamilton -- President and Chief Executive Officer

Michael, I think -- thanks for the question. I think there's two elements to that. One is the site readiness and one is the licensing process. And at the highest level what we've been working toward is convergence; convergence of site readiness, convergence of the license, and convergence of commercial agreements.

And I would say on the commercial agreements side, we're very, very pleased and happy about our Canopy agreement. I would say on the site readiness, which is related to my on time and on track messages, we are on time and on track. Where our frustration has been is with the federal government agencies. And I would say some of the feedback that we've shared on our statements before was based on government feedback, which clearly has not eventuated in terms of the attention and the speed with which the agency has been working.

Having said that, we're very, very pleased, as I said, to get the readiness letter and we're very, very pleased with the engagement we've had post submission of our evidence package. And if things continue to move with the agency in a successful way, we will see the convergence of license, site, and commercialization.

Unidentified speaker

Just a follow-on, I guess, is there a possibility because given the slide deck presentation license to produce and inspection sale license, the common denominator there is Q4 2018. What is the likelihood of both licenses coming in back-to-back or in the same time and then what's the -- what would be the ramp up from a production capacity and being able to get revenue?

Jim Hamilton -- President and Chief Executive Officer

Well, Michael, our view is with the processing license, we're good to go for commercializing our Canopy contract on a B2B basis and that's going to keep us plenty busy in the near term with business. The sales license, which would allow you to sell finished forms to the consumer through organizations like the SQDC, will come in due course. And normally, there is some additional compliance issues that one has to demonstrate before that. But it will not prevent us from commercialization on a B2B front.

Unidentified speaker

OK. So, if you get the license to produce say end of November before Christmas holidays, you're pretty much ready to ramp up and have sales to Canopy fairly quickly?

Jim Hamilton -- President and Chief Executive Officer

That's our belief.

Unidentified speaker

How quickly is quickly? I mean, how ready are you guys to actually produce Canopy?

Jim Hamilton -- President and Chief Executive Officer

We're ready to go. What we need is we need the government green light to move forward. But as any business, one has to take it one step at a time. And we're ready to go.

We have engagement with our customers right now as we speak in terms of quality agreements and how to move forward. There's always testing and commissioning of equipment. One has to demonstrate consistency batch-to-batch. This is the normal start-up procedures.

But the good news is there's strong capabilities within the team, good news is there's strong demand for the product, good news is there's strong will on all sides to move this as fast as possible, and that is clearly our commitment.

Unidentified speaker

So we'll start up a month, a week?

Jim Hamilton -- President and Chief Executive Officer

Michael, I think we're going to leave it there, OK, for my comments on this. Let's just say that we have convergence occurring as we've been working toward and we're very, very pleased with how that's progressing right now, especially on the licensing front light

Unidentified speaker

And my second question is more on the formulation and the brands. Is that something that's being developed internally or is that a combination partnership arrangements with others with respect to the gels, the beverages, and topical --

Jim Hamilton -- President and Chief Executive Officer

There's I would say -- Michael, how do I answer that effectively? I believe and my experience has taught me that it's normally better through alliance and/or acquisition to achieve those goals. Development in-house always takes more time and I would say we're very, very, very active on the technology front and the formulation development front through relationships around the globe. And that's, in fact, one of the reasons why we're here in Las Vegas as we speak.

Operator

And there are no further questions, I will now return the call back over to Jim Hamilton.

Jim Hamilton -- President and Chief Executive Officer

Hey. Thank you very much, operator. Mario, thank you for all your work in the quarter and on the business. As I mentioned at the front end of this call, we've had incredible few days here in Las Vegas and we had an incredible quarter in terms of how this business is moving forward.

And I think the quarters to come, Mario, are going to be equally fun and exciting. So thank you, everyone, for your attention and support and we look forward to talking everybody soon.

Operator

[Operator signoff]

Duration: 30 minutes

Call Participants:

Mario Paradis -- Chief Financial Officer

Jim Hamilton -- President and Chief Executive Officer

Doug Loe -- Echelon Wealth Partners -- Analyst

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