Auxly Cannabis Group Inc. (TSX.V – XLY) (OTCQX: CBWTF) announces its financial results for the three and six months ended June 30, 2020. All amounts are Canadian dollars except common shares and per Share amounts.
Auxly is an international cannabis company dedicated to bringing innovative, effective, and high-quality cannabis products to the medical, wellness and adult-use markets. Auxly’s experienced team of industry first-movers and enterprising visionaries have secured a diversified supply of raw cannabis, strong clinical, scientific and operating capabilities and leading research and development infrastructure in order to create trusted products and brands in an expanding global market.
Hugo Alves, CEO of Auxly, commented: “We are excited to have another successful quarter of cannabis sales behind us, with Q2 bringing in $6.8 million of cannabis net revenues, and $8.6 million in total net revenues. Despite a decline in sales as compared to Q1 2020, due in part to temporary store closures as a result of COVID-19 and new competitor value brands entering the market, we have taken immediate and deliberate steps to align our Company to reflect current consumer demands and market conditions. We have already seen improved velocity of sales for our key brands from the pricing adjustments we made earlier this quarter, and are adding new product profiles that appeal to the fast-growing value segment, such as our Foray and Kolab Project’s 1g vape cartridge. Additionally, we have seen a tremendous consumer response to the recent launch of our Robinsons and Kolab dried flower offerings. As we move forward in executing our business strategy, we are committed to doing so with the highest degree of fiscal discipline.”
Q2 2020 Highlights and Subsequent Events
- Total net revenues of $8.6 million for the three months ended June 30, 2020, an over 200% increase from the same period last year, comprised of $6.8 million of cannabis net revenues and research revenues from KGK of $1.8 million
- Launched Robinsons brand in Ontario and Nova Scotia, with four distinctive strains, all grown with care at the Robinsons indoor facility in Kentville, Nova Scotia
- Auxly’s joint venture Partner Sunens, received its cultivation licence for the first phase of its fully automated, purpose-built, 1.1 million sq ft. greenhouse facility, which includes approximately 360,000 sq ft of cultivation, processing and storage space
- Entered into a manufacturing agreement to produce dosistTM products in Canada
- Dosecann received its Cannabis Research Licence from Health Canada, which permits Dosecann to administer cannabis extracts, edible cannabis and cannabis topicals to human subjects for purposes of palatability and sensory testing
- Auxly’s Kolab Project announced partnership with Greentec on industry-wide vape recycling program for all cannabis retailers
- Secured $25 million convertible debenture standby financing, of which the Company has completed four tranches totaling $9.25 million
Revenue
Over the first half of 2020, Auxly generated revenues through the sale of Cannabis 2.0 Products and to a lesser extent Cannabis 1.0 Products to customers, and by providing research services for customers who are conducting human clinical trials.
During the three and six month periods ended June 30, 2020, cannabis net revenues of $6.8 million and $15.8 million were comprised of approximately 90% Cannabis 2.0 Products, with the remainder from Cannabis 1.0 Products. During the second quarter, approximately 80% of cannabis net revenues continued to originate from sales to British Columbia, Alberta and Ontario. Sales declines as compared to Q1 2020 were primarily concentrated in Ontario due to new competitor value brand offerings entering the market, temporary store closures, the shift to online sales through the OCS, and the impact of downward pricing adjustments made by the Company near the end of the quarter, which have improved the velocity of sales of key brands to date. Vape products continued to account for more than 60% of cannabis revenues.
For the three and six months ended June 30, 2020, Auxly recognized $1.8 million and $2.7 million of research revenues from KGK, respectively. These revenues are in support of third-party research contracts which can fluctuate significantly during the term of the contract based upon the achievement of milestones. Where milestones are not met revenues are deferred on the balance sheet which may result in timing differences in earnings. Revenues during the first quarter of 2020 were impacted by temporary clinical trial suspensions due to COVID-19 and revenues during the second quarter of 2020 were achieved in part due to the ability of KGK to pivot to a virtual clinical trial model to achieve milestones and through the introduction of new regulatory advisory services.
Gross Profit/Loss
Auxly realized a gross profit of $2.8 million following fair value adjustments during the second quarter of 2020 and $5.5 million during the first half of 2020. This compares with gross profits of $0.3 million for the second quarter of 2019 and $0.1 million for the first half of 2019. Gross profits for the three months ended June 30, 2020 were comprised of $1.8 million or approximately 26% from Canadian cannabis operations and $1.9 million from research operations. Cannabis gross margins declined during the period in part due to lower vape sales, increased freight costs and costs associated with temporary wages premiums. During the six months ended June 30, 2020, gross profits were comprised of $5.7 million from Canadian cannabis operations, $2.2 million from research operations, partially offset by impairment charges of $1.4 million primarily related to Inverell’s biomass.
Total Expenses
Selling, general and administrative expenses are comprised of wages and benefits, office and administrative, professional fees, business developments, share-based payments, and selling expenses. For the three and six months ended June 30, 2020, wages and benefits were $7.5 million and $14.0 million, respectively, or an increase of $3.4 million and $5.7 million over the same respective periods in 2019. The increase was driven by workforce increases to support Cannabis 2.0 Product sales, primarily related to the operations and commercial teams. Increases of approximately $0.3 million and $0.7 million for the respective three and six months ended June 30, 2020 were attributable to hiring at subsidiaries, including the absorption of employees arising from the foreclosure of Curative. Wages and benefits during the second quarter of 2020 increased by $1.1 million from the first quarter, primarily as a result of compensation and severance accruals recognized during the period.
Office and administrative expenses of $2.9 million in the second quarter of 2020 increased by $1.4 million and $2.3 million to $5.5 million year to date compared to the same periods in 2019 primarily as a result of increased activities associated with cannabis sales in 2020. During the second quarter of 2020, office and administrative expenses were driven by head office and Dosecann to support the product development, formulation, R&D and testing of Cannabis 2.0 Products in preparation for product innovation in conjunction with the second floor expansion at the Dosecann facility. Other increases in fees were related to the continued development and implementation of an organization-wide ERP system.
Auxly’s professional fees were $0.5 million and $2.0 million for the three and six months ended June 30, 2020, as compared to $1.8 million and $2.9 million over the same respective period in 2019. Professional fees incurred during the periods primarily related to accounting fees, regulatory matters, reporting issuer fees, ongoing legal proceedings, recruiting fees in conjunction with hiring and preparedness for Cannabis 2.0 Products, consulting fees, and fees associated with financing activities. The decrease in professional fees was driven by the reduction in professional services and professional services contracts in 2020.
Business development fees of $0.2 million in the second quarter of 2020 decreased by $0.8 million and $1.1 million to $1.0 million year to date as compared to the same periods in 2019. The decreases are primarily due to a reduction in acquisitions and travel related expenses.
Selling expenses for the three and six months ended June 30, 2020 were $1.2 million and $2.5 million, respectively, as compared to nominal fees recognized over the same respective periods in 2019. The increase is directly attributable to cannabis sales activities comprised of brokerage fees earned by Kindred Partners and marketing initiatives for Cannabis 2.0 Products.
For the three and six months ended June 30, 2020, share-based compensation was $1.3 million and $2.7 million, a decrease from the $2.7 million and $5.7 million over the same respective periods in 2019. 4,719,692 options and 4,885,692 options were issued during the three and six months ended June 30, 2020, respectively, as compared to 1,440,000 options and 6,590,000 options over the same respective periods in 2019.
Depreciation and amortization expenses were $2.4 million in the second quarter of 2020 and $4.8 million year to date, as compared to $1.4 million and $2.5 million over the same respective periods in 2019 primarily as a result of greater in use capital projects and the associated additional capital expenditures in 2020. During 2019, several projects remained under development.
Interest expenses were $3.4 million for the three months ended June 30, 2020 and $5.6 million for the six months ended June 30, 2020. Interest expenses are driven by interest charges of 6% on the then outstanding 2018 convertible debentures, 4% on the Imperial Brands convertible debentures, 7.5% of the convertible debenture tranches issued in 2020, and the non-cash accretion of placement and other related fees being recognized over the terms of the respective debentures.
Total Other Incomes/Losses
Fair value changes on financial instruments included in this section arise on changes in value of promissory notes and level two securities held. For the quarter ended June 30, 2020, the Company reported a $4.5 million fair value loss, as compared to a $1.8 million dollar loss in the previous year. The current period loss is primarily the result of an assessment of prevailing market conditions over investments held. For the six months ended June 30, 2020, the Company reported a $4.6 million fair value loss, as compared to a $0.4 million fair value loss in the previous year. Fair value changes in 2019 reflected gains on promissory notes that offset market losses on the level two securities held. All promissory notes were repaid or fully impaired as at December 31, 2019.
The Company recorded interest income of $0.3 million during the second quarter for 2020 and $0.4 million year to date, which is a decrease from $2.0 million generated during the second quarter of 2019 and $3.0 million year to date 2019. Interest income is earned on notes receivable balances, investments in convertible debt, and interest on cash and cash equivalents.
During the three-months ended June 30, 2020, the Company recognized an impairment loss on long-term assets of $4.5 million. The Company’s LATAM cash generating unit (“CGU”), Inverell, represents its operations dedicated to the cultivation and sale of cannabis products within LATAM. Management determined that a liquidation approach was most appropriate in determination of the recoverable amount of the CGU due to regulatory delays causing uncertainty in the timing of sales and lack of cannabis product sales data in the industry. The impairment test concluded that the carrying value was higher than the recoverable amount by $4.5 million. Management allocated the impairment loss based on the relative carrying amounts of the CGU’s assets at the impairment date, with no individual asset being reduced below its recoverable amount. Management allocated $3.3 million of the impairment losses towards property, plant and equipment, and $1.2 million of the impairment losses towards other assets.
Losses on settlement of assets and liabilities and other expenses for the three months ended June 30, 2020 were $2.4 million, primarily relating to accrued legal settlements and a credit loss provision. On November 1, 2019, the Company entered into a commercial lease agreement with 346 Spadina Inc. and provided a security deposit of $0.6 million. In April, 2020 the landlord terminated the lease and commenced a claim against the Company for breach of the lease agreement for and aggregate claim of $21.7 million. The Company has yet to file its defence; however, it intends to dispute the landlord’s claims and termination of the lease. As at June 30, 2020, the Company has recorded a provision of $1.3 million relating to this claim. Year to date settlements of lawsuits reflect offsetting gains primarily related to non-monetary inventory transfers with another licensed producer.
Auxly is exposed to foreign exchange fluctuations from the U.S. dollar to CAD dollar exchange rate primarily related to loans due from Inverell. During the three and six months ended June 30, 2020, the Company reported a foreign exchange loss of $1.1 million and gain of $0.6 million, respectively, as compared to foreign exchange losses of $0.9 million and $0.9 million over the same respective periods in 2019.
Net Losses
Net losses attributable to shareholders were $27.9 million with a net loss of $0.04 per share on a basic and diluted basis in the second quarter of 2020, and $40.7 million with a net loss of $0.06 per share on a basic and diluted basis year to date. This compares to a net loss of $14.0 million attributable to shareholders and $0.02 per share on a basic and diluted basis and $27.6 million and $0.05 per share on a basic and diluted basis, over the same respective periods in 2019. The increase in net losses was primarily attributable to total other losses recorded during the second quarter, increased depreciation, interest expense, partially offset by gross margins net of selling, general and administrative expenses.
Adjusted EBITDA
Adjusted EBITDA improved by approximately $0.2 million to $(7.8) million during the three months ended June 30, 2020 as compared to the same period in 2019. The increase was primarily driven by a combination of increasing gross margins partially offset by higher selling, general and administrative expenses.
Adjusted EBITDA decreased by $0.6 million during the six months ended June 30, 2020 as compared to the six months ended June 30, 2019, to $(16.0) million from $(15.4) million. The decrease was primarily driven by an increase in selling, general and administrative expenses during the six months ended June 30, 2020 to support the commencement of cannabis product sales, partially offset by higher gross margins.
Outlook
With the launch of the Company’s Cannabis 2.0 Products in December 2019, Auxly has established the foundation it plans to build on in 2020 to increase revenues and move towards positive cash flows in 2021. The Company’s objectives for 2020, which may be impacted by the COVID-19 pandemic (see further discussion in the MD&A under “COVID-19 Pandemic”), continue to be concentrated on Canadian operations. Broadly, Auxly’s objectives for the balance of the year are as follows:
- Be a leader in the Canadian Cannabis 2.0 Products market.
- Complete remaining construction and licensing of all Canadian operations to leverage existing assets and increase revenues.
- Work with the Sunens team to secure supply of input materials for use in the Company’s product offerings in 2020.
- Collaborate with strategic partners to move towards commercialization of a small number of products for sale internationally.
- Continue to take measures to improve cash flows and finance the business.
Auxly looks forward to continuing the successful execution of its corporate strategy as it gets closer to realizing its vision of being a global leader focused on branded cannabis products that deliver on the consumer promise of quality, safety and efficacy.
