Auxly released their Q2 F2021 earnings today.

Outlook for 2021 from Q4F20 MDA:

“Our overall objectives for 2021, which may be impacted by the COVID-19 pandemic (see further discussion in this MD&A under “COVID-19 Pandemic”), are as follows: 

• Continued leadership and strength in the Cannabis 2.0 Products market;
• Focused expansion of Cannabis 1.0 Products;
• Continue to take measures to improve cash flows and finance the business;
• Leverage the Sunens facility to establish a secure supply of cannabis and reduce reliance on open market purchasing; and
• Explore possible cannabis market entry strategies in regulated international markets, on an asset light basis.”

Much like last year’s objectives, 2021 objectives offer little in the way of “meat on the bone” targets and objectives are all “soft”.

From Last Q:

Sunens still in default.  Bank advanced funds under loan when they did not have to given default. 

Here is disclosure from MDA:

• On April 16, 2021, Sunens received a notice of default from BMO in its capacity as lender, administrative agent and syndication agent under the credit facility with respect to Sunens’ failure to satisfy the Revenue Milestones Requirement. Although the lenders have reserved their rights under the credit agreement, they advanced another $1 million in April 2021 pursuant to a borrowing request made pursuant to the credit facility and BMO granted a one-month payment holiday and term extension of the equipment loan payment due in May 2021 in the amount of approximately $0.2 million which was used to fund day-to-day operations. In addition, Sunens may require additional funding for working capital until production and revenue from sales reach expected levels. In May 2021, the Company has begun further supporting Sunens through purchases of cannabis as production from the Sunens facility increases. Discussions with the lenders with respect to a formal credit amendment and/or forbearance agreement are continuing although there can be no assurance that an agreement with the lenders will be reached. The lenders have retained an accounting firm to provide them advice with respect to the credit facility in the form of a report expected to be completed in the next two months.

• Subject to reaching an acceptable accommodation with the lenders, the joint venture partners are considering additional costs to optimize the processing and storage capabilities of the Sunens facility which may be funded by the joint venture partners and/or lenders, however, a reasonable estimate of any such costs is not determinable at this time. The Company anticipates that it will transition Sunens to become one of its primary suppliers of cannabis inventory over the course of 2021.

If there is tension in the relationship how they fund going forward will give you some insight as to who has who by the short and curlies.  And with the drop in sales at Auxly… how much product can they really offtake?? Launching cultivation in the face of a sales downturn is daunting, to say the least.

This Q:

Sunens remains in forbearance until Aug 2021.

• The lenders have retained an accounting firm to provide them advice with respect to the credit facility in the form of a report which was delivered on July 12, 2021. In addition, a forbearance agreement with the lenders was signed on June 22, 2021 whereby the lenders have agreed to forbear from taking certain actions available upon a default of the credit facility until August 17, 2021. Discussions with the lenders with respect to a formal credit amendment are continuing although there can be no assurance that an agreement with the lenders will be reached.

• Subject to reaching an acceptable accommodation with the lenders, the joint venture partners are considering some additional capital and equipment expenditures to optimize the processing and storage capabilities of the Sunens facility which may be funded by the joint venture partners and/or lenders, however, a reasonable estimate of any such costs is not determinable at this time. The Company begun transitioning Sunens to be one of its primary suppliers of cannabis inventory throughout the second quarter of 2021.

They need Sunens inventory to sell through.  Tension in JV will be measured by how this plays out.

Very nice sales increase QoQ plus a GM% boost.

Open up the financials and MDA and follow along.

Income Statement Drivers – Trend

Sales:

After giving back two Q’s of sales in prior Q, this Q they increase sales by +$11 million or +108% to $21 million.

Research revenue disappears as they sold KGK to Myonic Capital.  At least they got some cash because the 6.5 million shares will be tough to liquidate with no volume two days this week. 

Sales of 2.0 products increased 113% to $15.6 million while 1.0 products increase +184% to $5.2 million. Sales records all around: Overall, 2.0 and 1.0.

Income Statement Drivers – Peer

Looks like Ill have to move some Tier 1’s down to this level.  OGI the most likely candidate.

Gross Margin: Trend and Peer

What we said last Q: Gross Margin needs to be around 40% AND sales need to rebound to Q4F20 levels for them to have even a fighting chance at breaking even.

The increase in GM to 37% is encouraging, but we cannot quite figure out how it improved.  There are no clues other than maybe post-harvest costs dropping 22% to $1.37/gram. Could be less reliance on 3^rd party and more on Sunens but It does not say that anywhere.

GM was $7.7 million an increase of $5.6 million. This is the highest GM$ on record.

IFRS impact is negligible.

Gross Margin- Canadian Peer Group

On a larger peer basis, Auxly’s 37% GM puts them into first overall.

Operating Expenses:

Selling, General and Administrative Expenses as % of Sales: Trend

NOTE: I moved interest expense to other expenses to maintain peer comparability.

Selling expenses were $2.0 million or 10% of sales versus $1.3 million and 13% last Q.

G&A expenses came in at $9.1 million or 43% of sales versus $7.9 million and 79% of sales last Q.   Each category increased with largest increase being $0.5 million in Office and administration to$3.6 million.

What I said two Q’s ago:

I have been harping on their SGA for quite some time.  SGA is $9.4 million versus GM of $1.5 million or $3.3 million without the inventory impairment.

Last Q:

I am going to continue to harp on SGA expenses.  They are 92% of sales at $9.2 million per Q. If we used their record sales last Q of $19 million at a 30% GM (which they have never exceeded) they would still have a $3.5 million deficit to SGA, and that is before we get to all the other expenses.

Folks, we are in year 2 of 2.0 formats.  This company was set up for 2.0.  This is not acceptable.

This Q: SGA up a combined $1.9 million QoQ. So, $5.6 million of incremental GM gets partially eaten by SGA.  $4 million net improvement and they still have $4.8 million in interest to service.

Depreciation of $2.2 million, versus $2.5 million last Q, rounds off Opex.  I note that a good portion of this depreciation really should be in CoGS as it pertains to the production assets. So, their weak GM is inflated by not domiciling the depreciation where it should be.

Selling, General and Administrative Expenses as % of Sales: Peer

Breakeven Sales Required to post +Net Operating Profit: Canadian peer Group

At current GM% and OPEX$’s Auxly needs an incremental 86% increase in quarterly sales to cover Opex and return a +NOP.

NOP without IFRS was -$6.6 million this Q versus -$9.8 million last Q.  The bump in GM$’s was offset by a increase in Opex.

Other Expenses:

Other expenses aggregated negative $1.7 million versus expenses of $1.0 million last Q.  Of note:

Net Income was -$8 million versus -$11 million last Q.

Adjusted EBITDA: Trend and Peer

Auxly EBITDA improves QoQ by $3.6 million to negative $3.3 million.  GM improvement less SGA increase.  They still have $4.7 million in interest to service as well.

Opex Burn for the Q was $17 million versus $4.3 million last Q as the interest and losses on sale moved through.

Breakeven Sales Required to post +Adj EBITDA: Canadian peer Group

At current GM% and cash OPEX$’s Auxly needs an incremental 43% increase in quarterly sales to cover Opex and return a +EBITDA.

Balance Sheet items of Note:

• Going concern note
• Cash was $32 million an increase of $11 million QoQ. They completed an offering in Q for $8 million.  Cash is in reasonable shape.
• A/R increase by $7.4 million to $15.9 million.  If sales were backloaded this would explain the increase.

• PPE impaired with Curative writedown leads to -$9 million in PPE to $85 million.

• Long Term investments increase by $12.2 million as they get some illiquid Myconic Capital shares valued at $10 million as part of the consideration for KGK.

• Accounts Payable and Accrued liabilities were paid down by $9 million in the Q to $20 million.

• Convertible Debt sees $8.3 million move into current liabilities and totals $100 million. Extended to September 2024.

• Share capital and Reserves are up $31 million QoQ largely from the equity raise in Q.

In conclusion:

Nice Progress quarter in Sales and GM but SGA creep is still an issue. 

They moved some items around the balance sheet this Q with impairment of Curative, sale of KGK and Debenture maturity extension.  How BMO deals with Sunen’s forbearance should be a concern for shareholders this Q.

They have ok cash but they do have $8 million of debenture due this year and they are still burning cash.

That’s all I got.

GoBlue

The preceding is the opinion of the author and is in no way intended to be a recommendation to buy or sell any security or derivative. The author does not have a position in Auxly and will not start one in the next five days.