This is our third structure on the Flowr Corporation ($FLWR). We recently took a tour of their facilities, the write-up is here.

$FLWR belongs to a group/class of mid-sized producers that has yet to be fully validated by the marketplace. A peer-set of them could include $FIRE, $AH, $WMD, $ZENA, $NRTH, Tantalus Labs, $GTEC, $JWC, $HVT, Broken Coast, and perhaps a $SNDL. $OGI is in here too. You might be able to think of a couple of others, or take a couple of these out.

It’s an imperfect group to set up comparisons with. Despite setting itself up as a premium producer, Harvest One is largely known as neither able to grow weed, nor sell what they even might have (based on their announced restructure, they’ve been struck). 48North is a disaster zone, and Sundial has shuttered much of their production…at least for awhile. Some have outdoor, some don’t. Some do the greenhouse thing, other’s strictly indoor. But, the ‘peer-set’ suggested above – despite the different grow modalities and capacities – centres around delivering premium product from relatively mid-sized production platforms. And it’s a pretty crowded field.

The larger outfits ($ACB/$WEED/$APHA/$TLRY/$CRON) are concerned with taking over the world. The midsize companies though, probably see a place for themselves in building out a loyal customer base and establishing a name and brand recognition. They likely won’t aspire to be all things and all SKUS to all people. Differentiation among them is going to come from specific cultivars on the front end, and cost containment at the back. From customer loyalty…….to ensuring retailers that carry the product know that the next shipment will be consistent, and that they all want their names to say ‘value’ to customers.

Over the past year, I’ve become interested in this subset of producers specifically. Because, while their scale is not yet proven (just like $ACB/$WEED/$CRON/$TLRY), I do know that the quality of product many of these companies have put out is good. Better (in most cases) than I’ve experienced in product from the ‘big outfits’. I’d also like to think that good quality will always find a home in consumer spending. Realistically though, a good chunk of the mid-sizes won’t be around (in their current form) shortly. And identifying those at highest risk (as early as possible) is the value point that we want to give subscribers.

Take Supreme ($FIRE) for example.

A couple of few quarters ago, they were looking good. Margins were holding, the build progressing. The promise of international revenues. A good ‘OG’ brand with cache around it….new cultivars being released. They looked good across several metrics. Yet. Wholesale revenue masked their lack of depth in market penetration, and that stream collapsing laid it bare. Wobbles on quality combined with a front office taking $20MM a year in compensation, hard write-downs on celebrity endorsements, international business investments, and intangibles that had nothing underlying them ………all of this has left $FIRE in a position where I have serious doubts about whether or not they’ll survive 2020. $FIRE’s recent hard dive into ‘CPG’ is the retort and response to poor performance in their business and share price decline. Make no bones about it: $FIRE’s current earnestness is this peer group’s earnestness.

This larger group will have to differentiate and prove themselves individually. And fast. All while doing it in competition with: each other; against ‘value brands’ making incursions; and an emerging dynamic between the ‘big’ shops like $APHA and $WEED and $ACB who are now incentivized more than ever to grow their own sales…..lest more changes to C-Suites, pissing off DaddyCo, or bank covenants getting blown through,

From a business angle, these are exciting times. We’ll see the durability of how well a newly legal discretionary consumer intoxicant fares during global economic disruption. And, how companies respond to price sensitive consumers while trying to differentiate. The market is there, it’s growing, and potential is all over and around the sector. Profitability has not been seen so often though.

Let’s look at how the first quarter of what is (I think arguably) Flowr’s most important fiscal year in its’ history…..one I’d also argue is the most important for virtually all of the ”mid-sizes”.

To the financials!

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• Cash a meagre $2.5MM. There’s another $4.6MM in restricted cash (held against a credit facility & builder’s liens), and inventory is an extremely modest $3.2MM.
• But….a raise in late April of some $21MM took the pressure off. Notably, 60% of that total came from insiders. More below.
• Sales? Ow. Like a ‘make it stop’ kind of ow. Only $776k in the quarter, this with catching pretty much all of pre-COVID’s impact. Given revenues hasn’t been coming off in-sector in general……calling this a ‘serious issue facing the company’ is understatement. More below.
• Another $660k in inventory impaired. This is an above the line adjustment, which, is almost the same amount as revenue. A negative gross margin excluding this of $1MM reported, meaning that the $770k in sales had COGS attached of $1.7MM. Partly a reflection of having to pivot on product mix (and possibly leaving some of the facility fallow) as well as a delay in full facility commissioning (which, Health Canada granted in February).
• Holigen (their entry to Europe) brought on some $100MM in Goodwill and Intangibles, which, is almost 50% of total assets. Not a dollar in the door yet. $FLWR sees opportunity there….but the clock is ticking. Portugal is just beginning to build out it’s regulatory apparatus.
• $14MM in payables. That raise ain’t gonna go far at this rate.
• $FLWR did a combination outdoor/shade house grow last year. We discover in these financials that some 13 tons of production from that was frozen, that they’re working with Health Canada to move it, and that it has been written off in entirety.

Ok. There’s relatively good disclosure in these financials. Detail around financing and optionality and cash flow is good. The MD&A is thin on current quarter narrative though. Cynically, there isn’t much to talk about operationally. We’ve covered the bulk of items in our previous looks at them, and right now, they are facing an easily identified and defined issue: sales.

That raise in late April was desperately needed, and timely. It’s not cheap, at least in terms of paper. The issue was essentially at the money ($0.58), and came with 1,724 warrants per thousand dollars (3 year tenor at $0.76/share). This company is tightly held (~=58%). And it will more than likely remain thus. That’s a good measure of confidence to some, I am somewhat ambivalent in the general. My view is usually contingent around related party transactions and SBC^1.

There’s been a raft of changes in the executive. The restructuring $FLWR did back in late March has prompted changes in no less than 7 positions in the front office. I’ve included the CFO in this, because the date of the restructure coincides with the departure.

The costs reported in G&A ($3MM in salaries) in these will be lower go-forward. That restructuring took 25% of the workforce out, and cost $700k to execute. What future run rates will look like is unknown at this point. They burnt $7.5MM last quarter on operations. They’ll need more than a 25% reduction in that.

Revenues past 3 quarters have been $1.3MM (Q3F2019), $1.8MM (Q4F2019). and now $770k. Q4 saw $1.8MM in returns and concessions, and this quarter sees another $67k. Much improved. But. Getting production up and out appears to be something $FLWR is wrestling with. And if one thing is apparent in the cannabis sector, the marketplace moves on whether or not everyone is on the bus. One would expect at least a holding of revenue numbers, but, this quarter’s sales are halved from 2 quarters prior.

We remarked last time that “Generating sales is $FLWR’s single – and sole – path forward.”

It remains so. At this point, there’s going to have to be a turn-around in sales that’s eluded every company in the mid-size category. I have no idea where it will come from.

^1 – $CXXI is an example of a large shareholder (and creditor) taking over a shop to (I assume) try and ensure both repayment and viability of assets they sold into it. In that specific case, shareholders aren’t necessarily at front of mind of management.