Okeanis Eco Tankers Corp. Q3 FY2023 Earnings Call

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the EcoSynthetix 2023 Third Quarter Results Conference Call. Listeners are reminded that portions of today's discussion may contain forward-looking statements that reflect current views with respect to future events. Any such statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected in the forward-looking statements. For more information on EcoSynthetix's risks and uncertainties related to these forward-looking statements, please refer to the company's annual information form dated February 28, 2023, which is posted on SEDAR. This morning's call is being recorded on Friday, November 3, 2023 at 9:00 a.m. Eastern Time. I would now like to turn the call over to Mr. Jeff MacDonald, Chief Executive Officer of EcoSynthetix. Please go ahead, sir.

Thank you. Good morning. We issued our 2023 third quarter results yesterday afternoon. Sales were $3.8 million, up sequentially by 29% from the second quarter, but still down 24% from the same period last year due to lower volumes. I'm often asked why we're not seeing more momentum in the business. The lack of growth in our volumes is frustrating. What I can say is that trial activity is accelerating. The trial results are very positive across the board, and the weekly reports on our sales prospects continue to expand. The roster of trial activities and prospect activity gets me excited every week and keeps the team motivated that we're making progress. But it's been a slow process. Our solutions are disrupting entrenched chemistries that have been used for decades in these end markets. The pace of industrial changes is slow, but we are making progress. The international retailer that is backward integrated into wood panel production and the global pulp producer that are each working with us are proof of the value proposition our solutions bring to multibillion-dollar end markets. The deterioration we have endured in the graphic paper market has been partially offset by the stability and modest growth in our newer end markets of wood composites, tissue, paperboard, pulp, and personal care. That change in proportionate mix is supporting the improved margin profile of the business. Graphic paper is at such a low base today that the growth we expect will be entirely driven by our new markets. On the tissue paperboard and pulp end market, we won our first accounts approximately one year ago, after about one year of qualifying our new products with these accounts. These proof points give the distributors we work with the confidence to go out and build a pipeline of prospects over the course of the last 12 months and promote our Surflock offering with their customers. Based on our learnings from those first wins, we continue to broaden our opportunity pipeline by focusing on new lines of existing customers, new customers, new geographies, new applications, and new distributors. Our relationships with distributors are a core part of onboarding new prospects in the market. The distributors understand the complexity of the mix that goes into creating the pulp product and the variables and chemistries involved. We have one chemistry. They have the capability and capacity to work with multiple chemistries and conditions required to make tissue packaging and other paper products. In most cases, these distributors are procuring a range of ingredients and formulating the right solution for the tissue and packaging producer. Today, that range includes Surflock. They then sell that formulated solution to the end customer and provide support on a 24/7 basis. It became clear to us early on that they're an important part of the value chain that we sell into. They see the value in our Surflock strength aid, and they see the opportunity in front of us in the tissue, paperboard, and pulp end markets. That pipeline that we're building together is in various stages of trial activity. Some more advanced with multiple successful trials completed and some earlier stage in their first or second trial. Converting these prospects to commercial accounts is a key priority for us. The progress with our first commercial wins has been slower than we had expected due to demand headwinds. The first packaging account has started to see improved demand dynamics, and their order frequency has increased during the third quarter and now into the fourth. But they're not up to their full potential yet. Their outlook continues to improve, and it's improving in the products that we are supporting. On the tissue accounts, the destocking trends experienced during the past year have subsided, but weak and inconsistent demand remains. They believe it's a short-term blip and nothing more, but it speaks to the state of the market in tissue and packaging that these accounts are dealing with. The global pulp producer that we're working with undertook the next phase of their trial program during the quarter. This consisted of a significant step-up in the use of our Surflock strength aid, a longer run using more Surflock, producing more pulp for their end customers. The trial was further proof of the value proposition for them and demonstrates their commitment and novel approach to this large market opportunity. This is a large volume, multimillion-dollar opportunity for us. While it will require more trials before a commercialization decision is reached, it is fair to say that we're now very excited about this opportunity and the results to date. On the wood composites front, our key strategic account, which is a backward integrated wood panel producer for an international retailer, continues to make progress. It's been a 10-year development project that is now at the implementation stage. It's clearly become a lot more of an operating priority for them. They're expanding their usage of DuraBind at the first facility, and we're working with them on the introduction at a second facility. This account is the catalyst in the market. They see the use of bio-based glues as an important step in their commitment to reducing their carbon footprint. Using bio-based glues in their own production is the first step to our change in the market. More recently, they've made it clear to their supply chain partners that glues are a major component of their carbon footprint and a priority for change. We're taking their lead in terms of the suppliers that are most important to their supply chain. We're being very selective in terms of which suppliers are willing to make a meaningful investment to move toward bio-based glues. That investment demonstrates a conviction to change. No one is making that kind of commitment to the level that the international retailer and wood panel producer has so far, and they move markets. We continue to believe the wood composites end market is a major growth opportunity for us. Based on conversations with investors, the tissue, packaging, and pulp end market is often the focus. From my perspective, wood composites and tissue packaging and pulp are targets 1A and 1B. I believe both end markets will make significant contributions to our long-term success. The wood composites opportunity has taken a long time to get to this stage, but it's well proven and immediately in front of us today with the most important player in the market supporting the adoption of bio-based glues and using DuraBind in their regular commercial operations. On the personal care front, Dow has collected a few more small wins throughout the year with Maize care formulations that use our Bioform as an all-natural film former. Dow's sales and marketing team continues to build out their pipeline of prospects with the expectation that in the next few quarters, one of the bigger, longer-term opportunities they've been supporting may come to fruition. There is also continued engagement between our two development teams, working on new ingredients and formulations within and beyond the hair fixative market. The investments they're making in the marketing and development programs demonstrate their conviction to Maize Care's success, and we share that confidence. Wood composites and tissue, paperboard, and pulp are the primary growth drivers of the business. We view personal care as a warrant on that growth, and we'll continue to be patient and support Dow's progress. At this point, 12 months ago, my number one concern was feedstock availability and the related impact on pricing dynamics and on our growth. We managed through those issues and avoided feedstock availability encumbering our long-term growth. The availability issues are now behind us. The harvest this season has been good, and that's led to an easing in the pricing of corn futures. There is still a disconnect between corn futures and the price of starch, but that disconnect is waning. Starch pricing is off the historical highs that we saw late last year and early in 2023. It's still higher than normal, but it's more manageable, which makes it more reasonable to pass through the current pricing. With the availability of the new harvest, we're now qualifying additional supply options, which gives us greater leverage and optionality should availability become a concern again. And lastly, we've made substantial progress on our manufacturing realignment. We've ended our toll relationship at the manufacturing facility in Tennessee and are in the process of removing the line. The new extruder we purchased for the Center of Innovation here in Burlington has already arrived on site. We're on budget and on schedule to commission the new line by the end of this year. Internalizing North American production provides us with greater control and supply chain flexibility and risk management. We will now have more control of the manufacturing process as we launch new products, win new accounts, and grow with existing accounts. And with that, I'll turn it over to Rob to review the financials. Rob?

Thanks, Jeff, and good morning. Net sales were $3.8 million in Q3 2023, down 24% compared to the same period in 2022. This decline was due to lower volumes in the graphic paper end market. North America industry data shows demand for coated paper dropped 41.7% in Q3 year-over-year. However, the declines have stabilized in September. Gross profit was $1.2 million in the quarter, an increase of $120,000 from the same period last year. The increase was primarily due to higher margins enabled by improved product mix. Net of manufacturing depreciation, gross profit as a percentage of sales was 34% in the quarter compared to 23% for the same period in 2022. We are seeing some pricing pressure in Q4 beyond our raw material cost savings as competitive commodity chemical prices decreased from their recent highs. This will likely result in our margins returning to more normalized levels. SG&A expenses were $1.2 million this quarter, in line with the prior period. R&D expenses were $510,000 in the quarter compared to $430,000 in the same period last year. The increase was primarily due to new product scale-up costs. We continue to launch new higher performance grades and invest in innovation to improve our value proposition and expand our addressable market opportunities. Adjusted EBITDA loss was $190,000 in the quarter compared to a loss of $130,000 in the same period last year. Higher margins in the current quarter enabled the EBITDA loss to be in line with the prior period and offset the impact from top line pressure. Cash provided by operating activities was $130,000 in Q3 compared to cash used in operating activities of $2.1 million for the same period last year. In the prior period, we built up inventory levels significantly to manage through the feedstock availability issues that Jeff referenced earlier. As of September 30, we had $34.7 million of cash and term deposits compared to $36 million at December 31, 2022. During the quarter, we invested $749,000 into the NCIB to purchase and retire 275,000 shares. We have demonstrated our ability to responsibly manage our cash reserves through multiple cycles while continuing to invest in our long-term growth strategy. With that, I'll turn it back to Jeff for closing comments.

Thanks, Rob. The market feels a little more economically challenged right now. Manufacturers are more cost-conscious. In parallel to the sustainability priorities of companies, we have to ensure that the value proposition of our binders is as strong as possible. That strong value proposition exists today for DuraBind and Surflock, and we're continuing to improve on that to help accelerate our growth. We're seeing strong trial activity with multiple trials ongoing across each of our end markets. Our key wood composites account is expanding usage of our DuraBind resin. The trial activity in the tissue, packaging and pulp end market is also accelerating despite difficult macro conditions in that market. While it has been a challenging 2023, we're seeing better momentum in the business and look forward to a return to growth in 2024. We're focused on delivering that growth for our shareholders. And with that, I'll ask the operator to open the call to your questions. Thank you.

And our first question comes from the line of Brian Morrison, who is a private investor.

Jeff, it sounds like some real progression being made here. You're finally turning the corner. Obviously, a long way to go, but it sounds encouraging. So just in terms of the progression you're making on the trialing, maybe relative to 3, 6 months ago, can you maybe quantify the cadence in terms of the number of trials and what you mean by achieving desired results?

Yes. So let's start with achieving desired results because that's what's driving the expansion in the pipeline. What we took away from the wins we achieved a year ago, it has to be disguised so that we're not divulging confidential information from our existing customers, but it gave us some data that we were able to translate into applicable opportunities at other accounts. And so we've used those case studies as we've introduced this now more broadly to both customers and distributors. And there's really two levels of growth that we've undertaken in the last year when we talk about growing the pipeline. One is directly with customers and our participation alongside distributors continues, but we can't be everything that I just described to these end customers. So we've continued to sign up additional distributors. We learned through that first year of applying Surflock alongside one of the distributors that they're just a super critical part of getting this done. And so we've looked for others like them in different geographies around the world. And yes, pretty much quarter-by-quarter, we signed up at least one new one and introduced Surflock to them, and they're in the process of introducing that to their first customers. I think, pretty much across the board have first trialing programs in place now. So there's the distributor level, which we see as sort of a multiplication factor to our pipeline as well as within a distributor that pipeline growing. So simple answer. And again, like until we see that it's predictable in terms of delivering results and wins, we won't give specific numbers, but it's substantially more advanced than, as you said, 3 to 6 months ago, substantially more advanced than that time frame in the last 6-plus months.

So I guess the question is in terms of a percentage increase, are you able to quantify that? And then, I guess, you're making progress with the service providers, it sounds like. Is this capturing attention from any other major players on your disruptive capabilities?

Yes. If we consider the 6-month timeframe, we have at least doubled our pipeline development. Regarding attention, one consistent area of interest is with a major pulp player. The potential of our product modifications for pulp has been acknowledged by others in that industry, which is both interesting and exciting. We've decided to initially concentrate on regional distributors. These typically smaller distributors are significant within their local areas, known for their excellent customer service. They are responsive and agile, which is crucial for driving change. Additionally, they often invest in necessary modifications to their production lines to secure contracts for supplying ingredients. This support is vital for our success and we believe it's the quickest way to begin. The second level involves larger chemical companies that deliver substantial volumes to the market. Our offerings may complement their chemistry or in some cases, serve as a disruptive alternative. It's fair to say that we have received some recognition for our initiatives in this space.

Okay. Excellent. So I guess when I look forward to the following year, macroeconomic growth is going to limit corporate grows, people are going to focus on cost reductions. It sounds like you've got proof of concept becoming a reality. When should we expect to see contracts forthcoming? Should we expect things in the next 3 to 6 months? Because it seems like you're in a sweet spot going forward.

The Surflock solution is focused on providing cost savings for customers. Regardless of how you look at it, as indicated in our previous conference calls, we have various ways this product can enhance customers' operations, but it fundamentally boils down to cost. This product is ideal for a cost-conscious environment, which aligns with the current market situation. Honestly, I anticipated achieving more wins by now, but the challenges our customers are facing have slowed that process somewhat. As is often the case, more iterative trials are needed to demonstrate its value to their satisfaction, along with delays in securing the necessary equipment to integrate our product effectively. To elaborate on the trial process, we typically start by supplying customers with a liquid product since it's easier to manage. However, to realize the best economic benefits, they ultimately need to transition to handling the product in dry form. This transition requires them to manage the delivery and controls associated with it, which demands time and effort at the operational level. Given these factors, I had hoped to see more wins by now. Nonetheless, there are opportunities in the pipeline that suggest we should expect developments in the next three to six months.

So we are nearing the finish line with some of these trialing processes?

Yes.

Okay. And I did take notice with your comment with respect to the pulp player in your previous trial that you stated. What's the process that needs to play out here? Are there pulp players looking to trial or have been in contact with you? And can you just maybe give us magnitude like how much per line and how many addressable lines are out there in this major market?

Yes, we have been collaborating with a larger partner who operates multiple pulp lines, which are significantly extensive compared to paper lines, with pulp mills resembling small cities. These operations are typically integrated with forestry. Our current partner is the most successful in this sector, and their achievements have attracted attention from other pulp companies. We have received inquiries from them, although I cannot provide specific details about the ongoing conversations.

Okay. And in terms of the revenue per line potential in one of these major players, are you able to share that?

Yes. So it's tens of millions per line.

And multiple lines. Okay. And then I guess also interesting was your comment with respect to your Dow partner, your personal care partner. It sounds like you've got a little bit of increased visibility with respect to potential contracts. Maybe just elaborate on that, if you could.

I wouldn't say a great increase in visibility. I mean, they own the final formulation development and the market development, but in order for us to stay in lockstep. And I would say to some degree, to make sure that we remain engaged in seeing the prize at the end of this. They do share with us some view on their pipeline. The pipeline that they have is massive. It's hundreds of opportunities that they're chasing. But also they've just given us a little bit of color that some of these very large opportunities, and it's somewhat due to the size of the opportunity. As they've been on these since we got started with Maize care together and has continued since then to the point where I think they're feeling pretty good about some successes in the coming year as a result of all of that effort. They also remind us that we got started pretty much as COVID got started. And in that market, they consider that to be pretty much a 3-year setback or a 3-year slowdown at least in that space. So, yes, they remain very excited about it. And we get a little bit of visibility that gets us excited. But we also see from a technical perspective what our product is doing relative to some of the incumbents, and it's a great product.

Okay. And the margin profile still sort of north of 70%, 80%?

Yes.

Okay. Sorry, but two last questions, then I'll be complete. So you mentioned IKEA making great progress for your large wood partner as well. Maybe if you can just talk about how you see the cadence of that ramping up. I mean it's been pretty slow. But obviously, the market opportunity is very large. Are you starting to see that accelerate now?

We're starting to see it accelerate with that partner specifically and with their activity within their supply chain to set priorities for them. So still safe to say that the opportunity per line there with all of our products, original DuraBind, or tackifier, our catalyst rolled together, the opportunity per line is in the kind of $5 million range. We're not at that at the first line net. We're growing into that. And we're now introducing the product at the second line, beginning to do some trials with that second line. Those are the proof points to prove the cost and, well, obviously, performance, but how to implement this bio-based solution, and they're beginning to talk about that with their supply chain. I noted it in the script, but we're going to take their lead more so now on where they see the supply chain partners that are willing to make the investment and are taking their sustainability agenda seriously. So I said it, but I haven't seen this nearly to this level of operational priority throughout our journey with them. And it's, as I said, immediately in front of us, in terms of activity to drive this for growth.

And you've done trialing with some of these external partners previously, correct?

Some of them we have, yes. And I would say at that time, and maybe we were a bit naive to it, but I'll also say that we were trying to get proof points ourselves to show industrially that DuraBind was working. But I think at that time, they understood that the sustainability agenda was on the horizon, and they charged their R&D teams with making sure that they understood it and could implement it. And in the case of some customers, they've sold some panels out into the market, albeit in a very niche way. But they just wanted to be ready for when the catalyst really came. I think our partner has shown that they expect that catalyst now from them. So it's a different time in that space.

Okay. NCIB, you've had a win here with a U.S. dollar. You remain active? Is that your plan to remain active? You potentially take it up if and when we see these contracts to get across the finish line?

We expect to remain active as we have been, Brian, in our balanced approach to our balance sheet and our cash management, but safe to say, we'll remain active as we have been.

All right. Jeff, I look forward to seeing progression.

Thanks for your questions, Brian.

Our next question comes from the line of Daniel Marks at Stonehouse Capital.

First question is a follow-up, Jeff, you mentioned in the wet end, equipment was required to get people sort of into their final stages of either the industrial trials or into commercialization. In the past, I thought I recall that the wet end was sort of maybe $50,000 or $100,000 at the most and a pretty quick one to switch over or to transition. Can you maybe expand on what is involved or what range of equipment and time to install that equipment would be?

Certainly. An important point to note is that when our dry powder reaches a customer's facility, there are essentially two main steps involved. First, the dry powder needs to be mixed with a liquid product to create a tank of that liquid ready for production. Secondly, a delivery system is necessary to transport the liquid from the tank to the appropriate location in the production line. Additionally, it's crucial to have control technology that integrates with the mill's central control system. So, while I initially mentioned two steps, there are actually three components if we include the controls system. Customers might require none of these components if they have the necessary equipment already available, or they could need all three. Recently, we discussed this with one of our distributor partners, who often makes upfront investments to secure longer-term contracts for ingredient supply. They estimated the average cost at EUR 85,000, which aligns with our range of $50,000 to $100,000, depending on the complexity of the project. There can be quick implementations, especially when a customer already has everything in place, as we experienced with a recent success in the tissue market where production started immediately. If all three components are necessary, the equipment is custom-made. While it's not prohibitively expensive, it can take up to six months to assemble and install, depending on whether the customer has the capacity for such an installation. The process isn't massive, but it does require some time and potential downtime to complete.

Got it. That's great information. This question might be for Rob. It's impressive to see the improvement in gross margins from 20% to 30%. I assume much of that is due to product mix and the increase in sales prices. Is this what we can expect moving forward? As we discuss 2024, what do you anticipate the blended gross margin should be in our models?

So I'll start with that one, Dan, and then hand it over to Rob for some specifics, but I think from an overall perspective, looking forward, we're going to see two dynamics at play. We've had the highest pricing we've ever had as have many other chemical players out there. And we're seeing pressure despite oil being at a reasonably high level, we're starting to see pressure on commodity chemicals. Those things that are important to us like butylacetylene that goes into acrylic resins, and formaldehyde, and that's having purchasing departments asking us to sharpen our pencil as well. So I do think going forward over the next few quarters, we're going to see some pricing pressure. But also, we're going to benefit from the continued improvements, and we're not definitely not all the way through the improvements on feedstock costs. We're going to see that offsetting, I think the net-net of it will be a little bit of pressure relative to the margins that we see today. But I think those two dynamics will allow us to hold a reasonable position. Rob can give a little more color on that?

Yes. I think Jeff hit all the key points there, Dan, but again, normalized margin that we would expect to see on our book of business today would be somewhere in the mid- to high 20% range. Product mix was 100% of the increase that you saw this quarter. As you know, graphic paper is typically a lower margin book of business for us. So with that decreasing significantly here, we're kind of seeing those 30% up because of that product mix impact. Definitely in order to try to accelerate our growth as much as possible, we do see the need right now to pass on some savings and go after volumes. So we expect some of that to play out over the next couple of quarters here. Our customers obviously see corn starch or corn market pricing dropping significantly. So that becomes a purchasing discussion with our sales team. Hope that gives some incremental color to that.

Yes. No, that's great. One last question over on the wood composite side. You've spoken a lot about how your key retail partner is expanding and adding a second line. Yet when I look at the segmented data, Lithuania, Q1 was 16% of about $3 million; Q2, 20% of $3 million or $600,000. This quarter, it's not greater than 10%, which would suggest volumes dropped off with your partner in Q3. Am I missing something?

Not on the micro level, Dan. Volumes for our customers, when broken down to an individual basis, can vary significantly. Q3 usually signals the end of the fiscal year for those customers and includes a month of shutdown in August, which impacts sales. Additionally, there are always fluctuations in their purchasing and inventory levels, as well as in their product mix. Thus, analyzing the data at such a granular level on a quarterly basis may not be very enlightening. However, I can say that our key partner has become one of our most important customers and has shown growth compared to last year. There is certainly more potential for them moving forward, and their overall contribution to us continues to increase.

Okay. And I guess lastly, still on the segmented data, I see the U.S. dropped below 10 and Netherlands, first time on the list. Any flavor you can give us? Is that graphic paper dropping off and wet end customers coming off?

No, it's fair to say that, that's sales through a partner, Dan. That's probably what the color we could give there.

There seems to be no further questions from the phone lines at this time. So I'll hand the floor back to our speakers for the closing comment.

Thank you, operator, and thanks, everyone, for joining us this morning. Look forward to talking to you again soon.

Thank you. This now concludes the conference. Thank you all very much for attending. You may now disconnect your lines.