Earnings Call Transcript - IMCC Q2 2024

Operator, Operator

Good morning, and welcome to IM Cannabis' Second Quarter 2024 Earnings Conference Call. Today's conference call is being recorded. At this time, I would like to turn the conference call over to Anna Taranko, Director of Investor and Public Relations. Anna?

Anna Taranko, Director of Investor and Public Relations

Good morning, and thank you, operator. Joining me for today's call are IM Cannabis' Chief Executive Officer, Oren Shuster, and Chief Financial Officer, Uri Birenberg. The earnings press release that accompanies this call is available on the Investor Relations section of our website at investors.imcannabis.com. Today's call will include estimates and other forward-looking information and statements, including statements concerning future results of operations, economic conditions, and anticipated courses of actions, and are based on assumptions, expectations, estimates, and projections as of the date hereof. This information may involve known and unknown risks, uncertainties, and other factors that may cause actual results to differ materially from those expressed or implied by such statements. Factors that could cause or contribute to such differences are described in detail in the Company's most recent filings available on SEDAR+ at www.sedarplus.ca and EDGAR at www.sec.gov. Furthermore, certain non-IFRS measures will be referred to during this call, and the term non-IFRS adjusted EBITDA loss will hereafter be referred to as adjusted EBITDA loss. Any estimates or forward-looking information or statements provided are accurate only as of the date of this call, and the Company undertakes no obligation to publicly update any forward-looking information or statements or supply new information regarding the circumstances after the date of this call. Please also note that all references on this call reflect currency in Canadian dollars. With that, it is my pleasure to turn the call over to Oren Shuster, CEO of IM Cannabis. Oren, please go ahead.

Oren Shuster, CEO

Thank you, Anna. Good morning, everyone, and thank you for joining us today. As I had already mentioned during our last call, the entire cannabis industry is changing. It is literally being pulled off the shelves. In the U.S., the proposal is on the table to reschedule cannabis on a federal level. Israel rescheduled cannabis to facilitate access to patients suffering from many new indications. But most importantly for us, Germany, the largest economy in the EU legalized cannabis on April 1, 2024. Since we are the sixth largest cannabis distributor in Germany, I would like to go into more detail on the impact the legalization had on the German cannabis industry. I don't think that many anticipated the tremendous impact the legalization would have specifically on the speed with which the legalization has affected the market. While there are many estimates of how the German market will develop, what they all agree on is that the German market is poised to deliver significant growth. As an example, Zuanic & Associates is projecting a market with a run rate of about USD 2 billion by the end of 2025. According to BDSA estimates, the German cannabis industry is expected to reach approximately USD 1.5 billion in total sales in 2024 and is estimated to grow to about USD 3.7 billion by 2027. I would like to put this growth into perspective by taking you through the details of our internal sales in Germany over the last five months. In March, we sold C$307,000. In April, we sold C$830,000, an increase of 170% versus March. In May, we sold C$1.120 million, an increase of 35% versus April. In June, we sold C$1.630 million, an increase of 46% versus May. Overall, we sold 200% more in Q2 than we did in Q1 2024 before legalization. While the numbers are still small, they speak for themselves. Without a doubt, the results of the legalization have had a tremendous impact on our business in Germany. It is clear that we will be focusing our resources where we expect to see the biggest growth opportunities and the best return on investment. At this point in time, this is the German market. To ensure our accelerated growth in Germany continues in future quarters, we need to make sure that we are set up to deliver this growth. To achieve this, we have two clear targets. One, we need to have the right team in place; and two, keep our focus on building a consistent, stable supply chain. As a result, we are actively looking at our overall business to make sure that we are allocating the resources to support the German business. For example, our Israeli team is now working on building a new supply channel from Israel to Germany. At the same time, we are taking a good look at our Israeli business to see how we can maximize profitability. For our Israeli business, this translates into a clear focus on the premium and ultra-premium markets as well as active cost management to support sustainable profitability. Moving on to the operational side of our Israeli business, we strengthened our position in the premium segment by launching the Flower and Avant brands with two strains. We launched and relaunched an additional 10 strains under the following premium and ultra-premium brands: BLKMKT, PICO, and IMC Craft. Our goal is to introduce our Israeli patients to a rotating portfolio of new and existing strains. As in the previous quarters, we are continuing to clear our slow-moving non-premium stock, clearing out all inventory, which was 0.8 million, we also have an additional accrual of approximately 1.1 million for slow-moving inventory, which is a conservative estimate. The impact of this can be clearly seen in our cost of sales, gross margin, and in the gross profit. Uri will go into further detail when he takes you through the numbers. I would also like to give you a short update on where we are with the reverse merger with Kadimastem. On May 28, 2024, the company announced the termination of the preliminary return sheet signed on February 18, 2024, with Kadimastem. Due to the recent changes in the cannabis market, specifically in Germany, where the company operates and other considerations not related to Kadimastem, the company has decided to cancel the planned reverse merger and to remain an active public company with the current cannabis operations. Before turning the call over to our Chief Financial Officer, Uri Birenberg, I would like to put Q2 2024 into perspective. Q2 2024 was a game changer for us with the legalization in Germany. I see tremendous potential for growth. We are actively looking at our entire business to make sure that we are allocating the necessary resources to the German market to support further accelerated growth. I will now hand the call over to Uri, who will review our second quarter 2024 financial results. Uri?

Uri Birenberg, CFO

Thank you, Oren. Our Q2 results were mainly impacted by the following points: our revenue in Q2 increased by 11.7% versus Q2 2023. This growth was driven in part by the 129% growth in Germany in Q2 2024 versus Q2 2023. Our selling price per gram of dried flower also increased 21% in this time period to $6.09 per gram. In addition, as a result of last year's restructuring, our operating expenses continued to decrease by 21% versus Q2 2023. On the other hand, we cleared old raw material and accrued for slow-moving stock for about $1.9 million. The mid-April Oranim revocation resulted in reduced revenue and expenses versus previous periods. I will now take you through the overview of the Q2 2024 financial results for the company's cannabis operations. Revenues for Q2 2024 were $14.8 million compared to $13.2 million in Q2 2023, an increase of $1.6 million or 11.7%. The increase is mainly attributed to accelerated growth in Germany with revenue of $2 million net and decreased net revenue in Israel of $0.4 million, which is the result of our Oranim deal cancellation effect, resulting in decreased revenue of $2.4 million. Total dried flower sold in Q2 2024 was approximately 2,333 kilograms with an average selling price of $6.09 per gram, compared to approximately 2,128 kilograms in Q2 2023, with an average selling price of $5.04 per gram, which is an increase of 21%. Cost of revenue for Q2 2024 was $13.9 million compared to $9.5 million in Q2 2023, an increase of $4.4 million or 46.6%, mainly due to the increase in company revenue related to costs of approximately $2.8 million, the clearing of old raw materials of approximately $0.8 million and accrued for slow inventory of approximately $1.1 million. Gross profit for Q2 2024 was $0.8 million compared to $3.5 million in Q2 2023, a decrease of 75.6%. The downside is attributed mainly to the clearing of old inventory and accrual for slow-moving inventory of approximately $1.9 million and slow-moving stock that was moved out at lower prices. The company's fair value adjustment was $0 and $0.3 million for Q2 2024 and Q2 2023, respectively. Gross margin after fair value adjustment in Q2 2024 was 6% compared to 26% in Q2 2023. G&A expenses in Q2 2024 were $2.2 million compared to $2.4 million in Q2 2023, a decrease of $0.2 million or 9.5%. The decrease in the G&A expenses is attributed mainly to the insurance of approximately $0.2 million. Selling and marketing expenses in Q2 2024 were $1.5 million compared to $2.6 million in Q2 2023, a decrease of $1.1 million or 44% mainly due to the revocation of the Oranim agreement of $0.6 million and a decrease in salaries and professional services of $0.4 million. Total operating expenses in Q2 2024 were $3.7 million compared to $5.2 million in Q2 2023, a decrease of $1.5 million or 29%, mainly due to the decrease in salaries of approximately $0.4 million, insurance of $0.2 million, depreciation expenses of $0.3 million and professional services of $0.2 million. The non-IFRS adjusted EBITDA loss in Q2 2024 was $2.3 million compared to an adjusted EBITDA loss of $0.5 million in Q2 2023, an increase of 357%. Net loss in Q2 2024 was $3.5 million compared to $3.7 million in Q2 2023. Diluted loss per share in Q2 2024 was $0.23 compared to a loss of $0.26 per share in Q2 2023. As of the balance sheet, cash and cash equivalents as of June 30, 2024, were $0.7 million compared to $1.8 million on December 31, 2023. Total assets as of June 30, 2024, were $40.2 million compared to $48.8 million on December 31, 2023, a decrease of $8.6 million or 17.6%. The decrease is mainly attributed to the Oranim agreement cancellation of $9.5 million, which mainly affected goodwill, $3.5 million; intangible assets, $1.4 million; inventory, $0.8 million; trade receivables, $1.3 million; and property, plant, and equipment of $0.8 million, as well as a reduction of cash and cash equivalents of $0.3 million. In addition to the Oranim revocation agreement effect, there is a total asset increase of $0.9 million mainly due to an increase of $5.8 million in trade receivables offset by a $3.4 million reduction in inventory, a reduction of cash and cash equivalents of $0.8 million and a reduction of $0.7 million in intangible assets. Total liabilities as of June 30, 2024, were $34.7 million, compared to $35.1 million on December 31, 2023, a decrease of $0.4 million or 1.1%. The decrease was mainly due to the Oranim agreement cancellation of $6.8 million, which mainly affected a decrease in PUT option liability in the amount of $2 million, a decrease in purchase consideration payable in the amount of $2.2 million, a decrease of $1.6 million in trade payables, a decrease of $0.4 million in lease liabilities, and a decrease of $0.3 million in deferred tax liability. In addition to the Oranim revocation agreement effect, there was a total liabilities increase of $6.4 million mainly due to an increase of $6.2 million in trade payables offset by a $1.7 million reduction in other accounts payable. The company is planning to finance its operations from existing and future working capital resources as well as from its available credit facilities, and will continue to evaluate additional sources of capital and financing as needed.

Oren Shuster, CEO

Thank you, Uri. This quarter was impacted by the clearing of old raw materials and the accrual for slow-moving stock. That said, we clearly see the impact of the legalization has had on our German business. We were well positioned to take advantage of the growing market, delivering a 200% increase in sales in Q2 versus Q1. We are actively making sure that we are allocating the resources and support the German business needs to deliver further accelerated growth. I will now hand the call over to the operator to begin our question-and-answer session. Operator?

Operator, Operator

Thank you, Oren. Our first question is from Scott Fortune from ROTH. Scott, please go ahead.

Scott Fortune, Analyst

Yes. Thank you. And thank you for the questions. Oren, just wanted to provide a little color on additional sourcing of supply for the German market as that seems to be the bottleneck there, you're well positioned with infrastructure and allocated resources to support that. But cannabis is being sold through the pharmacies. And what are you seeing as far as new pharmacies coming on board, there's 2,000 to 3,000 pharmacies that offer cannabis of the 18,000. But just your keys to IMCC brands getting into the pharmacy and looking for the pharmacies looking for certain supply amounts. Just kind of touch base on the supply bottleneck and how you guys are addressing access and more sourcing of supply?

Oren Shuster, CEO

Okay. Thank you for the question, Scott. I do agree with you, the supply is the key today in Germany. Luckily, we have our own sources of supply, and once the legalization has started, we increased the quantities that we are ordering to Germany. I think that we can see that in our results in Q2, and we will get more supply from our current suppliers. Concurrently, we will bring in more suppliers to the market in Q3; we will start to have sales from Israel, product supply from Israel, and we will start to sell it in Germany. That's a completely new channel. The Israeli market is our market. We're based here. It's very easy for us to bring in the supply from Israel. There is access to supply today in the Israeli market. We believe that it can be a very good and unique channel. We want to be alone, obviously, but we are the only Israeli with operations today in Germany. Besides that, we will also introduce the premium and ultra-premium products. I think that we announced that we're going to launch BLKMKT in Germany. We have an exclusive agreement with the German and Swiss markets. So we are working very hard on adding more supply. We will start to see soon more supply in the German market. So it's something that is coming now to the market.

Scott Fortune, Analyst

Great. Can I follow up on that? The supply that you're sending from Israel, is that going to take down different supply and selling opportunities in Israel or is this additional supply? And just follow up on that, as far as the German market is concerned, right, you have private payers now. You mentioned you're getting into the premium segment, but this has been more of a mid-market kind of the supply agreements you've been selling – agreeing to is kind of serving that mid-market, just kind of point us towards the trends in Germany and where the different categories that you're selling into in the German side?

Oren Shuster, CEO

Okay. Well, that's a good question. So there is a significant difference between the markets. In Israel, we are focusing on the premium and ultra-premium segment, and most of it we are importing from Canada today. In Germany, we believe that most of the market will be mid-to-low. So in Germany, our strategy is to focus on the mid-market, but we're going to have the full spectrum of the products starting from ultra-premium down to, I would say, mid-low. So it's a different approach in the market. When I spoke about the Israeli market, I meant mid-market products from other Israeli growers that we are buying in Israel and selling in Germany.

Scott Fortune, Analyst

Got it. That's helpful. And the last question for me is, are you needed – obviously, you're shifting a lot of resources, allocating that towards the German market? Just kind of step us through the infrastructure in place, but additional cash outlays needed to kind of support that market, being in front of the prescribing doctors or working with the pharmacies; just kind of an idea of where the resources are needed to continue to kind of grow pretty exponentially in the German market?

Oren Shuster, CEO

I think that definitely, supply is the number one issue today in Germany. If we're speaking about the channels today, the main point of contact is pharmacies. We see, like you said, an increase in the number of pharmacies and more competition, more players. For us, the main focus, like I said, is on the supply; we feel very comfortable with the market and with our ability to have market access. We've been working in this market since 2019. So we are well established in the market. It's more about bringing the right products at the right pricing. I think that we understand the market very well. We are very experienced in that. Regarding the ability to support the operation and the input with the cash flow, we have a projection. We see that we can support the import. It's becoming much easier to do it now. We see the growth in the market. It's becoming a profitable business. So I don't think that that will hold us back from growing and maintaining the growth in the German market.

Scott Fortune, Analyst

Got it. I appreciate the color, and I'll jump back in the queue.

Operator, Operator

And our next question is from Aaron Grey from Alliance. Aaron, please go ahead.

Aaron Grey, Analyst

Hi, good morning, and thank you for the questions here. So I want to piggyback off what Scott was speaking regarding Germany. You guys seem to have outperformed in Germany, certainly in terms of a percentage basis, but even on some potential absolute dollars versus some others that we've heard from the public markets. So what would you attribute as being key to the success in your view, given you're not vertical, right? Would it be more so your relationships with doctors, communications with patients? Maybe some detail in terms of your go-to-market strategy that drove such strong growth quarter-over-quarter there? Thank you.

Oren Shuster, CEO

Okay. Good morning, Aaron. Thank you for the question. As I mentioned, we are well established in the market. We have a familiar brand. In 2023, we had the number one selling SKU in the market. We are number six among distributors, and there are more than 60 distributors in Germany. So we are well positioned. With the legalization, as I mentioned, we worked immediately on adding more supply. We started to get more supply that we could sell. That's one of the reasons why we grew more than the others. From the beginning, it was a strategic target for us to get more supply, and that's our focus. The main reason is that we have a good reputation in the market. For us, it’s mainly about the supply. Regarding market presence and access, I feel very comfortable—we have very good relationships with the pharmacies and support from the cannabis community in Germany, which is very important because we work closely with influencers. We are well connected in the community. So I think that it's the result of a few years of hard work.

Aaron Grey, Analyst

Okay. Great. I appreciate that color there, Oren. Second question for me, just on the gross margin. You guys had some call-outs there in terms of some inventory clearance and some accrual for some slow-moving inventory. It looks like outside of those impacts, the gross margin would have been around 18%. Just want to get some color on the go-forward gross margin, how that's looking, particularly if any of this change in sourcing material for Germany might have some impact on the gross margins going forward, depending on the cost of that. Thank you.

Oren Shuster, CEO

Thank you. It's true that our gross margin reduced significantly because of the inventory clearance and accrual. First of all, it happened in Israel, not in Germany. We don't have any excess stock in Germany, and whatever we sell is aligned with our strategy. The changes that we are making focus on the premium and ultra-premium segments; we understand that other segments of the market are not the right focus. So it's part of this process. Looking forward, we still have stock. We will continue to check our stock to see what is sellable and what is not. I don't see a situation where we will be stuck with product. We have more demand than what we are bringing. In Germany, whatever we bring, we are able to serve. We know what we are bringing, so it’s part of the change that the company is going through. However, I believe we have a healthy gross margin.

Uri Birenberg, CFO

We can basically view the gross margin this quarter as a cleaning process. We acted conservatively, accruing for inventory that we are not sure we will be able to fully sell. We have made all the necessary adjustments in order for our financials to represent our current status. After these cleanings, as we monitor inventory closely on a quarterly basis, we believe that the gross margin in the upcoming quarters will not reflect the way it does now. This quarter is not representative of our operation.

Aaron Grey, Analyst

Okay. Got it. Thanks for the color there. I'll jump back in the queue.

Operator, Operator

Okay. We have the next question from Scott Fortune. Scott, please go ahead. Can you unmute?

Scott Fortune, Analyst

Yes. Sorry about that. Just a follow-up on gross margins and how you're viewing the German market as far as the margin side of things, offset by obviously the Israel side? Just kind of a little bit of color on the margin cadence that's going on in Germany for your business right now?

Oren Shuster, CEO

We had a good gross margin in Germany today. We're about 40% this quarter in Germany. I think that it's very early to predict what will happen regarding price pressure. When it will happen, if it will happen, it's still very early stage in the market. I believe that at some stage, we will see price compression in Germany. We are getting ready for that because we've seen it happen in other markets, and I believe that everything will happen more quickly in Germany. This is what we have seen thus far. As of now, we have good gross margins in Germany, and like we said, in Israel, we think that the changes we're making will also lead to increased gross margins. How fast it will happen, whether it'll be next quarter, two quarters, or three quarters? I don't want to say anything at this point, but that's our timeframe.

Scott Fortune, Analyst

I appreciate the follow-up. Thanks.

Operator, Operator

Next question from Aaron Grey. Aaron, please go ahead.

Aaron Grey, Analyst

Yes, apologies. That was just a legacy from prior. I don't have any additional questions. Thank you.

Operator, Operator

Okay. I don't think we have any further questions. Oren, I don't think we have further questions.

Oren Shuster, CEO

Okay. Thank you, operator, and thank you all for joining our call today.