Organigram Global Inc. Q4 FY2023 Earnings Call

Good morning. My name is Krista, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Organigram Holdings Fourth Quarter and Fiscal 2023 Earnings Conference Call. Thank you. Max Schwartz, you may begin your conference.

Thank you. Good morning, and thank you for joining us today. As a reminder, this conference call is being recorded and the recording will be available on Organigram's website 24 hours after today's call. Listeners should be aware that today's call will include estimates and other forward-looking information from which the company's actual results could differ. So please review the cautionary language in our press release dated December 19, 2023, on various factors, assumptions and risks that could cause our actual results to differ. Further, reference will be made to certain non-IFRS measures during this call, including adjusted EBITDA, free cash flow and adjusted gross margin, among others. These measures do not have any standardized meaning under IFRS and are intended to provide additional information and as such, should not be considered in isolation or as a substitute for measures of performance prepared in accordance with IFRS. Our approach to calculating these measures may differ from other issuers, so these measures may not be directly comparable. Please see today's earnings report for more information about these measures. Listeners should also be aware that the company relies on reputable third-party providers on making certain statements relating to market share data. Unless otherwise indicated, all references to market data are sourced from Hyfire in combination with data from WeedCrawler, provincial boards, retailers and our internal sales figures. I will now introduce Beena Goldenberg, Chief Executive Officer of Organigram Holdings Inc. Please go ahead, Ms. Goldenberg.

Thank you, and good morning, everyone. With me today is our Chief Commercial Officer, Tim Emberg; and Chief Strategy Officer and Interim Chief Financial Officer, Paolo De Luca. By way of reminder, Paolo served as the company's CFO for over two years, including calendar 2018 and 2019. I'd like to take a moment to thank Derrick West for his contributions to Organigram during his time as our Chief Financial Officer. All of us at Organigram wish him the best of luck as he takes time to focus on his health and recovery following a recent surgery. Additionally, as you likely saw in our press release yesterday, we are pleased to announce the appointment of Greg Guyatt as our new CFO as of January 8, 2024. Greg joins us from Phylos, where he held the position of CFO and CEO. Previously, he was CFO at Greenspace Brands and held various senior finance positions at Kingsett Capital and Sears Canada. We look forward to welcoming Greg to the team in January and would like to thank Paolo for stepping in as Interim CFO in Derrick's absence. We will now discuss Organigram's performance for Q4 and full year fiscal 2023. We are pleased with Organigram's progress throughout fiscal '23, and I'm proud to say that we have continued to differentiate ourselves as Canada's leading pure-play cannabis company. Despite a challenging regulatory and competitive landscape, which did contribute to a reduction in our bottom line during the second half of fiscal 2023, we have grown Organigram's market share through an unwavering focus on the consumer, our strong marketing and sales expertise and, of course, our keen focus on industry-leading innovation. As you may have heard, Organigram won the coveted KIND Magazine Innovation of the Year Award once again this year with our revolutionary Rip-Strip Hash. We previously won this award for our JOLTS ingestible extract product. These awards are truly a testament to our strength in developing disruptive new products that are designed specifically to meet the needs of our consumers. As anyone in the industry will tell you, branding and marketing are challenging in the Canadian landscape due to regulations. And as a result, the consumer has been predominantly motivated by price and THC potency. This is one of the many difficulties that every LP in Canada faces. However, the engagement Organigram has seen with its SHRED brand stands out with the community of loyal consumers who affectionately refer to themselves as 'SHREDheads'. SHRED is even in the final round for ADCANN's Social Media Brand of the Year, an accomplishment we're very proud of. The success of this brand is due to online and retail marketing and continued product innovation within the brand, including our revolutionary Rip-Strip Hash, whole-flower-derived THCV gummies, and our continued success in milled flower, where we command over 50% of the market. Consumers are increasingly seeking quality, novel and differentiated experiences, which SHRED has built its reputation of consistently delivering. We've seen impressive growth in several categories in fiscal '23 compared to the prior year. Shipped sales in gummies have doubled, propelling Organigram to the number 1 position in this category during Q4 and leading position in pure CBD gummies achieving over 50% market share nationally. Earlier this year, we challenged the Health Canada determination stating that our JOLTS ingestible extracts, one of our higher-margin products, were improperly classified and subsequently removed from the market. The company made an application for judicial review. The federal court granted the application and determined that there was a breach of procedural fairness by Health Canada. The matter was remitted back to Health Canada for redetermination. In the meantime, and pending the outcome of final redetermination, JOLTS, which are now a patented Organigram product as of September, are back on the market. Earlier this year, we shifted our focus to growing our share of the pre-roll category as ready-to-consume cannabis products are rapidly gaining momentum with Canadian consumers. To achieve this, part of our 2023 CapEx plan included commissioning Cantos rolling and CME packaging machines, which together are capable of producing over 2.8 million pre-rolls per month. The response to our tube-style pre-rolls has been incredible. Consumers are impressed with everything from the aroma, packaging and flavor down to the rolling tightness and airflow of these joints. As a result, our pre-roll shipped sales growth between 2022 and 2023 was 54%, bringing us from the number 10 market position in Q3 2023 to the number 3 market position in the category by the year-end. The pre-rolled category has seen 21.5% year-on-year growth. This growth has been driven primarily by two segments: infused pre-rolls, which grew 125%; and tube-style pre-rolls, which have grown 30%. Looking at sales over the last three months ending November 30, Organigram had the second-best sales per SKU of tube-style pre-rolls, indexing nearly 2x the market leader. And since launching IPRs in Q3, we have achieved the number 4 market position in the month of November. Now, we did observe some order fulfillment challenges and cost inefficiencies during the ramp-up in the second half of 2023 due to a decision we made to accelerate the launch of these products to hit key seasonality. Given our clean balance sheet and cash position, we were able to make this competitive decision to increase penetration of the SHRED brand into these key growth segments. We are already seeing improved fulfillment and throughput in our pre-roll production processes. Our aim is to continue to expand our pre-roll share while optimizing production to improve our margins in fiscal 2024. As we have said, consumer preferences are evolving, and we are beginning to see purchasing decisions that are driven more and more by preference for differentiated experiences. As the Canadian leader in innovation, we are extremely excited about our lineup of new products for 2024. Part of this lineup is supported by our first U.S. strategic investment into Phylos conducted earlier this year. With exclusive access to Phylos' whole-flower-derived THCV, we plan to bring this novel cannabinoid to consumers in a variety of formats. It's important to note this is not synthetic THCV. Our THCV products will be enhanced by the natural entourage effect we see with other minor cannabinoids derived from extraction or included in flower with high enough concentration. In 2024, Organigram customers will be able to experience whole-flower-derived THCV in edible, vape and flower formats. Our SHRED'ems THCV gummy has been in the market for only five months, and we are already the seventh most popular gummy out of a portfolio of 13 by the end of the year. The experience of THCV is reported to be characteristically different from THC in that it has appetite suppressing qualities and a more focused and energizing sensory experience. We anticipate that the introduction of THCV in additional formats will help familiarize this novel cannabinoid for Canadian consumers. According to Cannatrek, a large consumption tracking study, THCV awareness is already starting to build in Canada, which is very exciting. Beyond the benefit of THCV, our investment in Phylos has enabled us to begin the process of transitioning a portion of our facility to more advanced seed-based production through the completion of trials. Seed-based production is the preferred growth method in mature agricultural industries as it results in lower-cost grow operations and more robust stabilized genetics. Organigram intends to establish itself as a Canadian leader in seed-based cannabis production as we roll out this initiative. Our goal is to convert 30% of our garden to seed-based by the end of fiscal 2024, delivering significant cost savings to the organization. Another target area for Organigram in fiscal 2024 is growth in the vape category. Organigram made a strategic investment in Greentank in fiscal '23 in exchange for 18 months of exclusivity for their revolutionary hardware. We are gearing up for the launch of our whole-flower-derived THCV vape as well as vapes outfitted with Greentank's cutting-edge vaporization technology, which reduces clogging, improves flavor and performance and which we believe will increase the perceived potency cost of our vapes compared to other products in the market. There is a tremendous opportunity for Organigram to gain share in the vapes category. We intend to compete much more aggressively in this category in 2024. Part of Organigram's corporate DNA as a leader in innovation has been supported by BAT's $221 million investment into Organigram in 2021 and the resulting Product Development Collaboration taking place in our Moncton facility. I'm pleased to say that we continue to make progress on fundamental science and formulations that will form the basis of our products moving forward. Our nanotechnology formulation is being studied in a clinical setting with pharmacokinetic studies underway, which will provide Organigram with the ability to make claims regarding the onset and half-life of these products. Other work streams are also underway to develop innovative technologies in the edible, vape and beverage categories, in addition to new disruptive inhalation formats. BAT's support has been a critical differentiator for Organigram. We have observed other strategic investors in the space over the years deploy significant capital only to sit on the sidelines. Furthermore, many large strategic investors elected to opt out of providing further capital. On the other hand, we have seen our relationship with BAT evolve into something far more collaborative and complementary. This support was further demonstrated by BAT's recent follow-on investment of $124.6 million into Organigram announced on November 6. Approximately $83.1 million of this new investment is earmarked for Jupiter, a strategic investment pool managed by Organigram to increase its global footprint, while the remaining $41.5 million is allocated to general corporate purposes. This investment is a win for Organigram, its shareholders and the industry in general, as we have shown that strategic capital is available to companies that show strong governance and disciplined capital stewardship. With no debt, capital for global expansion and general corporate purposes, as well as improving operational efficiencies, Organigram is positioned for long-term sustainable growth on the global cannabis stage. Now I'd like to provide an update to the guidance we previously gave regarding our intention to achieve free cash flow by the end of calendar 2023. This timeline has been impacted by the acceleration of THC inflation in the Canadian marketplace and delays in international shipments that we believe would resume in Q4. Regarding THC inflation, we are still seeing an alarming level of fraudulent THC levels in flower products, supported by selective testing and lab shopping. Some milled flower products are now claiming over 30% THC, which we know is truly an unbelievable claim. Organigram continues to work with industry stakeholders to raise awareness of the THC inflation issue and to advocate for the consumer by working to establish guidelines for THC testing that contribute to a fair and even playing field for licensed producers. We applaud both Health Canada for their cannabis data gathering program and the OCS for their recently announced temporary THC testing efforts to uncover THC fraud, and we look forward to seeing positive changes taking place in the market because of our joint efforts to address this growing concern. On the international front, Organigram had a record year, shipping $18.9 million in flower versus $15.1 million in 2022, an increase of 25%. However, in fiscal Q3, we experienced a slowdown in international exports due to newly enforced testing requirements in Israel. We believe historical export volumes would resume in Q4. However, we experienced delays relating to cultivar selection and shipping challenges. Our lower Q4 international sales did impact our margins, but we anticipate stronger demand for our products in the international space as shipments to Australia and Israel are expected to resume in fiscal 2024. We will also begin building our export volumes to Europe as we signed two new supply agreements with Sanity Group in Germany and 4C Labs in the U.K. The potential for distributing our exclusive THCV cultivars abroad is also very exciting. Lastly, our EU GMP application for our Moncton facility has been submitted, and we are expecting the audit process to begin in the new year. This is expected to shorten the turnaround time to get products in the hands of international medical patients while expanding opportunities to new markets. Beyond direct international sales, the creation of the Jupiter investment pool is expected to reward us with additional exposure to international markets by providing us with a wider array of strategic investment opportunities in the U.S. and other legal jurisdictions. Operationally, in Moncton, fiscal 2023 was transformative. We harvested 87,000 kilograms, up from 54,000 kilograms in fiscal 2022, a 61% increase and executed game-changing CapEx. We have invested in a variety of efficiency-improving and cost-cutting projects that will result in significant savings in fiscal 2024. To recap on some of these initiatives, we've internalized some of our testing requirements, we implemented remediation in-house, we commissioned rapid drying machines, which has decreased drying time from 7 to 10 days down to 2 days, while increasing the available footprint in our facility for hang-dried flower. We automated our SHRED packaging, which reduced headcount. Our new Cantos pre-roll machine is producing tube-style pre-rolls at scale, and our new speed mixer has allowed us to infuse our milled cannabis for infused pre-rolls with distillate, diamonds and botanical terpenes in a one-step process. With this $29 million 2023 CapEx spend behind us, we are now focusing on dialing in some of the newer processes we have put in place to drive further efficiencies. In fiscal 2023, we realized approximately $4.3 million in savings related to these initiatives. In fiscal 2024, these enhancements will deliver an additional $4.6 million and the conversion of a portion of our garden to seed-based production, along with other initiatives, are estimated to realize an additional $5.3 million in savings to bring the total aggregate savings in fiscal 2024 to $10 million. At our Hash and Craft Cannabis facility in Lac Superieur, we just completed our first harvest resulting from the expansion of the facility. The 30,000 square foot expansion is complete with four net new grow rooms, three drying rooms, a 5,000 square foot warehouse and a large packing area. We launched SHRED Rip-Strips, Holy Mountain and Woola Press Hash, Tremblant Black Afghan Hash and High Alpine Hash in fiscal 2023. Our hash production earlier this year was about 100 to 150 kilograms of hash per month, up to a peak of 350 kilograms per month in Q4. Our focus at Lac Superieur for fiscal 2024 will be on our continued performance in hash and optimizing our garden to produce high-quality, high-margin craft flower. And on that note, I'd like to turn the call over to Paolo to discuss our financial results for Q4 and fiscal 2024.

Thank you, Beena. I’m glad to be speaking to you today. I want to remind everyone that Organigram decided earlier this year to change its fiscal year-end from August 31 to September 30. This change, aimed at aligning our quarters with traditional fiscal quarters, will allow for better comparisons to our public peers and simplify operational efforts around shipping cutoffs and inventory counts. We believe this adjustment will improve our financial reporting over time. As a result of this shift, the current quarterly financial information covers the four months from June 1, 2023, to September 30, 2023, while the fiscal 2023 year spans the 13 months from September 1, 2022, to September 30, 2023. The comparative periods for 2022 cover three months from June 1, 2022, to August 31, 2022, and 12 months from September 1, 2021, to August 31, 2022. Going forward, our quarters will end in December, March, and June, with September as our year-end. Year-over-year, gross and net revenue rose by 12% and 11%, respectively, mainly due to a net increase in recreational revenue of $15.1 million and an increase in international revenue of $3.7 million, although this was partially offset by a decline in domestic medical sales. In fiscal Q4, gross revenue grew by 9% and net revenue by 1% compared to Q4 fiscal 2022. The growth compared to previous periods was mainly due to the longer current period, which was balanced by a decrease in international revenue in fiscal Q3 and Q4. As Beena mentioned, price compression due to THC inflation impacted the quarter. The cost of sales year-over-year increased to $136.4 million from $119 million in fiscal 2022. In Q4 fiscal '23, Organigram's cost of sales was $42.9 million compared to $36.7 million in Q4 2022, marking a 16% increase. This rise in cost of sales compared to the prior year was largely due to higher inventory provisions and sales volume in the adult-use recreational cannabis market. In Q4 fiscal '23, $4.8 million of the cost of sales related to inventory provisions primarily for NRV adjustments on whole-flower being used for derivative production. We harvested about 28,000 kilos of flower in Q4 fiscal '23, up from 16,000 kilos in Q4 2022, representing a 74% increase. This was mainly due to an additional month of cultivation and greater cultivation capacity and grow room availability in '23. In Q3, we accelerated changes in operational conditions for plant care to enhance THC levels, leading to reduced plant yields, which negatively affected our cost of cultivation and temporarily lowered our gross margins. By the end of Q4, plant yields improved more than 16% to 163 grams per plant, up from 141 grams in Q3, and average THC rose by 14% since fiscal 2022. We continued optimizing growing conditions in Q4. Although yields and THC content will vary, we have observed larger yields and higher potency over the past six months. These higher yields will lower long-term cultivation costs, alongside the cost-saving production initiatives Beena previously discussed. Once this flower is sold, we expect to realize a higher gross margin rate while anticipating an overall lower cost of cultivation for fiscal '24. Monthly and quarterly harvest yields and cultivation costs will fluctuate for various reasons, but the long-term trend indicates clear improvement. In fiscal '23, including the extra month, we harvested just under 90,000 kgs of flower, which normalizes to about 83,000 kgs over 12 months, averaging approximately 6,900 kgs per month. Our goal for '24 is to surpass that average observed in 2023. Year-over-year adjusted gross margin rose to 25% or $40.2 million, up from 23% or $33.4 million in fiscal '22. This increase was mainly driven by higher recreational and international revenue, somewhat offset by lower local sales and the temporary halt of JOLTS sales from April to September. On an adjusted basis, Q4 gross margin was $7.9 million or 17% of net revenue, compared to $10.4 million or 23% in Q4 fiscal '22. The compression in adjusted gross margin resulted from price reductions lowering net revenues, temporary higher flower costs, reduced international sales, and increased cost of sales per unit, correlated to higher inventory provisions for unsalable inventories and net RV adjustments. SG&A rose to $71.8 million from $59.8 million in fiscal 2022, with the rise in expenses primarily linked to the extended fiscal period, increased employee costs from hiring more full-time G&A staff to support growth, general wage hikes, and higher professional and technology costs, including $7.7 million in ERP installation expenses for the year, compared to $3.2 million the previous year. SG&A, excluding noncash share-based compensation, climbed to $21.6 million in Q4 '23 from $15.7 million in Q4 '22. This rise in expenses was mainly due to the extended fiscal period and higher professional fees, with ERP costs also contributing to the increase over Q4 '22. In 2023, ERP costs for Q4 were $2.4 million, up from $1.8 million in the prior period. We are pleased to report that the significant work on our current ERP implementation is mostly completed, with just over $1 million budgeted for fiscal 2024, mostly in Q1 2024. For fiscal '24, we expect some variability in adjusted EBITDA between quarters, with stronger adjusted EBITDA metrics anticipated in the second half of the year as the company’s production optimization initiatives in rapidly growing categories, such as tube-style and infused pre-rolls, are fully reflected in our financials. However, we are confident in the overall improvement of our earnings on an annual basis, as demonstrated over the last three fiscal years, thanks to enhanced production processes, cost-saving initiatives, and the initiation of international shipments to Germany and the U.K., while we continue supplying Australia and Israel. In this quarter, while adjusted EBITDA was negative $2.4 million compared to positive $3.2 million in Q4 2022, on an annual basis, adjusted EBITDA for fiscal '23 rose to positive $6 million from positive $3.5 million in fiscal '22, marking a 71% rise. SG&A increased year-over-year to $72.4 million from $59.8 million in fiscal '22. The net loss for fiscal '23 was $248.6 million, compared to $14.3 million in fiscal '22. The majority of this net loss stems from full-year impairment charges totaling $210 million, including $165 million on property, plants, and equipment, and $45 million on intangible assets and goodwill. Of these impairments, $191 million were recognized in Q3, as disclosed last quarter, of which $38 million pertained to intangibles and goodwill, while $153 million related to PP&E. The impairment assessment conducted in Q3 was prompted by the company's market cap being significantly lower than its shareholders' equity alongside Q3's operational results. A key factor contributing to the severity of the impairment charge was the impact on flower sales and margins from THC inflation. Given the substantial sales and margins generated by flower product categories, this significantly influenced the level of impairment loss recognized. Importantly, it should be noted that, all else being equal, impairment losses on the company's PP&E will enhance the gross margin rate moving forward. In Q4, we also took additional impairments amounting to $11.6 million on PP&E and $7 million on intangibles, mainly due to refinements in the impairment model considering macroeconomic and company-specific assumption inputs. In Q4 '23, Organigram reported a net loss of $33 million compared to a net loss of $6.1 million in Q4 '22. This increase in net loss stemmed primarily from the aforementioned impairment losses totaling $18.7 million for the quarter, alongside the negative impact of lower international revenue compared to previous quarters and the ongoing effects of price compression. From a cash flow perspective, net cash utilized in operating activities after working capital adjustments was $38.8 million in fiscal '23, compared to $36.2 million in the previous year. This year-over-year increase reflects higher R&D and ERP implementation costs, both aimed at securing the company's long-term success. Cash provided by investment activities in fiscal '23 was $4.9 million, down from $44 million in '22. The positive figures in both years are largely attributed to the redemption of short-term investments into cash. Overall, Organigram invested $29 million in PP&E during the year and another $10 million in Greentank and Phylos. These investments are directed toward securing long-term competitive advantages and driving productivity improvements. In the previous fiscal year, 2022, Organigram investments in PP&E totaled $48.7 million. Thus, 2023 saw a reduction in PP&E investment, and 2024 is expected to show a further decrease in CapEx programs, which are nearly complete. This marks a positive development for the company, as we move into a harvesting phase while optimizing these new additions for sustainable long-term margins. Regarding our balance sheet, we are proud to report that we maintain one of the strongest balance sheets in the industry. As of September 30, 2023, and as a reminder, this does not include the recently announced agreement with BAT regarding the Jupiter private placement. We had unrestricted cash of $33.9 million and restricted cash of $17.9 million, giving us a total cash position of $51.8 million and negligible debt. While we anticipate continued growth in year-over-year adjusted EBITDA, periods of significant sales increases may lead to higher receivables, which would negatively affect cash generated from operating activities. Nevertheless, with our major CapEx expenditures now behind us, we are experiencing enhanced yields, improved production efficiency, and expect growth in international sales, making it realistic to achieve free cash flow positivity in fiscal 2024, which we are currently planning for in the second half of the year. Our existing cash reserves already position us strongly. The expected closure of the BAT private placement in January will further strengthen our position. We believe that a strong balance sheet will be a crucial factor for long-term success in the industry, along with market share, operational efficiency, and investments in R&D and product innovation. Furthermore, we contend that balance sheet robustness will provide financial flexibility as M&A and commercial opportunities increase in Canada, particularly as some players struggle with debt, unpaid payables, and the need for investment in automation and production efficiencies to lower costs in this competitive market. In summary, many of the recent financial and strategic decisions we've announced are focused on creating sustainable long-term competitive advantages. This concludes my remarks. I will now turn the call back to Beena.

Thanks, Paolo. And as Paolo just said, the Canadian industry continues to grow, yet is saddled by high excise taxes and restrictive regulations. We've seen LPs shuttering operations and entering creditor protection, while others are seeking short-term expansions on their maturing debts. Furthermore, an astonishing number of LPs are in arrears on their excise taxes, and we are beginning to see the CRA hold these LPs accountable. Given these issues, it is not surprising that some LPs would mislabel products to artificially inflate THC levels to increase sales. However, this is simply not sustainable, and we expect to see more of our peers struggle to survive in the coming year. Organigram continues to fortify itself as current market forces put pressure on the industry and is positioned to be highly opportunistic. To summarize our success against this backdrop, we've seen impressive growth in several product categories throughout 2023. Despite the industry challenges, we defended our market share as our brands and market-leading innovations continue to resonate with consumers. Organigram ended the year in the number two position among LPs in the recreational market. We were number one in milled flower, number one in hash, number one in gummies, number three in flower, and number three in pre-rolls. We invested heavily in cost-cutting and efficiency-driving projects in our facilities to help us realize additional savings for fiscal 2024. We also invested strategically to acquire rights to technologies like Greentank vaporization hardware and Phylos's seed-based genetics. Our focus is now on further strengthening our pre-roll offerings and shifting towards winning in the vape category while introducing products in the higher-margin craft flower market. The recently announced $124.6 million follow-on investment from BAT is designed to better assist us in capitalizing on opportunities in domestic and international markets. While the product development collaboration continues to work on the development of novel cannabinoid innovations and formulations that will support our product pipeline in years to come. We are set up to achieve an improved margin profile in fiscal 2024, supported by production efficiencies, better fulfillment, and expansion into more international markets. We have effectively no debt, sufficient cash, and an industry-leading portfolio of products and brands that consumers love, supported by industry-leading production capabilities. And with that, I want to thank you for joining us today. Operator, you may open the call for questions.

Your first question comes from Aaron Grey from Alliance Global Partners. Please go ahead.

Hi, good morning, and thank you very much for the questions. So first from me, I just wanted to touch on gross margins. So you called out a couple of things that impacted some of the gross margin pressure, including pricing, some of the higher flower costs, higher cost per unit, as well as the inflation impact and international. So just to think sequentially, down 200 basis points, 90%, 70%, can you help to quantify maybe a rank order, which one has been the biggest impact to that margin pressure? And then how we think about the margins on the near term? Because you spoke to international, right back up in fiscal year 2024, is that more of an ex-quarter dynamic or do you think it'll be more of the back half? And then how do we think about the impact in terms of the Canadian marketplace on gross margin as T&C inflation remains? So any color on your gross margin expectations in the near to medium term would be helpful. Thank you.

Perfect, Paolo, I'll put that one over to you.

Great, thanks, Beena. Thanks for the question, Aaron. On margin, look, the highest margin opportunity for us always is international. So to the extent that we have international sales, that's going to drive margin and that's obviously going to depend on the mix of the size of that, of those sales in comparison to the sales that we have in the REC market. And so just by nature, historically, international sales have been lumpy. And that's something that we're working to address. And we're working to address that by diversifying the countries that we sell to have more than two countries. So we're moving to four countries that we hope to expand that even further and then, where possible, diversify within customers within those countries and then also to spread out the shipments. So by doing that over time, we'll avoid the issue that we've had historically, which is essentially lumpy margins. At least I would say at least half of that is related to international sales. So to answer your question, international by far is the most important thing in terms of determining margin mix for the quarter. All of the products that we're now growing in have good margin profiles for us when they are operating and when we're producing them at a steady state and avoiding all the ramp-up issues that we have, as almost any other people have with the initiation of those products. So we spent a lot of time on the call comparing comments talking about infused pre-rolls and tube-style pre-rolls. I can tell you that right now, the way that we're producing them is a lot better than the way we were producing them three or four months ago. And so while we could have made a decision to just optimize and not be in the market, we would have lost the opportunity to gain market share. And I think it's very important that, especially in growing categories, that you get in there when you can. I think we're happy with the way that we've claimed share of those spaces and that's going to continue to grow. And so I would say, if you want to look at the margin profile of our quarters in 2023 versus the way that we expect it will play out in 2024, it's almost a mirror image. So whereas in 2023, we started off strong with margin and then it declined, in 2024, it will be the exact opposite. So I think that we certainly in our budget, and I don't want to make this forward guidance, but the way that we've planned the year out, our margins should get back to the same levels they were historically, if not even better.

Okay, great. Thanks for that comment. That was really helpful. Second question for me. I know still relatively early days, just in terms of the Jupiter initiative and the potential investments there, any color in terms of what you're seeing in the marketplace and how you might've narrowed in on some opportunities, particularly geographically, some catalysts ahead on the international front with Germany medical reform and potential adult-use down the line with Phase 2. And then obviously in the U.S., where potential rescheduling as well. So any color in terms of what you're seeing out there in the marketplace, U.S. internationally, or maybe potentially in Canada that might be appealing to you where you might be able to deploy some capital for some investment opportunities. Thanks.

Thanks, Aaron. So I'll start and then I'll hand it over to Paolo as well on this one. But just to start with, certainly our intention on Jupiter, I would say, 60% to 75% of the investment will be focused on the U.S. market. That is an area that we dipped our toe in slightly this year with the Phylos investment. So we understand the complexities and making sure we do something that is compliant with our NASDAQ listings. But we are significantly focused on the U.S. and the inbounds that we received after the announcement of this Jupiter pool has been just a testament to the opportunities out there. And we are currently narrowing down the areas that we're going to focus. I would say there's a portion of that investment looking at other international markets. But again, the priority is U.S. first and then what is the best opportunity globally moving forward from there. So that's in terms of the focus. Paolo, if there's anything else you want to add?

No, the only other thing that I would add is that I would say it's relatively early days. And the fact that some of the expected changes that people have called for, whether it be in countries like Germany or in the U.S., they haven't manifested as quickly as anticipated. I think it bodes well for us for a couple of reasons. One, it just allows us more time to expand our scouting and develop relationships with all the people and all the participants in those markets. And two, as these markets have been slow to move in terms of the initial expectation, the capital markets have been hampered as a result for cannabis companies. We're lucky because we're one of the few companies to pull off a very large investment at a very favorable valuation to where we were trading at. I think that will set us up well because I don't think there's much capital floating around for companies that need capital. So I think we're in a very good position and I think we'll have a lot more to announce on that in the calendar 2024 year.

Hi. Good morning. Thank you for taking my question. My first question is just going back to your comments on international and that being the largest margin opportunity for you. So I'm just curious, tying that to your free cash flow guidance for the second half of fiscal year 2024, does that guidance sort of rely on international growth? And if you could unpack a bit of the drivers behind that guidance and how much of it is about, in terms of the sales mix of domestic sales international, that would be great. Thank you.

Yes, sure. No problem, Fred. So our intention, as we said in the script earlier today, was that we are working on our EU GMP certification, which we expect to get in the back half of the year. So while the first half of the year on international shipments, we will expand outside of just Australia and Israel. We will add the two new countries we already announced supply agreements, that's to Germany and to the U.K. But our goal, as we look forward, is to leverage the EU GMP certification to get into more countries. As regulations continue to change, there are more opportunities out there. So we do see the international sales growing, sort of phasing further into the back half as we grow out new international opportunities.

Thank you. My second question is just looking at the Canadian rec market. And I guess in your outlook, you mentioned the many LPs are behind payment of their taxes. And there's obviously a lot of challenges to raise capital and some bankruptcies happening. But at the same time, it just seems that this process of rationalization among LPs is always around the corner and never arrives. So just curious on your perspective here for next year, why could it be different from this year? How do you see that playing out? Is it going to accelerate into 2024? It's going to be more of a gradual process. How do you see that happening? Thank you.

Right. So thank you, Fred. We have been saying for a while now that this industry is primed for consolidation. It hasn't happened because honestly, the fact that the CRA has allowed companies to be in arrears, it is unbelievable to us. We've seen and talked to a bunch of LPs, like the arrears are astonishing, and CRA has started to clamp down. We have heard that they've been upon license renewal and asked for actual payment plans to get back in to get the people back. I think there are some companies that will never be able to do the payment plan getting back. So we've seen some closures as CRA has clamped down. We have also seen some closures as banks have shut down LPs. So it's starting to happen. You know, we have companies not only going into CCAA but companies just going into bankruptcy and shutting their doors. It has to happen, right? I mean, the dynamics right now are unsustainable. By having testing on THC inflation, which gave some LPs an extra year of runway by claiming they had products that were 30% to 35% THC, that when we tested it was sitting on average between 17 and 21 potency, it gave them runway. So what you have are companies out there really pressuring what is approved regulations just because they're doing it to survive. They have been able to survive an extra period of time, but it's not sustainable. This is crashing in on them while access to new capital isn't available. So, you know, is it happening as soon as we thought? No. Is it continuing to happen? Absolutely. So you're hearing about it, and you're seeing these changes over the next, whether it takes 12 months or 24 months, what we know is that we're sitting on cash. We have strong brands and we have innovations, and we will be here on the other side of it. In the short term, while there's an unfair playing field because people are exaggerating their THC potency or aren't paying their taxes, that's going to come to an end at some point. They're going to go away, and the strongest will survive, and we're going to be one of them. And that's how we see it.

Hi, good morning. This is Yewon Kang on behalf of Map Bottomley. Thank you for the question. I just wanted to shift gears back to the Canadian adult use market and wanted to ask about the THC innovation that you guys have been rolling out recently. I wanted to ask if there is a dollar premium that you're able to attach to these THC products versus non-cannabinoid THC products. And as well, was also curious to see how you guys have been thinking about the cost benefit analysis of how these THC products have been performing, although it's early days, against the investment dollars that you guys have spent on Phylos for the partnership so far.

So thank you for the question. First, I'll pass it over to Tim Emberg, our Chief Commercial Officer, to answer the question on THC and other products that we have in the market. Tim?

Sure. Thanks, Beena. So currently we have two THC gummy products in the market. One of them is the Trailblazer brand and one under our SHRED'ems brand. We don't have it as a premium currently from a pricing perspective, but the reception in the market is quite strong. So as Beena mentioned earlier, we've got 13 SHRED'ems SKUs in the market and they are sitting in about the seventh position from a performance perspective early days into the market. THCV also, for us, requires a lot of education to not only the consumer but to the bud tender. So part of our mandate from a commercial perspective right now is to really educate the consumer and educate the bud tender on THCV so they understand the attributes of THCV and are able to recommend it comfortably. As we ramp up to our next portion of our THCV launch, which is our THCV Vapes, which we're launching very shortly, we expect a significant lift in the THCV segment of our portfolio.

Thank you, Tim. And just to build on the second part of your question, which is the payback on the investment with our Phylos investment, I want to remind you that it was really strategically twofold. That it was not only access to THCV, but it was also the ability to move our production to seed-based production. Now Phylos is known for being able to develop F1 hybrid seeds that will give us significant cost savings by converting a portion of our garden over to seed-based production. Our plan for fiscal 24 is that we'll have 30% of our garden converted over to seed-based by the end of the year. And what that does is not only does it shorten the cycle time in the garden, but it gives us more robust flowers, more predictable attributes to the flower. And when you have F1 hybrid seeds, we could take those to other markets around the world to deliver the exact same cultivar and experience in other markets. It just gives us some stability and predictability. So we're very excited about that. And truly the payback on the Phylos very much links back and is a huge payback based on the conversion to the seed-based production.

And sorry, I'll just answer one more point: there is a lot of interest in THCV from an international perspective. So we've been in discussions with our current partners, but also potential future partners on exporting THCV into their respective markets as well.

Great. Thank you for the color. And just my second question on the international shipments for fiscal '24 going forward, I know that you guys are going through an audit to get your facility EU GMP certified. So is it fair to expect that the international exports will likely accelerate in the back half of fiscal '24 as you guys receive the EU GMP certification for shipments going to the U.K. and Germany? Thanks.

Tim, why don't you take that one as well?

Yes, so that's the idea. We're going through the EU GMP certified process right now. We expect to set up the audit fairly soon. Once we establish the certification, we will be able to expand. It's not only about market expansion; it's about turnaround time. When we go into a country like Australia, it takes longer if you don't have EU GMP to convert to EU GMP and get into the marketplace. So it will allow us to get a quicker turnaround and reorder process because we'll be able to ship finished goods versus bulk into this market, which will put it into the hands of the patient sooner and then get reorders in a more timely fashion versus taking eight weeks or so. We expect this to benefit us from a market expansion perspective and open doors, but also to eliminate some of that lumpiness that Paolo referred to earlier.

But let me just build on Tim's comment, which is we will be audit ready. We are dependent on getting an auditor over from Germany to certify the facility. While we hope to have that early in 2024, this isn't something that we could tie down. We'll continue to drive towards that. But we do believe that even without the certification in the first half of the year, just resuming some of our shipments to partners, as well as adding the new supply agreement. Our agreement with both Sanity Group and 4C Labs that we announced are predicated on us selling out of a non-EU GMP facility. They will go through conversion. Whereas in the back half, if we should get the certification, that should go faster as well. So we will see an increase even if there is delay in the certification, but because of new customers, we do hope to see the certification as we believe there's even more upside by the end of the year once we get that.

Great. Thank you for the color. I'll jump back into the queue.

And we have no further questions at this time. I will now turn the call back to Beena Goldenberg for closing remarks.

Thank you, everybody, for joining the call today. I know that we're coming up on the holidays, so I want to wish everybody a happy and healthy holiday season. I look forward to sharing with you more updates as we report our Q1 in mid-February. Thank you for joining the call.

This concludes today's conference call. Thank you for your participation, and you may now disconnect.