Valens Company Inc (VLNS) 2021 Q1 法說會逐字稿

Hello, and welcome to the Valens Company's First Quarter Fiscal 2021 Financial Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Everett Knight, Executive Vice President of Corporate Development and Capital Markets of the Valens Company. Everett, please go ahead.

Thank you, operator. Good morning, and welcome to the Valens Company's First Quarter 2021 Financial Results Conference Call for the period ended February 28, 2021. A replay of this call will be archived on the Investor Relations section of the Valens website at thevalenscompany.com/investors.

Before we begin, please let me remind you that during the course of this conference call, Valens management may make statements, including with respect to the management's expectations or estimates of future performance. All such statements, other than statements of historical fact constitute forward-looking information or forward-looking statements within the meaning of the applicable securities laws and are based on expectations, estimates and projections at the date hereof.

Specific forward-looking statements include, without limitation, all disclosures regarding future results of operations, economic conditions and anticipated courses of action. These forward-looking statements are subject to a number of risks and uncertainties that may cause actual results to differ materially from expectations. For more information on the company's risks and uncertainties related to forward-looking statements, please refer to our latest annual information form and our latest management discussion and analysis, otherwise known as MD&A each as filed with the Canadian securities regulatory authorities at sedar.com or on the Valens Company's website at thevalenscompany.com. The risk described in the annual information form which may cause the actual financial results, performance or achievements of the valance company to be materially different from estimated future results, performance or achievements expressed by the forward-looking information or forward-looking statements are hereby incorporated by reference herein.

Although these forward-looking statements reflect management's current beliefs and reasonable assumptions based on current available information available to management as the date hereof, we cannot be certain that the actual results will be consistent with the forward-looking statements in the future. We caution you not to place undue reliance upon such forward-looking statements. For any reconciliation of non-GAAP measures, please -- measured, please consult our latest MD&A as filed on SEDAR.

Joining me on the call today are Mr. Tyler Robson, Chief Executive Officer; Mr. Chris Buysen, Chief Financial Officer; and Mr. Jeff Fallows, President. With that, I would now like to hand the call over to Tyler. Tyler, please go ahead.

Thank you, Everett, and welcome to everyone that has joined our earnings call to discuss our results for the first quarter ended February 28, 2021. Later on today's call, Jeff Fallows will provide an update on our operational achievements and strategic initiatives for 2021, Everett Knight will highlight industry trends and capital markets activities, and Chris Buysen will give an overview of our financial results for the first quarter. But first, I'm going to talk about our highlights for the quarter.

Just over a year ago, we reestablished the Valens Company as a manufacture of cannabis consumer packaged goods. Since then, we have created, manufactured and distributed what we believe are some of the most unique and innovative products in the Canadian market today across all Cannabis 2.0 categories. The quality and consistency of the Valens products continue to be recognized with our customers and consumers alike, validating the strength in our sophisticated platform, highly experienced team and our ability to continue to execute in the Canadian market and beyond. I encourage everyone to try the products that we have manufactured to recognize the Valens advantage.

We are proud of what we built in Canada and are confident that it will springboard for our expansion into other domestic markets, increase our market share with both new and existing customers and drive volumes for our trusted and acclaimed products. But as we walk through our first quarter achievements, it is clear that we are only getting started. Over the course of fiscal 2021, we expect to drive considerable growth in all areas of the business that will accelerate our path to increase profitability and visibility on a global level. In Q1, we accelerated our expansion strategy with several meaningful accomplishments. We have a robust domestic footprint in place now with our K2 facility up and running. The newly acquired LYF facility is scaling up quickly, and the GTA facility is on track to come online at the end of the second calendar quarter of 2021. This dramatic increase in capacity leaves us in a strong position to focus our efforts on growing our international presence and with near-term focus on the U.S. market. We are currently in a number of advanced discussions regarding various opportunities with industry leaders.

In the first quarter, we increased our net revenue by 24.7% to $20 million compared to $16 million in Q4 2020. With the growth in our capabilities to manufacture and ship out finished cannabis products, we have increased product sales revenue year-over-year by 23.3% to $17.9 million in Q1 2021, from $14.5 million in Q4 of 2020.

Product sales made up approximately 90% of our total revenue in fiscal Q1, and we expect that number to stabilize as we continue to launch new products and capture market share in the Canadian recreational market, Australian medicinal market and other new markets we expect to enter in the short term. We are happy to report that despite decrease in sales early in the broader Canadian cannabis market, our provincial sales increased by 7.6% from Q4 of 2020 as we manufacture and distribute a full suite of 2.0 products in categories such as vapes, concentrates, beverages and oils across Canada. Most notably, this was despite a slowdown in the Canadian cannabis sales at the beginning of the year due to pandemic restrictions on the retail storefronts and provincial inventory management.

From these sales, we saw an increase in Cannabis 2.0 market share to an estimated 5.5% in Alberta, British Columbia and Ontario, compared with 4.9% in Q4 2020, based on Headset data, not including B2B LP manufacturing. And again, we expect this number to continue to increase as we expand our portfolio of products, especially in the edibles and topicals category and increase our partnership network over the course of the year.

We believe we have the low-cost, most innovative and adaptable product manufacturing platform in the Canadian market. We have extremely efficient operations with the ability to get finished products to consumers in record times, allowing us to advance in key verticals only, beginning to take hold in the Canadian recreational market. Looking ahead, we will introduce various new-to-market formats designed exclusively for onset of 3.0 -- of Cannabis 3.0 in Canada, which we expect will be complementary to the growth and partnership of our network as we anticipate bringing on leading CPG customers looking to enter into the cannabis industry. We also view our advanced product development and abilities as a catalyst for entering both evolving and more mature global markets as the cannabis category begins to reflect the true consumer packaged goods.

I'll turn the call over to Jeff Fallows, President of the Valens Company, to dive deeper into the operational achievements and strategic initiatives for 2021.

Thank you, Tyler. We have started the year with a strong first quarter, following the most productive operational year in our history during which Valens established itself as a leader in the Canadian cannabis product manufacturing market. In Q1 2020, Valens expanded its suite of manufacturing capabilities to include edibles and topicals, 2 of the fastest-growing categories in the Canadian market. In the first quarter, we manufactured 53 SKUs in comparison to 62 in the fourth quarter of 2020, including topicals and edible products, along with tinctures, vapes, concentrates and beverages, representing a complete offering of 2.0 products.

Valens manufactured products are winning in the market, demonstrated by both our product sales and our provincial sales growth despite the slowdown in sales across the sector in early 2021. The decrease in unique SKUs quarter-over-quarter can be attributed to Valens' focus on maximizing SKU and sales velocity of existing products that have proven to lead within their respective categories within the Canadian market. As the market matures, we will continue to closely monitor the popularity of our products in order to optimize our productive capacity, meet demand from end customers and increase consumer accessibility. In line with our stated goals last quarter, we continue to launch new and innovative Cannabis 2.0 product formats, including [nuance] CBD 100, a high-potency CBD dominant oil in the Medical Cannabis by Shoppers marketplace. We also launched customizable THC and CBD water-soluble drops, which are part of a growing product portfolio we have planned for the -- with Verse Cannabis, which includes dried flower, pre-rolls and beverages.

We are pleased to see that our product quality and consistency is increasingly being recognized by our customers, consumers and private and government operated retailers as we continue to have success listing our products despite ongoing provincial selling constraints in the wider industry. Ahead of the onset of Cannabis 3.0 in Canada, we will be entering new verticals such as the recently entered wellness market with a wide range of products such as edibles, beverages and topicals. We have already made meaningful progress with this, having entered the topicals category with the launch of nuance CBD bath bombs, complementing the brand's existing lineup of premium wellness products. We expect Valens to lead the wellness category in Canada with the launch of additional personal care products alongside many of our customers in the coming quarters including balm, menthol rub, soft chews, honey and a variety of bath bombs.

During the quarter, Valens submitted a site evidence package to Health Canada for our third facility in Canada, located in the GTA. Construction is nearing completion at the facility, which will provide an additional 30,000 square feet of manufacturing space, and will focus on the formulation co-packing and manufacturing of cannabis-infused beverages and other customized 2.0 and 3.0 products using [SoRSE] by Valens emulsion technology. We expect to begin manufacturing, commercializing and shipping out products from the facility in the second half of fiscal 2021. With this facility coming online, we expect to increase our cannabis-infused beverage market share in Canada which was approximately 5.1% in Alberta, British Columbia and Ontario in Q1 2021, according to Headset data despite Valens having only one customer in this category to date. We also expanded our product distribution capabilities with the amendment of our Health Canada license to sell dried cannabis products to authorize provincial and territorial retailers in Canada based on the strong demand we received from existing and potential future customers. With this new license, Valens now offers a complete range of products to its customers in the Canadian recreational cannabis market and increases its total addressable market. Valens expects to begin shipping dried cannabis products, including flower and pre-rolls in the second quarter of 2021. To further increase bombs ability to capture market share in Canada, we expanded our domestic distribution network to Manitoba and now have the ability to sell products in 5 provinces. Near-term entry into the remaining provinces and territories, including Québec, is expected in the short-term as discussions continue with provincial and territorial boards and private retailers. By the end of fiscal 2021, we expect to be in all provinces and territorial markets in Canada. The achievements over the last year and solid financial results that we reported today for Q1 2021 reflect our successful transformation as a business through several key strategic initiatives. Following our public financing, we have a strong capital position to fuel our growth as we launch new and innovative Cannabis 2.0 and 3.0 product formats and agreements, continue to build our manufacturing capabilities and accelerate our international expansion strategy.

As the global cannabis market continues to expand, we plan to enter the U.S. market and other international markets subject to evolving legal and regulatory frameworks through strategic partnerships and acquisitions with existing market leaders who we believe recognize the value of our platform. We are currently in advanced discussions with respect to a number of global expansion initiatives that we expect to come to fruition in the next few quarters that will expand Valens overall addressable market and long-term shareholder profitability.

I'll now turn the call over to Everett to discuss industry trends, our market share gains and capital markets activities. Everett, please go ahead.

Thank you, Jeff. As Tyler and Jeff have made clear, we have continued 2020's momentum into the first quarter with an excellent success so far. During the quarter, we ramped production at K2 and created new products and entered new verticals for new revenue opportunities. We increased our share of the extract based market in Alberta, British Columbia and Ontario to an estimated 5.5% in Q1 2021 from 4.9% in Q4 2020 based on Headset data and not including B2B LP manufacturing.

Even more meaningful we are continuing to see our provincial sales increase as we launch new products with our customers and expand our distribution of existing products across Canada. Valens is outperforming at every turn. And we have now manufactured approximately 1.4 million units of finished goods over the 12 months ended February 28, 2021. We are delighted to have reached this milestone, especially given that our growth looks set to continue throughout the year.

As the largest third-party vape pens manufacturer in the country, we continue to drive significant volumes of vape SKUs each quarter. And as of Q1 2021, Valens has manufactured over 900,000 vape products. And we are pleased to report that during the first quarter, Valens manufactured and distributed the second best-selling vape SKU, Verse Cannabis' Tropic Lemon 1 gram vape cartridge across Alberta, British Columbia and Ontario according to Headset data. The popularity of Verse Tropic Lemon vape cart led to the development of additional 3 flavors: Sunset Peach, Mandarin Mint and Summer Berry, all of which were also manufactured and shipped out in the first quarter to various provinces.

And the growth of the Canadian cannabis market also looks healthy. We are seeing that extract based product sales are beginning to make up a larger percentage of sales in the market as a more variety of products are being introduced. Specifically, extract based product sales made up 31% of the cannabis sales in Alberta, British Columbia and Ontario in January according to Headset data. In the first quarter, there was a 73% increase in biomass extracted quarter-over-quarter as we saw an increased demand for CBD distillate and isolate. As mentioned last quarter, with the continued wave of financings in the sector, we are having negotiations with potential LP customers who are now well capitalized to engage with third party operators.

Subsequent to the quarter, we announced new strategic agreements with leading cannabis partners in the industry that we expect will expand our product offerings. Valens entered into an extraction and custom manufacturing agreement with Rubicon Organics, where it will leverage our full complement of proprietary extraction capabilities including organic certified CO2, ethanol and other extraction technologies to deliver customized consumer experiences in a variety of 2.0 products under the LP's product portfolio.

Additionally, we entered into a custom manufacturing agreement with Experion Biotechnologies to provide end-to-end preroll manufacturing services and product distribution services with continued discussions to expand the existing agreement to include additional product development and manufacturing services for a range of next-generation products. This agreement marked our first pre-roll manufacturing agreement and Citizen Stash pre-rolls will be the first dried cannabis product that Valens will have manufactured in the market.

Over the course of 2021, we expect to continue to grow our partnership networks with LPs, cannabis brand houses and consumer packaged good companies. And with the closing of our acquisition on LYF Food Technologies, which also took place after the quarter, we expect to expand existing agreements with customers looking to enter the evolving edible space in Canada.

With the addition of the LYF facility, we now have the capacity to produce a wide range of edible products in various formats and dosages as part of our central platform. Vegan, sugar-free and low-sugar formats are available and will be especially complementary for the development of Valens wellness product suite, as Jeff mentioned earlier. Since closing, we have welcomed this and successfully integrated several LYF team members to the Valens family and have already begun manufacturing and launching edibles products, marking Valens' entry into the category.

In partnership with Verse Cannabis, Valens launched Verse soft chews, a new line of edible formulations and unique flavors at a great value. The new product lineup includes Verse Baked Apple Soft Chews and Verse Sour Medley Soft Chews. Since their launch, Verse Soft Chews have been receiving rave customer reviews for their flavor profile and overall customer experience, and we hope to bring these already leading products to other domestic markets in the short term.

In the second quarter of 2021, we intend to launch an assortment of unique consumer-driven edible products into the market alongside various partners. In addition to continuing to manufacture with existing life partners, including the Citizen Stash Strawberry Mac gummies and A1 Cannabis Summit Wild Berry Soft Chews.

Lastly, with the closing of our $39.7 million bought deal public offering on January 29, 2021, we are in a strong cash position to fuel our growth plans. As discussed earlier, we plan to use a majority of the net proceeds of the offering to pursue strategic M&A and business expansion opportunities in Canada and international markets with the balance of the net proceeds for working capital requirements and general corporate purposes.

With that, I'll now turn the call over to Chris Buysen to run through the financial results for the first quarter of fiscal 2021. Chris, please go ahead.

Thank you, Everett. Quarter-over-quarter net revenue increased $4 million or 24.7% to $20 million compared to $16 million in the previous quarter ended November 30, 2020. The increase in revenue was driven by a $4 million increase in revenue from cannabis operations, which generated revenue of $19.6 million compared to $15.6 million in the previous quarter. Cannabis operations revenue associated with product sales increased $3.4 million or 23.3% as a result of increased volume through the execution of white label product offerings and winterized, distillate and isolate sales to support our industry partners.

Product sales growth was also driven through provincial product sales, which increased 7.6% over the prior quarter as the company continues to execute on its transition strategy away from a focus on toll processing to product development and manufacturing.

Consolidated net revenue in the first quarter of fiscal 2021 decreased 37.4% to $20 million compared to revenues of $32 million in the same period of fiscal 2020. The decrease in revenue was driven by a reduction in cannabis operations revenue to $19.6 million compared to $31.6 million in the same period in fiscal 2020. The cannabis operations revenue associated with toll extraction and co-packing decreased $14.6 million or 89.3% as the company continued to execute on its strategy of transitioning away from a focus on toll processing to a product development and manufacturing company.

In addition to the shift in focus, the company continued to see a reduction in shipments of biomass from extraction partners as partners adjusted their workforce and operations to manage through the uncertainty created by the COVID-19 pandemic. The continued execution of product development and manufacturing strategy was highlighted by the increase in product sales of $2.6 million or 17.2%, with the scale-up of white label product formulation and manufacturing to include tinctures, vapes, beverages, edibles, concentrates, and sourcing bulk winterized and distillate oil for our partners Cannabis 2.0 products.

Additionally, the company generated $0.69 million in revenue from analytical testing through the company's lab compared to $0.70 million in the previous quarter ended November 30, 2020, including $0.28 million in intercompany testing revenue as the volume of third-party tests completed by the lab remains strong and consistent quarter-over-quarter.

As Everett previously mentioned, in the first quarter, we extracted 17,813 kilograms of biomass, a 73% increase over the prior quarter using inputs from our healthy partners for toll processing, as well as Valens own inventory for 2.0 products.

In addition, the company utilized bulk oil to manufacture 53 product SKUs in the quarter, a decrease of 15% compared to the prior quarter, but an increase of 47.2% compared to the end of the first half of last year.

Gross profit for the first quarter of 2021 decreased to $4.8 million compared to $18.1 million in the same period in fiscal 2020. The gross profit from cannabis operations for the first quarter was $4.2 million or 21.6% compared to $17.7 million or 56.2% in the same period in fiscal 2020. Gross profit was negatively impacted in the quarter by the company's continued execution of the shift away from historical focus on toll processing to a current strategic focus on product development and manufacturing. And the repositioning of vape hardware, utilized with certain industry partners.

However, on a quarter-over-quarter basis, gross profit increased to $4.8 million for the first quarter of 2021 compared to a loss of $6 million in the previous quarter ended November 30, 2020. The gross profit from cannabis operations for the first quarter was $4.2 million compared to a loss of $6.5 million in the previous quarter. The increase in gross margin was largely attributable to the inventory write-down and onerous contract loss and a loss on the sale of certain loss of bulk winterized and distillate oils, which were experienced as part of our strategic repositioning initiatives executed in the fourth quarter of 2020. In addition, the analytical testing operations saw an increase in gross profit dollars for the first quarter of $0.58 million or 83.6% compared to $0.57 million or 77.4% in the previous quarter.

Operating expenses for the quarter were approximately $11.9 million compared to $11.5 million in the same period last year. The slight year-over-year increase in expenses for the first quarter was driven by depreciation and amortization, facility expansion costs and higher wages, salaries and general administrative costs as the company continues to build out its team and production facilities to execute on its product development and manufacturing strategy.

We ended the first quarter of 2021 with adjusted EBITDA of negative $2.2 million, which decreased by $16.5 million over the same period in fiscal 2020. As a result of the company's continued transition away from total extraction services to consumer product development and manufacturing platform, including bulk cannabis oil sales. We remain confident that our business transformation to a product development and manufacturing platform, and our acquisition of LYF Food Technologies will allow us to see predictable positive EBITDA performance in future quarters. As a reminder, we ended fiscal 2020 with positive adjusted EBITDA despite the challenging conditions that existed in many parts of the market.

At the end of the year, we were one of the few companies in cannabis space that achieved this level of performance for our shareholders. We are excited about 2021 as we leverage our challenge, our changing business model, recent acquisitions, and product expansions to create long-term sustainable value for our shareholders and stakeholders. The company continues to closely monitor inventory levels and Valens' outstanding third partners to ensure a strong financial balance sheet position.

As of February 28, 2021, the company had $10.9 million in trade accounts receivable outstanding over 60 days. And an expected loss rate on overdue balances is estimated to be $0.6 million based on subsequent collections and various discussions with those associated customers and analysis of creditworthiness. In addition, the company has subsequently collected as trade accounts payable outstanding with the same partners or has recorded an impairment loss provision representing 56% of the trade accounts receivable balance, which supports the cash position of the company.

As previously mentioned, on January 29, 2021, the company closed the bought deal financing, pursuant to which the company issued 19.4 million units valued at $39.7 million, which was comprised of one common share of the company and [one-half] share purchase warrant. Each full share purchase warrant is exercisable at a price of $2.55 per share for a period of 36 months from the date of closing.

As of February 28, 2021, there remains a balance outstanding under the term loan facility of $9 million, and the secured revolving facility of up to $10 million remains undrawn. At the end of the quarter, the company was in breach of certain financial covenants under the credit facility. Accordingly, the remaining balance outstanding under the term facility of $9 million was classified as current on the company's balance sheet. The company continues to work with the lenders to amend certain financial covenants and obtain a waiver for the period ended February 28, 2021, to better align our debt package with the new requirements of our successfully repositioned business. The company had $49.3 million in cash as of February 28, 2021, compared to $20.3 million as of November 30, 2020, which includes gross proceeds of $39.7 million from the bought deal financing that closed at the end of fiscal 2020.

With that, I will now turn the call over to the operator to open the line for the question-and-answer session.

(Operator Instructions) Our first question comes from Andrew Partheniou with Stifel.

Congrats on the great quarter here. I wanted to maybe first touch on your gross margin. In Q4, you repositioned a lot of your inventory and were discussing about how your new sourcing of lower input costs could flow through and increase margin sooner. Just wondering how much of that are we seeing in Q1? And should we expect more going forward?

Chris, why don't you take this one?

Certainly. So yes, as we work through Q1, we continued to sell-through some of the inventory that we had on the balance sheet as of the end of last fiscal. So there was a bit of a continued drag on our margins into Q1. I think as we move into Q2 and Q3, I think we should continue to see growth in our margins as we kind of work through that inventory. And as we mentioned on our last call, our ability to now source biomass at lower prices. So we'll see continued strength from that in our margin profile. As well as the product sales side of the business continues to expand, and we continue to bring to market additional innovative products at stronger margins. That will continue to as well support the growth in margins that we anticipate realizing as we move into Q2 and Q3 of this year.

And just touching on the dried flower here that you guys seem to expect to launch imminently with sales into provinces. Could you talk a little bit about your strategy there? I mean, there's already a lot of dried flower products on the market. And on the vape side, you guys have successfully differentiated yourselves. And just was curious about how you're thinking on the flower and pre-roll side to do the same?

Sure. Tyler, why don't you take this one?

Yes, absolutely. So a couple of things to think about. As we are the lowest cost producer and the largest purchaser of biomass, there's a few things to keep in mind. One, we are not stuck to any genetics or any product portfolio. We can go out and hand select the genetics we want to launch. And also, we can launch it at a cost that no one else can. So when you really look at the value proposition we can bring to the table, no one can compete with what we're about to do. We're going to be extremely disruptive in not only pre-rolls, but whole flower and when you look at the market size, it's hovering around 60% right now, even though it's declining, it's a huge revenue opportunity for our organization. So we're excited to play in those. And like like we said in the call, you will see some of that flower sales in Q2. So we're going to hit the ground running.

Our next question comes from Neal Gilmer with Haywood Securities.

Maybe I'd start with just your comments, posted in your press release and in the prepared remarks in evaluating sort of the sales velocity of some of the products you're taking to market. Can you give us a little bit more sense of what you're looking for there? What sort of time period you evaluate this over? And I guess the subset to that with respect to some of the provinces doing some inventory rationalization over the course of Q1, at least calendar Q1 here, whether that affected your ability to really sort of assess how you wanted to focus on which products to bring to market?

Okay. Maybe -- Neal, maybe I'll take this to start. Look, as with any sort and growing market environment, and especially in the Canadian context, where we saw a number of consumers trying a number of different products, et cetera, you can't just sort of sit, put a product out there and just sort of let it sit, you have to be aggressive. You have to make sure that the product is positioned properly and focus on those that are gaining market share and don't be hesitant to drop products that aren't. So I think you're going to see Valens as we continue to launch products out there with our partners, making sure that our product portfolio is optimal for the consumer trends that are developing and the opportunities that we're seeing in the market.

So in particular, we spent a lot of time over the last couple of months in working with the provinces and understanding and going into detailed deep conversations with not only what we're seeing in the market, but soliciting feedback from them as to what they're seeing in the market, how they want products positioned and sort of where their holes are in their product portfolios that they're providing. With that information, we then go back to our partners and the brands that we're working with, work through new product opportunities and help them either replace existing SKUs that are not performing well or reposition them based on that feedback.

So I think you're going to see that continue to happen with us, given the number of products we touch and given the number of customers that we represent at the provinces, we believe we have some of the best insight in the market as to what those products should be. And we're going to be aggressive in making sure that we go after the trends that we see materializing and that we want to bring on board the Valens platform.

Yes. Neal, just to kind of add to what Jeff said, the best way to think about it is fewer, bigger, better. We're launching fewer SKU, and we saw that in the countdown because we're going to get behind a few key ones, and we're going to drive a lot of velocity and a lot of volume through those. And then the best way to think about it, too, is we're listening to consumers, we don't need to be everything to everybody. So you're going to see a much more strategic approach from the Valens Group rather than the majority of our industry peers. For example, we're only launching one set of flower SKUs right out of the gate, and it's going to do extremely well. So the model for us is fewer, bigger, better.

That's helpful. And maybe my follow-on question would be from that is that if you're doing the fewer, bigger, better, then I assume then you probably have the opportunity to increase margins, gross margins that way because your -- I assume your shipments into the provinces if you're doing larger shipments on fewer SKUs, you probably have some cost efficiencies that are achieved through that. Is that a correct view?

Yes, you're 100% correct.

Absolutely.

Right across the board, you'll see optimizing efficiencies, optimizing processes, turning machines more often. And then the bigger shipments and more consistent shipments. So yes, it will be lucrative all the way across the board.

And Neal, if you think about 2020, as we've said previously, it was all about us building our platform, right? Making sure that we had the right capabilities and the right team driving that. We believe we've accomplished that, as we said in our last quarter and with the acquisition of LYF. And now for us, it's about taking that platform and optimizing it to the best return for shareholders.

Our next question comes from David Kideckel with ATB Capital Markets.

Congrats on this quarter, everybody. First, I want to go a little bit deeper, if that's okay, into the U.S. and your international expansion, both strategy and time line. I know, Jeff, you mentioned in your prepared remarks, or maybe it was Everett, once federally permissible to do so in the U.S. We know through the Farm Bill with hemp opportunities, those are available so I'm just wondering, as far as your strategy is concerned, how should we think about this? Is it still through hemp-based companies or products or other [multi operators] and also, if you could maybe just clarify what your (inaudible) is for this.

Sure. So if I look at -- a couple of things happened, David, with respect to the U.S. from our standpoint. Firstly, we got our big repositioning or getting -- bringing on K2 facility, getting our Canadian footprint online and functioning and functioning well. But with that behind us and secondly, with the changes in the White House and the change in perspective on what the opportunity was in the U.S. in a shorter period of time. Obviously, then from a Valens company perspective, it was time for us to get more aggressive with that market opportunity, obviously, with Tyler's experience and several team members experience in the U.S., we've got relationships. We understand the market. We understand the product. And so from that perspective and from our shareholders' perspective, they want us there. So with that view, we took a very strategic review of the market opportunities. We have listing requirements, obviously, with the TSX and we have other requirements that we have to hold up to. So the best thing I can tell you is that we're looking at it strategically. I think we -- our approach there from a CBD perspective, obviously, it has to be a key consideration in our strategy given THC continues to be a challenge from a listing perspective. I'd say that. But from our standpoint, we're being very creative about how we're approaching that to make sure that we're maximizing the opportunity for shareholders and getting that capital efficiency and ROI that they come to expect from us.

So that's about the best way I can put our U.S. strategy. I think that from a time line perspective, we think the opportunity is current. We think that the market is coming around in a way that we like in a way that the Valens platform can do quite well in. So you can see us being aggressive. And from a time line perspective, in the near term.

And Dave, maybe just to expand on that quickly. I would say that we raised money for a reason. Obviously, there's more accretive M&A opportunities. And what we have remained diligent on is keeping the same return on invested capital. We want the highest return on invested capital in the Canadian cannabis space, as Jeff mentioned, and I think that obviously mentioned in the prepared remarks, we are having later stage conversations there and finding more and more opportunities in that market, especially recently.

Okay. That's helpful. My second question moving along here. In your MD&A, where you've mentioned the mutually terminated contracts with both TREC and BRNT, I'm wondering, can you maybe give a little bit more color on -- as to the reasons for that? And also, does the fact that you've mutually agreed to terminate these contracts thus preclude you for reengaging both companies should consumer demand allow that in the future?

Everett, why don't you take this one?

Sure. No, not at all, Dave. We can reengage them. Actually, we're working with one of those partners on the edible side with our LYF team anyways. But the biggest thing we're looking for, as Jeff and Tyler mentioned, is SKU velocity. What our shareholders want is is fewer SKUs at a higher sales velocity, and that's what we're going to hold our partners to. And as we prepare for the next wave of partnerships, which we believe will be CPG companies, I believe that this is just preparing for that and making sure that we're picking the kind of right partners in the different aspects. I think that they're both great companies, and we'll have plenty of opportunities to maybe work with them down the road. And I think that they're going to continue to see success. This was more of an internal decision based on velocity as well as new partnerships and where they fitted in our platform.

Got it. Okay. And if I could just squeeze one more quick one in here. Just can you maybe give an overall update with respect to beverages. The ones -- I know you have 2 in the marketplace right now, THC and CBD and also just next steps with the Pommies facility.

Sure. So we're incredibly encouraged by the feedback that we're getting, particularly on our Summit 10 beverage that we produce in partnership with A1. It's doing incredibly well. Feedback is great. But as we look to bring Pommies online, as we said in the second half of this year, our objective as a management team is to not have a standing start there. Obviously, we're having a number of ongoing conversations while we're working in the product development sense to bring new beverage formulations to the forefront so that when that key gets turned on and that production facility starts to churn, that there's meaningful volumes already coming out of that facility. But as we look through the rest of 2021, I think you can expect a traditional build of the capacity as we bring new product formats on and get them in the market for the rest of 2021.

Our next question comes from Shaan Mir with Canaccord Genuity.

Congrats on the quarter. My first one is just touching on kind of the M&A opportunity. So given that you guys are actively pursuing those M&A opportunities and some scenarios are in advanced discussions, as I understand. Could you maybe provide some color around what you're seeing on the valuation side in the private market? Public markets have taken a bit of a breather over the last few weeks. So just trying to get an understanding how or if that's been reflected in any way in those private market valuations?

Sure. So maybe I'll tackle this one and others can add on after. So we're encouraged by what we're seeing, and that's one of the catalysts that allowed us to get a little bit more aggressive. Obviously, as both Everett and I have said, we're hyper-focused on getting a return on investment for our shareholders. So yes, we have noticed some realistic and better aligned valuation in the market for select opportunities, and we see others repositioning towards that level as well.

But what we're really seeing from our conversations that we've had in the acquisition scenarios is a real attraction to our currency or Valens' share. And we like that, obviously, firstly, because it creates alignment and -- between our shareholders and get everyone moving towards the same goal of return. But also, it helped us in a number of scenarios, repositioning the value of an offer the holding of Valens' share, which we fundamentally believe is undervalued in the market against the opportunity we see for the business, and that's a very compelling pitch for us to go to potential partners with. And we're seeing real-world evidence of that on a regular basis.

All right. And then my second one, just stepping back a bit, when the Q4 numbers were prereleased and Q1 guidance this year was given, there was mention that COVID related headwinds had shifted some sales from Q4 into Q1. I was wondering if you could unpackage this a bit. What would sales have looked like in the quarter if we strip this out? And also, maybe would you be able to specify what segment of business witnessed kind of that shift?

Sure. Maybe I'll take a quick shot at this and Everett and Chris, you can probably add on to that. I think as we were in at the end of Q4, going into the Q1. Obviously, there was not the shutdown in Ontario and we were having some encouraging and verbal indications from the provinces on expectations for volumes and that were in line with the growth that we were seeing till then and represent a very compelling opportunity. What happened ultimately as the second wave and now third wave of COVID come into play was a retrenchment on behalf of the provinces, and you see that across the broader sector with some of the LP announcements that have happened as of late, where they really took a cautious approach given the click and collect, particularly in Ontario.

So it was from provincial sales that I would say that there was the more conservative approach to the volumes that happened in Q1 relative to our expectations as we rolled into Q4. And I'll say on top of that, you add that in places like Ontario, where they were changing distribution facilities and instituting a bunch of other sort of SKU management policies of that. And that all together I think represents sort of the slowdown that you're sort of seeing in -- COVID-related slowdown that you see in the numbers across the sector. Everett or Chris?

I think from my end, Shaan, like, I think that, obviously, the results speak for themselves this quarter. Obviously, we show growth like provincial sales kind of showed that increase 7.6%, and you continue to see that sales velocity. Obviously, with kind of the COVID environment, we hope to be higher than even where we're at even this quarter. But with click and collect and kind of the provincial retailers managing that accordingly. I think you see that in the results. But going into the second quarter and looking in the future here, we're continuing to see great growth. And what we don't have in the market currently in our results in the first quarter is LYF came online, right? Now we have edibles in the market. You're going to see -- obviously, our bath bombs just launched, you're going to see concentrates come to the market as well, as Tyler mentioned, you're going to see flower in the second quarter.

So I think that we're very confident in this environment that we're doing the right things to gain listings and continue that sales velocity, even with kind of a tougher environment, people got to remember Ontario was almost shut down almost every single day in our kind of Q1 quarter. But I think that the product sales velocity and the uptake even in that kind of shows the success and obviously, the innovation of that, and that's what we're going to strive forward kind of looking forward going into Q2.

Our next question comes from John Chu with Desjardins Capital Markets.

Maybe give us a little bit more color on the dried flower pre-roll strategy. Can you maybe give us a little bit of insight in terms of the price tier segment you're looking to address? Is the value, mainstream, premium? And are these going to be seasonal products or limited edition or a short time offering given the ability that you have just to kind of pick and choose to strain sort of this particular cultivation period, you're seeing a really nice stream, but then the next period you're finding a better one, then you kind of just rotate through that? Any insight would be helpful there.

Sure. Tyler, why don't I turn that back to you.

Yes, absolutely. So we haven't finalized what we want to do long-term yet because, obviously, it's a very fluid market. But what you'll see is the most cost-effective pre-rolls in the market in a value path with a very high quality, I wouldn't say it's premium, but if it's good, better, best, it's in a better category. And what we're going to do is be disruptive. So we pick specific genetics [strain specific] to be disruptive. And what we will do is change them out. Like we said earlier, fewer, bigger, better. We're going to roll with a few genetics right out of the gate, and then we will modify, tweak and change with consumer experience.

One thing we do extremely well at Valens and I think very few people are doing well in Canada is listening to the consumer, understanding the consumer and staying out of your own way. So what we're going to do is come out very strong with a few core products. And then let the consumer dictate what they want.

Okay. That's very helpful. And then maybe just the second question here. The -- when I'm looking at your biomass extracted, that was up quite a bit. Maybe just a bit of a breakdown in terms of what percentage of that was internal versus external?

And then tied into that, obviously, with a lot of companies having cashed up over the last 3, 4 months, do we -- can we expect to see more tolling related revenue starting to reemerge again?

Sure. Chris, why don't I pass the phone to you for answering the first part there, and then others can jump into it later.

Sure. Sounds good. So on the biomass extracted components, we saw a significant demand in the first quarter for CBD distillate and isolate from our partners. So a large portion of that volume was driven by traction of our materials so that we can meet demand that we are seeing for those types of products as we continue to see growth in the wellness segment of the industry, and kind of continue to see that going forward for sure.

And from an overall product portfolio perspective, John, as we look out, what we're finding is the conversations with our LP partners about the product platform we have to offer them now, which, as we said, literally includes every -- pretty much every product format possible out in the market from a 2.0, and you'll soon see 3.0 context.

But what we're -- the conversations are becoming more and more interesting for us in terms of the product that you're now coming to us for. The market is starting to realize they can't be experts in everything, as Tyler was saying. And from a sales and a brand on a product development perspective, there are opportunities where Valens makes a lot of sense for a lot of parties out there. And those conversations are becoming more and more encouraging. So while before, maybe we would have done the extraction on a tolling basis and sent back, now there's compelling conversations around, okay, well, maybe it's not a send back of the bulk oil. Maybe we put it in the tincture for you. Maybe we put it in the vape pen for you and maybe we put it in a beverage for you or something like that. And those conversations are getting more and more encouraging.

So in terms of total extraction or total tolling volumes, maybe that number doesn't grow materially, but in terms of the opportunity that the biomass coming to us and our extraction facility generates, we're pretty encouraged by that.

Okay. Great. And then maybe just one quick last question. Any insights you can give us on March sales and the first couple of weeks into April? What are you seeing? Are we seeing an improvement despite some of the industry headwinds we're seeing out there?

Everett, do you want to take this one?

Sure. Yes, John, I think that with kind of some of these new products on the market, I think we're trending in the right direction. Like I think that from -- we're also -- keep in mind that we have a few more product launches even coming in on top of that. So March from an industry standpoint kind of bounced back and we did accordingly as well. And obviously, what's next week is 4|20. So I think that we're very excited. And with some of these new products in the marketplace, I encourage everyone to go up and try bath bombs that are on the market here recently and some of our other kind of 2.0 products on the market would be a great 4|20 Experience. So I think we're trending in the right direction. With the COVID restrictions kind of coming in here recently in Ontario, we'll see how that impacts us. But overall, I think we're quite positive, even despite that, because of the new launches as well as kind of the trending that we had even to date.

We have reached the end of the question-and-answer session. At this time, I'd like to turn the call back over to Tyler Robson for closing remarks.

Thank you, operator, and thank you, everyone else for joining. From an operational perspective, the Valens Company continues to get stronger. We've made significant strides in the first quarter of the fiscal year. And now we have the most formidable product platform in the country, which is beginning to be reflected in our financials.

Just a couple of things I'd like to hammer home before we wrap up the call. The model for Valens is going forward is fewer, bigger, better. We have the most innovative, adaptable and flexible product offering in the country. And you'll see those start to leak out over the next few quarters with a large majority coming in Q2. So we're excited. Our unparalleled manufacturing expertise, we believe, is best positioned to capitalize on what's expected in the future of the cannabis industry everyday extracted based consumer packaged goods. Over the course of 2021, we'll be bringing the Valens advantage of package to new markets, consumers and customers. We're looking forward to updating you on our progress. With that, I'll ask the operator to close the call. Thank you.

This does conclude today's call. Thank you for your participation. You may disconnect your lines at this time, and have a great day.