Good morning, everyone. Welcome to Flow Beverage Corp's Second Quarter 2022 Financial Results Conference Call. As a reminder, this call is being recorded on June 14th, 2022. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time for research analysts to queue up for questions. I will now turn the call over to Devan Pennell, Chief Financial Officer. Please go ahead, Devan.
Thank you, operator. Good morning, everyone, and thank you for joining us today. Flow's second quarter 2022 financial results were released this morning. The press release, financial statements, and MD&A are available on SEDAR as well as the company's website, investors.flowhydration.com. Before we begin, I'll refer you to slide two of our presentation, which contains our caution regarding forward-looking statements. I am joined on the call today by Nicholas Reichenbach, Flow's Founder and Chief Executive Officer. I will now pass the call over to Nicholas.
Good morning, everybody, and thank you for joining us today. I'll begin the call by speaking about our financial targets. I'll speak about sustainability and how it is driving new milestones for the Flow brand. I will review some recent wins in our distribution capacity and then provide an update on Flow's market share gains. Devan will then provide a detailed review of our financial performance, and I will conclude our prepared remarks by reviewing our exciting business development pipeline. We introduced financial targets in fiscal Q3 2021 last year for the Flow branded net revenue growth, EBITDA improvements, and capital efficiencies. We are very pleased that our financial targets for improving in EBITDA losses of 45%-50% is on track. While we still expect to achieve the Flow branded net revenue growth of 45%-55% in the second half of this year.
Given our financial performance in the first half of the fiscal period 2022, we believe it's prudent to adjust our targets accordingly. The primary driver behind the revision is the trade spend costs we incurred in Q2. We plan to leverage these investments in trade spend throughout our summer season activation programs, and we remain confident in our new contract wins, innovation pipeline, and the trends of sustainability to continue to drive the growth moving forward. Flow has been the beneficiary from the tailwinds created by the growth in the premium, sustainable, and functional water segments. The sustainable water segment has been surging recently, up almost 80% in the last year, and Flow is at the epicenter of this segment. We attribute the growth of sustainable water segment to an evolving consumer preference in sustainable packaging and socially conscious brands.
Furthermore, large organizations around the world are changing their focus from COVID to implementing ESG frameworks. Implementing these ESG frameworks usually means lowering their environmental footprint and aligning with like-minded organizations such as Flow with a proven culture of sustainability. As most of you are aware, Flow has been sustainable from day one. Flow has carbon neutral operations. Our packaging is made from renewable plant-based material, and we are excellent stewards of our water sources, and we keep getting better. Last year, we achieved one of the highest scores of a company in a B Corp Certification of 126.5, which puts us at the upper echelon and best in world class. Most recently, in a partnership with the Nasdaq OneReport, Flow began reporting under SASB Investor Disclosure Framework. This will assist ESG rating services and impact investors in their ESG assessment on Flow.
Our market position is paying off. In January, we reported that Flow ended the calendar year of 2021 with almost 25,000 points of distribution across North America. Only four months later, Flow can now be found in 35,000 locations across North America. This increased store count is attributed to the success of our national DSD rollout and our U.S. retail penetration. In addition to these significant increases in store count, Flow has also won two important contracts in the food service sector with two globally recognized companies. A critical aspect of these contracts were and are Flow's ESG credentials. The first contract won in the food service was with Accor, an international hospitality group ranked third for luxury hotels in the world. We began to roll out to over 70 of these hotels across North America and the Caribbean.
Just yesterday, we announced that Flow became the official partner of the Norwegian Cruise Line, a leading global cruise company with a fleet of over 28 ships offering itineraries to over 490 destinations worldwide. Turning to slide seven, we present a breakdown of our store count by channel. We recently achieved significant gains in the U.S. food, drug, and mass channel with Dollar General, and we added four new Costco locations in Canada in fiscal Q2. As compared to the prior year, our DSD partners in the U.S. have contributed significantly to the growth of our store count and secured hundreds of locations in the Canadian gas and convenience channel. Flow continues to maintain very high growth rates in two large markets, growing 59% in the U.S. food, drug, and mass channel and 63% in the Canadian food, drug, and mass channel.
We attribute the ongoing growth to our increased store count in both U.S. and Canada, certain product innovations that we have made in the last year, and of course, our ESG positioning amongst a changing and evolving consumer preference. We are pleased to announce and share a market update with you today. I am thrilled to say that our alignment with sustainability, product innovation, and our recent retail wins have combined to increase Flow's market share to 45% in Q2, which means that Flow is the leading market company in carton format water in food, drug, and mass, and the natural channels within the United States. This means that Flow is officially number one in our category.
I would like to take a moment to thank Flow's employees, our partners, and of course, our shareholders for the commitment they have shown over the past seven years to help build Flow into a category leader. This is an exceptional accomplishment. With that, I will pass the call over to Devan Pennell, our CFO, to discuss our financial results.
Thank you, Nicholas. As Nicholas mentioned in his prepared remarks, Flow remains one of the fastest-growing brands in North America. Recent data shows that Flow brand grew 59% in the U.S. multi-outlet channel in the last 12 months and 63% in the Canadian food, drug, and mass channel. In Q2 2022, consolidated net revenue reached CAD 9 million, and Flow brand net revenue reached CAD 4.8 million. Consolidated revenue includes co-packing revenue, which continues to be an opportunistic revenue source to cover our fixed costs. We made significant improvements to profitability in Q2 2022, as measured by EBITDA. Flow's EBITDA loss for the period was CAD 8.5 million, a 49% improvement over the prior year.
Looking more closely at the factors that impact net revenue, consolidated gross revenue reached CAD 11.1 million in Q2 and CAD 24.6 million in year-to-date Q2, 2022. Gross revenue benefited from the Flow brand, delivering strong performance to our e-commerce platform and in Canadian food, drug, and mass. Looking at net revenue in fiscal Q2 2022, the company made investments into trade spend that helped drive our increased store counts, but the revenue associated with these trade spend costs is expected to be realized along with the launch of retail activations in the coming months. Co-packing revenue reflects lower demand for co-packing services from our partners. We continue to believe long-term value will be created by focusing on Flow brand revenue, and therefore we utilize co-packing as an opportunistic basis to help absorb fixed costs.
Gross margin was 12% in Q2 and 20% for year-to-date. While we continue to benefit from operational improvements, we experienced elevated shipping costs for certain customers that had re-openings in Q1, and in Q2, we incurred higher trade spend for new accounts and near-term activations. We are very pleased to be delivering year-over-year declines in all operating expense categories. General and administrative expenses continue to include professional fees that we have incurred as we transition to a public company. As a reminder, in Q2 2021, we had much lower costs attributable to operating as a private company at that point in time. We have also made sequential improvements in salaries and benefits and sales and marketing expenses as well.
We realized an EBITDA loss of CAD 8.5 million in Q2 2022, which is a 49% improvement from Q2 2021, when we were not a public company. The improvement is largely due to reductions in stock-based compensation in addition to improvements in cash operating expenses. We are maintaining our target for Flow brand product net revenue growth of between 45% and 55% for the second half of fiscal 2022 as compared to the same period in the prior year. We remain encouraged by the new authorizations we've received that will take delivery of Flow products over the coming months. Additionally, our contract with Accor will reflect deliveries in the second half of the year, as well as our new contract with Norwegian Cruise Line.
As a result of investments into trade spend in the U.S. market that increased store count, the company does not expect to achieve its financial target of net revenue growth of the Flow brand of 45%-55% for the fiscal year. Flow now expects net revenue growth of the Flow brand of 25%-30% for fiscal 2022. We are confirming our target to reduce our EBITDA losses by 45%-50% in fiscal year 2022. We still expect for the biggest improvements to be in the back half of the fiscal year as we compare our cost structure against periods as a public company and benefit from stronger net revenue over the summer months. Regarding capital efficiency, we have improved accounts receivable with net trade receivables decreasing 24% from Q4 2021, and CapEx is down 86% this year.
As of April 30th, we had over CAD 25 million in cash. We have some material non-trade receivables that we expect to collect in the coming months, and we expect additional improvements to working capital from inventory management. We said in our last two calls that our cash balance would take us through calendar 2023 if we perform in line with our forecast, and we are reaffirming this outlook today. I will now pass the call back to Nicholas.
Thank you, Devan. Our key growth pillars remain unchanged, and we have created a lot of momentum in generating future growth. We still plan to grow the Flow brand in our retail channels through increasing ACV, which means bringing on new retail partners. We also plan to increase the velocity through focusing on activation and retail awareness and campaigns, working closely with our distribution partners to ensure that Flow is fully stocked on shelves, positioned in multiple points within the retail location, and increasing the number of Flow branded products and SKUs in the store. In e-commerce, we are adding new users through paid advertising and through strategic brand partnerships. We are demonstrating traction on repeat purchasers with loyal programs, increased subscribers, and active communication through email and SMS. We now walk through some significant growth drivers, including food service and our innovation pipeline.
As we mentioned previously, the food service sector is expected to be a big growth driver for Flow. We are already seeing this with our two recent wins in the food service category. As COVID re-opens up, we're getting more and more interested parties and retailers in our ESG-focused products. While the pandemic continues to require all industries to make operational adjustments from time to time, we believe that the food service industry will emerge from these crisis levels and now are participating in an increased look in prioritizing their ESG initiatives. We believe that food service companies are taking a look at their bottled water practices and are seriously considering eliminating all plastic and substituting them with other products such as Flow. We signed the Accor deal at the end of our fiscal Q2.
Accor is a very large hospitality operator in 110 countries with 3,000 locations. Like many organizations, they are seeking to lower their carbon footprint across its operations. They're also operating a number of premium brands, so it is also important to offer their customers an aligned premium experience. That's why they chose Flow. Just yesterday, again, we announced a contract to become the official partner of the Norwegian Cruise Line. NCL is a well-known brand operating for over 55 years. Norwegian has a large fleet with over 490 destinations worldwide. We have a very large activation program with Norwegian Cruise Line, and we'll be announcing further details on our partnership in the weeks to come. Turning to Vitamin Water.
Our current plan is to launch Vitamin Water at the end of the month in our U.S. retail channels and direct to consumer off our website, flowhydration.com. We have commitment from Kroger grocery chain and is expected to launch in over 130 of their locations this summer. Our Vitamin Water flavors are delicious, with zero sugar and 120% of your daily dose of vitamin C and all organic certified ingredients. This makes this product uniquely positioned in the North American market against the health and wellness consumer. Vitamin Water also expands Flow into an adjacent high growth category, and we firmly believe that the coming months that the environmental package that Vitamin Water is in will be more important to consumers. Our product innovation also includes larger formats of popular SKUs of Flow.
We now have Peach + Blueberry and Strawberry + Rose in our number one selling format, the 1 L . We are currently rolling this out with key retailers like Sprouts in the United States, and it will be available on our direct-to-consumer and e-com platforms this week. The rationale for launching these new formats are simple. We are building a product portfolio that consumers want, and we are focusing on innovations that are accretive to our gross margins and profitability. You will see this continued innovation in the quarters to come while we put out more products and services against our core value proposition to our consumers. I'll conclude today's presentation with a summary of upcoming milestones for Flow. It's going to be a very busy couple of months as we enter into a very active summer hydration season with our expanded distribution network.
Some of our most significant events ahead are the activation of our 270 Walmart locations, rolling out Accor hotels and shipping to NCL across the world. Our summer activation hydrations with our key retailers such as Whole Foods, Loblaws, Fresh Thyme, and others will make it a very important month, very important two quarters ahead as we activate the brand both in Canada and the United States. If you make it to Pride Parades or our National Bank Open in Toronto, you will see Flow products there, and we will also have some media as we lead into the New York Marathon later this year. That concludes my prepared remarks. Operator, we can now open the lines for questions.
Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press star followed by the one on your touch-tone phone. You will hear a three-tone prompt acknowledging your request, and your questions will be polled in the order they are received. Should you wish to decline from the polling process, please press the star followed by the two. If you are using a speakerphone, please lift the handset before pressing any keys. One moment please for your first question. Your first question comes from Martin Landry from Stifel GMP. Please go ahead.
Hi. Good morning, Nick and Devan.
Good morning, Martin.
Good morning.
My first question, Nick, is you do talk a lot about sustainability and your format, and you have an interesting slide about your market share in the carton format. I would like you to help me a bit reconcile your market share gains. It looks like you, according to what you show, you've gained 700 basis points of market share to 45%, but your revenues are flat on a year-over-year basis in branded water. Does that mean that the category has declined on a year-over-year basis in the carton format?
The category in the carton format has not declined. What has happened, Martin, is our penetration in our key retailers and the velocities in our key retailers have gained a lot of momentum against some of the competitors. Our increase in trade spend over the past couple quarters have allowed us to start to gain market share against our competitors within those retailers, and that's why we've now taken the number one position.
Martin, just to sort of further reconcile that, I think there's always that risk of disconnect between how we recognize revenue through our distribution network, so on sell-in to our distribution partners through the various networks, and the market data itself.
Yeah.
I think, you know, what we're seeing is some level of slowdown driven more than likely by inventory levels rather than sell-through. I think the positive that we see that gives us some confidence going forward is that the market data at the till continues to show favorable trends for us. For that reason, you know, we believe that this is a temporary blip in nature, and that we'll continue to see increased velocity and penetration as we move forward through Q3 and Q4.
Yeah. I see what we're looking at in terms of market share is retail sales. Okay. That's helpful. You know, just trying to understand again, what's happened during the quarter. You know, you talk about your doors, the number of doors increased by 10,000 points of distribution, so it's a pretty impressive performance. But again, your revenues are stable on a sequential basis. Looking at your gross revenues, you know, they're up 2%-3%, which does not align with your growth in doors. Just trying to understand a little bit, you know, what happened. Is your velocity going down on a sequential basis or on a year-over-year basis?
Yeah. I'll answer part one, part two in my mind, and then Devan can follow through with a comment. Part one, the increased door velocities have happened in Q2. We're seeing the rollout of those doors happen right now. The revenue growth within those channels will come in Q3, Q4, as Devan mentioned. Martin, as you know, not all doors are created equal. Doors like Dollar General, although a very important retail partner for us in the United States to get our brand out and to service a lot more customers nationwide, do not have the same importance or velocity as the other doors, such as Whole Foods or a larger grocery chain, where we're a part of food, drug, and mass.
Therefore, you'll see the velocity reflect the channel. It's not a negative thing. It's more of just getting it out to a broader base of users in different channels, which Dollar General is a major contributor to the growth of our distribution network.
Just for further point of reference, I think in Q2 2021, it was when we really leaned into the pivot to the nationwide DSD rollout. As a comp, Q2 is a tough comp because that was our initial sell-in period to many of those distributors. I think, you know, looking to your previous question and linking those three things, I think that helps to provide some narrative around, you know, sort of what we've seen in terms of financial statement reporting versus the data that we're seeing in the market data.
Also our confidence within the H2 to maintain our guidance of 45%-55% growth in the core Flow brand of products.
Okay. Then my last question is on your gross margin. You know, during the quarter, the gross margin was impacted by the lower utilization of your co-packing equipment. You know, I was wondering if you can discuss what your gross margin looks like for the branded water segment, or, if you don't wanna disclose that, you know, if you can give us some color as to how it's evolved sequentially versus Q1, that would be helpful 'cause your gross margin was down considerably, and it was one of the lowest we've seen recently. So just a bit of color on that would be helpful.
Yeah. Martin, just in terms of units produced, when you look at the actual units produced out of the facilities during the quarter, that's where we saw the biggest drag on margin in terms of fixed overhead utilization. Q2 in the comparable period was both the highest utilization in terms of absolute units as well as line utilization. That is the single biggest impact. In terms of other conditions that sort of have driven the margin for the Flow-branded product has changed materially. We've taken some price across the board, not significant, but reflective of what's gone on in the broader market conditions. Obviously we've seen some offsets in terms of the pressures, especially in things like logistics.
From a Flow branded standpoint, I think we're consistent. I think where we're really having the challenges right now is just full utilization of those lines and the impact driven primarily by utilization, but also just in terms of how revenue is recognized on multi-year take or pay contracts. Those are sort of the primary drivers for why we're seeing the gross margin pressure in the current quarter. But also why, you know, we have line of sight as we increase utilization on the lines of taking margin higher in aggregate, and continuing to sort of control the margin on our Flow branded products, and make efforts to drive them higher over time.
Okay. Just to be clear, did you say that your gross margin on your branded products was stable sequentially?
Yeah, relatively. Just to be crystal clear, we don't report disaggregated on that, but directionally it's been relatively stable.
Okay. Okay, thank you.
Thanks, Martin.
Thank you. The next question comes from Chip Moore, EF Hutton. Please go ahead.
Hey, good morning. Thanks for taking the question.
Morning, Chip.
Wanted to ask, I guess, on visibility in the back half on Flow branded growth. You know, obviously new retailers ramping and those nice food service wins. Should we think about this being, you know, relatively consistent growth or more weighted towards Q4, or just how to handicap that in the back half?
Yeah, I would say like likely consistent as we sort of ramp in. I think we'll see the growth will ratchet up quite dramatically, which is obviously why we're willing to hold the guidance for the second half of the year. Typically as we look at sort of the Q3 and Q4, Q3 becomes sort of your new level of sort of growth, and then things tend to stabilize or increase slightly in Q4. I think as you look to the guidance in the second half, that would be consistent with what we expect.
That aligns with the busy summer season for us, which is most impacted in Q3 with some of it coming through in Q4, and then the incremental growth driven off of the new contracts as we load in and penetrate the brand across the various locations, facilities, rooms, shifts, et cetera.
Got it. Okay. That's helpful. Thanks. Then the other question I wanted to ask was on food service. You know, two nice wins here already. I think you talked about seeing more interest as the economies are opening up. Maybe you can talk about sort of the pipeline there and then, how do we think about margins on that side? Obviously, you get some nice brand benefits, but is there a difference in the margin structure?
Yeah. You know, Chip, we see food service as one of the most promising channels for Flow. Before COVID, we had a very large food service business. You know, offices like Google and Facebook and JP Morgan carried Flow to all their customers in the cafeterias, amongst a lot of other premier channels and companies. As we see COVID dissipating, the food service channel is now surging up and, as was important back in 2019 and early 2020, ESG is starting to really bring itself forward within that, the philosophy of those food service and the customers that they serve.
In order to really, I hate to say capitalize, but in order to capitalize, and just leverage our market position, we've definitely dedicated more resources, internally to this channel with sales in both in Canada and the U.S. We're also starting to leverage our partnerships, in order to get awareness around it and sign further contracts within those key food service channels. We remain very positive moving forward with food service. We're allocating more resources to that channel to really leverage ESG coming into that channel in a big-time way over the course of the summer and the quarters to follow.
What I would add there, Chip, is I think the size of the partner dictates a lot around the individual unit economics, but obviously, the more food service partners, the higher volumes we can run, that benefits from an overall growth margin standpoint. I think it's an individual by individual contract basis, but it's an important channel for us. It gives us quick access to the end consumer, brand penetration association with leading brands. Overall, I think the picture is that it will help further stabilize our growth margins and then allow us to hone in on finding efficiencies to further improve them.
Perfect. Okay. Understood. I'll take the rest of my night line. Thanks, guys.
Thank you, Chip.
Thanks, Chip.
Thank you. Ladies and gentlemen, as a reminder, should you have a question, please press star one at this time. Our next question comes from Sean McGowan of Roth Capital. Please go ahead.
Morning, guys. Thanks for taking-
Morning, Sean.
Hey, Sean.
I'm hoping you can help me understand the why you attribute the sales shortfall to trade spend when, you know, when we're looking at the numbers, you know, gross packaged water sales are only up 3%. Does trade spend affect the gross amount somehow?
No, Sean, I think obviously that comment is driven by the data, which I think we talked about the comps relative to Q2 in terms of growth. I think the commentary Martin asked a question earlier talking about, you know, inventory within the system and how to reconcile the market data, which is the till data versus what we're actually seeing in the business. You know, the data does show that the growth was not where it needed to be in the quarter. Again, for the reasons that we've talked about, we're confident that this is a point in time and not a reflection of the continued growth potential of the business as we move forward.
Otherwise, we wouldn't be comfortable in putting guidance in the 45%-50% range for H2 versus the same period prior year. The comment is fair. I think the driver is reflective of some of the conditions in terms of how the supply chain works for us in terms of route to the end consumer and how the consumer-customer interface works on our side. Yes, gross margin was not at the growth that we had anticipated.
No, I didn't mean gross margin. I meant that your-
Sorry. Gross apologies. Gross revenue.
Sales.
Yeah. Yeah.
Yeah.
Gross sales. The growth of gross sales was not as we.
Okay.
had initially contemplated in arriving at our initial guidance.
I guess when I saw the headline this morning, you know, that it was trade spend that kept the sales in the quarter from being stronger, I guess I expected to see gross sales up more and a trade spend up even more than it was. What is your outlook for the trade spend in the second half, you know, kind of as a percentage of gross sales?
Yes, Sean. Thanks.
Year or comparable for the second quarter?
Yeah. No. Thanks for bringing that up. No, we invested in Q2 in trade spend heavily to set up new distribution paths into our channels and new programs going into our channels. We're monitoring the trade spend in Q3 and Q4 and expect our trade spend to go down as we move in and fan out all of these distribution paths.
In addition, as we move forward, just looking back at the historical information, if you look at our sequential trade spend from Q1 through Q4 in the prior year, you see a significant acceleration in each respective quarter, culminating in Q4. If you look at where we're trending now versus where we were at Q4, we've added some additional layers of discipline and consistency in terms of how we optimize our trade spend. We expect that as a percentage of revenue trade spend will come down, which will allow us to drive both the absolute growth but also growth in the quarter-over-quarter comparatives.
Thank you. To circle back, I think, on Martin's question about the gross margin, you know, the impact on both of these. I think you're saying that the gross margin for water or, you know, branded water was relatively stable, but was relatively like about the same as last year or about the same as the first quarter?
I would say relatively stable in aggregate. The big weight on us is underutilization coming through in COGS. That's the primary driver of what we're seeing. The netting out of that is we continue to see increased efficiency on a run-by-run basis, both on our Flow branded products as well as on our co-packing products, which is a testament to the continued competence and capabilities of the team. Where we're having the increased pressure is starts, stops and the implications thereof from a cost structure of those on an operating facility. That's where we're seeing the biggest pressure.
As we see increased utilization, the efficiencies that we talk about on a line-by-line, run-by-run basis will start to come through in the P&L.
Okay.
Which is just as you look back to the comparable period in Q2, with, if I'm quoting correctly, I believe it was 35% gross margin, that's a testament to what we can do when you have utilization of the underlying assets as well as efficiency in the production process.
Right. Were the units down in your branded water? Really both, co-packing and branded water would have had that impact with lower units?
Yeah. From a unit standpoint, yes, because in the inventory position continues to improve as we focus on working capital. Overall units were down in aggregate through the facility.
Okay. All right. That's helpful. The last one, again, circling back to an earlier question, when you were talking about some of the puts and takes on growth in revenue, 3Q, you know, year-over-year growth, 3Q and 4Q, it sounded like you're kind of leaning towards maybe the fourth quarter would be a little bit stronger. But did I hear that right?
As a comp or as a in terms of absolute growth? To clarify, I think that the comps across the P&L become more favorable through Q3 and Q4, as you compare like for like cost structures as well as the potential for growth in Q3 and Q4. We believe that we will continue to see improvements across both metrics that we provided guidance on as we move forward to allow us to deliver the committed guidance that we've provided during this call.
Yeah. I think I was just looking for whether or not you expected the year-over-year revenue growth in the third quarter to be higher or lower than the year-over-year revenue growth in the fourth quarter.
year-over-year revenue growth.
Which quarter will-
Yeah. I would say relatively consistent.
Okay. Thank you. That's it for me.
Thank you, Sean.
Thank you, Sean.
Thank you. There are no further questions at this time. Ladies and gentlemen, this concludes your conference call for today. We thank you for your participation and we ask that you please disconnect your lines.