Aker Biomarine ASA

OSE:AKBM

Earnings Call Transcript 2022-Q3

[Matts Johansen, executive]

Good morning and welcome to the presentation of Aker BioMarine third quarter results where myself and CFO, Katrine Klaveness, will take you through the highlights and the key numbers from the quarter. After the presentation, we will host a Q&A session and you can already now start to type in your questions to [e-mail].

For the third quarter, Aker BioMarine delivered 10% growth on revenue and 28% growth on EBITDA. And for the second quarter in a row, we delivered black numbers on the bottom line with $5 million on net profit. We had a particularly strong harvesting quarter in the third quarter and year-to-date we have produced more than 50,000 tons of product which is 23% more than what we have done at the same time last year.

On the sales side, we have growth across all segments from Superba to Qrill Aqua and in Brands. And also in the third quarter, we signed the first commercial agreement for our new innovation Lysoveta, the new molecule that takes omega-3s across the blood brain barrier.

When we look at revenues, the third quarter revenues are impacted by quite some significant volumes being shifted in the Aqua segment from the third quarter to the fourth quarter. Nevertheless, we still delivered 10% top line growth and increased EBITDA is mainly driven by the improved margin from the Qrill Aqua segment.

Our harvesting operation in Antarctica has significantly increased its harvesting share during 2022. And for this year, we are harvesting more than 71% of all the krill harvest that's been done globally. That makes us the undisputed leader in the krill space.

Still only 2/3 to 70% of the available quota is being utilized. So there's still room for growth, both for Aker BioMarine and for competitors. The quota is set very conservatively at only 1% of the biomass. And this is one of the reasons why the krill fishery is rated one of the most sustainable fisheries in the world.

When we look at the relative performance in 2022, I would like to draw your attention to the graph on the middle of this page. If you look at the dark blue bars, that represents the harvest from our 2 oldest vessels, Saga Sea and Antarctic Sea. Those vessels have been in operation throughout the whole time period. And if you then compare the performance in 2022 with what we did in 2021 and 2020, you see a good improvement, but still not as good as we saw back in 2018 and 2019.

If you combine that data with the fact that we are significantly increasing our share of harvest, you can imagine that the performance of 2022 is mainly driven by improved efficiency by our operation Antarctica and not necessarily that is a particularly good krill harvesting year.

Our vessels are now in shipyard and about to finish this year's maintenance and at grade state. And we expect all 3 fishing vessels to be back in operation at the second half of November. That is a record early for Aker BioMarine. Unfortunately, we have another delay on our unmanned research drone or vessel, and it's now going to be delivered in the first quarter next year.

In the Animal Health and Nutrition segment or the Qrill Aqua segment as we call it, we see strong demand in the aquaculture segment globally. We have increased the prices in the third quarter and in the third quarter this year prices are 15% higher than what they were the same quarter a year ago. We lifted the prices coming into the third quarter based on the explosive inflation that we saw in raw materials that goes into the aquaculture industry.

Our pricing strategy has been to do a modest increase. It's what we did in the third quarter so that we didn't follow the other raw material prices back down if and when that would happen. And that is exactly what has happened. So most raw materials now coming into the aquaculture segment has dropped prices or that has dropped back down to the levels they were at before the war in Ukraine started.

We are also increasing our focus here in Aker BioMarine at the Norwegian salmon market. We believe there is a large untapped potential in our home market back here in Norway. So we have now dedicated the team that's working directly with the farmers here in Norway to help them explore the full benefit of our ingredients for growth, for health of the salmon, and for quality and possibility to differentiate and get higher price for the product.

Their goal is to make sure that we can tap into the full potential that we see here. We will continue to sell through feed producers, but it will drive demand directly with the farmers.

If you pay attention to the little illustration at the bottom left of this slide. So even if we have increased our prices now 15% in the quarter, still the economic value that our product generates mainly sits with our customers. That means there is still room for us to increase prices and demonstrate more value from our products as the customers get more confidence in the scientific data we have on our ingredients. That confidence is mainly built through farmers seeing the effect for themselves in their own farms.

Year-to-date, in the Qrill Aqua segment, we have about 20% volume growth in addition to the price increase we do now in the third quarter. And for the full year, we expect volume growth to be between 20% and 25%. That means we're going to have a particularly strong fourth quarter driven by some of those volumes I mentioned in the beginning that were shifted from the third quarter to the fourth quarter. Because of that, we have a little bit different seasonality between the third and fourth quarter in this segment than what we normally have.

So we show strong development in harvesting, we show strong development in the Qrill, the Q segment, but we're still behind in Superba. So even if we're growing in the third quarter with 11% on volumes and 4% on revenue, it's not enough to catch up the weak first half we had and beat the very strong fourth quarter we had last year.

Therefore, we are now downgrading our expectation for Superba this year to a 10% to 15% decline in revenues. And there's mainly 3 reasons why we're not able to deliver on our original targets. Number one and the most important one is the performance in Europe. We have a combination of volumes coming down, but also selling in euros so that the dollar income for the same volume is significantly lower now than what it used to be. We have a new leader in place for the European region in the beginning of October, a Spanish industry veteran, that is now implementing the acceleration plan for Europe to get that market back on track as soon as possible.

The second reason we're missing our target is the Chinese market. And we are actually growing this year between 50% and 100% in the Chinese market, but we were expecting more. It's one of the biggest potentials that we have since China is one of the biggest consumers of omega-3 in the world. The reason why we've not been able to meet our targets in China is mainly related to the COVID lockdown that we've been experiencing basically throughout the whole year and continue to experience. That means it's very difficult for our employees to travel to meet customers and the general business environment is challenging. And as a result, we haven't been able to take out the full potential that we saw for China in 2022.

The third reason for not meeting the target is the performance in the U.S. We're actually growing 15% year-to-date in the U.S. But again, we were expecting higher growth. We also had a very strong fourth quarter last year that's going to be hard to beat this year. And the main reason for not hitting the targets in U.S., it's 2-fold. It's retailers and customers optimizing their inventory levels to preserve cash coming into a potential recession. And number 2, it has taken longer time than earlier anticipated for our new sales force to convert the pipeline into hard business.

But when we look at the leading indicators or, let's say, the activity we see with customers, the interest from customers, the quality of the pipeline, we are confident that Superba is going to get back into its growth trajectory of between 15% and 20% on average per year starting in 2023 and beyond. And there's basically going to be 2 catalysts for that.

Number one is that the new sales force is actually starting to convert more and more of their opportunity pipeline into hard business. And the second one is a re-entry into the Korean market. And the status in the Korean market is we have now finalized our application for health claims together with the Ministry of Drugs and Food Safety in Korea. That means that the application is complete and is meeting all the requirements set by the government, and we're now just awaiting an approval from a review board. We expect that approval to come during the fourth quarter.

As you might remember, the Korean market has been a significant market for us historically. In 2019 and 2020, it represented between $25 million and $27 million of revenue. But because that explosive growth attracted unserious players doing -- making outrageous claims or selling fake products, the regulation or the government in Korea overnight decided to change regulation for krill oil to be something much more similar to pharmaceutical regulation. That means that the quality of the product and the product itself needs to be approved by the government and all the scientific documentation that's backing up your health plans also needs to be approved by the government.

And that's what's now completed in that application or that documentation that they require. Once we have an approval, we can start importing products again in Korea. And we will together with our partners start building up marketing, home shopping and get growth in the Korean market throughout 2023. That's going to be an important catalyst for our growth going forward.

I also wanted to give an update on the sales acceleration plan. So starting with the organizational reset with a new leader in Europe in place, that reset is now more or less done. That means we have the right leadership and the right sales reps to be able to deliver on the full potential that we see for Superba. Also our pipeline, opportunity pipeline, is being strengthened and you can see that illustrated here on the little illustration to the left.

The gray part of that circle represent the 2022 business that we're carrying over, so the run rate we have in 2022 coming into 2023. And the blue part represents the opportunity pipeline that we're going to convert into business in 2023. That makes us confident to be getting growth back into Superba. We're also now delivering on our innovation promises and actually tomorrow, we're launching the PL+ globally to the industry at the biggest trade show for our industry in the world in Las Vegas.

And will be made available to all the customers, all the industry out there and we're really looking forward to see the feedback we get from customers. Also as mentioned in the beginning, Lysoveta is now starting to reach into commercial stage and we are -- or we signed the first commercial agreement for Lysoveta during the third quarter.

Also worth mentioning when it comes to product is that we have strengthened our patent portfolio, both in Europe and in U.S., in the quarter as 2 patent families has been challenged in the patent court and have stood strong. Meaning that all the evidence available have been pushed forward, the courts have looked at it and they have concluded that the patents are valid. That means there is -- these patterns are challenged patents that have stood the challenge, and they are more or less unbreakable.

And last but not least, the regulatory work. We touch into the situation in Korea, but we have also other regulatory work streams to open up new possibility for Superba. One is arthritis health claim that we have applied with the Australian government. That is in with the government now and we're expecting clarification within the next 3 to 6 months. And then we have several health claims filed in China, something called blue hats, where we're expecting some of them to start converting in '23 and '24.

On the branded side, we're showing 10% growth for the third quarter where we see growth both in Kori and in the private label part of the business. 2022 has been a transition year for the private label business as we have new management coming in in April and the founding management has exited. And the focus for the new management is to get the company ready for the next wave of growth.

And we are therefore glad to report that we have already this year won significant business that we are going to start to deliver in 2023, securing a good start for next year. The private label business was also hit by inflation in the third quarter. That's when the price increases for the raw materials resource started to hit in the products we sold out to retail.

In parallel, we have planned price increases with retailers to compensate for that. But those price increases were only agreed with the retailers in September, which means we have limited impact of that in the quarter.

And as you can see on the graph in the middle, you see the third quarter margins -- gross margins for Lang dropping significantly from Q2 and the blue one represents the gross margin we will have in the fourth quarter based on those price increases that we are already implementing. So basically compensating for the price inflation and more.

For Kori, continue to develop positively and we're also expanding the product portfolio. And this quarter, we launched krill oil gummy for those consumers that don't like to take a pill; could be children, could be others. It's actually one of the fastest-growing categories in the supplement industry in the U.S. That product is now being tested to be tuned on Amazon and it's currently now being presented to retailers to potentially go on shelf in spring next year.

[Katrine Klaveness, executive]

Good morning. I will take you through the financial figures for the third quarter. Third quarter was a somewhat disappointing quarter with respect to sales, although revenue was 10% up from the same period last year driven by increased Aqua sales and higher Kori sales out of Epion while Superba was up 4% from third quarter last year.

However, the quarter was a solid quarter with respect to profitability. Gross margins at 46% for the group, up from 35% in Q3 last year and 42% from the second quarter this year. The main driver is the improved harvesting level and also higher Aqua prices and Kori sales.

EBITDA margins were at a healthy 28% as a result of strong gross margins and good cost control despite certain cost inflation items. Also in the quarter, we had an internal profit realization of about $1.5 million as brands sold more to external customers than the ingredient segment sold to the brand segment. Net interest-bearing debt is at $360 million, slightly up from the second quarter as a result of investments in key projects in the quarter.

A bit more details on each of the segments, starting with the Ingredients segment. Revenue is up 10% at $44 million compared to Q3 last year at $40 million. Aqua is driving most of the growth with 24% increase, but also Superba is up 4% year-over-year. Our QHP product, the Qrill high protein, is down in the quarter as a result of the current production stop in Houston as QHP is a byproduct of the oil extraction process.

Gross margin for the segment was 48%, up from 42% same quarter last year. The reason being the higher harvesting volumes first half of the year, translating into lower unit costs and lower unit cost and lower cost when the Aqua product is sold throughout the rest of the year. Also a 15% price increase has been implemented for the Aqua product which is supporting margin growth.

Adjusted EBITDA was $15 million, leading to a 34% adjusted EBITDA margin, slightly down from Q3 last year at $16 million with a corresponding 39% adjusted EBITDA margin. The reason for higher EBITDA and EBITDA margin in Q3 last year despite lower sales and lower gross margin was an extraordinary effect from the fuel auction rebalancing we did in Q3 last year to reflect future fuel consumption.

Moving over to the Brand segment. Revenue was up 10% at $27 million compared to $25 million Q3 last year. Both Epion and Lang sales are up, but the main driver is the increased sale of the national brand Kori. Kori also increased sales from the second quarter this year to the third quarter. Lang has been struggling with supply chain issues related to outsourced quality work and sourcing of key ingredients.

This has led to certain delivery issues with key customers as well as higher costs in the period. The company implemented a price increase across most product categories in September and hence the effect of this price increase is not showing in full in this quarter.

Gross margin for the segment is 32%, up from 22% in Q3 last year due to the relatively higher sales of the Kori brand than private label brands as Kori is carrying a higher gross margin. Adjusted EBITDA is $1.3 million with a margin of 5% compared to minus $1.2 million and negative 5% EBITDA margin same period last year. The positive EBITDA contribution from Lang is partly offset by a negative EBITDA from Epion as a result of continued investment in marketing activities for the brand.

Then let me point to a couple of items in the P&L. First, as mentioned, the positive effect from the increased harvesting can be seen in our COGS figure. The quarter shows higher sales combined with lower cost of goods sold. Second, net financial items last year carried a change in the Lang earn out leading to a financial gain. Thirdly, depreciation for production-related assets is lower due to extended useful life of Saga Sea from 2025 to 2029. And finally, we show a net result of $4.6 million and a year-to-date net result of $9.8 million.

For the balance sheet the largest change items relate to, firstly, the plastic company, AION is booked as an investment in associated companies at fair value. Second, inventory now amounts to $180 million, up from $150 million year ago. This is mainly driven by the buildup of Superba oil up until second quarter this year, but lately also the Aqua meal buildup through 2022 as a result of the strong harvesting. The current Houston shutdown is reducing the krill oil inventory as planned and we have full flexibility to await restart until the Superba inventory are at the right safety stock levels.

Thirdly, cash is at $13.5 million and including our derivative item related to the fuel hedge, total cash and cash equivalents amounts to $26.6 million. The company had to utilize the leverage covenant waiver option that was granted by the banks earlier this year also for the third quarter. However, based on the current annual targets presented by Matts earlier today, we expect to report below original covenant thresholds for the fourth quarter. Finally, equity ratio per September 30th was 48%.

Finally, the cash flow statement. The company reports positive cash flow from operating activities despite a significant buildup of inventory, mainly Aqua meal and accounts receivable in the period. A large portion of the Aqua meal will be sold during Q4 and we expect to exit the year with a normalized end of year balance of Aqua products similar to last year.

Cash flow from financing activities relates to investments in the sea protein plant, Lysoveta production preparations in Houston and other certain Houston upgrades. Net cash flow in the quarter was negative $3.6 million.

[Matts Johansen, executive]

Yes. So some of what we have talked about now, we see that for 2022 as a whole the revenue growth rate is a bit down, but margins are equally up, meaning that we are keeping our targets for earnings and EBITDA. And as you heard, the downwards effect is coming from a weak development for Superba while we're getting a positive impact from a strong development, especially on margins on the Qrill Aqua segment.

So now we'll open up our Q&A session. You can write in your questions to [e-mail] as you can see on the screen.

[Unknown Executive]

A few questions have come in already. Starting with a couple of questions on Qrill Aqua. First one from Torkel Dalan, Nordea. Can you please provide some clarity in how and why you shift volumes Qrill Aqua from Q3 to Q4?

[Matts Johansen, executive]

So there's 2 particular kind of customers or/and orders that's been impacted, 2 large ones that's been shifted. One was shifted related to basically logistical challenges to get the product out to the customer on time. And the second relates to the Chinese market where there has been inflation regulation in the Chinese market, stopping few producers to increase the price for their feed as much as they need to incorporate the price increases, not from Qrill, but from everything else, putting them right now in a deadlock situation. Now with the prices from the other raw materials coming down, that problem is solved and it's business as usual in China.

[Unknown Executive]

Follow up with inventories have increased. Is there a rush to get the products out with respect to expiring date, et cetera, on Qrill Aqua that is?

[Matts Johansen, executive]

Yes. No, I -- no, it's not. So the inventory level we have now is the inventory level we need to serve customers in the fourth quarter and the first quarter before we get new products from the new season.

[Unknown Executive]

Thank you. Still on Qrill Aqua, do you see the need to decrease prices in the near future? Could you comment a bit more on the demand and customer sentiment for this segment?

[Matts Johansen, executive]

So we don't see that we're going to reduce prices. Like I talked about in the presentation, we consciously increased our prices driven by the value of our product and not kind of follow the volatility on the general commodity market. So we don't foresee dropping prices. And we see generally as time goes by as we have more science, customers get more and more favorable about the benefits of krill and are willing to pay more for the product.

[Unknown Executive]

Carl-Emil Johannessen at Pareto is following up on the Qrill Aqua side. Can you say something about the current storage of Qrill Aqua and what should we expect into 2023? Will there be growth in both volumes and price or limited volume growth potential, assuming the same sort of harvest volumes as we saw last years?

[Matts Johansen, executive]

We're going to have growth coming into next year just to match the harvesting levels. It takes some time to shift the products out to customers. So you will have growth as a result of that. Also we implemented price increases in the third quarter. So you will have a full year effect of that into 2023 which will also drive the average price up for 2023.

[Unknown Executive]

Going back to Torkel Dalan, Nordea, a question to you, Katrine. How are the bank -- how are the talks with the banks? Going forward, how long did the banks agreed to keep the new covenant on 6.5?

[Katrine Klaveness, executive]

So we had an optional waiver for -- throughout the year. So we also have a potential waiver for Q4, if that is required. But as I mentioned in my presentation, based on the current prognosis we don't see the requirement of that waiver. So I would say we have a very good dialogue with the banks related to this topic.

[Unknown Executive]

Thank you. A question here from unanimous -- anonymous that is. You say that you have submitted a health claim application for Superba in South Korea. If approved, what are your sales expectations for 2023 for this market?

[Matts Johansen, executive]

Yes. So the moment we get approval, we can start importing product to Korea and together with our partner, we will start building up team advertising, marketing, home shopping the way it was done previously. We expect the sales to ramp up through the year. We'll see how much of the volumes we saw in 2019 and 2020 are going to be able to realize in 2023. Can depend on manufacturers, the success of our campaigns, the general consumer sentiment in the market, and so on. But I expect significant impact from the Korean market in 2023 when we have the approval.

[Unknown Executive]

That seems to conclude the Q&A session.

[Matts Johansen, executive]

Okay. Thank you for joining us today.