Andrew Peller Ltd

TSX:ADW.A

Earnings Call Transcript 2019-Q4

[Operator]

Good morning, ladies and gentlemen, and welcome to the Andrew Peller Limited Fiscal 2019 Investor Conference Call. I would now like to turn the meeting over to Mr. David Mills. Please go ahead, Mr. Mills.

[David George Mills]

Thank you, Martha, and good morning, everyone. Before we begin, let me remind you that during this conference call, we may make statements containing forward-looking information. This forward-looking information is based on a number of assumptions and is subject to a number of known and unknown risks and uncertainties that could cause actual results to differ materially from those disclosed or implied. We direct you to our earnings release, MD&A and other security filings for additional information about these assumptions, risks and uncertainties.I'll now turn it over to John Peller, Chief Executive officer.

[John E. Peller, Executive Chairman & CEO]

Thank you for that wonderfully legal introduction, David. And good morning, everyone, it's good to be with you here in another kind of cold, wet spring day. But I'm with Steve and Randy, and I'm just going to make some introductory comments and then pass it over to them.Our fiscal 2019 was another positive year for our company. We had record sales revenue again this year. Our sales were up almost 5% and as well our gross margin improved to 41.6%. And I wanted to highlight how proud I am of the effort our operations team has put into build our efficiency. And actually our adjusted net earnings were up compared to last year as well. I think if we look back over the last 5 years, you're seeing our sales rising on an average of 5% compound annual basis, which is very strong growth for a consumer product company. And our EBITA has grown almost at a 12% clip for the same period and our net earnings has increased 21% over that same period. Naturally, we're still focused on wine as our core business category. And within wine, we've put a great deal of effort into building and strengthening our premium VQA portfolio. We have, without reservation, the best profile and portfolio of premium VQA products with the largest share in both Ontario and BC of the premium VQA wines. We have an incredible stable of brands and estates and they grew well this year, and the future looks very, very bright. In our core value wine category this year, it was a little bumpier and very competitive. And while not everything went our way, we've put a lot of effort in to ensure that our portfolio is strong and poised for growth this year.I think the story strategically is we've -- in addition to our core wine focus, we have expanded into both craft refreshment and craft spirits. It's taken a great deal of effort and resource to establish our initial positions in these businesses. Our craft whiskey has done very, very well, and this year we've launched our craft Gretzky 99 Rye Lager, now available at the LCBO in its first year, and it's off to a very, very positive start. But equally, our No Boats cider brand has had a very strong year again, and this will create great opportunities for us to grow our business going forward. Randy is going to spend more time discussing some of the investment and activities in these areas.If you hopefully read The Globe and Mail this Saturday, you will have seen a profile article on companies who are managing consistent increases in dividend over the last 10 years. The Globe gave a very generous nod to the fact that these companies represent the best managed companies on TSX, and I was very proud to see that we were one of the 37 companies that they profiled for having been very well managed and consistently increasing dividends over the 10-year period. And in that vein, we're pleased to announce another increase in our common share dividends this year, the fifth in the last 5 years. Effective with the July payment, dividends will be increased by 4.8% on an annualized basis, $0.215 for our Class A shares and $0.187 for our Class B shares. This dividend reflects the confidence we have in our company's strong financial position and our confidence in the future to grow and our commitment to enhance shareholder value. A number of you have been following the fact that we have a significant project in British Columbia with the original property we purchased in Port Moody. We've made solid progress this year on our efforts to rezone our property to increase the zoning from industrial to complex retail and residential zoning. We're at the last stage of that process and going before the City Council of Port Moody in late July and hopefully we'll have some very good news there at our AGM. A number of key developments in our industry you may be following involve the political landscape in Ontario and the Port government's push towards retail convenience. In fact, they have announced in the last week that they'll be increasing the number of agency store licenses predominantly in overall Ontario by some factor, I think, 85 licenses. They were also prepared to launch additional licenses of beer and wine into the grocery system in and around 100, I believe, and that certainly will help them achieve their goal. As far as anything beyond that, their principal focus has been negotiating with the breweries and we've been somewhat delegated to the sideline in these discussions. We've not heard that the -- their negotiations aren't anywhere near conclusion. And we remain focused that, to the best of our knowledge, there has been no financial due diligence done on any potential major changes to the beverage alcohol system, which noting it's a $50 billion to $70 billion economy with 25,000 jobs, one would expect that any change in policy would be developed and based on a very sound financial due diligence as to how the system will change going forward, and to this date we don't believe anything has been done. And then provincially, you'll continue to hear lots of rah-rah around the hope to change those rules but though they keep meeting, there's absolutely no sign that they're making any progress. And additionally, we are now hearing more about the U.S., Canadian, Mexico trade agreement that they hope to get passed in Congress in the summer. We don't have any issues with anything that has been proposed in that agreement. It's not impacting to our industry but we do know that the President is strengthening duties on French wine right now, and the potential for this to go offside is still considerable. But faced with these critical challenges, we do what we do best and that is provide consumers and customers with great products. And we are set-up, as I said, very well to continue to grow and build our business as we go forward.So with that, I'll pass it over to Steve.

[Steven J. Attridge, Executive VP of IT & CFO]

Thanks, John. As John mentioned, fiscal 2019 was another strong year for the company with solid sales growth, strong operating performance and significant investments in our sales and marketing activities and we're confident we'll generate continued sales growth as we go forward. Sales were up 4.9% for the year ended March 31, 2019, driven by the acquisition of 3 estate wineries in October of '17 as well as solid performance across the majority of our trade channels and the introduction of new products throughout the year. Through the second half of the year, sales were impacted by increased competition from new lower-priced import wines, primarily in our Western Canadian market, and general softening in wine sales across the country. These factors resulted in sales in the fourth quarter remaining flat with the prior year. Wine sales in English Canada softened from previous periods and despite this, our share of English Canada wine market remains strong and stable at 10.2%, comparable with prior year, a reflection of our strong product portfolio, our reputation for delivering value and the loyalty of our growing consumer base. We continue to benefit from the rationalization of our product lines, our increased focus on higher-margin products and our cost-control initiatives over the last few years to enhance efficiency and reduce cost. As a result, gross margin improved again in fiscal '19 to 41.6% of sales compared to 41.3% in the prior year.As we've discussed in the past, our acquisition of 3 wineries in October of 2017 reported an increase of $10.4 million to inventory to represent the fair value of the goods acquired. This increase has been expensed to earnings as these goods are sold, thus reducing gross margin. As a result, in fiscal 2019 we recorded a charge of $5.5 million to the cost of goods sold compared to $3 million in fiscal 2018. The major impact on our earnings in fiscal 2019 was an increase in our selling and administrative expenses compared to the prior year. As John mentioned and Randy will provide more detail, we've invested significantly during the year in building our marketing team, extensive consumer research, large innovation projects and the creation of marketing campaigns for the launch of Peller Family Vineyards and No. 99 Rye Lager. Thus, while these higher costs impacted our results last year, we expect the benefits of these initiatives will be seen in increased sales during fiscal 2020 and going forward, thus reducing selling and administrative expenses as a percentage of revenue. In the fourth quarter, you can see a significant reduction in sales and admin expenses driven by our focus on cost reduction and growing synergies we are realizing with the acquisitions complete in late 2017. With the increase in selling and admin expenses and the larger charge to cost of sales related to the acquisition accounting, EBITA was $52.9 million in fiscal 2019, consistent with the prior year. Adjusted EBITA, which includes onetime acquisition-related charges, was $58.3 million, up from $57.2 million in fiscal 2018. Interest expense in fiscal '19 due to the long-term debt incurred to complete the acquisition in October of '17, amortization expense was also higher due to the addition of 3 new wineries and investments made throughout the year to enhance operation and production efficiencies. We posted unrealized noncash losses for the 3 months and year-ended March 31, 2019, compared to unrealized gains in the prior year. These reflect the mark-to-market adjustments to our interest rate swaps and foreign exchange contracts, which have changed primarily due to the reduction in forward interest rates based on the Canadian economic outlook. Net earnings in fiscal 2019 were $22 million or $0.51 per Class A share, down from last year due, again, to the increase in selling and admin expenses and the larger charge to cost of sales related to the acquisitions in 2017. Net earnings in fiscal 2018 also included a $4.2 million onetime gain related to one of the acquisitions completed in October of 2017. However, adjusted net earnings removing the onetime cost related to the acquisitions' unrealized gains and losses on our derivative financial instruments and nonrecurring, nonoperating gains and losses rose to $29.4 million, up from $29.3 million last year.Turning to our balance sheet. Overall debt continued to decline falling to $154.8 million from $171.7 million at March '18 year-end. The reduction is due to cash flows from operations, positive impact of working capital management and our regular debt repayments. Company generated cash from operating activities in fiscal '19 of $49 million, up from $21.7 million in the prior year. Shareholders' equity rose to $234.8 million or $5.31 per common share, up from $4.99 per share in March 31, 2018. At year-end, we had capacity on our operating credit facility of approximately $51.8 million with another $102.8 million on our investment facility, providing us with ample liquidity and flexibility to fund our growth programs going forward.In summary, fiscal 2019 was another strong year for the company. We're confident the investments made will generate continued growth and strong operating performance going forward. Thanks for your time and attention this morning, and now I'll turn things over to Randy.

[Randy A. Powell, President]

Great. Thanks very much, Steve, and good morning, everyone. I would join both John and Steve in saying that it was a very -- another strong year for us and we're very confident in the moves that we made. With that being said, it was a busy year, this past year. I'd like to spend a few minutes to kind of discussing some of the accomplishments of the last year. And more importantly, how they set us up for success as we go forward.First, we continued to integrate the 3 wonderful acquisitions that we made in October of 2017, that being Black Hills, Tinhorn Creek and Gray Monk. The integrations are now largely complete and we're starting to see the synergies, the cost and operating synergies, that we expected when we closed the transaction. This was a major project and a major focus of the organization over the last 18 months and I don't want to understate that. As we all know, making acquisitions at the time seems incredibly challenging but the real challenge and opportunity is how you integrate them, and I'm very pleased with our results to date and all of us are thrilled to have these 3 great brands in our portfolio for the future.During fiscal '19, we expanded and rebuilt our marketing team. I've commented on this before, we've added new and experienced people that we believe will really drive our more consumer-centric approach as we go forward. We're confident we have some of the very best in the business and we know they'll make us better as we move forward. One of the fastest-growing segments in beverage alcohol that John commented on earlier is the ready-to-drink segment. Our participation in that segment is through No Boats on Sunday cider. We've seen stellar growth in this product over the last number of years and we've introduced a new cranberry cider, which is being expanded nationally across the country at the current time. To be clear, this is within this space, this is one of the fastest-growing ciders and RTDs across the country, and we really believe it is providing us not only with great results now but a wonderful platform as we look for forward, so stay tuned and watch this space.We continued to see really strong performance in our wine shops, our retail stores, across Ontario. We're now also testing a new upscale look in tasting bar concept. We've opened 3 stores in the past few months, one in Markham, one at Square One and one at Bay and Wellesley. The early results are encouraging and I would encourage you to drop into one of the stores and get the experience for yourself. It is more than a simple retail transaction but more experiential and we're excited about what future that may hold for us. Our Trius brand has always been a very popular offering for the company but largely through our estate sales, and we're excited that we have launched 4 new listings at the LCBO here in Ontario and expect to see some strong growth in this premium brand in the quarters and years to come. Similarly, we've all seen the popularity of Rosé across the country. We have invested a significant amount of time and attention, and seen wonderful results from that over the past year, and we're kind of doubling down those efforts, if you will, in the coming year and expect to see continued very, very strong results across our entire brand portfolio.Perhaps, I'll take a few minutes to comment on our personal winemaking business, Global Vintners, which continues to perform well. Couple of things to note on Global Vintners, one is in 2019, we announced a plan to consolidate our western production facility in British Columbia into our Scott Street facility here in Ontario. This will generate some sizable efficiencies, which is very much a positive as we look at this business going forward. We'll also be introducing some new packaging and formats. One in particular, the new bag-in-box format that we're excited about and believe will show some growth for this strong segment of our business.With all that said, our largest projects coming out of 2019 was the relaunch of Peller Family Vineyards in April and then, as John had mentioned, the most recent introduction into the craft beer segment for us here at Andrew Peller was the Wayne Gretzky 99 Rye Lager. So let me expand a little bit on these 2 sizable initiatives. The Peller Family Vineyards brand and its relaunch has been a long time in the making. While our premium and ultra-premium VQA Peller brands continue to flourish, we really believe that we wanted to ensure that the most popular priced wines in that Peller portfolio got their own individual attention, hence the launch of Peller Family Vineyards. As a result, in the past year we have developed new and unique and differentiated programs for this very important segment of our business. We've reformulated our product quality with upgrades, we have innovated packaging and formats, we have introduced and launched a digital advertising and full TV campaign that are currently running on major networks across Canada and will be throughout the year. This is the company's largest media campaign in more than 25 years. The ads celebrate life's perfectly imperfect moments, while positioning Peller Family Vineyards as a signature for quality but also approachability, how we position it in the advertising is Vinted for Real Life. So we really believe that this will have an impact on our business in a positive way, obviously. We've taken this to our trade partners. They're very excited about what we're doing. And as a result of that, we're seeing lots of retail programming and leveraging of this consumer spend in stores, and we hope to see that to manifest itself in strong growth in the years to come and certainly in this year. So as you're watching TV, I hope you have opportunity to see it and hope you enjoy them.The second major initiative, of course, noted earlier, was the Gretzky 99 Rye Lager, really building on our success within the premium products category. Borne of cross-category innovation as was Red Cask whiskey, our whiskey oak aged red wine. It's uniquely brewed with rye grain. It delivers a crisp, clean taste of the classic lager but with an extra layer of depth and zest and freshness, there's nothing like it on the market. Hands down, there's nothing like it on the market and the reviews early have been very positive on the product itself. As John said earlier, it's currently available at the LCBO today in Ontario, also at our Wayne Gretzky estate, where we have a beautiful new beer garden that we just opened a week ago and in select Ontario restaurants. We'll broaden that distribution as we come into the fall here in Ontario.So in summary, as I said at the beginning, it was a busy year but I think a very productive year. We invested a tremendous amount of effort to build for the future, and we believe that we will start to see our performance benefit from that as we look to the quarters and years ahead. Thank you for your time, everybody. That's all I have to say this morning, so perhaps I'll open it up for any questions that any of you may have.

[Operator]

[Operator Instructions] Our first question is from Nick Corcoran from Acumen Capital.

[Nick Corcoran, Equity Research Analyst]

Congratulations on a great year.

[Randy A. Powell, President]

Thanks, Nick.

[Nick Corcoran, Equity Research Analyst]

So just a couple of questions from me. I just wanted to discuss the impact that the imported wines had on your revenue and gross margin here. Can you just give a little bit more detail on that and whether you expect this to be temporary or something that'll perhaps continue for the foreseeable future?

[Randy A. Powell, President]

Yes. Certainly. From -- Nick, from time to time, we have seen that lower-cost imports will come into the market and they'll create a little bit of disruption, it kind of comes in waves. And I think that's what we've experienced in the last short while is maybe a little bit more than we would -- that we had seen more recently. It's difficult to tell kind of how long they'll be around, it tends to be vintage related. So if there's a big crop somewhere -- they -- we often will see more of that wine being exported or, in our case, imported into our country. Our -- so there's no real, we've seen this cycle many times. There's no easy way to tell you how long or short it is, what I can tell you is that the way that we overcome that every time is to make sure that we're building great brands and we're providing consumers with great value on an ongoing basis.

[John E. Peller, Executive Chairman & CEO]

And Nick, it's John here. It is a key policy issue for us. We're offended that the liquor boards will discount wine from countries that do not accept discounted wine from any other country. For example, we have a label super-dumped, low-price Spanish wine right now and Spain has 100% market share of its own country and would never allow anyone to dump wine in their country. So the fact that the liquor boards in BC and Ontario are promoting this is totally at cross-purposes with the concepts of free and fair trade, and we are definitely making representations to both governments now aggressively. I point out to them, they don't make a lot of efforts to liquor boards to sell discounted whiskey in any of their stores, they never would. So why are they allowing it to happen in our category? So I'm hopeful that our efforts will have that fixed within the year.

[Nick Corcoran, Equity Research Analyst]

That's good color. And maybe just drilling in a little bit deeper, is there anything you can point to that might be happening in a market like Spain, like a big crop or is it something that it comes in waves and there's no real connection there?

[John E. Peller, Executive Chairman & CEO]

Well, I mean, the -- all the wine countries around the world provide export subsidies to their products. So as I was talking with David Mills earlier, he's finding Chilean wine here in Canada that are cheaper in our market that they are in Chile. And I -- and particularly with Spain, they have such a huge wine surplus that they always have excess wine they're looking to get rid of, as does France, as does Italy. But they have an agreement with the 3 of them that they don't dump wine into each other's countries. So this is not a problem that will ever go away, it behooves government to be responsible in terms of -- we let more Italian, French and Spanish wine into our country than any other country on the earth as a percentage of our total business. There's no reason for them to do this, it's -- they take advantage of some liquor board staff, whose eyes are not on the ball, and then we have to go in to the government and get it fixed.

[Nick Corcoran, Equity Research Analyst]

Then maybe switching to domestic. Can you speak to what your outlook for Western Canada is? I know the commentary was that it's been a little bit soft. Is that something you expect to be short term or, again, is this something that might be longer term in nature?

[John E. Peller, Executive Chairman & CEO]

I think in the case of Western Canada, there is economic softness in Alberta that is quite pervasive in the economy and then overall consumer spending is soft there. And we're not seeing any softness in the wine growth around North America or anywhere else in other than maybe liquor board trade channels, where their own listing and marketing practices affect what it is they sell. So for example, in the LCBO, they have been heavily focused on craft beer and ready-to-drink canned beverages and they've hugely increased distributionals and they have given less attention to our wine category, so that has a self-fulfilling prophecy. We -- it's far too early for us to comment on cannabis' impact on the category. I can tell you all around North America the same wine trends that have been in place for the last 25 years are still following the same 3% kind of growth rate. The only place we've seen a little softness is in Western Canada and at the LCBO in Ontario and we'll be monitoring it very closely. I expect that to be temporary, not permanent.

[Nick Corcoran, Equity Research Analyst]

Great. And then the last question for me is the selling and distribution costs were down in the quarter, is that a new normal that we might see going forward? Or should we expect any maybe onetime cost in fiscal '20?

[Randy A. Powell, President]

I think our SG&A kind of been fairly consistent on kind of our approach to SG&A, which was investing in building our consumer brands and in innovation. I think as -- that's a strategy that we will continue to undertake. They tend -- Nick, they tend to go up and down versus year ago by quarter. But I think our commitment is there to continue to build our brands and innovate. With that said, I do believe as a percentage of sales, if we're successful, then that should drive revenue and see that as a percentage perhaps come down a little bit. But I don't want to come off the strategy that we will continue to invest in these brands and innovate.

[Operator]

The following question is from Amr Ezzat from Echelon Partners.

[Amr Ezzat, Analyst]

When I'm thinking about the fourth quarter last year, how has your product portfolio evolved? Maybe you could remind us, I guess, of the number of SKUs you had going into the quarter and how that compares to last year in light of the product rationalization that you guys have been working on?

[Randy A. Powell, President]

Yes, I don't know it by the exact number of SKUs by quarter. But I -- but last year -- coming out of last year and into this year, we rationalized about 25% of our SKUs. And -- but you felt it kind of both as the -- as we came out of last year and probably felt the remainder of that in this fiscal year. So I'd say that SKU rationalization took place over the 2 fiscal years, it covered the 2 fiscal years. As we come into -- have now entered into our new fiscal year, that's by and large behind us. But think of it as across those 2 fiscal years, 25% of our SKUs were reduced and roughly 1/3, about 30% of the brands that we have in that portfolio were also reduced, allowing us to focus on the rebirth of brands like Peller Family Vineyards and the launch of an expansion of Gretzky and No Boats.

[Amr Ezzat, Analyst]

Great. That's helpful. Then I guess when I'm thinking about new product development, we've seen you guys launch whiskey and spirits, obviously the craft beer, cider, maybe a comment on performance of these new products, maybe it's early days for the Rye Lager, but how is it tracking relative to your expectations for each of the products?

[Randy A. Powell, President]

Certainly. Well, we're -- as you know, we're long-term investors and one of the wonderful benefits we have in the Peller Family's oversight of the company is that we make long-term investments. And so as we look at moving into these neighboring segments being spirits and cider and now craft beer, we're doing so with the belief that it's a long term -- it's a long game. We are very happy with all 3 of the segments that we've entered, No Boats has done ridiculously well, I would say that it far -- overachieved our expectations where it has really created a great RTD platform for us, so it's doing extremely well. Our entry into the spirits business through Gretzky Canadian whiskey has been quite strong and -- so we're, again, quite happy, I mean, to tell you that we're getting double-digit growth means nothing because it's a relatively small base but it is strong growth. It's very early days though and we haven't got any offtake information on the craft beer yet, although we do believe our research would say that it should stand quite tall in our Gretzky portfolio when all is said and done. We'll have lots of -- lot better insight on the beer as we come to our next quarter.

[Amr Ezzat, Analyst]

Then I guess like maybe on the beer and just the whiskey in general, like you guys had an export market initiative, south of the border for whiskey, how's that going? Then maybe will you guys have the same sort of plans for the Rye Lager?

[Steven J. Attridge, Executive VP of IT & CFO]

So our export business is primarily focused on our very successful ice wine business, as you know, and that continues to do quite well. The whiskey, we have carefully moved into a small U.S. test market, so we're in 3 or 4 U.S. states in the Midwest. It's doing very, very well. But we want to make sure that we establish it, like we do with all our products, we want to make sure that we give it the proper consumer support and we establish it in those markets before we roll out. So I think that that's kind of our -- what our approach has been on the whiskey, and I suspect that we'll continue to do that. We see the growth that we're seeing now, if that continues, we'll start to roll across more of the states but, again, taking our time, we don't want a launch-and-leave kind of approach, when we go in, we properly consumer support it. From the beer, just much too early to -- my focus now is to make it successful in the distribution that we have. I believe it will be successful, we'll expand in Ontario in the fall and assuming that, that continues to go well, then of course there's opportunity to go national and, of course, other products within the portfolio, which we're -- have well under development. But the U.S., at this point, would be too early to make comment on the beer.

[Amr Ezzat, Analyst]

Okay. I thought the whiskey was more than just a test market. Maybe on the Port Moody property, assuming you're successful in July with the City Council, is the plan then to monetize shortly thereafter? Or are you guys looking to keep this on your books? And I think when we spoke about value last year, when we were talking about $20 million to $30 million being a low-end range, is that still the case?

[John E. Peller, Executive Chairman & CEO]

I think the -- obviously, the value of the property is predicated on its improved zoning. So it's still a little premature for us to comment on value, but it's definitely in the tens of million, it's not hundreds of thousands. So we're -- we feel better that we have greater certainty around that value through -- getting through this process, as I said, we're expected to get through it before the AGM, and so we'll comment more at that time.

[Operator]

[Operator Instructions] Our following question is from Scott Carscallen from Mackenzie Investments.

[Scott Carscallen]

I'm just wondering just to the rising costs of the bulk wine purchases. Do you have any visibility on how long this pressure will likely last? I recall you saying that the regions that you buy from, some of them had a bad crop cycle last year, resulting in a tight supply. But they were trying to come in at the end of that cycle, they were doing a new harvest and there were signs that supply volumes appeared to be back to normal. So maybe you can just elaborate a bit on that?

[Randy A. Powell, President]

Yes, I think it's actually what you said, Scott, last year we had some shorter crops in the southern hemisphere and they're finishing up their harvest now, actually have finished up pretty much their harvest now and it looks they're -- we're back to kind of regular yields.

[Operator]

We have no further questions registered at this time. I would now like to turn the meeting back over to Mr. Powell.

[Randy A. Powell, President]

All right. Well, thanks again, everybody, for joining us today. We always look forward to chatting to all of you in the market. If you have any further questions, please don't hesitate to give us a call at any time. Have a wonderful day.

[John E. Peller, Executive Chairman & CEO]

And Randy, I just want to add to people our AGM is on September 11 at Gretzky again this year. And in the middle of August at the company, we're proud of our reputation for throwing great parties, we're having a Wine Country Fair at the Peller Estates on August 17, it's an amazing event, if you're in the neighborhood, drop by. So thanks and I guess we'll report back to people middle of August after we have our first quarter performance. Thank you.

[Operator]

Thank you. The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.