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Good afternoon. At this time, I'd like to welcome everyone to the Liquor Stores N.A. Ltd. First Quarter 2018 Earnings Results Call. [Operator Instructions] A copy of the company's earning press release and management discussion and analysis is available on their website and includes cautionary language about forward-looking statements, risks and uncertainties, which also apply to the discussions during today's conference call.All amounts discussed on today's call are quoted in Canadian dollars, with the exception of the U.S. same-store sales, which are quoted in US dollars.I would now like to turn the call over to Mr. James Burns, Liquor Stores' Chief Executive Officer. Please go ahead, sir.
Thank you, operator. Good afternoon, everyone, and thank you all for your interest in our company.With me here in Edmonton is our CFO, David Gordey. As discussed in detail in our MD&As for the past 2 quarters, we've launched a strategic plan to regain our market leadership in liquor and establish a world-class cannabis business.As we focus on long-term value enhancement for our shareholders over the next 2 to 3 years, our results in the interim will need to be viewed in the context of the myriad of initiatives underway to become a dynamic growth-oriented company.Since our last earnings conference call in mid-March, we have made progress on all our initiatives, including the hiring of 2 incredibly talented retail leaders, Paul Reid and Paul Wilson, to lead our liquor and cannabis teams, respectively.Both Mr. Reid and Mr. Wilson have a significant breadth of retail experience, and have been leaders in some of Canada's most popular and profitable and iconic retail brands and businesses.These 2 leaders embody the culture shift the company is implementing, and they're going to be instrumental in moving us forward.Late last month, the company launched a discount liquor store banner called Deep Discount Liquor, with the conversion of 5 underperforming liquor stores to this new banner. The success of this initiative has led us to the decision to open 5 more tomorrow. This banner will be used in a select number of strategically chosen locations to regain customers lost to new discount competitors, who had located next to us.Our store renovation initiative is well underway, on time and on budget. 11 renovations were successfully completed in Q1 of this year, and we remain on track to complete approximately 50 stores by the end of the calendar year.Our objective is to regain lost customer loyalty and trust by delivering a superior customer experience at great value and by creating a customer service culture in our stores that the competition simply cannot match with their low-price, poor-service business models.Customer reaction to the renovations completed to date has been very encouraging.On the cannabis front, there remains regulatory uncertainty as to how many stores we might be able to open this year, let alone where and when. Federal, provincial and municipal governments are all working to clarify the details of how cannabis will be sold.We're building our team and our options for any contingency in the interim, and we'll be ready in each jurisdiction when the time comes. We're making the necessary investments now.With respect to our Q1 2018 financial results, our Canadian same-store sales were slightly negative. However, we believe based on information from our vendors and market intelligence that our sales decline was less than the declines experienced by our competitors. And therefore, we achieved our objective of increasing market share in Alberta during the quarter.I'll now turn the call over to our CFO, David Gordey, who will go through the results.
Thank you, Jamie. Our consolidated sales were $125.8 million, down 1.5% from last year. But factoring in the foreign exchange impact of translating our U.S. dollar sales to Canadian dollars year-over-year, the real decline was just over 1%.Canadian same-store sales were $93.9 million, down 1.8% from last year. This decline was reflective of a decline in overall liquor sales in the Alberta market. Province-wide sales were negatively impacted by the prolonged winter weather experienced in Alberta compared to the prior year and as a result of Alberta's 2 professional hockey teams not being as competitive as they were in 2017.The decline in sales compared to the prior year was offset by the positive impact of the Easter shift in 2018 as Easter was in Q2 of 2017. Management estimates that our Canadian same-store sales were positively impacted by the Easter shift by approximately 1.2% compared to Q1 2017.Alaska same-store sales were $17.1 million, up 1.8% from the prior year. While the economy in Alaska continues to be challenged, our sales were positively impacted by 2 stores renovated last year and by approximately 0.3% compared to Q1 2017 as a result of the Easter shift.Operating loss before amortization was $2.3 million, down from a $1.5 million profit in the prior year. The decline was mainly the result of a decrease in Canadian same-store sales, increased payroll costs as a result of minimum wage increases experienced in Canada and the decline in the gross margin as a percentage of sales, which was primarily the result of 2 initiatives of the company to gain market share in Alberta by being more competitive on select traffic-driving promotions and to clear out aging and slow-moving inventory items.We anticipate a continued reduction in gross margin as a percentage of sales throughout the balance of 2018, as we will become more competitive on select traffic-driving promotions to drive sales and regain market share.The go-forward impact of clearing out aged and slow-moving inventory items on our gross margins will reduce significantly, as we have dealt with these matters aggressively over the last 2 quarters.Our net loss from continuing operations was $1.8 million compared to $2.9 million in the prior year. The improvement in the net loss was primarily the result of the gain on the derivative warrant liabilities reported in the period.Our anticipated capital deployment over the next year will be as follows: first, renovations of approximately 50 existing retail liquor store locations at an aggregate capital cost of $20 million to $25 million; rebrand of select number of underperforming liquor stores to a new discount banner to attack our discount competitors head-on, and that will be an aggregate capital cost of $4 million to $6 million. We're going to target, subject to applicable provincial licensing and municipal regulations, opening approximately 50 cannabis retail locations in Alberta and British Columbia. That's an aggregate capital cost of $35 million to $50 million, plus aggregate inventory investments of about $10 million to $15 million. Depending on the rules and regulations, this investment may not be completed in the calendar year. And lastly, we're going to complete the implementation of a new enterprise resource planning system that will improve business operations, enhance inventory management and procurement to further reduce our capital invested in inventory, enhance our internal data management, create a significant insight into customer shopping behavior and provide a scalable growth platform for both our liquor and cannabis businesses. The implementation cost is expected to be between $12 million and $15 million. And the company is targeting implementation to be completed by mid-2019 for liquor, and is also expecting to have this new system in place to be the ERP for our new cannabis business we are launching this year.The project is currently on schedule and on budget. And as an update, we passed a major milestone with the launch of our first 2 pilot stores in April.Our financial position continues to be strong, and our strategic plans have turned a historically strong balance sheet into a strong income statement that's fully funded with the capital readily available to us.With that, I encourage our listeners on today's call to read our earnings press release and interim filings, which were released yesterday, for more information on our first quarter financial and operational performance.I will now turn the call back to Jamie for closing remarks.
Thanks, David. We held our Annual General Meeting earlier this morning, and I'm pleased to announce that our shareholders approved the additional investment from Aurora Cannabis, which permits Aurora to immediately increase its investment in the company from approximately 19.9% to approximately 25% of the common shares for an additional $34.5 million or $15 per share, and provides Aurora with warrants that allow them at their option to increase share ownership to approximately 40%.In addition, shareholders approved a change in the name for the company from Liquor Stores N.A. Ltd. to Alcanna Inc. The new name, Alcanna, reflects the company's business -- expansion of the company's business into 2 divisions: alcohol and cannabis. By combining the words alcohol and cannabis, Alcanna better reflects our new strategic direction and signals a departure from the company's previous history.We're confident that we're taking the right steps to reposition and re-energize our liquor brands, attack the discount competition head-on and create a new cannabis retail network. We have the financial strength to excel, and we will use that strength to the best of our advantage.With that, I'd now like to open up the call to a question-and-answer session. So operator, if you could please provide instructions to the listeners, that would be appreciated. Thank you.
[Operator Instructions] We have a question from George Doumet from Scotiabank.
I'd like to just focus a little bit on the gross margins. There's a significant decline there year-over-year. I think you guys called out promotions to be competitive and clearing out inventories. Maybe some granularity on how much each contributed, and also how much longer do you guys expect these 2 factors to weigh in on margins?
We didn't disclose publicly what that split was, George. But we did say, as we said today in the conference call, that the impact from the aged and the slow-moving inventory will decrease significantly going forward here. We were very aggressive over the last couple quarters to free up that locked capital. And we're very happy with where we are on our inventory balances at this point in time. There's still room to make improvements, but where we are today is a good spot.
Okay. It looks also like you guys nudged up the CapEx guidance for the cannabis build-out. Maybe just explain a little bit what's behind that?
George, just -- it's still a fluid situation at this point in time. But as we hired Paul Wilson here in the last few weeks, and we've been knee-deep into store design and layouts, and as we look at construction costs for the designs that we're looking at, the numbers have just nudged up a bit.
We're just being prudent as well and erring on the side -- it's very preliminary estimate as opposed to working on the forecast.
Okay. And maybe on that topic, just kind of taking a closer look at the admin expenses. I know there -- the -- can you maybe just give us a sense of as it relates to cannabis, what investments need to be made before we can generate any significant revenues at some point, I guess, in 2019?
Again, it's premature to know exactly because we don't know when cannabis is going to be made legal. We don't know when the provincial legislative regimes in the provinces we are seeking to do business in will be formalized. And we don't know when the municipalities in question will be finalizing their selection process and radius restrictions and granting development permits and building permits. So there's a lot of ifs. We're prepared for many contingencies. And we've got a plethora of different estimates based on different contingencies, how those things may pan out. But there's really no single number at this stage. We would anticipate by the next call in August that we should have far, far greater clarity than we do right now.
Okay. And just one last one on the topic, if I may. Can you maybe just give us an update on where the province is as it relates to certain time lines or milestones?
Well, you should probably ask them, but we're anticipating British Columbia, we don't know, some time probably before the end of June. Alberta as a province is largely done. However, the municipalities within Alberta are still dealing with how each municipality -- and they're all treating it a little differently, which is understandable, tailoring it to their own communities, how they each want to handle granting development permits and business permits. They don't do licensing, but they grant development permits and business permits, which in many cases will be radius protected in certain circumstances from other cannabis stores as well as other things likes parks, schools, hospitals. So I would say probably by the end of June, we're all hoping, as are the municipalities we're working closely with and supporting, that we'll probably know by then, some time within the next, I wouldn't say too much soon, but some time over the next 4 to 6 weeks.
We have a question from Derek Dley from Canaccord Genuity.
Just a question on discounting here and the promotional environment. Obviously, it seems like it's continued to be quite aggressive. The stores that you're converting into your discount banner, is the plan to just keep it at that, I think, it was the 10 to 12 level? I mean, some of these discounters in the market seemingly are expanding their network. So just wondering, how you see that evolve over the course of the next, I don't know, 12 to 18 months?
I can't speak to what our competitors will do or don't do. We have not seen the level of expansion in new stores of late that we had seen in previous years. It's not my business to speculate on why that is, that's really a question for them. In terms of what our company is doing, which is all I can comment on, we've opened numbers around what you had indicated. And we'll just assess how they do and how it's affecting our economics in each of those locations as well as other locations of ours. To date, that has been very minimal, and play it by ear. It's a competitive response, but as well as an experiment that we're doing to assess different ways of approaching low-volume locations.
Okay. On your guys' last call, you talked about increasing the number of Wine and Beyonds, which tend to have a higher margin than the rest of the network. Is that still part of the plan for 2018? And do you think that can offset the lower margins that you are likely going to experience in the discount stores?
For 2018, no. It's very much still the plan, but it takes a while to get sites, which we are actively pursuing. We've secured several now, and we're hoping to start construction on those some time hopefully in the next quarter, this quarter or the next. So again, it's permits, there's issues, just normal development process we have to go through. But in terms of them being open and in business at any time, if we're fortunate, we could have a couple of new ones by the end of this calendar year, but it would be more far to the end of the year that they would likely be operational. So they wouldn't have any impact on '18, '19 for sure, depending how many we're able to achieve. And we're looking to open -- we have some that we've secured sites, some excellent sites, which I won't comment on where they are, but which for a variety of landlord reasons, the sites are good enough for this, we're willing to wait and those ones we probably won't be able to open until some time mid of the '19.
And how many do you have in the network today?
Five.
Five, okay. And then just one more for me, just on SG&A. We saw an increase in percentages -- percentage of revenue. And I think you guys called out a few things, minimum wage being one of those. Can you quantify the impact of minimum wage? And do you feel like you'll have an ability to pass through some of this on through pricing? Or just, again, given that promotional environment, is that going to be difficult this year?
Yes. So the minimum wage in Alberta went up by double digits. BC was high single digits. That's provided a lot of compression across all our wage bands, and so we had to move a number of the bands up this year. And -- but you'll see that ripple effect all the way through our labor expense line. So that's where we're at on labor.
And what about pricing? Do you see any ability to regain some of this margin back? Or is, again, the competitive environment just making it very difficult?
So the competitive environment definitely is holding prices down. Although we have seen grocery chains start to take their sales prices up, their retail prices up to complement and offset the minimum wage increases. And generally, they're a leader out there in the marketplace. And so as soon as they start doing that, hopefully, we can start to see some lift in our retail prices as well, but not planning on it at this point in time.
We have a question from John Zamparo from CIBC.
I wanted to follow up on the licensing process on cannabis. There is speculation from a few different media sources that Edmonton's process for handing out these licenses might be based on a lottery system. Is there a possibility that's the case?
Yes, I'll just correct you, if you don't mind. It -- the licensing comes from the province, from the regulator, the AGLC. What each municipality does is they issue a development permit and then a building permit for a given site for a store to conduct a given type of business. So -- but with that distinction, at the moment, City Council in Edmonton is examining what they deem to be -- they call a random selection process where -- for certain locations, where there are multiple applicants for the same general area -- trade area, all within the restriction, then that's what they're looking at as a way to resolve that. Calgary took a different approach, which was the traditional development permit approach, which was basically, first come, first served. They did it, however, by way of an online-only application process, which happened last week. And anyone who wished to submit the application for development permit did so online at a specific time. And a very large number, I believe it was 240 people tried, and the system crashed, as I understand it, their server crashed because of the demand in the first few minutes. But it finished off, and everyone has numbers. And we will be informed of the results of that over the coming weeks. No one knows right now how it happened. Every city is adopting a different approach for those who are doing a -- have a radius restriction or, in some other ways, have a restriction on numbers of cannabis stores in certain areas who don't wish concentration.
Okay, that's helpful. And one follow-up on the cannabis side. In the MD&A, it says you're targeting 50 stores, but I see somewhere else where it says you're looking for 30 in Alberta and 10 in BC. Should we take that to mean that there is the potential for 10 elsewhere?
Yes. The 30 and 10 is from -- it was the number that was in our investment agreement with Aurora as guidelines, which is a publicly available document. Having -- that was negotiated and agreed upon as guidelines between our 2 companies back in January-February when we were working on that transaction. Subsequent to that, a lot of things have been made clear such as minimum of -- a maximum guideline of 250 in Alberta for everybody in the first year and no one company being allowed to have more than 15% of the licenses initially and maybe ongoing, which is -- equals 37, if you do the math. So we have upped our target to 37. And BC is still really -- has not really formalized their rules completely yet. So until they do, we're a little behind there. We still have our sites identified, and we're looking and hoping to get somewhere between 10 and 15 there. So that's -- around the 50 number is more our goal depending when we can get and start building and get licenses and permits. Hello. Operator?
We have a question from Saba Khan from RBC Capital Markets.
So just one on just the overall CapEx spend. You provided kind of the guideline for the next 12 to 15 months or so. Can you maybe talk about the cadence of that spend? Should we expect more kind of in the warmer quarters where you can do more renovation? How are you thinking about the spend over the next kind of year given the magnitude?
For the store renovations, it's pretty well equal over the next few quarters. For the cannabis locations, it's probably a little bit more back-end loaded rather than front-end loaded, but that's a big guess right now, Saba. Depending on when the licensing is all figurative.
Yes. And the stores -- we tend to stay out at the stores in the summer because that's the busiest time in July and August, especially if we can. But as a rule still in September, we'll catch up. So more or less 12 a quarter.
Okay. And then I guess as we look at the cannabis side of the business, so do you have kind of applications in with the province for that 37, and now it's sort of a waiting process while they figure out on their end? Or are you putting in applications as you identify sites and you may not have all 37 in there yet? Just kind of broad level, where you are in the process?
Yes, we have some in. We don't have all 37 in yet because we're waiting to decide how to handle each of Calgary and Edmonton, just to be specific. Just waiting for the rules and the -- their permit process to be a little more fleshed out. But we have a number of applications already in province-wide and for cities and communities that don't have radius restrictions.
All right. And then I guess moving over just to the discount strategy. Would you say -- like I guess, I just want to get your thoughts on the overall market and how it may have shifted since the recession? Would you say that -- so would you say over the last, I guess, through the recession over the last couple of years that the market maybe shifted a little bit more to the discount side and it may make sense over time to have a larger presence in that channel? Or do you think having sort of like a high-low strategy is probably the way you see your kind of business evolving?
I wouldn't necessarily say the market has shifted to be honest. I mean the discounters have come and created a niche for themselves. In some ways, our company and maybe others didn't respond adequately to that and to service that customer that they have attracted in an appropriate way. We've now responded to do so, and we believe that some of our other competitors, nondiscount, more traditional retailers, especially the larger players, grocery stores, Costco, have done the same. So at the end of the day, we believe that a low-cost, low-service model is viable in certain circumstances, but pretty limited.
And one last one, if I can just go back to the cannabis side. I guess how are you deciding -- are you putting in applications based on specific sites where possible? Like how are you deciding whether you would accept the license Edmonton does give you some and you don't like the locations, is there the option to kind of return those if you can't get the right sites? Or how are you approaching like we would only open sites in the city -- within these locations, like how flexible are you on that front?
We're extremely flexible. We've got a great many sites available to us. Thanks to our 25-year relationship with the major landlords in the provinces that we operate in and their trust. We know how to run controlled-substance retail in a responsible matter that brings credit to their malls and their developments. So we have a lot of options and we're -- it's sort of complicated and, to some extent, I don't really feel like telling the competition exactly how we're planning and why and don't intend to. But I would just say that we have a lot of options available, and under almost any scenario of rules and regulations, we have a game plan that will fit that. So we're very confident, and therefore, which is why we're not overly fussed by how each community makes its decisions. And this is really -- remember, it's very important to remember that all levels of government will assure anyone that this is a very new product, people are going to be very cautious. We support that very much. And what the rules and the landscape is for year 1 is almost certainly not going to be the landscape ongoing. So year 1 is year 1. It'll be what it'll be. And we will cooperate and support whatever any jurisdiction decides it wants to do and make sure this gets ruled out and introduced into the market responsibly, which I think is only good for everyone in the industry to lead to a loosening of regulations and to a relaxing once the public is convinced that this is an appropriate use and is beneficial to the community.
We have a follow-up question from John Zamparo from CIBC.
Can you guys hear me?
Yes.
Great. Sorry about that. Not sure what happened before. Just had a couple of follow-ups on the liquor side. Can you remind us where you're at on inventory reduction? Is there a target in mind for cash savings this year for inventory versus where you were at year-end?
Yes. Not specifically. We're going to keep working that inventory number down as we do the renovations. What position we're in now is making sure that we have a good balance between maximizing sales with the right product selection on a store-by-store basis and making sure that the inventory necessary to maximize those sales is there. But at the end of the day, we'll continue to work it down. And then the big savings in time will come from our new ERP system and as we move towards centralized procurement and bringing those decisions primarily back to the head office in terms of what inventory we buy, how much and when. And so the savings from here on in are over the next 18 to 24 months.
Yes. We're pretty well comfortable where we are right now with our inventory levels. A, that the old stock which had been sitting for a long time is largely gone. And it's now just a pretty well-stabilized level of inventory. Obviously, given the strength of our balance sheet, we don't need to sacrifice selection that maximizes our profitability just to access capital through inventory. And it's a great position to be in. So it's now -- we have the proper inventory to run our business at its most profitable.
Okay. Appreciate the color. And last one for me on the admin expense you saw in Q1, should we take that as a reasonable run rate for the rest of the year. And I assume there's some increase you're going to see from the additions to the leadership team, but is that kind of a decent baseline for forecasting the rest of the year?
Yes. The one thing that's not fully baked in there, John, is the cannabis investments. We just hired Paul at the end of March. And so he is now formulating his team and putting that together. And there is obviously other investments that need to go into that business along with the rent of the stores as we've talked about on the sites that we're securing. So I wouldn't say that Q1's a great run rates. At this point in time, it's going to increase from here, primarily due to the cannabis investments...
Exactly, through the new business. And we're, as I mentioned several times, that this is all part of being ready is incurring the expenses and getting the team ready and in place, the locations ready and in place for whenever the gun goes off, and we're underway.
Okay, great. I lied. One more question. And maybe it's a bit obscure. But the operating leases that you're committed to for 2018 are significantly higher than 2018, is that -- should we take that to be -- that's the cannabis stores that's causing that increase? Or is there a, I guess, an unusually large increase in just overall rents at your liquor stores?
So there's two things there: one, you're absolutely right. There's some leases that we've signed for cannabis now. Two, we had a number of renewals in Q1. So the commitments were low at the end of the year. And now that we have a committed renewed lease, there is an additional commitment for those leases. It's not with respect to significant increases in rents at this point in time.
No. I'm sure you've read, it's been widely publicized that the landlords are -- the competition for locations for cannabis retail has been intense. And landlords are securing rents that you would expect when something like that happens. But it hasn't affected our liquor business, though.
There are no other further questions registered at this time. I would like to turn back the meeting over to you, Mr. Burns.
Thank you, operator, and thank you to everyone, who had enough interest in our company to listen in, appreciate it and until August. Thank you.
Thank you. The conference has now ended. Please disconnect your lines at this time. And we thank you for your participation.