Swiss Water Decaffeinated Coffee Inc

TSX:SWP

Earnings Call Transcript

[Operator]

Greetings, and welcome to Ten Peaks Coffee Company's Fourth Quarter and Full Year 2017 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Sherry Tryssenaar. Thank you. You may begin.

[Sherry D. Tryssenaar, Chief Financial Officer and Secretary]

Hello, and thanks for taking the time to join us today. I'm Sherry Tryssenaar, CFO of Ten Peaks Coffee Company, and with me is Frank Dennis, Ten Peaks' President and CEO. Frank and I are here to discuss Ten Peaks' financial results for the 3 months and year ended December 31, 2017. The three-month period represents the fourth quarter of our 2017 fiscal year. Frank will begin today with a brief review of our annual results and some of the factors that are driving the steady growth in our profits and volume. Then, I'll provide more detail about our financial performance before Frank returns to talk about our plans and expectations going forward. After that, we'll be happy take your questions.But before we start, I'll remind you that certain information in today's presentation is forward-looking in nature. Any such forward-looking information or statements are based on assumptions that we considered reasonable at the time they were prepared. Such information involves known and unknown risks, uncertainties and other factors outside our control that could cause actual results to differ materially from those expressed in the forward-looking information. Ten Peaks Coffee Company does not assume responsibility for the accuracy and completeness of the forward-looking information. Similarly, the company does not undertake any obligation to publicly revise this forward-looking information to reflect subsequent events or circumstances, except as required by law. Please refer to our management's discussion and analysis posted on SEDAR and our website for a full discussion regarding our forward-looking statements and the risks therein. With that, I'll now turn the call over to Frank. Frank?

[Frank A. Dennis, Chief Executive Officer, President and Director]

Thank you, Sherry, and thank you, everyone, for joining us today. We are pleased to report that 2017 was another solid year for Ten Peaks. We achieved record double revenues and processing volumes with gross profit, net income and EBITDA, all up over 2016. In total, our volumes grew by 5% during 2017 due to several factors: first, the overall market for decaffeinated coffee is expanding. According to the National Coffee Association, total decaffeinated coffee sales were up last year with decaf being the fastest-growing segment of the U.S. coffee market.Sales of specialty decaf coffee, like our SWISS WATER Process coffees, were particularly strong, especially in out-of-home market. These studies reflect what we are seeing in our business. Not so long ago, roasters of super premium coffee didn't believe that there was any decaf worthy of their attention. But today, even the most sophisticated coffee drinker can't distinguish SWISS WATER Process decaffeinated coffees from their caffeinated counterparts. As a result, more and more of the specialty roasters we work with are showing an increased willingness to offer and promote our premium decaf coffees. This enables our customers to during coffee all day without worrying about the potential side effects of caffeine. Of course, offering our great decaf also enables these roasters to sell coffee all day long, and along with that, high-margin biscotti, pastries and other edibles people often buy to accompany it. And that's a win for everyone, and as the only branded 100% chemical-free decaffeination process in the world, we're ideally positioned to capitalize on the growing awareness and demand for premium decaf. Looking at our annual volumes a little more closely. We saw strong growth in each of the first 3 quarters, with Q3 setting a new company record for quarterly volumes. In Q4, volumes decreased slightly on a year-over-year basis in comparison to an exceptionally strong Q4 in 2016. This was because in the last 3 months of 2016, the price of green coffee or the NY'C' dropped dramatically after several months of steady increases. This prompted importers rapidly rebuild their coffee inventories driving our volumes for Q4 2016 up by 9% over Q4 2015. Obviously, that was a great win, but not something we could easily repeat again in 2017. Looking at our volumes by customer type. SWDCC's specialty accounts recorded solid volume gains in 2017, increasing by 4% in Q4 and by 9% for the full year. Fourth quarter shipments to commercial accounts declined by 5%, while full year commercial shipments rose by 2%. Shipments to roasters, those customers who roast and package coffee to sell to consumers in their own coffee shop, or for home or offices, increased by 6% in Q4 and by 2% for the full year. Shipments to importers who resell our coffees to roasters where and when they need it declined by 17% in Q4, but rose by 11% for the full year. Strong growth in annual sales imports was driven by the general increase in demand for our decaf coffees as well as the downward trend in the NY'C' throughout the year. A period of declining NY'C' typically encourages importers to build their inventory to take advantage of the lower import costs. Looking ahead, we believe strong demand for our SWISS WATER Process coffees will continue well into the future. The first quarter of 2018 is off to a strong start and our increased marketing efforts are continuing to bear fruit. But before I talk about expectations for the year ahead, I'm going to pass the call over to Sherry, who will provide some more detail around our financial results. Sherry?

[Sherry D. Tryssenaar, Chief Financial Officer and Secretary]

Thanks, Frank. I'll start with our revenue. In 2017, our sales totaled $83.8 million, a new company record. This was an increase of 2% over 2016 due largely to our higher processing volumes. During the fourth quarter, our sales totaled $20.7 million, which is down by 8% from Q4 2016. Process revenue, which is the amount we charge our customers to decaffeinate green coffee, increased by 5% for the full year, which was in line with our higher volumes. Revenue hedges also contributed, adding $900,000 to the process revenue, offsetting the impact of a lower U.S. dollar.During 2017, the U.S. dollar averaged CAD 1.30, which was 2% lower than in 2016. As the majority of our revenues is denominated in U.S. dollars, our financial results are sensitive to changes in the U.S.-Canadian exchange rates. During the fourth quarter, process revenue decreased by 1%, reflecting a decline in sales to our commercial customers. This is partially offset by hedging gains. Green revenue is the amount we charge our customers for the raw coffee we buy for decaffeination. For the full year, green revenue remained flat as our higher sales volume were offset with a lower NY'C'. In Q4, our green revenue decreased by 12%, reflecting a drop in the NY'C' and a slightly lower volumes in the period. Distribution revenue is comprised of shipping, handling and warehousing charges we bill to our customers. Distribution revenue rose by 14% for the full year, and by 12% in Q4, driven by our higher volume and by growth in Seaforth Green Coffee warehousing and handling business. Annual sales -- I'm sorry, annual cost of sales was $71.2 million, up by 2% over 2016. The increase was driven by our higher volumes and a stronger U.S. dollar earlier in the year, mitigated by a $900,000 in commodity hedges and customer-specific hedges related to cost of sales. Cost of sales for Q4 declined by 9% to $17.5 million. This was primarily due to lower green coffee cost, owning to a lower NY'C' and slightly lower volumes. Gross profit for the full year increased by 4% as our higher revenues more than offset our increased cost of sales. In Q4, gross profit decreased by 1% with a declining quarterly revenue slightly exceeding the decrease in our cost of sales. Sales and marketing expenses grew by 8% to $2.6 million for the year. In both periods, the gains related to increased sales and marketing resources to support SWDCC's strategic growth initiative. Administration expenses increased by 13% to $5.1 million for the full year, and by 48% to $1.5 million in Q4, due to higher staffing and staff-related expenses. The rising cost included stock-based compensation expenses and those recruitment expenses for positions filled late in the year. Operating income fell by 4% to $4.8 million for the full year and by 37% to $1 million for Q4. Two noncash items: a loss on foreign exchange; and a loss on the fair value of the embedded option, reduced earnings by $1.1 million in the fourth quarter. You may recall that in October 2016, Ten Peaks entered into a convertible debenture. Under IFRS, this instrument is deemed to contain an embedded option, which must be revalued at each balance-sheet date. Reevaluation of this option resulted in the loss of $300,000 in Q4 and a gain of $600,000 for the full year. The reevaluation of the option has included an income in each of the relevant periods, but it is excluded from operating income or EBITDA. Overall, Ten Peaks recorded a net loss of $400,000 in the fourth quarter, compared to net income of $1.3 million in Q4 2016. On a per share basis, we reported a loss of $0.04 per share on the fourth quarter compared to earnings of $0.15 per share on the same quarter for 2016. For the full year, net income totaled $4.2 million. This was unchanged from 2016 as increases in gross profit, gains on risk management activities, and a gain on the embedded option were offset by higher operating costs and financing costs during our 2017 fiscal year. Our basic and diluted earnings per share for the year were $0.46 and $0.42, respectively, compared to $0.46 for both basic and diluted earnings per share in 2016. Another measure of our financial results is earnings before interest tax depreciation and amortization, or EBITDA. EBITDA for the full year rose by 20% to $6.9 million, driven by our higher volumes in operating income as well as improved performance on our risk management activities. During Q4, EBITDA declined by 33% to $1.3 million, reflecting lower operating income and reduced gains on risk management activities. Finally, turning to dividends, on January 15, 2018, we paid a quarterly cash dividend of $0.0625 per share to shareholders of record on December 29, 2017. And yesterday, the Board of Directors declared an eligible quarterly dividend of $0.0625 per share to be paid on April 16 to shareholders of record on March 29. I will now turn the call back to Frank, who will talk a bit more about our expectations for the months ahead. Frank?

[Frank A. Dennis, Chief Executive Officer, President and Director]

Thank you very much, Sherry. Looking ahead, we expect to see double-digit volume growth in 2018 for several reasons: first, as I stated earlier, the size of the decaf market itself is growing, as more people discover that decaffeinated coffee can taste just as good as it's caffeinated counterpart. Additionally, consumers are more conscious than ever of artificial ingredients and chemicals in their food and drink, and cautious about consuming them. And as a result, they find our sustainable, 100% chemical-free decaf coffees, many of which are organically-certified, especially appealing. This has prompted an increasing number of food companies to add our branded coffees to their offerings. The prominence of decaf coffee is also getting a closer look, thanks to some recent and widely-read numerous theories about the health and environmental hazards associated with methylene chloride, a primary chemicals used by our competitors to decaffeinate coffee. In response, our marketing team is leveraging this heightened awareness of methylene chloride to draw attention to our branded, 100% chemical-free decaffeination process. This should help further stimulate market demand as more people learn about, and then, seek out our coffees. With all these factors at play, we're experiencing substantial volume growth in the first quarter of 2018. Demand for our coffees is increasing from both current customers and from new customers, including those who began using our services after an older third-party CO2 decaffeinator in Europe shut down. In order to ensure that we can continue to fulfill this growing demand for our coffees, we are increasing both our sales and operational resources. During Q2 of this year, we expect to open a European sales office to better serve customers in the largest decaffeinated coffee market in the world. We are also expanding our ability to target specific customer groups by selectively adding to our sales and marketing team. While these initiatives will increase our expenses somewhat, we expect them to generate increased sales orders in the second half of this year. Finally, as we noted previously, we're in the process of building a new production facility in Delta, BC. Construction of the new plant began last May, with completion scheduled for later this year. The new plant will initially house one new production line, which is suspected to be commissioned in the second quarter of 2019. In the meantime, the additional capacity we added at our Burnaby, BC coast facility last year, together with the bottlenecking initiatives currently underway, should be sufficient to meet expected business growth until our new plant comes online. Demand for specialty decaf is growing, and we have the best product, the specialized knowledge and experience, and the operational infrastructure to effectively respond. That wraps up our comments for today. Sherry and I would now be happy to answer any questions you might have.

[Operator]

[Operator Instructions] There are no questions at this time. I would like to turn the call back over to Frank Dennis for closing remarks.

[Frank A. Dennis, Chief Executive Officer, President and Director]

Okay. Well, if there are no -- or any questions, I'll conclude today's call...

[Operator]

Oh, I'm sorry, there is a question that came in. The first question comes in the line of [ Mike Loretto ], a private investor.

[Unknown Attendee]

I just want to say quickly, ask about the commercial accounts. You guys noted that, overall, volumes are down in Q4 and a lot of that seems like it's impacted by the coffee futures prices. Is there any insight you can share with us on where the volumes have trended in Q1, since, I guess, March to January -- I'm sorry, January to March?

[Frank A. Dennis, Chief Executive Officer, President and Director]

Well, as we've noted, we already see our Q1 volumes up significantly. Typically, we don't talk -- give a lot of guidance, but we're pretty satisfied with what we're seeing right now and we're seeing good turnarounds on virtually all of our segments in Q1.

[Operator]

Our next question comes from the line of [ Matthew Bogerhort ] [indiscernible].

[Unknown Analyst]

I would just like to know, how much CapEx remains to be spent on the new facility?

[Sherry D. Tryssenaar, Chief Financial Officer and Secretary]

So we have -- we spent a fair bit and we still have another $16 million as committed. There's potentially some additional cost beyond that, that has not been committed, but we did disclose that we have spent, in the past year, there was $9 million that was spent and another $16 million that's presently committed, and there are some contracts that have not been fully entered into yet, so that number will likely increase. We had previously said that the total CapEx for the equipment was about $35 million.

[Unknown Analyst]

Okay. Perfect. And maybe, just one quick follow-up. I would just like to know, how long will it take for the line to be fully operational once it start its commissioning phase?

[Sherry D. Tryssenaar, Chief Financial Officer and Secretary]

Frank, do you want me to take that? Or...

[Frank A. Dennis, Chief Executive Officer, President and Director]

Well, I'll give some history. In 2006, when we started up our second line, from, basically, turning power on to getting coffee out the door, that was about probably 3 to 4 months, so it's not a particularly long time. And we got significantly more experience wrapped up in our organization to help speed that process along this time around.

[Operator]

[Operator Instructions] And there are no further questions at this time. I would now like to turn the call back over to Frank Dennis for closing remarks.

[Frank A. Dennis, Chief Executive Officer, President and Director]

Okay. Well, thank you very much for all attending, and if there are no further questions, we will, this time, conclude today's call. Thank you very much for joining us.

[Operator]

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.