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Good morning, ladies and gentlemen, and welcome to the good natured Products, Inc. Q3 2023 Results Conference Call. [Operator Instructions] This call is being recorded on Tuesday, November 28, 2023. I would now like to turn the conference over to Spencer Churchill. Please go ahead.
Thank you, operator. Hello, everyone, and thank you for your interest in good natured. I'd like to welcome you to our conference call regarding our third quarter 2023 results, they are released earlier this morning. My name is Spencer Churchill. I'm Vice President of Investor Relations and Corporate Development here at good natured Products. I'm joined today by Paul Antoniadis, Executive Chair and CEO of good natured, who will provide an overview of the quarter and commentary on the business and strategy. I'm also joined by Kerry Biggs, our CFO, who will be speaking to the Q3 results in more detail. If you have not yet received a copy of the press release, you can access it under the News tab on a good natured investor website at investor.goodnaturedproducts.com. For those of you unable to listen to the entire call, a recording will be made available in the recent Investor Events section of the website.
Before I turn the call over to Paul, I'd like to remind investors that management's prepared remarks contain forward-looking statements within the meaning of security laws, which are subject to risks and uncertainties, and management may make additional forward-looking statements in response to your questions. These forward-looking statements include, but are not limited to expectations surrounding future financial results, new orders and customer additions, new product launches and M&A activity. We'll also be discussing non-IFRS financial measures, the definitions for which can be found in our MD&A and press release issued this morning. All financial results discussed on the call are in Canadian dollars unless otherwise noted.
And with that, I will turn the meeting over to Paul.
Thank you, Spencer. Welcome, everyone, and thank you for joining us today. Our solid performance during the third quarter marked an inflection point in our fundamentals that we broadly spoke to last quarter. The combination of gradual normalization in our Industrial business group and continued momentum in Packaging revenue led to sequential growth in total revenue for the first time since broader macroeconomic challenges in Industrial segment commenced in Q4 of 2022.
We also demonstrated the operating leverage we have created through our expense reduction and containment activities that show progress in aligning our cost structure to lower year-over-year consolidated revenues. Adjusted EBITDA was positive for the eighth straight quarter, an increase almost 15-fold from Q2 of 2023 levels on the back of a 6% sequential increase in total revenue. Year-to-date in 2023, the company generated positive adjusted EBITDA of $1.4 million and positive cash flow from its operation excluding finance costs, which Kerry will speak to you a bit later. Our solid third quarter results reflect our dedicated teams' report in continuing to reduce our operating cost structure while maintaining margins at the high end of the range. This has allowed us to sustain positive adjusted EBITDA and positioned the company for improving cash generation from our operations as and when consolidated revenues begin to recover.
Revenue in Q3 of 2023 from our Packaging business group grew by 4% year-over-year compared to Q3 of 2022 and is up 34% year-to-date in 2023. The growth in our Packaging business group continues to outperform the broader industry. As expected, in noting our call from last quarter, year-over-year packaging growth comparisons were less pronounced in Q3 of 2023 as we've lapped the anniversary of the July 2022 FormTex acquisition. We also saw a launch dates for several, recently acquired customer programs such as our May announcement of a Texas food producer being pushed out into late Q4 of 2023 and early Q1 of 2024.
Our Industrial business group saw lower revenue in Q3 of 2023 due in part to reduced third-party volumes and declines in average selling prices as we comp against the abnormally strong inflationary market conditions in 2022. Industrial revenue decline slowed in Q3 of 2023 compared to prior sequential quarters, and we continue to expect more of our industrial capacity will be used in our own manufacturing facilities as Packaging business group revenues increase.
Our unwavering commitment to our customer-centric culture enables us to work intermediately with our existing clients, ensuring a deep alignment with our ongoing needs. We've prioritized understanding of serving our unique supply chain requirements, fostering collaborative environment that supports their efforts in achieving their business and sustainability objectives. Simply put, by focusing on our customer success, we help drive forward their goals by offering tailored, sustainable solutions that contributes significantly to their short- and long-term goals.
To touch quickly on liquidity, we finished the quarter with $11 million in cash, down slightly from the beginning of the year. At this time, our finance expenses are the primary reason the business is not consistently generating positive operating cash flow and producing negative net income. The rapid rise in interest rates has greatly increased the cost of servicing of variable rate debt over the past year. We're actively engaged in ways to restructure and renegotiate our debt obligations in order to reduce the leverage on our balance sheet and lower our cash interest and principal payments.
In addition, we continue to explore options to enhance our ability to execute on our strategic growth objectives over the long term. Finally, in terms of outlook, the demand for sustainable packaging remains robust. This is evident in our strong sales pipeline and by our August announcement of the company's second largest packaging commercial contract and a multiyear deal with an existing pharmaceutical packaging customer. Our teams will continue to identify and put in place new initiatives that will reduce our operating and production costs to further enhance our operating leverage. Despite operating macro conditions remaining volatile for the remaining part of the year and into 2024, we are optimistic the [ slow ] normalization in our Industrial business group should continue.
With that, I will hand it over to Kerry Biggs, CFO, of good natured to talk through the Q3 financial results in more detail. Over to you, Kerry.
Great. Thank you, Paul, and hello to everyone on the call today. Revenue for Q3 2023 was $19.4 million compared to $26.2 million for Q3 2022 last year and $18.3 million for Q2 2023, that was the prior quarter. In terms of business mix, the packaging business group represented 54% of total revenues for Q3 2023 compared to 38% in Q3 of 2022. Packaging Business Group revenue increased 4% year-over-year, driven by the addition of new customers and cross-selling of new products to existing customers, but partially offset by lower blended average ASPs amongst the National Packaging segment.
The Industrial business group contributed 42% of total revenue for Q3 of 2023 compared to 58% in Q3 of 2022 the prior year. Industrial business group revenue declined 46% year-over-year. As Paul mentioned earlier, we do continue to see signs of a slow normalization in the industrial end markets. Lead times are nearing pre-COVID levels and the 9% sequential decline in total industrial revenue in Q3 '23 as compared to the prior quarter Q2 of '23 is the lowest since the macro adjustments began last year.
On the margin front, variable gross margin, a non-IFRS measure defined in our MD&A and press release for Q3 2023 was 36.6% compared to 34% in Q3 of 2022 and 36.5% in Q2 2023, the prior quarter. There were 3 primary factors that influenced this year-over-year increase in variable gross margin. First, a higher mix of revenue from the Packaging business group in Q3 2023 as compared to Q3 of 2022, again, driven by the factors previously noted. Second, a lower Industrial business group revenue mix contribution. And finally, productivity enhancements and a variable cost of products such as direct labor efficiency as evidenced by the 29% decline in Q3 2023 variable cost of products, which exceeded the decline in revenue as compared to Q3 of 2022.
Gross margin for Q3 2023 was 26.7% compared to 27.2% for Q3 2022. The slight year-over-year decline was due to increased overhead expense, primarily related to higher utility costs and a small increase in equipment depreciation. We are maintaining our targeted ranges for variable gross margin of 28% to 35% and gross margin up 21% to 28%, which is supported by our focus on increasing the mix of revenue contribution from our packaging business group.
On the SG&A front. SG&A of $3.4 million in Q3 2023 was down 26%. This was equaling 17.6% of Q3 revenues compared to 17.5% of revenue in Q3 of 2022. The strong cost reduction performance was driven by a decrease in headcount from 218 last year to 181 at the end of Q3 2023, along with a number of other cost savings initiatives that we put in place. SG&A also declined sequentially from Q2 2023, the prior quarter by 8% and is now at the lowest level since Q3 of 2021 and 30% off peak levels from Q4 of 2022 when we commenced our cost containment activities.
If we view it another way, if we annualize the Q3 2023 quarterly SG&A costs, our SG&A for a full 12 months would total approximately $13.6 million. Comparing that to the $17.9 million of SG&A costs for the full fiscal year 2022, our 12-month run rate is now trending $4.2 million lower as a result of the cost-saving initiatives that we put in place. We will continue to look for sources of operating cost savings and efficiencies with our intention to grow revenue output. And given the substantial reductions to date, we would expect any additional efficiencies, may be more incremental in nature.
On the EBITDA front, adjusted EBITDA, again, a non-IFRS measure, for Q3 2023 was $0.7 million compared to $0.8 million in Q3 2022 and $0.1 million in Q2 2023. The small year-over-year decline in adjusted EBITDA reflects the lower revenue and gross profit, which slightly exceeded the decline in SG&A, excluding acquisition costs and onetime charges as well as fulfillment and logistics costs. However, as Paul noted earlier, adjusted EBITDA increased materially from Q2 2023 on the combination of higher revenue and gross profit and lower operating costs.
Adjusted EBITDA for Q3 2023 as a percent of revenue increased to 3.6% compared to 3% in Q3 of 2022 as the decline in SG&A expenses slightly outpaced the decline in gross profit. The company reported a net loss of $3.2 million this quarter, Q3 2023 compared to a net loss of $2.1 million in Q3 of 2022 and a net loss of $3.6 million in Q2 2023. Excluding changes in noncash expenses, such as share-based comp, depreciation and amortization and foreign exchange, a 52% year-over-year increase in debt servicing costs was the primary reason for the year-over-year increase in our net loss.
As Paul noted, we ended the quarter with an $11.1 million cash balance, down from an $11.9 million cash balance at the end of 2022. Year-to-date net cash inflow of $3 million from financing activities was offset by $2.3 million in cash outflows for CapEx and $1.4 million of cash outflows used in operations, which include $4.9 million in financing costs paid in the 9 months ended September 30, 2023.
And finally, net working capital at the end of the quarter was $6.9 million compared to $10 million. At December 31, 2022, we had $103 million in assets against $88 million in liabilities, which equates to an asset to liability ratio of 1.17x at quarter end Q3 2023 compared to 1.22x at December 31, 2022. So I'll wrap up by encouraging listeners to visit our investor website at investor.goodnaturedproducts.com where you can download our MD&A for additional commentary on our Q3 2023 financials. So with that, I'll just turn it back over to Spencer. Spence?
Thanks, Kerry. Operator, could you now please give instructions for the Q&A section?
[Operator Instructions] Your first question comes from Ahmed Abdullah from NBC.
I would just like to touch on the Q4 outlook. You highlighted that the Industrial segment is entering a transitionary period with stabilization in Q4. Could that mean that we start seeing revenue growth for that segment? And then on the packaging, you highlighted that you're entering into commercial production on some packaging deals. Overall, should we expect quarter-over-quarter revenue increases? And then I have a follow-up to that.
Sure. Great to hear your voice, Ahmed. First, I'll start off by traditionally, our fourth quarter from a seasonality perspective, if you look historically, has been a lighter quarter in total revenue. So I think that needs to be taken in the note. And with regards to the industrial business, we're -- the slow normalization is going to continue through the fourth quarter. I think the positive signs that we've indicated in our earlier commentary just give us some encouragement as we position ourselves into 2024. And then I think there was a third component around the packaging. You kind of broke up a bit related to new programs. Can you just repeat that Ahmed?
Yes. Just any color in terms of what these new packaging deals could do to the Q4? Can it drive higher revenues for the quarter on a quarter -- like quarter-over-quarter basis?
Yes. I mean our packaging pipeline, just overall, is very, very strong. We had some delay on launching, and we mentioned a few of the programs in our prepared remarks. And we anticipated those to start a bit earlier and they've been pushed out. So that's mostly due to just getting the program up on its feet, and our clients kind of working through their existing inventory for those new programs. But we remain really, really optimistic around the packaging business, like we haven't seen the sales pipeline demand at this level in the history of the company. And we feel like we're really positioned well to take advantage of the sustainable trends that have really continued to build momentum in the macro picture.
Okay. Great. And for the range given for the variable gross margin, you're running right now at about 37% margin. Is there a reason why it was not raised because it's still at 28% to 35% for the year.
Yes. I'll turn it over to Kerry to kind of answer that question. I'll kind of set the stage to say, we want to continue to maintain consistency in the margin expectation. As we continue to see the industrial business kind of normalize in the general marketplace. I think it's just from our perspective on how we're managing our costs and how we're looking at the business, we just generally don't see a need to increase that range at this moment. But I'll let Kerry speak to it in more detail.
Yes. No, I think that's fair, Paul. Given the volatility we've seen over the last 12 to 18 months, I think at this point, we want to, we'll call it, over -- under delivered and over promised, right, -- or overpromised, underdelivered, I guess. So I think we will look at this moving into the next year. But I think at this point, we want to keep things conservative and at this point, kind of continue to beat the numbers here.
Okay. But there's nothing you would call out that would cause expenses to jump in Q4 to a point where you have to give a lot of the margin back. Like there's no specific items that you're expecting?
At this point -- go ahead..
Go head Kerry, and I'll just take on through your comments...
Yes. Okay. Look at this point, no, we kept our ranges of variable margin consistent throughout the whole year. So at this point, there is no callout that we would think that margins are going to go any lower here.
[Operator Instructions] Next question comes from Ahmad Shaath from Beacon.
Paul, congrats on a solid quarter. I guess just continuing along the lines of the previous questions, maybe if I want to dig deeper into the pipeline of opportunities for the packaging side, and you guys alluded to the fact that some margin pressure from larger national accounts, has there been any change in your strategy with regards to the customer segments you want to focus on in light of the recent environment. Would you prefer to be -- to capture more of those national accounts, sacrifice some margin just to get in some stability in the business and some visibility, which will also tie into whatever you're trying to do on deleveraging the balance sheet to give you some security with your discussions with the lenders. What's your view on that?
Yes. I think overall, if you look at our packaging sales pipeline, and I'm just kind of reflecting on the different stages in our pipeline, it's a real balance between national, we call, regional enterprise and kind of the small business segment. Like we really work at -- nothing's really changed in that pipeline mix. I would actually say we probably have seen outside of it growing to a level that we haven't seen before. It's been really across the board of the customer segments. It's not being dominated by a national segment or small business segment. It's actually we're seeing a good mix from all market segments that we're targeting.
So I would just say in general, there is really no change. And I think if you look at the announcement we made on existing pharmaceutical organic growth there, like we're also looking to expand our business with our existing customer base, right? So we built our customer-centric culture, we work really hard with all of our partners and outsource partners to ensure that we have the ability to take advantage of this pipeline that we've built over the years and the trust that we've built through their success of fulfilling these customers' orders and supporting them through these, frankly, changing operating conditions over the last 2 to 3 years. And I think those efforts are really paying off. Like we're seeing new programs coming from our existing customers like that pharmaceutical and we -- I think that just reflects our team's effort in serving those customers. So our pipeline is built off of new and it's no change in strategy, but it's also built off of our existing customer base, national and regional and small just bringing us new business based off the success that we've had with them over the last 2 or 3 years.
Got it. That's great color, Paul. So that should be, I guess, mutual to positive to our margin going forward. And then I guess a follow-up on that, as you ramp up those your bigger contracts during the tail end of this year and into next year, should we expect the outsourced third-party manufacturing kind of costs to continue to trend down? Or is that a function of more like geography or the balance of the contract where you need to satisfy that you will need to rely on some third-party guys as well? So just trying to get a sense of how much more room on that cost line that we can cut?
Well, I mean that cost line is, if you look at our just general, overall product cost lines and expense lines, I would just say, in general, just to kind of answer that indirectly first is, we're attacking our costs like just across the board our SG&A lines, I think we've demonstrated the progress we've made, we haven't stopped. The teams looking at every line item, challenging it, trying to find more efficiency, do we stop doing it. And then related to our outsourced manufacturing footprint, it's never been a strong and capable over the last 3 years.
Like we've got a great partnership up in Northern Minnesota. And we're gearing up to drive as much business through our outsourced partners, and that's really important to us. And we've done it like, and we continue to do it. So I think this is more about looking at that pipeline and delivering the products to those customers as fast as we can, whether they're existing or new, and our outsourced relationship is fundamental to that success. I think the cost initiatives and cost reductions are -- it's a much more broader effort that we're looking across all of our SG&A lines, including wages.
I appreciate that. And last one for me is maybe on your commentary on the debt service and what are you guys trying to do on reducing that on the balance sheet? And maybe can you talk to us about those conversations. I know we might be thinking about some of the covenants that are coming in. I know the 2024 covenants have been -- having been revised. But any color you're able to give us on the discussions on the debt side and what are you guys trying to do. That would be very helpful.
Yes, absolutely. I'll kick it off and then, Kerry, please add any additional commentary. First, there's no issues with the current covenants with Wells. We're in good standing. Some of the things that we're looking at, obviously, is really the debt services. And I think for folks that are listening in, whether it's the first time or investors long term, we own a lot of our buildings and our debt services just alone on our mortgages has gone up dramatically, right? So we own 3 of our facilities, properties, and the -- and one is a lease.
So we're exploring sale leasebacks, we're exploring potential refinancing in that space. We've also opened up some pretty robust negotiations with our [indiscernible] partners . And all in all, I will tell you, Ahmad, just everyone has been very positive in exploring these options. And obviously, on the real estate front, there's levers that we can pull, but we're exploring all those options on the sales leaseback and refinancing of the building. But I would say, thus far, it's been -- we're optimistic on how these discussions are going, but we need a little bit more time to bring it to fruition. I don't know, Kerry, if there's anything else you'd like to add.
Yes. No, that kind of hit it on the head. I just would say on the covenant side, I think it's been disclosed that Wells has waived our TTM EBITDA through 2023, and we have ongoing discussions with them and just a great relationship. So I think history would suggest that they will work with us moving forward. So I think we're in a good spot as it relates to the covenant side of things.
Got it. That's very helpful. And maybe just 1 small follow-up on that. Have you guys kind of run rough math about the potential or the unappraised value for the real estate and how much of debt raise on the a sale of leaseback scenario? Is it typical of our industry to just lease those facilities in general, so you have a good footing there. So I'm just wondering, if I've gone through that exercise.
Well, I would say that we're in flight. I think we've been very open on the last call that we're exploring all these options and all of our -- I'm just going to speak in general, just in all 3 properties, the loan-to-values typically have been at 65% LTV value. So there's a lot of value in the property that sits on our balance sheet along with the debt. So I don't have anything here to specifically announce.
But I think in general, we want our owners on the call and potential owners that are listening in that we are evaluating that. And obviously, we're not going to give away our property for the sake of putting cash on our balance sheet. We're not going to give it away. But I think we are evaluating it and exploring those options. And then obviously, as they come to fruition, whether it's refinancing or whether it's a sale leaseback, we'll obviously communicate that as the -- as and if that event takes place.
Thank you. Ladies and gentlemen, it appears we have no further questions at this time.
Great. Thank you, operator. For anyone who didn't have the opportunity to ask a question or wishes to ask a question off-line, please send these to invest@goodnaturedproducts.com with your contact details, and we will respond as soon as possible. Thank you to everyone for joining us today, and have a great rest of your day.
Ladies and gentlemen, this concludes your conference call for today. We thank you for participating, and we ask that you please disconnect your lines.