Supremex Inc.

Thank you, Simon. Good morning, ladies and gentlemen.

My name is Danielle Ste-Marie. I'm an independent advisor and act in an Investor Relations capacity for Supremex.

With us today is Stewart Emerson, President and CEO; and Guy Prenevost, Chief Financial Officer and Corporate Secretary. I would like to welcome you to today's conference call to discuss our financial and operational results for the third quarter ended September 30, 2020, which were released earlier today.

This call will be held in English. [Foreign Language] For a more detailed analysis of our results, please see our financial statements, our management discussion and analysis in our press release disclosed earlier this morning and available on the company's website and on SEDAR.

In addition, we posted a presentation supporting this conference call, which is available through the webcast and on our website. I would like to remind listeners that this conference call contains forward-looking information within the meaning of applicable Canadian securities laws, and I refer the audience to the forward-looking statements as detailed in the presentation supporting this conference call.

Furthermore, risks and uncertainties are discussed throughout the December 31, 2019, MD&A under the risk -- under the heading Risk Factors. Unless stated otherwise, all figures are expressed in Canadian dollars.

During this call and on the accompanying presentation, we use various non-IFRS measures, including adjusted EBITDA. These terms are also defined in our MD&A.

With these formalities out of the way, I would like to turn the call over to Stewart Emerson, President and CEO at Supremex, to review this quarter's operational highlights. Stewart?

Thank you, Danielle, and welcome, everyone. Although the third quarter of 2020 continue to be affected by the ongoing pandemic, I'm genuinely pleased with our operational and financial results.

Revenues are up by more than 10% and adjusted EBITDA is up by almost 50% year-over-year. We believe this speaks volumes about our team's ability and determination to navigate the unprecedented situation, and they're laser-focused in ensuring that we reach our objective of improving profitability and delivering shareholder value.

Earlier in the year, we concluded the acquisition of Royal Envelope, which has proven to be both timely and highly beneficial. It has allowed us to mitigate the impact of the COVID pandemic on our Canadian envelope sales and extract operational synergies throughout the Envelope segment.

Our U.S. Envelope operations also fared very well in the third quarter.

Sales are up from share of wallet gains, steady market share growth and, to a lesser extent, from the vote-by-mail initiative ahead of the 2020 U.S. elections.

Revenue from our packaging segment also increased this quarter and for a second consecutive quarter. Revenues were up just shy of 20% in the segment, primarily from relatively new subscription-based e-commerce packaging customer relationships, which we have been onboarding since the start of the year.

We have been organically growing this line of business for almost 5 years now and working hard at refining our approach and fine-tuning our portfolio. As we've talked in the past, our e-commerce offering is not for everybody, and this product category has a long sales cycle and require significant investments of time and R&D on our part.

The payoff is the market's increasingly recognition of our unique custom e-fulfillment packaging solution and its compelling value proposition. As anticipated, the folding carton operations have improved nicely and are operating at high levels.

The replacement and new equipment is functioning as expected and is highly efficient. On the sales front, COVID has adversely affected some of our market segments, namely cosmetic and fragrances, and we haven't really seen a COVID-related bump in any of our other segments.

But sales from over-the-counter pharmaceutical customers held up nicely in both the second and third quarter, and the team has done a very nice job on mitigating the declines with new business growth. All in all, the combination of significantly more efficient operations, some pharma growth and new business wins generated a very satisfying Q3 and year-to-date performance in folding carton.

From a financial perspective, after 2 fairly difficult years of working to integrate several packaging acquisitions, a couple of envelope acquisitions and completing some significant growth CapEx, it is encouraging that the vision and diversification is serving us well, and all signs indicate we are going in the right direction. Amid these uncertain times, our diversified product offering and expanding geographical reach has served us well in mitigating the challenges among certain customers and lines of business.

We continue to manage through the temporary COVID-induced revenue impacts on our base business by aggressively pushing into new sales markets, tightly managing costs, driving synergies and improving operations, all with the goal of generating sustainable and lasting success. Operationally, we have built out our team, have improved our skills, refined our approach and are building on the lessons learned to become an even better integrator and operator.

Although the short-term future is far from certain for both our customers and the economy as a whole, over the last 3 quarters, we have demonstrated our ability to not only manage through the challenges presented, but to significantly improve our operations. In order for this momentum to continue, we will steadfastly focus on operational excellence and work towards profitable growth across all our lines of business.

I'd like to now turn the call over to Guy for a review of our financial results.

Thank you, Stewart. Good morning, everyone.

Total revenue for the 3-month period ended September 30, 2020, grew by 10.4% to $49.9 million. Revenue from the Envelope segment increased by 6.9% to $34.1 million compared to $31.9 million in the third quarter of 2019.

Canadian envelope revenue was up 6.9% to $21.7 million. Volume increased by 13.4%, primarily from the contribution of the acquisition of Royal Envelope, which more than compensated for the effect of secular decline on our legacy Envelope business and for the effect of the pandemic on nonessential mail.

Average selling prices were 5.7% lower from changes in the envelope mix sold during the pandemic. On a pro forma basis, the combined Q3 2019 Canadian envelope revenue of Supremex, and pre-acquisition Royal Envelope were $27.1 million versus $21.7 million in Q3 2020, a decline of 20%.

Revenue from the U.S. envelope market was up 6.8% to $12.4 million.

Volume increased by 15% while average selling prices decreased by 7.1%, also from the changes in the mix sold during the pandemic, slightly mitigated by a positive foreign exchange transition effect of approximately 0.8%. Revenue from the packaging and specialty products segment grew by 18.9% to $15.8 million.

Revenue growth came from e-commerce packaging sales, as explained in Stewart's opening remarks. Packaging and specialty products represented 31.6% of the company's revenue in the quarter, up from 29.3% during the equaling period of last year.

EBITDA and adjusted EBITDA was $8.1 million compared with $5.4 million in equivalent period of last year, representing an increase of 49.3%, primarily from the contribution of Royal Envelope, higher e-commerce sales growth in the U.S. envelope business and $0.9 million from the Canadian emergency wage subsidy program.

Adjusted EBITDA margins increased to 16.2% of revenue compared to 12% in the equivalent quarter of 2019. Excluding the contribution of the subsidy, adjusted EBITDA margins were 14.3% of revenue.

On a segmented basis, the envelope segment adjusted EBITDA was $5.8 million, up $0.6 million from $5.2 million. Profitability of the Canadian envelope operations improved with the acquisition of Royal Envelope, which, in addition to new sales volume, provided synergies in production efficiencies and procurement.

On the percentage of segmented revenue, adjusted EBITDA from the envelope segment was 16.9%, up from 16.3% in the equivalent period of 2019. The packaging and specialty products segment adjusted EBITDA was $2.9 million, up $2.3 million from the equivalent period of 2019, primarily from higher e-commerce sales and efficiency gains at our folding carton packaging activities -- in our folding carton activities.

On the percentage of segmented revenue, adjusted EBITDA from the packaging and specialty products segment was 18.5% compared to 4.5% in the equivalent period of 2019. Net earnings were $2.7 million or $0.10 per share in the third quarter of 2020 compared with $1.2 million or $0.04 per share in the equivalent period of 2019.

Net cash flows from operating activities were $26.1 million during the first 9 months of 2020 compared with $11.7 million in the equivalent period of 2019. The improvement is mainly attributable to higher net earnings into a $7.6 million positive net change in working capital investment.

In the third quarter, we reimbursed $4.2 million of debt and $14 million year-to-date when taking into consideration $27.4 million for the Royal acquisition. Our debt to adjusted EBITDA ratio is now 2.25x.

During the third quarter of 2020, we purchased for cancellation 152,900 shares under our NCIB program, which was initiated earlier in the quarter. Operator, we can now turn the call over for questions.

Okay. Just a little bit of housekeeping with Guy first before we get into some of the good stuff.

Just wanted to check on the wage subsidy you talked about. So the $8.1 million includes it -- so if you back it out, it would be $7.2 million EBITDA, right?

Right.

And on the -- so your EPS, your $0.10 EPS, that includes the wage subsidy as well. So if you back it out, it'd be $0.07 around there?

Oh, boy, I have not done the calculation, but it's $900,000 divided by 28 million shares, so.

But the $0.10 includes the $900,000.

Yes.

Okay. All right.

And then when I'm looking at the segmented adjusted EBITDA margins, correct me if I'm wrong, but your packaging adjusted EBITDA is the highest it's been, and it's now overtaken envelope. Is that right?

As a percentage, yes.

Now is that now going to be the new ongoing thing because that was -- that's -- it's surprising. And is there a wage subsidy kind of impact in the quarter that boosted it more on the envelope side?

We did not include the waste subsidy in the segmented info. So it's part of the unallocated cost on our MD&A in the table for segmented EBITDA results.

It's not part of the segment results. So it does not skew that number at all.

So that's a clean number. So is that a new kind of EBITDA margin we should be looking at going forward for that packaging side?

I'll let Stewart answer that question.

This is what…

We had a strong quarter, obviously, Neil, on the packaging side. It's where we were aiming for, where we've been driving for over the last couple of years and sort of on the lessons learned.

But I won't say the stars were all aligned, but they were pretty well-aligned in the quarter. So whether I'm prepared to put a pin in it that that's kind of the new mark, and we'll build from there, I'm just not sure.

I'd like to have a couple of more quarters with it. Just I think also on the envelope EBITDA, it's fair to say that envelope has been more adversely affected by COVID.

So from a wage subsidy standpoint, I mean, more of it would be -- if we were to apply it, more of it would be applied on that side.

Boosting the majority. Yes.

Boosting the margins of the envelope side by that amount. Virtually, the vast majority of what we received was in relation to the impact on the Canadian envelope side.

And again, keep in mind, envelope segment includes the U.S. also, So not pure Canadian envelope.

And when you think about it, Canadian envelope has declined fairly -- the nonessential mail component of Canadian envelope has driven a fairly steep decline. And we were able to offset that with growth in the U.S.

in the Canadian plants, but it's just not at the same level.

Okay. Just to go back to the envelope, I wasn't sure if you -- I wasn't sure if I caught it in your prepared remarks, Guy.

Did you give the organic growth decline, excluding the Royal Envelope contribution? Or the Royal Envelope contribution to revenue in the quarter?

What we had for the decline -- actually the gain in envelope is 6.9% for Canadian envelope. But then when you factor in on the pro forma basis Royal Envelope, then we're down -- it's down 20% in envelope.

So if we've taken Royal's run rate plus the legacy Supremex from the same quarter last year, we're looking at a 20% decline.

Okay. That's about what I was looking for and expected in the quarter.

Okay. So if we look at that now, is there any other kind of -- you mentioned the mail in vote in the U.S.

I don't know if that was a huge contributor to revenue in the quarter. Is there any benefit that we could see in Q4 from that or any other kind of onetime events?

No. Just thinking off the top of my head.

But no, I don't think there's anything that's really sort of that one-off type, it's more of the steady gains that we're getting. And we're seeing sort of a bounce back in the economy.

I mean inventories are being rebuilt. We talked about that last quarter.

But no, there's not anything sort of -- there's a little bit of -- I wish my manager that is leading it was here with me, but we've also got the census envelope that's kind of straddling -- the Canadian census, it's kind of straddling Q3, Q4, which would be a bit of a onetime, much less than it was 4 years ago, that's for sure, though. I mean, significantly downsized the amount of physical mail.

Right. Okay.

Any other onetime things we should think about that might be coming up in Q4, Guy?

No. We'll -- we're still eligible for Qs as far as October, without going into details and so on.

But the program is less generous than the Q3. But besides that, I don't -- I can't think of anything.

Okay. So some contribution from the wage subsidy, but less than what we saw in Q3.

Potentially less. Yes, that's what we believe.

Okay. And then, Stewart, I just wanted to finish it off with the packaging.

Obviously, especially with that margin, that's a really good performance. But there's a lot of stuff that fits into that packaging and specialty products side from the envelopes on the pharmaceutical side to the cosmetics kind of packaging to some of the more specialized e-commerce-type packaging.

So can you run us through kind of segmenting within that, what's doing better and what we could look forward to? Because you have talked about some of these projects being long kind of lead times or sales cycles?

So where should we start to see some kind of benefit? Where is it going to be?

And what should we look most forward to seeing?

So I mean, for Guy's comments, most of the growth came from fulfillment packaging, the e-commerce side of the business. And when I talk about a long sales cycle, we're really talking about that segment in itself.

We don't benefit from sort of off-the-shelf over the -- or off-the-shelf changes in buying patterns through e-commerce. Our product is highly niche, highly specialized.

And it's a cost in use sale versus sort of a convenience sales. So those sales cycles are long.

The benefits we're getting today, we're really -- those seeds were sown Q1, Q2 of last year. And by the time you do all the R&D and all the development and onboarding, you sort of see it a year later.

So we're reaping what we sowed last year. And we continue to sow more seeds.

So we think sort of through Q4, Q1, Q2 next year, it just repeats itself. The folding carton business, it's a combination of the 2.

It's -- but primarily driven by operational efficiencies. We talked last year about press down and some of those other things associated and outsourcing and so on.

That's all been brought in-house now. The equipment is running very, very efficiently.

Has created a nice opening for continued growth and existing -- with the existing capacity. But that side of the business, I mean, it was hit pretty hard.

I mean we've talked in the past that the cosmetic and fragrances was a big part of the first acquisition we did. And it stands to reason that there's not a lot -- there's a lot less cosmetic and fragrance being used over the last couple of quarters than in prior years.

So that hit us pretty hard. But the group has done -- our pharma sales are up.

And the group has done a nice job of bringing on new customers, having completely offset the COVID decline piece, but they closed the gap enough that also the operating efficiencies, improved profitability significantly.

Okay. So can we look for -- I'm just wondering if we should really look at kind of lumpy growth over, say, the next 12, 24 months as some of these projects kind of come online that you're looking at?

Or would it be more, I don't know, smooth growth trend?

Yes. I would say that's fair, both from the growth, the onboarding and also the return of revenue that's left us for whatever reason or primarily related to COVID.

I think the cosmetic and fragrance, I mean, depending on how long this thing goes and how quick it comes back, is it hockey stick or is it a K curve or whatever. I mean that will lead to lumpiness, I would say.

Both on new and on...

Okay. Right.

I don't suppose you want to talk about any of the new projects you might be working on.

Not at this time. But there's a lot.

I'll also -- in my closing remarks address maybe a little bit on the -- there's still some opportunities operationally and from an integration standpoint. We'll talk a little bit about.

Thank you very much. And thank you, Neil, for your questions.

Safeguarding the well-being of our employees, suppliers and customers remains our #1 priority. We also remain laser-focused on managing the effects of secular decline and pandemic on both our top and bottom lines.

I believe that our improved results over the last 2 quarters, through the heart of the chaotic environment we're in, demonstrates that our vision was solid and that we have emerged stronger as a result of the learnings from the past 2 years. For the balance of the year and into 2021, we'll remain very prudent and focused on operational improvements, cash flow generation, deleveraging and profitably growing our packaging segment.

We also remain cautious with our capital allocation, prioritizing debt reimbursement and when possible, purchasing shares for cancellation. Our long-term strategy remains the same: leverage our Canadian envelope assets to grow in the U.S., accelerate packaging revenues to reach a 50-50 split with the envelope segment.

We are well equipped and positioned to gain market share on all of our lines of business and are resolute in our quest to fill available capacity. Additionally, there's more we can do on integration and to improve operations to enhance profitability, and we'll focus on those areas, particularly within the packaging segment to ensure we continue to deliver.

Finally, I'd like to acknowledge and thank all of our 850-plus employees and our leadership team for their steadfast commitment to delivering on the plan and doing so safely. This completes my closing remarks.

Wish you all a terrific weekend and look forward to discussing the fourth quarter results in February. Take care, everyone.