Q3 2022 Cronos Group Inc Earnings Call

November 7, 2022

The conference will begin shortly to raise your hand during Q&A you can dial star one one.

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The conference will begin shortly to raise your hand during Q&A you can dial star one one.

[music].

Good morning, My name is Chris and I will be your conference operator today I.

I would like to welcome everyone to Kronos groups 2022 third quarter earnings Conference call today's call is being recorded.

At this time I would like to turn the call over to Shayne Laidlaw Investor Relations. Please go ahead.

Thank you, Chris and thank you for joining us today to review Curtis group's 2022 third quarter financial and business performance today, I'm joined by our Chairman President and CEO , Mike Guaranty, and our CFO Bob <unk>.

Curtis Group issued a news release announcing our financial results. This morning, which is filed on our Edgar and SEDAR profile. This information as well as the prepared remarks will also be posted on our website under investor Relations.

Before I turn the call over to Mike, Let me remind you that we may make forward looking statements and refer to non-GAAP financial measures. During this call. These forward looking statements are based on management's current expectations and assumptions that are subject to risks and uncertainties that could cause actual results to differ materially from those projected in the forward looking statements.

Actors that could cause actual results to differ materially from expectations are detailed in our earnings materials and our SEC filings that are available on our website by which.

Any forward looking statements made during this call are qualified in their entirety infill.

Information about non-GAAP financial measures, including reconciliations to U S. GAAP can also be found in the earnings materials that are available on our website. We will now make prepared remarks, and then we will move into the question and answer session with that I'll pass it over to Curtis group's chairman, President and CEO , Mike Gordon Steve.

Thanks, Shane and good morning, everyone.

I'd like to start our call today by discussing the strategic realignment, we have been working on this year.

We've taken steps to cut costs as you have seen within our operating expense structure and continue refining our budgeting and capital allocation processes to improve further.

Our <unk> cost structure and more targeted approach to growth across segments helps ensure that we're allocating funds to the right projects and initiatives.

All new investments share common goal.

Profitably grow Chronos, where they focus on board less products and brands that can adapt to new markets as they open.

Thanks to continuous efforts and reinforcing our startup mentality, we remain on track to hit our cost savings target of $20 million to $25 million in operating expenses in 2022.

As we complete the budgeting process for 'twenty three we remain keenly focused on cutting additional cost throughout our business to provide a firm footing for kronos to build its borderlands product portfolio and enable long term sustainable growth.

A key area of focus for us has been adapting our supply chain.

The build out of downstream processing capability that broke out is progressing with flower packaging up and running and we continue to be pleased with the cultivation performance at <unk> and our other CMO providers.

In the third quarter VAALCO reported to us preliminary unaudited revenue of approximately $5 8 million to non from those customers.

And as a reminder, <unk> has been repaying a senior secured loan which is now approximately $73 million.

These loan receivables combined with our balance sheet of approximately $890 million in cash and short term investments and strategic investments and Kronos, Australia and farm again set us up well to enter new markets as they open.

Balance sheet management through economic uncertainty is paramount and our desire to maintain a significant industry, leading cash balance ahead of potential global strategic growth opportunities has guided many of our decisions year to date.

To maximize the benefits of our balance sheet, we have repositioned a significant portion of our cash into short term investments to take advantage of the higher interest rate environment.

Growth via innovation continued to be a theme for us in.

In Canada. Our finished brand is winning in the edible and <unk> category and we expanded our offerings in these two categories with spinach field, CBS gummy and baked products.

We're excited that this portfolio of rare cannabinoid continues to grow and with the best in class product development team. We believe we can continue to provide consumers with superior and differentiated product utilizing rare cannabinoid.

Further leveraging American Avenue to expand our portfolio will continue to be pivotal for our ongoing product launches.

Having most recently announced the achievement of the equity milestone for key HCV. We are pleased with the product development progress across categories and look forward to sharing more details on new product launches in the future.

This quarter. We also received the results of an important third party verified study, which evaluated the sustainability and impact a traditional method of cannabis extraction and their own proprietary fermentation methods there.

The results were clear the environmental footprint of growing plant indoors is high and using innovative fermentation processes dramatically lower the environmental impact of cannabinoid production.

These results show a striking advantage for the fermentation method at the average percentage carbon footprint saving the fermentation method is 99, 8%.

While our industry is young its never too early to lead and invest in technology that helps contribute to a greener future.

While fermentation enabled us to make a smaller environmental impact. It also allows us to leverage American ammonoid, making way for unique and new experiences to proprietary blends of cannabinoid.

The fact that we're able to create breakthrough products, while being environmentally friendly as a win win for Kronos.

Despite a challenging macro environment in Canada, driven by disruptions at our provincial customers in Ontario, and British Columbia, Our team continued to push new innovation and drive profitable growth.

To make up for these disruptions, we strive to maintain supply continuity with customers. Although those efforts resulted in higher labor and shipping costs. We expect that the focus we put on making sure. Our products are on the shelves will pay dividend over the long run.

Following market share commentary will all be referencing high fire data.

In the flower category 28, Gram bags have come to dominate the market, making up 70 of the top 10-Qs.

And it's once again achieved the number one ranked dry flower SKU in September with our 28 Gram wedding cake offering achieving a nationwide flower in market share in Q3 at six 4% up 50 basis points from last quarter, making us the number three brand nationally and flowers.

28, Gram Clara typically carries a lower margin profile, despite the impact to our financials. It is important that when selling into the provinces and building relationships with retailers that we have a full product portfolio that theyre looking for.

Our 28 Gram products are winning on quality not just being the cheapest.

We are confident that over the long run in partnership with <unk> and other contract manufacturers, we can improve on the margin profile of the category.

Moving to edibles experience continues to expand market share up 100 basis points from last quarter to 15, 3% and 19, 8% market share when looking at just the gummies category.

Five finished gummies skus are in the top 15, including the number one and number two market share position on a per SKU basis.

We continue to be more efficient and targeted with our SKU launches and edibles driving market share gains with limited cannibalization, which is exemplified by our spinach field rare cannabinoid focus gummy editions, which are quickly climbing market share ranks.

In <unk>, we expanded market share by 70 basis points versus last quarter to four 1% driven by the wave of new products, we brought to market this year, including the Blackberry <unk> tropical diesel CPG Bay, and the Atomics, our great food Bank.

And three year olds, despite not being where we want to be yet we had several innovations and SKU assortment changes that we expect to change the trajectory of this category for us. This.

This overhaul will include new packaging market align pricing and innovative new infused payroll offerings that just shipped last week.

These new spinach payroll include a THC boosted product called atomic GMO, which is a cross breed of two of our best selling flowers operators atomics, our great food and GMO cookies as.

As well as the CBD infused pre Ro under the <unk> sub brand.

We are very excited to get our new pre rolled product assortment into the retail channel. So our sales team can do what they do best.

Turning to Israel, our peace Naturals products continue to win in the market.

Our team in Israel grew reported net revenue, 88% year over year to $7 million and on a constant currency basis net revenue in Israel increased 98% year over year to $7 4 million.

We've had incredibly positive patient reactions. So our newest drained launching taco bomba wedding cake and GMO cookies. In addition to our packaging redesign which allows for additional information on the Turkey and profiles of our products.

Israel's patient count continues to grow as well, adding approximately 500, new medical cannabis patients in September nearing a total of 120000 patients.

This is the third consecutive month, we've seen patient growth of approximately 500 or greater.

The reacceleration in year over year growth for patient permits provides a good foundation for growth in the Israeli market for us to capitalize on.

Earlier this year, our brand peace Naturals launched an AD campaign in partnership with the Warriors for Life Association in Israel.

The campaign called on narrows to restrict or stopped traditional firework shows.

Distress and anxiety to medical patients and those with PTSD as a result of conflict and more serious problem faced by many veterans in the country.

We are proud to have been awarded a prestigious clear award for this campaign and the social good category.

Congratulations to our deserving peace naturals team in Israel, and the Amazing work Warriors for life due for our veterans.

I wanted to take a moment to shed light on our U S business performance as you have heard over the past couple of quarters, we have completely shifted away from our beauty category focus portfolio.

All inventory that is beauty focus is being worked through and the wholesale and DTC channels as we shift the focus of these brands to adult use product formats.

We continued improving our cost structure in the U S and believe it is important to focus our investment only in areas that will give us an advantage in adult use product formats.

We are focused on creating borderlands products and brands that can easily be adapted to emerging cannabis markets as they become commercially viable opportunities.

The pivot in our U S business further drives us towards our singular focus.

Adult use cannabinoid products.

Looking to the adult use cannabis market opportunity. We are pleased to see progress by the by the administration last months to issue parties for minor cannabis related offenses at the federal level and urging governors to do the same.

These actions represent a small but important step towards healing the harm done by candidates prohibition in the United States.

We believe cannabis should be legal and had a comprehensive and reasonable regulatory framework should be put in place for the industry.

As legalization efforts continue across the U S. We are committed to using our voice to lead the industry forward responsibly and we will continue to be an integral part of the conversation.

We're proud to support responsible legalization efforts and meaningful social justice reforms.

Moving to Australia, where we have an approximate 10% stake in front of US Australia. The team is executing at a high level in the early stages of the market development.

During our third quarter, Kronos, Australia announced a <unk> <unk> per share cash dividend, which yielded kronos approximately 390000 U S dollars in October .

Having a long term low capital investment such as promised Australia start to pay capital back is a big positive.

Kronos, Australia also reasonably excuse me also recently reported strong financial results with revenue in September hitting a record $9 9 million Australian dollars.

Which is a run rate of nearly $120 million annually.

They continue to drive long term growth. They recently brought a new state of the art distribution Center online.

With a growing infrastructure expanding medical market and strong team. We look forward to Kratos, Australia is continued growth and market penetration.

And last but certainly not least I would like to congratulate Jeff Jacobson on his expanded role and promotion achieved chief growth officer.

Geoff has been with Kronos since 2016, and most recently served as SVP head of growth in North America. In addition to Jeff oversight of the marketing and sales functions and his new role he will oversee north American operations.

Given the speed at which the industry moves we believe having one leader guide the process from the point of idea creation to getting the product on the shelf will lead to better results for us going forward.

Congrats to Jeff on this new role.

With that I would like to pass it to Bob to take you through our financials.

Thanks, Mike and good morning, everyone.

Company reported consolidated net revenue in the third quarter of 2022 of $20 9 million.

A 3% increase from the third quarter of 2021.

Constant currency consolidated net revenue increased 7% to $21 $8 million.

Revenue growth year over year was primarily driven by an increase in net revenue and the rest of the world segment.

Driven by cannabis flower sales in Israel, and cannabis extract sales in Canada.

Partially offset by reduced sales in the U S and we will we're cannabis flower sales in Canada, driven by adverse price mix.

Consolidated gross profit for the third quarter of 2022 was $1 2 million, representing a $1 9 million improvement from the third quarter of 2021.

Gross margin was positive 6%.

From a negative 4% last year.

The improvement versus prior year was primarily driven by increased revenue and the Aro W segment, mainly driven by cannabis flower in Israel.

A favorable mix of cannabis extract products.

Carry a higher margin profile than other product categories.

Willard cannabis biomass costs.

Which were partially partially offset by lower fixed cost absorption due.

Due to the timing of the wind down activities at the peace Naturals campus and.

Lower revenue in the U S segment.

Consolidated adjusted EBITDA for the third quarter of 2022 was negative $21 7 million.

Representing a $25 1 million improvement from the third quarter of 2021.

The improvement versus prior year was primarily driven by decreases in general and administrative.

Sales and marketing.

And research and development expenses as a result.

As a result of the company's strategic realignment initiatives.

And an improvement in gross profit.

Now turning to our segments.

And the rest of the World segment.

We reported net revenue in the third quarter of 2022 of $24 million.

An 11% increase from the third quarter of 2021.

Constant currency net revenue in Israel increased 98% to $7 4 million.

While constant currency net revenue in Canada.

2% to $13 $9 million.

Revenue growth year over year was primarily driven by increased flower sales in Israel and.

On increased cannabis extract sales in Canada.

These gains were partially offset by lower cannabis flower sales in Canada, driven by an adverse price mix shifts.

Gross profit in the rest of the World segment for the third quarter of 2022 was $3 1 million, representing a $2 6 million improvement from the third quarter of 2021.

Gross margin was positive 15%.

Up from positive 3% last year.

The improvement versus prior year was primarily driven by increased cannabis flower revenue in Israel.

Cannabis extract sales in Canada to carry a higher gross margin than other product categories.

And lower cannabis biomass costs.

Partially offset by lower fixed cost absorption due.

Due to the timing of the wind down activities at the peace Naturals campus.

Adjusted EBITDA in the rest of the World segment for the third quarter of 2022 was negative $11 4 million.

Representing an.

$18 3 million an improvement from the third quarter of 2021.

Improvement versus prior year was primarily driven by a decrease in general and administrative expenses.

And an increase in gross profit.

Turning to the U S segment.

We reported net revenue in the third quarter of 2020 to $500000 or 76% decrease from the third quarter of 2021.

The decrease year over year was primarily driven by a reduction in sales as a result of a decrease in promotional spend.

SKU rationalization efforts.

As the company implements its realignment of the U S business.

Gross profit for the U S segment for the third quarter of 2022 was negative $2 million.

Representing a $700000 decline from the third quarter of 2021.

The decline year over year was primarily due to lower sales volumes and increased inventory reserves driven by the realignment activities.

Adjusted EBITDA in the U S segment third quarter of 2022 was negative $4 9 million.

Presenting a $7 3 million improvement from the third quarter of 2021.

The improvement versus prior year was primarily driven by decreases in sales and marketing general and administrative and research and development expenses driven by the reduction in beauty category focused R&D.

Now turning to our balance sheet.

The company ended the quarter with approximately $890 million in cash and short term investments.

This foreign exchange rate volatility has impacted our P&L.

Also had a large impact on our balance sheet.

If you apply the FX rates for the period ended December 31 of 2021 on the current period balance sheet, we would have approximately $940 million in cash and short term investments.

It's approximately $50 million difference.

We've made significant strides to reduce spending and improve our cash burn rate our free cash flows improved by over 50%.

As the same period last year driven.

Driven by operating expense savings and a 35% reduction in Capex, which was down to $1 6 million in the third quarter.

With that I'll turn it back to Mike.

Thanks, Bob.

Starting with Canada to learn and build a board with product portfolio.

The lineup of products, we've created to date continue to win driving market share gains for kronos across categories, giving us confidence that they can win in any market. Despite certain.

Certain challenges in Canada that drag on profitability proving out our capabilities in building an elite team remain top priorities.

Israel our team continues to fight for and win market share, which is a testament to our branding and product quality.

Having a team on the ground is a big differentiator for us and you'll see us continue to leverage that strength in Israel as the market continues to grow and evolve.

As we continue to execute on our strategic realignment I am encouraged that we have maintained our innovation progress with a leaner cost structure.

I want to thank our dedicated employees, who continue to stay focused on the long term plan.

We remain singularly focused on winning in the adult use cannabis market globally, and our industry, leading balance sheet affords us the opportunity to selectively invest and build our platform in new markets as they open.

With that I'll open the line for questions.

Thank you.

To ask a question you will need to press star one one on your phone.

We ask that you please limit yourself to one question and one follow up.

Standby as we compile the Q&A roster.

One moment, please while first question.

Our first question will come from Andrew Carter of Stifel. Your line is open.

Hey, Thanks, Good morning, I wanted to drill down on the spinach bags, which has been kind of the vast majority of the growth in kind of hits in the headset trends.

Obviously it shows some diminishing returns first.

That.

Profitable on a gross margin basis and is the theory, there like an attachment rate that allows you to get the other Spanish products, whether it be three roles dates on the shelf and this is just the cost of doing business. Thanks.

Sure. Thanks, Andrew.

It is.

Positive gross margin.

There's a few things one we.

We do we do look at it.

It is important from a utilization perspective to be able to.

To have sort of the outflow for the supply chain, but also when.

When you think about utilization for us it does drive a lot of value and the <unk> equity that we have to make sure that we're utilizing the facility.

But also I think it's important for the strength of the brand.

And for some of the other products we are launching.

Getting familiarity with some of the new strain will certainly fuel some of the work that we do in pre rolled and base.

When you look at it overall for the portfolio and Val.

Value driver, it's certainly there.

Take care.

28 grams versus three five grams, but I think.

We have to look at what consumers want and respond to it.

Second question I wanted to ask about the cost savings the 20% to 25% achieved this year can you give us a sense of how much of those 20% to 25 hit the P&L. This year. Therefore, how much is incremental next year and you did allude to further optimization savings I wanted to make sure I understood that you could have more.

And I know that you said kind of the U S. It's important for your future business, but thats $8 million of cost if I got that right.

Or is that just just to cost it's going to be embedded with you until something changes until you hit some kind of disruptive or is even those 8 million.

Therefore, 30 million annualized savings in scope as well.

Sure so.

When we think about the U S.

There is still we see opportunity there I wouldn't say that we are we're happy with the cost structure versus what the contribution is today.

But we do see opportunity in the U S. Though.

It's still a business that we're working on and making sure that we're making it as lean as possible and.

Basically transforming into something that is a positive contributor.

I'll, let Bob speak to where we are overall in the $20 million to $25 million, but.

Part of that when I talk about further opportunities.

Just because we had the plan to begin the year doesn't mean, we're not constantly looking for any incremental savings evaluating everything we do.

Find places that we can improve our bottom line.

Yeah. Thanks, Thanks, Mike I'll, just add a little more color on that we're very confident in our ability to hit the 20% to $25 million in cost savings those are actual realized cost savings in this fiscal year versus the prior year.

We're in the middle of and working through our 2023 budget process and then Mike as Mike pointed out in his prepared comments.

We're very focused on continuing to.

Become more efficient and effective our realignment.

<unk> and restructuring activities are really going to be a big contributor to <unk>.

To improve not just gross margin, but also operating efficiencies too. So we are anticipating additional savings beyond the 2025, we realized this year.

Going into <unk>.

2023 also.

Thanks, I'll pass it on.

Thank you.

One moment please for our next question.

And our next question will come from the line of Michael Freedman of Raymond James.

Your line is open.

Hey, good morning, Mike Bob Vincent Thanks for taking our questions here.

I was glad to see that.

Bunch of CPG infused pre rolls.

Products involving seat CPN product development with ph television.

I Wonder if you could provide us an updates on your on if theres anything new strategic thinking on how you are.

Considering deploying cultivated cannabinoid through your partnership with Kimco.

Sure. Thank you.

We actually think that have been going well as far as.

As far as uptake for the product and a lot of that strategy.

<unk> for the product pipeline that we've had in motion does.

Involved heavily those products. So we've seen great response to.

To the edibles into the base and with just shipping Kingwood.

With a rare cannabinoid this week or sorry last week with payrolls.

Feel like those are the three main categories. It makes sense to have the rare cannabinoid then now it's some of the cannabinoid we've been developing that haven't been on market starting to come out.

So.

Just given when we look at say CPG feels gummy and having a one 9% market share.

A single SKU basis, we think the strategy is working and we think that the portfolio will continue to gain strength as there's more and more.

New differentiating can add that we can add to the roster.

Okay, great. Thank you.

As a follow up.

Reading is that the your exit from from the Peace Naturals campus is.

We're going to be pushing into 2023, I wonder if you could provide us.

Update on that.

Sure.

While we think the bulk of the transition should there'll be done this year.

Just been some.

Delays with with.

With getting some of the CMO is up and running if you want to handle the capacity and for US. What we think is most important is making sure that we're able to.

Maintain the product on shelf to be able to kind of keep keep the topline momentum so that when the transition is complete we can fully realize the benefits of that.

The cost savings, so we're being we're being careful and making sure that we're not rushing.

We expect the first half of next year that the transition should be complete and noting that its a its definitely a gradual transition, but we have completed all cultivation activities that would be.

It's Matt.

Okay.

Thank you if you would entertain just one more.

Thinking about your U S strategy I Wonder if you could.

Shed some shed some light on your internal thinking, especially in light of canopies recent move to execute.

Investments by way of holding co and if this changes your view on the U S outlook.

Yes, I think for US we're in a.

Different situation than a lot of peers.

Given.

We have a strong investment with foreign Mccann today.

But most of our most of our dry powder is still maintained on the balance sheet I'll leave a lot of flexibility not having any debt.

And we do look at it still is.

Making sure we have the right product portfolio and ultimately when you look at the <unk>, how do we get out our product portfolio and how do we do.

New products to add to it.

We think that there is certainly a lot of momentum with the Biogen announced.

But.

We're looking at structures that fit us best and I. Thank you all.

You'll see us getting closer and closer to that so we're really excited about the use of an opportunity and we still feel that it is.

Branded product opportunity and things are going to continue moving more towards the CPG looking market.

That's great. Thanks best of luck.

Thank you.

And one moment for our next question.

Our next question will come from Vivien <unk> of Cowen Your line is open.

Hi, Thank you good morning.

Just to follow up on the rare cannabinoid, while it's clearly early days for you Mike I know, you're a keen observer of the.

U S marketplace, where.

Product featuring rare cannabinoid are.

More available so I'd love to just get your question on what you see from a cap rate perspective, and whether you think that will apply to Canada. Thank you.

Sure. It's a great question I think one of the challenges that.

I would ask this or work down this pathway is.

It's still very difficult to get enough availability of some of those American appetite there.

There are some cannabinoid that are easier to get in the U S. Now again, TBD, but we look at some of the ones.

Tacb for example that Youre, just not seeing commercial availability and begin with <unk>.

But we've seen that.

Even outside of the traditional candidates channels cannabinoid like CDN once consumers have now learned what's GBM, but CBS does.

There is a lot of uptake of it and it does provide a differentiator and really like standalone branded products. So.

We continue to believe that it is.

Right opportunity and a good way to.

To escape.

All it commoditization of products.

Understood and for my follow up you paid in Israel. Please.

Nice to hear that the market is reaccelerate. It just would love to get an updated view of where you think market penetration can go in Israel.

Sure, Yes, I think we did have those.

Those temporary kind of.

Stopped for a few months and we've seen things start to turn back on.

We think that things are now headed back in the right direction.

The market looking good growth wise and it's really.

The thing to watch is whats happening with patient growth how much of that reaccelerate towards we just had.

We had an election last week, which we think gives more certainty to.

Things move forward politically and we're very optimistic we think that.

Our ability to continue.

Outpacing the growth of the market on the wholesale channel and then also the market continuing to grow as it gives us a bright future.

Thank you.

Yes.

One moment please for our next question.

The next question will come from John <unk> of CIBC capital markets. Your line is open.

Thanks. Good morning, I also wanted to touch on Israeli market and can you talk about the pricing dynamics here and do you think youre taking share in Israel.

Sure, Yes, I think there there's still been.

Some limited pricing pressure, but it's it's relieved compared to what we had.

A quarter or two ago, so you're seeing some of the excess supply work its way through the system.

And I think we are taking share I think we stand out when it comes to quality I think that the branches is recognized.

As being a leader.

And.

We are we're continuing to perform so.

I think that the combination of having better quality, but also now getting back to patient growth is generally improving the dynamic there.

And I think there was sort of a lesson that we've learned as far as we did have a big shortage in Israel. So there was a lot of.

A lot of activity and to bring in whatever products.

Local companies could find and I think now there's a little bit more skepticism and what products.

And so.

We see those macro dynamics continuing to improve and we've already seen them through over the last couple.

Okay. That's helpful. Thanks, and then my follow up is on gross margin and apologies if I missed it but can you say what this was either consolidated or rest of world. If you back out the peace naturals exits.

Yes, Bob do you want to go and take that one.

Yes, no definitely.

We really feel confident in the trajectory of our margin.

The margin profile there are.

A lot of pluses and.

Some minuses that transpired.

Transpired in the quarter, but.

As you guys talked about a second ago. Israel's margin has remained strong and is growing as that business continues to grow in revenues, we're experiencing lower biomass costs through our relationship partnership with <unk> and that's going to be a long term sustainable type savings versus.

<unk> history past experience.

As cannabis extracts.

Can you become a bigger part of our business in Canada.

To have favorable margin trends, they have higher margins than other product categories.

That was offset particularly in this quarter by a few things one was.

We realized and recorded.

A $1 $8 million decline in gross profit dollars.

Sequentially from Q2 in the U S business and lot of that was driven by taking inventory reserves discounting product as we work through discontinued skus and product categories.

We had than we experienced in the <unk> segment.

Lower fixed cost absorption this particular quarter with the slight delay in our transition out of state or facility as we've talked about a little bit.

We also discussed in the call.

The adverse price mix shifts.

In the Canadian flower category, that's driven by the 28 Gram bags.

That drove some of the margin impact in the quarter.

And then lastly.

Again another.

Period base anomaly, we believe during this quarter in the third quarter. We did began downstream processing of some rare cannabinoid, but haven't reached their milestones yet on efficiency.

But we think speed the market for this product and the differentiation that's going to create.

He is a great investment and will have a long term ROI. So there are a lot of.

Pluses that are going to be sustained and sustainable in a lot of minuses and I would say most of the minuses incurred in the quarter.

We're just period expenses and I don't consider that going to be things that carry forward.

Long term.

Thanks, Bob and just to follow up on the rare cannabinoid point, what Youre seeing here. If you remember last year, we amended the agreement so that if.

If we wanted to commercialize the cannabinoid early before the.

Product productive either with hits that we had the option to.

As you one third of the equity upon commercialization and so what you could see expect there as we were excited about it cannabinoid that we wanted to get into market early.

Understood. That's helpful. Thank you.

Thank you.

<unk>.

And one moment for our next question.

Our next question will come from Nadine somewhat allow.

Alliance Bernstein Your line is open hi.

Hi, Thank you good morning, everybody two questions for me. So first you stated that you expect pre roll innovation to be your next big driver of growth.

And I know you called out those two products in particular, so given that that segment is already pretty crowded what gives you the confidence that your brands are going to win in that space and drive that growth Youre talking about and then my second question you asked.

Revenues. They continue to follow you explain that very clearly as part of your realignment plan could you give us any clarity as to how we should think about that segment a little bit more long term should we think of this quarter.

Is there more decline to come how can we expect it when should we expect it to actually start growing again. Thank you.

Great. Thanks.

The first question look I think every category and candidate.

Either as crowded or will quickly become crowded until there is ultimately differentiation in U C.

And you start to set apart so when we think about the way that we're entering.

Taken similar approaches in other categories, it's about really focusing on what we think are consumed.

Consumer want.

It's.

Making sure that the brand is going to perform well and that we haven't got really really good product. So.

So theres a lot of innovation to come and pre rolls.

One of the reasons, you're seeing some movement there.

There is an opportunity to differentiate.

And we'll provide a lot of value to consumers as far as the.

The complexity of the product with different <unk> and flower and the convenience.

So.

I think it's ultimately the same you could've said that edibles is really crowded and I think we performed well and I think that pre roll to the very large category with a lot of runway and opportunity.

We're excited about it and I think that.

This is only the beginning we have a lot that will be coming out for the next.

Next couple of years and I think it's going to continue to take share from flower.

As far as far as the U S. I think it's still.

Youll see in transition I mean, we are can be focused on continuing to skinny down and get to a place where we're focused on just the adult use product formats.

<unk>.

<unk> start to grow when we're able to get the right innovation.

Back in the market and we have the infrastructure the proper.

I think that while we would limit the formats.

What we can do forest products Skus.

It's something where you see the growth come from there's cannabinoid beyond CBD that we think are able to stand out and <unk> and.

And provide more growth I think it's very hard to differentiate with only CBD and <unk>.

And what we see in.

And.

Phd type products, so I think being able to use a lot of different cannabinoid is what's going to drive the growth there.

Alright, thank you.

<unk>.

Thank you.

And one moment please for our next question.

Okay.

Next question will come from the line of Andrew Baum of Jefferies. Your line is open.

Hey, good morning, Andrew Bond and the line for Owen Bennett, Thanks for taking our question.

I wanted to touch.

Visit on the comments you made about the sizable dry powder you have on the balance sheet and prospects for M&A, obviously valuations in the industry across the board have been coming down can you give any more detail around what opportunities you might be evaluating valuation levels youre seeing and can you remind us of kind of how your focus is in terms of assessing how you'd like to deploy that deploy that.

Cash thank you.

Yeah.

Sure. Thanks.

Great question.

I think valuations certainly are coming down.

And I think that one of the things that we probably think about differently. Here is we're again looking at what happens in a world where state borders.

Paul and when Theyre, the equilibrium of supply and demand. So we're looking when whats going to stand out when youre able to always fine.

Location, and Youre able to go and pick up products.

What's it look like in a mature market and for us that comes down.

Branded products.

So we haven't really changed in our thinking they're still looking to see what the best opportunities are and and you see every every quarter youre seeing.

Separation and Youre seeing that kind of maturity and a lot of the market. So we're not as interested in okay, Here's a brand new market.

Look at the huge sizable margin spread because youll see that that will compress as youre able to get.

More supply on the market and then over time that starts to shift as with any other consumer product industry.

Towards what the best branded products are.

Got it thank you Mike I'll pass it on.

Thank you.

One moment please for the next question.

Our next question our.

Our next question will come from Matt Bottomley Canaccord Genuity. Your line is open.

Hi, Good morning, all thanks for the question here just one follow up for me, Mike just on one of your comments.

And the Q&A here that you anticipate a lot of different product categories, particularly in Canada to eventually become saturated.

I would agree with.

In the current regulatory environment do you think a lot of the gains Carlos is done and it's particularly in the edible category. There's been one or two of your peers, which edible seem to be a category, where theres been some growth here, what's your view on how that.

Okay.

Category in particular is going to trend, obviously dried bud kind of fell off a cliff, particularly at the value segment do you think kind of branded products is limited as they are in Canada are a little more protected from that or are you anticipating over the next 12 to 16 months is going to have to be additional pivots, even in the categories that are doing well for you right now.

Yes, sorry, just to clarify what I meant there and it's a great question what I meant.

By saturated is theres not going to be an opportunity in Canada, just given how large of an industry.

Potential where youre going to be the only one who moved in in say like Youre. One of the three companies that are operating pre rolls. There is an opportunity you can expect everyone's going to go chase it.

But what I, what I do think what I liked about <unk>.

But <unk> is the further you get from flower.

The the more differentiation you can have adding edibles, it's probably about it's far along that.

Differentiation curve as you can get so pre rolled is certainly right up there, but I don't think youre going to see a lot of change and edibles and it's not a coincidence. If you look at the U S.

Edible this is probably more than any other category. We can see consistent brands that are popping up across different states.

Even though they aren't necessarily.

Yes.

While multistate operator.

I think youll see that with three year old So I think theres more innovation to come outside of just gummies and Canada.

But I think it started off saturated or anything.

Youre seeing leaders emerge and much more stickiness than something like flower.

Got it thank you.

Thank you.

Yes.

And this will conclude the Q&A session of today's call and will also conclude today's conference call. Thank you all for participating you may now disconnect and have a pleasant day.

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Good morning, My name is Chris and I will be your conference operator today.

I would like to welcome everyone to Kronos group's 2022 third quarter earnings Conference call today's call is being recorded.

At this time I would like to turn the call over to Shayne Laidlaw Investor Relations. Please go ahead.

Thank you, Chris and thank you for joining us today to review <unk> group's 2022 third quarter financial and business performance today I am joined by our Chairman President and CEO , Mike <unk>, and our CFO , Bob or Curtis Group issued a news release announcing our financial results. This morning, which was filed on Edgar and SEDAR profile. This information.

<unk> as well as the prepared remarks will also be posted on our website under Investor Relations.

Factors that could cause actual results to differ materially from expectations are detailed in our earnings materials and our SEC filings that are available on our website by which.

Any forward looking statements made during this call are qualified in their entirety infill.

Information about non-GAAP financial measures, including reconciliations to U S. GAAP can also be found in the earnings materials that are available on our website. We will now make prepared remarks, and then we will move into a question and answer session with that I will pass it over to Kronos group's chairman President and CEO , Mike Gordon Steve.

Thanks, Jane and good morning, everyone.

Like to start our call today by discussing the strategic realignment, we have been working on this year.

We've taken steps to cut costs as <unk> seen within our operating expense structure and continue refining our budgeting and capital allocation processes to improve further.

<unk> cost structure and more targeted approach to growth across segments helps ensure that we're allocating funds to the right projects and initiatives.

All new investments share a common goal.

Profitably grow Kronos with a focus on borderlands products and brands that can adapt to new markets as they open.

Thanks to continuous efforts and reinforcing our startup mentality, we remain on track to hit our cost savings target of $20 million to $25 million in operating expenses in 2022.

As we complete the budgeting process for 'twenty three we remain keenly focused on selling additional costs throughout our business to provide a firm footing for kronos to buildup borderlands product portfolio and enable long term sustainable growth.

A key area of focus for us has been adapting our supply chain.

The build out of downstream processing capability of the <unk> is progressing with flower packaging up and running and we continue to be pleased with the cultivation performance at <unk> and our other CMO providers.

In the third quarter <unk> reported to us preliminary unaudited revenue of approximately $5 8 million to non kronos customers.

And as a reminder, <unk> has been repaying at senior secured loan which is now approximately $73 million.

To maximize the benefits of our balance sheet, we have repositioned a significant portion of our cash into short term investments to take advantage of the higher interest rate environment.

Growth via innovation continue to be a theme for us in <unk>.

Canada, our spinach brand is winning in the edible and <unk> category.

And we expanded on our offerings in these two categories with spinach field, TBN gummy and baked products.

We're excited that this portfolio of rare cannabinoid continues to grow and with the best in class product development team. We believe we can continue to provide consumers a superior and differentiated product utilizing rare cannabinoid.

Further leveraging rare can avenue to expand our portfolio will continue to be pivotal for our ongoing new product launches.

Most recently announced the achievement of the equity milestone for THC.

We are pleased with the product development progress across categories and look forward to sharing more details on new product launches in the future.

This quarter. We also received the results of an important third party verified study, which evaluated the sustainability and impact of traditional methods of cannabis extraction and their own proprietary fermentation methods.

The results were clear the environmental footprint of growing plant indoors is high and using innovative fermentation processes dramatically lower the environmental impact of cannabinoid production.

These results show a striking advantage for the fermentation method as the average percentage carbon footprint saving the fermentation method is 99, 8%.

While our industry is young its never too early to lead and invest in technology that helps contribute to a greener future.

<unk> fermentation enabled us to make a smaller environmental impact. It also allows us to leverage American ammonoid, making way for unique and new experiences to a proprietary blend of cannabinoid.

The fact that we're able to create breakthrough products, while being environmentally friendly as a win win for Kronos.

Despite a challenging macro environment in Canada, driven by disruptions at our Prudential customers in Ontario, and British Columbia, Our team continued to push new innovation and drive profitable growth.

The following market share commentary will all be referencing high fire data.

In the flower category 28, Gram bags have come to dominate the market, making up 70 of the 10 top 10-Qs.

It's finished once again achieved the number one ranked dry flower SKU in September with our 28 Gram wedding cake, operator, achieving a nationwide, Florida market share in Q3 at six 4% up 50 basis points from last quarter, making us the number three brand nationally and flowers.

28, Gram flour typically carries a lower margin profile. Despite the impact to our financials. It is important that when selling into the provinces and building relationships with retailers that we have a full product portfolio that theyre looking for.

28 Gram products are winning on quality not just being the cheapest.

We are confident that over the long run in partnership with <unk> and other contract manufacturers, we can improve on the margin profile of the category.

Moving to Edibles spinach continues to expand market share up 100 basis points from last quarter to 15, 3% and 19, 8% market share when looking at just the gummies category.

<unk> finished on these skus are in the top 15, including the number one and number two market share position on a per SKU basis.

We continue to be more efficient and targeted with our SKU launches and edibles.

Giving market share gains with limited cannibalization, which is exemplified by our spinach field rare can avenue I'd focus gummy additions, which are quickly climbing market share ranks.

In <unk>, we expanded market share by 70 basis points versus last quarter to four 1% driven by the wave of new products, we brought to market this year.

<unk>, the Blackberry <unk> tropical diesel CPG Bay, and the Atomics, our great food Bank.

And three year olds, despite not being where we want to be yet we have several innovations and SKU assortment changes that we expect to change the trajectory of this category for us.

This overhaul will include new packaging market align pricing and innovative new infused payroll offerings that just shipped last week.

These new spinach payroll, including ghd boosted product called atomic GMO, which is a cross breed of two of our best selling flowers operators atomics, our great food and GMO cookies as.

As well as the CBD infused pre Ro under the new <unk> sub brand.

We are very excited to get our new pre rolled product assortment into the retail channel. So our sales team can do what they do best.

Turning to Israel, our peace Naturals products continue to win in the market.

Our team in Israel grew reported net revenue, 88% year over year to $7 million and on a constant currency basis net revenue in Israel increased 98% year over year to $7 4 million.

We've had incredibly positive patient reactions. So our newest drained launching telco bomba wedding cake and GMO cookies. In addition to our packaging redesign which allows for additional information on the Turkey profiles of our product.

Israel's patient count continues to grow as well, adding approximately 500, new medical cannabis patients in September nearing a total of 120000 patients.

This is the third consecutive month, we've seen patient growth of approximately 500 or greater.

The reacceleration in year over year growth for patient permits provides a good foundation for growth in the Israeli market for us to capitalize on.

Earlier this year, our brand peace Naturals launched an AD campaign in partnership with the Warriors for Life Association in Israel.

The campaign called on narrows to restrict or stop traditional firework shows.

Distress and anxiety to medical patients and those with PTSD as a result of conflict and more serious problems faced by many veterans in the country.

We are proud to have been awarded a prestigious clear award for this campaign and the social good category.

Congratulations to our deserving peace naturals team in Israel, and the Amazing work Warriors for life due for our veterans.

I wanted to take a moment to shed light on our U S business performance as you have heard over the past couple of quarters, we have completely shifted away from our beauty category focus portfolio.

All inventory that is beauty focus is being worked through and the wholesale and DTC channels as we shift the focus of these brands to adult use product formats.

We continued improving our cost structure in the U S and believe it is important to focus our investment only in areas that will give us an advantage in adult use product formats.

We are focused on creating borderlands products and brands that can easily be adapted to emerging cannabis markets as they become commercially viable opportunities.

The pivot in our U S business further drives us towards our singular focus.

Adult use cannabinoid products.

Looking to the adult use cannabis market opportunity. We are pleased to see progress by the by the administration last months to issue pardons for minor cannabis related offenses at the federal level and urging governors to do the same.

These actions represent a small but important step towards healing the harm done by cannabis prohibition in the United States.

We believe cannabis should be legal and then a comprehensive and reasonable regulatory framework should be put in place for the industry.

As legalization efforts continue across the U S. We are committed to using our voice to lead the industry forward responsibly and we will continue to be an integral part of the conversation.

We're proud to support responsible legalization efforts and meaningful social Justice reform.

Moving to Australia, where we have an approximate 10% stake in front of Australia. The team is executing at a high level in the early stages of the market development.

During our third quarter, Kronos, Australia announced a <unk> <unk> per share cash dividend, which yielded kronos approximately 390000 U S dollars in October .

Having a long term low capital investment such as promised Australia start to pay capital back is a big positive.

Kronos, Australia also reasonably excuse me also recently reported strong financial results with revenue in September hitting a record $9 9 million Australian dollars.

Which is a run rate of nearly $120 million annually.

They continue to drive long term growth. They recently brought a new state of the art distribution Center online.

With a growing infrastructure expanding medical market and strong team, we look forward to Kronos, Australia continued growth and market penetration.

And last but certainly not least I would like to congratulate Jeff Jacobson on his expanded role and promotion to chief growth Chief growth Officer.

Geoff has been with Kronos in 2016, and most recently served as SVP head of growth in North America. In addition to Jeff oversight of the marketing and sales functions and his new role he will oversee north American operations.

Given the speed at which this industry moves we believe having one leader guide the process from the point of idea creation to getting the product on the shelf will lead to better results for us going forward.

Congrats to Jeff on this new role.

With that I would like to pass it to Bob to take you through our financials.

Thanks, Mike and good morning, everyone.

The company reported consolidated net revenue in the third quarter of 2022 of $20 9 million.

A 3% increase from the third quarter of 2021.

Constant currency consolidated net revenue increased 7% to $21 8 million.

Revenue growth year over year was primarily driven by an increase in net revenue and the rest of the world segment driven.

Driven by cannabis flower sales in Israel, and cannabis extract sales in Canada.

Partially offset by reduced sales in the U S and we will we're cannabis flower sales in Canada, driven by adverse price mix.

Consolidated gross profit for the third quarter of 2022 was $1 2 million, representing a $1 9 million improvement from the third quarter of 2021.

The gross margin was positive 6%.

Up from a negative 4% last year.

The improvement versus prior year was primarily driven by increased revenue and the Aro W segment, mainly driven by cannabis flower in Israel.

A favorable mix of cannabis extract products.

Carry a higher margin profile than other product categories.

And we will re cannabis biomass costs.

Which were parsed, partially offset by lower fixed cost absorption.

Due to the timing of the wind down activities at the peace Naturals campus and.

Lower revenue in the U S segment.

Consolidated adjusted EBITDA for the third quarter of 2022 was negative $21 7 million.

Representing a $25 1 million improvement from the third quarter of 2021.

The improvement versus prior year was primarily driven by decreases in general and administrative.

Sales and marketing.

And research and development expenses as it.

As a result of the company's strategic realignment initiatives.

And an improvement in gross profit.

Now turning to our segments.

And the rest of the World segment.

We reported net revenue in the third quarter of 2022 of $24 million.

At 11% increase from the third quarter of 2021.

Constant currency net revenue in Israel increased 98% to $7 4 million.

While constant currency net revenue in Canada was down 2% to $13 9 million.

Revenue growth year over year was primarily driven by increased flower sales in Israel on.

On increased cannabis extract sales in Canada.

These gains were partially offset by lower cannabis flower sales in Canada, driven by an adverse price mix shifts.

Gross profit in the rest of the World segment for the third quarter of 2022 was $3 1 million, representing a $2 6 million improvement from the third quarter of 2021.

Gross margin was positive 15%.

Up from positive 3% last year.

The improvement versus prior year was primarily driven by increased cannabis flower revenue in Israel.

Candidates extract sales in Canada to carry a higher gross margin than other product categories.

And lower cannabis biomass costs.

Partially offset by lower fixed cost absorption due.

Due to the timing of the wind down activities at the peace Naturals campus.

<unk> EBITDA in the rest of the World segment for the third quarter of 2022 was negative $11 4 million reps.

Representing an.

$18 3 million an improvement from the third quarter of 2021.

Improvement versus prior year was primarily driven by a decrease in general and administrative expenses.

And an increase in gross profit.

Turning to the U S segment.

We reported net revenue in the third quarter of 2020 to $500000 of 76% decrease from the third quarter of 2021.

The decrease year over year was primarily driven by a reduction in sales as a result of a decrease in promotional spend.

SKU rationalization efforts.

As the company implements its realignment of the U S business.

Gross profit for the U S segment for the third quarter of 2022 was negative $2 million.

Representing a $700000 decline from the third quarter of 2021.

The decline year over year was primarily due to lower sales volumes and increased inventory reserves driven by the realignment activities.

Adjusted EBITDA in the U S segment third quarter of 2022 was negative $4 9 million.

Presenting a $7 3 million improvement from the third quarter of 2021.

Now turning to our balance sheet.

The company ended the quarter with approximately $890 million in cash and short term investments.

Foreign exchange rate volatility has impacted our P&L.

Also had a large impact on our balance sheet.

If you apply the FX rates for the period ended December 31 of 2021 on the current period balance sheet, we would have approximately $940 million in cash and short term investments.

It's approximately $50 million difference.

We've made significant strides to reduce spending and improve our cash burn rate our free cash flows improved by over 50%.

As the same period last year driven.

Driven by operating expense savings and a 35% reduction in Capex, which was down to $1 6 million in the third quarter.

With that I'll turn it back to Mike.

Thanks, Bob.

Starting with Canada to learn and build a border list product portfolio.

The lineup of products, we've created to date continue to win driving market share gains for kronos across categories, giving us confidence that they can win in any market. Despite certain.

Certain challenges in Canada that drag on profitability proving out our capabilities in building an elite team remain top priorities.

Israel our team continues to fight for and win market share, which is a testament to our branding and product quality.

Having a team on the ground is a big differentiator for US and you will see us continue to leverage that strength in Israel as the market continues to grow and evolve.

As we continue to execute on our strategic realignment I am encouraged that we have maintained our innovation progress with a leaner cost structure.

I want to thank our dedicated employees, who continue to stay focused on the long term plan.

With that I'll open the line for questions.

Thank you.

To ask a question you will need to press star one one on your phone.

We ask that you please limit yourself to one question and one follow up.

Standby Patsy compile the Q&A roster.

One moment, please while first question.

Our first question will come from Andrew Carter of Stifel. Your line is open.

Hey, Thanks, Good morning, I wanted to drill down on the spinach bags, which has been kind of the vast majority of the growth in kind of hits in the headset trends.

Obviously it showed some diminishing returns first.

Profitable on a gross margin basis and is the theory, there like an attachment rate that allows you to get the other Spanish products, whether it be pre rolls dates on the shelf and this is just the cost of doing business. Thanks.

Sure. Thanks, Andrew.

It is.

Positive gross margin and I think Theres a few things one we.

We do we do look at it and.

It is important from a utilization perspective to be able to.

To have that sort of the outflow for the <unk>.

Apply chain, but also.

When you think about utilization for us it does drive a lot of value in the equity that we have to make sure that we're utilizing the facility.

But also I think it's important for the strength of the brand.

And for some of the other products we are launching.

Getting familiarity with some of the new strain will certainly fueled some of the work that we do in pre rolled and base. So I think when you look at it overall for the portfolio and Val.

Value driver certainly there.

Take your point on 28 Grand versus three five grams, but I think.

We have to look at what consumers want and respond to it.

Second question I wanted to ask about the cost savings the $20 to 25% achieved this year can you give us a sense of how much of those 20% to 25 hit the P&L. This year. Therefore, how much is incremental next year and you did allude to further optimization savings I wanted to make sure I understood that you could have more.

And I know that you said kind of the U S is important for your future business, but thats $8 million of cost if I got that right.

Or is that just a just a cost it is going to be embedded with you until something changes until you hit some kind of disruptive or is even those 8 million, therefore 30 million annualized savings in scope as well. Thanks.

Sure so.

When we think about the U S.

There's still we see opportunity there I wouldn't say that we are we're happy with the cost structure versus what the contribution is today.

But we do see opportunity in the U S. Though.

It's still a business that we're working on and making sure that we're making it as lean as possible and.

Basically transforming into something that is a positive contributor.

I'll, let Bob speak to where we are overall in the $25 million, but.

Part of that when I talk about further opportunities.

Just because we had the plan to begin the year. It doesn't mean, we're not constantly looking for any incremental savings evaluating everything we do.

Find places that we can improve our bottom line.

Yeah.

Yeah. Thanks, Thanks, Michael I'll, just add a little more color on that listen we're very confident in our ability to hit the 20% to $25 million in cost savings those are actual realized cost savings in this fiscal year versus the prior year.

We're in the middle of and working through our 2023 budget process and then Mike as Mike pointed out in his prepared comments.

We're very focused on continuing to.

Become more efficient and effective our realignment.

Strategy and restructuring activities are really going to be a big contributor too.

To improve not just gross margin, but also operating efficiencies too. So we are anticipating additional savings beyond the 2025, we realized this year.

Going into.

2023 also.

Thanks, I'll pass it on.

Thank you.

One moment please for our next question.

And our next question will come from the line of Michael Freedman of Raymond James.

Your line is open.

Hey, good morning, Mike, Bob and thanks for taking our questions here.

I was glad to see.

Launch of CBD infused pre rolls.

Products involving seat CPN product development with THC EV.

I Wonder if you could provide us an update on your <unk>.

If theres anything new strategic thinking on how you are.

Considering deploying cultivated cannabinoid through your partnership with Kimco.

Sure. Thank you.

We actually think that have been going well as far as.

As far as uptake for the product and a lot of this strategy for the product pipeline that we hadn't motion does.

Involved heavily those products. So we've seen great response to.

Hi.

The edibles into the base and with just shipping.

It came with a rare cannabinoid this week or sorry last week with payrolls.

Feel like those are the three main categories. It makes sense to have the rare cannabinoid then now it's some of the cannabinoid <unk> been developing that haven't been on market starting to come out so.

Just given when we look at say CPG feels gummy and having a one 9% market share.

Single SKU basis, we think the strategy is working and we think that the portfolio will continue to gain strength as there's more and more.

New differentiating connect that we can add to the roster.

Okay, great. Thank you.

As a follow up.

Reading is that the your exit from from the Peace Naturals campus as is.

We're going to be pushing into 2023, I wonder if you could provide us.

Update on that.

Sure.

While we think the bulk of the transition should still be done this year.

Just been some delays with with.

With getting some of the CMO is up and running if you want to handle the capacity and for US. What we think is most important is making sure that we're able to.

Maintain the products on shelf to be able to kind of keep keep the topline momentum so that when the transition is complete we can fully realize the benefits of that.

The cost savings, so we're being we're being careful and making sure that we're not rushing.

We expect the first half of next year that the transaction should be complete and noting that its a its definitely a gradual transition, but we have completed all cultivation activities.

You can ask.

Okay. Thank.

If you would entertain just one more.

Thinking about your U S strategy I Wonder if you could.

Shed some shed some light on your internal thinking, especially in light of canopies recent move to execute.

Investments by way of holding Cowen if this changes your view on the U S outlook.

Yes, I think for US we're in a.

Different situation than a lot of peers.

Given.

We have a strong investment with farmer Mccann today.

But most of our most of our dry powder is still maintained on the balance sheet, we have a lot of flexibility not having any debt.

And we do look at it still is.

Making sure we have the right product portfolio and ultimately when you look at the U S.

How do we get out our product portfolio and how do we do.

New products to add to it.

We think that there is certainly a lot of momentum with the Biogen announced.

But.

We're looking at structures that fit us best and I. Thank you all.

You'll see us getting closer and closer to that so we're really excited about the us opportunity and we still feel it is a branded product opportunity and things are going to continue moving more towards the CPG looking market.

Okay. That's great. Thanks best of luck.

Thank you.

And one moment for our next question.

Our next question will come from Vivien <unk> of Cowen Your line is open.

Hi, Thank you good morning I.

I wanted to follow up on the rare cannabinoid, while it's clearly early days for you Mike I know, you're a keen observer of the U S marketplace, where.

Featuring rare cannabinoid.

More available so I'd love to just get your question on what you see from a cap rate perspective, and whether you think that will apply to Canada that thank you.

Sure Great question, I think one of the challenges that.

How does this work down this pathway is.

It's still very difficult to get enough availability of some of those rare cannabinoid.

Are there are some cannabinoid that are easy to get in the U S. Now, it's TBD, but we look at some of the ones.

<unk> for example that Youre, just not seeing commercial availability and being able to supply.

But we've seen that.

Even outside of the traditional candidates channels cannabinoid like CBS once consumers have now learned what's GBM GBM does.

There is a lot of uptake of it and it does provide a differentiator and really like standalone branded products. So.

We continue to believe that it's a great opportunity and a good way to.

To escape call it commoditization of products.

Understood and for my follow up just pivoting to Israel. Please.

Nice to hear that the market is re accelerated.

Would love to get an updated view of where you think market penetration can go in Israel.

Sure, Yes, I think we did have those.

Those temporary kind of.

Stopped for a few months and we've seen things start to turn back on.

We think that things are now headed back in the right direction.

The market looking good growth wise and it's really.

The thing to watch is whats happening with patient growth how much of that reaccelerate towards we just had.

Had an election last week, which we think.

Get more certainty too.

Things move forward politically and we're very optimistic we think that our ability to continue.

Outpacing the growth of the market and the wholesale channel and then also the market continuing to grow as it gives us a bright future.

Yeah.

Thank you.

One moment please for our next question.

The next question will come from John <unk> of CIBC capital markets. Your line is open.

Thanks. Good morning, I also wanted to touch on Israeli market and can you talk about the pricing dynamics here and do you think youre taking share in Israel.

Sure, Yes, I think there there's still been.

Some limited pricing pressure, but it's it's relieved.

<unk> to what we had.

A quarter or two ago. They are seeing some of the excess supply work its way through the system and I think we are taking share I think we stand out when it comes to quality I think that the branches is.

<unk>.

As being a leader and.

We are.

Continuing to perform so.

Think that the combination of having better quality, but also now getting back to patient growth is generally improving the dynamic there.

And I think that there was sort of a lesson that we've learned as far as we did have a big shortage in Israel. So there was a lot of.

A lot of activity and to bring in whatever products.

Local companies could find and I think now there's a little bit more skepticism and what products coming in so we.

We see those macro dynamics continuing to improve and we've already seen them through over the last couple.

Yes, Bob do you want to go out and take that one.

Yes, no definitely.

We really feel confident in the trajectory of our margin profile.

A lot of pluses and.

Some minuses.

It transpired in the quarter, but.

As you guys talk about a second ago. Israel's margin has remained strong and is growing as that business continues to grow in revenues.

Experience seeing lower biomass costs.

Through our relationship partnership with <unk>, and Thats going to be a long term sustainable type savings versus history past experience.

As cannabis extracts.

Continue to become a bigger part of our business in Canada.

Continue to have favorable margin trends, they have higher margins than other product categories.

And.

That was offset particularly in this quarter by a few things one was.

We realized and recorded.

$1 $8 million decline in gross profit dollars sequentially from Q2 in the U S business and lot of that was driven by taking inventory reserves discounting product as we work through discontinued skus and product categories.

We had than we experienced in the <unk> segment.

Lower fixed cost absorption this particular quarter with the slight delay in our transition out of state or facilities, we've talked about a little bit.

We also discussed in the call.

Adverse price mix shifts.

In the Canadian flower category, that's driven by the 28 Gram bags.

That drove some of the margin impact in the quarter.

And then lastly.

Again another.

Period be anomaly, we believe during this quarter in the third quarter. We did the began downstream processing of some rare cannabinoid haven't reached their milestones yet on efficiency.

But we think speed to market for this product and the differentiation that's going to create.

As a great investment and will have a long term ROI. So there are a lot of.

Pluses that are going to be sustained and sustainable in a lot of minuses and I would say most of the minuses incurred in the quarter.

We're just period expenses and I don't consider that going to be things that carry forward.

Long term.

Thanks, Bob and just to follow up on the rare cannabinoid point, what Youre seeing here remember last year, we amended the agreement so that if.

If we wanted to commercialize the cannabinoid early before the.

Product productive either with hits that we had the option to.

As you one third of the equity upon commercialization and so what you could see it back there as we were excited about it cannabinoid that we wanted to get in the market early.

Understood. That's helpful. Thank you.

Thank you.

Sure.

And one moment.

Question.

Our next question will come from Nadine somewhat.

Lyons Bernstein your line is open.

Hi, Thank you good morning, everybody two questions for me. So first you stated that you expect pre roll innovation to be your next big driver of growth.

I know you called out those two products in particular, so given that that segment is already pretty crowded what gives you the confidence that your brands are going to win in that space and drive that growth Youre talking about.

And then my second question your U S revenues. They continue to fall <unk> explain that very clearly as part of your realignment plan could you give us any clarity as to how we should think about that segment a little bit more long term should we think of this quarter is the bottom.

Is there more decline to come how can we expected when should we expect it to actually start growing again. Thank you.

Great. Thanks for.

The first question look I think every category and candidate.

Either as crowded or will quickly become crowded until there is ultimately differentiation in U C.

When you start to set apart so when we think about the way that we're entering.

Taken similar approaches in other categories, it's about really focusing on what we think our consumer.

Consumer want.

It's making sure that the brand is going to perform well and that we have a really really good product.

So theres a lot of innovation to come and pre rolls.

One of the reasons, you're seeing some movement. There is there is there is an opportunity to differentiate.

And we'll provide a lot of value to consumers as far as the <unk>.

<unk> of the product with different <unk> and flower in the convenient.

<unk>.

So.

I think it is ultimately the same you could say that edibles is really crowded and I think we performed well and I think that pre roll to the very large category with a lot of runway and opportunity.

We're excited about it and I think.

This is only the beginning we have a lot that will be coming out for the next.

Next couple of years and I think it's going to continue to take share from flower.

As far as far as the U S. I think it's still.

Youll see in transition I mean, we are can be focused on continuing to skinny down and get to a place where we're focused on just the adult use product formats.

You'll then see start to grow when we're able to get the right innovation.

Back on the market and we have the infrastructure proper.

I think that while we would limit the formats.

What we can do forest product skus.

Yes.

It's something where you see the growth come from there's cannabinoid beyond CBD that we think are able to stand out and <unk> and.

And provide more growth I think it's very hard to differentiate with only CBD and similar to what we see in.

No.

The AC type products, so I think being able to use a lot of different cannabinoid is what's going to drive the growth there.

Alright, thank you.

Thank you.

And one moment please for our next question.

Okay.

Question will come from the line of Andrew Baum of Jefferies. Your line is open.

Hey, good morning, Andrew or bottom line for Owen Bennett, Thanks for taking our question.

I wanted to touch revisit on the comments you made about the sizable dry powder you have on the balance sheet and prospects for M&A, obviously valuations in the industry across the board have been coming down can you give any more detail around what opportunities you might be evaluating valuation levels. You are seeing and can you remind us of kind of how your focus is in terms of assessing how you'd like to.

Deploy that deploy that cash thank you.

Sure. Thanks.

Great question.

I think valuations certainly are coming down.

And I think that one of the things that we probably think about differently here as we're again looking at what happens in a world where state borders.

Paul.

And when there is the equilibrium of supply and demand. So we're looking when whats going to stand out when youre able to always fine.

Okay, and Youre able to go and pick up products.

Got it.

What's it look like in a mature market and for us that comes down.

Branded products.

So we haven't really changed in our thinking there still looking to see what the best opportunities are and and you see every every quarter youre seeing.

Separation and Youre seeing that kind of maturity and a lot of the market. So we're not as interested in okay, Here's a brand new market.

The huge sizable margin spread because youll see that that will compress as youre able to get.

More supply on the market and then over time that starts to shift as with any other consumer product industry.

Awards, what the best branded products are.

Got it thank you Mike I'll pass it on.

Thank you.

One moment please for the next question.

Our next question our.

Our next question will come from Matt Bottomley Canaccord Genuity. Your line is open.

Hi, Good morning, all thanks for the question here just one follow up for me, Mike just on one of your comments.

And the Q&A here that you anticipate a lot of different product categories, particularly in Canada to eventually become saturated.

I would agree with.

In the current regulatory environment do you think a lot of the gains cross is done and it's particularly in the edible category. There's been one or two of your peers, which edible seem to be a category, where theres been some growth here.

What's your view on how that category in particular is going to trend, obviously dried bud kind of fell off a cliff, particularly at the value segment do you think kind of branded products is limited as they are in Canada are a little more protected from that or are you anticipating over the next 12 months to 60 months, there's going to have to be additional pivots, even in the categories that are doing well for you right now.

Yes, sorry, just to clarify what I meant there and it's a great question, what I meant by saturated is theres not going to be an opportunity in Canada, just given how large of an industry.

The potential.

We're going to be the only one who moved in in say like Youre. One of the three companies that are operating pre rolls. There is an opportunity you can expect everyone's going to go chase it.

But what I, what I do think what I liked about <unk> okay.

<unk>.

Further you get from flower.

The the more differentiation you can have adding edible that's probably about as far along that.

Differentiation curve as you can get so pre rolled is certainly right up there, but I don't think youre going to see a lot of change and edibles and it's not a coincidence. If you look at the U S.

Edible this is probably more than any other category. We can see consistent brands that are popping up across different states, even though they aren't necessarily.

Multistate operator.

I think youll see that with three year old So I think theres more innovation to come outside of just gummies.

Canada.

But I think it started off saturated and if anything it.

Youre seeing leaders emerge and much more stickiness than something like flower.

Got it thank you.

Thank you.

Yes.

And this will conclude the Q&A session of today's call and will also conclude today's conference call. Thank you all for participating you may now disconnect and have a pleasant day.

Q3 2022 Cronos Group Inc Earnings Call

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