Electronic Cigarettes International Group Ltd fka ECIGQ

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Q2 Conference Call Transcript 8/11/16

http://seekingalpha.com/article/3999029-electronic-cigarettes-internationals-ecig-ceo-dan-oneill-q2-2016-results-earnings-call

Electronic Cigarettes International Group Limited (OTCQB:ECIG) Q2 2016 Earnings Conference Call August 11, 2016 5:00 PM ET

Executives

Ken Bernard - IR

Dan O'Neill - CEO

William Seamans - CFO

Analysts

Operator

Greetings, and welcome to the ECIG Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Mr. Ken Bernard. Thank you, sir. You may begin.

Ken Bernard

Thanks operator, and good afternoon everyone. We appreciate you joining us today for Electronic Cigarettes International Group's conference call to review 2016 second quarter results and operational updates. We'd also like to welcome our internet participants listening to the call on the webcast. Before I turn the call over to management, I have a few housekeeping details to cut through. There'll be a replay of today's call. It will be available by webcast by going to the company's website or a recorded replay will be available by telephone until August 18. The information on how to access these replay features is provided in today's earnings release.

Please note that information reported on this call speaks only as of today, August 11, 2016, and therefore you are advised that time-sensitive information may no longer be accurate at the time of any replay listening or transcript reading. As you know, this conference call contains forward-looking statements that are made pursuant to the Safe Harbor provisions within the meaning of Section 27A of the Securities Act of 1933, as amended in Section 21E of the Securities and Exchange Act of 1934 as amended. Forward-looking statements or any statement reflecting management's current expectations regarding future results of operations, economic performance, financial conditions, and achievements of ECIG, including statements regarding ECIG's expectations to seek continued growth. Forward-looking statements, especially those concerning future performance, are subject to risks and uncertainties and other factors that are disclosed in the company's filings with the Securities and Exchange Commission, unless required by applicable law, ECIG undertakes no obligation to update or revise any forward-looking statement. This conference call also contains references to adjusted EBITDA, which is a non-GAAP financial measure; reconciliations of these financial measures to the most directly comparable GAAP financial measure is provided in the press release provided by the company this afternoon.

With me today is Dan O'Neill, Chief Executive Officer and William Seamans, Chief Financial Officer. I'd now like to turn the call over to Dan.

Dan O'Neill

Thanks Ken. Good afternoon everyone. I've been very super clear since taking over the company 15 months ago that the management goal is very singular, to create shareholder value over the long term. ECIG has made significant progress toward this goal over the last 15 months. However, that success is surely not reflected in its stock price. I'd like to step back and take a look at what the management group inherited, which I believe none of us ever imagined. For sure, I did not.

In October 2014, the failed uplifting left the company technically bankrupt, a significant amount of money owing and none available. At the end of 2014, the debt was in excess of $80 million, yet the company continued to sell exceedingly large orders at a loss to major accounts. New management was required to negotiate with 23 U.S. retail companies to whom we owed money. And they were significantly overstocked and returning old outdated product. To clean this up took us at least six months, and we are still receiving returns from prior years. The policy to accept returns has been changed, but we still receive returns that impact and decrease our net sales in accordance with the return level.

In February of 2015, we received financing, as you are well aware. However, once we received the funds, we received well over 40 new claims from everywhere; lawyers from around the world, past employees, promotional firms, advertising agencies, ex-suppliers of all types, these discussions lasted for another 5 to 6 months. To top it off, we're not -- we were never able to purchase inventory, as our Chinese suppliers wrote over $2 million and our U.S. suppliers were also in arrears. No one would supply us any product. One major account had over $20 million in category inventory, of which $4 million was Finn and Victory.

ECIG's original auditing firm had not been paid and refused to work with us. The next firm had us at their mercy and used the opportunity to charge us at a much higher rate than would be normal. The move of corporate headquarters to Denver allowed us to team up with an excellent well-known and respected firm. We have a great working relationship with our new firm and it's been fantastic having them in the same city and availability at will.

The U.K. was inhibited from investing as quickly as the opportunities came up to date due to lack of funds. We used unlimited funds to expand kiosks to ensure our dominance in that network was maintained. Despite these issues, we were able to grow the company in 2015, both revenue and profit. The Fontem patent lawsuit came toward the end of 2014 in the fourth quarter. We were able to reach an agreement by week 1 of 2016, but paid a large penalty for our historical infringements, and then ongoing royalty. Despite the royalty fee, you will note that year-to-date gross profit improved two points relative to last year.

Then we were hit with the FDA regulations which were announced, and we were able to address this in the short term. We have a couple years to address other elements of regulations. We actually went out and hired an outside consultant to handle this task for us, which is tedious and very specific to individual SKUs.

Similar regulations were introduced into the U.K. However, our VIP brand was well prepared ahead of the regulations, this anticipation resulted in most European countries. It's a very important growth opportunity for us. These other countries trusted our VIP brand and viewed VIP as a leading brand in the industry. Unfortunately, in U.S., big tobacco and their lobbyists are driving the agenda and in my opinion the regulations are very hard to believe.

People are dying from regular cigarettes, yet the FDA is regulating ECIGS. There is a powerful new documentary that you might want to take a look at. It was just released over the weekend regarding the topic. The individual actually started out to do a documentary about ECIGS, realized the power of ECIGS, and focused it on why the government is allowing 1 million people to die annually with the tobacco problem.

I am hoping, we are hoping, the industry is hoping that the exaggerated ruling from the FDA will be modified by Congress. However, and I don't want to make it sound all gloom and doom, despite all these issues, we have fought true and come out the other end having completed one of the toughest tasks in my career: renew financing.

Without it, ECIG would have once again taken -- we'd be bankrupt. Rather than that alternative, we have extended our runway to reach real growth and allow management to aggressively pursue opportunities which we -- numerous identified, but no cash to execute. Our hands were simply tied. We can now change our focus from defense to offense. We can now invest time discussing growth and creating shareholder value.

Prior to turning the meeting over to Bill Seamans, the new CFO, I would like to say that I recognize that shareholders wanted me to be writing press releases, participating in investor conferences, talking about the company, but think about it. How could one do that when the refinancing was 100% the future of our company. Without it, it wouldn't have gone anywhere. So when people were asking me to talk about these other items, they were trivial relative to the task at hand. It was not the time, clearly to doing releases about a new kiosk here or a new product there. It was just not what we needed to do. Our focus, as I said, was on the refinance, and that's the whole major challenge that we had.

So I'm going to turn the conversation over to Bill, and he'll turn it back to me and I'll go through some of the specific achievements in the quarter.

William Seamans

Thanks, Dan. During my remarks, I will reference the financials included in our earnings release that included our abbreviated income statement and the EBITDA table. If you -- a full presentation of our financials will be included when we file our second quarter 10-Q. Typically we file this 10-Q when we post our earnings release but however, we are currently working through certain tax issues with our new auditor and we're not filing that 10-Q today. These items will not impact in any material way our operating income or adjusted EBITDA or future cash flows.

But turning to our 2016 second quarter financial results, the second quarter net sales were $11.8 million, which was down approximately $600,000, compared to $12.4 million in the second quarter of 2015 and flat sequentially from the first quarter of 2016. Our gross profit percentage increased to 56% from 53% for the 2016 second quarter, as compared to the second quarter of 2015. All this despite the impact of the new royalty payment, which began in the first quarter of 2016. Our adjusted EBITDA as defined in our press release was negative $411,000 for the second quarter of 2016, versus a negative $1.9 in the same quarter last year, and negative $1.5 million in the first quarter of 2016. These improvements were partially the result of reductions in our legal and accounting fees of $1.2 million in the second quarter of 2016, compared to 2015, and $2.7 million reduction in the first half of 2016 compared to 2015.

The working capital items of note, with respect to our inventory, those levels decreased by $1.5 million from the end of 2015 to our June 30 balance. And that resulted from an aggressive program to eliminate slow-moving products through our e-commerce business and a reduction in the number of SKUs that we held. And for accounts receivable, that decreased by $1.2 million, resulting from a consistent reduction of day sales outstanding, DSOs, from 20 days at the end of the year, to 14 days at the end of this past June.

Now turning over to the recapitalization that we just concluded on July 8, we completed this restructuring of our term loans, convertible debt, and forbearance agreement totaling $94 million. The maturity dates were deferred by four days -- excuse me, four years, to June 30, 2020, which created a $32.1 million improvement to our working capital balance, via eliminating -- elimination of our upcoming principal payments.

Interest rates were reduced from an approximate weighted average of 11% to 4%. The conversion prices on the convertible debt was lowered from an approximate weighted average of $0.75 to $0.145 per share. And the warrant exercise prices were also lowered from an approximate weighted average of $0.43 to $0.145 per share.

And in conjunction with the debt restructuring, we also issued $4 million of term debt under the same terms as the restructured debt. And so lastly, to help conserve our cash, the lenders had an election to receive interest payments in the form of common stock, known as payment in kind of PIK, or cash, so the lenders representing approximately 85% of the above loans have elected to receive the common stock or the PIK.

Now I'd like to turn the call back over to Dan.

Dan O'Neill

Thanks, Bill. As in the past, I'll review our current status as referenced to each of the six core strategies. The VIP brand, as you know, as we focus on this brand, we want to establish it as the number one premium global brand and despite the corporate focus on the refinancing, and most of management's time on this issues, numerous projects were executed, primarily in the U.K. Twenty new CRIP kiosks are ready to go for the second half of 2016, as well as a new program called VIP On The Move, which was -- has completed a successful test and began to be fully operational on August 1. The program is simply a van, branded van, with a walk-in kiosk. It goes where smokers are located, seven days a week. It could be offices, events, it goes also to new kiosk launches, and it's also a walking billboard. It's been very, very successful in tests, provides us with improved awareness across the country, and simply adds to our ability to convert users and gets our name out into the public.

As I've mentioned in the past, new kiosks have experienced a longer ramp-up of sales rate, due to the number of new vale shops in the marketplace. We have hired a swat team and trained them to increase trial and build awareness of the new kiosks. They literally show up at a new kiosk, they add and bring in people, they're extra communication around the kiosk itself, generate a lot of awareness. Oftentimes, the van is outside as well, talking to people as they go into the shopping mall. So it is really a specific program to get that length of time to get the kiosks up and running, to shorten it to what it was in the past.

So far we've hired five brand ambassadors and joined the VIP team, so it's we think there's probably two more needed to do it well across the whole country. But it's a new training process and just provide significant new focus on the value of the kiosks, there's a couple other things I'll talk about later on the conversation to improve and increase. But I feel it like a major competitive advantage are kiosks.

Two new products that were also launched in the last few months despite the limited financial availability as well we felt In discussions with the management that we are falling behind in our V.I.P. technical logical leadership position, it's something that set us apart from the beginning we always had the newest and greatest and that has allowed us and we focused on getting back into that position.

We also entered a test market in the Middle East with positive early signs, they've already shipped our third order in only two months. We will monitor how the market progresses. We also are in final negotiations with two additional countries as hoping to have one of those to be able to announce today but I think that'll be announced though the next week or two.

The second strategic focus is FIN in Vapestick as traditional retail brands. Just for your information we did pull out of Vapestick cast in the northeast. Due to a very low sale-levels in the border areas combined with the high cost of execution. We believe there are better uses for those cash funds in the U.S. On the other hand FIN continues to focus on a can concentrated number of profitable accounts and U.S. With growth driven by increased SKU expansion. A new product line up is ready for launch in our major account in Q3 this is become an annual event. It's a big driver volume while as to rid slow moving items and bring in new more modern, higher demanding products and it's also a factor limiting and reducing our SKU.

The other major focus for us is for FIN's e-commerce I'll speaker to that momentarily when I talk about traditional channels. The number three is the strategy focused on expand profitability into non-traditional channels and new markets to distribution partnerships and selective acquisitions. Management recognize that nontraditional profitable channels are now opportunity and actively have stepped up in both the U.S. in the U.K. Fin website is being rebuilt and will be lost the next few days but this new format has not limited the activity over the last five months, With weekly events and special delivering strong week-to-date result. And sales more than tripled for FIN e-commerce albeit experiment very small base, but we see the customer's returning and that will continue to build over the coming months and years.

VIP; USA website was initiated and started up yesterday actually this week. Please feel free to go to the site, buy our starter kit, pass along the news to people you know and we're growing that and we're have plans how do expand awareness and move people to that site. We are also interviewing candidates to help expand our e-commerce business in the U.S. VIP UK on the other hand has traditionally delivered 30% of total revenue from online sales. Much larger I think than anyone would think because we don't really talk about the importance of online sale, that also is a big factor in improving overall margin. But over the last eight months sales of not kept pace, Though they were down to about 27% in the new e-commerce businessperson hire two months ago is already had significant impact, With new clients, new designs new promotion, New automatic programs that kick in. And especially impactful fact based driven plans. We had a great realization on the number of abandoned shopping carts, was a very high age we identified it, and put an automatic response to capture those, so in the last two months we've got about 27% of the 29.5% of that moving to closer 30%.

As spoken on our need many times to improve talent. It's extremely hard to bring in talent when you're struggling with cash, where there's a possibility of going bankrupt, the UK organization in March we had a long discussion on need to strengthen the organization and identified critical positions that were needed if we're going to continue to invest and continue to grow, it is been gained on the U.K group has been completely revamped in design, really to reduce the threat of responsibilities per individual and narrow the focus per employee, much easier for us to tell and identify results directly lined up with an individual.

Our Chief Financial Officer searches been doing an incredible job with the Kiosks, her responsibilities were expanded in October to include international. I had a lot of discussions with their when we were on an international trip, she loves the Kiosk and she wasn't that keen about doing the international business, so we reduce her roll back and get the position title, she's also a great leader and helping out in the international arena but now she's back to where she's an expert and our focus is about 95% in Kiosk, but she still keeps a hand in guiding the international.

So I'm happy to see that the whole kiosk focuses back in going. new international sales manager was hired in June may 6 excuse me -- and joined and he has already having an impact you'll hear more about it as I mentioned in the weeks to come, his first band the business with modern airplane traveling and very long distance and doing a transition from our commercial officer. We had a new HR manager was brought on board and we consider we only had a part time person in in the in the kiosk area along we have about 250 people, is very difficult to manage them a new head of e-commerce started six weeks ago and I just mentioned how successful that person's being. Then a new Chief Product Officer who's joined August 1, responsible obviously for new products importantly regulatory compliance. But we've got to maintain our focus on being a leader in technology.

As I said that's been a total U.K. reorganization effort to ensure we increased activity and importantly execute on time. In the USA as you just heard we hired new CFO and we announced that in the last call is located in Denver, was been great constant face to face action interaction especially with regard to the opportunity of optimal allocation of funds, strategic discussions, Phil was made as a consultant I want to thank him for that, and in basic we are historical knowledge base.

As I mentioned we're exploring for e-commerce edition in USA. Chief Marketing Officer that we hired unfortunately we hired in April did not work out, we're very lean organization focused on results. So evaluate employees quickly for the best fit and reactive make the best moves for company. The role is very much one where you have to do a lot of different things and do them efficiently and effectively. The fit strategy low cost provider, that is -- we continue to develop by ways to reduce costs and delivery saving importantly to address our cash allocation. And its becomes much easier as suppliers recognize we are a company here for the long term and obviously that we pay a lot of our bills that we would have to have standing, so there will -- little more willing to work with.

Gross margins as discussed here today have improved by 2 points despite rally impact. And that was discussed by Bill. Operating expenses are making great progress, Bill discussed that it went 2 level down at $1.5 million year-to-date. We completed and implemented a very interesting analysis by SKU. Recognize the ability to read significantly reduced cash required to meet demand. An example and key learning is and this is everyone's knowledge of the 80-20 rule we have six FIN SQ8 [ph] representing over 80% of our revenue. Its well 77 -- the remaining bottom level represent only 5% . This is clearly and very simply a very, very poor allocation of working capital; improve working capital requirements through increased focus on organization, Bill cover that as well I won't bother going into it. And that we just continue to improve. And I obviously not going to repeat that.

Now in conclusion; you know I think our opinion from management's perspective we have an incredible quarter. We just we restructured over $100 million in new capital, at a significantly lower interest rate and no principle payment for 4 years. No one thought we could do it and it was achieved, in the last minute he could you know we got down to the wire that was a lot of negotiations, well we did it and we're moving forward, much longer runway you can actually go execute on old principles I mention. Very huge upgrade in U.K management team, full of energy that ready to go, it's fun to participate with them and they're executing a lot of new product activities which we had identified. Now they have the freedom to go that go after.

We did launch two new products in the UK to keep VIP from falling behind. The newcomers -- the new E- commerce focused, I mention the ones in USA with two upgraded website in addition we had 1 the VIP, Here in the U. S. we had one in FIN in the U.S. we had won in the continuous improvement of VIP in the UK, we also have a liquid site ready to go, if it's not gone in the last few days. We had three orders to the Middle East, which are moving through quickly, two countries in discussion near final contracts.

So overall it's been great, it's been moving, we've been quietly been focused on what we are doing the new in the negotiations without question the most difficult challenge ever had in my career, 18 hours a day for three months to ensure we have a chance to keep the company going, that along the opportunity vertigo. Was extremely confrontational on all sides but we convinced 25 of the 28 lenders to jump on board. And we're all happy with the new terms.

So with that the operator we're willing to take a few questions and thank you very much.

Question-and-Answer Session

Operator

Thank you [Operator instruction] Our first question comes from Andrew Burnett, a private investor. Please proceed.

Unidentified Analyst

Dan, Bill good evening.

Dan O'Neill

Good evening.

Unidentified Analyst

Thanks so much for holding the call and I just wanted to remark got up very impressed with so that your results in terms of the renegotiation, I followed the company and I've been reading some articles and some blogs website. And the question has arisen a few times with regard to the outstanding warrants now held by strong, Understanding of course that we were in at a particularly vulnerable situation the question has arisen as to how do we get investment back in the company obviously recognizing that there are a lot of outstanding warrants out there, I didn't know that Bill could comment that I'll know what your vision for the future holds in terms of those warrants with the cash-in or do we think that that some point of time there be another renegotiation or even a reverse slip.

William Seamans

I'll answer that, the reverse slip don't think you know who it is hard to determine what's going to happen in the future that hasn't been discussed, we you know we arrest that no last call it's not under tension. So it's almost impossible to answer that one Andrew but I don't see that as a Stumbling block or something that's going to happen, well quite honestly I'd be surprised. The next question down there next part of your question with respect Calm Waters [Ph]. Calm Waters[ph] imagine what they just went through in terms of their willingness to put in the money, they also added some re-signed up, reduce their interest rates significantly from where they were, in addition they were the provider of the shortfall, With respect to people who refuse to sign up. And so you're saying they're going, and I know personally in discussions they're a huge, strong believer in the category. Calm Waters is a very successful firm. They have invested for the long term in most companies. They do a lot of homework. My view on their willingness to signup is that they're in for the long-term. They wouldn't have come in to this deal the second time or the third time, I guess, that we've called on them if they didn't believe in management, in the opportunities that they've seen presentations and in the categories.

So we're all concerned about what will happen in the United States. I think we're all hoping that the, as I mentioned and people questioning whether I should have made the comment or I should make a comment with respect to the FDA. But I think we, we are an industry-leader. We're a small industry leader, especially in Europe, but here in the United States, there's a lot of companies out searching for cash right now and in this industry it's hard because you have that overhang of the FDA. You have to believe that commonly in October congress is going to address that, we hope it happens. If it does, and fortunately for us we've invested, and even during the short fall period, we've invested in the U.K. to make sure that that one which we know is 100% given, progresses. So from my point of view, going to the math again and negotiating tough negotiations with Calm Waters, we were able to give ourselves the light to be able to participate in the future growth.

Unidentified Analyst

Thank you.

Dan O'Neill

Thank you.

Operator

Our next question comes from [indiscernible], a private investor. Please proceed.

Unidentified Analyst

Thanks for the call, guys. Can you speak to what's going on with developments with the Mansour Group, and did they also have their warrant suggested? Thank you.

Dan O'Neill

The Mansour Group, they re-opt again and extended. They agreed to the terms. They are planning, when we first started and I visited them three or four times, I thought they would be a little more active. I really counted on progressing in varying countries that they'd identified their contacts in. I'd be remissive to say if I wasn't disappointed. I am disappointed in our inability to capitalize on that, but realistically it's not, the Mansour's management's lack of interest, the government instability, and I mentioned before change of health minister. They're still involved. We went out and searched and discussed and had meetings with two, three, four, five other international European, Eastern, South, Central Europe, and are feeling comfortable with what we have. So we're not hanging anything in hopes of growth based on the Mansours coming to the part or not. We've recognized the difficulties of their experience and went out and move on and moved to other places, and hopefully when the country gets a little more stable, they'll come to the party.

And also I think it's important that we as an organization demonstrate our abilities to execute in new countries and bring, we can bring to them a presentation about this conversation with their COO, when and if we bring you a presentation that demonstrates our ability to execute, then the likelihood will increase. I mean literally in the last two months we put together like a whole outline of what we want from a partner. Before we were kind of -- we go anywhere and now we put a list of, we recognize the power of the brand does, and therefore we recognize what we want from a partner. Not begging for a partner to come with us. We outlined that criteria and one of them is our major strength kiosk. You come to the party with kiosk and the ability to do that jointly or independently, or we don't feel comfortable going into that country.

Unidentified Analyst

Thank you.

Dan O'Neill

Thank you.

Operator

There are no further questions in queue, so I would like to turn the call back to management for closing comments.

Dan O'Neill

Yes, I'd like to thank everyone for the participation. I'm a little, I think it's time to answer a lot of questions directly. There is a lot of uncertainties, there's a lot of questions going out and around out there. I personally love to have questions and face them face to face and answer. We are focused on delivering and that's where our attention is. So, thank you very much everyone. I appreciate your support.

Operator

Thank you. This does concludes today's teleconference and thank you for your participation. You may disconnect your lines at this time and have a wonderful day.