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Edited Transcript of LIQ.TO earnings conference call or presentation 9-Aug-19 4:00pm GMT

Q2 2019 Alcanna Inc Earnings Call

EDMONTON Sep 2, 2019 (Thomson StreetEvents) -- Edited Transcript of Alcanna Inc earnings conference call or presentation Friday, August 9, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* David Nathan Gordey

Alcanna Inc. - Executive VP of Corporate Services & CFO

* James Franklin Charles Burns

Alcanna Inc. - Vice Chair & CEO

* Paul Reid

Alcanna Inc. - President & COO of Liquor

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Conference Call Participants

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* George Doumet

Scotiabank Global Banking and Markets, Research Division - Analyst

* Jenny Wang

Eight Capital, Research Division - Analyst

* John Zamparo

CIBC Capital Markets, Research Division - Associate

* Kyle McPhee

Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research

* Sabahat Khan

RBC Capital Markets, LLC, Research Division - Analyst

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Presentation

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Operator [1]

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Good morning. At this time, I'd like to welcome everyone to Alcanna Inc. Second Quarter 2019 Earnings Results Call. (Operator Instructions) A copy of the company's earnings press release and management discussion and analysis is available on their website and includes cautionary language about forward-looking statements, risks and uncertainties, which also apply to the discussion during today's conference call. All amounts discussed on today's call are quoted in Canadian dollars with the exception of the U.S. same-store sales, which are quoted in U.S. dollars.

I will now like to turn the call over to Mr. James Burns, Alcanna's Chief Executive Officer. Please go ahead, sir.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [2]

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Thanks, operator. I am joined here in Edmonton with my partners, David Gordey, CFO; and Paul Reid, President and COO. My remarks this morning will be relatively brief. We'll get straight to questions. Most of you analysts, especially who have been following the company a long time, don't need a long wordy overview of history, as you know and we should get right down to the details. I just wanted to say that we are pleased with our second quarter results, and we're doing, as I -- becoming a bit of refrain here, quarter-after-quarter, we continue to do exactly what we said we would do, which is regain market share through better run stores, renovated stores, and through acquisition and new stores and 21% sales increase, that's what we are doing.

Until we get that done, it's not really easy in the competitive environment here in Alberta to get margins and bottom line where they should be, but we're well, well on the way of getting that market share as we had hoped and predicted by the end of Q2 and starting in Q3. And certainly by Q4 in 2020, we anticipate that we can translate these market share gains into bottom line results. And so with that, I'm just going to stop any overview, and let's get straight to the questions. Thank you, operator.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from George Doumet from Scotiabank.

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George Doumet, Scotiabank Global Banking and Markets, Research Division - Analyst [2]

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Some good top line trends in the quarter. I just had two questions on the margins. On the liquor business, I think we're in the 22% range. Just -- I guess on your prepared remarks, just wondering how easy it is to draw them back kind of to the 25 levels you had in the past. And is that something that we plan on doing this year and next? Maybe just some strategy behind kind of lifting those margins higher?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [3]

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Yes. I mean the strategy that we're going to employ is one that I think that we will keep to ourselves. We don't really have any intention of telling the competitors who are listening on this phone call, as they do every quarter, what we're going to do and how and when and why. But this is something that -- we've extremely experienced retailers here from the top down throughout our organization, and there are ways to do it where you can do it carefully that I will say. It's not a matter of just raising all the prices. You do it carefully and on different products at different times, and with different mixes to make sure that you maintain, which is critical, the market share and the new customers we've gained and are keeping. If you don't do that then this whole thing was of no point. So we'll just do it very, very carefully and it will come over time and the customers will not really even notice. So that's how you do it, and then we will be fine. We're very confident, and we've started already.

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George Doumet, Scotiabank Global Banking and Markets, Research Division - Analyst [4]

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Okay, that's great. I guess shifting over to Cannabis, 24% range in the last 2 quarters, just wondering what the strategy is there. I think some of your competitors have been running higher margins, so I'm just wondering the strategy to get that up and where you like to see that may be in the next couple of quarters.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [5]

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Well, the cannabis margins are -- and again, I don't speak to our competitors, if you want to call them that, but the -- what other people tend to do is there have been a lot of products which have been unavailable especially during the supply's severe shortage that we purchased because that was there, that was always there and the customers didn't want to purchase it. So we blew over the inventory. It's very easy to hide, you don't go look at the inventories if you want to -- before you get a full picture and just look at the margin number, which is really, really almost tells you nothing, unless you look at the whole part of the business, frankly. So we have our inventories under great control. We have products on the shelves that people want to buy and that's business. You make purchases and if they don't move, you can just let it sit in the backroom or you can just discount it down until it gets to a price point that customers will buy it, and you don't make the mistake again.

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George Doumet, Scotiabank Global Banking and Markets, Research Division - Analyst [6]

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Okay. That's helpful and just one last one, if I may, Jamie, on -- you guys mentioned that the Ontario store was revenuing about $450,000 a week, it's a big number. But I'm just wondering how that compares to some of our better stores or better performers maybe in Alberta.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [7]

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Cannabis you mean or...

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George Doumet, Scotiabank Global Banking and Markets, Research Division - Analyst [8]

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Yes. Just cannabis.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [9]

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It would be double of our Whyte -- off Whyte location, even a little bit more than double. It's predicted to a pretty spectacular store, but it was designed for high transaction volume and that's what it's doing. I think it's still going up. I don't think it's going to stop there on a weekly sales basis, but we'll see.

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Operator [10]

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The next question is from John Zamparo from CIBC.

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John Zamparo, CIBC Capital Markets, Research Division - Associate [11]

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I also wanted to stick with the Ontario store performance, it's obviously quite impressive. What are you going to say about how you are approaching the second Ontario lottery at this point, where does this fit into your list of priorities right now?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [12]

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Yes. Same -- exactly the same way we approached the first one. There's -- obviously, we, as a company, cannot be a lottery entrant given our share ownership and nor can our partner with -- who is the lottery winner and the owner of our current Nova store, because anyone who won the first one wasn't allowed to enter the second one. So we've done extremely well and our partner has done extremely well and extremely pleased with working with Alcanna and working with Nova, and we would be surprised if people didn't phone us who are lottery winners this time and want to achieve the same success that she did.

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John Zamparo, CIBC Capital Markets, Research Division - Associate [13]

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That's helpful. Is it fair to say you would actively seek partners or is it more passive and you would wait to be contacted by someone?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [14]

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Well, we have no need to pretend to be opening stores for no reason and throwing $5 million at crappy locations. So, no, we will not be chasing people with big checkbooks. No.

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John Zamparo, CIBC Capital Markets, Research Division - Associate [15]

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Okay, understood. Moving to Alberta, Canada. You mentioned the goal of opening another 15 to 20 stores, I think, it is by year-end, pending licensing. It seems the province is moving pretty quickly on approving licensing. So can you give us an update on where you stand in terms of your process or what the provinces told you lately?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [16]

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Sure, yes, yes, on the latter first. The provinces actually did cut up the queue. I think there was -- earlier this week there was 254 licenses issued. There is not that many stores yet. The people are just now having to scramble to open. But essentially, right now and as long as supply continues to be available as it is currently, and we have no reason to think it won't. But this is cannabis, so things change. But presuming that it does, then as soon as we get our stores built than anybody else, we would -- like liquor, we assume you apply for a license and go through the process and you will get your license. So it's really now just a matter of our own build out schedule, and we're very cautious, and we're not going to build stores too early in the game. Again, we're in this for the long term not the short-term stock market play. We're in this, actually, as a business, it's somewhat unique in the industry. And we will make investments when they can make a decent return on capital and the business, not as a stock market generator.

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John Zamparo, CIBC Capital Markets, Research Division - Associate [17]

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Okay, maybe we can shift to Alberta liquor. So granted, you can't just increase prices to enhance margins, but I mean is there any room for price increases? Are you concerned that consumers are now accustomed to paying discount prices across the province?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [18]

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Yes, John, I mean, sure they're accustomed to it and the discount chain is lately of 93 discount stores, we're the discount chain now, that's us. So the big one. There were obviously 2,200 and growing locations where you can buy liquor to take home. It's a very competitive environment and there's probably very little room on a global basis to raise prices some kind of willy-nilly. But they're market by market and we look at it trade area by trade area, store by store, every single one is different, and every single one, the demographics of the community, the competitive environment, the store faces and so on. So -- no, there's absolutely -- there's lots of potential. The main discounters who are extremely aggressive, both in terms of real estate opening stores and then pricing are -- that's now all us. So we won't -- and we won't do that.

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John Zamparo, CIBC Capital Markets, Research Division - Associate [19]

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Okay. Just one last one for me. On the ERP system, it looks like's you brought down the CapEx estimate by a couple of million. So maybe you talk about where you found those savings? And I know it's only been 3 or 4 months, but I think you've got it going in your Nova store, so I am curious what the benefits have been there, and I mean how can you apply that to the rest of your network and I guess is that part of the margin enhancement strategy for the Alberta liquor business?

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David Nathan Gordey, Alcanna Inc. - Executive VP of Corporate Services & CFO [20]

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So the estimate came down, we're moving -- we're at a stage where we can do a lot of the work internally versus using a lot of external consultants. The system is pretty well ready for deployment at this stage, so that's really just our own teams getting it out into the stores and making it work out there. So a lot of the system development is now over. So that's where the cost savings come. In terms of the benefits, we're not there yet, but we will get there sometime next year. So we have got to just get it focused on deployment out to the stores now that we know it works.

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John Zamparo, CIBC Capital Markets, Research Division - Associate [21]

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And is that part of the margin enhancement strategy for Alberta liquor as well?

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David Nathan Gordey, Alcanna Inc. - Executive VP of Corporate Services & CFO [22]

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For sure, going forward, absolutely. The better we can buy our product, which has always been the main reason for getting this system in place, the better we can buy our product, the better we can manage shelf space, the better that we can really understand data in each one of the trade markets, the better opportunity we have to improve margins.

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Operator [23]

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The next question is from Saba Khan from RBC Capital Markets.

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Sabahat Khan, RBC Capital Markets, LLC, Research Division - Analyst [24]

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I guess just on the Alberta liquor side, can you maybe give us an update on, now that you are operating a bit more of a discount focus, a little bit more about the competitive reaction that you're seeing and how the market is evolving. I guess just in terms of the economic backdrop. Is it more -- are you seeing more dollars shift to the discount channels? Just I want to understand your progress on the discount strategy to date.

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Paul Reid, Alcanna Inc. - President & COO of Liquor [25]

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It's Paul Reid. Yes, I think that -- I mean, what we're seeing -- we're seeing business move on a couple of fronts. Certainly, we're seeing price conscious consumers buy more items as we're in the market in a bigger way from a discount perspective, but we're also seeing customers shift into other products in our business that are higher-margin goods. And I mean, really, the market for the most part is both driven by price and selection. And I think on both those fronts, that's where we're really taking advantage of where the market and where the customers want these stores to be. As far as the outlook goes, I mean the discount market continues to be strong, prices continue to be pressured from competitors in other environments, but with our size and our scale, and the number of locations we have. In the end, this is a convenience business and having the majority of the locations on street corners and easy access to customers gives them the easy choice to select us over our competitors.

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Sabahat Khan, RBC Capital Markets, LLC, Research Division - Analyst [26]

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And when you talk about the higher margin products, are you referring to private label or just higher margin branded products that you're selling?

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Paul Reid, Alcanna Inc. - President & COO of Liquor [27]

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Little bit of both to be quite honest, but primarily, our select brand products, our Wine and Beyond stores carry a very, very high end selection that brings with it some larger margins, given the industry is in a low-margin situation, and the majority of our business goes through beer sales, which are low margin goods. The blended margin in our Wine and Beyond stores really offsets that business. And so we see both opportunities on the private label side to grow those areas and selection through blended margins.

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Sabahat Khan, RBC Capital Markets, LLC, Research Division - Analyst [28]

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And then I guess, just maybe stepping back and looking at the initiative that you have across the company, just from management's perspective. I guess which inning would you say you are in terms of executing? Is it sort of you're responding to market pressure or just sort of you know you think you are certain way along and you have some line of sight to maybe pulling back on promotional activity or so forth? Just want to get some thoughts on the outlook.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [29]

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Yes, that's a good -- we're just giving each other finger signs here on your question, Saba, your baseball analogy. I think the consensus in the room here is like third or fourth inning. I mean we're well into it. Starting pitcher is still strong, and we're doing well, but it's time to shift focus and -- and what we already have. As we said, sometime later in June right at the end of Q2, and certainly we were -- closed the Solo acquisition finally. And Aces -- the Alliance stores that were transferred from Depot to the Alliance are all renovated, and up and running. So we -- what we needed to do is done, and now it's time to make the business perform.

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David Nathan Gordey, Alcanna Inc. - Executive VP of Corporate Services & CFO [30]

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Yes, but even though we say we're in the third or fourth inning, I think we're all in agreement that we're further ahead than we thought we would be this time last year.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [31]

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For sure.

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Paul Reid, Alcanna Inc. - President & COO of Liquor [32]

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So we're ahead of the game in our minds, and we're already entering that phase of enhanced profitability strategy versus still fighting our way through the muck and the competitive environment.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [33]

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Yes. We did not envisage being the discount chain of 93 stores a year ago. We thought that might be getting the industry and trying to make some sense of it all and getting a proper foothold in all aspect sectors of the industry we thought it was going to take to us (inaudible) barely a year. So that's a great point. We're ahead of where we thought we should be. So -- which leaves us very optimistic for going to the next phase.

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Sabahat Khan, RBC Capital Markets, LLC, Research Division - Analyst [34]

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Okay. And then just one last one on the cannabis side. Supply issues aside, what are you seeing on the competition front from other retailers across both Ontario and Alberta? There is obviously a large number of smaller fragmented players, but there's some larger ones forming as well. What are you seeing on the competitive front? Is it playing out as you expected? Are you having to shift your strategy a little bit? Just the outlook on the competitive environment and your thoughts on rolling out more stores over time?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [35]

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It's going to be very competitive, it will be a liquor business and it's already started. There is 254 and there's another 490 in Alberta -- another 490 or some number -- people who have applied for licenses. That doesn't mean anything other than they applied, but maybe have a building permit, a development permit. But the competitive environment will be extremely competitive, and the results to date, it's not a real business. It has been. First, there was, licenses were shut down and restricted, so you had a mini monopoly and then there was nothing much to sell in that mini monopoly. So as a matter of fact you had a great location with no one around, there was nothing to sell in it, was really not much point, and now supply has caught up and there's lots of supply and there will soon be lots of competitors. So it'll be like any other retail business, nothing magic about it, it's just going to be a retail business like anyone else. The winners are going to be the people with strong balance sheets and actually know what they're doing and can survive other than the small moms and pops, as you say, which is a very different business model. And are in that most importantly, because it's retail. Retail is about real estate and location, location, location. If you have got the best real estate and you have the locations in places where people are going, and right now they will drive 5 miles to go to a cannabis store if they're a customer because that's the only one you can go to. When you've to -- they're not going to that same one and drive by 10 another ones, especially the one in the grocery anchored mall where ours are, where they are going anyway. So we're building out, we have AAA sites and our so-called competition has C and B sites and over time, you get what you pay for in real estate. So we are very confident that our new stores will open and be as strong as the ones we've already opened. We have got the leases already done, we've got the locations. You know Ontario is Ontario, right now, we'll see what happens with this latest lottery, and at some point in time, I would assume, the Ontario government will do what they have already announced, and just open it up and they will be same as Alberta, and you go find the best locations. If you have good landlord relationships and a very strong covenant, which I find the balance sheets of some of the competitors extremely amusing, and just concerning if I was a landlord, then we will be fine.

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Operator [36]

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(Operator Instructions) Our next question is from Jenny Wang from Eight Capital.

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Jenny Wang, Eight Capital, Research Division - Analyst [37]

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My first question is in terms of the Solo Liquor stores that you've acquired. In terms of how are your stores performing so far relative to what they've done in the past?

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Paul Reid, Alcanna Inc. - President & COO of Liquor [38]

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Again, we just acquired them, Jenny, on June 25. So we took over a business that was bankrupt, so it's performing about as we expected. We're in the stage of we now have them fully stocked up. We acquired some terrific staff who have made the integration a lot easier than we were expecting, so we're very thankful for that. And now we're in a position to go back and get the market share that Solo once had, but we're about where we thought we would be at this stage, which is only 5 or 6 weeks into it.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [39]

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Yes. We did -- our -- Tank Vander, the President of our -- The Alliance, or the East division. East was an original partner at Solo. He knew the locations intimately. He was responsible for finding and opening and running a lot of them. So we knew the ones we wanted and ones we didn't, and we got the ones we wanted and we're confident that once give us 6 months or year, I mean, this was bankrupt recently. But this company had been in trouble for a very long time. The shelves increasingly emptied, with staff levels reduced and that drives customers away. And anytime you drive customers away, it takes a while to get them back. But so we are -- we think we're right on track. Not ahead, not behind, just right on track.

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Jenny Wang, Eight Capital, Research Division - Analyst [40]

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Okay. Great, and in terms of the cannabis supply situation, are you seeing a sufficient variety of product types are available in terms of being able to offer the customers the products they want?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [41]

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Yes, absolutely. Since early June, Ontario has been fine all along. And since early June, Alberta has -- is the same. We no longer have to just buy anything we can get our hands on. We can pick and choose products that we feel in each store -- you've to buy store-by-store in Alberta and you aren't even allowed to transfer products between your own stores. So it's a little more complicated than liquor, for example, to buy. But we -- for each store, we have, for the most part, other than one product size issue with the LPs for reasons of their own. I believe it had to do with manufacturing, efficiency and making sure you got enough product into the system to meet some of their quotas and obligations. More or less dropped or drastically reduced producing 1 gram packaging in order to get it. I think it cost them the same time and effort and trouble to move a 3.5 grams or 1 gram, so they did the 3.5 grams to get the stuff into the system. So I understand from their perspective. From our perspective, as a retailer, however, with the customer 1 gram is an extremely popular size. And so we're a little short of those as what everybody else would be. There is just not enough in the system right now, but the LPs assure us that, that will -- that was a temporary thing and that will be corrected. So that's just a little bit of a blip, but otherwise, there's lots of supply of Dried Flower and capsule also.

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Operator [42]

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The next question is from Kyle McPhee from Cormark Securities.

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Kyle McPhee, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [43]

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Just wanted to follow up on the cadence of gross margin increases for the Alberta liquor business. I mean you said it will a slow process over time and that you've just got started, but should we expect to see the benefits at all in Q3 at the consolidated level? Or is it just so slow and selective right now that it's not really going to show up until later this year?

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David Nathan Gordey, Alcanna Inc. - Executive VP of Corporate Services & CFO [44]

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You're going to see a little bit of improvement there. We're adjusting now. So we're kind of half way through the quarter. But, again, we got to make sure we do it slowly and methodically, so we don't scare off customers, and still provide them the value that they're expecting when they come in the stores. So what we're trying to set ourselves up for is to hit the ground running October 1 and have a healthier margin there. And then that gives us runway in 2020 to keep moving it up.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [45]

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Yes, Q4 we are expecting to be right back to close to full production as it were and Q3 getting there. So you'll see some of it in Q3. But if you look at the whole quarter, it won't necessarily look like the last month what the quarter would look. We have also had -- just I am going to -- hate always to bring these things up, it sounds like an excuse versus a reason, but July was the rainiest July in Alberta for 40 years, 21 out of 31 days in Edmonton and this is a province where it almost never rains, especially in the summer. So it was just unprecedented bad weather, all the long weekend has been rained out, and it's hurt the market for everybody. So it's just is what it is. Nothing you can do about it, weather is the weather. But again, for the early part of the quarter that won't have been a tremendous help either. So between those two things. But by -- certainly right now, and as we get into September through the long weekend, we're anticipating we will be well underway -- well, well underway.

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Kyle McPhee, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [46]

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Got it. Okay. Thanks for that color. Then on the Alliance, is it safe to assume that there's no material growth in the amount of storage within that Alliance is coming? Or are there still any chunky sized partners out there that could potentially be rolled into the Alliance?

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [47]

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There's a few, there's a few out there and our doors are always open. We're welcome to talk to anyone. We think together the industry is 2,300 stores. The more we can cooperate and have everyone in one tent, we think, feel the better off the industry and our own business will be. So there's a few, but the 2 major ones are obviously gone, well they're now us.

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Kyle McPhee, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [48]

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Got it. Okay. And then just on your balance sheet, are you guys comfortable with the amount of liquidity you have to fund the Cannabis business buildout -- that gap of time while you're still investing in margins and all those other CapEx items you listed there?

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David Nathan Gordey, Alcanna Inc. - Executive VP of Corporate Services & CFO [49]

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Other than Solo, which came up this year, we are right where we wanted to be, when we did our forecast last November, December. And so we're very comfortable with where we are and as we improve profitability, we will bring down our credit facility draw and be in really good shape going into next year.

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Kyle McPhee, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [50]

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Got it. Okay. Is it fair to say though that peak draw on your credit facility is going to use up most of that $70 million capacity you have?

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David Nathan Gordey, Alcanna Inc. - Executive VP of Corporate Services & CFO [51]

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We are at peak amount of draw right now and it will be a downhill swing from here until the end of the year.

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Operator [52]

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We have no other questions registered at this time. I would like to turn the meeting back to Mr. James Burns.

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James Franklin Charles Burns, Alcanna Inc. - Vice Chair & CEO [53]

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Thanks, operator, I appreciate everyone who called in and especially the analysts who asked questions. You guys know our business very well, and it makes a lot easy for us to deal with people who do their work, and actually know what our businesses is like. Because it is a unique business, but we feel we've got a handle on where we need to be, and we're very confident that we'll have an equally positive message when we speak with everyone in a few more months. And that's it. Thank you.

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Operator [54]

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Thank you very much. The conference call has now ended. Please disconnect your lines at this time, and we thank you all for your participation.