Input Capital's (INPCF) CEO Doug Emsley on Q3 2016 Results - Earnings Call Transcript

| About: Input Capital (INPCF)

Input Capital Corp. (OTC:INPCF) Q3 2016 Earnings Call February 17, 2016 10:30 AM ET

Executives

Brad Farquhar - Executive Vice President and Chief Financial Officer

Doug Emsley - President and Chief Executive Officer

Analysts

Spencer Churchill - Paradigm Capital

Peter Prattas - Alta Corp

Marc Robinson - Cormark Securities

Steven Salz - M Partners

Cihan Tuncay - GMP Securities

Ken Lester - Lester Asset Management

Kyle Mowery - Grizzly Rock

Operator

Good morning, ladies and gentlemen. My name is Laurel and I will be your conference operator today. At this time, I’d like to welcome everyone to Input Capital Corps’ Third Quarter 2016 Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session from members of the investment community. [Operator Instructions]

This conference call is being recorded today and will also be webcast on Input Capital’s investor website, investor.inputcapital.com, but may not be recorded or rebroadcasted within the expressed consent of Input Capital. All amounts discussed today are in Canadian dollars, unless otherwise stated. A complete financial statement and management’s discussion and analysis for the period ending December 31, 2015 were announced yesterday after market close and are available on Input Capital’s investor website and on SEDAR.

During the call, management may make projections other than – other forward-looking statements regarding future events or future financial performance. Actual performance, events or results may differ materially. Additional information or factors that could affect Input Capital’s operations or financial results are included in Input Capital’s most recent annual information form which may be accessed through Input Capital’s investor website, the SEDAR website or by contact Input Capital. Management also calls your attention to the forward-looking information and non-IFRS measure sections of the press release issued yesterday.

I’d like to turn the call over to Mr. Brad Farquhar, Executive Vice President and Chief Financial Officer. Please go ahead sir.

Brad Farquhar

Thank you, Laurel and welcome everyone to our third quarter conference call for fiscal 2015. I’m here with Doug Emsley, President and CEO.

Operationally we delivered a strong quarter with record deliveries from streaming contracts selling 31,889 metric tons of canola equivalents from streaming contracts. We’re also pleased with the pace of deliveries year-to-date having sold 56,350 tons from streaming contracts to the end of the quarter. On a quarterly and annual basis, these volume figures amount to year-over-year increases of 290% and 233% respectively.

For the third quarter revenue from streaming contracts was up 334% to $15.6 million. We sold our canola during the quarter for an average price of $490 per ton. We also generated additional sales revenue of $6.97 million from canola trading for quarterly sales revenue of $22.6 million. Over 90% of our expected sales – streaming sales from 2015 harvest have been delivered as of the end of the quarter. This is a significant improvement over previous year’s deliveries and you’ll remember some of the challenges of rail access and cold winters in previous years.

So we had a – we went into this year with a goal of reducing delivery uncertainty and generating timely cash flow by diversifying our sales channels, selling more through crushers than through elevators and this worked very well. We’re converting our canola to cash quickly helps reduce delivery uncertainties and it provides timely cash flow to fund our next season of deployment. This helps keep our plan to grow using internally generated cash flow on track.

As you’re familiar with by now, we focus on certain non-IFRS measures when reporting on the business. In general, what we’re doing with these non-IFRS measures is letting the market value adjustment of our canola interest from the closest IFRS metric to reflect how the business is performing independent of unrealized changes in the value of our contracts as a result of canola price movement. Sometimes these movements are positive to the bottom line and sometimes they’re negative but we consistently adjust them out for comparable reporting and analysis purposes. So some non-IFRS measures here.

Cash operating margin which is revenue from streaming contracts, less crop payments was $13.6 million for the quarter, were just under $427 per ton which is a result of average strong selling prices per ton. The cash generating part of the business was apparent during the quarter with adjusted operating cash flow of $17.7 million for the quarter or $0.22 per share. This brings our adjusted operating cash flow for the year-to-date to $0.31 per share with one more quarter to go before the end of the fiscal year.

Adjusted net income which is net income less a positive adjustment for the market value adjustment of canola interest was $3.1 million for the quarter or $0.4 per share. Adjusted net income for the year-to-date is $0.6 per share. During the quarter we invested $6.7 million into 18 streaming contracts, two of which were with new producers in Saskatchewan and 16 contracts are renewals or expansions in Alberta where there were four in Saskatchewan or they were 11 in Manitoba with one, adding more than 21,000 tons to our portfolio of canola reserves. This brings our streaming portfolio to 77 active canola streams spread across Alberta, Saskatchewan and Manitoba. Capital deployment for the fiscal year-to-date is $24.15 million.

So I’ll turn it over to Doug now to give his comments and then we’ll go to questions.

Doug Emsley

Thanks Brad. I’ll give a couple of updates here and I’ll start by just reminding that in November we updated shareholders on three streaming contracts that were not performing as expected and in default. It is our philosophy in this company that we will always seek to protect the core capital of the business. And moving to terminate those contracts while our security position is strong, it’s going to enable us to recover our capital by realizing on the security. The collection process is underway, and as we’ve said in November it could take up to 18 to 24 months to complete.

Just a reminder on these terminated contracts, so it was three months ago and we’re – I’m sorry, we’re now just three months into what is potentially a 24-month process just as a reminder, and we are still of the view that we will recover all of our investment. There is about $19.4 million outstanding at risk and $25.4 million of security, so we think we’re in pretty good shape there and we’re into that process as I say now for three months and well underway. The one thing that I’ll remind you about is that the legal system in the farming sector is designed to get farmers a lot of time to settle up. The key is to have your mortgage and your GSA and your Penzey security properly protected and I can tell you that ours is. It’s simply now a matter of time and managing forward on this file.

So far there are no surprises to report as we’ve gotten into these files and our plan is to update you on a sort of a general level about recoveries on a quarterly basis. As well over the past few months, we have undertaken a full review of the streaming contract portfolio, analyzing production metrics and collateral security metrics. Our streaming contract underwriting metrics have evolved from large capital commitments to small numbers of farmers to much smaller capital commitments to larger numbers of farmers.

Over the past 18 months, we have looked to underwrite streams based on approximately 10 to 15 bushels per acre of canola, with canola acres representing no more than one-third of total farm acres. In some cases, due to above average security collateral strong historic credit behavior or consistent above average yields are, where we are able – sorry, where we may take delivery on as much as 15 bushels per acre but that’s the upper limit of our standard comfort range. This place is a natural ceiling on Capital committed to one farming operation and accordingly, nicely diversifies and lowers the risk across the portfolio.

Some of you may recall that during the early days of Input Capital, we were prepared to take up to 20 to 25 bushels per acre of canola in some instances. In the past 18 months I can tell you that every new deal that we’ve done has been in the 10 to 15 bushel per acre range, and we like that a lot and all of these contracts have been strong additions to the portfolio, so we’re pretty pleased with those results to date.

We also take care to secure our upfront capital to 100% equity in farm land with a preference towards a 120% equity to upfront capital, and we bolster this with supplementary security including security agreements – I’m sorry, including general security agreements, TSAs, purchase money security interests, assignment of production quarters, insurance payouts and other security as appropriate to a farm operation. These pieces will generally add in the order of 25% to 50% of additional security on to these contracts and in some cases add beyond 50% to our security cushion. So we have – essentially we have a very strong security package in Input Capital and all the deals that we’re doing.

Our portfolio of a 100 - I’m sorry, our portfolio of 77 active streaming contracts are operating well within today’s standard production in security metrics. There are small numbers of older legacy contracts where we’re proactively taking steps to fit them into our current, more stringent metrics that we’ve developed recently to minimize future risk. These contracts are of course are within their current – I’m sorry, these contracts are current with their deliveries and have been good customers for us since we outset with the contracts.

So, in some, Input now has a strong portfolio of 77 canola streams, all of which are performing as expected. Termination of the contracts described above, one of which was significantly larger than the average, improves the diversification of the streams within the remaining active streaming portfolio. As a testament to the smooth functioning of our active streaming portfolio now, more than 90% of the company’s expected canola volume for the 2015 crop had already been received and sold as of end of the Input’s fiscal third quarter.

Now a couple of comments on deliveries and deployment, we have seen a few developments during the quarter – I’m sorry, we’ve seen a few developments during the winter so far with respect to the market. Canola sales have been very strong and are up over the previous years due to strong canola programs from line companies moving canola to export positions. Having sold their most valuable crop early, farmers are more cashed up this winter than in the past years. We are seeing and emphasis, as we are seeing some caution in the market place as our potential clients are trying to navigate through a weaker Canadian dollar and some general bearish sentiment in the market place close to home with general, global energy and fertilizer markets having hit a rough patch.

We are approximately half way through our deployment season for 2016 crop year. It’s important to remember that the deployment season runs until April or May of this year. Unfortunately it doesn’t always operate according to our spreadsheet which would have it nicely ended the end of our year which would be March 31, so we’ll see some deployment continue on into the April, May months this year, I’m sure. Given the caution that we’re seeing in the egg sector, not just with Inputs but equipment and fertilizer as well, we will have to work hard to hit our internal deployment target a $50 million for this deployment season. I’ve been encouraged let’s say by recent pipeline activity that only time will tell, and we will however continue, importantly we will continue to apply the strong coverage metrics and ratios on new deals when looking at them to ensure that every new contract helps us improve the risk profile of the portfolio.

So, with that, in spite of that we do remain positive on growth opportunities in front of us. Input has grown strongly over the past year and we’re working hard to continue that trajectory. And so we appreciate you calling in, and operator, I’d like to now open it up for questions.

Question-and-Answer Session

Operator

Yes, of course. [Operator Instructions] Your first question comes from the line of Spencer Churchill with Paradigm Capital. Your line is open.

Spencer Churchill

Yeah, thanks good morning guys.

Doug Emsley

Good morning, Spencer.

Spencer Churchill

Yeah I guess just maybe if could follow-on a little bit on some of those comments you made at the end there on deployments. I mean I guess, so part of the reasoning or the thinking was for the last quarter while we saw such a decline year-over-year was primarily on – because they had, they were all cashed up with the shipments being so strong and the prices being higher year-over-year. And I guess maybe if you could characterize, is that – has that flown through into this quarter and then the other concerns about sort of the macro stuff have sort of layered on top of that or it is just they’re both still there?

Doug Emsley

I’ll start it off. And I guess I will tell you that we’re seeing caution. Farmers are cashed up but they are cautious, and so the deals that we are seeing are little slower to come in. We do have a large pipeline, it’s a significant pipeline of potential deals out there that we’re staring at. The question will be, Spencer, whether or not we’re able to push those over the edge. And I don’t know the answer to that, but we’re just flagging and being realistic about the prospects here. We’re doing smaller deals now and we’re being, frankly little tougher on them with our more stringent, somewhat more stringent coverage ratios. So, when you put all that together, it has the potential to be a long-haul between now and the end of the deployment season. We are seeing, as I say recent, very recently some pretty good activity but I just want to flag for everyone that we put on a spreadsheet and we like to do $50 million worth of deployment this year, we get half way through the deployment year and we’re $25 million so we think we’re in pretty good shape, but you’ll never know until it’s done.

And so generally speaking, I think we’re being cautious about whether or not we are able to hit our 50 at the end of this deployment season, we’ll know better by April or May and we’ll keep the market upraised.

Operator

Your next question comes from the line of Peter Prattas with Alta Corp. Please go ahead.

Peter Prattas

Good morning, guys.

Doug Emsley

Good morning, Peter. How are you doing?

Peter Prattas

Good, thanks very much. My question surrounds your cost per acquired ton there, so it has been a little bit higher this year-to-date. I’m just wondering why is that have your economics change at all as a result, and do you expect the cost per acquired ton to turn back down going forward assuming flat canola prices? Thanks.

Brad Farquhar

Yeah, it’s Brad here. That’s primarily as a result of some one year timing contracts that we’re done last May, and so April and May I guess and so they fit into this fiscal year. That tends to be the time of year when deals like that get done and then our multiyear deals are done through the reminder of the season. So I would expect that to trend down, certainly the deals we’re doing in this quarter are in line with the metrics we’ve always had on multiyear deals, so we’ve seen no erosion in any kind of margins or projected IRRs in those deals. And I expect we’ll probably have a few one year tons that’ll happen in April or May, but that’s just normal for that time of year. But as of right now that number skews a little higher because there was some reason of weight of deployment done on a one year tonnage basis in the $24 million deployment in the fiscal year-to-date.

Operator

Your next question comes from the line of Marc Robinson with Cormark Securities. Your line is open.

Marc Robinson

Thanks. Just looking for a little bit more clarity on this reduction in expected tons for the year down to 62 to 65, so just what – excuse me, what exactly happened there? And then I also noticed that the – and it’s small, but I thought I’d ask, the increase in the capital at risk looks like it’s gone from 18.4 to 19.4, so just wondering what happened there as well?

Brad Farquhar

Yeah, the two were actually connected Marc. So everyone will remember that we – when we announced those three contract terminations we reduced our guidance from 80,000 tons to 65,000 tons and that’s because there were 15,000 tons that we felt would not be received as a result of those terminations. In the course of setting up the legal process for this collection process, we’ve determined that there are – that 3,000 tons that we were expecting to receive during the fiscal year from those three counterparties is – will be received but it’s tied up in the collection process. So from the guidance perspective, we won’t be receiving that by March 31, but we will get it in due course.

On the other part which is the increase in the exposure, it’s connected to that. So there is some crops that is now in the collection process rather than in the streaming process let’s say and there is some crop insurance settlement associated with that. So that’s additional money that we expect to collect from the collection process and, because it’s crop there and it’s crop insurance there is security – we know that there is either fiscal crop or a check coming from crop insurance associated with that. So, that’s the reason for those two changes.

Operator

[Operator Instructions] Your next question comes from the line of Steven Salz with M Partners. Please go ahead.

Steven Salz

Hey guys.

Brad Farquhar

Hey Steven.

Doug Emsley

Hey Steven.

Steven Salz

So, is it possible for us to see some of the recovery trickle in early in small bits or is it all of a pretty much come in one shot that’s a upper bet say over the 24-month timeframe?

Doug Emsley

Yeah that’s a good question. I can’t really give you – I can’t give you any hard answer on that. Simply because it’s early days, I mean we’re into the first three months of this – we’re optimistic guys, by nature, but I want to be careful about this and as I say the system is designed to give farmers lots of time. We do have a strong security position, I mean it’s not like we’re out there trying to shovel pod, we’ve got mortgage security and we’ve got Penzey and we’ve got GSA.

So it’s just a matter of going through the process and taking the time that is required. And some of the contracts will react differently to the process and may run us raid out to the end, some may not and we may end up getting up some capital back earlier. That has to do a little bit with our legal strategy on this, be too detailed on that. Other than to generally say it’s a bit of an open question right now, I think we want to properly sort of hang in the window that it’s an 18 to 24 month process. We’re three months into that, we’ve had no surprises, we’re going through the steps and we’re still very confident that we’re going to get all of the capital back that we’ve got out there.

Operator

Your next question comes from the line of Marc Robinson with Cormark Securities. Your line is open.

Marc Robinson

Thanks. Just a quick follow-up here, I was looking for a quick update on the process in trying to secure some credit, some debt and what’s happening there.

Doug Emsley

No new news on that, we’re still in discussions and talking with institutions about potential revolver but no new news on that.

Operator

Your next question comes from the line of Cihan Tuncay with GMP Securities. Your line is open.

Cihan Tuncay

Hi guys, good morning, it’s Cihan here calling on behalf of Anoop.

Brad Farquhar

Good morning, Cihan.

Doug Emsley

Hey Cihan, how you’re doing?

Cihan Tuncay

Good, good, a just couple of quick questions. Just again, and I think you guys alluded to this already but just to confirm, on the terminated contracts has anything been collected yet?

Doug Emsley

No.

Cihan Tuncay

No, nothing yet so far?

Doug Emsley

No.

Cihan Tuncay

And what’s kind of – is there anything preventing that process or is it just a timing issue?

Doug Emsley

Just simply timing and it’s the legal process which is complex and as I say, and indicated it’s heavily weighted towards giving farmers time to sort of figure out a way that to pay and not in some cases lose their farm. So, but it does have a fuse on it and you just have to start at the beginning and work your way to the end and we’re well into that.

Operator

Your next question comes from the line of Ken Lester with Lester Asset Management. Your line is open.

Ken Lester

Hi guys.

Doug Emsley

Hey Ken, how are you doing?

Ken Lester

Good, good. Just wondering if you could give us some comments on the macro, I understand it’s been a pretty good year world-wide for canola and just any kind of comments on that? Thanks.

Brad Farquhar

Yeah, there were some data out from Canada here recently which showed that canola exports are up 17% year-over-year sort of to the end of, I think that was through the end of December. The big buyers are China, Japan and Mexico and they just continue to sock up canola. Our green marketing guy here would say that, when prices get up to about $10.75 a bushel that’s when farmers are willing to let it go and when it is down about $10 a bushel that’s when the Chinese buyers hoop in and fill up another ship.

So the demand continues to be strong. I think the biggest factor at the macro level on for – in terms of price is really the Canadian dollar. The decline in the dollar in the last year has been pretty supportive of canola prices, if we were at parity with the U.S. dollar canola prices would be a good bit lower than where they are today, and that’s why you hear a lot in the U.S. about sort of gloom and doom in the egg sector. It’s hard to pencil a profit if you’re a corn or soybean farmer but there is a lot more optimism up here, and certainly on the priories, canola prices are good and canola is the number one crop. Lentil prices are very strong, so strong that we hear about farmers who are considering putting all of their acres into lentils this year because the price is so strong. And so there were lots of good options for farmers to pencil out a pretty good profit this year, and so that’s part of the environment that we’re operating in right now.

Operator

Your next question comes from the line of Steven Salz with M Partners. Your line is open.

Steven Salz

Hey, so just a quick follow-up on that crop conversation from earlier. I mean is it possible that you get the process before and the government comes and steps in and helps you guys keep their farmers live and then they get up and going again and then you kind of got a way for canola, I mean canola is also coming that way. I mean like, is there any outcome where these guys start up again and then it kind of delays you receiving canola or any form of recovery?

Doug Emsley

I will tell you that the legal process, if you map it from start to finish and you can map it, what is the – using the maximum – if you properly perfected your security you should be able to sort of realize on your mortgage or realize on your GSA being sort of due course. And what we have done when we – to come up with the 12, I’m sorry, 18 to 24 month period was we mapped the maximum amount of time when you put together all of these stays that can applied for and these delays and these provisions that farmers are allowed to applied for. When you add those up, they come out to about 18 to 24 months. So provided you have properly perfected your security, which we have in each case here, then there should not be any surprises, I mean god will and then the [indiscernible] don’t rise. I mean if somebody was to change legislation or something then to allow a farmer to sort of just ignore paying their bills, that’s not going to happen. I mean the 18 to 24 months captures the available time including the list of stays and available alternatives that a farmer for has for delays in that time period. So we’re pretty comfortable in the view and with the advice from council that that’s shouldn’t take any longer than that, if possible we hope it’ll take less time. Well that gives you some color there.

Operator

Your next question comes from the line of Cihan Tuncay. Your line is open.

Cihan Tuncay

Hi guys, just a two really quick follow-up questions from me here. First, in note six of the financials, it looks like there was market value adjustment of $110,901 on the carrying value of the terminated contracts. Just wanted to confirm on where that adjustment value was coming from, was that a write-down or was that something else?

Brad Farquhar

No the – that’s an adjustment related to – so when the contracts went into default, they’re valued slightly differently on the mark-to-market process. So we still have a streaming contract but what we’re collecting is enforced by the security and we recognized a change in the estimate of the fair value in the canola interest there and that’s what that node is about. So the fair value is the value of the expected capital to be recovered inevitably going other cost associated with the collection rather than straight marching back to the canola market, because we expect to receive it as a result of realizing on security rather than through the canola contract.

Operator

Your next question comes from the line of Spencer Churchill with Paradigm Capital. Please go ahead.

Spencer Churchill

Yeah, thanks guys, just one follow-up. Brad, I recall your comments on the environment north of the board or just sales of the board and just generally globally given the FX rate has been really supportive of crop prices in Canadian dollars for our farmers. So I’m just trying to square that comment with Doug’s comments earlier about how you guys are seeing a lot of caution in the market and that perhaps is impacting some of the deployments in the year-to-date.

Brad Farquhar

Sure. Well, on the flipside, the stuff farmers buy is often price in U.S. dollar. So the other day I was talking to a farmer who got a quote on a new four wheel drive tractor and in Canadian dollars it was over a $1 million and there is a lot of sticker shock on that front. Fertilizer tends to get priced off of U.S. dollar inputs, and so those are the factor. And just the incredible volatility that we’re seeing in the exchange rate and in the general economy, the Alberta economy I think is fair to say it’s in a general state of shock. A lot of farmers in Alberta have off farm income associated with the oil patch and that’s created a lot of uncertainty in their lives

And so there is just a general caution certainly across Alberta and Saskatchewan about what the future holds, as this farmer who is talking about expensive tractors was saying, he said, who knew that being a green farmer would be an area of stability but all around us there is lots of instability and so it’s just everyone is bulling in their horns a little bit and operating cautiously because it’s hard to tell what the future holds. No one expects an oil to go to 25 bucks and a year from now no one knows what the price of wheat might be there.

Operator

Your next question comes from the line of Cihan Tuncay with GMP Securities. Your line is open.

Cihan Tuncay

Hi guys, last question from me, sorry. Just wanted to get a sense if you have any kind of best guesses for projected streaming tons for 2017 versus where we’re at 2016, if you have any color on that that would be great? Thank you.

Brad Farquhar

We don’t yet. This deployment season we’ll drive that and so as we are closer to the end of the deployment season we’ll have much better visibility and be able to provide some sense of that at that point.

Operator

Your next question comes from the line of Kyle Mowery with Grizzly Rock. Please go ahead.

Kyle Mowery

Good morning Brad and Doug. Just a quick question as it pretends to use of capital. If you find yourself in a situation where you have a significant amount of cash what other messages might you use to deploy that, i.e., would you consider share repurchases and or any other options?

Doug Emsley

Yeah, we’re just – Kyle, we’re focused principally obviously on the deployment process. And so that’s the only thing that we would typically have in mind for the expenditure of that capital. Anything else if we changed our view on that of course, we’d have to advise the market but that’s a – our plan quite simply is just, we’ve got $40 million in the bank. We’ve got another, hopefully $25 million worth of deployment that we’re going to do before the end of this deployment season. We’ll have some bills to pay along the way. So, I mean we’re managing our cash flow to the deployment period.

Operator

There are no further questions at this time. I turn the call back to the presenters.

Doug Emsley

Well thank you very much everyone. We appreciate your time and we look forward to chatting to you again next quarter. Thank you.

Operator

This concludes today’s conference call. You may now disconnect.

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