Hexo Warns Of Going Concern

Hexo Corp. (TSX: HEXO; NASDAQ: HEXO)  reported its results for the fiscal first quarter of 2022 ending October 31, 2021, with revenue rising 29% sequentially to $50.2 million. Hexo also reported a total net loss of $116 million or ($0.46) per share. In addition to the numbers, the company also updated shareholders on its new strategic plan with regard to the company debt issues.

“We are taking immediate steps through our new strategic plan, The Path Forward, to strengthen our capital position, improve operations, accelerate organic growth and complete our transformation to be cash flow positive from operations within the next four quarters,” said Scott Cooper, President & CEO, HEXO. “Having visited all our core sites, and in meeting with our employees and customers, I am more confident than ever in HEXO’s future and our ability to accelerate the creation of short and long-term value for shareholders.”

Going Concern

Hexo noted in its filing that “existing funds on hand, when combined with operational cash flow, would not be sufficient to fund the potential Senior Secured Convertible Note redemption payments. Additionally, the ability to fund capex budgets, convertible debt, and other commitments may be at risk due to cash payments towards the Senior Secured Convertible Note. Management is exploring several options to secure the necessary financing, which could include the issuance of new public or private equity or debt instruments, supplemented with operating cash inflows from operations. Subsequent to October 31, 2021, management has resumed the previous at-the-market public offering. Nevertheless, there is no assurance that certain sources of additional future funding will be available to the company or will be available on terms which are acceptable to management.”

As of October 31, 2021, Hexo has $55 million of cash and cash equivalents and $46 million (July 31, 2021 – $37,421) in trade receivables. However, Hexo has current liabilities of $411 million on the statement of financial position. Hexo has remaining contractual commitments of $40.695 million due before July 31, 2022. The company said it has restricted funds to
satisfy debt of $50 million presented in current liabilities. The company said it currently plans to settle a significant portion of this liability in equity. However, if the company is unable to meet the requirements of Equity Condition Waiver, the Holder may demand settlement in cash. During the three months ending October 31, 2021 the company settled all the optional redemption payments in equity and subsequent to the period, the company settled the November and December 2021 optional redemption payments in equity. The company has also received a cash settlement waiver for the May 2023 optional redemption.

CFO Stepping Down

It seems the CFO is taking the fall for the debt issues. Hexo said that CFO Trent MacDonald was stepping down effective March 11, 2022. The company said MacDonald will continue in his role until March 11, 2022, to ensure a smooth transition while it searches for a new CFO. Plus the company has appointed John Bell as the new Chair of the Board, effective immediately. Bell is currently Chairman of Stack Capital, Pure Jamaican Limited, and a board member of Cure Pharmaceutical. Dr. Michael Munzar is stepping down from the board immediately.

 The Path Forward

Hexo announced, “The Path Forward”, a new strategic plan to drive accelerated growth and become cash-flow positive within the next four quarters.

The Path Forward is made up of five priorities according to the company statement:

  1. Reduce manufacturing and production costs;
  2. Streamline and simplify the organizational structure;
  3. Realize cost synergies from acquisitions and recent plant closures;
  4. Focus on revenue management, including more disciplined pricing; and
  5. Accelerate growth through organic market share gains and capture missed revenue opportunities, including improving our ability to align cultivation planning with market demand, reintroduce a focus on medical and strengthen our commercial capabilities and innovation pipeline.

The company said these are expected to generate incremental cash flow of $37.5 million in fiscal 2022 and an additional $135 million in 2023 for a total of $175 million over the two years, split almost evenly between cost reductions within our control and revenue opportunities.

Keystone Canned

As part of the review of capital-intensive projects, Hexo decided to halt the Keystone Isolation Technologies project indefinitely as of October 31, 2021, resulting in a one-time charge of $11.3 million.

Legal Issues

In addition to the debt problems, Hexo also faces several legal issues. The filing stated: “As of October 31, 2021, the company and its former Chief Executive Officer are defendants in a putative class-action lawsuit pending in the Québec Superior Court brought on behalf of certain purchasers of shares of the Company and filed on November 19, 2019. The lawsuit asserts causes of action for misrepresentations under the Québec Securities Act and the Civil Code of Québec in connection with certain statements contained in HEXO’s prospectus, public documents and public oral statements between April 11, 2018 and November 15, 2019. The allegations relate to: (1) statements made by the Company regarding its agreement with the Province of Québec to supply cannabis; (2) statements made by the Company regarding its acquisition of Newstrike, particularly the licensing of the Newstrike facilities and the forecasted synergies and/savings from the Newstrike acquisition; (3) statements made by the Company about the net revenues in Q4 2019 and fiscal year 2020; and (4) the certifications by Sebastien St-Louis and the  underwriters of the Company.”

Hexo is also named as a defendant in a proposed consumer protection class action filed on June 16, 2020, in the Court of Queens’ Bench in Alberta on behalf of residents of Canada who purchased cannabis products over specified periods of time. The filing stated: “Several other licensed producers are also named as co-defendants in the action. The lawsuit asserts causes of action, including for breach of contract and breach of consumer protection legislation, arising out of allegations that the Tetrahydrocannabinol (THC) or Cannabidiol (CBD) content of medicinal and recreational cannabis products sold by the Company and the other defendants to consumers was different from what was advertised on the products’ labels. Many of the cannabis products sold by the Company and other defendants were allegedly sold to consumers in containers using plastic bottles or caps that may have rapidly absorbed or degraded the THC or content within them. By allegedly over-representing the true amount of THC or CBD in the products, the plaintiff claims that consumers would be required to consume substantially more product than they otherwise would have in order to obtain the desired effects or, in the alternative, would have consumed the product without obtaining the desired effects. The action has not yet been certified as a class action.”

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