Pollard Banknote Limited Third Quarter 2026 Results Conference Call - DEFI TECHNOLOGIES INC

Financial Performance:

• Third quarter 2026 revenue reached $158.9 million, up 1.7% year-over-year (YoY) from $156.3 million, driven by higher digital sales, retail solutions, and charitable gaming volumes, partially offset by lower instant ticket average selling prices (ASP) and the expiration of the Michigan iLottery contract.
• Gross profit decreased to $24.3 million (15.3% margin) from $28.1 million (18.0% margin) in Q3 2025, primarily due to lower instant ticket margins from customer mix shifts, production inefficiencies (material spoilage, rework), and the loss of Michigan iLottery gross profit.
• Adjusted EBITDA declined to $28.3 million from $32.3 million YoY, influenced by gross profit compression, a $2.1 million hit from the Michigan contract expiry, and higher realized foreign exchange losses.
• Net income fell to $8.1 million (30 cents per share) from $10.3 million (38 cents per share), impacted by lower margins and a $0.7 million increase in foreign exchange losses.
• Operating cash flow was depressed by increased working capital investments, specifically $50 million+ in contract assets for the Belgium development contract (percentage of completion revenue vs. milestone billing) and delayed collections on the California instant ticket contract (retail-based billing).
• Cost of sales rose to $134.6 million, driven by iLottery operational ramp-up, higher instant ticket volumes, production inefficiencies, and adverse currency movements on USD-denominated expenses.

Guidance and Future Outlook:

• Management expects Q4 2026 and 2027 revenue to grow significantly as new digital contracts (Oklahoma, Colorado, Kansas renewal, North Carolina extension, Belgium) begin revenue recognition.
• Margins are projected to improve in Q4 and 2027 as manufacturing efficiencies are realized, the product mix normalizes (higher ASP international work), and initial heavy spending on new digital projects transitions to revenue generation.
• Q4 2026 instant ticket volumes are expected to remain elevated rather than drop seasonally, driven by strong charitable demand and orders slipping from Q3 due to production capacity constraints.
• Digital revenue ramp-up for Belgium is expected to be gradual through 2027, with Colorado anticipated to generate revenue starting in Q4 2027.
• The Kansas iLottery contract, awarded late 2026, is expected to see revenue growth as the player base expands.

Business Segments and Product Lines:

• Digital/iLottery: Won the Kansas Lottery 5-year iLottery contract; extended North Carolina contract to June 2029; Colorado Lottery contract implementation begins late 2027; Belgium lottery platform revenue recognition accelerating; Oklahoma PlayOn loyalty solution launched in September 2026.
• Instant Tickets (Retail): Won Norsk Tipping instant ticket contract (3-year + 1-year extension); production volumes slightly higher YoY but ASP lower due to mix; California contract ramp-up successful but caused manufacturing strain.
• Charitable Gaming: ETAB (electronic pull-tabs) sales in Minnesota at record levels; strong demand for pull-tab tickets, vending machines, and e-tabs; expanding production capacity to support growth.
• Strategic Decisions: Declined to bid on the Virginia Lottery iLottery RFP for 2028 to preserve capacity for higher-value opportunities (e.g., North Carolina); continues to receive 50% earnings share from Virginia JV until October 2028.
• Shareholder Returns: Purchased 64,200 shares for cancellation during Q3 under the normal course issuer bid (NCIB) to address undervaluation.

Market and Competitive Landscape:

• Pricing environment for instant tickets shows signs of stabilization and increase, evidenced by a significant price increase won on the Norsk Tipping renewal.
• Lottery decision-making processes in the U.S. increasingly prioritize vendor reputation, delivery capability, and reliability over lowest price, favoring Pollard's strategic positioning.
• Competition remains concentrated with few global manufacturers; Scientific Games' recent lackluster results suggest industry-wide margin pressures.
• Expansion of charitable ETAB markets expected in New York (early 2027, fraternal focus) and Virginia (pilot underway, potential RFP 2027), with Alaska pending legislative approval.

Risks and Challenges:

• Manufacturing Inefficiencies: Production issues, material spoilage, and rework in Q3 negatively impacted margins; management acknowledges the complexity of the instant ticket printing process.
• Contract Mix Impact: Shift to lower ASP international work and the expiration of the high-margin Michigan iLottery contract created a structural drag on margins in the short term.
• Working Capital: Significant cash flow pressure due to billing structures of new contracts (Belgium, California) delaying cash collection relative to expense recognition.
• Regulatory/Legislative: Reliance on government approvals for new market entries (Alaska) and potential delays in RFP timelines (Virginia, North Carolina).
• Foreign Exchange: Exposure to currency fluctuations impacting both revenue conversion and cost of sales.

Management Commentary and Tone:

• Tone was cautiously optimistic; management admitted Q3 results were below expectations but emphasized the strategic value of recent contract wins and the "foundation laying" for future growth.
• Doug Pollard (Co-CEO) and John Pollard (Co-CEO) expressed high confidence in the long-term strategy and the effectiveness of new manufacturing leadership (new plant managers in Winnipeg and Ypsilanti).
• Significant emphasis placed on the retirement of CFO Rob Rose (after 30+ years) and the onboarding of his successor, Verica Simic, who brings experience in manufacturing and public company transformations.
• Management reiterated that while Q3 was difficult, the trajectory for manufacturing improvements and digital revenue ramp-up is positive.

Analyst Questions and Answers:

• Manufacturing & Margins: Analysts asked about the timeline for resolving manufacturing issues and returning margins to 20%+. Management confirmed new management is in place and expects systemic improvements quarter-over-quarter, though a return to 20%+ is a multi-quarter process due to the mix of new digital spend and digital ramp-up.
• Virginia Non-Bid: Explained that declining the Virginia bid was a strategic choice to preserve "dry powder" and delivery capacity for the more critical North Carolina RFP (2027) and other pipeline opportunities.
• Cash Flow & Working Capital: Clarified that cash flow depression is largely due to the specific billing milestones of the Belgium (development-based) and California (retail-based) contracts, which will normalize as projects reach steady state in 2027.
• Pricing Pressure: Confirmed no material tariff impacts yet but noted pre-buying of inventory as a hedge; instant ticket pricing has been stable to increasing, and charitable pricing is flexible.
• ETAB Growth: New markets (Virginia, New York, Alaska) are expected to be material but not as large as Minnesota in the immediate term, with rollouts expected throughout 2027.

Other Key Points:

• Leadership Change: Rob Rose retiring as CFO at year-end; Verica Simic to join as the new CFO.
• Contract Specifics: Kansas iLottery contract includes a two-year extension, potentially extending revenue to late 2023 (transcript likely refers to 2028/2029 contextually given the 2026 date; note: transcript mentions "late 2023" which is likely a transcription error for a future date given the 2026 call date).
• California Contract: Onboarding described as "extraordinarily well" with customer satisfaction high, despite initial manufacturing strain.
• Tax Rate: Effective tax rate was 31.6%, higher than domestic due to withholding taxes, partially offset by lower foreign rates.