Ms. Linda McCurdy reports

K-BRO DELIVERS SIGNIFICANT INCREASE IN REVENUE, EBITDA AND MARGINS IN Q2 2023

K-Bro Linen Inc. has released its Q2 2023 financial and operating results.

Q2 2023 financial and operating highlights:

• Consolidated revenue increased 13.9 per cent compared with Q2 2022, with health care revenue having increased by 4.4 per cent and hospitality revenue by 29.0 per cent.
• EBITDA (earnings before interest, taxes, depreciation and amortization) increased in the second quarter of 2023 by $4.8-million to $14.5-million, compared with $9.7-million over the comparable 2022 period, a 49.8-per-cent increase.
• EBITDA margin increased to 18.0 per cent from 13.7 per cent in the comparable period.
• Net earnings in the second quarter of 2023 increased by $3.1-million to $4.7-million, compared with $1.6-million in the comparative period of 2022, and as a percentage of revenue increased by 3.5 percentage points to 5.8 per cent.
• For the second quarter of 2023, K-Bro declared dividends of 30 cents per common share.
• Long-term debt at the end of Q2 2023 was $63.6-million, compared with $45.2-million at the end of fiscal 2022, with the acquisition of Paranet having been completed in early March.
• K-Bro has repurchased and cancelled 52,756 shares under the normal course issuer bid announced May 15, 2023.

Linda McCurdy, president and chief executive officer of K-Bro, commented: "Our strong second quarter results, with significant growth in EBITDA and margins, were in line with our expectations. The improvement in margins reflects our disciplined approach to managing operations, combined with price increases that we have secured to offset inflation-related costs. We continue to expect a return to prepandemic margins in the second half of the year, consistent with historical seasonal trends.

"As with our first quarter results, we saw continued growth in health care revenue and significant growth in hospitality revenue as business and leisure travel volumes have returned. We continue to actively manage the impact of energy price increases and local market labour shortages.

"We are excited about our outlook. We see continued stability in our health care segment and a return to prepandemic levels in our hospitality segment. On May 15, we announced a normal course issuer bid and repurchased 52,756 shares during the second quarter. With momentum in our core business, we are refocusing on acquisitions and have an active M&A [merger and acquisition] pipeline and remain well positioned from a balance sheet and liquidity perspective and will continue to be disciplined as we evaluate acquisitions."

Highlights and significant events for fiscal 2023

Acquisition of Buanderie Paranet

On March 1, 2023, the corporation completed the acquisition of 100 per cent of the share capital of Buanderie Para-Net (Paranet) operating as Paranet, a private laundry and linen services company operating in Quebec City, Que. The acquisition was completed through a share purchase agreement consisting of existing working capital, fixed assets, contracts and an employee base. The contracts acquired are in the Quebec health care and hospitality sector, which complements the existing business of the corporation. Based on the corporation's evaluation of the acquisition and the criteria in the identification of a business combination established in IFRS 3, the acquisition will be accounted for using the acquisition method, whereby the purchase consideration will be allocated to the fair values of the net assets acquired.

At the time the financial statements were authorized for issue and due to the timing of the acquisition, the corporation has not yet completed the accounting for the acquisition of Paranet. This includes the accounting for the amounts attributable to property, plant and equipment, intangible assets, and the associated goodwill. No measurement adjustments were made in the current period.

The corporation financed the acquisition and transaction costs from existing loan facilities.

The preliminary purchase price allocated to the net assets acquired, based on their estimated fair values, is as shown in an attached table.

The provisional intangible assets acquired are made up of $2,450 for the customer contracts, along with related relationships and customer lists. The goodwill is attributable to the work force and the efficiencies and synergies created between the existing business of the corporation and the acquired business. Goodwill will not be deductible for tax purposes.

(a) Contingent consideration

The estimated fair value of payment has been classified as contingent consideration by exercising significant judgment as to whether it should be classified as such or as renumeration to the former owner, who will be employed subsequent to the close of the transaction. The corporation has determined by considering all relevant factors included in the agreements as it pertains to employment terms, valuation of the business, and other relevant terms that the additional consideration is most appropriately reflected as contingent consideration.

In the event that a certain EBITDA target is achieved by Paranet for the 12-month period ended Aug. 31, 2023, additional undiscounted consideration of up to $1,890 will be payable in cash during the fourth quarter of 2023. The potential undiscounted amount payable within the agreement will only be paid should the EBITDA target be achieved. Should the EBITDA target not be achieved, no payment will be made.

The fair value of the contingent consideration of $945 was estimated by considering the probability-adjusted future expected cash flows in regard to Paranet achieving the target that would result in consideration being paid. The impact of discounting those future cash flows was not considered because the impact would be nominal.

Since the estimated future cash flows and probability of achieving the EBITDA target are an unobservable input, the fair value of the contingent consideration is classified as a Level 3 fair-value measurement.

(b) Acquisition-related costs

For the period ended June 30, 2023, $277 in professional fees associated with the acquisition has been included in corporate expenses.

(c) Revenue and profit information

The acquired business contributed revenues of $2,853 to the corporation for the period from March 1, 2023, to June 30, 2023. If the acquisition had occurred on Jan. 1, 2023, consolidated pro forma revenue for the period ended June 30, 2023, would have been $152,853.

The acquired business contributed net income of $4 to the corporation for the period from March 1, 2023, to June 30, 2023. If the acquisition had occurred on Jan. 1, 2023, consolidated pro forma net income for the period ended June 30, 2023, would have been $6,667.

These amounts have been calculated using Paranet's results and adjusting them for differences in the accounting policies between the corporation and Paranet as it pertains to property, plant and equipment. The corporation follows the requirements of IFRS 16 whereas Paranet previously reported under ASPE (accounting standards for private enterprises), the additional depreciation and amortization that would have been charged assuming the fair-value adjustments to property, plant and equipment and intangible assets had applied from Jan. 1, 2023, together with the consequential tax effects.

3sHealth contract extension

In Q2 2022, the corporation extended its existing contract with 3sHealth for an additional six years to May 31, 2031, on terms that are consistent with the existing contract.

Revolving credit facility

In Q2 2022, the corporation completed an amendment to its existing revolving credit facility, which extended the agreement from July 31, 2024, to July 31, 2026. The corporation's incremental borrowing rate under its existing credit facility is determined by the Canadian prime rate plus an applicable margin based on the ratio of financed debt to EBITDA as defined in the credit agreement. Throughout fiscal 2022, the Canadian prime rate has risen from 3.7 per cent in January, 2022, to 6.95 per cent in June, 2023, and, in July, 2023, it increased to 7.20 per cent. Had the prime rate in effect at July 12, 2023, been in effect for the six months ended June 30, 2023, total interest rate expense for the period ended June 30, 2023, would have been $162,000 higher than reported assuming equivalent debt levels as at June 30, 2023.

Capital investment plan

For fiscal 2023, the corporation's planned capital spending is expected to be approximately $6-million to $8-million on a consolidated basis, excluding the acquisition of Paranet. This guidance includes both strategic and maintenance capital requirements to support existing base business in both Canada and the United Kingdom and does not take into account amounts accrued in 2022 that are to be paid in 2023. The company will continue to assess capital needs within its facilities and prioritize projects that have shorter-term paybacks as well as those that are required to maintain efficient and reliable operations.

Economic conditions

Since 2020, due to changing government restrictions to mitigate the continuing COVID-19 pandemic, supply chain disruption, geopolitical events impacting key inputs such as natural gas, electricity and diesel, and inflationary impacts to labour and materials, the corporation has faced varying degrees of financial impact within Canada and the United Kingdom. The COVID-19 pandemic has also contributed to unusually competitive labour markets, causing inefficiencies in attracting, training and retaining employees. While the corporation anticipates labour markets will stabilize, the timing remains uncertain, and, until such time as labour markets stabilize, the corporation will continue to be impacted financially by these conditions.

The corporation's credit facility is subject to floating interest rates and, therefore, is subject to fluctuations in interest rates, which are beyond the corporation's control. Increases in interest rates, both domestically and internationally, could negatively affect the corporation's cost of financing its operations and investments.

Uncertainty about judgments, estimates and assumptions made by management during the preparation of the corporation's consolidated financial statements related to potential impacts of the COVID-19 pandemic, geopolitical events and rising interest rates on revenue, expenses, assets, liabilities and note disclosures could result in a material adjustment to the carrying value of the asset or liability affected.

Dividends

The board of directors has declared a monthly dividend of 10 cents per common share for the period from Aug. 1 to Aug. 31, 2023, to be paid on Sept. 15, 2023, to shareholders of record on Aug. 31, 2023. The corporation's policy is for shareholders of record on the last business day of a calendar month to receive dividends during the 15 days following the end of such month. K-Bro designates this dividend as an eligible dividend pursuant to Subsection 89(14) of the Income Tax Act (Canada) and similar provincial and territorial legislation.

Outlook

The corporation's health care segment continues to experience a steady growth trend. For the hospitality segment, management expects a good level of activity with the easing of government-imposed restrictions on international border crossings, increasing business/leisure travel and price increases, which will all continue to support the strong recovery momentum in hospitality revenues experienced through 2022 as well as in Q1 and Q2 of 2023.

In 2022, management was focused on operational efficiencies and the transition of new AHS business, which was completed in early April 2022. Going forward, management will continue to focus on optimizing plant efficiencies and stabilizing its labour force.

From an input cost perspective, since early March, 2022, particularly in the United Kingdom, the corporation has faced significant volatility in energy costs due to current geopolitical issues. In April, 2022, to mitigate this instability, the corporation locked in natural gas supply rates in the United Kingdom until December, 2024. Based on these locked-in rates, natural gas as a percentage of revenue increased approximately 2.5 percentage points from historical levels for 2022.

The corporation is also facing temporary labour inefficiencies from unusually competitive labour markets. Management is focused on the retention of existing staff, in addition to implementing strategies to recruit and hire new staff. The corporation has achieved some success in certain markets but is still focusing efforts on other markets. The corporation is managing more challenging regional labour availability with complementary temporary foreign worker programs.

Management remains confident in its ability to return to 2019 margin levels, consistent with historical seasonal trends, and it is anticipated this will occur in the later half of 2023. Margins will benefit from negotiated price increases, which have now been secured, as well as anticipated labour efficiency gains which depend on the company's continued ability to attract and retain staff. Management anticipates labour markets will stabilize, but the timing remains uncertain.

With continued momentum in existing operations, management has refocused attention on strategic acquisitions, such as the recently announced acquisition of Paranet, to accelerate growth in both North America and Europe -- geographies that remain highly fragmented. K-Bro will look to leverage its strong liquidity position, balance sheet and access to the capital markets to execute on these opportunities, should they arise.

About K-Bro Linen Inc.

K-Bro is the largest owner and operator of laundry and linen processing facilities in Canada and a market leader for laundry and textile rental services in Scotland and the northeast of England. K-Bro and its wholly owned subsidiaries operate across Canada and the United Kingdom, providing a range of linen services to health care institutions, hotels and other commercial accounts that include the processing, management and distribution of general linen and operating room linen.

The corporation's operations in Canada include 10 processing facilities and two distribution centres under three distinctive brands: K-Bro Linen Systems Inc., Buanderie HMR and Les Buanderies Dextraze. The corporation operates in 10 Canadian cities: Quebec City, Montreal, Toronto, Regina, Saskatoon, Prince Albert, Edmonton, Calgary, Vancouver and Victoria.

The corporation's operations in the United Kingdom include Fishers, which was acquired by K-Bro on Nov. 27, 2017. Fishers was established in 1900 and is a leading operator of laundry and linen processing facilities in Scotland, providing linen rental, workwear hire and cleanroom garment services to the hospitality, health care, manufacturing and pharmaceutical sectors. The corporation operates five United Kingdom sites located in Cupar, Perth, Newcastle, Livingston and Coatbridge.

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