Central Garden & Pet Company

Gentlemen, thank you for your patience. We will begin in a couple of minutes. Again, thank you for your patience. We will begin in a couple of minutes. Thank you. Thank you. Ladies and gentlemen, thank you for standing by. Welcome to Central Garden and Pets fourth quarter and fiscal 2022 earnings call-in. My name is Shamali, and I will be your conference operator for today. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. If anyone should require assistance during the call, please press star followed by zero on your touchtone phone. As a reminder, this conference call is being recorded. I would now like to turn the call over to Friedrich Edelman, Vice President, Investor Relations. Please go ahead.

Thank you, Shamali. Good afternoon, everyone. Thank you for joining us. With me on the call today are Tim Cofer, Chief Executive Officer, Nico Lohanas, Chief Financial Officer, JD Walker, President, Garden Consumer Products, and John Hansen, President, Pet Consumer Products. Tim will provide a business update and Nico will discuss our fourth quarter and full year fiscal 22 results and our outlook for fiscal 23 in more detail. After the prepared remarks, JD and John will join us for the Q&A. Our press release that posted earlier today and related materials are available at ir.central.com and contain the gap reconciliation for the non-gap measures discussed on this call. All growth comparisons made during this call are against the same period in the prior year unless otherwise stated. Please note that statements made during this call, which are not historical facts, including the potential impact of COVID-19 on our business, earnings per share, and other guidance for fiscal 23, expectations for new capital investments, product launches, and future acquisitions are forward-looking statements subject to risk and uncertainties that could cause actual results to differ materially from those implied by forward-looking statements. These risks and others are described in our findings with the Securities and Exchange Commission, including our annual report on Form 10-K, filed on November 23, 2022. Centrallander takes no obligation to publicly update these forward-looking statements to reflect new information, subsequent events, or otherwise. And with that, I will turn it over to Tim Cofer. Tim?

Thanks, Frederica, and good afternoon, everyone. Thank you for joining our Q4 and fiscal year 2022 earnings call. Let me begin the call with three key messages. First, Central delivered solid fiscal 22 results in a challenging environment characterized by poor weather during the peak garden season, high inflation across key commodities, freight, and labor, evolving consumer behavior, and unfavorable retailer inventory dynamics, all of which manifested more prominently in the second half of our fiscal year. And despite these headwinds, we grew net sales, gross margin, operating income, and earnings per share. And we exceeded the guidance we provided earlier in the year. Second, while the near-term economic outlook remains volatile and likely unfavorable, we remain confident in the macro trends that support pet and garden industry growth the competitive strength of central and our central to home strategy as the roadmap to capture profitable growth in the years ahead. And third, as we look to fiscal 23, we're following a prudent approach to guidance. Our guidance of $2.60 to $2.80 reflects that approach. Considering ongoing economic uncertainty, continued cost inflation, unfavorable retailer inventory dynamics, and evolving consumer spending patterns. Our outlook also reflects our belief in the strong fundamentals of our company and the resilience of our industries. In this environment, we are taking additional steps to control what we can control, including a sharper focus on on our cost and cash agenda in fiscal 23 as we continue to make thoughtful investments to fortify our foundation. Now, before I provide more color on our results, it's important for me to recognize our 7,000 colleagues across our great company. Thanks to their hard work and dedication, we delivered steady results in a difficult year. and continued to make meaningful progress on our central to home strategy. Thank you, Team Central. Turning now to our financial results, net sales increased 1% versus prior year and are 40% above pre-pandemic levels on a three-year stack, with a 12% compound annual growth rate, or CAGR, Our strong top line growth over the past three years is a combination of both organic growth and the contributions from our recent acquisitions. Our focus on managing gross margin has also paid off. This year, we encountered unprecedented inflation, more than a quarter billion dollars across commodities, freight, and labor. In the face of those challenges, our teams executed a smart pricing agenda, achieved favorable product mix, and delivered meaningful productivity, driving gross margin expansion by 30 basis points versus prior year and above pre-pandemic levels. Our operating income grew 2% versus prior year, given net sales growth and gross margin expansion offset by a 20 basis points increase in SG&A, due to both higher logistics costs and continued investment in building key capabilities aligned to our strategy. Operating income is now $108 million higher than in 2019, translating into a 20% three-year CAGR. And finally, earnings per share grew 5 cents versus prior year and came in above our June guidance of 275 or better. EPS has now increased $1.19 since the COVID outbreak with a 20% three-year CAGR. As we look back over the headwinds and tailwinds of the last three years, we feel good about our performance. Let me now share some color on our two segments, in particular as it relates to our sales growth and trends across consumers and customers. Let's start with gardens. In 2022, poor weather during the peak garden season as well as economic uncertainty impacted consumer garden spending, leading to foot traffic declines in most retail channels. In addition, many of our retail partners signaled excess inventory concerns across all aisles, leading to an unexpected slowdown in inventory sell-in in the second half of the fiscal year. As it relates to the consumer, unsurprisingly, following two years of strong growth with more than 18 million new gardeners entering the category, we have seen that number erode. And yet, we estimate that two-thirds of the new households are still engaged in the category, which bodes well for future growth. All of these factors contributed to a 7% decline in organic garden net sales. Driven by recent acquisitions, total garden net sales increased 4% versus prior year. Importantly, our consumption, or POS, has outperformed our net sales throughout fiscal 22. This indicates that consumers remain engaged in the garden categories despite the unfavorable conditions. In addition to evolving consumer behavior, we've also discussed during past calls challenges in our customer fill rates over the last two years given supply chain disruption. Thanks to our investments in capacity expansion and automation and the focus of our garden team, our garden service levels have significantly improved and are now consistently in the high 90s. From a competitive perspective, we're pleased with our market share performance. We grew share in two key categories. wild bird, and grass seed. These share gains were driven by strong innovation and promotional activity, including the successful launch of Pennington Smart Patch. Smart Patch not only drove substantial gains in the patch and repair segment, but also supported share growth in the entire grass seed category in fiscal 22. While we're keeping a close eye on the potential consumer shift to value and private label offerings, our branded business continues to outperform private label sales and consumption across a number of key categories. Our garden e-commerce business grew 9% and now accounts for mid-single digits of total garden sales. We grew market share on a large pure play e-tailer across our portfolios. and return on ad spend improved by double digits on both omnichannel and pure play customers. Our efforts to strengthen talent, capabilities, and investment in this critical high growth channel are manifesting in these strong e-commerce results. Turning now to pet. Much like the garden segment, the pet segment has seen some deceleration. For the year, our pet segment sales declined 1%, unfavorably impacted by SKU rationalization and the purposeful exit of low profit private label product lines. Excluding that impact, pet sales would have grown versus prior year. Looking at the product mix in pet, we're seeing a divergence of consumption trends between durables and consumables. Durables are more closely aligned with new pets. Think about a KT guinea pig habitat or an Aquion fish tank. And most durables have higher price points than consumables. In line with the slowdown in pet adoptions, durables have experienced a decline. However, consumables continue to grow at a healthy rate, and pet supplies household penetration remains well above pre-pandemic levels. Similar to what I shared in Garden, our branded pet business is outperforming private label. This underscores the importance of building and growing brands that consumers love, especially in times of uncertainty. Nevertheless, given the persistent inflationary environment, we continue to monitor consumer spending patterns, including the potential migration to value segments and private label. Competitively, We're pleased with our market share performance in pet. We held or gained market share in small animal, equine, and dog treats. Online shopping in pet is here to stay and continues to grow much faster than brick and mortar retail. Our pet e-commerce business grew 10% and now represents 22% of total pet. Thanks to improved e-commerce fill rates, and a double-digit increase in digital marketing ROIs. A testament to our strength in e-commerce is our recent market share growth at a leading pure play e-tailer, where we grew market share in aquatics, small animal, pet bird, equine, and pet beds. Our strong pet e-commerce performance is a result of our strategic investments into digital talent and capabilities. Shifting now to our longer-term outlook. As I mentioned, we remain confident in the fundamental trends that support growth in the pet and garden industries and will benefit our businesses for years to come. Some of these trends include rural revitalization. A larger portion of the population now lives either full-time or part-time outside of cities and in more suburban or rural areas. This is a tailwind for both pet and garden, as people have more space for larger lawn and gardens and more room for their pets. Hybrid work environments. The pandemic fundamentally disrupted the office-centric model, a change that we believe has staying power. As a result, more people are working from home, at least part of the time, and that allows for greater opportunities to garden or engage with their pets. Millennials and Gen Z. More than half of the nation's total population was born after 1981, making them members of the millennial generation or younger. We see strong evidence that these younger consumers are adopting pet parenting and the love of lawn and garden activities at a rate above their boomer and Gen X parents, and they're spending more on those activities. Sustainability. Consumers, especially younger consumers, are increasingly passionate about sustainability, and they're voting with their dollars to support brands that embody those values. This provides fertile ground for innovation across all of our categories, and for our part, we're making sustainability a core consideration in our new product development pipeline. Digital revolution. The ways consumers build brand affinity, source knowledge, and in particular, how they shop has changed materially in the last few years. E-commerce, online, and omnichannel shopping are here to stay, growing at a rate well above brick-and-mortar shopping. In fact, 80% of the U.S. population shops online, and more than half of U.S. consumers prefer online shopping over in-person. This is why e-commerce and digital marketing excellence are such important elements of our central to home strategy. On the pet side, both humanization and premiumization are significant category tailwinds for the pet industry, supporting higher price points and broader innovation opportunities as consumers are prepared to spend more on pet supplies. especially products that support the well-being of their furry, feathery, and scaly members of the family. Our central to home strategy is focused on leveraging these favorable industry trends and building capabilities to fortify our competitive advantages over the long term. Let me now give you a brief progress update on our strategy in action. First, on our consumer pillar, Our consumer agenda has advanced materially in the last 12 to 18 months. This includes the addition of great new talent and progress on consumer growth capabilities, which includes building distinctive brands, creating disruptive innovation, and driving digital marketing excellence. For example, we saw promising early marketing campaign results driving accelerated growth and share gains across several brands. With our Pennington Smart from the Start campaign, we doubled our impressions while driving lower cost per impression and significantly higher engagement rates. This new campaign supported the launch of our Pennington Smart Patch product, which, as I previously mentioned, drove strong market share growth in the grass seed category. On the pet side, our KT All for the Small campaign improved digital engagement rates 10 times versus historic levels and helped double ROIs during the campaign. This contributed to strong market share growth in small animal. Recognizing a need to better understand consumers, we've reframed our approach to creating innovation pipeline and getting products to market faster. As an example, we launched our new pet supplements brand, Good Good, in less than 16 months. Our Nylabone Gourmet Chew Toys were selected as a finalist in the 2022 Pet Product News Editor's Choice Awards and won Chew Toy Product of the Year in 2022 Pet Independent Innovation Awards. In addition, our KT Nutrisoft Pet Bird Food also won Bird Food Product of the Year. Shifting to our central pillar, We're proud to have launched our inaugural impact report. This report is framed around our sustainability strategy and showcases a range of initiatives and their positive impact across our business units. We outline three key priorities. Protecting our planet, cultivating our communities, and empowering our employees. And our goals in 10 key areas ranging from waste, water, and biodiversity to philanthropy and employee volunteering, to diversity and inclusion, and learning and development. I encourage you to review this report, which provides some great examples of our team's passionate work to advance sustainability. One of these examples is our Nylabone dog and cat business, which commissioned rooftop solar panels mitigating hundreds of thousands of pounds of greenhouse gases. And in our outdoor cushions business, we converted millions of pounds of ocean-bound plastics into our Ocean-Tex branded fabrics. Another recent example of our sustainability efforts in action was the recognition of our Bell Nursery team as Environmental Partner of the Year by the Home Depot. Each year, only one vendor across the entire store is awarded this prestigious accolade. And it was a great honor for me to join our live goods team in Atlanta and celebrate the award at the annual Home Depot Supplier Summit earlier this month. While we acknowledge we're early in our sustainability journey, we're driven by our desire to do more, and we will continue to make meaningful advancements against our impact strategy in the years ahead. Turning to our cost pillar, Given the continued inflationary environment and difficult economic outlook, we're focused even more on our cost reduction agenda to build margins and fuel growth. Since the beginning of the pandemic, we've simplified our portfolio by eliminating thousands of SKUs, shifted some of our wild bird and garden controls production from co-manufacturers to our own plants, and invested in automation to drive improved efficiency in many of our businesses, including dog and cat, treats and toys, aquatics, grass seed, and bird feed. Looking forward to fiscal 23, we're doubling down on our efforts to manage costs given the uncertain economic environment. This includes a deliberate pause in hiring and filling open salaried positions and reducing travel expenses. In addition, we are currently developing a more robust cost-out agenda to simplify our supply chain network, rationalize our overall footprint, and better leverage our scale. These supply chain simplification efforts are expected to yield fruit in fiscal 24 and beyond and make us leaner and stronger exiting the COVID years. We'll share more in the coming months as we firm up our longer term plans to improve margins and create fuel for growth. So to summarize, I want to reiterate that we remain confident in the fundamental trends that support garden and pet industry growth, the competitive strength of Central and our Central to Home strategy. While fiscal 23 will be challenging, I'm confident our team can navigate the short term while building for the long term. And with that, let me turn it over to Nico.