Freshpet, Inc.

Greetings. Welcome to Fresh Pets Third Quarter 2024 Earnings Call. At this time, all participants are in listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce Jeff Sonick with ICR. Thank you. You may begin.

Thank you. good morning and welcome to fresh pets third quarter 2024 earnings call and webcast on today's call are billy sear chief executive officer and todd cunfer chief financial officer scott morris president and co-founder will also be available for q a before we begin please remember that during the course of this call management may make forward-looking statements within the meaning of the private securities litigation reform act of 1995. these include statements related to our long-term strategy 2027 goals and pace in achieving these goals, prospects for growth, timing of capacity expansion, new products and new technology, and 2024 guidance. Words such as anticipate, believe, could, estimate, expect, guidance, intend, may, project, will, or similar conditional expressions are intended to identify forward-looking statements. These statements are based on management's current expectations and beliefs and involve risks and uncertainties that could cause actual results to differ materially from those described in these forward-looking statements, including those associated with such statements. Please refer to the company's annual report on Form 10-K, filed with the SEC, and the company's press release issued today for detailed discussion of risks that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today. Please note that on today's call, management will refer to certain non-GAAP financial measures, such as EBITDA and adjusted EBITDA, among others. While the company believes these non-GAAP financial measures provide useful information for investors, presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Please refer to today's press release for how management defines such non-GAAP measures, why management believes such non-GAAP measures are useful, a reconciliation of the non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP and limitations associated with such non-GAAP measures. Finally, the company has produced a presentation that contains many of the key metrics that will be discussed on this call. That presentation can be found on the company's investor website. Management's commentary will not specifically walk through the presentation on the call, but rather it's a summary of the results and guidance they will discuss today. So with that, I'd like to turn the call over to Billy Cyr, Chief Executive Officer.

Billy? Thank you, Jeff, and good morning, everyone. For those of you who are wondering, Jeff was gracious enough to fill in for our VP of Investor Relations, Rachel, while she is on maternity leave. Now to the business. The message I would like you to take away is that we are beginning to establish the kind of consistency and reliability in our manufacturing operations that we've been delivering on the top line for some time. That has enabled us to rapidly increase our margins while simultaneously generating the kind of growth you've come to expect from us. As you know, our objective this year was to continue our strong top-line growth, but do it at a rate that would enable us to live within our capacity limits while strengthening our operating performance and cash generation. The result would be category-leading growth, outsized improvement in profitability, and more effective cash management. We describe that as disciplined growth. If we do that well, consumers will win, customers will win, and our shareholders will win. And that is what we are delivering. In Q3, we delivered our 25th consecutive quarter of 25% year-on-year growth, a significant expansion in our adjusted gross margin and adjusted EBITDA margin, and sizable operating cash flow. In fact, this is the third quarter in a row where our adjusted gross margin exceeded our 2027 target and our sixth consecutive quarter where our logistics cost was better than our long-term target. And we've generated more than $100 million in operating cash flow so far this year. I suspect that many of you are now wondering if or when we are going to adjust our long-term targets to reflect the early achievement of so many of our long-term financial goals. While we are very encouraged by our progress, we don't want to get ahead of ourselves. We want to see sustained improvement across the full year before we conclude that we can deliver more than what we have already committed. We are also very mindful that we are operating in a dynamic environment and would like a bit more time to see where the current trends, particularly on inflation, settle out. So this is something we are giving a great deal of thought to in consultation with our board, but we aren't yet ready to update our long-term targets. I would now like to call out a few key highlights from the quarter, and then Todd will provide a bit more detail on the financial results and we'll update you on our thinking on guidance. First, I am very encouraged by the net sales growth we saw in the quarter. We grew 26%, and virtually all of it was due to volume growth. This volume growth was driven by strong household penetration growth, particularly amongst our HIPPOs. Overall household penetration growth was up 17%, despite lapping a sizable gain in households in the year-ago period, and the HIPPO growth rate was 24%. Recall, our media investment is more backloaded this year than it was last year, so you should expect that household penetration, which is a 52-week measure, will lag our long-term growth rate in the back half of this year due to the change in the media timing. However, it should reaccelerate in the first half of next year when we are getting the benefit of this year's second-half media investment in the 52-week measure. We continue to believe that we are well on track to deliver our 2027 target of 20 million households and are increasingly focusing our attention on the 5 million hippos who now represent approximately 90% of our revenues. Second, our team did an outstanding job managing the balance between capacity and demand, allowing us to simultaneously drive strong growth rates and strong operating performance. Recall that we chose to limit our first half media investment to a rate that was below our rate of sales growth, so that we could reliably meet demand until our new role line in NS was up and operating at the end of Q3. That plan worked. We were able to grow 26% in the quarter, but did it with a customer order fill rate of 99% for the quarter. As I've said before, a strong fill rate is a very good indicator of overall operating performance for us, and that was definitely true in Q3. We were able to deliver this strong performance because the reliability of our media model provided a very accurate forecast demand and our operations team generated strong throughput on our existing production lines and started up the new role line one week early. In essence, we were able to thread the needle, i.e. generate strong growth without exceeding our capacity limits and while maintaining exceptional customer service. We expect to apply that same type of robust planning as we bring on new lines over the next few years. carefully managing our media investment and capacity to ensure good customer service, strong net sales growth, and healthy margins. Third, the production, quality, and logistics teams in the Fresh Pet kitchens continue to drive improved performance, including yield, throughput, and quality costs, while also delivering exceptional customer service at our lowest logistics cost as a percent of net sales ever. On a year-over-year basis, the sum total of our input costs, logistics, and quality improved by 790 basis points, and that contributed to a 630 basis point improvement in our adjusted gross margin. We believe this is the result of the investment we've made in our hourly production workforce and their training, i.e., the Fresh Pet Academy, the Fresh Pet Performance Excellence Program we began about two years ago, and a more stable external environment. Finally, our customers continue to believe that Fresh Pet is the future of pet food, and continue committing additional retail space to Fresh Pet. At the end of the quarter, we had 22% more total distribution points, TDPs, due to the addition of more than 1,000 new stores year-to-date, more than 750 additional stores with second and third fridges year-to-date, and a sizable increase in shelf space and retailer-owned fridges. We continue to also see a strong connection between the increased retail visibility and the efficiency of our media investment. as our retail presence amplifies the media investment. This is visible in our customer acquisition cost, CAC, which continues to be in line with our long-term targets and is helping us drive a strong return on our advertising investment. Now I'll provide an update on KPIs we track for our main and more plans, mainstream, main meal, more profitable plans. Focusing on the idea of mainstream, Fresh Pet is becoming increasingly mainstream, but still has a long runway for growth According to Nielsen on-the-channel data, which includes e-commerce and direct-to-consumer, as of September 28, 2024, total U.S. pet food is a $54 billion category. We only have a 3.2% market share within the $37 billion dog food segment, which is the majority of our business today. Within the fresh frozen subcategory in measured channels, fresh pet has a 96% market share. Fresh continues to outperform the broader pet food category, and many retailers believe it is the future of pet food. As a result, Fresh Pet now commands 66% ACV in Nielsen XAOC, and we continue to add distribution breadth and depth with second and third fridges. Our household penetration gains also demonstrate that we are well on our way to making Fresh Pet more mainstream. As I mentioned earlier, household penetration is on track to meet our target 20 million households by 2027. But more importantly, the complexion of the households underpinning our growth continues to improve. Our hippos are growing 24% versus the prior year period, surpassing our broader household growth of 17%. We think the combination of retail support and our ability to drive household penetration is a clear indication that Fresh Pet is leading the way towards making fresh pet food a mainstream idea. Our HIPPO penetration also extends to the main meal part of the strategy. Currently, 39% of Fresh Pet users are HIPPOs, and they represented 90% of our sales in the third quarter. Of those users, about 325,000, or less than 3% of our total users, buy more than $1,000 of Fresh Pet per year, and this group grew 23% over the past year. They now represent approximately 27% of our business. We are increasingly focusing our attention on this audience and trying to create a much larger cohort of users who look like they do. Part of our strategy for making Fresh Pet into more of a main meal item is to offer a range of items that meet the broadest range of consumer needs. This year, we have launched several new items to do that, and they are doing very well. In particular, our large dog product, while still in limited distribution, has grown quite nicely and is becoming a very successful item for us as it broadens the appeal of Fresh Pet into larger dogs. Similarly, our multi-packs have done very well. Early next year, we'll be launching a product for seniors, further broadening Fresh Pet's appeal. Adding second and third fridges enables greater distribution of our wider assortment. Based on total US Pet Retail Plus data from Nielsen, we currently have an average of 20.5 SKUs per point of distribution, up from 18.0 SKUs one year ago. Now to the more part of made and more, more profitable. We had another strong quarter of margin improvement. Adjusted gross margin improved 60 basis points versus the strong results we posted in Q2 to 46.5%, and we ended the third quarter with an adjusted EBITDA margin of 17.2%. As I mentioned earlier, the margin improvement came in our key focus areas of quality, input costs, and logistics. It is becoming increasingly apparent that the improved organizational capability improved analytics systems, and intense focus on those drivers of profit improvement are not only working, but generating better results than we had expected and sooner than we had anticipated. We are very pleased with this progress, but also believe there is significant upside that we can deliver over time. I would also like to give you an update on our efforts to expand our capacity. As a reminder, we continue to focus our capacity expansion plans on three key drivers of improved capital efficiency. One, maximizing the throughput of our existing lines. Two, maximizing the capacity of our three existing sites. And three, developing and implementing new technologies that generate more throughput per line. We were making good progress against all three parts of that strategy. In Q3, we achieved another milestone with the startup of the fourth line in Ennis, a roll line, giving us two bag lines and two roll lines at that site. That fourth line started up one week early under budget, and ramped up faster than we had projected. We have also largely completed the installation of the fifth line, which will be our third roll line in Ennis, because it was more efficient to install two roll lines at the same time in the new space. That fifth line will be commissioned in Q4, and between those two new roll lines, we'll have enough rolls capacity to last well into 2026, once we have fully staffed those lines. We are in the final stages of installing our next bag line in Kitchen South and expect that to start up in late Q1 of next year. We've also added staffing in Kitchen South on the existing lines so that we will have adequate bag capacity for the balance of 24 and into 2025. In Bethlehem, the team is focused on increasing capacity utilization, or OEE, on our existing lines. Our Fresh Pet Performance Excellence Program has driven sizable gains in throughput, yield, and quality since it was launched almost two years ago. and we believe that investment has unlocked a sizable amount of free capacity. We believe there is significant upside remaining and are increasing the resources we devote to that effort and reapplying the program to Ennis. The Bethlehem team is also in the process of remodeling some dry storage space in Kitchens 2 to accommodate a production line that uses the new technology for our bag products. That line is on track for startup in the second half of 2025. In summary, I think we are making good progress at proving that we can reliably deliver improved operating performance and strong growth simultaneously. This disciplined growth is the result of our strengthened organizational capability, improved analytic systems, and intense focus that has enabled us to generate outsized gains in productivity and profitability. We are increasingly confident that we can sustain this type of performance and deliver the levels of shareholder returns that we believe the proprietary fresh pet business model is capable of generating. Now let me turn it over to Todd to walk through the details of the Q3 results and our updated guidance.