Sovos Brands, Inc.

Thank you for standing by and welcome to the Sovos Brands fourth quarter and fiscal year 2022 earnings conference call. At this time, all participants are on a listen-only mode. After the speaker's presentations, there will be a question and answer session. To ask a question at that time, please press star 11 on your telephone. As a reminder, today's call is being recorded. I would now turn the conference to your host, Mr. Josh Levine, Vice President of Investor Relations. Please go ahead, sir.

Good afternoon, and thank you for joining us on SoBus Brand's fourth quarter and fiscal year 2022 earnings conference call. On the call today are Todd Lackman, President and Chief Executive Officer, and Chris Hall, Chief Financial Officer. By now, everyone should have access to the earnings released for the period ended December 31st, 2022, that went out this afternoon at approximately 4 p.m. Eastern Time. The press release as well as supplemental slides can be found on the company's website at ir.sovosbrands.com. And shortly after the conclusion of today's call, a webcast will also be archived and available for replay. Before we begin, let me remind everyone that today's discussion contains forward-looking statements based on the environment as we currently see it, and as such, does include risks and uncertainties. If you refer to the company's earnings release, as well as its most recent SEC filings, you will see a discussion of factors that could cause SoBus Brands' actual results to differ materially from these forward-looking statements. Please remember the company undertakes no obligation to update or revise these forward-looking statements in the future. We will make a number of references to non-GAAP financial measures. We believe that these measures provide investors with useful perspective on the underlying growth trends of the business and have included in our earnings release a full reconciliation of non-GAAP financial measures to the most comparable GAAP measures. Please note that all consumption data cited on today's call will refer to dollar consumption as of the 13-week period ended December 25, 2022, and growth versus a prior year comparable period unless otherwise noted. And lastly, to avoid any confusion, organic net sales growth for the fourth quarter and fiscal year 2022 represents growth on a 13 and 52 week comparable basis that excludes the extra week. For discussions pertaining to fiscal 2023, including our guidance and growth expectations, organic net sales growth is calculated as net sales growth adjusted for birch vendors and the 53rd week in 2022. With that, I would now like to turn the call over to Todd.

Thanks, Josh. I'm very excited today to share with you our outstanding results for 2022. Highlighted by double-digit volume growth, Rayo's continued rapid march to $1 billion of net sales, and our strong fourth quarter performance that has carried into 2023. I will then hand it over to Chris Hall to provide greater detail on our fourth quarter and full year, as well as our initial 2023 outlook. Sovos Brands delivered another year of sector-leading growth in 2022, with organic net sales up 19.5%, accelerating to 28.4% in the fourth quarter. In fact, organic net sales growth in the quarter was the highest for Sovos Brands and Rayos since the first quarter of 2021. Importantly, our top line performance was driven primarily by volume as opposed to price, which highly differentiates us from the majority of our packaged food peers. Specifically, volume contributed 10.8% and 16% to full year and fourth quarter growth, respectively. And by the way, this momentum has carried into the start of the year. with net sales in January and February coming in strong. The strength of our fourth quarter top line translated into equally impressive bottom line results, with adjusted gross profit and adjusted EBITDA dollars of 29% and 40%, respectively, versus prior year. It's important to highlight that we delivered our results against a very challenging operating environment. Our teams responded tenaciously to overcome supply chain challenges during a year of global supply constraints and rapid inflation. Our customer service levels for sauce and yogurt are now at or above target levels. Our robust slate of automation and productivity projects are delivering on cost savings objectives. And our inventories are in a healthier position than at any time since the beginning of the pandemic. We also divested Birch Vendors at the end of fiscal 2022, allowing us to focus our resources on driving Rayos towards $1 billion of net sales and beyond. Excluding Birch Vendors, our full year organic net sales growth would have been 23.5% versus prior year. And as Chris will talk more about, the continued momentum we are seeing in our business and a much simpler portfolio will help us achieve our guidance of double-digit growth for organic net sales and adjusted EBITDA in 2023. The volume-led growth of Sobo's brands underscores the strength of the Rayos franchise and the long runway of opportunities still ahead. Rayos had another impressive year, surpassing half a billion dollars of net sales. of 35% organically for the full year and accelerating to 45% in the fourth quarter. While we have quintupled household penetration for Rao's since we acquired the brand in 2017, household penetration is still just 15% today with awareness at only 58%. With plans to grow our marketing and R&D spend double digits in 2023, we are confident that we can continue to drive years of sustainable volume led growth into the future. Total rail franchise dollar consumption for the fourth quarter group, 24.8% led by 16.6% unit growth driven by broad based gains and distribution and velocities. Total rail household penetration increased to 15.2% up 210 basis points versus prior year, as a result of adding new households across all categories. Rayostos achieved notable milestones during the year. Measured retail sales surpassed half a billion dollars, up 26.9% versus 2021, the fastest rate of growth for any scaled brand in the category. And for the first time, Rao's was the number two ranked pasta and pizza sauce brand, reaching a 14.7% dollar share for the year, up 150 basis points versus 2021, a remarkable improvement from the number seven position when we acquired the brand. While unit share, household penetration, and awareness are all well below our peers, Rao's sauce dollar velocities are double the category average while providing superior penny profits for the retailer, highlighting the massive opportunity ahead. For the fourth quarter, Rayo's dollar and unit consumption in sauce increased by 20.3% and 8% respectively, with high single-digit unit growth coming in ahead of slattish category growth. To build on our momentum, I am also excited to share that we will be launching some new flavor innovations within the Rayo sauce portfolio, seeking to meet consumer demands for elevated culinary experiences at home. Specifically, caramelized onions, vodka arrabbiata, and four-cheese Alfredo pasta sauces, as well as arrabbiata pizza sauce, will be hitting retail shelves later this year. And if you happen to be at the Natural Products Expo this week, feel free to stop by to try them out. Our newer Rayos Beachhead categories of soup, pasta, and frozen all continued to grow well ahead of their categories in the quarter, generating combined dollar and unit consumption growth of 45.5% and 41.1% respectively, with our business in each category growing dollars and units at least 30%. Household penetration and dollar shares are at or below 2% for the Rao's brand in each of these categories, reflecting material runway ahead. In the second half of 2022, we conducted a test of Rao's frozen pizza across select retailers. Due to successful test market results, we will be expanding nationally in 2023. A range of brick oven crust frozen pizzas made with Rao's authentic pizza sauce and whole milk mozzarella cheese are a differentiated, case-led premium offering in a large and fragmented category ripe for disruption. This is a natural extension of the Rayo's brand and an exciting opportunity to continue to offer the consumer restaurant-quality food across the store. Turning to Noosa, our yogurt business grew consumption low single digits on a dollar basis in the quarter, with pricing and mix driving the growth. We continue to fine-tune our promotional strategy and have seen our consumption data improve in recent periods, bolstering our momentum towards a fourth straight year of growth for the brand. We're also delighted to announce some exciting news for the Michelangelo's brand. We recently launched the brand's first innovation outside of the freezer, introducing four new mid-price SKUs into the pasta sauce category exclusively with a select retailer. This new line of delicious sauces uses 100-year-old recipes inspired by Michelangelo's Sicilian matriarch, Nonna Foti, and leverages the brand's authentically Italian heritage. This allows Sogo's brand to capture more eating occasions by offering great tasting foods made with high-quality ingredients at multiple price points. We see this as a highly incremental growth opportunity for the company and our retail partners. In January, as you likely saw, we disclosed that we divested the Birchbenders brand to Hometown Food Company, which resulted in a reduction in the categories in which we compete by nearly 50%. Our ongoing efforts to create a more focused portfolio allow us to direct more resources and investment towards our most meaningful value creation opportunities, notably accelerating Rayos to $1 billion of net sales and beyond. In summary, we are very pleased with our fiscal 2022 performance and momentum as we enter 2023. We are excited by what the future holds for our portfolio of brands led by Rayos. Our growth trajectory and focus brand portfolio will enable another year of double-digit organic net sales, and importantly, robust adjusted EBITDA growth. This outlook notably includes continued increases in growth-oriented investments to support brand building, innovation, and capabilities, helping us sustain our sector-leading growth. I will now hand it over to Chris for more details on the quarter and year, as well as our guidance for 2023.

Thank you, Todd, and good afternoon, everyone. For the full year, total net sales of $878.4 million increased 22.1% or 19.5% on an organic basis, driven by 10.8% volume and 8.7% price. Excluding birch benders, our full year organic growth would have been 23.5%. Fourth quarter total net sales were 262.1 million, a 72.9 million or 38.5% increase over the prior year period. Excluding the extra week, organic growth of 28.4% was driven by 16% volume and 12.4% price. The extra week added $19.1 million or 10.1% to our quarterly growth. Excluding burst vendors, our consolidated fourth quarter organic growth would have been 30.1%. Looking at our portfolio, we grew across nearly all categories, and from a brand perspective, Rayo's remained the key driver. As a reminder, Rayo's is our largest brand, now accounting for nearly 70% of our annual net sales, Rayo's is also our fastest growing brand, up 34.9% on an organic basis in 2022. And our dinner and sausage segment account for the majority of our EBITDA. For the quarter, Rayo's increased total net sales 56%, or 44.6%, on a comparable 13-week organic basis. This performance was driven first by approximately 25% net sales growth in measured channels that was generally in line with our consumption growth. Second, we saw particularly strong non-measured channel growth behind new events and distribution wins. And third, we benefited from some pipeline sales ahead of early 2023 distribution gains that will benefit us during the new year. Beyond Rayo's, total net sales growth in the fourth quarter was up 12.5% for Noosa, down 0.3% for Michelangelo's, and up 6.7% for Birchbenders. On an organic basis, Noosa grew 4.3%, Michelangelo's was down 7.1%, and Birchbenders was down 1.2%. Adjusted gross profit of $76.5 million increased $17 million, or 28.6% year-over-year. Double-digit volume and pricing growth, as well as productivity savings, more than offset the impact of low double-digit inflation. Adjusted gross margins were 29.2% for the quarter, slightly ahead of our expectations, reflecting a 220 basis point decline versus a prior year period. We made meaningful improvements on gross margin during the year, with our second half gross margin of 29.5%, well above the 26.9% we generated in the first half, reflecting our commitment to improve margins while still growing the top line. Our CapEx-enabled automation projects in our Austin Manufacturing Plant are now up and running, delivering cost savings and improved service levels. Finally, note that the combination of our pricing and productivity efforts in 2022 will provide a tailwind as we enter the first half of 2023. 42.4 million of adjusted operating expenses, inclusive of marketing and selling, increased by 6.7 million, or 18.8%, over the prior year period, driven by growth-enabling investments, primarily to support our talent and capabilities. Adjusted EBITDA of 37 million increased 10.5 million, or 39.7%, versus Q4, 2021 while adjusted EBITDA margin was 14.1% up 10 basis points versus the prior year period. Net loss for the quarter was 28.7 million or negative 28 cents per diluted share compared to a loss of 3.8 million or negative 4 cents per diluted share in the prior year period. The loss in this year's fourth quarter was largely due to the loss on asset sale related to the Burge Spender's divestiture. Adjusted net income was $19.6 million and adjusted EPS was $0.19 per diluted share compared to adjusted net income of $13 million and $0.13 per diluted share in Q4 2021. On a full year basis, adjusted net income was $60.4 million, or $0.60 per diluted share. At the end of the fourth quarter, cash and cash equivalents were $138.7 million, and total debt was $482.4 million. We're very pleased with our progress on leverage, which finished the year at 2.9 times. Better-than-expected year-end net leverage was driven by strong cash generation and EBITDA in the quarter, as well as the proceeds from the Birchbenders divestiture. Our strong cash position gives us enormous flexibility to invest further in our brands. I would now like to provide some detail on fiscal year 2022 results for Birchbenders. On a full year basis, total net sales were 41.2 million, and adjusted EBITDA was negligible, reflecting elevated reinvestment into the brand, with bottom line performance relatively consistent by quarter. I will now turn to our fiscal 2023 outlook and some of the underlying assumptions that support it. Specifically for net sales, we are guiding to a range of $900 to $925 million. This reflects organic net sales growth of 10 to 13%, which adjusts for burst vendors in the 53rd week in 2022. We expect our growth to be balanced across volume and price, with price moderating during the year as we lap last year's actions. We also assume that elasticities will normalize given the potential that macro economic challenges could materialize. Lastly, we are pleased with our overall promotional strategy and anticipate our cadence in 2023 to be similar to 2022. For adjusted EBITDA, we are guiding to a range of 130 to 135 million, reflecting growth of 9 to 13%. Embedded in this guidance is moderate growth margin improvement for the full year, driven by pricing and productivity that we expect will fully offset mid-single-digit inflation. We also will increase our growth investments specifically supporting our brands, people, and capabilities to help us capitalize on the multi-year opportunity ahead. This includes a strong double-digit increase in marketing and R&D. Below the line, we are guiding net interest expense to be in the range of $36 to $40 million, As a reminder, half our debt is floating while we have capped the other half at an effective 7.5% interest rate. We expect our adjusted effective tax rate to be in the range of 25 to 27%. For a summary of these and other annual guidance items, please see slide 16 in our earnings slide deck posted on our investor relations website. Finally, I'd like to provide some color on our expectations for the phasing of the year. Overall, we expect double-digit organic net sales growth in both the first and second half of the year. For adjusted EBITDA, we expect growth and margin expansion to be higher in the first half, and as a result, EBITDA dollars should be more balanced between the first and second halves of the year than in 2022. Let me now turn the call back over to Todd for some final remarks.

Thanks, Chris. We are very proud of what we achieved in 2022. We generated volume-led 22% sales growth, year-on-year bottom line growth, and catapulted forward on our march to $1 billion of net sales for Rails. None of this would have been possible without our great team, and the incredible frontline employees that come to work every day to support our business and deliver these strong results. As we look forward, we are confident in executing against the comprehensive plans we discussed to deliver double-digit growth for the top and bottom line in 2023. With that, Chris and I are now available to take your questions. Operator?

Thank you. Again, ladies and gentlemen, if you'd like to ask a question, please press star 1-1 on your telephone. Again, to ask a question, please press star 1-1. One moment, please. Our first question comes from Ken Goldman of JP Morgan. Your line is open.

Hi, thank you. Good afternoon. Hey, Ken. Just curious, Chris, how big was the shipping that you mentioned in the quarter for pipeline fills and some new distribution? And You know, as we think about modeling the first quarter, I know you gave some cadence items there, but should we essentially just pull that amount out of the quarter, or are there some offsets that we should think about, too?

Hey, thank you, Ken. You know, we did get some very nice distribution gains here as we kick off the year. We're seeing that in our consumption results ramping up week after week after week. what we shipped out at the end of of 2022 for that pipeline had a i call it a immaterial impact on our q4 results it did account for some of our beats to our guidance but it won't have an impact on Q1 because we're seeing that consumption growth that we would want from that space. So I wouldn't reflect anything of a, you know, reduction to Q1 based on a small pipeline fill.

Got it. Okay. Thank you. And then my second question, you know, we've seen, you and I have talked about this, some of these sort of entry-level premium brands and sauce, for lack of a better phrase, sort of coming in. you know, not taking a ton of share, but doing reasonably well on a small level. I'm just curious how they're performing now against your expectations. Um, and if you're doing anything in particular to combat them, and I guess where I'm going with that is this, is this sort of where the Michelangelo's, um, introduction into sauce is going to kind of be that entry level premium, or is that more truly mid tier?

No, I mean, I think, uh, Hey, Ken, how you doing? It's Todd. You can call it kind of mid-tier or entry-level premium. I actually think they're a bit one in the same. So, yeah, I mean, honestly, there have been some competitive entrants in that area that that's a growing space, and we see that as an opportunity. I mean, look, we're a sauce company through and through. Clearly, Rayos is on fire, and I'll talk about that subsequently, but We've been looking at this for a while and felt that there was a distinct opportunity to leverage another equity, you know, Michelangelo's, which we have. We've tested this conceptually, we've tested product-wise, and it keeps hitting out of the park. But, you know, the price, that price range of like $4 to $5-ish, which is about 50% premium to mainstream. For perspective, that's about 30%, you know, less of average to average-ish to, you know, to Rayo's. That's like a nice area right now that we just felt was an opportunity to leverage our Michelangelo's equity. The products are very different, except what we're offering, though, is a slow-simmered, a whole tomato base sauce with real ingredients. So at a premium to mainstream, albeit not as high as Rao's, you're getting something that is different than tomato paste plus water plus sugar plus canola oil plus dehydrated onions, which that's mainstream sauce. That's the private label analog. But it's very differentiated versus Rao's, both label, proposition, packaging, texture. We've made sure of that. And at the end of the day, with only 6% of units, RAOs, you know, your source of volume will come proportionally from all players. So 95%-ish, 90, 95% of the units that we will source from Michelangelo's in this entry, which is only starting off with one customer, albeit a larger one, you know, will be coming from competitive players. you know, the competition versus, you know, versus radio. So we see this as a really smart thing to do. We've had our eyes on this space for a while, and we're excited to see what's to come.

Thank you.

Yeah, thank you, Ken.

Thank you. One moment, please. Our next question comes from the line of Andrew Lizer of Barclays. Your line is open.

Good afternoon, everybody.

Hello, Andrew.

One quick clarification first. With the pipeline fill that you were talking about earlier, did you say it was material to 4Q sales or immaterial to 4Q sales?

Yeah, no, it was immaterial, not material to Q4, which, as you've seen, was a tremendous quarter for Rayos and for the business in general.

Got it. So was there much of a differential between consumption and shipments for RAOs or not so much in the fourth quarter? Yes.

Yes, no. So you will see for Q4, what we're seeing in our consumption reports, IRI reports, is lower than our shipments, and there's a few drivers for that. When you look at pure retail, which was up roughly 25% in consumption, really mirrors our shipment as well. So we were right in line there both for Q4 and for the full year. We had a particularly strong quarter in non-measured channels. We had a very, very favorable event at a single customer. And we also picked up distribution across a few other outlets that we had been building up across the year that really took flight in Q4. And that's true not just in sauce, but really across all the categories within Rayos. And the totality of our beats to our previous guidance, as well as our upticks from consumption to shipments, really what's seen across the Rayos business. Andrew. Thanks for that. Yep.

Yeah, let me just build up, because what is material is the distribution gain that we're seeing now in market, and I think that is really important. I'll give you perspective. Just using sauce as an example, for the fourth quarter, TDPs were up about 7% year-on-year in the fourth quarter. If I look at the last 13 weeks ended, 226, fresh data, up 22% versus prior year. So, and again, that is on a brand now that, you know, organically was $566 million of sales. That's total franchise. But, you know, we have very meaningful distribution gains, as I've been talking about a lot, Andrew, with you and, you know, others on these calls, that there is still major wood to chop, major, you know, opportunities for further distribution gains, and I'll talk more about that later. in a bit, but in the end right now, 22%. And so what we're seeing is we increased penetration in total franchise, almost basically 200 basis points, over 200 basis points, from 13.1% to 15.2%. And we increased 100 basis points year-on-year in sauce. And we see both of those up meaningfully in two months into the quarter. Not going to quote an exact number. We'll talk about that on our next call. But those distribution gains are playing through right now in consumption and, most importantly to us, in household penetration gains.

That's great to hear. I appreciate that detail. And then just, Chris, could you just briefly walk us through some of the puts and takes around gross margin for 23? Obviously, you've got presumed pricing and productivity. That sounds like it's going to take care of the mid-single-digit inflation that you're looking for for the coming year. What other things should we think about? Because in theory, I would think that the potential for gross margin recovery maybe I would have thought could even be greater than moderate, but I'm probably not taking into account some things.

As we sit here today, first of all, we're very pleased with our H2 2022 versus H1, where we saw a material improvement in our gross margin. As we had talked about as our pricing actions took place, which were somewhat spread across the year, and our productivity efforts that had been a little bit delayed earlier in the year, really starting to take wind in the back half and into 2023. So given that, we definitely see margin improvement across the first half of the year more than in the back half of the year. As a result of that, our EBITDA growth will be greater in the first half of the year than in the second half of the year. From an inflation point of view, we've dealt with low double digits in 2022. We do see that moderating across 2023. Right now, we're in more of the mid-single-digit range on inflation. And we believe the pricing and productivity actions that we have in flight and or are planned on the productivity front for the balance of the year will drive that margin expansion across the year again more heavily weighted to the first half but you may have seen you know we did take some pricing late in the year last year we just passed through a latest round here uh in in february that's in the marketplace now so we will see some some additional pricing flow through in 2023 and if you think of the totality of 2023 uh net sales growth We talked about low double digits. That will be high single-digit volume growth again, and mid-single-digit pricing, again, weighted more heavily to the first half of the year. Great. Thanks very much.

Thank you. One moment, please. Our next question comes from the line of Peter Galbo of Bank of America. Your line is open.

Great. Thanks. Good afternoon, everyone. Thanks for taking the questions. Chris, just to start on the EBITDA guidance for the year, I think in your prepared remarks, you maybe mentioned more of an even split this year on EBITDA versus 22. I just wanted to make sure I heard that correctly and if you can put any kind of numbers around that. And maybe just the second part to that question is, Given the level of sales growth on an organic basis, I guess I'm a little surprised that there's not more of it flowing down to the EBITDA line. I think that that's probably more of a ramp, as you said, in some of the capabilities and marketing expense, but just anything you can do to help us on that line as well.

Yeah, sure, and you're right on both points. As I just mentioned, we do anticipate more of our profit growth and margin growth coming in the first half of the year. It has a little bit to do with how 2022 played out because of more mid-yearish and later pricing and productivity. That's what will drive us to more balance in 2023 versus 2022 across the year on the EBITDA line. In 2022, we were roughly 44-ish percent of EBITDA was in H1. I think you would see in 2023, we anticipate, you know, not all the way to 50-50, but getting closer to an even split, maybe 47%. And then on the EBITDA line, you're right. It's the reinvestments that we will make in 2023 below gross margin, as we did in 2022. And those are, again, within the marketing line. where we see, you know, a significant upramp in marketing supporting Rayos primarily and Noosa in more kind of historical legacy rates. R&D, we're investing behind. In fact, we just opened up a new facility, R&D facility down in Austin that's attached to our plant there. And so we're building out new capabilities there. We are adding. We have added 22. We'll continue to add critical roles where needed, but more importantly, the tools required for those roles to be successful. We're building relationships with retailers, things like master data, data mining, and things like that. So we're continuing to make those investments below the line. And that is why you'll see, you know, not quite the market expansion that on the EBITDA line that we anticipate on the gross margin line.

But importantly, Peter, hey, this is Todd, just to build on that. And, you know, we've highlighted this. We are building a business for the long term, and we're building Rayos to a billion dollars and beyond. And there's no question in our minds that Rayos is going to blow by that billion dollar you know, net sales mark. But the way to do that is to invest. And I'll just give you perspective. In 2022, we invested an increase, you know, year on year. And awareness for the Rao's brand, I'll just use that as a proxy, increased from 48% to 58%. 1,000 basis points, 10 full percentage points year on year. The way to add households is through mental and physical availability, is making the brand more mentally available through awareness of the brand and physically available through distribution. And our playbook is, quote, unquote, that simple. But we have a growth-obsessed organization, and we look to do whatever we can in order to drive awareness and distribution, notably of our leading brand across all the categories in which it competes, We have plans now in 2023 to invest a larger increase year on year in 23 versus 22 than we did in 22. So we are confident that will lead to similar chunky gains in household and awareness of the brand. And when you combine it with the distribution gains I just talked about, that's what's going to lead to the highly differentiated Volume growth that we're driving as you can see in slide seven that we put up on the you know on the website You know vis-a-vis our peers, you know, that's how you really drive volume now granted We have a lower penetrated brand in rails, but it's now the number two brand in regards to dollar share But still only six percent in units only 12 percent household penetration only 58 percent in awareness and we still have just major major runway and getting our top skews to to full distribution and

Great. Thanks, Todd, for the color there. And then just maybe as a follow-up, I think, you know, Chris and Todd, there's a leverage target now in the slides, and, you know, you have some proceeds from the Birch sale. Can you just talk about, you know, use of proceeds and kind of how you're thinking about, you know, getting the leverage down, getting that interest expense burden down from where you are today? Thanks.

Yeah, you bet. So, you know, we are very pleased with our progress on leverage, finishing the quarter below three times. I think we've guided that to below three and a half times. And $140 million sitting on our balance sheet at the end of the year. That really allows us a lot of flexibility, first and foremost, to reinvest behind our brands, our current brands, to drive the core growth that we're seeing. That could take either to drive the top line as we expand our TAM expansion efforts, It could be to improve profitability, which we are, you know, where that's capital, where that's expense, making those investments into secure supply. You know, we're growing at the rates we're growing, making sure that we can adequately meet the demand is important. We did improve, increase our inventory levels across 2022. And as we closed out the year, we're in a very nice position on inventory. So that's where we will invest the money first and foremost. Down the road, potential M&A if it makes business and financial sense, as we've talked in the past. And then primarily to continue to de-lever. We've operated, we've managed our debt very prudently. We've operated typically three, three and a half, up to four. We've gone higher than that when we've done acquisitions. But we're happy with where we are now. We're servicing the debt. We'll continue to deliver. We generate a lot of cash from the business. And so that's how we'll manage, you know, our capital allocation.

Thanks, guys.

Thank you. Again, ladies and gentlemen, if you'd like to ask a question, please press star 11 on your phone. Again, to ask a question, please press star 11. Our next question comes from the line of Jason English of Goldman Facts. Your line is open.

Hey, guys. We covered a lot of ground, right? I'm just going to throw out one question. Gross margins, how have the expansion initiatives influenced your gross margins? So can we go back in history and look at that as a reasonable reference point of where maybe you can get back to? Or has the push into frozen, which is notoriously a lower margin category, and now Michelangelo's into a lower price point, Should we expect that to be structurally mixing lower, still driving great gross profit growth, but just actually mixing the margin rate perhaps lower than it otherwise would have been?

Yeah, no, if you do go back in time, let's just go back to pre- COVID even, you know, back in 2019, we were making great strides in our gross margins. You might recall we talked about investments that we were making at our two plants that we run up in Colorado, which produces Noosa, and in Austin, which produces our frozen Italian entrees. And that gross margin had surpassed 30. In fact, I think it was as high as 31%. As the inflation has hit, we had the lag on pricing, productivity got delayed, and we ran a 29.5% margin across H2 2022. So we're building our way back up to what we believe will be 30 and better as we progress. So we would have every intent that our efforts would get us back to those levels that we were at pre-COVID, call it the low 30s. may just take a little bit longer than we originally anticipated. But we believe the activities, the initiatives we have in place, the opportunities ahead of us, we can get back there.

Okay, that's helpful stuff. And I apologize, I got a little bit distracted during one of the questions. You may have already addressed this, but two questions on debt. First, you generate a lot of cash. Why are you not paying down debt, given how high the rates are? And the $240 million that's locked... I had thought that it had been locked. I guess we had read strike rate of 4%, so I think we wrongly interpreted it to be a lock of a 4% rate. I think I heard you say today it's 7.5% is what that locked component is capped at?

That's right. The floating portion is 3.5%. LIBOR is locked at 4%, so that's a total of 7.5%.

Oh, yeah. Continue. My apologies.

Sure. And then on the paying down of debt, again, the tax that we do have is It does give us great flexibility. We're holding on to it. By the way, we do have a pretty good rate on it as it's just we're sitting today. As we progress, we will generate cash. We will make those decisions on, yeah, do we go back and truly delever that? Do we continue to hold on to it? We'll make the most we think is the highest use of that cash. And, again, right now we like the flexibility that it provides us. Okay. Okay. Thank you. Thank you.

Thank you. One moment, please. Our next question comes from the line of Robert Mascow of Credit Suisse. Your line is open.

Hey, thanks. I guess one question is, I seem to remember you had some supply chain disruption in first half of 2022 last year having to do with storms, I think in Texas at a supplier. Can you quantify how much of an easy comp that provides? And remind me what quarter it was. Any dollar amount to that?

Yeah. Yeah, thanks, Rob. Yeah, that was the winter storm down in the Austin area. So it impacted our frozen business. And then we also had a an event at our pasta provider, which is also in Austin. So we were struggling to get pasta for the dinners as well. It was really, and then by the way, there was Omicron as well in Q1. So all of those really hit us at the end of the first quarter, but more importantly into the second quarter, which is when we canceled all of our promotions. So I don't think you'll see an impact in Q1. Across Q2, there will be, again, I can't call it material, But we are back up and running now. Our service levels are in good shape on frozen. We've talked a lot in the past about the investments we're making down in that Austin plant to automate our manufacturing lines that then had gotten delayed to the back part of 2022 and really all the way almost to the end of the year. The great news there is those lines are now up and running and we're starting to really see the benefits of that, taking the hourly headcount out of the plant, a boost to capacity, So that's a great tailwind for us in 2023. But I would not model in a material impact for whatever volume was lost last year in Q2.

What about EBITDA?

I would say the same thing. The sales were, you know, worth that high. We didn't really experience any incremental costs during that time, again, that are called significant. So I would not, either top line or EBITDA, I would not, you know, assess a large, you know, dollar impact for that from the storm last year.

Okay. Well, it felt material last year, so I figured I would ask. A second question. Regarding this promotion you did with a non-measured channel customer in fourth quarter, is this a really big customer? And why did you decide to do it? And are you going to do it again in 2023? Like, I just want to make sure it's not creating a tough comparison in 2023.

Yeah, this is, hey, Rob, it's Todd. I mean, I know it's, I guess my thought is, like, first of all, the only reason we're talking about it, unmeasured versus measured, is because of the difference in net sales and whatever. It's I mean, our philosophy is I want you – you know, we, our team, wants ubiquitous distribution of sauce in every single outlet in which the consumer shops. And some of those customers, notably some that are in the unmeasured universe, those come – those are big volume events. So – While I understand what's behind your question, I've never been one to strategically think about, hey, I've done it in this quarter, and now we need to lap it next year. At the end of the day, we get the right distribution in the right places and the right events, and then we just need to figure out how to grow our business year on year, every quarter and every year. I know that's not a perfect answer to your question. I'm just saying that You know, right now, we are just looking to make sure that we have fully ubiquitous distribution of RAOs and all the items. We're still under-distributed vis-a-vis our peers, 12 average items versus 20 for the competition, 58% awareness versus 90 plus percent for the competition. And if we have the opportunities to run some large events to get what we call the world's best-tasting pasta sauce into more consumers' mouths, we will do that. And if that causes us some indigestion in regards to laughing in Q4, well, then so be it. Our team is up to it. I don't mean to be flip at all with you, Rob, on that, but that is kind of our mindset.

Hey, Rob, I'll just add to that as well. It was a real enhancement to an event and a little bit of shift in timing, but it was an overwhelmingly successful event. And you might have seen in the comments we just made previously, we are guided to low double-digit hotline growth both in H1 and H2. So just to support Todd's comments, we're not seeing that as an overlap that we can't overlap.

Okay, thank you. Okay, thanks, Rob.

Thank you. One moment, please. Our next question comes from the line of Michael Lavery of Piper Stanley. Your line is open.

Thank you. Good afternoon. Michael. Just want to come back to the Michelangelo sauce. Could you touch on how that's sourced and if it's through La Regina and if it's not, does it have favorability on costs or more volatility or perhaps both? How should we just think about the cost profile on the supply chain for that?

Sure. Sourced through La Regina. You know, no similar volatility that, you know, Rayo's sauce would have, but as emphasized before. Michael, first of all, good to be talking with you, Michael. It's a different formula, though. than, you know, than, you know, than Rayos in regards to a lot of, you know, different, you know, attributes. It is worth a highlight. Rayos uses a very specific breed of Italian San Marzano tomatoes. Michelangelo's uses, you know, what we call just a vine-ripened Italian tomato. It's a shorter cook time. Okay. you know, different sort of ingredient spec, et cetera, with the herbs and seasonings, olive oil, et cetera, that's different, all different from Rao's. That said, it is a slow-simmered, you know, kettle-cooked sauce that's highly different than mainstream slash private label.

And would it be fair to say that it's similarly attractive economics relative to its price point, at least, where Even if it's still from La Regina, it's got a different recipe and different things that allow for the – it's got a better cost profile than Rayos. That's fair.

That's fair.

And can you just touch on Rayos' share? I know you gave the volume share. If you had the dollar share, I might have missed it. Could you give that? And then just remind us some of the seasonal drivers there, because I know your competitive set has different – at least ways they approach it that can drive some share fluctuations for you. Can you just remind us how to think about how its cadence can evolve that way?

Sure. We ended the full year at a 14.7% dollar share, higher than that in the quarter. You know, it's interesting you mention it. I'm so used to working on some other highly seasonal businesses like Halloween candy or even pet treats that I don't really think of.

But it is.

There is a seasonal element to it, so I don't mean to joke about it. Just sort of thinking back on my history just came flashing before my eyes in regards to all the categories that I've worked on. But, you know, I mean, I think just like, I mean, you're seeing a little bit of a phasing more towards Q4 and Q1, colder months versus warmer months, but we still have a pretty darn robust business through Q2 and Q3. You know, if you sort of look at the phasing of consumption data all other things kind of constant now it's difficult because rayo's is just on a constant uptick of increased awareness every quarter on quarter increased household penetration due to distribution but you know like for like uh category etc you're seeing a little bit more in the q4 q1 than q2 q3 and chris hall's about to add something no okay i thought he was looking at me okay great michael yeah no that's helpful okay

Thank you. One moment, please. Our next question comes from the line of John Anderson of William Blair. Your line is open.

Hi, thanks. Thanks for the question, guys. Just a couple quick ones. Wondering if you could talk a little bit more about the gross margin cadence through the year. Are you expecting kind of a sequential gross margin rate improvement quarter by quarter as you move through the year? And then on the OPEX line, is there anything for us to consider when you talk about incremental investment spending behind brand building R&D? Is there any particular kind of cadence to that or timing-related factors that we should be considering as well, or is it more kind of spread evenly across the year? Thanks.

Yeah, sure. Thanks. On gross margin, I think the main point there is that the majority of the increase And there will be a strong increase in the first half of the year, year over year. And I think H1 will look more like H2 2022. And then as you cross over the year, the inflation that we're going to be seeing here in 2023, which is agro products, paperboard, Things like that that you're hearing about, tomatoes, for example, fruit, it really is spread pretty evenly across the year because it's coming out of the new crop season that would have hit us across Q4 into this year. So the inflation, mid-single digit, pretty much across the year, we get the benefit of that pricing tailwind in the first half of the year. So that's how I think about gross margins. And then on EBITDA and investments below OPEX, we have traditionally our highest, we've had more back house load in our marketing efforts. I think you'll see that's going to be more spread evenly across the year. Other than that, I think it'll be pretty much the same type of cadence that you would have seen in prior years across our OPEX. but with more marketing across the first half of the year as a percent of the total marketing spend.

Thanks. That's helpful. One quick one to follow up. Just any color on NUSA, obviously Rayos is the crown jewel here and performing extremely well. I'm just wondering what your expectations are and plans are for NUSA in 2023 and maybe how some of the TAM expansion work that you've done over the past 12 to 18 months. Kind of how you're thinking about that at this point. Thanks.

Sure. Hey, thanks a lot, Sean. Good talking to you. This is Todd. So a couple things. You know, so headline is we're pleased with Noosa. You know, we grew the brand 0.3% net sales in fourth quarter. You know, we've averaged now three years at about a 5% CAGR on the Noosa brand. Been a nice mid-single digit. and I think I've mentioned this on previous calls, it has been quite honestly a really very good acquisition for us. You know, some of the areas you don't find full visibility to is the dramatic improvement of profitability from when we acquired the business to, you know, to call it a year ago, pre-increase in milk pricing that, you know, really benefited us immensely. And, you know, it's sort of a turbo boost to help fund, you know, the growth in Rayos. So Noosa has been a real nice acquisition. for us the you know dollar consumption growth very consistent around low to mid single digits all year even as the full contribution from pricing increased we're going to continue to make sure that this brand's a growth contributor you know we did as I think we talked on the last you know call you know we you know work in the promotional plan etc to ensure that we've got consumption growth headed into headed in the next year but it's obviously the Yogurt category is different and it's unique in regards to its competitiveness. But Noosa, as we've talked before, is a highly differentiated brand. It's a taste-led yogurt. We unapologetically talk that and trumpet that in regards to, you know, while other competitors are taking the taste out of yogurt, we're putting taste in. And that's why it's been a consistent, nice, mid-single-digit growth contributor to us. And, you know, we have similar expectations for that business. this year and beyond. In regards to the TAM launch on, you know, on gelato, I'd say the headline there is the mixed, you know, the results have been mixed. It has done, you know, honestly well in a variety of customers and some customers it hasn't performed as well. Ice cream is also a different category. As I've always said, that was a smaller launch for us, different than something that, albeit this year, was we're launching pizza. But we're constantly fine-tuning. We've got a large variety of customers that have accepted the three new items that we're launching this year, cookies and cream lemon bar and mint chocolate chip. So we've got a variety of customers now that have all seven of our items on shelf. But unfortunately, we have some customers that don't have some of that ice cream on shelf. You know, we're going to continue to support that initiative, drive it forward, learn as we go. Not really a meaningful, you know, indicator of like our sales for this year or whatever else, but we think it's an important one for new sets. So what else can I tell you there, John?

No, that's great. Super helpful. I appreciate all the color and good luck going forward.

Hey, John, I just want one clarification on the sequencing of gross margin in the first half of the year. Just note Q1 historically, you know, and will continue to be the lower margin quarter because it's our highest promotional quarter. So I think the rate of improvement across Q1 and Q2 versus last year Q1 and Q2 will be similar. But we'll still see Q1 as the lowest overall margin quarter for the year.

Thank you. Our next question comes from the line of Sarang Bora of Telsley Group. Again, Sarang Bora, your line is open.

Great. Great quarter, guys. Great guidance as well. You know, when you look at Rayos as a billion-dollar brand, How do you think the mix of sauce versus outside the sauce categories, all these frozen pizzas, stuff look like in a billion-dollar pie that you have? And then, you know, my second question is, you know, the outside the sauce category at Rayo is growing very strong past several quarters. I mean, is it fair to assume that these categories will contribute almost half of the Rayo's growth in 23? Thank you.

Sure, so Chris can hit the second point, but good talking to you. This is Todd. So, you know, it's SOS is about 85% of RAOs today. We're using rough math based on our detailed modeling techniques. I'm just saying. I would assume that we get to a billion dollars. You're talking SOS about 70%, 70%, 75%. But if you just look at that, where Sauce is today, where Sauce will be at a billion dollars, I mean, Sauce is going to be still a major growth driver, you know, of our growth. And on top of that, you've got, you know, we haven't talked a lot on this call on the beachheads, which are all still doing very, very well. And I'll emphasize, you know, the beachheads, which we talk about newer, I mean, this is the fourth year of soup. This is the third, fourth year, depending on when you use the exact start date, of frozen. Dry Pops has been in market now for almost four years. So these beaches have been there for a while, but they're all growing robustly. That combined amount of Moolah retail sales last year ran $110 million, up 45% versus prior year. So, those are all ticking up. And then we've got pizza, which is a $6.5 billion category. I mean, a two-share of frozen pizza is, you know, you can give the math, it's, you know, that's a sizable business for us. And, you know, that's what we have our sights on. And one area that I'll talk about pizza that is important, I'm sure you've heard a lot of calls from some of those that are in the delivered pizza business. I mean, we've launched out there, as we talked about on the script, our frozen pizza could not be testing any better than it's testing now. It's been in test for a while with four retailers, and it is a super premium price. It's roughly $12.99 shelf, promoted down a little bit below that. But that is significantly less today than what a delivered pie costs to your home because of the inflation and delivery fees and everything else going on. So, you know, you can get an absolutely delicious artisan super premium pizza made by Rao's in the frozen sector, and we believe that's – A clear reason of what's driving the success of that business is the fact that it's a real value versus a home-delivered pizza today. And that wasn't necessarily the case four years ago. So, you know, if you look at the billion dollars, you've got sauce being a core part of that. You've got the beachheads. You've got pizza. And then you've got some other elements. We've talked some light international opportunities for rails, et cetera. But I will still go back. The number one driver is sauce. Why? Awareness is still only 58%, albeit up 10 percentage points last year. Household penetration only up 12%, although that's up significantly. We're already seeing an uptick in the first two months of the year. Unit share only is 6%, albeit growing significantly year on year. The last point I'll add is that we grew significantly. We basically grew robustly household penetration and share in nearly every single measured geography of the United States last year. We were also the only brand in Q4 that grew across every income demographic and generational cohort versus the other top four brands. You know, we are maniacally focused on growing that sauce business onward and upward, and that's a key reason why we've got momentum heading into the year and that we feel very good about, you know, the double-digit top and bottom line guidance for 2023.

That's great. I mean, can't wait to try some new products. Good luck. Thank you. Thank you.

Thank you. I'm showing no further questions at this time. Let's turn the call back over to Todd Lockman for any closing remarks.

Awesome. Hey, thanks again, everybody, for joining us and showing an interest in our story. We look forward to engaging with many of you in the coming weeks. Please feel free to reach out to Josh for follow-up discussions. Until then, have a great evening and take care.

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may now disconnect. Have a great day.