Q1 2022 Freshpet Inc Earnings Call

Greetings and welcome to fresh, but first quarter 2022 earnings conference call. At this time all participants are in a listen only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during todays conference. Please press star zero on your telephone keypad.

As a reminder, this conference is being recorded I would now like to turn this conference over to your host Mr. Jeff Sonic Investor Relations at ICR. Thank you. Sir you may begin your presentation.

Hello, and good afternoon, and welcome to fresh coats first quarter 2022 earnings call and webcast on today's call are Billy Cyr, Chief Executive Officer, and Heather Pomerantz, Chief Financial Officer, Scott Morris Chief Operating Officer will also be available for Q&A before we begin please remember that during the <unk>.

Course of this call management may make forward looking statements within the meaning of the federal Securities laws. 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. 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 a detailed discussion of the 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.

The company believes these non-GAAP financial measures provide useful information for investors. The 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.

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. The presentation can be found on the company's investor website.

Managements 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.

Now I'd like to turn the call over to Billy Cyr, Chief Executive Officer.

Thank you, Jeff and good afternoon, everyone.

The message I would like you to take away from today's call is that our Q1 results are an early indicator of how much more resilient. We are today than we were one year ago. The investments we made in our workforce and buffer capacity enabled us to overcome the challenges from omicron industry wide supply chain disruptions and our ERP convert.

And still deliver the strongest quarterly net sales growth rate since fresh pet went public in 2014.

That resiliency will enable us to continue our rapid growth and fulfill our mission to change the way people nurse their pets forever.

Our team is quite proud of what we accomplished and the results. We delivered we overcame supply shortages and construction delays to design construct install and start up the incremental capacity that has enabled us to not only meet our rapidly growing demand, but to also fill the trade inventory hole that we dug over the past 18.

Months, we still have some pockets where our in stocks are not where they need to be particularly in pet specialty where we went through a distributor change, but overall, we have our best retail conditions, almost two years and they keep getting better.

We've also hired and trained the team members needed to produce enough fresh pet to fill those fridges and one of the tightest labor markets in decades.

And we continued to generate incremental demand in the face of the most significant inflation in decades through outstanding marketing innovation and fridge placements.

Looking ahead, we are also keenly aware that the operating environment remains extremely challenging the planning and skills that it took to overcome the obstacles. We faced in Q1 will be needed over and over again in the coming months and years. If we are to sustain high rates of growth.

If successful we will need to continue to plan conservatively and act aggressively just as we've done so far this year.

That is what we intend to do.

It is in that vein that we have revisited our long term capacity expansion plant.

Since we established our plan about 15 months ago quite a bit has changed some of the biggest changes have been first lead times.

Lead times for construction and equipment have lengthened significantly, sometimes doubling and tripling that puts a premium on planning and ordering ahead, but it also puts added strain on the balance sheet, because we must start spending capital much further in advance of when capacity is able to begin production on average we are spending capital more than <unk>.

Six months earlier than before to deliver the same capacity.

Second costs the cost of construction and equipment has increased significantly on average construction materials and equipment costs are up more than 20% over the past year, particularly for those who use a large amount of stainless steel as we do.

Third operating Knowhow, we've learned quite a bit about how to design facilities to operate more efficiently over the past year, particularly since we've been operating kitchens, two <unk> on a 24 seven schedule for full year.

Fourth new technology, we've been experimenting with a variety of new production technologies over the past year, so I'm that support existing products and some that and enable new innovations we are ready to scale up some of those technologies.

And fifth competition.

The emergence of a large and growing segment of very high end fresh and frozen pet foods has reinforced the strategic importance of ensuring that fresh pet always has the best products in the market, while presenting consumers with an attractive value proposition, we were ready to scale up some additional products that we believe will expand our franchise increase our buying rate.

And enhance the fresh pet brand reputation.

To address those changing dynamics deliver the necessary capital efficiency to justify the investments, we are making and to keep up with a significant increase in demand. We established the following guiding principles first focus on building, where our talent is based.

To maximize the utilization of our technical staff, we will focus our efforts on Bethlehem N S and kitchen, south fully building out those sites.

This will enable us to maximize the potential of each site with the most efficient use of our talent. This includes innovation as we will house innovative new products in Bethlehem. So that they are connected with our R&D staff.

Second locate in group technology and equipment in the most cost effective manner.

As a small company attempting to meet almost insatiable demand across our product portfolio. We had to pair a bag line in a roll line together each time, we expanded.

Now we were adding capacity in larger chunks and can establish buildings and operations that specialize in either bags or rules that.

That delivers labor efficiency, better management of maintenance and spare parts and greater operating expertise.

Third limit freshmen capital investment to assets of greatest strategic value.

While we will continue to selectively build and own some of our buildings are new plan makes greater use of our partners' capital to construct and own buildings, while we focus our capital on equipment and technology.

And fourth enable innovation.

Our capital plan must ensure that we never fall behind on product performance versus any relevant competitor. We believe we were the best in class products today, we intend to keep it that way through a commitment to long term innovation.

Flying those principles, we were making some changes to our long term capital plan. The key changes are first splitting in its phase two into a phase two and a phase three.

When you and its phase two will be dedicated to roll lines, and we will we will be pulling forward the beginning of construction as well.

In fact, we've already begun the site preparation work for that expansion and expect a new phase to open in Q4 of 2023.

As III will largely focus on bag lines it'll be slated to open a year later in Q4 of 2024.

Second focusing kitchen south on bags.

We will be adding incremental bank lines to the existing building and eliminating the need to add a new building that would house roll lines.

Ultimately house five bank lines at kitchen, South some of them using new technology with higher throughput and greater packaging flexibility.

And third adding an innovation scaleup facility in Bethlehem.

We were establishing a new 100000 square foot facility about one half mile from our existing campus in a leased building that we will equip with the production lines capable of producing some of our new innovative products.

In total this revised plan will deliver capacity to make approximately $2 $9 billion of fresh pet products off about $500 million or 20% from our previous plan.

We'll also add new product technologies capable of producing new preferred products that will provide unique benefits to new consumer audiences.

And the plan will deliver greater operating efficiency than the previous plan. The accompanying investor presentation provides more detail on the projects and the returns we will get from these investments.

Put simply each of these projects will pay back quickly once they are operational and fully utilized.

Just as the Bethlehem campus is generating significant free cash flow on a four wall basis now that it is fully utilized.

We believe this is both an aggressive and prudent plan is very clear that the future of pet food is in higher quality foods like fresh pet.

Various industry estimates have pegged the size of the category at $4 billion to $6 billion as soon as 2025, and we outlined at 25% increase in the size of the total addressable market or Tam to 25 million households at the ICR conference in January .

We fully intend to capture as much of that market potential as possible. We are the category leader, we have a huge head start and we have sizable competitive advantages.

To maintain that lead we must always have adequate capacity and we must always have the best products. Our plan is designed to ensure we always do.

So what does this capacity expansion mean for existing 'twenty 'twenty five targets.

We were off to a fast start in 2022, and our current growth trajectory is well in excess of the rate we would need to hit our 2025 goal but.

But with all the uncertainty in the macro environment. We think it is more prudent to maintain our targets, while we navigate through this fluid macro environment.

That said, we have great confidence in the path forward to build and serve a much larger consumer audience Sim.

Simply put this is a timing exercise given.

Given the incremental challenges in sourcing and construction, we need to start sooner to ensure that our operational capabilities and capacity keep pace with long term demand.

For investors. We believe this capacity plan is best thought of as both an option for accelerated growth and insulation against further challenges in construction equipment sourcing. We're also building in some flexibility well there are long lead times for construction equipment, we have preserved the ability to scale back portions of the <unk>.

<unk> at various stages, along the way to ensure that our capital spend is always optimized and capacity is in lockstep with our latest estimate of demand.

Further we're also mindful that the world we were operating in has an unusually large amount of economic uncertainty and it.

Given that and the aggressive competitive posture, we were taking we will balance the capacity expansion plan with a conservative balance sheet that is designed to insulate our growth plan from the typical volatility of both a high growth company and the capital markets, we intend to operate with low leverage until the business is generating strong cash flow.

While funding our capital expansion plans from operations.

We believe the plan we're laying out today is the right one and will allow us to reach our long term goals in the most efficient way possible.

All of them for the current environment and leveraging our growing set of capabilities.

Our founders bet on the future of higher quality pet food back in 2006 with the creation of fresh pet and we asked our investors to do that when the company went public in 2014 and again in 2017, we launched feed the growth.

We believe our long term results have shown that those were wise investments. We believe the plan we were laying out today will enable us to build on those results and deliver the future pet food and a very bright future for fresh pet.

I'll now turn it over to Heather to provide a summary of our Q1 2022 results.

Thank you Billy and good afternoon, everyone. We.

We had a very strong quarter, both in the absolute and relative to our expectation.

We delivered net sales growth of 41, 5% for a total of $132 2 million of net sales.

That growth rate is the strongest quarterly net sales growth rate since the company went public in 2014 for perspective, our first quarter net sales I'm more than our net sales for the entire calendar year of 'twenty, which means we have doubled the business twice since 2016.

In fact, we have doubled this business about every three years since it was founded and that trend is accelerating with Q1 F. 2022 2.4 times the size of the same quarter only three years ago.

First quarter net sales growth was broad based across channels and product forms.

The growth was most pronounced in the grocery and mass channel.

From a product mix standpoint, our law and fresh kitchen products experienced significant less behind improved availability that improved availability can be seen in a gradually improving throughout.

Throughout the quarter and into Q2.

I think next accounted for about eight points of net sales growth in the quarter and trade inventory. We felt it was about four points of the net sales growth.

Balance of the growth in the quarter came from volume.

As expected pricing will play a bigger role in Q2 than it did in Q1 as our second price increase did not go into effect until the middle of March as a reminder, our two price increases total about a 7% increase in pricing.

We saw very little if any price sensitivity from the first price increase but it is too early to tell and I'm not sure we'll see it from the second larger angry.

And it's particularly difficult to determine the magnitude of price sensitivity, we are experiencing because of the con founding variables, we have I E.

Better availability improved distribution any significant increase in advertising.

We fully anticipate there'll be some kind of sensitivity and we've built that into our guidance for the year. It is just too early to tell how much we are actually experiencing given the rapid growth.

Household penetration grew only 2% versus a year ago on a trailing 52 week basis.

That 52 week time period reflects the worst periods of in stock and it's why we saw so little improvement. However, when we look at the more recent four week period when advertising was on the air and in stocks had improved.

Much stronger growth rate in.

In fact, the most recent four week period was up 12% versus a year ago and it's accelerating.

Well there might be a short term debt.

Impact of price sensitivity, we expect to see steady progress in Q2 on a 52 week measure and get back to more typical of household penetration growth rates by the end of the year as typically happens when household penetration growth slowed buying rate growth accelerate.

Smaller number of new households, who've come in at a lower buying rate entering the fresh that franchise.

<unk> rate was up 26% in the quarter, well above our long term growth rate of 7%.

We believe that rapid growth will slow considerably once the household penetration resume more normal growth pattern in the 20% to 30% range.

The increase in pricing will provide a step up in buying late this year and will go beyond our annual target of 7% growth.

Net store count grew by 323931 net stores. We also upgraded 73 stores in place second or third fridges and 179 stores.

I expect the rate of growth on each of those measures to accelerate as the year goes on.

Shifting to margin adjusted gross margin was 41, 9% down from last year's 46, 7% and up slightly from Q4, 2020 141, 7%.

Our Q1 performance was also better than our guidance assumes.

As we shared last quarter, we had a timing mismatch between the increase in our commodity costs and our pricing actions.

That timing difference created an approximate 450 basis points headwind adjusted gross margin in the first quarter.

We'll get much of that back in Q2.

Driving a slightly better than anticipated adjusted gross margin in the quarter was strong production performance and greater sales leverage.

When we gave our guidance at the end of February we had just converted to our new ERP system.

Our guidance assumes that it would take some time to return to our previous level of production as we work through that case and the new system, but as the chart in the accompanying presentation shows we bounced back quickly and even began to exceed our previous production performance.

This improved throughput resulted in increased shipments and enabled our best in stock condition and years, helping to drive strong sales performance.

We attribute part of that strong production performance.

Investments, we made in our fresh cut Academy training program and in talent over the past six months, which delivered consistently strong staffing level and increased operational flexibility. This is a strong first point that our revised capacity plan will have associated advantages in terms of efficiency and throughput.

The strong top line growth enabled us to drive strong G&A efficiency gain that we reinvested in media in the quarter to drive continued top line growth later in the year.

Media investment in the quarter was up 420 basis points versus year ago to 16, 3% of net sales and that increase was more than fully offset by reductions in both logistics costs of approximately 170 basis points and by other G&A costs of approximately 270 basis points.

A net reduction in adjusted SG&A of 20 basis points.

Logistics cost reductions were due in part to more completely filling trial than in the year ago.

G&A costs were positively impacted by the benefits of scale that we have been gaining overtime.

Adjusted EBITDA of $5 1 million was as expected down versus a year ago.

Had we not had the timing mismatch between commodity inflation and pricing actions adjusted EBITDA would've been approximately $13 million grader and delivered an approximately 13.7% adjusted EBITDA margin.

Capital spending in the quarter totaled $55 9 million and we expect to spend approximately $400 million in capital. This year. This.

This is higher than our prior plans capex spend of approximately $300 million that we previously communicated and reflects the updated capacity plan that Billy shared with you earlier.

Operating cash flow used in the first quarter was $34 8 million, which was driven by $33 2 million of working capital.

This was significantly impacted by the ERP conversion, which resulted in some delays in invoicing in payable which will be reconciled in Q2.

We have $51 million on our revolver in the quarter at the end of the quarter, we had gross availability of $299 million on our credit line subject to various limit.

Looking forward the strong start in Q1 gives us a great deal of confidence in our plan for the year.

Net sales performance in Q1 came in about $5 million better than the 35% growth implied in our guidance and the consumption trends. We saw in April continued that momentum.

We are still learning about price sensitivity, but each week that goes by we get increasingly comfortable that our assumptions are appropriately conservative with less risk of downside and more opportunity for upside.

Despite that optimism we are maintaining our net sales guidance for the year out of an abundance of caution related to the unknown of price sensitivity and until we have assurances that and this will deliver the raw capacity that we need to stay on track with our plans.

At this point, we believe that Atlas is on track to begin producing salable product late in Q3, but the current construction environment is challenging and nothing should be taken for granted.

Three things need to be in place for a successful startup.

First equipment delivered we are in good shape on this item and all the equipment has been delivered and is ready to install and the equipment is basically the same as the equipment. We used in kitchens too. So we know how it works.

Second staffing and training we have hired all the staffing that we will need for the first two lines and many of them have been trained in our Bethlehem kitchens for up to nine months.

We are in good shape on this item.

And third building completed this is the primary elements of risk and where most of our focus live we expect to have dried and the building by next week, but there is still lots of wiring Sharon interior walls to Iraq and electronic systems to install we believe our timetable is realistic but material shortage.

Here are very real and until the building is done we won't know for sure that we can get every material electrical component or labor on the timing we need.

We are optimistic but realistic about our ability to startup and further support sales later this year.

While we also exceeded our expectations on adjusted EBITDA the surge in fuel prices, we've experienced since our fourth quarter earnings due to the onset of the Ukraine conflict could offset that stronger performance until we either take another round of pricing or the fuel prices rolled back.

As we set our guidance you will fuel has gone from approximately $4 per gallon to approximately $5 per gallon that impacts inbound and outbound freight costs.

We are also seeing higher energy costs to operate our kitchen. If it appears that these costs will be sustained for a long period of time, we will take another round of pricing to cover those costs as we are committed to protecting our margin.

That could create another timing mismatch between increased costs and increased pricing, but it would be much smaller than the mismatch that occurred in Q1, when a broader set of commodities were impacted.

Additionally, if we continue to deliver strong net sales performance in excess of our guidance and we have the available capacity, we will selectively reinvest the contribution from the outperformance and additional Q4 media to further accelerate our growth next year.

We are not taking up our adjusted EBITDA guidance at this time, but our confidence in our ability to meet or exceed the target is very strong.

We have updated the quarterly guidance cadence charts, we provided with our initial guidance in February to provide color on these items and other items impacting the cadence we expect for the year.

In closing we are very encouraged by the strong start to the year and even more encouraged by what it says about our resiliency.

We also know that we must maintain our focus and diligence.

If we do we believe we have the capability to continue our rapid rate of growth.

Deliver a strong performance this year and continue on our path towards fulfilling our mission of changing the way people nourish their pets forever.

That includes our overview, we will now be glad to take your questions operator.

At this time, we'll be conducting a question and answer session. Please limit yourself to one question and one follow up if you would like to ask a question. Please press star one on your telephone keypad, a confirmation tone will indicate your line is in the question queue you might pause starts you cheer them over your question from the queue.

For participants using speaker equipment and may be necessary for you to pick up your handset before pressing the star key one moment, while we poll for questions.

Our first question comes from the line of Bryan Spillane with Bank of America. You May proceed with your question. Thanks, Operator, and good afternoon billion, Heather hope you're well.

So first my question is really just around the revised capacity plan and the Capex I just wanted to make sure I understand is the so whats incremental from here so what's not yet spent.

And is you know still to come balance of this year in the future is that number I'm just looking at slide 47 is that.

Roughly $7 million to $800 million of additional spending from from here, including this year's Capex plan.

Heather do you want to take that.

Sure Yeah.

On slide 47, the a nine.

900 million that you see there is the total of all of those projects that you see on your plans for line fill it.

It includes all of them and its phase one and it speaks to a kitchen the kitchen south an incremental line. That's all been in stage three so Brian and its phase one obviously started expenditures at the back half of 'twenty 'twenty.

All through 'twenty, 'twenty, one and into 'twenty 'twenty. Two so that's that number is inclusive of the total of the end of phase one project, which and in our latest revision is is just over $250 million.

No.

Because of that it's a higher number than <unk>.

And is reflective of kind of future expenditures. If you will so you'd have to net out the the total of whats already spent on in its phase one which is you know a significant portion of that of that number a couple of hundred million. Okay. So so the the capital raise.

What's the cash you have on the balance sheet and the credit do you have enough there's.

There's enough capital to complete this plan I guess, that's what I was really getting after it was yeah.

Yes, there theres enough capital to complete the plan and I think the difference is that you know as as Billy mentioned in the prepared remarks.

So with that just to maintain a low level of leverage.

And so we're we'll lean in less into the credit facility.

Order to Mismanage and have a healthy balance sheet, along the way okay, great. Okay, I'll I'll pass it on thanks guys.

Brian .

Our next question comes from the line of Bill Chapell with Securities. You May proceed with your question.

Thanks, Good afternoon, Hey, just kind of following up on Brian's Yep, Billy maybe just a little more of what.

Pushed this change was it was a thought that now we don't want to ever want to run into capacity constraints as we did last year and you know.

And we need to get faster or is there something on the demand curve, where you felt like you just trying to understand why the change now because it's obviously a big and it seems like a very positive change, but but it's also from I would've thought your original plans were pretty well thought out as well. So just help me help us understand.

Why now.

Yeah.

Bill It's a it's a very good question. The reality is as you saw we put up for growth in the first quarter at 41 half percent, we've got a 35% growth for the year when we put out our plan for 2025 and the capital plan before the growth rate that we were expecting at the time was in the high Twenty's. So we're running well.

We're ahead of that plan.

And so we have to we want to get ourselves in a position, where we're never leaving the customer a reason to go look for somebody else to supply them and so we wanted to make sure. We get ahead of this I will tell you, it's a little bit like chasing your shadow, though because.

Because it seems like the more capacity, we bring on the faster we grow and so we just want to push that as far as we can organizationally, you know and as quickly as we can to get as far out as we can but it's also important to note that lead times have take or have increased fairly significantly. So we don't have to take action much.

Sooner to build capacity, that's going to come on a little bit later, so that's really the biggest driver here at the accelerating rate of growth and then the longer lead times. Once you make the decision that you have to take action based on those two phenomena phenomena than you recognize that there are some things that we've learned whether it's new technology new innovation.

Or better ways to organize our facilities you know putting roles lines and single places bank lines and other places makes an awful lot of economic sense, but those come on after you recognize that you're growing faster and lead times are longer.

Okay that helps and then Heather just.

Understanding that it is early in the year and Theres, a lot of moving parts, but but with the quarter and kind of your commentary you know trying to get my arms around maintaining kind of full year guidance, especially on the EBITDA line.

What you said was and I just want to confirm that there's still more kind of backfill of inventory to refilling. The stores that go in into Q2. It wasn't all done in just <unk> and also I think you had said that you could about 13.7% EBITDA margins had pricing already been put in place.

Fully a a January one so.

Is that all really just kind of wiped out by the the incremental Ukraine conflict costs or were we just being conservative to start the year.

So when we talked about the Q1 impact if pricing was was in the quarter and that is already reflected in our Q2 expectations of margin.

We did have an over delivery in gross margin versus expectations in the quarter and that you know we did have obviously a stronger growth in the quarter than for our our guidance implied and so that did flow through you know remember [noise].

Because we have the buffer capacity.

We have incremental revenue and you know the the cost the labor and overhead cost is already reflected in the in the numbers that we have and so you don't get it for free you still have to pay for the input cost, but it comes at a much higher margin and so that was a big part of the over delivery of gross margin in the quarter are the other.

Our up because we did build a little bit more inventory.

And so I'm on a on a full year basis. So the expectation of that pricing was built into of course, Q2 and beyond and I wouldn't say it you know there is obviously, where I wouldn't say from a we're being conservative in that you know we are looking at the impact that potentially will call me we're sitting on.

Our risk already with a as I mentioned in the script that with diesel fuel at $5 a gallon versus four so we're watching it closely there there's likely if we have to end up pricing going to be a price mismatch there like we had in Q1.

And so there is some risk in the future.

Sure I think the other thing that's important to note from an adjusted EBITDA perspective is that if in fact, you know there is an accelerating growth and an opportunity to over deliver for them.

Arjun perspective, Yeah, we would look to reinvest behind you don't having a fast start into 2023.

Okay, great. Thanks, so much bill can I, just add I want to say it again.

On that which is you're asking if we're being conservative we are I think as Heather indicated we are very mindful that we are we got blindsided by some things last year and we need to be very cautious in this early in the year. It's important for us to recognize there's been a lot of unknowns ahead of us whether it's diesel fuel or whether it's the price sensitivity or the things that we don't.

Even know about yet and so that's really what's driving us we feel really good about our start to the year, we like all of the underlying trends. We just don't want to get out ahead of ourselves again.

No. Thanks, I totally appreciate that.

Our next question comes from the line of Brian Holland with Cowen and company. You May proceed with your question.

Yeah. Thanks, good evening.

I wanted to ask you know when you're talking about revising our long term capacity plan I feel like on some level, whether it's lead times caused operational expertise technology, you've talked about a lot of these in one form or another.

I was curious about the competition angle, though.

You know I guess I asked this question two ways. One are you either aware of something new that's coming.

Within the last few months or are you seeing increased adoption of direct or indirect competitors that are that that maybe increases the sense of urgency you know you've talked about competition before I I I appreciate that but just you know.

I just wanted to sort of clarify the tone, there and what that sort of Intel.

Scott do you want to take that.

Yeah, Yeah sure so Brian I think the best comment that the Bill. He made a few minutes ago was every time, we build capacity, we grow more and I think that's really a key part of our focus when we're thinking about what we're doing when we look across there's a lot of activity.

The ton of activity going on more in the pet food category, then I feel like that I've ever seen I've been in a really long time when.

When we look across what competitors are doing I think it's really terrific, but we really are confident that we deliver a much more compelling portfolio of products brands forms variety.

Significantly better value proposition that every single one of them. In addition to having new and forward leading innovation. So I think we're looking at a group of people that are coming to the category that are going to raise awareness around fresh and frozen that's going to help us educate consumers and we think we're in by far the best position to take advantage of that consume.

<unk> change and that's really leading the way we're thinking about building building out the ability to meet the demand.

I appreciate the color Scott and then if I could just ask about the <unk>.

Rollout of Venice, and sort of a call out here on construction delays generally speaking and potential impact on them as you as you get towards opening up that facility things one.

How does that how do we think about that in the context of buffer capacity. It sounds like you're it sounds like you're not you know that there are some.

Possibility that that could get pushed out further.

You know does that eat up all the delayed start of endless does that eat up Oh, and then some of the buffer capacity I'm just trying to make sure I understand you know how much you sort of riding on and it's starting on time in the context of your full year outlook. Thanks.

Yeah, Brian that the buffer capacity and it did provide some of the buffer capacity.

And so any delays on N S do eat into the buffer capacity because we already have the staffing you know that's a that we're carrying the cost for that but what I'd also encourage you to think about is that all one is it's really a rolls issue than not necessarily the entire line, we really need the walls capacity in.

And in and it's to come online.

In order to keep that part of the business growing you've got plenty of bad capacity. This year. So if there is a mismatch on the roll side and the second part of it is we also have the ability to scale. It up much more quickly because I think as we said before most people know we brought the N S. A production team so the hourly labor or who we're going to be.

Starting up that facility to basketball and some of them been in Bethlehem since last June so they could learn and practice on the exact same equipment there that there'll be starting up in Texas. So we're gonna go from startup to a 24 seven operation very very quickly in that facility. So while there is you know the risk of any some sort of delay wants it.

Get going it goes really fast and so we feel very good about our or our ability to get things done once construction is completed.

Yeah.

Our next question comes from the line of Robert Moskow with Credit Suisse. You May proceed with your question.

Hi, Barry.

I mean, maybe you could clarify that that last comment a little further about what's in the assumption for buffer capacity and what's not.

Where are the inefficiencies at N S already contemplated in that 12 to 17 core is this new plan here incremental or different from what you thought a few months ago and therefore, it's going to eat into it and then my follow up is how.

Are you talking about relocating people like <unk> or like people, who were trained in Pennsylvania, you want them to move to Texas to work on on that line and you know this is a very tight labor market are asking people to move around might be complicated.

Let me take the second one then Heather I'll take the first one but the second one is we actually hired people and then its Texas, so native to that area or living in that area and we then transplanted them to Pennsylvania to be trained so we warehousing nam feeding them transporting them, while they worked in the fresh pet facilities in Bethlehem and they've been.

Phenomenal team to.

To have and a really really good effort and highly skilled people. So we will be returning them home in fact, we already sent a few folks back in the last week I guess it was and more will be returning later this month.

This is sending people back home not trying to transplant people from one from Pennsylvania back to Texas.

Do you want to take the first question.

Yeah. So.

So the buffer capacity the way to think about it it's actually spread quite evenly across the quarters of the year. It was large if you think about Q1 delivery we consumed about.

About half of it a little bit less than half of it due to some of the interruptions that we had and remember in January we had interruptions due to omnicom really shut down of old line for three weeks and then we also had the startup of our new ERP, where we took down production for a period of time until that happens it was.

Consumed via inefficiencies and then the other more than half of it came through in building of inventory and as well as the incremental sale. So when you look at spread fairly evenly over the phasing of it came down a little bit in Q3, and Q4 are they all grew quarter over quarter, and then increase back up with and it's coming on.

But again, the easiest way to think about it is fairly even across the four quarters.

Okay. So theres no change to the $12 million to $17 million estimate correct correct.

Okay, and then also I at this new plan does it require unwinding any capital that you've put into place or anything like that or is it really just like you're out of stages and gates and and this is the stage, where it makes sense to to to move in this direction.

This is exactly the right moment, where we are being forced to make decisions I think we had the likes of slightly undo a little bit of planning that we had done on and its when we decided to split it into phase two and phase III and put the rolls together in phase two we have already done a little bit of planning work, but it was no steel on the ground know concrete port or anything like that.

Other than that I think everything is pretty much gone. This was at the right moment to make the decision that frankly.

I described earlier in one of the questions that the rapid rate of growth and the extension of lead times created the need to do it but this was also the time to do it because of some of the significant choices were making in some of the investments we are about to make.

Okay last clarification, the 20% increase maybe you answered this already but in capacity is that all related to price or is there is it.

Half price half volume of.

So we what we did in telling you at 20% we took the old capacity plan and we updated it for the current pricing and then it's 20% more on top of that so the old plan was $2 1 billion and we rolled it up to 2.4 and towards 20% on top of the 2.4.

Alright, thank you.

Yeah.

Our next question comes from the line of Mark.

Mark Astrachan with Stifel. You May proceed with your question.

Yeah. Thanks afternoon, everyone I guess two two points of clarification, maybe on the new plan.

And maybe it's building off of one of the earlier questions. So.

Am I right in looking at this as a total the capex or what's already there and what's now planned is it not a couple of hundred million or so more than what it would have been previously so I guess, you know, yes or no around that and then you had touched on productivity relating to.

The new the new plan I'm curious what does that mean are there potential.

Cost savings in housing bags, and rolls kind of together it would seem sort of intuitive. That's the case do you also get some benefit in terms of revenue synergies from this as well in terms of the same sort of thinking like you don't have to obviously shut down lines to convert overdue other things that you were planning on doing.

So if you could touch on that and then I just had a follow up for Scott around.

How to think about the accelerating household penetration you know in terms of the more recent stuff is it a is it folks that are lapsed consumers, who couldn't find the product is it new consumers kind of coming in and finding fresh pet you know anything you've seen there would be helpful. Thank you.

Heather do you want take the first question.

Oh, sorry, alright.

Can you just sorry, I got in a little bit had a little bit of it.

Travel time hearing you could you just repeat a little bit of the first question he had apologies.

Yeah, I was just asking about trying to kind of go back in my model in and out of Capex in terms of everything from 'twenty, one and looking at what we had from 'twenty two on it would seem like it's a couple of hundred million or so more than what we had been expecting prior or is that a good way to think about it I guess through.

Assuming the work yeah, yeah, that's sort of way to think about it sorry about that yeah. So in 2022.

We had shared that we were going to spend approximately expected to spend approximately 300 million and that that's going to be approximately 400 million. So that's the first increase.

And then the subsequent years and the increase is about about.

300 million incremental for the future projects versus the prior plan.

So that's 400 homes.

Right right exactly got it okay.

Yep.

Got you I think the household penetration comp question, yeah, absolutely. So yeah. So we're just starting to turn the corner and we really believe that the majority of that has to do with just having product supply in it on a more steady rate than we've had what we find is that there are people that are.

<unk>, Barry either form specific or even down to the product the individual product level words SKU level specific the biggest group that we believe that we have kind of lost some of I used the occasional users over the past year they'll come if it's not there they're not going to they may not go to another store now the good news.

As of that group they are the easiest to come back in and they're the people that represent the least amount of volume. So we've been able to obviously grow significantly with just expanding household by rate basically so what we believe is happening and it's hard to tell exactly is that people are starting to come back and the occasional and we.

We are starting to add new users again into the into the business in the in the in our in our brands.

Think that once we're back in stock and a more consistent and steady basis and you add the advertising plus the innovation and we should be you know.

Nicely to seeing some household penetration growth the one caveat on all of that is it's.

It's very typical to see when you take a significant price increase that there was a short term dip and it looks like we've already turned from that dip and we're already kind of starting to build on the other side of it.

But you do see Youre going to turn some people off when you have a significant price increase but we are we believe we've already kind of turned from that dip as I mentioned.

Okay.

Our next question comes from the line of Jon Andersen with William Blair. You May proceed with your question.

Hi, good afternoon everybody.

Hello there.

My first question is on in stock levels.

You commented that.

You've made much improvement there.

Can you give us a little bit more detail around that where you think in stock levels are today.

What you would ultimately want in stock levels to be at sort of a sense for how much more room for improvement there may be in and I think you've commented on one area.

Where theres more room for improvement as pet specialty.

So a little more color around why that is and how quickly that can be remedied.

Got you want to take that.

Got it.

Oh, sorry, I was on mute sorry about that.

So John So we have seen some I would say very slow steady progress, where we've had kind of one step or two steps forward one step back at some times.

But you know you can see it in some of the data that in the presentation on slide nine when you look at production, but we go through an ERP conversion.

Little challenging not only to produce but it also sometimes challenging to get as many trucks out the door as we would like and we do see some hits and in product availability at retail. So we have made overall steady progress.

Our good fridge inventory more or conditions continue to improve other than for some small backward motions and but we have a long way to go I think we're probably a couple of months away from being where we would be really proud.

And happy to have very high service levels and really good in stocks at retail.

The best in stocks, we have right now are up to the up into the Ninety's, but for the most part we're still seeing into the Seventy's and Eighty's and pet we're seeing into the fifties and 60% in stock rates at retail so a lot of opportunity and and just having it there consistently for consumers builds.

<unk> and it also lets retailers get more and more comfortable with continuing to kind of move forward and expand out. So we're making progress. We have we have a ways to go we really have a ways to go at this point, but slow steady progress productions moving forward, we're getting more and more trucks out the door or we had a really significant record on the amount of cases, we get out the door last week.

So really nice work by the team there, but I would say we have a couple more months until we're in great shape.

In some ways. It makes the 43% revenue growth in the quarter, even more impressive.

Second question is on gross margin I think last quarter, you talked a little bit about that.

Hum puts and takes in gross margin throughout the year, I think Q2 stronger than Q1, given price pricing catching up with.

<unk> costs, but then maybe a little bit of a sequential decline.

Decline in Q3 with capacity coming online maybe Heather could you talk about your expectations for the.

It kind of the the movement or cadence of gross margin as we move through the year. Thanks.

Sure.

We've included an updated version of that chart in the presentation as well on slide 57, and so I'm not sure.

More on a prior question we did.

Deliver a slightly more favorable adjusted gross margin in Q1 than anticipated with the higher higher revenue as well as bit of an inventory build them and so they come out of Q I was a little bit of momentum.

<unk> said that you know the.

The big shift in Q2 comes from having a full quarter of the bigger price increase.

And so that's why we get the biggest impact in Q2, and we maintain that improved margin into Q3. It comes down slightly and that's really as we start up and is that the that the impact in Q3 and that brings down the margins slightly and then into Q4 and well you know what.

We have a plant startup add back that were explicit about once we start up. The line then we no longer add back once we had favorable product and so what you have is a very underutilized I'm you know facility and in lines that are starting up and so that's the impact which which the biggest impact will come in Q4.

Having said all of that as as I mentioned, a few of our fuel cost impact on them you know well. It's obviously our biggest impact is on outbound.

Logistics, we also are watching it closely around the impact to both inbound freight as well as our energy costs to run the facility and you know and of course natural gas being a key driver as well and so.

There is some near term impact that we're watching closely we you know as we've always said consistently we would look to price.

If we believe that things are gonna have are gonna stick and you know we're looking at that closely right now and so a bit more to come on where that impact might lie and how long that might lap them, but that's the cadence is.

Roughly the same as we shared with that just additional risk on fuel.

Our next question comes from the line of annoying.

J P. Morgan you May proceed with your question.

Hi, good afternoon, Okay.

Terrific.

A clarification question you you talked about.

Some occasional users may be slipping out.

Just curious you know what.

Do you have a sense of what percentage of the business is actually.

Copper users.

Those off season, or do you have any sense of maybe where theyre going instead.

Got you got you.

Can take that one yeah.

Yeah sure so.

When we get into the break I can tell you at an overall level on the business.

Our our heavy users represent about half of our total dollars today okay.

The occasional users are in the kind of 30% to 40% of our all of our all of our business and then the last group are very very occasional so there is a group of very occasionally that have left we don't have as much detail antefix as we'd like especially for short periods of time on this but it's we can.

Can see some of that kind of in the data. So it's hard to answer the exact specifications in exact detail around that.

To be quite quite transparent.

Understood.

Thank you for that.

And then my question is in your new Capex plan.

When do you target, having chicken processing facility operational and then does this change the way you'll be procuring chicken on a go forward basis I guess more broadly can you just provide more details on what you think the expected benefits and savings will be from having a chicken processing to Saudi onsite.

Yeah.

The reason for the chicken processing on site is actually to deliver higher quality, while it's likely it will give us some lower expenses because you don't have to transport. The product is much. The reality is we want to use the freshest chicken possible and so by having the processing operation on site at our loss.

Your site gives us the opportunity to bring in the chicken process. It and then feed it directly into our manufacturing operations.

Immediately or as quickly as we possibly can close close coupling the production of the <unk> or the processing the chicken and the production of the fresh pet that's really the driver we.

We don't have the ability or the room to do that in Bethlehem, Although the facility that does process or check in there's only about 20 miles away. So it is very very close.

And we're getting locally sourced chicken there, but we like this as an operating model.

Feel very good about that as an ongoing benefit we would do it for the quality the cost will be a an added benefit.

Our last question comes from the line of John Lawrence of Benchmark. You May proceed with your question.

Yes. Thank you.

Congratulations guys on the progress, but can you talk a little bit about the ERP system getting installed getting it up and running a would've been the positives and the negatives of the system at this point and what do you expect over the next couple of quarters.

Heather you can take that.

Yeah sure no. Thank you. So Ah we are we're lives exactly I don't need systems. So we're really thrilled about that it's a big milestone in that we believe converted to a new ERP system and to and so the scope of it was you know all our processes and our goal is to ensure that.

We could run our end to end business on the new system and we successfully are.

I would say the positives are coming out right now is really around production and I am really shared that are in.

And then in the prepared remarks, but the production is going quite well.

Got.

Expected.

Call it getting getting folks trained having the the change management done, but the the production floor is running really well in fact, they're running more favorably now than they were prior to the conversion and.

It was just you know a learning curve and we are we're running like I said the full end to end processes, we're still and as you'll see them you know in some of our working capital figures, you'll see a quarter on impact and in our working capital with the receivables number that is higher than we would expect just based on growth.

And that's a function of the ERP and having to get some of those you know sort of the process of invoicing and and you know all the way through on a timely basis, but again.

It's all growing pains.

But we do feel confident and good about the the being converted to the new system and and we're coming along quite nicely.

Great Thanks, and good luck.

Thank you.

Ladies and gentlemen, we have reached the end of today's question and answer session I would like to turn the call back over to Mr. Billy Cyr for closing remarks.

Thank you and our apologies to those who has questions we're not able to get to today. We're obviously on a very tight schedule with the the the news when we put out earlier today I'll leave you with one thought the author John Grogan said, such short little lives, our pets have to spend with us and they spend most of it waiting for us to come home each day.

I would add to that serve them fresh Pat when you arrive in all had been worked the way. Thank you very much we appreciate your interest and attention.

Yeah.

This concludes today's conference you may disconnect. Your lines at this time. Thank you for your participation during the rest of your day.

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