Freshpet, Inc. Q4 FY2020 Earnings Call

Greetings and welcome to Freshpet Inc.'s Fourth Quarter and Fiscal Year 2020 Earnings Call. All participants are currently in a listen-only mode, and a question-and-answer session will take place after the formal presentation. This conference is being recorded. I will now turn it over to your host, Jeff Sonnek from Investor Relations at ICR. You may begin.

Thank you. Good afternoon. And welcome to Freshpet’s fourth quarter 2020 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 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 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 on how management defines such non-GAAP measures. A reconciliation of the non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP and limitations associated with such non-GAAP measures. Finally, the company has produced a presentation that contains many of the key metrics that will be discussed on this call. The presentation can be found on the company’s Investor website. Management’s commentary will not specifically walk through the presentation on the call, but rather, it’s a summary of the results and guidance they will discuss today. Now, I’d like to turn the call over to Billy Cyr, Chief Executive Officer.

Thank you, Jeff, and good afternoon, everyone. I am speaking with you from Bethlehem, Pennsylvania, the home of the Freshpet Kitchens; and Scott; and Heather are in our offices in Secaucus, New Jersey. We will do our best to not trip over each other on the call and as always please excuse any barking in the background and any other technical issues we might encounter. It is hard to believe that one year ago we gathered with many of you at NASDAQ in New York City to outline our five-year strategic plan and what a year it was. I am so proud of our team’s resilience through these trying times. Fortunately, Freshpet was able to navigate the shifting environment, while still making significant progress against our long-term strategic goals. In fact, the last year, despite its numerous challenges, has seen an acceleration of our business progress towards our 2025 goals. As such, we are going to update those long-term goals to both reflect the fast start we had in 2020 and also to include the impact of some of our most recent learnings. But first, I want to go back to where I started on Investor Day presentation one year ago. In that presentation, I asserted that Freshpet had the potential to join the pantheon of iconic brands that changed the world, brands that change things we do every day and reflected significant changes in society’s values and priorities, brands that leverage technology to make the previously impossible possible or broadly available, brands like Nike, Starbucks, Gatorade, Netflix, and Apple. That may have seemed like a lofty ambition then, and to be clear, it remains a very lofty ambition today, but Freshpet is on that path, and accelerating. Freshpet is changing the way people feed their pets. That change reflects the fundamental shift in how society views both pets and food. Our pets are no longer creatures who sleep in dog houses, in backyards. They are the favorite child who sits in our beds and our food needs to be fresh and natural, not dehydrated and preserved. Those fundamental changes in society’s values and priorities are here to stay, and Freshpet will lead the transition to fresh and natural food for our pets. Like those other iconic brands that change the world, Freshpet is growing quickly from our infancy, towards juvenile and pre-professional peers, towards the teenage years, and then to adulthood. In many ways, Freshpet is like an 11-year-old boy who wears size 15 sneakers. He is growing really fast, and everyone expects him to be big, but along with that explosive growth, there can be some awkwardness. Our challenge is to do everything we can to achieve our enormous growth potential, while insulating ourselves from some of the bumps along the way. In pursuit of that goal, I think it is worthwhile to highlight a few of the critical achievements we had last year that demonstrate both our capability and the foundation that we are building to achieve even greater goals. Number one, we accelerated our growth for the fourth consecutive year, posting 30% net sales growth for full year 2020, and ended the year with 38% consumption growth in Q4. Number two, we increased our adjusted EBITDA growth rate for the third consecutive year, growing adjusted EBITDA by 61%. Third, we increased household penetration by 24%, reaching almost 4 million users for the first time and increased the buying rate by 7% at the same time. Number four, despite the retail challenges presented by COVID, we added 1,146 net new stores, and more importantly, installed double fridges in another 1,640 stores and upgraded 795 stores. Five, we doubled our installed production capacity and broke ground on a project that will result in a tripling of our capacity by the end of next year. Those capacity additions included completing the construction and startup of Kitchens 2.0, adding more than $200 million in new capacity with significant increases in automation and breaking grounds on Kitchens 3.0 in Ennis Texas. We also opened Kitchens South in conjunction with a long-term partner. And sixth, we increased our organization headcount from 450 to just under 600, including the hiring and onboarding of three important new leaders, Heather our CFO; Thembi Machaba, our SVP of HR; and Ricardo Moreno, our new VP of manufacturing. In each case, we were able to attract first-rate talent, because of the power of the Freshpet proposition and the opportunity to change the way people feed their pets. We got all this done while sheltering in place, working remotely, and devoting significant energy to protecting the safety of our team. I am incredibly proud of the number of people who stepped up and played critical leadership roles for our company when the situation required it. They demonstrated the quality that should give all of us confidence that we can overcome almost any obstacle and achieve great things. Like that rapidly growing teenager, I mentioned earlier, there were some awkward moments too. We struggled to keep up with demand and ended the year with nearly empty fridges in many stores. That means that we are spending the first quarter of 2021 digging out of a trade inventory hole we dug rather than putting our foot on the gas to grow faster. The good news is that we are making great progress against that. Since January 1st, our manufacturing output has grown and it is now averaging 26% more per day than during Q4 and it is accelerating. Other than the week of the winter storm, our production has outpaced consumption each week since January 1st, enabling us to steadily refill the trade inventory hole. It will take until mid to late April to refill the deficits, but our capability is growing quickly, and we are confident we have built sustainable capabilities that can support the near-term and long-term goals we have set for ourselves. To help manage consumer expectations around the empty fridges, Scott, as the Co-Founder and COO, has been posting letters to our consumers in social media, explaining the reasons for the empty fridges and outlining our efforts to refill them. The support we have gotten from consumers has been largely positive, not only for the efforts we are undertaking, but also for that transparency with which we are updating them and also the value we have been placing on employee safety in the face of COVID that has resulted in some of the out-of-stocks. He even told people that we are hiring, but we are only hiring people who are willing to work. They will be paid and treated well including stock grants and the same benefits he has. He provided them with a link to our hiring website. Consumers loved it, particularly the part about how we treat our employees. Consumers who have seen the social media post are even more attracted to Freshpet than ever before, because they realize we share their values, and this experience also highlights how our team moves quickly and innovatively to solve our most pressing challenges. The improvement in our supply position that began in January is due to exceptional work by our HR team at filling vacancies and recruiting incremental staffing to backfill behind employees who are out for testing or quarantine related to COVID. As we previously discussed, you will see some of the cost of this added labor in our adjusted gross margin early in 2021. But we believe that it is necessary to provide our consumers and customers with the pet food they need. Since we gave you a preview of our 2020 results earlier this year, when we presented at the ICR Conference, I will leave it to Heather to provide the final details on Q4 and the year. I will instead focus my comments on where we are going in 2021 and our longer-term goals. We have taken some time to analyze our 2020 results and all the consumer data we gathered during the year. In total, it presented a very encouraging picture of the long-term opportunity for Freshpet. When we met one year ago, we shared our plan to convert 5 million more households to Freshpet by the end of 2025, getting to 8 million households in total. As ambitious as that sounded a year ago, we are well ahead of schedule. In fact, we are almost one year ahead of the pace we needed to deliver 8 million households. What’s more, we did that despite pulling back on our advertising investment, spending only about 10% of sales, instead of our target of 12% and significant out-of-stocks that made it hard for consumers to find our products at times. If we simply continue to grow household penetration at the rate we have for the past two years or 24% for the next four years, we would exceed our 8 million household goal one year earlier and by a wide margin. Think about this in a different way; if we return to our pre-COVID era of customer acquisition cost of about $50 per consumer and invested in media at our traditional 11% to 12% of net sales rate, we believe we would also greatly exceed our 8 million household goal. This and other analysis prove to us that we could achieve a far higher share of the greater than 20 million total addressable market or TAM that we have outlined and do it at a faster clip. Further, while we have not rerun the study to determine if the TAM has grown, we believe it is highly likely that that TAM is larger today than it was when we ran the study more than a year ago. The number of millennials and Gen Z who have entered the household formation stage of life and acquired a dog is growing quickly, and they are our best prospects for future Freshpet users. We saw that powerful dynamic play out in 2020. We also shared some compelling buying rates cohort data at the January ICR Conference that demonstrated how our underlying buying rate grows over multiple years and ultimately reaches more than four times the year one purchase rate. That data was like the Rosetta Stone for us, unlocking an understanding of our long-term potential in a way that we could not have been able to do before. The combination of that household penetration growth and buying rate data convinced us that the market demand for Freshpet over a foreseeable timeframe was much bigger and could be realized much faster than our initial 2025 goals suggested. The only limiter to our ability to achieve that opportunity would be our ability to build capacity fast enough to satisfy demand. Given that, we spent much of the year working on ways to accelerate our capacity expansion. We did the following. First, we proved that we can construct and startup Kitchens 2.0 successfully, even under the severe limitations imposed by COVID. Second, Kitchens 2.0 also proved that we could create and operate higher throughput lines with more automation that drive better margins. That demonstration of our technical capability is an important proof point for us and the higher capacity of those lines is very encouraging. Third, we started up operations with a long-term partner at Kitchens South, initially installing one of our lines in a dedicated facility that they operate, and ultimately expanding that to a two-shift operation capable of producing about $50 million per year. We have since expanded that relationship by committing to install a second line. By the end of 2021, we will have $100 million of capacity operating at that partner and have proven the strength and durability of that partnership and are ready to expand it further to enable more rapid capacity expansion. Fourth, we broke ground on our biggest project yet, NS Phase I. We built and trained an entirely new team capable of designing that facility in conjunction with the Kitchens experts in Bethlehem and some long-term engineering partners, and we are on track to open that facility next year, initially bringing on at least $400 million in capacity and the ability to add the second phase that could add at least $500 million more. Fifth, we installed and are operating a smaller scale line that supports meaningful product innovation such as home sale creation meals. And sixth, we significantly advanced some new manufacturing technology that has the potential to produce more Freshpet and less space, potentially lowering our future capital costs and increasing the capacity of some of our existing facilities. To be clear, we are not ready to deploy that technology yet, but we are working to qualifies for NS Phase II and for a future project at Kitchens South that I will discuss in a minute. Even with all that capacity installed or under construction, we think we will need even more to satisfy the demand for Freshpet. We think the long-term opportunity for Freshpet is well north of $2 billion and that we will achieve more than our original goal of $1 billion in 2025. So today, we are announcing that we are raising our long-term goal from $1 billion in net sales in 2025 to $1.25 billion in 2025, and simultaneously increasing our household penetration target from 8 million households to at least 11 million households by 2025. Due to the rapid increase in new buyers we are anticipating, we are holding the anticipated buying rate at about $162 per household per year. We are also holding our adjusted EBITDA margin target at 25%, planning on investing the incremental G&A savings from added scale and incremental capability for growth, including international staffing and more R&D, plus some modest margin dilution from having increased production through our partner at Kitchens South. Our updated long-term plan would deliver CAGR through 2025 of 31% in net sales, 23% in household penetration and 7% in buying rate, all in line with our 2020 actual performance, which we achieved with less marketing investment, significant out of stocks and broad scale disruptions at retail. Basically, what we are saying is that we think that we have the tools and capability to repeat the performance we had in 2020 for the next four years. To deliver, we will need more capacity sooner, so we are taking the following actions to accomplish that. First, accelerating existing projects, these include, starting up our second line of Kitchens South in Q3 of this year rather than Q4; and secondly, pulling forward the startup of our Ennis facility by one quarter, targeting to open in Q2 of 2022 instead of Q3. We are now paying for extended construction hours to complete the project early and have sent the contract to get it done on time. Secondly, leveraging the capabilities of our partner to increase capacity faster; our partner has a deep engineering bench and has proven to be an effective partner over the past year. So we are developing plans to add the third line of Kitchens South that will enable some new product innovation and add significant capacity. Additionally, we have initiated discussions with them about adding another building with the capability to produce another $300 million of product and are targeting to have that ready by the beginning of 2023. Third, we are also increasing our estimate of the production capacity of the Ennis production lines to reflect the learnings we are getting in Kitchens 2.0 and some further upsizing of the equipment. Both phases of the Ennis project will include the technology we validated and Kitchens 2.0 with some selective increases in the capacity of some pieces of equipment. In total, this will allow us to increase the anticipated capacity from the first three lines in Ennis Phase 1 from $300 million that we had previously outlined to $400 million, and the four lines in Phase 2 from $400 million to $500 million. In total, we are building the capacity to deliver almost $2 billion in net sales by 2025, with some of it coming online sooner than previously planned to meet the accelerated near-term growth rate. To accomplish this goal while being mindful of balance sheet leverage, we may seek to raise equity as part of our financing plans. We filed a preliminary prospectus supplement today regarding a potential equity raise. The goal of this raise is to ensure that along with our recent credit facility amendment, which increases our available debt to $350 million, our balance sheet does not become a limiter. We are mindful of the total amount of capacity we are planning, so our plan does not call for us committing to the second phase of Ennis until early 2023. That phase is planned to deliver $500 million of capacity at a cost of about $100 million. Finally, let me turn my comments to 2021. In line with the long-term plan and the incremental manufacturing capacity we have available to us, our plan for 2021 calls for another increase in our growth rate going from 2020’s 30% growth to 35% growth in 2021, which results in net sales guidance of greater than $430 million. The growth rate will be a bit back loaded due to the delay in our advertising investment in Q1 and the time we need to rebuild trade inventories. But once those are in place, we will be investing heavily to drive growth. With U.S. advertising returning to 12% of net sales for the year and including slightly more of the U.S. media in the back half versus the first half. This cadence is unusual for us, but it is necessary with the trade inventory hole we are trying to fill first. That spending pattern will also create significant momentum for the business at the end of the year and that is in part why we are pulling the Ennis project forward and adding a third line of Kitchens South that will ensure that we have adequate capacity as we enter 2022. We believe that many of our leading customers will be matching that growth and investment with incremental stores and second fridges both later this year and early in 2022. However, both we and our customers will delay some new fridge installations until we can guarantee that we can supply them reliably. Thus, our near-term store additions will be reduced, but the longer-term store additions and upgrades will be very robust. In total, we expect to add greater than 1,000 net new stores, upgrade greater than 500 stores, and add second and third fridges in greater than 550 stores this year and significantly more next year. We believe the incremental advertising investment and the modest overhang from new capacity will cause the adjusted EBITDA margin to dip temporarily this year before resuming its upward trend in 2022. Underpinning that margin acceleration are two primary drivers, continued improvement in G&A, which we believe will improve by approximately 220 basis points in 2021, and a resurgence in adjusted gross margin as we work through 2021. We believe we will end the fourth quarter of 2021 at a rate higher than we achieved for full year 2020. We have a solid portfolio of new products we are launching this year. We are adding a brief version to a wildly successful small dog product, launching our flagship Fresh From the Kitchen product in the U.K., and launching a test of a plant-based product in limited distribution in the United States. In total, I believe we have a compelling plan for 2021 and are very well-positioned to continue accelerating the growth for Freshpet. Our team has demonstrated incredible capability doing some of the most challenging circumstances. We are inspired by our mission to change the way people nourish their pets and greatly appreciate all the support we have gotten from consumers, customers, and shareholders, while we manage our way through those challenging circumstances. Equally importantly, we appreciate the support of our team, many of whom worked long hours, short staffing, or remotely to deliver for our consumers. In particular, I cannot say enough good things about the leaders within our team who took on the responsibility for keeping our team safe. They inspired confidence, demonstrated supreme professionalism and navigated uncertain waters with the vision, determination, and flexibility needed to get us through the storm we all faced. All of this owes them a bit of gratitude. Thank you. Now, let me turn it over to Heather to provide more detail on our 2020 results and our guidance for 2021.

Thank you, Billy, and good afternoon, everyone. As we previously mentioned, net sales for Q4 of 2020 were $84.5 million, an increase of 29% compared to last year. Nielsen Mega-Channel consumption rose by 38%, prompting us to reduce trade inventory in Q4. We also faced challenges due to a significant snowstorm in mid-December, which resulted in lost production and shipping time with little opportunity to make up for it before year-end. Consequently, we estimate that trade inventories were $15 million lower than expected at the end of the quarter. As Billy mentioned, we started restocking these in January and anticipate that we will have largely replenished trade inventory by the end of April. One of the most exciting aspects of our growth in Q4 was the continued revival of the pet specialty channel, supported by strategic actions from our teams and customers as well as general positive trends for that channel. Nielsen Big-Box Pet Specialty consumption increased by 42% in Q4, leading all channels, and continued to accelerate towards the end of the quarter. In Q1 of 2021 so far, it's up over 55%, despite facing some stock shortages. We are optimistic about this progress and confident about their outlook for 2021. Total net sales for 2020 reached $318.8 million, a 30% increase from last year, marking our fourth consecutive year of accelerating growth. This achievement is significant for our organization, and we plan to carry this momentum into 2021 with the aim of further increasing our growth rate. We view this process as progressing step-by-step and gradually enhancing our ability to stimulate additional demand while also improving our supply. Adjusted EBITDA for Q4 was $12.9 million, a 2% decline from last year. As a reminder, we invested in media for the first time this quarter, which contributed to the flat adjusted EBITDA. Media spending for this quarter was around $5 million compared to about $2 million in the same quarter last year. The primary challenge we faced was with gross margin. Production disruptions from staffing shortages related to COVID testing and quarantines, coupled with rising beef prices, led to an adjusted gross margin of 45.8%, in line with the expectations set at ICR. The full-year adjusted gross margin was 48.3%, also meeting our previously stated expectations at ICR. We expect to begin realizing some benefits from our more efficient, automated production at our Kitchens 2.0 facility in late 2021, as I will explain shortly. We achieved continued improvements in G&A, with a 130 basis points reduction in adjusted SG&A after excluding media investment in the quarter. For the year, we achieved a 120 basis points improvement. 2020 also represents a significant milestone regarding our long-term objectives. Reflecting on our Feed the Growth Plan launched in 2016, we aimed to achieve a 700 basis points improvement in adjusted SG&A excluding media by 2020. We surpassed this target, achieving 780 basis points over the four years. This success reinforces our confidence in our 2025 goal of achieving 1,000 basis points of SG&A savings excluding media. We understand how to execute this and have the discipline needed to follow through, while still possessing considerable leverage within our current cost structure. Our final adjusted EBITDA for 2020 was $46.9 million, a 61% increase from the prior year, aligning with the guidance we provided in May and slightly surpassing the revised guidance from ICR. Our net cash flow from operations for Q4 was $8.1 million, and for the year, we generated $21.2 million. Regarding our revised long-term target, Billy discussed the increase in the net sales goal to $1.25 billion in 2025 and the reasoning behind it, so I won't elaborate on that, other than to note that this goal is based on our evaluation of the U.S. market opportunity. We remain dedicated to growing our cat food business and expanding our international presence, although we haven't anticipated significant growth in these areas in our new goals. For our 2025 plan, we are maintaining the adjusted EBITDA margin target at 25%, consistent with our previous commitment, as we expect to invest in expanding our European organization and additional R&D to support our overall business. We see substantial growth potential in both areas and desire the flexibility to allocate resources accordingly. Additionally, we plan to enhance capacity by utilizing the technical expertise and resources of our partner at Kitchens South, which we view as crucial for growth. However, this will impact our margins in the short term. The capital expenditure plans that align with our growth ambitions are detailed in the investor deck we released today, highlighting key projects. One, we will advance the startup of Ennis, which will incur an extra $20 million expense and will commence one quarter early in Q2 of 2022. Two, we are incorporating on-site chicken processing into the Ennis project to enhance both quality and cost efficiency for our primary ingredient. We will construct and own the building while a third-party chicken processor operates it, providing fresh chicken to our facility with no additional transport costs and shortly after processing. Fresher chicken will yield higher quality at a lower cost for us. Third, the Kitchens South expansion project will be executed in two phases. The first phase will include enhancements to our initial plan for one additional line, expanding it to a total of two additional lines, which will add around $150 million in net sales capacity. The second phase involves adding another $300 million in net sales capacity with a similar structure to the first phase, where they build their own facility, and we own the equipment. They will have a dedicated team to operate the building. We estimate that this project will cost about $100 million and be ready for production in 2023. This updated plan around capacity and capital investments underscores our focus on promoting positive free cash flow in the long term. Our business has generated positive operating cash flow in recent years as we scaled. Importantly, we are on the verge of achieving free cash flow, excluding the new capacity investments we laid out today. However, due to the significant growth opportunities in front of us, we will be making substantial investments over the next two years. Consequently, we anticipate a temporary constraint on free cash flow until we reach 2023. After that, we expect free cash flow to turn positive and continue increasing as we approach our 2025 goal of reaching 11 million households. Moving on to our guidance for 2021, we plan to accelerate our growth again this year. With considerable new capacity now available, we intend to raise our advertising investment to a normalized level of about 12% of net sales, up from approximately 10% in 2020, to stimulate accelerated growth. We expect to achieve more than $413 million in net sales for 2021, a 35% increase compared to last year. Growth is likely to be strongest in the first, third, and fourth quarters as we replenish trade inventory in Q1 and fully capitalize on the additional capacity and increased marketing investments in the latter half of the year. Q2 will face strong comparisons, as we replenished trade inventory last year, and our delayed marketing kickoff this year will mean more growth in the back half of the year. We will continue investing in our international businesses to maintain the momentum from our advertising spend last year. Our businesses in Canada and the U.K. are experiencing rapid growth, although starting from a small base. This growth has generated significant interest from our customers and expanded Freshpet distribution, precisely as we aimed to achieve. As we've mentioned repeatedly, this is a multi-year process of investing in advertising to boost sales velocity that drives distribution growth, allowing us to invest more in advertising. The outcome is a strong base of support from customers and loyal consumers, alongside a rapidly expanding consumer franchise and retail presence. This model is effective, and it's working. We anticipate our adjusted gross margin to remain flat on a year-over-year basis as we begin the year lower due to increased staffing costs, with expectations of improvement throughout the year as we gain volume to offset these costs. We foresee modest increases in commodity costs, primarily early in the year, with overall costs remaining generally stable. We expect to maintain our chicken costs flat compared to the previous year. Furthermore, we anticipate ongoing improvements in SG&A excluding media, aiming for another greater than 200 basis points reduction on our trajectory towards our 1,000 basis points target by 2025. To facilitate operational improvements and support our business scale, we are planning an ERP upgrade set for October 1, 2021. We expect some inflation in freight costs this year, which is accounted for in our guidance. We forecast adjusted EBITDA for the year to exceed $61 million, with an adjusted EBITDA margin experiencing a slight dip this year due to increased advertising investments aimed at achieving higher growth rates and the impact of freight inflation. In 2021, we also anticipate generating sustained positive net cash from operations. In summary, our guidance for 2021 includes net sales exceeding $430 million, reflecting a 35% increase from the previous year, and adjusted EBITDA above $61 million, which is a 30% rise compared to last year. While our liquidity remains robust, we have amended and expanded our credit agreement to incorporate a delayed draw term loan of up to $300 million and a $50 million revolving credit facility. We will also consider one or more equity raises based on market conditions and other factors to fund our accelerated growth plans without straining our balance sheet. Many of our largest and longest-tenured shareholders have expressed that they believe the long-term opportunity for Freshpet is significant enough to warrant avoiding any short-term risks, thus preferring we maintain low leverage. Our strategy supports this objective, targeting approximately two times leverage, with a maximum of 3.5 times. We feel well-prepared to manage potential market risks or disruptions and are in a strong position to fully capitalize on the Freshpet opportunity. In 2021, we expect capital expenditures to total around $380 million.

In closing, we are incredibly excited by the opportunity in front of us. If anything, 2020 has shown us the strength and resilience of our team under very challenging circumstances, and in its own strange way galvanized our organization to deliver even greater results as we look to our revised 2025 plan. We believe we have a winning consumer proposition and the tools to deliver it to consumers. We have a deep pipeline of innovations being readied for the market. The strength of our marketing team and programs have never been better and our customers recognize the opportunity that Freshpet presents. We believe that is a recipe for significant success and we are ready to achieve it. That concludes our overview. We will now be glad to take your questions.

And our first question is from Bryan Spillane with Bank of America Merrill Lynch. Please proceed with your question.

Thank you, Operator, and good afternoon, everyone. I have a high-level question for you, Billy. We've received this query a few times since ICR. Now that you have updated the long-term projection, how much of the acceleration do you think is due to COVID? Specifically, did COVID pull some sales forward? How can you be confident that this isn't merely a pull forward, but rather an actual acceleration and expansion of the trends you anticipated a year ago?

That's a great question, Bryan. 2020 had its ups and downs. On the positive side, people spent more time with their dogs and became more attentive to their needs. We also benefited from lower-cost media. However, we faced significant challenges that likely balanced out those positives. Capacity limits, retail disruptions, and delays in receiving fridges earlier in the year affected us, along with the need to postpone advertising. In summing it all up, we concluded that 2020 may have accelerated underlying trends rather than starting new ones, and we expect this strong trend to continue. Many have noted that 2020 fast-tracked existing trends, and recognizing this allowed us to see even greater potential for growth. In our investor presentation, we modeled various scenarios to ensure that what we observed wasn't just a fleeting effect but indicated a long-term trend. This understanding led us to raise our guidance.

Hey. Great. Thanks, Billy. And then just maybe just one follow-up quick one; the $430 million or better of revenue for this year and maybe I missed this in the presentation, but you have the capacity in place today to deliver that or is that dependent on more production capacity coming online during the year?

All the equipment needed for delivery is installed; we are currently focused on staffing. We have included a chart in the investor presentation that outlines the staffing additions we are making by quarter, which will enable us to meet our delivery goals. You can expect to see these capabilities develop quarter by quarter. We had a strong start to the year, producing very well in January. If we could just get past the snowstorm that has been causing delays, our progress would be even better. We expect to see an increase in our staffing capacity in March, followed by another increase in the second quarter. As the year progresses, we will continue to add staff, and all necessary equipment is already in place to get us where we want to be. We have additional equipment coming online soon, including a new line at Kitchens South in the second half of the year, which is intended to support our high production rate, especially in the fourth quarter.

All right. Terrific. Thanks, Billy.

And our next question is from Peter Benedict with Baird. Please proceed with your question.

Hi, everyone. Thank you. I have two quick questions. First, Billy, you mentioned the $50 customer acquisition cost and the long-term plan to address it. Can you provide some insight into the factors that could either reduce that number over time or how you view it? Second, regarding the pet specialty channel, you mentioned some positive actions taken by your partners. I'm curious about what's driving the relevance of the pet specialty space again. Thank you.

Sure. I’d like to comment on customer acquisition costs, and Scott will provide additional details regarding that and the pet specialty channel. The $50 figure reflects a long-term trend, but we have consistently operated below that level. To reference Bryan's earlier inquiry, our customer acquisition cost in 2020 was much lower, and our future modeling does not predict that. It suggests that if we maintain the $50 benchmark we have previously achieved, we would still significantly surpass our goal. This is part of a long-term trend. However, Scott will elaborate on the factors that can improve or worsen this situation, and I will also discuss pet specialty.

We have observed a significant variation in our acquisition costs this year, continuing from an exceptional year where media efforts far exceeded our expectations. Over time, the key factors affecting our consumer acquisition costs revolve around how much innovation we have and the visibility of our fridges. When we introduce appealing innovations and have fridges that are highly visible or in additional locations, it effectively reduces our consumer acquisition costs. Historically, we anticipated acquisition costs to rise, but we’ve actually seen them decrease over the last few years. This can be attributed to our increasing visibility and familiarity among consumers with Freshpet food, along with a growing awareness of nutrition that is now impacting pet care. From the perspective of pet specialty retailers, the major players have made notable improvements in their overall operations and have partnered closely with us. They’ve positioned our fridges in prominent locations and added extra fridges in some areas, along with some successful innovations on our part. The combined effect of evolving consumer trends during the COVID pandemic has been beneficial, and we have enjoyed good placement and the addition of incremental fridges in these retail channels.

Okay. Great. Thank you very much.

Thanks, Peter.

Our next question is from Bill Chappell with Truist Securities. Please proceed with your question.

Thanks. Good afternoon.

Hey, there.

Hey. Can you help me understand the postponement of second fridge doors and doors in general this year? Is this a result of taking a step back and rethinking the capacity expansion, leading to a pause and a change in the pace? Are there near-term issues with snow? I'm trying to determine if this indicates slower growth until those doors are operational and what the reasoning is behind that decision.

Bill, from a decision perspective, the decision is just we have to be able to supply the fridges that are out there and customers as you might imagine have been seeing short shipping for quite some time and so it’s not prudent for us to be putting incremental fridges in stores if they can’t be stocked. The long-term interest in second and third fridges is incredibly high and the gains that we are getting from them are incredibly strong. So the demand for them is very, very strong. We have no doubt that there will be significant interest in it. We just need to make sure that when we put them out there that they can be well-stocked in fact their customers have the same concern too. They don’t want us to put in something that they can’t reallocate the space in the fridge to something else when we can’t supply. So we need to get the supply up. But by the end of April, we should be in pretty good shape on our shipments and at that point, you can start seeing people doing more normalized activity, but they are want to be comfortable that it’s working.

Hey, Bill. Let me quickly provide the numbers. When we introduce second fridges, we are currently experiencing around 30% growth. We see an additional 20% to 40% incremental growth from the second fridge. The returns remain strong for both us and the retailers, and this trend is continuing into the second year. We're noticing a positive trend. However, we did slow down the rollout of some second fridges earlier this year, and several retailers are postponing significant changes until later in the year. They’re also not implementing as much in-store activity this year due to the current market conditions. This situation could change, as we experienced some unexpected positive developments toward the end of last year, but we prefer not to speculate on that.

Got it. And I guess on that same note as a follow-up, the 30% growth in 2020 is great, obviously very impressive. Any gauge now looking back for the full year of how much was left on the table in terms of. Had you not had capacity constraints? What that growth could have been, especially as we are looking to 2021, where you should be at full capacity for most of the year. That 35% growth doesn’t seem that aggressive, if you less 5 points, 6 points on the table last year. So any color around it would be great? Thanks.

Yeah. It’s always hard to Bill to decide how much you really lost. I would say we recorded was at the end of the year, the trade inventories were down by $15 million versus where we thought they would be against the base of sales, that’s somewhere around 3 points or 4 points. So you could say pretty confident there would have been 3 points or 4 points for that. Now how much you want because a consumer walking in the store couldn’t find it and they had to buy something else or a new consumer who came to your fridge based on haven’t seen your ads and showed up and there is nothing in the fridge or not the item they wanted. We really didn’t do any modeling to figure out what that could be. But if you are telling us that having 35% growth is sandbagged, it’s a little bit conservative. I would tell you we are very mindful of the fact that we need to run it as Heather said, walk before you run, run before you sprint, we want to kind of amp up the growth as we go along and make sure we can supply it.

And one other factor...

Sure.

One other factor on that too Bill is that, the entire year we kept canceling more and more and more media in addition to us not having our product. So if he had spent the media plus all the factors in place, we are encouraged that we could be seeing some pretty significant growth rates.

Got it. Thanks so much.

Thanks, Bill.

And our next question is from Brian Holland with D.A. Davidson. Please proceed with your question.

Yeah. Thanks. Good evening. Do we continue to assume media will be 12% of sales through 2025 and just if I could throw on top of that, given the increased flexibility by added capacity, could that go higher?

As we have always mentioned, when we have capacity, our goal is to utilize it fully. The plan we have established allows us to be consistently ahead of demand. Once we increase our capacity incrementally to align with demand, it helps us avoid any supply shortages. We intend to allocate 12% of sales for this purpose between now and 2025. The key question will be whether this investment will yield sufficient returns to justify using more of our capacity, which is why we are focused on building additional capacity to prevent supply issues.

Okay. Fair enough. And then you have got a share of this segment of the pet food category and one that has to be increasingly difficult for the larger players to ignore. So as you guide out to 2025, and made plans that capacity accordingly.

It is clearly a factor. I have seen many studies on what happens when a category creator faces a challenger. Much depends on the nature of the challenger and their approach. Do they introduce a knockoff at a competitive price? Do they offer a more premium product? Do they focus on price? Typically, when a second player enters the market, it greatly accelerates growth and expands the market size. Therefore, while your market share may decrease, the total opportunity available to you can be quite substantial. We fully anticipate that at some point we will have a competitor; it is natural and something we should expect. We believe that this will make the category more competitive rather than diminish our business opportunities.

I appreciate the color. Best of luck.

And our next question is from Mark Astrachan with Stifel. Please proceed with your question.

Thanks, and good afternoon, everyone. I wanted to ask maybe a different way on the new store adds. I guess I was a little bit surprised that you are talking only 1,000 stores or so. And I wanted to ask kind of specifically about how the discussions are going on with some of those retailers like Wal-Mart, Kroger or Costco, where you are under store relative to where you could be and where you are in places like Target. So how has the out of stock situation manifested itself with some of those? How do you think about the out of stock effect broadly, obviously some of your retailers have also put stickers on doors to say hey there are alternative products elsewhere? Maybe just enlighten us a bit on some of those discussions with the legacy retailers and I could just add a sort of related point to that. What are your expectations embedded for non-traditional retail meaning like 2E or Amazon within the base?

Scott, do you want to take that?

Mark, it’s definitely not ideal when we can't meet the demand of both consumers and our customers, and I understand it frustrates them. However, looking at the broader picture, especially over the past year, the challenges have been significant. People have generally been quite understanding and have remained good partners, which likely stems from the trust we've built through years of transparency. On the flip side, they do appreciate the growth and margins we’ve provided, and there is an expectation for us to improve our stock levels so they can serve their consumers effectively. We've communicated our plans extensively in meetings, and the feedback has been positive as they recognize our long-term vision and growth potential. While there's some short-term discomfort, they see it as a temporary situation rather than a long-term issue.

That’s helpful. And then just on the non-retailers, the Internet e-commerce piece, how you are thinking...

Yeah. And I think there is actually a page in the deck that talked about e-comm. It’s actually page 12, I believe. Although we have had a lot of success with what we have done from an e-comm perspective, we understand really, really well how to invest, how to grow, what the productivity is versus our traditional advertising. We are actually getting better returns on the e-comm advertising than the traditional advertising. That encourages us to spend more in that area. So we will be spending more and we will have significant incremental partners that will be adding from an e-commerce standpoint over this next year.

Thank you.

And our next question is from Jon Andersen with William Blair. Please proceed with your question.

Hey. Good afternoon, everybody.

Good afternoon.

A couple of quick ones, one, just related to the out of stock situation, how do you think, what has been the feedback from your customers? Billy you talked about empty fridges. Do you think there are longer-term ramifications from that? Have you seen users maybe kind of fall out of the franchise that will be hard to bring back? Just some thoughts on that based on the interactions you have had with customers? And then the second question is just around your kind of view of the new product lineup for 2021 in characterizing it, maybe relative to some of the innovations that you have done over the past couple of years? Thanks.

Yeah. I will let Scott take those.

Let me discuss innovation first. It's interesting because many might wonder why we focus on innovation with growth rates of 20%, 25%, 30%, or even 40%. However, as Billy mentioned earlier, we believe that at some point, consumers will want to enter this category. Our goal is to offer the best products imaginable and really establish a strong presence in the market. Innovation is not just a side project for us; we have consistently shown that the majority of our innovations—over 80%—remain relevant for many years. This greatly contributes not only to enhancing our advertising but also to our overall sales growth and the expansion of our business over time. We see innovation as essential. We aim to improve our existing products, introduce new varieties and flavors, and enhance certain technologies. Additionally, we are dedicated to truly reinventing our product line, such as the new plant-based meals we are developing and our efforts with the Nature’s Fresh brand and Home Stop brand, which focus on sustainability. Regarding out-of-stock situations, it’s been a challenging yet interesting issue over the past decade, with various obstacles affecting our business, from production to packaging. Despite these challenges, consumers have shown remarkable resilience. While I wish we could completely eliminate out-of-stock issues—I can’t express how frustrating it is when I see consumer dissatisfaction—many comments from our customers show that they are eager for our products to return to shelves. We are doing everything possible to expedite product availability without compromises. Although the current situation might be a temporary setback, I believe we have the best offerings in the pet food industry. Consumers will return to our brand, and we will continue along our growth path.

Thank you. Good luck.

Our next question is from Ken Goldman with J.P. Morgan. Please proceed with your question.

Hi. Can you hear me now?

Yeah.

Yeah. Yes. We can.

Okay. You actually got a long story, not yet though. Hey, guys. So you are almost two-thirds of the way through the first quarter. The street’s modeling a little over $90 million in sales and about $10 million in EBITDA, how close are those to kind of what your expectations are for the quarter, if you can give us a little bit of a ballpark there?

We typically avoid providing quarterly guidance, but based on our overall outlook, we anticipate Q1 to be a strong quarter. Although there has been a delay in the advertising startup, we are addressing the trade inventory gap, which should contribute to a robust performance. For Q2, we face a challenging comparison to last year since that was when we restocked trade inventory and this year's advertising delay will hinder our consumption growth. Therefore, Q2 is likely to be our weakest quarter. However, we expect Q3 and Q4 to be very strong due to the advertising investments we are making starting in Q2, which should yield significant results in the latter half of the year. While we are not providing specific quarterly guidance, we do expect a positive start in terms of revenue. Regarding profitability, there is a slight delay in our advertising investment, and we will also incur higher costs due to increased staffing to ensure we meet our production needs despite challenges like testing, quarantine, or weather-related disruptions.

I have another one, so I will let it go. Thank you.

All right. Thanks Ken.

We have reached the end of the question-and-answer session, and I will now turn the call over to CEO, Billy Cyr, for closing remarks.

Thank you, everyone. Sorry, we had to cut you short today. Unfortunately, as you can imagine with all the things we have going on, it has been a very hectic day. But I did want to close with one thought for you, Lou Saban, the football coach said, no matter how little money and how few possessions you own, having a dog makes you rich, to which I would add, feed your dog Freshpet and you can call it even. Thank you very much for your interest and attention. We appreciate it.

This concludes today’s conference and you may disconnect your lines at this time. Thank you for your participation.