Freshpet, Inc. (FRPT) Earnings Call Transcript & Summary

We make our way to our seats, we're ready for our next presenter, which is Freshpet. They're here today making their first appearance at CAGNY. Freshpet is a pioneer was a pioneer in introducing the idea of fresh food to pet owners and are a force at mainstreaming the concept. They are now focused on scaling the model to generate growth and returns while staying true to its mission of strengthening the bond between pets and owners. With us today are CEO, Billy Cyr; CFO, Todd Cunfer, Billy, I'll turn it over to you to get us kicked off.

Great. Thank you, Brian. Thank you, everyone. If my read of the agenda for this event is right, we're the smallest company that will be presenting here. And so I particularly appreciate the size of the audience and your time and attention while we take you through our story. As with everyone else, we have our standard safe harbor statement with all the warnings. This is available on our investor website for those of you who are interested. As Brian said, I'm Billy Cyr, and I'm the CEO of Freshpet. I'm particularly happy to have Todd Cunfer here to join me today. Todd joined us as our CFO on December 1, and after a very successful 5-year stint as the CFO of Simply Good Foods. Prior to that, he spent the better part of 2 decades at The Hershey Company. I can't tell you how much we appreciate having Todd join our team and provide added strength in the finance area. I also want to introduce you to one other character, and that is my boss. Her name is [ Appa ], and she's a 4-year-old samoyed, and she's the fourth samoyed that my wife and I have had since we got married 35 years ago. I always start here because it's really important to remind people of what our mission and our purpose is. We are about strengthening the bond between pets and people, so they all live happier and healthier lives and that we do it by being kind to the planet. I joined Freshpet 6 years ago. I spent the first 19 years in my career at P&G in the food business, the old food business that P&G had. I spent 11 years as the CEO of a private equity-backed beverage company, and then I joined Freshpet. The reason I joined Freshpet was because I saw the opportunity to change the industry for the good. When I joined Freshpet, it was about $125 million in net sales, but the team that I joined and I all knew that Freshpet has the potential to be something significantly more than that. The brand architecture, the quality of the product, the strength of the business model, justified Freshpet being the future of pet food, and we had to find a way to deliver that. In February 2017, so about 6 years ago today, we launched our plan to achieve that vision. Our plan was called Feed the Growth, and it recognized a couple of important strategic aspects of the business. At the time, Freshpet was the best product than anyone had ever heard of. It was also true that we had a significant head start. The business had been spent 10 years toiling, trying to figure out exactly how to make the model work. It also is a business that has huge benefits and advantages that come from scale. So our Feed the Growth plan that we launched in February 2017 was designed to accelerate our growth to maximize our head start and our competitive advantage and the first-mover advantage that we had and to build scale in a scale-driven business as fast as we possibly could. I can stand here 6 years later and tell you that we've had 6 consecutive years of accelerating growth. That first year, our growth was 17%. We'll give you our final results for 2022, the sixth year in that cycle, on Monday morning when we result -- provide our final results for 2022. But what I can tell you is we guided to greater than 35% net sales growth, and it will be our sixth consecutive year of accelerating growth. So we feel really good about what we've accomplished. But today's talk is not about that. Today's talk is about change. I'm going to talk to you about how Freshpet is changing the pet food category. How the evolution of pet food needs to continue to evolve and change and you need to adapt and Freshpet is at very first adaptation in pet food in a long time. But I'm also going to tell you about how we need to change. What it is that we need to do differently than what we've been doing, and we can show you how we can adapt. So when you start talking about change and evolution and adaptation, it helps to go to the authority, Charles Darwin. Darwin said, it's not the strongest in the species that survives nor the most intelligent that survives. It is the one that is most adaptable to change. It's pretty obvious that we're not the biggest pet food company. We're not the strongest pet food company. We're not the smartest pet food company. What I hope to prove to you is that we're the most adaptable, that our track record of success is a testament to the adaptations that our founders brought to this business and got us to where we are today and that we will adapt to the current situation and circumstances and thrive in the future because we're really good at adaptation. If you think about what adaptation is and what long-term impact it can have, it's nice to start close to home. 15,000 years ago, there were about 2 million Gray Wolves on this planet, and there were virtually no dogs. Most of you probably know that the dog evolved from the Gray Wolf. But there were no dogs about 15,000 years ago. Fast forward to today, there are about 800 million dogs in this planet and only about 0.25 million Gray Wolves. The dog was that adaptation that change that thrives and succeeded and the Gray Wolf didn't change, and the Gray Wolf has shrunk. Dog succeeded and thrived because of their connection to humans who came to dominate this planet. Dogs has the ability to connect with humans in a way that Gray Wolves didn't. They understood their speech. They socialized with them. They need eye contact with them. Dogs had its ability to become the human partner through evolution. So generations ago, dogs were providing protection for our camp sites, they were herding our sheep and they were hunting our game. Dogs continue to evolve as we evolve. Today, dogs are providing visual assistance to the blind. They're alerting us to epileptic seizures before they happen. They are providing therapy and comfort to those in emotional distress and they're protecting us by sniffing out bombs and drugs. Dogs have evolved and have been our partner as we have changed over the centuries. They are truly our human partner. The problem is -- the pet food companies stopped evolving to reflect that changing role that pets have, the big food companies basically create the environment that why Freshpet exists today. They stopped evolving in 1956, which is when kibble was invented. Back in 1956, if you had a dog, it was sleeping in a doghouse in your backyard with a chain-link fence around it and a chain attached to its collar. Today, if you have a dog, it's sleeping in your bed or in a custom bed that you bought for it, that has its name embroidered in the side. The pet food looks like it did in 1956. It doesn't look like the relationship we have today. The pet food looks like this. It looks like cans, not fresh. It looks like dry kibble not fresh and refrigerated food like we feed to the rest of our family. I hear pet food family food companies talking about feed them like family. I ask a show hands, how many of you have eaten canned dog food? How many of you have you eaten kibble? The food has stopped evolving. Freshpet is that at adaptation. It's the first adaptation or significant adaptation since 1956. This is what Freshpet looked like when it was launched in 2006. Today, we have a broad line that includes rolls, meatballs, shredded meat, home cooked meals and patties. These are a broad array of products that can meet a wide range of needs. So if you have a Chihuahua or Bernese Mountain Dog, we have an offering for you. Change happens slowly. But in evolution, the inexorable march of change cannot be seen sometimes on a day-to-day basis, but if you take a long look back, you can see it. When Freshpet was first launched, it was probably not even noticed. And if it was, it was probably laughed at. But if you look back 5 years, Freshpet has gone from being i 18,000 stores to more than 25,000 stores today. Retailers don't give you shelf space, especially 4 foot-wide shelf space in a fridge, unless they recognize that there are shoppers who want to buy that product. And not only are we now in 25,000 stores, we have 29,000 fridges because some of those retailers have chosen to put Freshpet -- put multiple fridges in the same store, 2 and 3 fridges. There are over 3,000 stores that have Freshpet in 2 or 3 fridges in the store. The size of our consumer franchise is growing dramatically. 4.5 million households according to Numerator in 2018, and now we're at 9.8 million households today. 120% growth. Those households were buying an average of $55.50 5 years ago, today, they're buying $85 worth of Freshpet per year. Our net sales 5 years ago were $152 million. We've guided to greater than $575 million for 2022. We report those results on Monday, but that means that we've almost quadrupled the business in 5 years. If you take a longer look, go back to 2010, our CAGR is 35% since 2010, and it's not like it got weaker as time went on, because as I told you, we guided to 35% growth for 2022. We are defying the law of large numbers. Our market share has gone from 2.7% 5 years ago to 5.8% today. This is in the Nielsen-measured channels. This is dog food brands. That's the single biggest gain in market share of any dog food brand in the Nielsen-measured channels over that time period. We added 3.1 points of market share. Evolution can happen slowly and gradually. But if you take a long look, the march, the change, the evolution is incredibly obvious and the trend is not changing. There's a really basic reason for that. If you feed your pet Freshpet, you will notice differences. First, your dog will love you more. Your dog will love you for providing them the very best food. My dog goes out and pick up the newspaper, brings it in and drops it in front of the refrigerator as her meal ticket. She knows if it goes to the fridge, she gets fed. But pet parents tell us consistently that they noticed physiological differences in the health of their dog when they fed it Freshpet, shinier coat, more energy, better appetite, brighter eyes, firmer stools. This becomes incredibly confirmatory for the consumer that they have made the right choice to take care of this treasured creature, who is their evolutionary partner. That's why we think we have one of the strongest consumer propositions, a 92% brand satisfaction rating, the #2 in Net Promoter Score, the #3 in perceived price value despite we have a fairly significant price premium, a 70% repurchase rate that hasn't deviated over time. Literally, new users coming in today are buying at a 70% repurchase rate. The same thing was happening 5 years ago. The market for Freshpet food continues to grow. It was 33 million households in 2016 out of a pet population of about 90 million or about 70 -- 69 million households with dogs, but it continues to grow. Up to 42 million households is the addressable market. If this pace of change in the addressable market continues on, within 5 years, more than 65% of the households that have pets will be considered part of the addressable market. We're really focused on a subsegment of that, what we call HIPPOs. They're the high-profit pet owning households. There are about 27 million of those, 27 million households, and we are in about 3.2 million of them -- 3.2 million of those households today. Our total household penetration is 9.8 million. But these HIPPOs, these 3.2 million HIPPOs, they represent 33% of our sales -- our consumers, and 87% of our sales. The opportunity to take that 3.2 million and grow into that 27 million is enormous. The model and the way in which we do that is very basic and simple, and it hasn't changed for many years. We sell nothing at discount. We do no discounting, no price promotion. Everybody who comes into the franchise buys our product at full retail price. We build our franchise based on advertising. We've been doing this consistently and increasing our investment in advertising every single year. It is the single biggest driver of our growth. The second and supporting piece of that is our retail visibility. We own those fridges that are in the stores. We maintain those fridges. It's an expertise and a capability we've honed over many years, but they also provide a brand beacon. Imagine, if you will, you're in a dark and dusty aisle and there is a lighted fridge with Freshpet graphics on it, lighted interior of the fridge, the full brand array is there, and it highlights our products' point of differentiation versus everything else in the aisle and it inflates our shelf space. It's an enormous advantage, but more importantly, amplifies our advertising. You see the ad and you go to the store and you see the fridge and you take action. The third part of our growth platform is innovation. We have a very strong track record of continually evolving the product offerings we have to meet an ever-increasing array of pet parent needs. That innovation is, in part, enabled by the expanding fringe footprint because you need to have more fringes in more stores in order to accommodate the broader product line that we create. But it also creates an enormous amount of efficiency for our advertising, where the advertising now has the potential to deliver a return of new users because of the broader appeal and broader array of products that we have. We are also an omni-channel brand. And by that, I mean we can compete in competing classes of trade. We have multiple brands, Freshpet Vital, which is sold in the pet specialty channel; Freshpet Select, which is in the grocery and mass channel; and Freshpet Nature's Fresh, which is found in the natural channel. And we have a variety of sizes and forms that provide distinct offerings so each of those classes of trade feel like they have the winning proposition for the consumers who shop in their outlets. That's why we believe strongly that if we quadrupled the business in 5 years, we think it's a reasonable target for us to expect that we'll triple this business, a little more on the triple this business over the next 5 years. We'll end up with $1.8 billion in net sales or $2.7 billion in retail sales in a category that will be well north of $40 billion at the time. So we're still just scratching the surface but a tremendous growth opportunity for us. In order to supply all that, we've had to invest very heavily in manufacturing, both the capacity and the expertise. When you are a pioneer in a space like we are, there's no equipment vendor you can go to call and say, "Give me a ready-to-go line that make fresh pet food. There's no expert who's done it before. There's no co-pack network you can go find you've got to basically build the expertise and the capability yourself. And that's what we've been doing for 17 years. We know more about making fresh pet food than anybody. We have a significant investment in R&D. We have the world's largest fresh pet food R&D center and the largest fresh pet food pilot plant. We have over $750 million of production assets that are already in operation. We have an enormous head start in manufacturing expertise when it comes to fresh pet food in order to keep up with this tremendous growth. When the pandemic broke out in 2020, our second Freshpet Kitchen, Kitchens 2.0, the one on the top of the picture here was still under construction. We completed the construction in the middle of the depths of the pandemic, and opened in October 2020, and we filled it in about a year. In August of 2021, we broke ground on our next facility, designed to keep up with the expanding demand. And this time, we've been putting in Ennis, Texas, our first facility outside of Pennsylvania, built in Ennis, Texas. This facility, when it's fully built out, will have almost 4x as much square footage as both Freshpet Kitchens combined in Pennsylvania have. It will have 10 production lines and on-site chicken processing. We just opened that facility back in October of 2022. And as all of you know, greenfielding a new manufacturing operation is one of the riskiest things the company can do. And I'm pleased to tell you we're off to a really good start. The first line, the roll line, it's up and running. It's running 24/7. It's producing virtually every item in every roll in our lineup, and it's producing in quantities in excess of what our projections were. That has enabled us to begin shipment facility to the West Coast out of our new Dallas distribution center. The bag line, which is the second line in that facility will start up -- it's actually in commissioning right now, and we'll be producing salable product within the next month or 2. Once that is open, we will be able to produce all the product from the West Coast out of that facility in Texas and add services out of the Dallas DC, unlocking significant logistics advantages for us. Now with all this capacity that we're building and the huge opportunity that I described with the addressable market, it's fair to ask the question well, aren't you going to get competition? And if you get competition, what's the market share you think you can end up sustaining over a long period of time? We heard yesterday about General Mills entry with Blue Buffalo, and their attempt. They're not the first. The Australians who pioneered this category tried twice in the last 5 years to supplant our position in the U.S. market. First, at H-E-B in Texas, for over a year and then at PetSmart. They're no longer in business in the U.S. We outsold, though, Mars, bringing their CESAR brand -- and in partnership with Walmart, who bought fridges and they put them in 800 stores, launched what was viewed as another competitive item, CESAR branded rolls sold in the fridge. Today, we're out selling them 8:1. They've reduced the amount of shelf space allocated to those Mars products, and they've started putting Freshpet products in the Walmart own fridges because the space wasn't being utilized well. We'll see how Blue Buffalo does. They have a different proposition. We'll see how that plays out. But suffice it to say that we believe that the advantage, the head start that we have, the technical mastery we have, the brand equity that we're building, the ecosystem that we have provides justification for the enormous share that we have. And this isn't the first time that something like this has happened in the food business. I've been in the food business for more than 35 years. I've seen insurgents like us come along and pioneer a new part of the category, change the way consumers think about it. And all of you have too. You can all remember the Greek yogurt with Chobani who still maintains over 50 share or Keurig Green Mountain when they brought on K-Cups and disrupted the Folgers and Maxwell House business in the coffee world. I heard yesterday that Pillsbury's refrigerated dough still has a 74 share. And I think that brand is over 50 years old. It's reasonable to expect that if we do our job really well, we can maintain a very large share. Today, we have a 96% share in measured channels of fresh and fresh frozen products. That's after the Australians, that's after Mars -- this is after Mars launched the NomNomNow business, they bought it and took it into retail. We still have 96 share. I'm not here to tell you we're going to have a 96 share forever. What I'm here to tell you, though, is that we expect to have the lion's share of this large and growing opportunity because what we are investing in is the core capabilities, capacity, manufacturing expertise, consumer expectations and advertising and the product quality to meet that need. That looks great. It feels like a great success story. But the reality is we need to change too, and we need to adapt. As successful as the Feed the Growth Plan has been for the last 6 years, it has served its purpose. Its purpose was to extend our head-start to create the scale and a scale-driven business that we need to create a structural opportunity for us to build a large consumer franchise and build capacity to support it. But we now know that we need change and find ways to rebalance. So it's not just about growth anymore. It's also about delivering profitability, and we haven't done so well with that. If you take a look at what's happened over the last several years, the clearest picture of that is what's happened to our adjusted gross margin. This shows you our history, it's not a pretty picture. But it's also not a big amorphous problem that you can't solve. It's actually very specific opportunities we need to address. Three of the things are on here, and I'll take you through the fourth, which is logistics, which we put in G&A. Start on this with the 4.2% that you can see that's attached to start-up costs, plant start-up costs. This is what happens when you greenfield the new site in the middle of a pandemic, that is designed to provide the infrastructure and capacity to support the next 5 years' worth of growth. You have a large chunk of plant start-up costs. that's 4.2% of our gross margin hit in the 9 months ended September 30, 2022. So that will go away with time. The other 2 are a little bit more complicated. Those are costs that are associated with quality and costs that are commodity/input costs. I want to talk a little bit more about those in detail. The input cost is on the left. You can see what's happened to our input costs as a percentage of our net sales over time. In 2017 to 2019, where between 30% and 32% of our costs were in input costs as a percent of net sales. In the 9 months ended September 30, it was almost 36%. The reality is we all know we had inflation. We all -- we know we had supply chain challenges and whatnot. We didn't price fast enough. We just didn't take pricing fast enough. We're fixing that. You'll see improvements as we go along. But that's fixed by taking the right amount of pricing, locking your commodity costs far enough in advance so you have price certainty and taking the right pricing to the market. We're doing that. On the far right, you can see the quality cost. It's a little bit more complicated to explain, but it's actually pretty straightforward. What I mean quality costs, I'm talking about the incremental costs we incur when product that we produce the first -- for the first time, doesn't meet our high-quality standards. And we either have to dispose of it or we have to send it for secondary processing. Those costs exploded in 2022. I can point at a lot of reasons for it, but a big underpinning reason is when you're pioneering a category the way we are, you will run into issues that you've never seen for and you need to solve them. And we have a really good track record of doing that. But in the middle of a pandemic with labor challenges that we had and capacity limitations that we are enduring, some of these got away from us. And we need to buckle down and fix them. 5.4% of our net sales in the 9 months through September 30 as opposed to 0.7 or 0.9 in 2017, 2018, huge margin opportunity. And you can expect that we're going to make some improvements in those areas. The third area is the one in the middle. This is logistics. Now you can talk -- chalk it up to shortages of drivers in fuel, diesel rates and whatnot. The bottom line, though, is we are shipping trucks that weren't full. And we had a bottlenecked warehouse because we're growing so fast, and we couldn't bring on our Ennis facility fast enough. So our warehouse in Pennsylvania got bottlenecked. Our cost for logistics exploded. Historically, about 8% of sales. It went up to 11% it actually, in the third quarter, was 12.2% of net sales. This is a known -- there are known solutions to this problem, and we are solving those problems. We have debottlenecked our supply chain today, and we are getting the fill rates up as I'll tell you, our plan for '22 to '23, the improvements -- we're making significant improvements in each of those 3 areas. In quality, when we report our results on Monday, you'll find out that the rate of product that had to be disposed or go to secondary processing dropped by 24%. And we -- we're pioneering a new technology that we think can lower it even further and can provide lower-cost capital. On the logistics costs, our fill rates are already over 90%. We've been over 90% for the last 10 weeks in a row. Last week was 94%. The week before it was 96%. I heard the big food companies talking about fill rates in the 80s this morning and yesterday. We've grown faster and we got to the fill rates faster. From a commodity cost management perspective, we've taken the pricing that we need to take. And we have locked commodity costs from 75% of our needs for 2023. We feel like we're in a much better place. There will still be a small period of time that's not covered, meaning the pricing went in effect in the middle of February. So we'll have a little bit of a mismatch, but it's much smaller than it was in previous years. So we feel pretty good about the focus and the efforts in the very specific discrete areas where we need to make improvement to get our gross margin and our adjusted EBITDA margin back where it needs to be. We also think, though, that we need to improve our capabilities, both to solve those problems as I just described them and also build for the long term. We've made several key hires. I'm featuring a couple here. There are more that we've made and more that we will make to continue to advance our capability. But the reality is we brought on Todd to strengthen our forecasting and capital management. He is doing a fabulous job of that. Dirk Martin was brought on because he's an expert in logistics. He worked at Lamb Weston, and he's bringing huge improvements to our logistics supply chain. He started November 1. Jay Dahlgren was the VP of Supply Chain at Smucker's retired we consulted with us for about a year. And now he's our EVP of Manufacturing, Technology and Supply Chain. He's bringing a remarkable focus to that business. But each of these hires was designed to build our capability in the areas where we had the biggest gaps. So what I'd like to do now is turn it over to Todd, and he's going to take you through why we think we have a very fresh start and a fresh future that the future of Freshpet is the future of the pet food category. And you're going to see a rebalancing between growth and profitability that we describe as unleashing growth and scaling profits. Todd?

Thank you, Billy. I just want to start off by saying I could not be more thrilled to be part of the Freshpet team. As Billy mentioned, I had an incredible 5 years experience being CFO at Simply Good Foods. I absolutely loved that job. It was incredibly painful for me to leave. But I met -- I met Billy about 3 or 4 years ago. I've been fascinated by this story. I would listen to every quarterly conference call. And so I was always very, very intrigued. And so Billy called me up in the fall, and said, would I be interested in joining. And he said, "Look, we've got a bunch of operational challenges. Our P&L is a bit of a mess right now. We just got an activist investor. What more to love? This is like a fabulous, fabulous opportunity. But all kidding aside, I truly think this is one of the most unique CPG opportunities I've ever seen in my 25 years of doing this stuff. And yes, there's a lot of problems to solve, but the upside potential is even bigger. So -- what have I been working on? I've been here for almost 90 days. So I've been working on probably what you would have completely expect me to be working on. So first of all, is recovering the gross margins and the EBITDA margins. Quite frankly, they're unacceptable. And we have to change that, and we will change that. Capital requirements, this is a very capital-intensive business. But we need to manage that better, be a little bit more prudent on when we release that capital. And we're in the process of doing that more on that in a few minutes. Cash flow and liquidity. I know this is a huge concern of investors out there. It's my job to go figure that out and we will, and we'll talk about that in a little bit as well. And quite frankly, the ability to forecast our business. Obviously, with the pandemic, a lot of companies have struggled with all the supply chain issues. But we have to do a lot better at this. We will. There's a couple of very simple basic processes we're going to put in place that will allow us to forecast our business tremendously better than we have in the last couple of years. So I'm very, very excited about that. Financial highlights just to remind everybody. Billy kind of mentioned it, but we will be releasing our earnings this coming Monday. We will be giving '23 guidance on Monday as well. So unfortunately, you're going to have to wait a few days for that. But I'm here to talk about our 5-year operating plan, what top line looks like, what the margins look like. And our assumptions right now is we are going to grow for the next 5 years top line and 25% CAGR. That is trip almost -- that will be tripling the size of this business, and we're incredibly excited about that. The adjusted EBITDA margins, which are very, very low right now, our 5-year plan is to get those to 18%. And long term, we think we can actually do better than that. So how are we going to get there? Well, how is that top line? We'll be growing this business over $1 billion over the next 5 years, which is pretty astounding. Billy talked about how big the size of this business is in dog food and dog treats. It's been growing over 10% per year for the last several years. number of dogs in their household has not slowed down. People think with the pandemic coming to an end, it will slow, but we don't see that happening whatsoever. Especially with the younger generation, people love dogs. They want dogs as part of their life. And so we see a lot of upside just in the growth of the category. So 35% growth over the last decade per year. On average, we are assuming we're going to grow this business still at a very, very healthy clip to $1.8 billion by 2027, that's a 25% CAGR, and we feel that is extremely attainable. Why do we feel so good about this number? Well, people are just embracing fresh pet food. The number of consumers who are very, very interested in this is extremely high now, and we believe will grow to 50 million households in the next several years. The HIPPOs that Billy mentioned, are going to continue to grow to 32 million. We have almost 10 million households today. We are going to more than double that. So it's a little bit over 20 million in the next 5 years. And those HIPPOs, which are a little over 3 million consumers today will triple to over 9 million. So this is where the growth is going to come from, and we feel very, very confident about that. The net sales algorithm is really, really simple. The correlation between our strong media investments and those media investments turning into household penetration drive net sales. Our marketing team has done a phenomenal job over the last several years with the media campaigns. We have some incredible ones coming up. We will continue to invest very heavily in this area and the correlation, we feel very, very confident in. So let's talk about margins. Obviously, not where they need to be, and we'll start with adjusted gross margins. And because we're reporting on Monday, I can't share with you kind of the '22 numbers, so we're going to jump off. So basically, 37% is our adjusted gross margin as of Q3 of this past year. And again, a couple of years ago, we were at 50%. So we got a lot of catching up to do. How are we going to build this to 45%? We think 45% is a very, very attainable number and potentially we can do better over time with that number as well. Plant startup. When you're bringing up a new line that produces over $100 million of product in a new -- a brand-new facility and you're a $500 million business, that's hugely impactful to your cost structure. Over time, that's going to become less and less as this business gets over to $1 billion as we get much, much better at bringing each consecutive line up. There's a huge advantage there, and we think there's at least 3 points to get there. Commodity pricing mismatch. We have [ brought ] up. You'll see we think there's 240 basis points over this horizon. We're going to get a big chunk of that in '23. We talk a little bit more of that on Monday, but we see a very clear path to getting that as well. And then the quality issues that Billy just explained over 5% right now. We can easily cut that in half. They're just better processes now that we have a little more excess capacity. We can run the plants a little bit more smoother. And we are also working on -- working on some new technology down the road that could help that number as well. So feel 45% adjusted gross margin is a very, very attainable level. Let's switch now to SG&A. And as Bill mentioned, we have logistics is actually in the SG&A number. And again, these numbers are off of September year-to-date. So that as we report on Monday, these ratios will change a little bit, especially media because we don't -- we tend not to spend a lot of media in Q4, but the story is exactly the same. We spent a lot on media, and we will continue to spend a lot on media. But when we're growing at 25%, we can easily grow a CAGR -- a very healthy CAGR in the mid-teens and we can enjoy a lot of leverage on our media investment. We think we'll pull that down to about 9% by the end of 2027. Logistics. We were at 8% a couple of years ago. We're at 11% now with the new plant and the scale of that coming on board with the DC coming out of Texas to ship to the West Coast, 7.5% is well within our sights. And then the remainder of SG&A, which is really kind of corporate G&A and some fridge costs as this business continues to grow at a very healthy clip, there's easy leverage, 300 basis points of leverage coming from that as well. So all in total, got 11 or 12 points in SG&A, feel fantastic about attaining that. And we've proved it over the last several years. So excluding the media investment, we've already got about 8.5 points of SG&A leverage as this business has grown substantially. So this is a very attainable figure. So let's talk about how are we going to get that EBITDA margin to 18%. Through 9 months, we were basically flat on EBITDA. The guide that we had for the year gets to about 3% for 2022. And again, we'll talk about that more on Monday. But how are we going to get to that 18% and potentially 20%? This build here gets us actually closer to 20%, gives us a little wiggle room in case something doesn't go as planned, and/or we want to invest a little bit more in media over the next couple of years as the business continues to accelerate. But as we spoke already, plant startups, 300 basis points there. A combination of the quality and the pricing mismatch, we'll get almost 5 points there. The leverage from media still a very healthy level of investment coming from there, but that will give us close to 5 points as well. Logistics, almost 4 points and then the G&A leverage, 3 point. So 18 is the target for 5 years. We think, long term, we can actually do a little bit better than that, but I feel fantastic about these builds. Is 18% the right number? Is that the right target? We think it is. As we look at our peer group, the ones that are left are kind of more your protein-centric the companies out there, they're a little bit lower, kind of the snackier pieces of the portfolio, the Hershey's, the Nestles, the Mondelez tend to be 20% or above. And so we think 18% is a very kind of good place to be. And look, if we're at $1.8 billion and an 18% EBITDA margin, we have over $300 million of EBITDA in 2027. So that will be a fantastic place to land. Let's switch to capital investment. Again, a very capital-intensive business. Good news is we are managing this really tightly right now. Our last guidance for the years '22 and '23 were -- was $520 million combined. We've just taken $50 million out of that number. So we'll be at $470 million for those 2 years. But regardless, we still have at least $200 million of capital to spend for the foreseeable future. What that gives us is the capacity of over $2 billion to continue to grow this business. but we'll be very smart about how we do it. Our capital management office is doing a really nice job managing this now. We're doing a much better job in that. Look, with the 27% accumulative pricing we've got in the last 18 months, it's really 27% of free capacity that we've created, and we'll take advantage of that. Cash flow and liquidity outlook. Obviously, this is a big issue and something I'm spending a lot of time on how we're going to handle this. So first of all, is make more money, get the margin structure up. That allows operating cash flow to be a heck of a lot better and also with more EBITDA allowed you to borrow more against that EBITDA as well. Upgrade our credit agreement. The credit agreement we have right now really doesn't work for us. It's not flexible enough. So I'm in the process right now of reviewing that, and we're looking at a couple of different debt options to meet our needs for the next couple of years. From a leverage perspective, I'm very comfortable with going up to 4x net debt to EBITDA. So that's kind of what my framework is. And then from a cash flow positive, when we going to be cash flow positive or free cash flow positive, I believe that will occur in 2026. It really depends on how fast the business is growing, quite frankly. If we're growing faster been 25% in there, it might get delayed a little [ here ] because we might have to spend a little bit more capital sooner and vice versa. But I feel very, very good that we will get this cash flow and liquidity concern off the table. That's my job to figure that out. And with that, I thank you very much. And let me pass it back to Billy for some closing thoughts.

Great. Thanks, Todd. Again, I can't say how glad I am to have Todd on our team. I'm going to quickly summarize, and then we'll have a few minutes for questions. But as Todd said, we see a very clear road map to $1.8 billion in net sales, 25% CAGR. We see an opportunity for us to maintain a very large share of this market and grow those HIPPOs, those high-profit pet-owning households from this very small percentage of our business they are today to a much larger number. We think we have a consumer-centric business model that is very difficult to replicate. It's been fine-tuned over 17 years, the consumer proposition, the manufacturing technology, the expertise at owning, installing and maintaining fridges, the brand equity we're building, the breadth of our product lineup, all that is very difficult for somebody to replicate in short order and without significant expense. But right now, we're like -- focused like a laser on our new capabilities, improving logistics, improving quality and very focused on the cash generation capabilities of this business. We are passionately focused on meeting needs of pet parents better than anyone else. We don't make dog food. We make food, food, and that's a big difference between us and everybody else. So it takes me back to where I started. Charles Darwin said natural selection almost inevitably causes much extinction of the less improved forms of life and induces what I've called divergence of character. Freshpet is a divergence of character that is visibly noticeable and obvious. Freshpet is the evolution of pet food. We have an enormous addressable market. We have exceptional products, proprietary distribution, state-of-the-art manufacturing and ample capacity for the first time since 2019, a demonstrated track record of growth, a strengthened and focused management team, laser-like focus on improving our profitability. We believe that we have a very fresh, bright future. Thank you for your time and attention. I guess we have time for a few questions. Okay. Brian.

All right. Just I guess 2 questions kind of related to cash and funding the business. As we think about the margin progression, how linear is it? So if you could kind of address maybe what -- where are those -- or the timing on capturing some of those savings? And then related to that, if you think about financing the business, aside from credit facility, are there other options that you'd be thinking about, whether it's a preferred or convert or an equity raise? Just like what are the range of options that you consider?

Yes. So we'll give more color on margins for next year, but big picture, it's fairly linear. The way we've mapped out the EBITDA margin progression and the gross margin progression is it's fairly linear. Look, with lines coming on from time to time, it's going to be a little choppy from a gross margin perspective. But when you look at kind of annual periods, I think it will be fairly linear. Regarding funding, I said at the ICR conference, we are not going to do an equity raise this year. Could it happen in the next 2 or 3 years if the market timing is accurate, is good and I like what I see out there? Sure. but we're not going to do an equity raise this year. I'm focused on the debt markets. And as I've mentioned earlier, we're looking at a couple of different options. So there'll be more on that, but it's going to be a debt-financed capital raise.

Jason?

So the new 2027 target of, I think it's a 25% sales CAGR off the effect in the year guidance for this year. I was hoping you can unpack the components of that between penetration and buying. And also you gave the stat today that in the last 5 years, it looks like you've grown penetration by around a 16% CAGR. And I know it slowed a lot after 2 Herculean years in 2019 and 2020, 2021 was a lot slower. Have you seen it reaccelerate this year? If so, by how much? And I think the guidance implies further acceleration ahead of what analyzes that. Sorry, a lot packed in.

No, no, that it's a question I spend a ton of time thinking about -- so as Todd said, we were off the air in the fourth quarter. So you'd expect to naturally see a slowdown in the household penetration acquisition. The latest data, we're now using Numerator as our data source. The latest data for us shows us adding households and around 16% on an annualized basis. The 4-week numbers look a little bit more encouraging than that, but the 52-week number is around the 16% rate. We'd expect to accelerate that into the low 20s by the end of the year, based on the scale of the media investment that we're making. And that's part of how the algorithm works. We haven't got a specific target on household penetration or buy rate that we're laying out other than 20 million households is the number we said as sort of the long-term target. And you can sort of impute from that what the buy rate will be. But we think this is going to be one of those algorithms where the penetration is going to be in the 20% range and the buy rate will be the difference. Yes. Rob.

I was wondering if in your capacity expansion target that put out there, they're volume because it's capacity. But if you look at the components of your growth lately, it's been more and more price and less volume. And I was wondering like this year and maybe in the next couple of years, is there any kind of risk factor that maybe your capacity grows faster than your volume? And if so, what would be the consequence?

So the answer to that is, you're right. The unit volume hasn't grown as fast as the net sales have. And so we have built a model that is a little bit more flexible in the past. If you think about it, the timing in the way in which you bring on capacity has multiple components. It's when you build the box that the line goes in, when do you install the line and when do you staff the line and how much do you run the line. And so we're now playing with all the various parts of that. So for example, right now, we have installed lines that we're not running all the time yet. They are going to provide the next incremental growth on 90 days notice. We can install lines in a building that's already built, but it's not yet started up. So we have a line, but it's not staffed. We can go to them building on to the existing facility in Ennis. So the answer to that is we're going to pay very close attention to how the unit volume grows over the next couple of months and years. And if we find that there's a slowdown in the unit volume because of higher pricing or greater inflation, we can slow the cost of -- or the installation of new lines. There are some things that you have to preorder and some things you have ready to go. But for the most part, we've now created enough infrastructure that we can kind of glide our way a little bit better than we have in the past. It doesn't come in as big as chunks as it did before.

Okay. With that, we're going to head to the breakout. Please again, join me in thanking Freshpet for the presentation.

Thanks.