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

Hi. I'm Tom Palmer, Equity Research Analyst at JPMorgan covering the food space. Joining us today is Billy Cyr, CEO of Freshpet. Freshpet manufactures and sells fresh, refrigerated pet food. The company has a network of 3 plants to produce product and has over 38,000 company-owned refrigerators at retailers around the country. Billy has been CEO of Freshpet since 2016. Company's trailing 12-month sales are approaching $1.1 billion, and the company is guiding for approximately 13% sales growth this year.

Billy, Freshpet has built an impressive network of 3 manufacturing facilities. I think the growing pains that Freshpet faced over the past decade plus could maybe help inform your competitive moats today when it comes to both the quality of your product and your margin structure. So maybe we could go over that, just the challenges that you faced and how much progress you've made up to this point?

Yes. We've -- obviously, we've invested quite a bit. And for a relatively young organization, the magnitude of the investments is enormous, and the complexity that, that brings is enormous. I did a review for our folks. And if you look at from 2017 to the present, we spent over $1.3 billion in capital. And that's a pretty big number. But we're now to the point where all that spending, all that organizational capability that we put in place is generating the benefits that we expected it to generate. So think of this as we now have, as you described, an enormous competitive moat. It's not just the amount of money that we spent, it's the technology that we put in place, the scale that, that creates, the breadth of the lineup that we've been able to build and enable. It's also the margins that it's now starting to deliver. It's been tough getting here. Those who've been with us for a while know that we had some stumbles along the way, but we've gotten to the point where all that investment that we've made is finally yielding the fruit. So we announced in our earnings call a week ago that we're finally free cash flow positive. We will be free cash flow positive this year on a going-forward basis. Those NOLs that we've accumulated forever now can actually be counted as real assets because we're consistently profitable enough that we'll get to use them. We're finally growing into that sort of the size 15 sneakers that we had as a 12-year-old couple of years ago. We are now that 18-year-old who fits in the body that we've built, and we feel pretty good about it.

Right. I think when we look at the current environment, there has been a slowdown in terms of pet food demand. You've obviously experienced some of that slowdown as well. What are the key changes that you've seen in the pet food industry and dog food specifically over the past couple of years? And to what extent do you view this as maybe more of a secular shift? Or is this really kind of more of a cyclical case? And when it might pass?

We really don't see any of the long-term drivers changing. The long-term drivers of people want to have pets, they provide important social benefits, important health benefits. They are just valuable members of our family. And the desire to treat the pet as a member of your family, there's nothing in any of the attitudinal data that we gather, anything in the behavioral data we observe that says that people feel any less strongly today about the need and the desire to get a dog than they did a couple of years ago. In fact, it's getting greater because the younger generations are more predisposed to getting a pet, and they're more predisposed to getting a pet and treating it like a member of their family. So nothing has changed in that. But we're clearly in a short-term hiccup. And we've seen two specific observable phenomenon. One is consumers' willingness to trade up their pet food is not what it used to be for -- now, what it was several years ago or over the last several years. Historically, roughly 3 to 5 points of growth have come from people trading up. And what that meant is companies like us and brands like ours benefited disproportionately. So it wasn't just 3 to 5 points on our growth rate. It was 10 or 12 points of our growth rate. And people who are low- and mid-tier brands lost. The category premiumized, they were not beneficiaries because it's migrating upward. That stalled this year, it completely stalled. And so it's hitting people like us. The Farmer's Dog, according to credit card data we've seen, their growth dropped from 43% in Q3 last year to 16% in Q3 this year. So it's not unique to us. It's a phenomenon that's occurring. But we don't think that it's going to stop. We think that the reality is the consumers will -- when they feel confident, they feel economically secure, they will return to the same behaviors that they had before, and we'll see this move up. The second behavior that we are seeing is that people are pausing in getting the replacement dog or getting the new dog for the first time. And the natural cycle is that a 65-year-old or 7-year old, their dog would pass away. And they say, "You know what, I'm really not ready to make another 15-year commitment to a dog. I want to go on cruises, I want to visit the grandkids." So they don't get the dog, and they get replaced by a 24-year-old who's getting their first dog. Well, the 65-year-old is doing what they said they would do, but the 24-year-old doesn't feel economically confident enough to do it. And so we're seeing that cycle is not working the way it used to. It will. People don't -- the desire to get a dog doesn't go away, it just becomes pent-up demand.

You noted in your response, the competitive environment a little bit, right, in terms of maybe new entrants over the last several years that you've seen. How do you view Freshpet as being positioned with that environment? And to what extent might it, I guess, color your view of your addressable market?

Yes. I mean, first of all, it validates the addressable market. I mean, it's not a surprise that all these people decided to enter the category because we've believed for a long time and now everybody else has finally realized that what we thought was going to happen is happening. So we're frankly grateful for them for validating the category. We're also grateful to them for the amount of money that they're going to spend to create awareness and visibility of the category, and that will only help us. But I think it would be naive to think that we just woke up and realized we're going to get competition at some point. I've been with the company for 9 years, and from the day I got here, I've been thinking about at some point, we will be big enough that people will pay attention and we want to compete with us. And we can't wake up on that day and decide what our defense plan is. We need to build the franchise in a way that protects us from somebody coming in and taking our business. And what does that mean? One is we had to build the consumer franchise the right way, highly loyal consumer franchise who's not buying you based on price, they're buying you because the product is a better product. Secondly, we have to have better products. We had to know that we were investing in and developing a broad array of products that were going to be better products than what people could produce. And we think we've got better products today. Third is we had to build scale that created a cost advantage. It's kind of interesting, nobody has been able to come in and really undercut us on price because we have, over time, invested the time and energy to build a cost structure that we believe puts us in a very good position to broaden the appeal of the category, but also insulate us from people who might undercut us on price. And the last piece is, think about it as the technology that we've invested in and that we're developing puts us in a position where by the time people finally race to get into the category, we're on to the next generation, whether that's fridges in store because the fridges we put in today are dramatically better than the ones we did before, or the manufacturing technology that we've created, which we think by the time we have a real bag competitor in the market, we'll be on to the next generation, which is higher quality at a lower cost and much more capital efficient. We feel very good about the position we've built, and we'll see what happens with the competition.

Historically, one way you've helped to drive growth is through your marketing. And we've seen maybe an evolution this year in terms of both marketing message and the medium on which you focus, right, shifting from maybe a little more television towards more digital. Maybe an update on kind of what you've seen that it's working and maybe areas that you're still targeting some incremental improvements?

Yes, I would break it into a couple of buckets. The first bucket is we got to get the message right. The message that was right a year ago is not the message that's right today. And the message that we had a year ago was much more about you and your relationship with a pet. And if you -- I felt strongly about my dog, if you didn't think my dog deserved to be treated well, well, frankly, I was going to kick you out. And that was a very strong emotional relationship. But in an environment where consumers are economically constrained, we know that they are much more focused on make sure that I know I'm getting full value for every dollar I spend. And so the product points of differentiation need to be made clear. We have new advertising on air today that is designed to bring that out. It's been on the air since late August and early September, another version went on the air in October. We feel very good about the message. It's compelling. We'll see if it delivers the results we expect. But that's a very important part of the story. The second part is we need to be much more focused on the people who are in the market now, here and now. So tailoring the media buying to much more match the people who have the economic means to either trade up or to get a new dog. And that looks like going after the people, the potential MVPs that we've talked about, most valuable pet parents. And so we've skewed from less of the linear or broadcast television and more into digital or social. But at the same time, I want to be very clear, we still view our -- us as having a very broad net at the top of the funnel, bringing in as many people as we can. It's just as we move them through the funnel, we will super serve the people who have the potential to be the heaviest users and try to bring them into becoming loyal users of the brand. So the media buying has changed, it's skewing more towards that down the funnel activity, but it doesn't mean we have less presence. I mean, our media spend at the top of the funnel is bigger this year than it was last year.

I wanted to get your thoughts on price points. You noted the price advantage relative to some competing products. To what extent do you view price points and maybe the possibility of some more tactical actions as a way to drive volume? And what I mean by this is you've rolled out 1 pound rolls or new ones. You have multipacks, you have the new Complete Nutrition line. So you are taking some action, but at the same time, you traditionally have not really used more traditional promotional activity as a tool. So maybe an update on kind of how you think through that pricing dynamic?

We really don't want to make this category into a price category, and there's a lot of reasons why that's bad for this category. One is people adopt their pet food and they choose the pet food. They really don't want to switch, so why encourage them to switch? The second thing is in a perishable products business, you really can't build inventory. And so you do not want to create spikes and valleys in your production. So we are going to work really hard to maintain everyday value pricing that we deliver to our consumers every day and our retailers deliver. But because we have a broad product lineup that appeals to a wide range of economic groups, dog sizes and whatnot, if we find ourselves in a situation where we have a need to bring consumers in and get them their first exposure, we have, over time, gotten a little sharper on the price point on the 1 pound roll. The 1 pound roll is the most common entry point item. It is the lowest total dollar outlay, it's the most affordable product. And so we, from time to time, sharpen the price point in that, but it doesn't have a material effect on the total products profitability of the total lineup because it's a very small amount of our volume, but it becomes that gateway that people can come in. And so we have launched other products that were designed to be in that sort of available price point range, an entry point price point. But at the end of the day, almost every time we bring one of those folks in, they migrate up into the platform into larger sizes, more specialized items or even more expensive items.

In the third quarter, when you reported last week, you noted e-commerce reached 14% of sales and grew 45% year-over-year. You have a relatively early-stage D2C offering. And I think much of your e-commerce sales today are fulfilled out of stores often via pickup. How do you see the channel evolving in coming years? Is there opportunity for expanded distribution with retailers perhaps using more of a warehouse distribution?

Yes. So we think e-commerce is a big opportunity for us. We're well underdeveloped versus the category. We're at 14%. As you said, the category is 36% to 37% is done via some form of e-commerce. I don't think we'll match the category because some dynamics that are present with a shelf-stable, bulky product like a dry dog food that makes it -- so you want to have it delivered to your house in some way -- that you may not with a smaller perishable product, but we can certainly be much bigger than we are. But we're playing all the hands, and the number of hands that we can play expands every year. Today, we have a DTC business. We didn't have that a year ago. That's been around for about 11 months at this point. We're really excited by what Amazon is doing and Walmart+ are doing to create same-day grocery delivery. In essence, if you want all the things that you can get from a DTC offering, excluding the personalization, you might be able to get that from Walmart+ or from Amazon. So it will be the item you want delivered to your house, delivered on the same day, very fresh, high-quality delivery. At the same time, some people are buying curbside, some people are buying via Instacart. And all those are growing for us. All of them are growing quite nicely. And so we have to play in every one of those segments. And we will. And we'll let the consumer decide how they want to buy, recognizing someone might want personalization over here and they'll do DTC subscription. Other people might want just the best fresh pet food, but they want it at the best value, and they're going to go to Costco, they're going to go to Walmart, they're going to go one of their favorite value-oriented retailers.

One last one on channels. The veterinary channel is one where Freshpet has been underpenetrated, I think, relative to some others. I appreciate maybe refrigerators, vets are not a significant opportunity. But I do wonder if there's a different path to getting more support from vets and more referrals?

Yes, it's going to be tough road. Let's be really clear, our competitors have invested very heavily in that space for a very long period of time. So for us, the first and foremost is we want to get ourselves in a position where the vet is not an obstacle to the consumer adopting fresh pet food. And so that requires us to do the right kinds of clinical studies, to publish those studies, to show up at the vet conferences and make sure they have basic awareness and understanding of the virtues and the benefits of fresh pet food. Fortunately, as more and more people enter this space, it does provide a sense of validation. It makes a more relevant conversation. I'm going to give you the example is forever and ever and ever, Hill's talked about only science-based nutrition and whatnot. Well, they just entered the fresh base with the acquisition they made in Australia. I think that validates that fresh is a form that people were really concerned about the science and what nutrition can really feel good about. And we'll see the same thing from other competitors over time. So our job is to get the vet from being an objection to being at least a neutral and let our marketing and word of mouth be the driver. Over a long period of time, we do need to invest in and have started investing in the studies that would prove it. And we call it an evidence-based culture where we can provide further and further evidence of the life-enhancing quality of a fresh diet. Good news is, others are doing the same thing.

We're starting to see more competitors on shelf. It does not seem to be coming at your expense. This past quarter -- and maybe you want to run through it -- you noted expanded presence at several key club and mass retailers, including island fridges. So maybe one, just an update on kind of some of those initiatives? And two, what are you hearing from your retail partners about the fresh pet food category broadly? Are they looking to both expand your presence and explore others?

I mean, if you're a retailer today and you want to be in the pet food space, which most of them do, you quickly realize that your best way to compete for that sort of place-based shopping occasion or one where the stores uses the replenishment center is going to be by having a bigger presence in fresh. That's where the category growth is coming from. We are by far the biggest driver of category growth. And it's a driver of foot traffic into your stores. So somebody comes in to buy fresh pet food buys a variety of other things in whatever store you're in. So if you're a retailer, you decide to make this bet. And Walmart's decision to put Freshpet islands in the 17 stores they're in now kind of is a validation. They're building -- they literally are building a pet center, and this is the centerpiece of the pet center. We think it will work. We'll let the results speak for themselves as time goes by. But that's not unlike the decisions that other retailers are making, which is, okay, if we want to be in pet food, this is the way to play in pet food. And so we're going to invest in increasingly large amount of space. But they won't make it exclusive to us. I mean, they're putting in Blue Buffalo fridges. They've got our fridge islands. They're trying to get private label guys in there. They're trying to get other manufacturers in the space. Ultimately, we feel good about the offerings that we have that will be the preferred offerings. But at the end of the day, we expect to see more brands in that space.

You provided very helpful margin outlooks for a variety of cost items, maybe to a level some others we wish did. Over the past couple of years, the margin expansion has really been aided by -- at least your disclosures, lower ingredients, logistics and then quality, which I think is largely shrink. Going forward, it would appear that maybe some of the targeted margin expansion shifts a bit and it is more related to operating leverage. You've expressed confidence in 48% gross margin, even if sales are high single digits versus maybe mid-teens expectation a year ago. And I guess your SG&A leverage, a little bit more variable, but still see opportunity. Maybe an update on kind of the key drivers as we think about both that incremental gross margin expansion and what we should look for on SG&A?

Yes, we're incredibly proud of what we've accomplished over the last several years on logistics, quality and input costs, which is yield for us. But we're equally excited about what opportunities we have going forward. We think of it purely in our manufacturing sense as conversion costs. We made some pretty big investment decisions over the last several years that are designed to get higher operating efficiencies. One of them was we invested in our labor and talent, and that has paid dividends over and over and over again, and it's allowing us to drive up utilization, throughput yield and whatnot. And we think the opportunities for that going forward remain enormous. And that's going to probably be the single biggest driver of margin expansion is the operating effectiveness that's created by our team. We've also invested in technology. You've heard us -- we've been investing in the new production technology for 7 years now. We had the first production scale line of this new bag technology that is in its start-up phase. And we're very excited. I literally look at the lines and look at the line on a kind of a couple of times a week basis. And what it's doing and what it can produce is really remarkable, but the efficiency of it is amazing. And I kind of look at it and go, that's a long-term strategic decision that we made that's going to drive efficiency, and that will help us get gains going forward. And then the other part of it is the G&A side. We have historically -- and it varies from year to year, as you indicated. We have historically added G&A at about half the rate of sales growth. We think we can continue to that. We have to be smart. We have to invest in technology. We have to upgrade our systems. We have to be smart about how our organization evolves, but we think we can do that and get the leverage that we need to get. And combined, that gets us to the margins that we've been talking about.

You noted the new line technology. How scalable is that solution across your facilities?

So you have to think of the technology as having two parts. There's the new technology in its entirety, the full-fledged version of it, which, in order to implement it, you have to start with a new line because its layout, its utilities, its configuration, it's completely different. So it cannot be retrofitted to the existing lines readily. So as we have increased demand and are putting in new bag lines, you can expect that, that's an option that we would use to put the new bag line in. So a little bit more capital, but a whole lot more throughput. And so it's a much better return for us. The really cool thing that our team did is after we got that technology vetted and we started doing all the engineering work to put in the first line, we tasked them with figuring out how to do a light version of it that could retrofit existing lines so we could go back into our supply network. And they came up with a version of it. It doesn't have all the same benefits. It's got most of the same benefits, but not all the same benefits but a dramatically lower capital cost and with significantly less disruption to our system. So we're piloting or we're going to start up the first production scale version of the light technology in the second quarter of '26. If it works, we can go back through all of our lines, with the exception of maybe one or two, and reapply it. Now it's not going to happen overnight because you can't take lines all out of commission at once, and you don't -- may not want to do all of them. But think of it as by the end of '27, we could have a meaningful part our lineup is using the new technology as well, full-in version and the retrofit version. And that would be a huge improvement in our quality of input cost of throughput, and it would help us further defer CapEx spending.

Just on the CapEx question, I guess. The -- if sales growth does persist at maybe a lower rate than you once anticipated, what are the main changes we should be thinking about both from a CapEx standpoint? And I don't know if there are P&L implications as well to be thinking about?

So from a CapEx perspective -- and we've been pretty agile. We came into the year thinking we'll spend $250 million in CapEx, and we're now projecting $140 million. So we cut $110 million of CapEx out of the plan by basically pushing projects back because we didn't think we need them as immediately. We still -- if you're still growing at the rate that we're growing, you still need incremental capacity, and there are long lead times on that. So we will have CapEx next year. We said on the earnings call, CapEx next year would be about the same as this year, with the wildcards being if the fridge islands that we talked about pan out, then you can expect to see that we might spend a little bit more on fridge islands. And if the new technology works really well, we might spend a little bit more to pull forward some of those lines. But outside of that, I think it is the same. And the reason for that is, right now, we're working on the increments of capacity that we'll need beginning in '28. We have enough capacity to get us through '26 and '27. We're thinking about what we need in '28, and that's what we'd be spending money on in 2026. From a P&L perspective, we have enough capacity to produce $1.5 billion in sales today. And the key is staffing. We just have to manage the staffing so that it comes on when we need it. Frankly, I've gotten to the point where I like pushing the efficiencies of the lines and making them work a little bit harder to drive efficiency before you add the next increment of staff. And so far, that's worked well for us.

When we think about the $1.5 billion in capacity, are there areas you have -- I know historically, there have been call-outs where maybe bagged versus rolled, there's been some -- different flex. Any constraints today or one of the two that you might see constraints on sooner?

So the next line that we need to put in is a roll line. That's -- it's under construction now. We also have some specialty products. We have these chicken bites that we sell. We also have Homestyle Creations, which is a more premium item in our lineup. That's made on a similar but not identical line, has a couple of pieces to it that are different. And that was the most capacity-constrained thing. That actually is the one that is unconstrained this year, and as a result, it's growing quite nicely. But for the most part, a rising tide lifts all boats. And so we add increments of capacity in roughly the proper proportion on a sort of continual basis.

Okay. The -- last one on CapEx. Sorry to...

We're used to it.

Last week, you discussed the starting point. You just noted it again for '26 of $140 million. What are the main projects just embedded in that outlook, any breakdown of the spending? I know there's a maintenance component, a fridge component? Lines?

Think of it is there's routine maintenance that we have to do. And as we get an expanding footprint, there's obviously more maintenance. And also, the kitchens in Bethlehem are getting a little bit older, so they'll need more maintenance. I'd also highlight that included in what we would consider sort of that maintenance CapEx is upgrades to older technology. So if anybody had been in our Kitchens 1.0 5 years ago and walked in today, they would be amazed at how many fewer people are on the production floor because we found ways to automate previously manual systems. And we put that under our maintenance bucket, but it's really upgrades. We have fridges. We spent $20 million to $30 million a year on fridge expansion. So the big chunk, the big hitter is capacity expansion. And when you think about next year, when we built Ennis, we designed the facility to be built in 3 phases. So Phase 1 was 3 production lines. And all the infrastructure for the site, wastewater treatment facility, energy, central utilities building, loading docks, cold storage, locker rooms, all that. Then we put on second phase. When we built the second phase, it was designed to house 4 lines. But we didn't know what technology we wanted to put on the third and the fourth line. So we built the shell, finished off half of it and put 2 lines in and started them up. But right now, we're now making decisions about what the technology is going to be. So we've got to go into the second half of that shell and put in drains and floors and ceilings and wiring and all that other stuff. So when people say, what are you spending on? Well, to get that capacity we need in '28, we have to finish off that second part of that building with all the infrastructure it needs so that we can lay lines in there and put the lines in basically at the end of '26 and into '27 so they're ready to start in '28. And that's a big part of the capital spending. Beyond that, we don't need to build new buildings for quite some time.

Okay. Concurrent with the earnings announcement last week, there was a second press release. And it did disclose the planned sale of some of your holdings in Freshpet. Perhaps you could just give an update on maybe what drove the release?

Yes. First of all, everybody should know, I have no interest in selling stock at the current price. The reality is that I own stock options that were granted to me in September of 2016 that expire in September of 2026 and I have to exercise them. And with them, because the stock price was really low, comes a fairly significant amount of tax and exercise price. And the unusual part that required me to create the plan was that the stock is not just held by me, it's held by my wife and my kids and -- in trust for my kids. And the stock that's held in trust for my kids, lucky, my kids, but I own the tax liability for the trust. And so when I sell shares, I can't just sell to cover. I have to sell more shares in my holdings to pay their taxes, and that required a 10b5-1 plan to be put in place so the options wouldn't expire on exercise. That's really the driver of it. SEC rules don't allow me to disclose what the specific plan of it is, but everybody should know, I'm not happy with the current price. I don't think it's a price to sell. My intention is not to be less invested in the company, but I do have to pay taxes for my kids and on my holdings.

Thanks for that update. You're guiding for approximately 13% sales growth in 2025. I think guidance implies more of a high single-digit rate to close out the year, although that does include some degree of shipment timing headwind. So I guess as we're rolling into 2026, what are the key items that you're watching to help determine expectations?

Yes. We look at this extremely closely. We're watching the Nielsen, just like everybody else is, on Monday mornings. So we see the Nielsen and we understand where they are. But we also look at the household penetration. That's probably the single best indicator, not just for us, but for everybody else. And we look at household penetration, we look at it by demographic. And we also look at the sum of household penetration plus buying rate. Because as the penetration gains go up, sometimes the buying rate gains go down and vice versa. If you look at the most recent data that we showed over the last 52-week period, the household penetration plus buying rate growth was about 15%. Coincidentally, over the last 52 weeks, so Q4 of last year, first 3 quarters of this year, our growth is about that -- in that range. So it's a pretty reliable predictor of where the net sales are going to come in. So we're looking at that on a 52-week basis, on a 13-week basis and really trying to triangulate where we're going to come out. Right now, we're feeling like it's looking like the world has gotten a little bit more stable, but it's very volatile. The consumer sentiment that came out on Friday was not encouraging, and we know this category is very sensitive to consumer sentiment. But our hope is that the consumers who are most sensitive to this dynamic have taken the actions they're going to take. But we'll see going forward. But that's -- those are the metrics we look at the most. We obviously pay attention to what retailers are going to do because that amplifies our growth quite a bit. We look at what returns we're getting from our advertising investments, so the customer acquisition cost. But all at the end of the day has to turn into household penetration and buying rate gains. And all of us can look at the data and see what we see. But our phenomenon is no different than everybody else's. We're just in that higher number. We're doing better than everybody else.

This year does seem to be a bit bigger of a fridge rollout year than maybe we've seen in a few years. To what extent should we think about, one, do those fridges maybe ramp in terms of productivity versus when they're initially rolled out, and that could be a driver next year? And then two, to what extent you can kind of maintain that rate of growth in terms of new fridges?

Yes. We think about new fridges as -- they add to the franchise to the extent that they bring in net new households. So one of the things we talked about with Costco when we rolled out Costco was Costco is high volume, high foot traffic. But it means nothing if it's not net new households. And we think that about 2/3 of the households who bought us in Costco were net new to the franchise. We -- it's too early on Sam's to see whether that net incremental distribution, which is great, and it's doing very, very well. We're very happy with how it's doing. But if it's net new users -- or how -- to what degree it's net new users. They have distinctive assortment. They have distinctive SKUs. They -- but they sit in the parking lot of Walmart in many cases. And so we'll have to see how many of those users are distinctly new. We're now in 10 lifestyle retailers. It's Tractor Supply in a test. Our bet is that the shopper who shops there is very distinctive and very net incremental. So over time, as we think about the plan and the rollouts that happened this year, we love it. It increases the visibility and availability of the brand, but we're really focused on does it bring in net new users, and some do that more than others. And so as I look at next year, depending on how the Tractor Supply thing goes, depending on how the Walmart fridge islands go, those could be big drivers and net new households for the brand. But I'd expect next year to be like this year, a good year. Whether it's a great year or not remains to be seen.

One area that maybe you've highlighted in the past as a greater opportunity, I think one, smaller dogs tend to have higher penetration than large dogs. And then two, you've tried maybe some new SKUs that have different types of attributes associated with them. Maybe an update on kind of both of those initiatives and to what extent -- now is a good time to be pushing those, versus waiting for a more robust demand environment?

Yes. I mean you have to remember, at any given time, there are people who have money and people who are looking to enhance the lifestyle of their dog. And so yes, there are some times that are better than others. But if you have a large dog and you have money, you might be considering Freshpet. And launching a large dog product like we've done has helped. And that's been -- that's a big, nice next step for us. We clearly would like to see our franchise move from being a smaller or medium-sized dog franchise to having more large dogs. But it's not like we have to jump from having 20-pound dogs to having 100-pound dogs. We need to get the 20 pounds to turn to 30-pound dogs, turn it to 40-pound dogs, turn it to 50-pound dogs and kind of let the curve slide to the right as we increase the size of the franchise and bring in more and more users. Over time, history would show that as you get broader and broader acceptance and adoption of this kind of a new habit eventually becomes the norm for the people across sizes, income spectrums, breeds of dogs. It keeps moving in that direction. It just takes time. And so we just want to continually encourage it and nurture it, see how it develops.

I guess the other side of pet food -- and look, trends have held in a little bit better here -- would be on the cat food side. And -- I think we -- there's, I guess, a couple of questions here. One is, do you view the Freshpet brand as being able to bridge from dog into cat? And secondarily, do you think there's the same captive demand for fresh pet food on the cat food side that we've clearly seen on the dog food side?

Yes. I mean, we have cat food today. It's a very small part of our business. And for a long time, it was because we just didn't have capacity to chase it. And those are -- that day is gone. We certainly have the capacity to chase it today. We think it's a big opportunity. The question is the right way to pursue it. We have had an R&D team working on it for a while. We do not want to enter the cat food space just to say that we're there. It has to be a product that is demonstrably better than what the alternatives are. And there needs to be a marketing system and marketing model that works for it. It has to -- cat food aisle separate from dog food aisle. The characteristics of the product, cats eat with their tongues, dogs eat with their jaws and their teeth. You have to have the right product in the right place with the right packaging format. Most cat food is single-serve formats, we're in a bulk size format. So you have to think through all those pieces and then how does it fit with our system. You should know that we're working on it. We've been working on it for years, but we won't do something until we're sure we've got something that's a winning proposition. Can the Freshpet brand name go there? Absolutely, Freshpet brand name can go there. And we think that, that's a very viable proposition for us.

And just on the manufacturing side, I guess you noted the different form factors. How hard is that to introduce?

It depends on what the product is that you want to come up with because there are some things where you just have to change the back end. So the packaging that it goes into, but all the front end stays the same. And there are some things where you have to completely change the whole process. So until we've locked on what it is we want to do, it's hard to say. But the one thing that is the virtue of our business as we've created scale is we can have 4 dedicated lines. So we can afford to have a line -- the Kitchens 1.0 in Bethlehem is the original technology, it's small scale, slower speed lines. If one of those ended up being dedicated to making cat food, it would be a great use for a relatively low utilization piece of equipment. I'm not saying it will be, but I'm using it as an example of the options you have when you're at our scale, as you can decide to dedicate assets to a specific line. And that's what we do today. I mean, I described before, the Homestyle Creations product that we have, which is very distinct characteristics, the chicken bites, very distant characteristics. There is a line that is dedicated to making those at Kitchens South.

I wanted to ask on the input cost side. We have heard from a lot of food companies about heightened protein inflation this year. I think you -- I know you're buying a little bit differently, but also you contract annually, and we're getting to the point where that contract will roll over soon.

Yes.

Any update on kind of how to think about the pricing environment as we move into next year in terms of what you're seeing and maybe how that differentiates between protein types?

Yes. So we have done our contracting. Normally, it's a little later. This year, we got it done. The beef is no surprise. Beef is a lot more expensive, significantly more expensive. And so we're going to have to do some things related to that to manage that cost. Chicken prices are modestly down year-on-year for us. That's encouraging since we buy so much chicken. There are other things that we're buying that are up a little bit, and we have a little bit of tariff exposure on like vegetables from Eastern Europe and whatnot. On average, we don't see significant enough inflation that would merit us taking any broad scale price increases. We may look at something related to the beef products in particular, but nothing that's across the board that may be necessary. So we're pretty encouraged by the position that we're sitting in today that we can basically go and market without having to change the vast majority of our prices.

Okay. And then just another one on, I guess, thinking through forward decisions. You noted the SG&A growing at half the rate of sales as kind of a longer-term target. As we think about next year, how much might it make sense or not to lean into advertising?

Yes. So this is an ongoing source of discussion. We believe that advertising is the primary driver of our growth. And so we always want to lean in where we can lean in, but we don't want to do it recklessly. And so the floor that I would set is it can't have any negative impact on our ability to expand our margins. So think of it as if we decide to lean into spending more money on advertising, we have to know that we have some sort of an offset somewhere else. That doesn't mean -- and I'm not telling you we won't because, frankly, the way we're performing from an operations perspective gives us degrees of freedom that we feel really good about. But I also don't want us to invest in incremental marketing support if we don't get a good payback. One of the lessons that we've learned in our kind of analysis of the market of late is we know we need to get to those margins that the industry says, you know what, these are the kinds of margins a high-quality, consumer branded product with a well-inflated moat should be making, and don't go below those. If you can invest to get growth above those, that's a good idea. But don't invest and take those down because that, in essence, erodes the value of the consumer franchise. And so from our perspective, we're going to look at each of those sort of as a guidepost for how we make those investment decisions.

Okay. You did have a recent CFO departure. Maybe just any update on kind of the qualities that you're looking for as you think about a future partner?

Yes. Obviously, losing Todd was not something that we wanted to have happen. He was a fabulous partner. We feel really good about what he did for us. And he was not just a talented guy, but from a cultural fit perspective, he did many good things for us. But we don't fault him for the decision he made. It's closer to home, it gave him the opportunity to work at a big company in the place where he wants to live. So that made all the sense in the world. As we think about this, we're in a very different place today than we were when we hired Todd 3 years ago. Three years ago, we had an organization that didn't have the bench strength that we have today. And so we needed somebody who had mastery in a wide variety of areas. Three years ago, we were a company that wasn't positive free cash flow, wasn't generating cash. Probably didn't need to think about how you do a whole lot of capital allocation besides investing in capital. Had to do a little thinking about debt financing, which we did do, and he did a nice job on that for us. But we -- as we think about it, the unique characteristics of this business, one is we need somebody who's familiar with and comfortable with growth. If you're not familiar and comfortable with growth, you will struggle in this environment. It's a very dynamic place. Secondly, ideally, we'd like to have some experience with manufacturing. A lot of high-growth companies unfortunately are not self-manufactured. And so you could have the high-growth experience, but you have no manufacturing experience. Or you've had to have it in a previous experience. But manufacturing brings a level of complexity that is not something you inherently have. You have to sort of have it lived and experienced at least some element of that. The third thing as we think about it is we think about you as not just a CFO, we think of you as a member of a team. And we look for the qualities that's going to make somebody a really valuable member of the team. One of the things that Todd had going for him was he was a natural skeptic, which was good. We needed natural skeptic. He was also a guy who wanted everything to be simple. Don't get me complicated. We have people who can make things really complicated. We need somebody who when they put them inside of our team, brings the qualities that amplify the value of everybody else rather than being redundant with what everybody else is. And so that's what we're looking at. I'm encouraged to say we've got a very robust field we've assembled. We're in the early stages of that process. We're just reaching out and having the conversations with the field that we've assembled. We want to move quickly, but there's not the urgency to move. Ivan Garcia, who is the interim CFO, has been with us for 11 years. He's a fabulous talent. He's doing a great job. The team that works for him is doing a great job. So we're not in a hurry, but we're moving with urgency.

This might be the last question, but you're now free cash flow positive, and you expect to remain so. What are your priorities as you generate this free cash flow?

Yes. So we're obviously spending a lot of time thinking about that. And we've got some decisions to make. We obviously have the convertible debt offering that we did a couple of years ago that's out there. We can't call that until March of '26. Not saying that we will call it, but I'm just saying that certainly is an opportunity that if we want to do that, we have that possibility. We obviously have no other debt on the -- so we can invest capital to support our growth. We do not want to get over-levered. We're not interested in being over-levered. We think that we're at the point of maturity that we should be able to fund our own growth and do it within a reasonable amount of leverage on the balance sheet. But we're not averse to looking at any that can help us accelerate our conversion of the category to fresh pet food, whatever that looks like. We spend a fair amount of time these days thinking about technologies that might make a difference for us. And where those could accelerate what we're doing, whether it be nutrition technologies or anything else like that, we're interested in that kind of stuff. But right now, the big focus is now that we're kind of getting to being free cash flow positive, figure out what you're going to do from the balance sheet perspective going forward, lay out a clear plan, and we expect to do that sometime next year.

Thanks for joining us today. Very insightful.

Thank you. Thank you very much.