BellRing Brands, Inc. (NYSE:BRBR) Q4 2022 Earnings Call Transcript

BellRing Brands, Inc. (NYSE:BRBR) Q4 2022 Earnings Call Transcript November 18, 2022

Operator: Welcome to BellRing Brands Fourth Quarter 2022 Earnings Conference Call and Webcast. Hosting the call today from BellRing Brands are Darcy Davenport, President and Chief Executive Officer; and Paul Rode, Chief Financial Officer. Today’s call is being recorded and will be available for replay beginning at 1:30 p.m. Eastern Time. The dial-in number is 800-839-2461. No pass code is required. At this time, all participants have been placed in a listen-only mode. It is now my pleasure to turn the floor over to Jennifer Meyer, Investor Relations of BellRing Brands for introductions. You may begin.

Jennifer Meyer: Good morning. And thank you for joining us today for BellRing Brands fourth quarter fiscal 2022 earnings call. With me today are Darcy Davenport, our President and CEO; and Paul Rode, our CFO. Darcy and Paul will begin with prepared remarks, and afterwards, we will have a brief question-and-answer session. The press release and supplemental slide presentation that support these remarks are posted on our website in both the Investor Relations in the SEC filings sections of bellring.com. In addition, the release and slides are available on the SEC’s website. Before we continue, I would like to remind you that this call will contain forward-looking statements, which are subject to risks and uncertainties that should be carefully considered by investors as actual results could differ materially from these statements.

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These forward-looking statements are current as of the date of this call and management undertakes no obligation to update these statements. As a reminder, this call is being recorded and an audio replay will be available on our website. And finally, this call will discuss certain non-GAAP measures. For a reconciliation of these non-GAAP measures to the nearest GAAP measure, see our press release issued yesterday and posted on our website. With that, I will turn the call over to Darcy.

Darcy Davenport: Thanks, Jennifer, and thank you all for joining us. Last evening we reported our fourth quarter and fiscal 2022 results and posted a supplemental presentation to our website. Fiscal 2022 was a transitional year for BellRing Brands. As a result of our outsized growth in 2021, we spent fiscal 2022 laying the foundation and gearing up for the future. We made significant progress in our shake capacity expansion plan to grow and diversify our supply and deepen our competitive moats. Lastly, our organization invested in consumer and category insights, prepared plans to restart marketing and promotion and created a robust innovation pipeline. The work done in fiscal 2022 sets us up for a strong 2023 and beyond. Now to the quarter results, Q4 net sales came in at $379 million, 12% over prior year.

However, this was below our expectations as a result of a production shortfall from our new bottle co-manufacturer, a delayed load-in to the e-commerce channel and an expansion of the previously announced shake recall. Overall, the recall was immaterial to our business, but it led to shelf disruption that uniquely impacted Q4. Fiscal 2022 saw our net sales grow to $1.37 billion, up 10%. Our profit trajectory remained extremely healthy with adjusted EBITDA growing 16% to $271 million and adjusted EBITDA margins at the top end of our long-term algorithm. Paul will go into more detail on the quarter, but I am incredibly proud of the team for delivering these results given the challenges we encountered throughout the year. Premier Protein brand continues to demonstrate strength and resilience.

As a reminder, in November 21, we announced a plan to intentionally dampen shake demand while we expanded our co-manufacturing network. We reduced our full-time shake portfolio from 14 to seven flavors, temporarily turned off promotion and marketing, and still sold every shake we could produce. These supply constraints have made our year-over-year volume trends a bit confusing. In the fourth quarter of 2021, we significantly and unsustainably reduced inventory as a result of our high promoted volumes outstripping our capacity. In Q4 2022, we have limited flavors and did not repeat the promotions, because we did not have the inventory. Nonetheless, consumption declined only 5%. During fiscal 2022, a better measure of brand momentum is our sequential dollar consumption, which grew each quarter.

Starting in fiscal 2023, we no longer — we are no longer lapping heavy promotional periods, with October consumption dollars back to growth, up 16% versus prior year. And with all key measures for Premier Protein remains strong and reaffirm our long runway for sustained growth. According to our most recent brand equity study, Premier Protein remains the number one Brand I love, the number one brand I would pay more for and has the number one Net Promoter Score in the category. Our consumption results support these measures with non-promoted volume in 2022 increasing, clearly showing that our consumers are willing to pay more for Premier Protein. The power of the brand comes through in velocity as well. Premier holds fur of the top — of the RTD category’s top highest velocity items in tracked channels.

In fact, at one of — at a key mass customer, Premier holds nine of the top 10 items. Also penetration is the only exception to a landscape of bright performance metrics. With Premier Protein’s pullback in flavors, promotion and marketing, we have seen the overall shake category, as well as our brand decline in household. However, our buy rate has risen, signifying our loyal, high value buyers are staying with us, while we are temporarily losing occasional deal seeking buyers. We fully expect household penetration to rebound once we have reintroduced our full portfolio and restart promotion and marketing. As we enter 2023, our trade inventory levels have improved. However, some retail partners are still below target. Based on our current capacity ramp-up plan, we will focus the first half of 2023 on rebuilding these remaining retailer’s inventory levels, so we can get back to full shelves and pallets everywhere.

Now to shake capacity, last November we outlined a plan to aggressively add capacity for our shake business and we have made significant progress. In fiscal 2022, we added three co-manufacturers and signed agreements with an additional three that will start up in fiscal 2023. As you may recall, the big step up in production happens in Q4 2023 when our two dedicated greenfield facilities come online. Consequentially, their benefit will not fully be realized until fiscal 2024. As you would expect, adding this much capacity has not been without its challenges. In addition to the July recall at one of our smaller co-manufacturers, Q4 production scale up at our new bottle co manufacturer has been slower than anticipated, which didn’t allow us to drive the expected growth in the e-commerce channel.

The good news is that our production is growing with second half production significantly increasing versus the first half. We expect low double-digit production growth in fiscal 2023. In 2024, with the additions of the dedicated facilities, we expect to add north of 20% incremental capacity on top of the 2023 volumes. This year, we have laid the foundation for many years of robust shake growth. Turning to Dymatize. The brand had a terrific quarter, with consumption dollars in the U.S. up 32% across tracked and untracked channels. We saw strong growth — we saw strong double-digit growth in all key channels except for club where we temporarily lost distribution. The momentum has continued in October, with consumption up 44%. A return of marketing and promotions drove this growth with sales lifts exceeding our expectations.

Equity metrics are incredibly strong with Dymatize, being the number one high quality brand and number two Brand I love among powder brands. Lastly, Dymatize’s expanding distribution in mainstream accounts adding 21% more TDPs this quarter, which are now at an all-time high. Moreover, with only 35% ACV today, Dymatize has a ton of room to grow future distribution, which is a major organizational focus this year. Now to our outlook. As you saw in yesterday’s press release, we expect fiscal 2023 net sales to grow between 14% and 20%, and adjusted EBITDA to grow between 11% and 20%. The sales guidance is above our long-term algorithm, reflecting our pricing actions and lapping capacity constraints in 2022 as shake volumes return to growth. We expect to begin driving demand in our Premier Protein shake business again this year.

Our current plan is to start reintroducing our temporarily discontinued flavors midyear and restart marketing and light promotion in the back half. Obviously, these decisions depend on the demand and supply dynamic and we will remain nimble so we can navigate effectively. In closing, we believe we have many strong growth years ahead of us. Our high growth category continues to accelerate above historic mid single-digit growth rates with strong macro trend tailwinds. We now have two powerful growing mainstream brands transforming the category and gearing up to innovate, market and promote again. Since our 2019 IPO, we have delivered a 17% revenue CAGR and an 11% adjusted EBITDA CAGR, outperforming our long-term algorithm, despite the COVID-19 pandemic and major supply chain disruptions.

We are well along in our shake capacity expansion plan. We are a rare combination of scale, organic growth, strong margins and high free cash flow generation. Given our asset-light model, we will have significant cash flow to delever rapidly. Lastly, BellRing has a nimble, collaborative culture that will continue to fuel its success for years to come. We remain confident in our long-term outlook for BellRing and look forward to demonstrating our success. Thank you for your continued support. I will now turn the call over to Paul.

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Paul Rode: Thanks, Darcy. Good morning, everyone. Net sales for the quarter were $379 million and adjusted EBITDA was $80 million. Net sales grew 11.5% over prior year and adjusted EBITDA increased 32% with adjusted EBITDA margins of 21.1%. Net sales in the quarter lagged expectations, driven primarily by production shortfall in bottles, a delayed load into the e-commerce channel and shelf impact from the expanded recall. We were able to more than offset the net sales mix on the adjusted EBITDA line through efficiencies in freight and logistics, as well as modest benefits from lower protein costs. Premier Protein net sales grew 9%, driven by higher average net selling prices, which contributed 18% to overall growth, offset partially by a 9% volume decline.

Premier Protein RTD shake volumes declined 9% as we lapped prior year promotions and a temporary reduction in available flavors. These headwinds were partially offset by increased baseline volumes. Dymatize net sales grew 32% compared to a year ago, benefiting from higher net pricing and favorable product mix, offset partially by lower volumes. ISO100 had a great quarter with sales of 63% on higher volumes, benefiting from distribution gains and the category momentum. These gains were partially offset by volume declines for the remainder of the Dymatize portfolio as a result of lapping discontinued products. We made the strategic choice to simplify the business with a core focus on ISO100, our flagship product. As a result, we exited certain Dymatize products, which caused volume headwinds in the quarter.

This is expected to remain a volume headwind to the first half of fiscal 2023. Gross profit of $122 million grew 27% with gross margins of 32.3%, up 410 basis points as our pricing actions offset significant inflation. In addition, we lapped a prior year period that included a significant promotion, supply chain inefficiencies and protein inflation ahead of pricing. Excluding one-time items, SG&A expenses increased $9 million compared to last year. As a percent of sales, SG&A increased 120 basis points, largely reflecting the return to marketing for Dymatize. Turning to full year 2022 results. Net sales were approximately $1.4 billion, up 10% over the prior year, with gross profit of $422 million growing 9%. Gross profit margins were largely flat year-over-year as our pricing actions and promotional pullback offset double-digit inflation.

SG&A expenses were $190 million and excluding one-time items, increased $5 million compared to last year. As a percent of sales, SG&A improved 80 basis points, driven primarily by reduced marketing spend as we manage demand on Premier Protein shakes. Adjusted EBITDA increased 16% to $271 million with a margin of 19.8%, an increase of 100 basis points. Before reviewing our outlook, I would like to make a few comments on cash flow and liquidity. We generated $10 million in cash flow from operations in the fourth quarter and $21 million for the year. As a reminder, we started the year with low inventories on both our shake and powder businesses, which fueled outsized cash flow in fiscal 2021. In fiscal 2022, we saw the opposite effect as we built inventory, primarily Dymatize powder and raw materials, resulting in lower than typical free cash flow compared to historical rates.

Fiscal 2023, we expect shake inventory growth to be largely offset by reductions for our powder and raw material inventories. As a result, we expect to generate much stronger cash flow in fiscal 2023 and be more in line with our historical EBITDA to cash flow conversion rate. During the quarter, we repurchased 1 million shares at an average price of $23.20 per share, 800,000 of which were purchased in connection with a secondary offering of shares previously held by post. For the fiscal year, we purchased 1.9 million shares at an average price of $23.34. Our remaining share repurchase authorization is 25 million. As of September 30, net debt was $903 million and net leverage was 3.3 times, down 0.7 times from the pro forma spin-off closing target of 4 times.

With our expected EBITDA growth and return to strong free cash flow generation in fiscal 2023, we anticipate net leverage to be lower than 2.5 times by the end of fiscal 2023. Turning now to our outlook. We expect fiscal 2023 net sales of $1.56 billion to $1.64 billion and adjusted EBITDA of $300 million to $325 million. Our guidance implies strong topline growth of 14% to 20% and adjusted EBITDA growth of 11% to 20% with healthy adjusted EBITDA margins of 19.5% at the midpoint. We expect double-digit sales growth for Premier Protein and Dymatize as both benefit from higher net selling prices and increased volume. Sales are expected to sequentially grow after the first quarter as RTD shake production increases. Volume growth for Premier Protein RTD shakes is expected to be driven by continued category tailwinds, the re-launch of temporarily discontinued flavors and the restart of marketing promotions to drive demand.

We expect volume headwinds in the first half at Dymatize as we lap the exit of discontinued products with stronger volume growth in the second half. We continue to experience significant inflation on dairy proteins and executed an additional price increase on our Premier Protein RTD shakes in October. This increase is expected to offset inflation resulted in strong gross margins in the first quarter, with lower gross margins on a sequential basis as protein costs step up. We expect adjusted EBITDA dollar growth to be weighted modestly toward the first half of fiscal 2023, which has a greater benefit from pricing actions, while the second half of 2023 has higher inflation and incremental brand building investments. Turning to our first quarter forecast.

We expect low double-digit net sales growth compared to prior year, with adjusted EBITDA growth outpacing the topline growth. Through Q2, pricing continues to be the primary sales growth driver compared to prior year. We expect first quarter adjusted EBITDA to grow significantly from prior year, driven by increased net sales and margin expansion. Gross margins are expected to benefit from higher net selling prices offsetting inflation, as well as lapping prior year supply chain inefficiencies and protein inflation ahead of pricing. In closing, we are pleased with our performance this year despite a tough environment. We are emerging stronger and our momentum is growing heading into 2023. I will now turn it over to the Operator for questions.

Q&A Session

Operator: We will take our first question from Ken Goldman with JPMorgan.

Ken Goldman: Hi. Thank you very much. I wanted to focus a little bit on Dymatize. I am just curious a little bit more — if we could get a little bit more information about the decision perhaps to focus on the ISO100 variety, what’s driving that decision? And then I also wanted to ask as a follow-up, I guess, typically, when a product is no longer sold in a channel at all, it seems like Dymatize had zero sales to club this quarter. That’s usually the customer’s decision, not the producers. So if it was your decision to exit club, why? Why not just sell ISO100 to that channel versus what you may have been selling there? I am just trying to get a little better sense of the dynamics there? Thank you.

Paul Rode: Good morning.

Darcy Davenport: Hey, Paul, why don’t I answer the club and then we will — I will let you answer the ISO100 and you add decision focus. So on the club on Dymatize, it was not our decision to discontinue it. The club retailer — when we took significant pricing on Dymatize as a result of the rapid inflation, the club retailer decided to — was not happy about the increases in price and decided to discontinue it. It was not because of performance. Actually, Dymatize was the number one item in his set for powder, but he just — they weren’t happy with the price increase. They have reversed that decision and we are actually getting it back in. So it was a temporary discontinuation. But it was not our decision.

Paul Rode: Yeah. Just to add on that. So from a volume headwind, that discontinuation is certainly a part of it, but the discontinuation of flavors and products is a bigger piece. So let me touch on the why. So ISO100 has always been the flagship brand for Dymatize. As we — as I mentioned in my prepared remarks, we came into the year on the lower side of inventory and so we made some decisions to focus on ISO100, but also to take out some of the smaller sub-brand, and in some cases, just flavors, so that we could focus our resources and our — and growing ISO100. It allowed us to — if you go back, protein was also a little tight back last year and so it allowed us again to focus on specific SKUs and products. We discontinued a number of, I will call them, lower value products, and in some cases, some flavors, which we will bring back in fiscal 2023, but it is a headwind to the Q4, as well as into the first half of the year.

Darcy Davenport: Yeah. Think of this as a kind of difficult SKU rate . However, it was a little bigger than normal just because of the long tail on the Dymatize business, but the small SKUs that needed to be cleaned up.

Paul Rode: And it has an outsized impact to volume, because the ISO100 is a high dollar per pound product, and a lot of the other products are lower dollar per pound. So the volume impact is outsized compared to the sales because ISO is a two-thirds to 75% of the overall business. So it just has an outsized effect the volume.

Ken Goldman: Got it. That’s all very helpful. If I can just tie a bow on that, so putting or adding one plus one, is it fair to say that you are getting the product back into club in the second half of the year? I just want to get a sense of the timing on that recovery there.

Darcy Davenport: It should be in — for Q2.

Ken Goldman: Great. Thanks so much.

Darcy Davenport: Yeah.

Operator: We will take our next question from Andrew Lazar with Barclays.

Andrew Lazar: Great. Thanks. Good morning.

Paul Rode: Good morning.

Darcy Davenport: Good morning.

Andrew Lazar: I am sorry if you said this, I was unclear, some of the one-off items that affected 4Q, the delayed load-in to e-commerce and sort of the bottler co-packer issue. Are those now sort of completely resolved or do they sort of bleed into the New Year? And is there a way to sort of quantify maybe what the impact to sales in the fourth quarter was from some of those one-off items, I know that can be hard sometimes?

Darcy Davenport: Yeah. So I will hit the first and then I will let Paul address the quantification. The — yeah, the three — you hit the three items, so and for the most part, they have been resolved. So, obviously, the recall expansion that is unique to Q4 and then — and that was really a shelf disruption. And then on the — and just to be clear on the recall, we — the recall happened and this is one of our — it was immaterial. It was a small co-man kind of immaterial to our overall business. Our initial recall happened on 7/28, which we knew last earnings call. But then there was an expansion after our earnings call and what happens with the expansion is from a retailer standpoint it’s just like a new recall. So they actually — many retailers just swipe the shelf, they can turn off your item, et cetera.

So there is a disruption at the shelf. So that was the unique item. And then, yes, on the delays — on the e-commerce pieces, delayed load-in largely was remedied in Q2 and then bottle production continues to improve, not where we need to be, but improving. So I would say largely it has been kind of corrected and they were kind of unique items to Q4.

Andrew Lazar: Then, Paul, I think, you were going to mention, yeah, if there was a way to quantify the impact on sales.

Paul Rode: Yeah. As far as magnitude, about two-third of the impact is from the e-commerce challenges and about a third from the recall. On the e-commerce side, bottle production was a majority of it but we did have some challenges with an e-commerce retailer. They were heavy on inventory and so they weren’t allowing us to ship in some of our products. So that’s part of it. And the one thing I want to touch on, so Darcy mentioned, the production is challenge, the one issue we did have as well that did result in some of our limited time offerings, not getting to the shelf because of issues. So that’s the one thing that would have benefited Q4 that won’t come in back into Q1, but we do get some timing benefits from some of the products as they fall into Q1.

Andrew Lazar: Got it. And then, Darcy, you mentioned the buy rate was up. Is some of that due to just purely the price increases that you have had or, I mean, is there a way to see what maybe buy rate would be on sort of more of a volumetric basis to get a sense of how consumers are thinking about or the loyal consumers are thinking about the brand?

Darcy Davenport: Yeah. Most of the buy rate increases are pricing. But I think that what it shows is that our loyal, high value buyers are sticking with us.

Andrew Lazar: Okay. Thank you.

Darcy Davenport: Thanks.

Operator: We will take our next question from Chris Growe with Stifel.

Chris Growe: Hi. Good morning.

Darcy Davenport: Good morning.

Paul Rode: Good morning.

Chris Growe: Hi. I had a question for you on — you showed a chart in the slides around a TDP recovery and I just want to get a sense of clearly about 20% below you were pre sort of supply issues. Would you expect to build back to that level throughout the year, is there a way to think about it or does it build back there more quickly as you are rebuilding inventory at the trade?

Darcy Davenport: I am assuming, Chris, you are talking about Premier Protein, not Dymatize, right?

Chris Growe: Correct. I am sorry. Yes. Yes.

Darcy Davenport: Yeah. Yeah. So we expect TDPs to stay kind of stable — they have been very stable since for most of the calendar year and we expect them to stay stable until we start reintroducing some of those paused SKUs and that’s going to happen midyear then they will pick up. We should see a little bit of an increase over the next kind of several months, just as we continue to fill the shelves out and increase — as we increase trade inventory. We still have holes on the shelf, especially in some FDM accounts. So we will think of it as maybe some small increases as we fill out the shelves better in kind of FDM and then we will start seeing consecutive improvements as we start reintroducing kind of midyear as we start reintroducing those paused cost SKUs.

Chris Growe: Okay. Our data has shown picking up here a little bit even in recent weeks. I know your data goes through the quarter. But it looks like it picked up a bit and perhaps that’s filling in some of those holes in the FDM accounts, so

Darcy Davenport: That’s exactly right.

Chris Growe: Okay. And then just a second question for you, perhaps, for Paul, is around accounts receivables spiked up a lot in the fourth quarter and days sales outstanding spiked up. I guess I wanted to just understand like, obviously, it would indicate you shipped a lot late in the quarter. Was that getting retailers back to targeted levels, is that what I am seeing there? And maybe related to that, is a targeted level for a retailer, is that above where it’s been historically or is it where it’s been historically and you are trying to get back to the level

Paul Rode: Yeah. So on your last question we are really just trying to get back to the initial level. We haven’t necessarily seen changes in their desired weeks of supply, so it’s really trying to get them back. As far as cash or as far as receivables, you are correct. It’s really more about timing. So we did have heavier shipments in September, which drove the AR up. And if you compare that to the prior year, we had a lot of promotion — promotional shipments in kind of that July, August time period, which meant that accounts receivable in September was really almost at a low point a year ago where it was just a little different in how it shipped out in fourth quarter of fiscal 2022.

Chris Growe: Okay. Okay. Thanks a lot for that.

Paul Rode: Thank you.

Darcy Davenport: Thanks.

Operator: We will take our next question from Ben Bienvenu with Stephens.

Jim Salera: Hey, guys. Jim Salera on for Ben. Thanks for taking our question. I wanted to ask, you touched on this a little bit at the beginning with the club retailer flip-flop, but just kind of your retail partner’s receptiveness to you guys pulling the price lever. I know we have heard some larger retailers kind of dig in their heels in. Just wanted to get some commentary around the category sets as you guys are taking price, have you seen maybe some SKUs you trimmed out or maybe new brands coming into the category?

Darcy Davenport: So from a price standpoint, I mean, it’s always difficult, and yeah, we have definitely seen the same articles out there. So we obviously just took a round of pricing on the Premier Protein shake business effective Q1. So in October, it was expected by all retailers and it is currently in the market. But I think that they — I mean it was — there were a lot of negotiations. I think that — and there’s definitely a pushback. But I think, ultimately, they understand that our costs are dramatically increasing. So it just kind of comes down to that. It was a pretty logical conversation. And then what was your second question?

Jim Salera: I was just saying that with the club flip-flop, if — when they pulled the SKUs off, did they replace that with a different brand or did they just pull them out entirely and just put a different set in there?

Darcy Davenport: Yeah. So — and the club flip flop was on Dymatize, happened earlier this year. I don’t know the exact — they have put in a different competitor. I don’t remember which one it was. But they — club is a little different, especially on the powder side of the business, where they do bring in some ins and outs. So I can’t remember if it was a permanent SKU that replaced it or just an in and out. I seem to remember it was in and out, which is why we are getting back in.

Jim Salera: Okay. If I can ask then, when you guys put together the guidance, did that assume that you guys would be out on club for Dymatize or is that assuming that you guys would be back in, so basically

Darcy Davenport: Yeah.

Jim Salera: is it incremental so you are back in?

Darcy Davenport: No. It’s not incremental. We knew that it was coming back.

Jim Salera: Okay. Got it. Thank you. I will pass along.

Darcy Davenport: Thank you. Thank you.

Operator: We will take our next question from John Baumgartner with Mizuho Securities.

John Baumgartner: For the question. First off, Darcy, I wanted to ask about Premier’s household penetration and promo and rebuilding penetration from here given the stable buy rate set against the consumers you lost who are more deal driven. As you build back supply, is there a way of promoting differently or positioning the brand differently? In light of the promoter score and the willingness to paid data that you mentioned where you don’t need to go deep on future promo and you can maximize that mix of loyal consumers in your base or having that price-driven consumer, is that just necessary to build penetration and we should still see kind of that similar promotional depth that we have seen historically before the supply constraints?

Darcy Davenport: It’s a great question, and we have been debating this internally a lot, just about rethinking kind of our promotion — promotional strategy. We — first of all, we know that promotion is — there’s going to be some natural churn within all brands. We need promotion, especially and for us, it’s less the temporary price reduction, but it’s more about the display that often comes with the temporary price reduction. So — and just to remind you, this business has been really built on getting kind of out of the aisle and what that does, it’s a mainstream product. As long as we get out of the aisle and get eyeballs then we can bring in new people and then because of our strong repeat, we keep them for the most part in the franchise.

So regarding the — it’s a balance. We are talking to retailers right now about our promotional strategy. They are dying to promote again, as you can imagine, because we bring in a lot of people from outside the category. So now it’s a balance of, okay, can we maybe not go as deep as you were talking about or can we do maybe one last promotion? I think the big thing for us is as long as we get outside of the aisle, it will be very effective.

John Baumgartner: Okay. Thanks for that. And a follow-up for Paul, on the commodity outlook for this year, I think, you mentioned higher inflation for H2. Is that pressure driven by expectations for spot pricing, maybe in protein, where there could be potential flexibility or is that outlook sort of locked through forward buying or hedging where there’s really not much wiggle room? Just trying to figure out how much flexibility is inherent in the back half of the year on commodities? Thank you.

Paul Rode: Sure. Yeah. Our typical strategy is to be covered on commodities out about six months or so. And so for us, our hit on COGS, the protein rates that flow through our P&L typically go more about a six-month to nine-month lag to the market. So the market did tick up obviously in the second half of last year. So we are really expecting the height of that to hit us in the second quarter and third quarter. So I mentioned in my prepared remarks that we would expect sequential increase in protein from Q1 into Q2 and Q3. We have recently seen commodities start to come down a bit, but they have been bouncing around a little bit and so I think it’s a little bit to be determined where they land, but it could provide some potential opportunity for us in the second half, depending on where the rates go.

John Baumgartner: Okay. Thanks, Paul.

Operator: We will take our next question from David Palmer with Evercore ISI.

David Palmer: Thanks. A question on the production growth, you said low-double digits in fiscal 2023. Is that below where you had previously believed it would be, and if so, what’s driving that?

Darcy Davenport: It is a little bit below what we previously said and the reason is, because we are factoring — there are two pieces when you add capacity. One is the start-up timing, meaning when they actually start producing. And then there’s scale up and that is getting to the level kind of throughput. We have — the timing of start-up was absolutely on time and what we expected. But the scale up has been a little bit less than it’s taking longer than we previously expected and the bottle — our bottle come in as a perfect example of that affecting this quarter. And so what we have done is we have applied those learnings that we saw in 2022 to 2023 and the result is bringing down the production expectations a little bit.

David Palmer: Okay. Got it. Thank you. And I am wondering how you are viewing the interplay between capacity increases for you and your competitors, do you see your capacity increasing at the same rate as competitors. And if the — if everybody is getting the same sort of co-packer capacity relief, what dynamics do you see playing out in the market in terms of pricing power and how do you see this all playing out?

Darcy Davenport: So I can talk to the kind of tetra co-man portion of the business. Based on our estimates, we are kind of gobbling up about 70% of the new capacity. So we are definitely getting more than our fair share of the new capacity and that’s really a reflection of we were the ones initiating it. We needed it the most. We are the biggest player. And so we were able to enter into these long-term agreements and get even right of first refusal for expansions from here as well. So I think that — so I definitely know that we are getting more than our fair share of new tetra capacity. And then your second question was around — can you clarify your…

David Palmer: Yeah. We will — I think it is — that is the bulk of the question is really that. But I wonder how you are even thinking about until this point, certainly, pricing power has been perhaps reinforced by this dynamic that nobody else can fill in the capacity that you are vacating that you are not able to supply. And I wonder if you think that, that how you think promotion and pricing power will break down or not as this capacity rolls in?

Darcy Davenport: Yeah. I think the way I look at, I mean, I talked about in my prepared remarks just that this last year was a transitional year. I mean in many ways, I mean, we were holding — we kind of were holding ground for a year and now we are getting back to driving demand. There’s — starting in 2023 and beyond because of capacity, we are going to be able to get back to driving demand, having a full set of flavors, driving through promotion and marketing, building households, doing — innovating and doing all the things that we were doing before. And I think what that’s going to do. I think we have proved that pricing power. But I think what’s important is, we want to get back to growth and we want to get back to bringing new — we still think that the category and our brand is highly underpenetrated.

And so, I think, as we get back to growth, we will start bringing in new households, some of it will be in promotion and some of it will be on every day. So I think that, that will be the focus going forward. And I see, I mean, the whole category really has been a little bit on hold even though we are still — the category is growing, but I am excited to see it get back to growth, because there’s so much more potential here.

David Palmer: Thank you.

Darcy Davenport: Thanks.

Operator: We will take our next question from Ken Zaslow with Bank of Montreal.

Ken Zaslow: Hi. Good morning, everyone.

Darcy Davenport: Good morning, Ken.

Paul Rode: Good morning.

Ken Zaslow: Do you ever think that you need to rethink your business model in terms of potentially getting a closer relationship or something with the, obviously, that you wouldn’t want to actually do the manufacturing. But is there something that you can do, because this obviously isn’t the first time you have had supply issues going back to the IPO, we have gone through this a couple of times. Is there a thought of just taking a step back and saying, all right, there’s a better way to look this model?

Darcy Davenport: Yeah. In many ways, I think we have pivoted our strategy. As we — I mean, if you look at several years ago, we were simply a co-man, we had simply a co-man model and every single one of our co-man had multiple different competitors in the same co-man. Now let’s see, two of our three that are coming on next year are exclusive to us. They are dedicated to us. So, yes, they are still — and what I think is a — it’s really kind of an elegant solution, because it allows us to stay with our asset-light model, but allows us also to have a dedicated facility or two dedicated facilities, which actually will make it three, because we have one already. But — and so that — and so we will have kind of more influence, more transparency, and then I also talked about before about right of first refusal on new assets. So in many ways, I think, our manufacturing strategy has evolved, given as we have learned from the past couple capacity constraints.

Ken Zaslow: Okay. My second question is, have you segmented your customers in a way that you would know what percentage are the ones that are seeking value and is there an opportunity to just continue to minimize that and not even worry about that as they probably profit — may not be profit dilutive, but they are less accretive than the others? And is there — because it doesn’t seem like demand is your challenge, right? So if you push all your capacity towards those consumers willing to pay and have a higher, is there an opportunity there to do something like that?

Darcy Davenport: So, yes, we are able to segment our customers kind of to the like loyal, high value and occasional, and that’s an occasional deal speaking. That’s how we knew that we were losing our household penetration as it’s gone down this last year. We were losing those occasional deals seeking buyers. So half of those buyers actually left the category completely and then half went to a variety of different competitors that were on deal there and those will just always move to the next deal. That’s how they operate. We also know that consumers — that as consumers stay within the franchise, they continue to buy more and become more valuable. So for instance, the ones that entered at the beginning of the pandemic, they have doubled, those consumers have doubled their spend.

So it’s all about — the model is all about bringing in new households and then continue to graduate them to spend more. So I think we will — I think the deal seeking buyers when we promote again, I think, they will come and go. They are not our focus. Our focus is to bring in these loyal high values and then continue to graduate them up and spend more.

Ken Zaslow: Right. I guess around — because you said in your comments that any time we produced anything that’s been sold, like, we can’t — you can’t produce anything and not sell it. So, therefore, why sell it to somebody who would not pay full price, right? I mean you don’t have a consumer problem. You have a distribution or a production issue. So that’s only

Darcy Davenport: Right.

Ken Zaslow: my thinking.

Darcy Davenport: Yes. It makes sense. I think that promotion and really, and we are not going to — we don’t expect to start promotion until we have the adequate supply. I think what promotion does and what I was saying to John earlier is, it is really around the display and getting more eyeballs, and therefore, more household penetration.

Ken Zaslow: Okay. Thank you.

Darcy Davenport: Yeah. Thanks.

Operator: We will take our next question from Jason English with Goldman Sachs.

Jason English: Hey. Good morning, folks. Thanks for slot me in.

Darcy Davenport: Good morning, Jason.

Jason English: I suppose I kind of want to pick up on that last question, but really about timing. You characterized this year as the year of coming back into the main demand. When do you expect to be in a position to start stimulating that demand?

Darcy Davenport: Our current plan right now, Jason, is to bring back some of this paused SKUs midyear and then to start marketing and some light promotion in the back half.

Jason English: Okay. So for those of us tracking the data, we should expect a deceleration based on comps as we enter next year, I expect and you tell me if you would see it differently. And on shipments, you mentioned, I think, in the press release that, you expect to use the first half to reload inventory. Should we expect the shipment versus consumption disparity, meaning a surplus of shipments over consumption to persist through the first half of the year?

Paul Rode: Yeah. So I will take the last one. So we do expect some modest shipments over consumption in the first half as we — as you touched on earlier, rebuild the remaining customers that we have that aren’t at optimal levels, but I think it is moderating from where it’s been. So I’d expect it to be fairly modest until we get to reloading some of the paused flavors, as Darcy touched on, which we expect to happen sometime in the late first half into the second half. So that obviously would be a load ahead of consumption. But those are the two primary items.

Darcy Davenport: And Jason, you touched on

Jason English: Okay. I am sorry, about

Darcy Davenport: Yeah. Sorry. Go ahead.

Jason English: Yeah. Yeah. Sure. You said some of comps. I said some of comps.

Paul Rode: Yeah.

Jason English: Your consumption growth has accelerated, because we are lapping a dip in consumption from the prior year, sequentially we are not really seeing a tremendous uptick and that dip doesn’t really exist in the front half of the year. So at current run rate, it suggests your sales growth is going to moderate quite a bit in the front half of the year, if you don’t have more TDPs and more marketing going in? And then if you tell me you are only going to modestly over ship, it suggests that you are going to — you have a very back half weighted year, am I correct

Darcy Davenport: Okay. So, just — yeah. So just remember that Q1 is a seasonally low period. So what you are seeing right now in the POS is — so that’s where the year ago and sequential, I mean, obviously, you know this. But they just factor them both in. So we always see a seasonally in kind of November, December, it’s low for the category, it’s the one seasonal time. There’s a natural increase in Q2, because of New Year for the overall category and then we will start driving demand throughout Q2 through Q4.

Jason English: So is it a back half weighted year or not

Darcy Davenport: No. The back half weight

Jason English: in terms of sales growth — your growth?

Darcy Davenport: It is. But — and that is partially, because first of all, we are a growth business, it will always be back half weighted, but also because that’s when our supply also is coming more online. So that does lend itself to and then we have the demand drivers, which are related.

Jason English: Right. Right. Okay. Thank you.

Darcy Davenport: Yeah.

Operator: We have reached our allotted time for Q&A and this concludes today’s call. You may now disconnect.