First Time Loading...

Freshpet Inc
NASDAQ:FRPT

Watchlist Manager
Freshpet Inc Logo
Freshpet Inc
NASDAQ:FRPT
Watchlist
Price: 106.36 USD 1.31% Market Closed
Updated: Apr 28, 2024

Earnings Call Transcript

Earnings Call Transcript
2019-Q1

from 0
Operator

Greetings. Welcome to Freshpet First Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded.

I will now turn the call over to Katie Turner for opening remarks. Please go ahead.

K
Katie Turner
Investor Relations

Thank you. Good afternoon, and welcome to Freshpet’s first quarter 2019 earnings conference call and webcast. On today’s call are Billy Cyr, Chief Executive Officer; and Dick Kassar, Chief Financial Officer. Scott Morris, Chief Operating Officer, will also be available for Q&A.

Before we begin, please remember that during the course of this call, management may make forward-looking statements within the meaning of the federal securities laws. These statements are based on management’s current expectations and beliefs and involve risks and uncertainties that could cause actual results to differ materially from those described in these forward-looking statements.

Please refer to the company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission, and the company’s press release issued today for a detailed discussion of the risks that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today.

Please note on today’s call, management will refer to certain non-GAAP financial measures, such as EBITDA and adjusted EBITDA, among others. While the company believes these non-GAAP financial measures provide useful information for investors, the presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Please refer today’s press release for a reconciliation of the non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP.

Finally, the company has produced a presentation that contains many of the key metrics that will be still discussed on this call. The presentation can be found on the company’s Investor website. Management’s commentary will not specifically refer to the presentation, rather at the summary of the results they will discuss today.

And now, I’d like to turn the call over to Billy Cyr, Chief Executive Officer.

W
William Cyr
Chief Executive Officer

Thank you, Katie, and good afternoon, everyone. To begin, I’ll provide an overview of our financial highlights and recent business performance, and then Dick will provide greater detail on our financial results. Finally, Dick, Scott and I will be available to answer your questions.

We are very pleased with our start to 2019. It is very clear that our Feed the Growth plan has generated significant momentum with our customers, with consumers and within our team. And that momentum is enabling us to serve more pets and pet parents, fulfilling our mission to change the way people feed their pets and doing that in ways that are good for our pets, for people and for the planet.

In the first quarter, we delivered strong net sales growth, our biggest increase in ACV distribution since the first quarter of 2016. Our adjusted gross margin improvement plan showed early evidence of progress and we delivered meaningful improvement on the bottom line despite continuing to invest for growth. It was a strong and well-balanced performance. We believe this provides us with good momentum for the balance of the year and as we March towards our 2020 goals.

The robust net sales growth in the fourth quarter continued into Q1, driving a 27% increase in net sales to $54.8 million, slightly above the 24% growth we projected for the year. The growth was broad-based, with Mega-Channel Nielsen measured consumption up 28%, behind 36% growth in grocery, 24% in mass and 18% in big box pet. Same-store sales velocity grew 19%, and accounted for more than 70% of the year-on-year growth.

Our core dog business, which is the sum of our dog rolls, roasted meals and Fresh From The Kitchen main meal items was up 29% in the quarter and now accounts for more than 90% of our business.

Our small, but rapidly growing e-commerce business, which includes curbside programs with our key customers, home delivery via services like Instacart and Shipt and fresh e-commerce like AmazonFresh and FreshDirect was up 107% in the quarter and now accounts for 2.2% of our business. More than 80% of that business went through our in-store fridge network.

Adjusted EBITDA in the quarter was $2.8 million, up 54% versus a year ago, despite a $3.2 million increase in our media investment versus Q1 last year. We believe this is an early indication that 2019 will be the first year, where we begin to leverage our increasing scale to deliver adjusted EBITDA growth in excess of our strong net sales growth, fulfilling the fundamental promise of significant strategic, operational and financial benefits of scale embedded in our Feed the Growth plan.

Recall, we expect to grow net sales in excess of 24% this year and expect our adjusted EBITDA growth of greater than 38% to exceed net sales growth. You will also recall that we set five strategic objectives for 2019. They include: number one, expand the Freshpet consumer franchise; two, strengthen Freshpet’s retail presence; three, strengthen adjusted gross margin and adjusted EBITDA margin; four, continued measured development in Canada and the UK; and five, build capability to support accelerated longer-term capacity expansion.

We made strong progress against each of these goals in the quarter as follows. First, expand the Freshpet consumer franchise. We successfully grew the size of our consumer franchise versus a year ago and those consumers bought more than they did a year ago. Total household penetration was up 10% versus a year ago and the buying rate increased 16%. Our core dog household penetration was up 18% versus a year ago. The core dog buying rate continued to grow up 12% versus a year ago. This data shows that we are successfully building a bigger and more loyal consumer franchise.

Second, strengthen Freshpet’s retail presence. Retailers are increasingly embracing the benefits of Freshpet. Our ACV distribution gains in Q1 were the largest we’ve experienced in any quarter since early 2016. We added 554 net new stores in the quarter, ending the quarter with 20,053 stores.

For perspective, we added 273 net new stores in Q1 of the previous year. The addition of these new stores resulted in an increase in percent ACV of 3.5 points versus year ago to 47.4% and total distribution points, TDPs, grew 11%, reflecting both our expanding store count and an increasing number of SKUs in distribution due to our upgraded fridges and second fridges.

We upgraded 203 fridges in the quarter, which when combined with the 805 upgrades in 2018, completes the 1,000 upgrades by the end of Q1 of 2019 goal that we committed to last year. Additionally, we now have 341 stores with two or more fridges and some of those have three fridges.

We expect to see strong distribution gains continue throughout the year and deliver our annual targets of 1,500 to 1,600 more stores, an incremental 500-fridge upgrades and 800 stores, with two or more fridges This should result in ACV gains of about 7% and TDP growth in excess of 10%.

We believe this strong improvement in distribution is due to the strength of our Fresh First retail and consumer concept, retailers response to our two consecutive years of strong and accelerating growth in velocity gains. This is also evidence that our Feed the Growth productivity loop, where increased advertising investment drives increased velocity and that drives increased distribution is working as intended.

Third, strengthen adjusted gross margin and adjusted EBITDA margin. Adjusted gross margin in the quarter was 50.4%, up slightly versus the year ago period and up 100 basis points versus the previous quarter. Recall, our adjusted gross margin improvement plan included three key elements: manufacturing efficiencies, largely yield and throughput; pricing; and innovation to improve the mix.

In Q1, the improvement versus Q4 was driven by significant gains in productivity throughout the quarter, a little more than one month of benefit from our price increases and the margin benefit of our higher-margin innovations. Taken together, this means that we are making good progress at improving the profitability of our mix. On the manufacturing efficiency element of our plan, we had record production in Q1, which was driven in part by strong throughput and continued improvement in yields.

The second component of our margin improvement plan is pricing. Our price increase on selected bag items went into effect in mid-February and has now been reflected on shelf in the vast majority of retailers. We will get the full benefit of the pricing, the total line average of 2% in Q2.

While this is still early, our volume growth has not been impacted by the price increases, despite the fact that we took very sizable price increases ranging from 7% to 17% on select items rather than taking a 2% price increase on the whole line. This demonstrates the strength of the Freshpet brand offerings and enabled us to improve the gross margin on the items that consume a disproportionate amount of our line time and with us lower margin. This improvement in gross margin has already begun to flow through our P&L.

And third element of our adjusted gross margin improvement plan, product innovation to drive mix is off to a good start. This includes some higher-margin bag items and an expansion of our successful multi-protein offering into rolls and a larger size. The new products began shipping in Q1, but won’t be in full distribution until later in Q2, with the full effect felt beginning in Q3, but they did contribute to a more positive mix in Q1 that Dick will detail.

The improvement in productivity and partial benefit from pricing and new product innovation were partially offset by continued hiring and training to staff our fourth line on a 24-hour, 3.5-day schedule in order to keep up with rising demand. Our staffing was hired and trained in Q1 and is scheduled to begin production in the middle of Q2. We’ll see the full benefit in our adjusted gross margin in Q3.

For perspective, our HR and production teams have hired and trained more than 120 people in the last 12 months, a 57% increase in production staffing. That enabled us to convert two lines to 24/7 production in mid-January and simultaneously deliver meaningful increases in yield and productivity. Given our rapid growth, this demonstrated capability to hire and train so many highly-qualified employees will be essential to our long-term success.

When all three elements of the gross margin improvement plan are fully in place, we believe we can deliver a 51% adjusted gross margin likely in Q4 and that will put us in position to achieve our 52% adjusted gross margin in 2020 behind further volume growth and a fully employed and trained team. We also expect to see a significant gain in SG&A absorption this year, increasing absorption by 240 basis points and a cumulative 500 basis points versus where we ended 2016.

Due to our heavy advertising investment and the lumpiness of SG&A spending, we expect to see more of that benefit in the second-half of the year. As a result, SG&A improved by 70 basis points versus a year ago in Q1. But when you exclude our heavier media investment in the quarter versus year ago, we gained significant leverage in SG&A, improving by 310 basis points. We are confident that our plans are on track to deliver our projected goal.

Adjusted EBITDA margin was 5.1%, the significant improvement versus the 4.2% year ago, as we began to reap the benefits of increased scale in all parts of our cost structure, while still making significant investments to support Freshpet’s growth. Recall, our adjusted EBITDA was skewed towards the back-half of the year, as it has for the past two years due to our significant media investment in the first-half of the year.

Fourth, continue measured development in Canada and the UK. Our UK and Canadian businesses are still in their infancy. Last year, we validated that each of the key elements of the Freshpet model works in both Canada and the UK. This year, we’re making good progress at using those elements to build the strong foundation for long-term growth in each country, that is establishing consumer awareness, increasing velocity and ultimately driving increased distribution.

We’re keenly aware that we must be both disciplined and patient in these markets, building out the fundamentals first before making major marketing investments. But everything we are seeing suggest that the long-term growth potential is significant.

Our Canadian business was up strongly behind our first national advertising program that drove significant velocity gains in the quarter. Those velocity gains are the fuel that will ultimately drive expanded distribution beyond our current 23% ACV in Canada. We’ve also completed the work to strengthen our distribution system in Canada and that is driving better in-stock conditions. We are very encouraged by this progress.

The UK business also made good progress, but it is much earlier in its development. We began national advertising late in Q1 and saw significant velocity gains in our lead customer once it went on air. We expect that to generate incremental distribution over time beyond the 7% ACV we have today. It is still very early days for Freshpet in the UK, but the fundamentals are falling into place and continue to indicate good long-term potential.

Fifth, build capability to support accelerated longer-term capacity expansion. We are in the final stages of the permitting process for construction, Kitchens 2.0, and expect to begin construction shortly after those permits are issued. This puts us on schedule to deliver the start-up in the second-half of 2020, as we previously indicated, and we are still projecting that we will spend approximately $100 million.

We have also begun recruiting for the incremental capability we outlined in our annual guidance, and hope to have the key personnel in place in the second-half of 2019. Additionally, we are doing the necessary prospecting to select the site for our next capacity expansion in a more geographically diverse location, so that we are ready when rising demand necessitates it.

In summary, we are off to a fast start and have significant momentum to enable us deliver our 2019 commitments. These results also give us confidence that we are on track towards delivering our 2020 goals and fulfilling our mission of providing more pets with fresh all-natural foods that enrich their lives and their relationships with their pet parents and doing so in ways that are good for our pets, for people and for our planet.

I will now turn it over to Dick to discuss our Q1 financials in more detail and our outlook for the balance of the year.

R
Richard Kassar
Chief Financial Officer

Thank you, Billy, and good afternoon, everyone. As Billy indicated, net sales in the quarter were $54.8 million, up 27% versus the year ago period. This strong start gives us confidence that we are on track to meet our – or exceed our net sales guidance of greater than $240 million for the year.

Our continued strong growth is the result of the increased investment we made in advertising this year, strong improvement in our retail presence and the continued strength of the innovations we launched last year. In particular, advertising is the single best driver of our growth and consistent with last year’s plan. We’ve committed to invest 11 plus-percent of net sales this year in advertising in the U.S. to continue the strong growth rates we have seen over the past two years.

Despite investing at higher levels than last year, the payback we are getting for that investment has improved for the second year in a row. We believe this is the result of the synergy between our compelling advertising, enhanced retail visibility and increasingly relevant product innovation. Each piece makes the other more potent, delivering increased efficiency and greater impact in the market, another meaningful benefit of our increasing scale.

Our price increases also contributed about 1 point of net sales growth in the quarter, despite not going into effect until mid-February. We expect that the price increases will contribute about 2 points to our top line in Q2, as we’re seeing very little price sensitivity on the items, where we increased the prices as it has for the past year, a shift in product mix to our higher-priced bags add another point to the top line versus year ago.

Adjusted gross margin for the quarter was 50.4%, up 20 basis points for the year ago period and 100 basis points better than quarter four, despite the mix shift to bags, I just noted. This is strong early indication that the adjusted gross margin improvement plan that we outlined earlier this year is off to a good start. Fundamentally, that plan is improving the profitability of our mix either via the pricing and innovation plans we put in place and through our efforts to drive manufacturing efficiencies.

While Billy highlighted the overall progress on the three key drivers of adjusted gross margin improvement, I want to emphasize the significant progress made in the efficiencies of our Kitchens. Despite the disruption from converting two more lines to 24/7 production and hiring the staff for converting the fourth line to 24 hour, 3.5-day productions, we saw total throughput increased by 14% versus quarter four, a meaningful improvement in yields and labor productively improved by 4% versus quarter four.

This allowed us to replenish our lower year-end inventory levels, so that we can continue serving our customers through our rapid growth and support the volume growth we are seeing behind this year’s advertising investment.

Our price increases went into effect in mid-February and we contributed positively to the adjusted gross margin versus a year ago in the quarter. We will get the full impact of the pricing in quarter two. While our innovation is designed to improve mix are just getting started, they made a positive contribution to the adjusted gross margin in the quarter. Their ongoing impact on adjusted gross margin depends on how well they sell, but they are off to an encouraging start.

The combination of our pricing and innovation initiatives improved our adjusted gross margin by 130 basis points versus year ago in the quarter. As we get full impact of the pricing in quarter two and our innovations continue to grow, we will believe we’ll get an additional 70 points of adjusted gross margin improvement versus year ago for a total of 200 basis points of adjusted gross margin improvement.

Those gains were partially offset by the additional staffing to convert our fourth line, ongoing mix shift towards bags and commodity increases versus Q1 of the year ago, that were the basis for our margin improvement plan.

We will anniversary the bulk of those cost increases by year-end quarter two, so gains from pricing and innovation will become incremental to the adjusted gross margin on a year-on-year basis in quarter three, enabling us to deliver up 51% adjusted gross margin goal in quarter four.

Adjusted SG&A in the quarter was $24.9 million, or 45.4% of net sales, an improvement of 70 basis points versus the year ago period. That includes an increase of more than $3.2 million versus last year media investment and some annual expenses that fell in quarter one this year.

Excluding media spending, which we hold roughly constant as a percentage of sales this year versus a year ago, SG&A improved by 310 basis versus year ago. Recall, our goal is to deliver another 240 basis points of SG&A investments this year, taking us to a total of 500 basis points as we began the Feed the Growth plan at the end of 2016.

We believe we are on track to deliver this year’s goal and that will position us to deliver the final 200 basis points of improvement we will need next year to deliver our total of 700 basis points of SG&A improvement by 2020.

Adjusted EBITDA in the quarter was $2.8 million, up $1 million versus the year ago period, driven by the increase in revenue and partially offset by the increased media investment. We will remain on track to deliver our adjusted EBITDA guidance of greater than $28 million for the year.

We drew $10 million on our line of credit in the quarter to cover the normal seasonal variations in our cash flow and to cover the cost of rebuilding inventory levels to maintain our customer service behind higher volumes. We also invested $4.9 million of capital against the Kitchens 2.0 project in the quarter, and our total spending on that project today is $7 million.

We continue to expect to produce positive annual cash flow from operations. We’re in the final stages of revising our credit line to cover the cost of our capacity expansion and any further expansion needs through 2024. We expect the terms to be more favorable than our current credit agreement and to have finalized that agreement very soon.

In conclusion, we are off to a good start in 2019. We delivered a very strong and balanced quarter one with that significant momentum. That gives us confidence that we’re on the right path towards fulfilling our mission, while simultaneously creating significant value for all of our stakeholders.

Our team is excited and focused recognizing the unique opportunity each of them has to help Freshpet change the way people feed their pets forever.

That concludes our overview. We’ll be now glad to take your questions. Operator?

Operator

Thank you. We’ll now be conducting a question-and-answer session. [Operator Instructions] One moment please while we poll for questions. Thank you. Our first question comes from the line of Bill Chappell with SunTrust Robinson. Please proceed with your questions.

B
Bill Chappell
SunTrust Robinson Humphrey Inc

Hey, good afternoon.

W
William Cyr
Chief Executive Officer

Hello there, Bill.

B
Bill Chappell
SunTrust Robinson Humphrey Inc

Hey, just a couple of clarification questions. First, you talked about, I mean, initiative on mix shift to improve margins. And I’m just trying to get wrap my head around that in terms of other than the impression that rolls were much higher margin than bags and bags are growing faster than rolls. And so help me understand how that works out?

W
William Cyr
Chief Executive Officer

Sure. So you’re right that rolls have a higher margin than bags. What we’ve done not only on rolls and on bags, but we’ve actually come with innovation that has slightly higher margin in both of those areas. And we’ve – in addition, we’ve also done some pricing, which in addition to all of that coming together. So, yes, we’ve basically rolled out a handful of pieces of innovation that have higher-margin in each of the respective forms.

B
Bill Chappell
SunTrust Robinson Humphrey Inc

Got it. So this is not a mix between the two, it’s just trading consumers up?

W
William Cyr
Chief Executive Officer

Right, it is. And the mix between the two with the pricing has kind of become more balanced than it has in the past, too.

B
Bill Chappell
SunTrust Robinson Humphrey Inc

Got it. And then on the expanded ACV in the new doors, that – that’s all fantastic. I just – I guess, a year ago, we were talking about deemphasizing door growth, it’s more about velocity. Was there something to change where you’re getting a poll from more retailers now that you’ve been so successful? I mean, why such the big jump in ACV per say?

W
William Cyr
Chief Executive Officer

So we’ve had retailers who are now starting to express a little bit of this FOMO, their fear of missing out, because they’ve seen the incredibly rapid growth that we’ve had for two years in a row. So we’ve had a lot more pull from the retailers and that’s what you’re seeing. So whether it’s new doors or whether it’s upgrades towards getting second fridges put in.

So that’s what that’s all about. We are all about ACV. ACV is the key driver here. Doors is the metric that we provide, so folks can benchmark versus where we’ve been in the past, but it’s all about getting the maximum out of ACV and we have a lot of momentum right now.

B
Bill Chappell
SunTrust Robinson Humphrey Inc

Got it. Last one for me. Just as I’m looking on quarters, kind of the cadence of advertising, this was a big quarter I would expect it, I guess, to come down next quarter and then pick back up in the third quarter. Is that the right way to think about it?

S
Scott Morris
President and Chief Operating Officer

So I think, historically, what we’ve done is, we’ve talked about kind of the splits over the course of the year just on kind of first-half and back-half. And then this year, our advertising spend will be about 70% in the front-half and about 30% in the back-half of the year. So – and then the first two quarters are going to be fairly evenly split.

So, yes, a definite weighting towards the front of the year. And the thing that, I think, we’re very, very excited about and I know Billy mentioned it in the script and Dick also mentioned it is the return that we continue to see on the advertising is incredibly strong and it’s exactly as the model has predicted.

B
Bill Chappell
SunTrust Robinson Humphrey Inc

Got it. That’s it for me. Nice to see a gross margin improvement quarter.

W
William Cyr
Chief Executive Officer

Great. Thanks.

Operator

Thank you. The next question is from the line of Mark Astrachan with Stifel. Please proceed with your question.

M
Mark Astrachan
Stifel, Nicolaus & Co.

Hey, afternoon, everybody. Wanted to ask sort of related question to Bill’s and just maybe give an update on where you are in the roll out of your largest customers, you don’t want to name names, maybe just kind of broadly talk about the ACV and some of those and what the opportunity might be in converting more of those into adding Freshpet fridges versus some incremental retailers out there? And maybe just broadly, how you think about the whitespace between existing and new retailers?

S
Scott Morris
President and Chief Operating Officer

So there are definitely some new retailers out there for us. The way we like to think about it is, we’re in nine of the top 10 pet food retailers across the country. There are – in the top 10, there’s really only a couple that we have significantly low distribution in. And what we’re starting to see is, we’re starting to kind of close the distribution in those.

With the ones that are kind of closer in line in that top 10, we typically range from about 40% – and we have some that are now approaching 70%, 80% and 90% distribution. So some of them there’s not a lot of distribution left, but there are a lot of very, very big players that we have kind of in the 40% and 50% distribution range.

And the thing that we continue to see is, every single year, we continue to grow distribution in every single one of those. We know that we’re comfortable in saying that we will probably not be at a 100% distribution at any point in the near future, but we see a very, very long runway across not only the existing retailers, but also some of the new retailers starting to come in.

M
Mark Astrachan
Stifel, Nicolaus & Co.

Got it. That’s helpful. And then maybe switching to the split between dog and cat. So dog up 29 implies cat, obviously, a bit weaker down. Maybe just talk about how you prioritize that, obviously, some of that relates to second fridges or multiple fridges and stores, but maybe talk about just priorities there and then what that opportunity could potentially look like and when you potentially start to realize that you’re focused on it?

S
Scott Morris
President and Chief Operating Officer

So one of the things that we do is, we try and being incredibly agnostic when we plan out the fringes and think about how we’re allocating space. And we try and look at the highest productivity on a dollars per literally linear inch and also gross profit and we kind of planogram the fridges out.

So what we were seeing was we were getting better return on many of the dog items that we were putting in versus the cat items. Now there are core set of cat items that are really important for us to have. And right now, we’re kind of retrenching leaving those cat items in. And as we expand second coolers over time, we plan to continue to expand the cat portfolio. And as we have more and more space that will continue to build into that.

There’s tremendous opportunity in cat for us. As you are aware, I mean, there’s – around 5% of our total sales are in cat food. There’s no reason why at some point in the future, it couldn’t be 30% out into the future. But going back, again, I think the way we’ve built the plan that we’ve communicated to everyone is that, it is a U.S. dog-based plan that we’re communicating over the next couple of years. And as we really kind of figure out the opportunities in cat or in the UK or Canada and some of these other initiatives that we’re working on, those will hopefully be incremental growth opportunities.

W
William Cyr
Chief Executive Officer

And I’d just add to that. I think, as Scott described, there’s a very important set of priorities that we have to set here, because we do want to manage the resources that we have, the capacity we have, the fridge base we have to generate that consistent and steady and very strong growth that we’ve demonstrated.

And right now, we’re getting the best return for focusing that on the U.S.-based dog food business. But it does not mean, there’s not significant opportunity to grow the cat business longer-term. It’s just as we’re at this stage of our life, we have to make priority choices.

M
Mark Astrachan
Stifel, Nicolaus & Co.

Yes, understood. Thanks, guys.

Operator

The next question is from the line of Jason English with Goldman Sachs. Please proceed your questions.

J
Jason English
Goldman Sachs

Hey, good evening, folks.

W
William Cyr
Chief Executive Officer

Yes.

J
Jason English
Goldman Sachs

Congratulations on another strong quarter.

W
William Cyr
Chief Executive Officer

Thanks.

J
Jason English
Goldman Sachs

Advertising spend continues to ramp, as you said it would, it’s driving sales growth as you foreshadowed that it would, all great to see. With the spend ratio you mentioned, I think, 11% of sales, it looks like you’re on track to spend roughly 50, maybe a little bit north of $50 million this year? Behind one brand, that’s a big budget. At what point, do you think you hit critical mass start to see diminishing returns on that? And at that point, I mean, I guess, there’s two implications, one, the P&L leverage, that could flow through it, but also the impact on continued sales momentum?

S
Scott Morris
President and Chief Operating Officer

So the way we have – the way we’ve planned, the – I think I answered the question a little earlier on kind of on the split and in the productivity of the media. The way we have the media plan this year is actually about a $26 million, $27 million total spend is what we’re planning out.

And obviously, we – we’re always reviewing that to see if it’s the best place that we want to spend at. But that’s really kind of how we’ve been thinking about that spend for this year. And then I think when we’re starting to talk about, we want to keep it at that 11% level and then we’ll continue to monitor that and the productivity as we look into the following years and also the capacity constraints that will come into in 2020.

W
William Cyr
Chief Executive Officer

And, Jason, if you think about it at the spend rate that we’re spending this year at the 11%, the payback we get on that advertising investment is within one year. When we started this, it was at year-and-a-half, it’s now down to within one year payback. And so as we head into 2020, we’ll probably have to glide the spending down to 9%, which is what we guided to when we set the 2020 plan just so we can make sure we manage within the capacity.

But when we get excess capacity, when we open Kitchens 2.0, we have every interest in increasing the investment that we make back up into the 12% range. And the reason we do that is, because the payback we’re getting is so good and we’re also finding that the payback is improving, as Dick said in his comments, that the payback is getting better each year and it’s a combination of the impact of the advertising, plus the increased retail availability and visibility you get and the more relevant product innovation that we have.

So as long as we see those dynamics in place, I think, we’re inclined to continue to invest, and we think we’re getting pretty good payback for it.

J
Jason English
Goldman Sachs

Understood. And sorry, I mixed up a couple of numbers there. But the core of my question was…

S
Scott Morris
President and Chief Operating Officer

I wish – hey, Jason, I wish I had $50 million.

W
William Cyr
Chief Executive Officer

Yes.

J
Jason English
Goldman Sachs

No, I hear you. And give it a few years, you’ll have the revenue and probably the media there, too, if you keep this momentum going. But one key question is, whether the EBITDA is going to be there. Looking at your bridges in terms of the – how you’ve build on incremental margins, contribution margin is clearly a key enabler, which I think you define as gross margin, less brokerage fees, less logistics cost…

S
Scott Morris
President and Chief Operating Officer

Yes.

J
Jason English
Goldman Sachs

…given that that’s a core kind of driver. Can you give us an update on where that’s coming in at in terms of the incremental margin on those two components combined?

W
William Cyr
Chief Executive Officer

Yes, we’re around 41% right now.

J
Jason English
Goldman Sachs

Got it.

W
William Cyr
Chief Executive Officer

…gross margin.

J
Jason English
Goldman Sachs

So roughly in line, if not modestly ahead of your 40% target?

S
Scott Morris
President and Chief Operating Officer

Yes.

R
Richard Kassar
Chief Financial Officer

Yes.

J
Jason English
Goldman Sachs

Good stuff. Thanks, guys. That’s all I have.

W
William Cyr
Chief Executive Officer

All right. Thanks, Jason.

S
Scott Morris
President and Chief Operating Officer

All right. Thanks, Jason.

Operator

[Operator Instructions] The next question is from the line of Peter Benedict with Robert W. Baird. Please proceed with your question.

P
Peter Benedict
Robert W. Baird & Co.

Hey, guys. My first question is just around the market response to the traction you guys are seeing, I mean, obviously, the revenues are there. But just the retail partners and the second fridge initiative for this year, you’re at 341 right now. I think you said, you expect maybe another 500 over the balance of the year. Can you help us understand maybe the cadence of that? And then is this coming across all of your channels, or is there any particular channel that’s showing the most interest there?

S
Scott Morris
President and Chief Operating Officer

So on the second – I think that, Billy used the term earlier that we’ve been using internally the idea of FOMO, which is the fear of missing out. And I think retailers are looking around and they’re recognizing that we have consistent growth cadence coming in. It’s been really positive for a very long time.

We’re starting to see a little bit more scale in our business. We’re still very small, but there’s a little bit more scale coming, then they’re looking at kind of their same-store sales metrics, which is really – continues to be really, really positive and growing. And I think they’re looking around and recognizing that there’s – as they continue to grow the category, this is a tremendous opportunity for them and it’s a really strong way for them to continue to keep shoppers in their store buying fresh items.

So I think they look at that and then there’s a handful of people across multiple different formats that are testing the second fridges. So we have grocery, we have some mass and then we also have pet that’s been testing it. So we’re starting to see that rolling out in grocery and mass earlier this year. I think, we’re going to see pet coming in with additional – significant additional fridges in the back in addition to a couple of other grocery retailers.

So it seems like it’s being well received. The results that we’re getting are consistent with what we had anticipated and what the retailers had anticipated. And I think with the media spend and the improvements in overall growth rates, I think that over time, more and more people are going to become more interested in what we’re bringing to market and adding either larger or second fridges into the – into their aisles.

W
William Cyr
Chief Executive Officer

And then, Peter, I would add. If you’re a retailer who has decided to make the pet food category a strategic priority for you that you view this is a signature category or one where you’re trying to make a statement as you’re watching, trying to compete with other forms of commerce, those are the folks who tend to be leaning in the furthest and they’re also the ones who probably already have a fairly good share on our business today. We’re adding a second fridge delivers for them an added assortment and significantly higher revenue because of that added assortment.

P
Peter Benedict
Robert W. Baird & Co.

That’s great, and that’s helpful. Thank you, guys. My other question, just as around kind of related to the response you’re seeing in retail and some of our channel checks with people suggest that there’s kind of a rising demand or interest from some of these guys to do some private label. I mean, is this the category that’s obviously starting to take off? Can you talk about what’s going on with you guys with that respect, and what you’re kind of seeing in the market? Thank you.

S
Scott Morris
President and Chief Operating Officer

So we have gotten requests – many, many requests over the years. And what we’ve basically asked everyone to think about is, what’s the incremental contribution of having a private label product. So as we’ve looked at that, we’ve found one opportunity very recently, where we felt like it was a good match with the portfolio and we’re trying it out in the handful of stores to kind of see what the productivity of those SKUs are.

But I think that, as retailers think about this, I think, they’re really committed to the segment and the growth, and they recognize that it’s a very, very tight amount of space. So I think, they’re going to want to develop in a way that has the highest level of productivity for that chiller. And if over time, private label becomes, there’s a role for it and literally overall for it. I think that that’s something that we’ll continue to talk about and think about and kind of assess specific opportunities that we want to pursue.

P
Peter Benedict
Robert W. Baird & Co.

And then our work has shown that at least the initial past year, the private label product is actually being priced at a premium to the Freshpet product. Is that – are we accurate?

S
Scott Morris
President and Chief Operating Officer

Yes, yes, you are accurate. And I think that’s a case where there was an opportunity to bring some incrementality to the existing portfolio and it was something that worked for the retailer and worked from a consumer standpoint and was productive for us. And that’s something we thought might be a fit and again, it’s in a small number of stores, it’s a test. And we’re kind of evaluating, as an organization, that is this is a good path to make us get as many dollars out of a refrigerator as we possibly can.

W
William Cyr
Chief Executive Officer

And to develop the category the way we think the category should be developed. We don’t want to turn this into a price-driven category, so that’s why that kind of an opportunity might fit.

P
Peter Benedict
Robert W. Baird & Co.

Yes. Okay, now makes sense. Thanks very much, guys. I appreciate it.

W
William Cyr
Chief Executive Officer

Take care, Peter.

S
Scott Morris
President and Chief Operating Officer

Thanks.

Operator

[Operator Instructions] The next question comes from the line of Chase West with Consumer Edge Research. Please proceed with your questions.

C
Chase West
Consumer Edge Research, LLC

Hey, good afternoon. Thank you for the question. Quickly just want to touch on Bill’s question from earlier. With the apparent shift back to ACV, how should we think about buyer growth through the rest of the year? Do you guys you think you can maintain the current growth throughout the year?

S
Scott Morris
President and Chief Operating Officer

So we – the thing we like most about where the business is. And I don’t – I know we ended up talking a little bit about ACV, but we are very, very confident in the way we move this business is through adding more consumers in and – which is penetration and then adding – continue to have growth in the buying rate. So ACV is kind of like the extra whipped cream with the cherry on top…

W
William Cyr
Chief Executive Officer

…it’s a byproduct of that.

S
Scott Morris
President and Chief Operating Officer

Yes, it really is, it’s a byproduct. So the major focus is to continue to add consumers and add buying rate, and that’s the focus of all the advertising that we do, which is where we’re spending the most money. It’s also the focus of the innovation that we bring. And the thing that we love about what we’re seeing with the way the business is developing is the growth is so broad-based. Meaning, if you look at almost any retailer in any geography, domestic or international, if you look at any form for us, whether it’s rolls or bags, every single aspect is growing.

And when you kind of look at the growth drivers, which is communications, as we mentioned, innovation, the idea of depth of distribution or second coolers, every one of those is really contributing very positively.

So the growth is very, very broad, it’s across every single aspect of the business and things are performing really, really well. But I do want to kind of reinforce that ACV is an important contributor. It’s probably – it’s less than 20% of the overall growth of the business and that advertising innovation are the 80% of the aspect, and that’s driven by getting more people in penetration and the buying rate piece.

W
William Cyr
Chief Executive Officer

So, Chase, also very specific to your question, we think that the biggest driver for us of the penetration gains is the advertising investment. And so the penetration gains will fall in line with the advertising investment. And what will happen is, it will be a trail fit. So the advertising ones, the consumer does, the consumer doesn’t want to buy it that day or that week, but over time, it’s a cumulative benefit.

And I think if you look back at history, what you’ll see is, we kind of start getting off to a – you get off to a little bit of a start in the beginning of the year and then we kind of ramp it up and we continue to grow household penetration as all the way through the end of the year and then we go off here in the fourth quarter and take a little while to get it started back up again in the next year. But fundamentally, we follow the media spending, because the household penetration gains follow the media spending.

C
Chase West
Consumer Edge Research, LLC

Got it. Yes, that’s very helpful. And then just quickly switching gears slightly. I know second fridges are the main initiative here, but Billy, you called out third fridges in some stores. How should we think about the trajectory of third fridges going forward? Maybe are they like in different area of the store than the original fridge?

W
William Cyr
Chief Executive Officer

I think that third fridges right now are relatively few of them, but they’re only in the very high velocity stores, where you need it for the holding power and to have the fullest range of assortment. I would think that in the near-term, it’s really going to be the – that’s going to be the case, where you get yourself in a situation where you need it to have accommodate the full assortment and to have enough – and the holding power for the velocity you see in a store.

C
Chase West
Consumer Edge Research, LLC

Got it. Thank you for the questions.

W
William Cyr
Chief Executive Officer

Thank you.

Operator

Thank you. At this time, I’ll turn the floor back to management for their closing remarks.

W
William Cyr
Chief Executive Officer

Yes I’d like to leave you with a thought. the humorist, Will Rogers, once said, if there are no dogs in Heaven, then when I die, I want to go where they went to which I would add and wherever that is, we hope you find a Freshpet fridge there. Thank you, and have a good night.

Operator

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