Petco Health and Wellness Company - Earnings Call - Q4 2025

Executive Summary

• Q4 2025 delivered a mixed print: EPS beat consensus while revenue was modestly below and EBITDA materially below Street; management had flagged that tariff impacts would be “most meaningful” in Q4 and also preserved “dry powder” to reinvest, contributing to the result.
• Full‑year guidance was previously raised in Q2 (Adjusted EBITDA to $385–$395M; net sales down low single digits), and Q3 guidance set Adjusted EBITDA at $92–$94M; both were anchored in gross margin expansion and SG&A leverage.
• Traction in store operations, pricing/promo discipline, and inventory governance continued through the year, while e‑commerce retooling remained an identified opportunity; management reiterated Phase 3 growth pillars: store experience, services scale, merchandising differentiation, and omnichannel.
• Near‑term stock reaction catalysts: the EPS beat vs consensus, Street skepticism on EBITDA underperformance, and narrative around tariff pass‑through and reinvestment pace into 2026.

What Went Well and What Went Wrong

What Went Well

• Strong execution on gross margin and SG&A: management emphasized expanded gross margins via disciplined AUR/AUC, pricing/promo guardrails, and SG&A savings including employee benefits optimization and store labor efficiency.
• Operating discipline in stores: completed planogram resets (dog/cat), higher in‑stock/on‑shelf availability, improved store productivity; CEO: “We’ve… completed those resets… contributing to improved store performance”.
• Strategic clarity on growth: CEO outlined Phase 3 pillars—“delivering amazing store experience… services at scale… merchandising differentiation… winning with omnichannel”—and reintroduced “Where the Pets Go” branding with positive customer engagement/NPS.

What Went Wrong

• Top‑line softness persisted: management continued to “move away from unprofitable sales” and noted transactions remained the biggest opportunity; e‑commerce softness offset in‑store improvement.
• Tariff headwinds intensified in Q4: CFO flagged minimal impact in Q2, becoming “meaningful” in Q3 and “most meaningful” in Q4, pressuring margins and EBITDA.
• EBITDA miss vs consensus in Q4: Street looked for higher EBITDA; actual trailed consensus despite full‑year margin progress and reinvestment priorities in the back half (see Estimates Context).

Transcript

Operator (participant)

Please note that this event is being recorded. I would now like to turn the conference over to Tina Romani, Head of Investor Relations and Treasury. Please go ahead.

Tina Romani (Head of Investor Relations and Treasury)

Good afternoon, everyone, and thank you for joining Petco's Q4 and full year 2024 Earnings Conference Call. In addition to the earnings release, there is a presentation available to download on our website at ir.petco.com summarizing our results. On the call with me today are Joel Anderson, Petco's Chief Executive Officer, and Sabrina Simmons, Petco's Chief Financial Officer. Before they begin, I'd like to remind everyone that on this call we will make certain forward-looking statements, which are subject to a number of risks and uncertainties that could cause actual results to differ materially from such statements. These risks and uncertainties include those set out in our earnings materials and SEC filings. In addition, on today's call, we will refer to certain non-GAAP financial measures. Reconciliations of these measures can be found in our earnings release, presentation, and SEC filings. With that, let me turn it over to Joel.

Joel Anderson (CEO)

Good afternoon, everyone, and thank you for joining us today. 2025 marks the 60th anniversary of the Petco brand. What started as a single store in 1965 has grown into a fleet of over 1,500 stores in North America, allowing us to reach approximately three in four people in the United States who live within 10 miles of a Petco. As we celebrate the company's history, we also have an opportunity to reinvent our iconic brand for the future and position the business to regain share in the large but highly fragmented market. This includes broadening our brand and vision from a singular focus on health and wellness to serving all pets and pet parents while tapping into the emotional connection to pets inherent in our brand DNA. Before I discuss today's results, I want to briefly reflect on my tenure to date at Petco.

Culture is something that has always been important to me as a CEO. It is an area at Petco that needed immediate attention but is also not something that changes overnight. It takes consistency and authenticity to evolve the mindset of our broader teams toward increased transparency, accountability, and teamwork. As part of this, I've been actively engaged visiting and working in our pet care centers, distribution warehouses, holding small group listening sessions, which I call Coffee Connects, as well as large town halls. I have found our team members responding well to the message and appreciative of the openness about what we need to do to improve this great brand once again. I want all 30,000 partners to know how committed I am to them and express my optimism about the long-term opportunity in front of us.

In my prepared remarks today, I will provide you with specific details of what we have accomplished and what is on the horizon to continue our progress. In addition to the internal changes underway, we also benefit from operating in a resilient market. The pet category is expected to reach $200 billion in the next five years, and the ongoing humanization of pets continues to be a powerful tailwind, one that we are all well positioned to benefit from. Additionally, services is the fastest growing area of the pet category, where we have an established leadership position and a differentiated model of owned grooming and vet locations at scale. Most importantly, our Petco team brings our mission to life with their passion for pets and dedication to serving our customers.

It is against this backdrop that I believe firmly that Petco is the only retailer that can deliver complete care for pets and expert support for pet parents in one stop. Let's turn to our results. In the Q4, we delivered revenue of $1.55 billion in line with our prior outlook and adjusted EBITDA of $96.1 million, which was ahead of our expectations. Our results demonstrate the progress we've made to return the business model to retail operating excellence and drive structural cost out. While there is more work ahead, I am confident we are going to reset our long-term economic model starting this year and are well positioned to build on this early momentum and deliver double-digit growth on adjusted EBITDA year over year in 2025. Let me now unpack in greater detail our long-term phased approach to delivering on Petco's full potential.

Starting with phase I, which is well underway, over the last six months, I have relentlessly focused on: one, improving the operating model; two, giving our stores a voice; and three, restoring our retail fundamentals. Quite frankly, our foundational practices were not those of a successful consumer business and needed overhauling. We have made great progress on all three and are strengthening the foundation for Petco to return to sustainable, profitable growth. The successful evolution of our leadership team is a critical enabler of this work. Each of our leaders brings a wealth of retail industry expertise and a proven track record for delivering and driving results, and they are already accelerating our operational improvements. Specifically, as CFO, Sabrina Simmons brings more than 20 years of executive financial leadership experience in consumer retail.

She will help us harness the collective expertise of the wider leadership team by driving increased financial rigor and discipline around our initiatives. As Chief Customer and Product Officer, Michael Romanko will drive the transformation of the Petco brand from product development to presentation to messaging, with a focus on tapping into the unparalleled joy and love pets bring to our lives. This spans the uniqueness of proprietary brands, how well we tell the story of our national brands, and customer-centric marketing strategies. Jack Stout transitioned into our Chief Merchant role, where he has been institutionalizing best-in-class retail practices across our buying teams as well as merchandising operations and supply chain. Additionally, last year, we welcomed Joe Venezia as Chief Revenue Officer, who is focused on optimizing our real estate portfolio while maximizing growth in our existing store and hospital fleet.

Dan Calista as Chief Strategy and Transformation Officer, who is building the internal capabilities to execute on our transformation. Holly May, who has supported all these leadership changes as our Chief Human Resources Officer. I'm incredibly excited to be working along this fantastic team to unlock Petco's full potential. Across our pet care, distribution, and support centers, our leadership team is helping the entire organization fundamentally change the way we think and work to ensure all aspects of the business are operating effectively and seamlessly. Collectively, we are committed to reinvigorating our culture, and I believe we now have the right cost controls in place and are executing against them with urgency. As we enter 2025, we will continue to identify additional opportunities to drive savings and unlock value. This brings me to phase II.

With a seasoned leadership team in place and greater control over our cost footprint, we are currently in phase II of our long-term strategy, which is all about implementing and executing to strengthen our retail fundamentals. Specifically, merchandising continues to be the greatest near-term opportunity for us to drive gross profit improvement. We have completed negotiations with our vendors and put in place a rigorous product cost framework designed to reduce product costs and support gross margin improvement in 2025 and beyond. In today's more challenging economic and consumer environment, we recognize the consumer remains discerning, and it is critical that we always have the right products at the right price. To that end, we've conducted a detailed review of our product assortment and are optimizing it to more closely align to consumer demand and preferences.

Specifically, we are allocating more of our focus and shelf space to top-selling brands and high-velocity SKUs across categories. In addition, we're continuing to sharpen our approach to pricing and have established a strategic pricing framework by category. This allows us to offer quality across the value spectrum with competitive price points while also protecting margins. Next, to further lower costs and strengthen the economic model, we are laser-focused on driving efficiencies throughout the organization. As part of our pricing work, we have refocused our promotional strategy to move away from low-margin revenue and toward more impactful targeted opportunities. We are now executing more targeted promotions and seeing favorable initial results. We're also optimizing our customer support infrastructure, which includes our call center, vendor partnerships, and physical locations of our support teams. We expect these actions to reduce friction for the customer while also removing costs from the system.

Within e-commerce, we've identified opportunities to reduce the cost per order and the number of split shipments, increasing overall shipping efficiencies and delivering speed. Taken together, these actions are not only improving profitability, but they are delivering exceptional customer service. Across our pet care centers, we are continuing to evolve our labor model to reduce in-store tasking and free our team up to spend more time with our customers. We are taking actions to improve overall customer satisfaction, including reducing click-to-delivery time for our e-commerce customers and increasing visibility into order tracking for omnichannel customers. In addition, during this phase of implementing and executing, the entire leadership team is busy studying the pet category, the market opportunities, the competition, and getting to know the superpowers of our internal teams.

It is important that before we turn our full attention to growth, our actions are rooted in deep data and analysis. I'm pleased with the early phase II progress to further strengthen the fundamentals of the business, as well as the identification of additional opportunities to drive savings and unlock value. Let me spend a few minutes now on phase III, which should begin in earnest late 2025. While we are 100% focused on executing on our initiatives to drive profit improvement, we are also preparing for the third phase of our trajectory, revenue growth. As we position the business to return to offense, we will begin to seed and test revenue growth initiatives. Allow me to share several examples. One, central to the growth will be the customer and product work currently underway, led by Michael Romanko.

In his initial days, he has begun to evaluate a more cohesive approach to communicating with our customer. He is also focused on better utilizing our internal product development capabilities to source unique products just for Petco, both differentiating us from the market and increasing our relevance with pet parents. Two, we are engaged in a comprehensive North Star project to fully understand our positioning in the competitive landscape and where the clear white space is for Petco to win with customers. We expect to complete that work by the end of Q2. Three, it is important we identify ways to make our store fleet more productive, as well as study which DMAs are underserved by Petco. That work kicked off in Q1 of this year.

Four, we will also look to enhance our omnichannel capabilities and digital experience to stimulate growth, including revisiting and scaling our membership program in 2026. Five, we will continue to invest in services opportunities, the fastest growing area of the pet category, where we have an established leadership position and a differentiated model. All these actions and more will gain momentum once we have successfully implemented the actions of phase II that I outlined for you earlier. Collectively, they are designed to identify new ways to elevate the Petco brand, enhance the customer experience, and build top-line momentum. I look forward to providing periodic updates on our progress as we prepare the organization to shift to offense.

Before I hand it over to Sabrina, let me reiterate that I'm pleased with the progress we have made in 2024 to strengthen our retail fundamentals and set the foundation for sustainable, profitable growth. While there is more work ahead, we are operating from a stronger position today, and we have a detailed multi-phased approach in place for continued improvements. I am confident we have the right strategy and team in place to reach our full potential over time. Sabrina?

Sabrina Simmons (CFO)

Thank you, Joel, and good afternoon, everyone. I'm thrilled to be joining all of you today. I feel fortunate to step into this position at such a pivotal time for Petco. Though I didn't really imagine I'd be taking on another operating role, the potential before us was frankly just too hard to resist.

Echoing Joel's comments, Petco is an incredible brand, and with the work the teams have underway, we'll hold an increasingly differentiated position within the large and resilient pet category. Serving on the board over the past few years has allowed me a running start in focusing on the key areas that will support improvement in our operating and financial performance. As you've heard from Joel, over the past several quarters, our focus remains improving profitability, which we believe in large part will result from improved execution. Our number one financial priority is clear: restoring the health of our economic model, which in turn will improve our earnings power and set the foundation for sustainable, profitable growth over the long term. Specifically, we are focused on three areas. First is an intense focus on driving gross margin improvement, both in terms of rate and dollars.

Principally, this means we will no longer chase sales at the expense of margin. Instead, we will look to maximize all levers at our disposal, including AUC, pricing and promotions, and mix to improve our gross margin rate. While this takes time and requires great attention to detail, it represents a foundational tenet of managing a healthier business. That is what excites me. The focus on simply strengthening retail fundamentals presents such opportunity to improve our earnings power. A great example would be our services business. Work on our existing fleet of vet hospitals is underway, where the teams are optimizing our current locations that are not at full utilization. Optimizing existing hospitals is a highly efficient way to drive services growth and improve our services margin with minimal capital.

That is just one example, but again, a simple back-to-retail fundamentals approach that will have a meaningful benefit to our margin structure over time. Moving to our second priority, leveraging SG&A will be a key pillar of our strengthened economic model, ensuring all aspects of our business are operating effectively while instilling cost discipline across the organization. To be clear, this is not a one-time cost-cutting exercise, but rather an operating principle and shift in our mindset, resulting in greater efficiency, agility, and increased productivity, all of which will require a higher level of accountability and discipline across every aspect of our business. Which brings me to our third priority, the imperative to improve our return on invested capital by instilling new rigor and discipline into our capital allocation decisions.

Our focus on these three pillars, gross margin expansion, SG&A leverage, and ROIC, will improve profitability and, quite importantly, free cash flow generation. I look forward to discussing all of these topics further, both today and in our conversations to come. Now, I'll go into our Q4 results, followed by our outlook for 2025. Q4 comparable sales were up 50 basis points year over year. For the quarter, net sales were $1.55 billion, in line with the prior outlook. When comparing net sales to the prior year, it's important to note that the Q4 of 2023 benefited from an additional week. Q4 gross profit decreased about 3% to $589 million, primarily reflecting the impact from the loss of the 53rd week in 2024. Q4 gross margin increased 180 basis points to 38%.

The majority of the increase is driven by the lapping of an inventory impairment charge in the Q4 of last year, with the remainder driven by progress on margin management. Moving on to expenses, total SG&A was $571.9 million, or 36.8% of net sales, an increase of approximately 60 basis points versus last year, primarily driven by consulting fees and incentive compensation associated with our ongoing transformation efforts. Adjusted EBITDA was $96.1 million, with an adjusted EBITDA margin rate of 6.2%, down approximately 10 basis points versus last year. Regarding the balance sheet and cash flow, a critical goal for us is to achieve a debt-to-EBITDA leverage ratio below two times. Clearly, this will take time and will require profitability improvement through the tenets I spoke about earlier, which we are pursuing with urgency.

In the short term, we're focused on making incremental progress, as evidenced by the steps forward we made in 2024, including $50 million of positive free cash flow and an improved cash balance of $182 million. Now, turning to our outlook for 2025. Of note, our outlook excludes any estimated impact of potential tariffs, where the dynamics remain quite volatile. To be helpful in providing some perspective on potential impact, there are a few points I can share. The most direct tariff exposure sits within our own brands. Inventory purchases from China, Canada, and Mexico for our own brands represent only about 5% of our total merchandise cost of goods sold. Our indirect exposure sits primarily within our national brands. We are fortunate to have strong vendor relationships at scale, which provide productive conversations and supply flexibility as we partner together to navigate fluid dynamics and uncertainty.

We, like everyone, are closely monitoring the situation as developments continue to unfold and will leverage our flexible supply chain to mitigate any potential impact. With that, for the full year, we expect overall net sales to be down low single digits to last year. Of note, we closed 25 net locations in 2024 and ended the year with 1,398 pet care centers in the US. In 2025, we expect to close between 20-30 net locations. We expect adjusted EBITDA to be between $375 million-$390 million. Within this guidance and following the framework laid out earlier in my remarks, our goal will be to expand gross margin rate each quarter on a year-over-year basis, albeit modestly initially, and to leverage SG&A.

With regards to other guidance items for the full year, we expect depreciation and amortization to be approximately $200 million, net interest expense of approximately $130 million, and approximately $130-$140 million of capital expenditures, with a greater focus on ROIC. Now, let me share some perspective on our outlook for the Q1. Broadly, we expect the Q1 to align to the economic model framework I've outlined for the year. Specifically, we expect net sales to be down low single digits versus the prior year and adjusted EBITDA to be between $82 and $83 million, up approximately 9% year-over-year at the midpoint. Before opening up for Q&A, I just wanted to reiterate my optimism for the opportunities in front of us.

With a seasoned leadership team now in place, a defined framework to strengthen our economic model, and operational improvements underway, I'm confident we're establishing a solid foundation for Petco to return to long-term profitable growth. With that, we welcome your questions.

Operator (participant)

I'll now begin the question and answer session. To ask a question, you may press Star, then 1 on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press Star and then 2. At this time, we will pause for a moment to assemble our roster. Your first question today will come from Steve Forbes with Guggenheim. Please go ahead.

Steve Forbes (Senior Managing Director Equity Research)

Good afternoon. Joel, I'd be curious, right? You lay out the phases here, phase I, phase II, phase III.

A lot of us sort of want to look out to phase III and the return to growth. Maybe just talk about sort of the infrastructure, whether it's supply chain infrastructure or digital capabilities that you may need to invest behind and/or improve now that you got the people in place. What other sort of larger moves or larger investments do you need to sort of lean into to really ready the business for that phase III?

Joel Anderson (CEO)

Yeah. Hi, Steve. Thanks for the question. I think it was important I laid out for all of you a specific plan for our long-term growth objectives. Clearly, phase I is something I started in on right away. I'd summarize that as stabilize profitability, as you said, get the leadership team in place, and improve culture.

Right now, we are right smack in the middle of this whole phase of implementing and executing. As it relates to phase III, which I am sure you are all anxious about, what is more important, though, is that we have really got to stay focused on this implementation and execution phase of getting our costs back under control and delivering improved EBITDA. I do not see any significant infrastructure investments that we have got to make, but we just have to be more disciplined, Steve, about how we go about delivering improved EBITDA. Specifically, Sabrina talked a lot about our discipline around ROIC. I think that is something that we were not probably as diligent on as we had to be before. There is not a significant infrastructure investment we have got to make in order to start to get back to driving offense.

Sabrina Simmons (CFO)

Yeah.

Maybe just to add on to what Joel said, Steve, of our total CapEx spend this year, about 40% is against what we'd call expansion capital. Within that 40%, we are investing in IT infrastructure, including digital. We are investing in a lot of testing, like for remodels and all of that. We are sort of queuing up for our phase to regrowth within that capital spend. I just wanted you to know, rest assured, that it's not all just maintenance capital.

Joel Anderson (CEO)

Thanks, Sabrina.

Steve Forbes (Senior Managing Director Equity Research)

That's super helpful. Maybe a follow-up on that, as we think about sort of this ROIC fixation and as you deploy capital. Sabrina, I think you mentioned optimizing existing vet hospitals. Can you maybe talk about sort of what is the current what's driving the difference in performance among the hospitals today?

Is it just an issue with real estate location, or is it operations? Because that was obviously a big initiative of the past team. What are you guys sort of doing as you think about optimizing that initiative?

Joel Anderson (CEO)

Yeah. Steve, that strategy remains very important to us. First of all, we have a relatively new fleet of hospitals. The first thing we've got to do is continue to staff up all those hospitals, more marketing to them, making customers aware we have them. That is a very low capital investment and a strong return on investment, as we've already invested in the capital to build them. Now we've got to really get them staffed and tell people that they're there.

Steve Forbes (Senior Managing Director Equity Research)

Thank you.

Joel Anderson (CEO)

Thanks, Steve. Yep.

Operator (participant)

Your next question today will come from Steven Zaccone with Citi. Please go ahead.

Steven Zaccone (Senior Analyst of Equity Research, Retail/ Broadlines & Hardlines)

Hey, good afternoon.

Thanks very much for taking my question. Sabrina, I was curious for your assessment coming into the business. When you look at the opportunity here for EBITDA improvement, what do you see as some of the low-hanging fruit that maybe should have done years ago, and what gets you most excited about getting some margin opportunity in the future?

Sabrina Simmons (CFO)

Thanks for the question, Steve. I mean, you could probably hear in my voice. I just am so excited to be here because I think the opportunity before us is immense. I know that many of my colleagues who are new to the team also saw this enormous opportunity for this great brand to return to greater economic health. As Joel has said in a couple of his past calls, the most exciting part of looking at this is it's really just fundamental retail math.

It's not something super unique. It's really about working every lever of the business properly to improve profitability. This year, as I said in my remarks, we have an opportunity to really go after, in a disciplined manner, gross margin expansion. That means every lever, working with our vendors on the AUC part, working on pricing, stopping promo stacking, all sorts of levers within that line item. On the SG&A line, we're so committed. Like I said, it's really a mindset change where we're just looking at efficiency and effectiveness everywhere we go and commitment to leveraging SG&A. You guys know the retail math. If you're able to do that, when we start to regrow sales, that flow-through of sales is just a beautiful thing. That's the opportunity on EBITDA before us. I think it's super exciting.

Steven Zaccone (Senior Analyst of Equity Research, Retail/ Broadlines & Hardlines)

Okay. Great.

I guess the commentary, Joel, about merchandise improvement, could you just elaborate a little bit more there? How much of that is working more with stuff that's already in the store versus getting better kind of allocations of stuff that you don't already have? I'm kind of curious because we've gone through a period where prior team talked about not having enough mass product. We've kind of added that to the store. Just help us understand what the merchandise improvements are.

Joel Anderson (CEO)

Yeah. Great question, Steve. There's two sides to that. One is, when I look at our unique merchandising model, what got me excited about this business is this nice balance between consumables and discretionary. On the consumable side, what we've been really focused on is improving our in-stock. We put in place a new inventory system last year. That's helped significantly.

On the discretionary side, that's about innovation, newness, and trend, right? I think that we have a big opportunity there to drive a better impulse buying. That's on the merchandise side. On the initiatives that are underway that are already starting to gain traction, we've gotten better at vendor negotiation. We've gotten better at assortment optimization. We've sharpened our pricing approach. All of those combined is what you'll start to really see take traction here in this phase II that I call implementing and executing. Hopefully, that gives you a really good overview of how we're thinking about the merchandising model.

Steven Zaccone (Senior Analyst of Equity Research, Retail/ Broadlines & Hardlines)

Yep. Thanks very much. Best of luck.

Joel Anderson (CEO)

You bet, Steve.

Operator (participant)

Your next question today will come from Michael Lasser with UBS. Please go ahead.

Michael Lasser (Equity Research Analyst of Hardlines, Broadlines & Food Retail)

Good evening. Thank you so much for taking our question.

Joel, given some of the commentary and the plan that you've outlined, along with comparing Petco's performance in the Q4 to its largest pure-play pet specialty competitor, it would seem like the message is we are willing to sacrifice some sales and market share, at least in the short run, to improve the profitability and establish the foundation for the long run. A, is that a fair interpretation? B, how do you get the market share back, especially if customers are gravitating to other outlets? How do you rewin those customers over the long term? Thank you very much.

Joel Anderson (CEO)

Yeah. Hey, thanks, Michael. I think that's a fair assessment. Take that as an example of how disciplined we are about returning this great brand to growth. Part of that discipline is really understanding all levers that we had.

Quite frankly, we were chasing sales in several instances that long-term had no LTV to them. While in the short term that was needed, that by no means is our long-term goal. I think if I think of the long-term potential, I think success looks like we have strengthened our profitability. We have improved our cash flow. We have lowered our leverage, which Sabrina outlined in detail. Petco is a growing retailer. What you will see in phase III, which will start to emerge the back half of this year and the beginning of next year, is that we will begin to identify levers of growth. I outlined specifically four or five areas that I am focused on, Michael. We will test our way into those and make sure that they are promising. That will be the third phase, absolutely, that we will focus on.

Michael Lasser (Equity Research Analyst of Hardlines, Broadlines & Food Retail)

If I could ask a quick follow-up question. It looks like your guidance for this year is embedding an expectation that your comps are flat to maybe slightly negative. If that's the case, how do you manage your SG&A in light of that? At some point, do you run the risk of touching customer-facing activities that could result in it being more challenging to return to growth when that phase will occur? Thank you.

Sabrina Simmons (CFO)

You want me to, I'll start, Joel? It's a great question, Michael. We are absolutely customer-focused. Part of this whole foundation building that we're talking about in 2025, which is so critical before we sort of turn even more of our focus to regrowth, is really making sure that we are addressing our customer needs. SG&A, again, it's about leverage. It's not about one-time cut programs.

It's all about leveraging what we have. There are many, many areas to go after. This is something in my former life I have lots and lots of experience with. There are so many areas to go after that do not touch our customer, in no way harm our customer experience. That is our number one goal, to please our customer.

Joel Anderson (CEO)

Yeah. Michael, I might just add to that, if you allow me some rounding, do not look too far deep into that because we shared with you we closed 25 stores last year. Most of those happened right at the end of the Q4. Closing 20-30 this year, that right there just adds up to a couple points of decline. We obviously would not be closing those stores if they were profitable.

A lot of the improved EBITDA comes just from removing some stores that were dragging us backwards. I think, Sabrina, you outlined it perfectly.

Michael Lasser (Equity Research Analyst of Hardlines, Broadlines & Food Retail)

That's very helpful. Good luck. Thank you.

Joel Anderson (CEO)

Thanks, Michael.

Operator (participant)

Your next question today will come from Oliver Wintermantle with Evercore. Please go ahead.

Oliver Wintermantel (Managing Director)

Yeah. Hi. Thanks. My question is regarding your EBITDA and the flow through to free cash flow. If you maybe could give us a little bit of details of how you think the EBITDA is converting into free cash flow in 2025.

Sabrina Simmons (CFO)

Yeah. There are a lot of variables, as you know, a number of factors that impact free cash flow. If you think about how we just guided 2025 adjusted EBITDA up 14% at the midpoint, one of the biggest levers to cash flow in 2025 will be that improved profitability.

After that, we will continue working all our working capital levers. There are several there. We may even look during the year to do a little investing of inventory, again, with this obsession about making sure our customers' needs are met. We may do a little bit of investing in inventory to make sure we are in stock. We have other levers within working capital to offset that. That is kind of how we are thinking about cash flow for 2025.

Oliver Wintermantel (Managing Director)

Got it. Thank you. Maybe as a follow-up, can you talk a little bit how you expect the mix shift to be playing out this year, supplies, hard goods versus services? Thank you very much.

Sabrina Simmons (CFO)

Yeah. I guess the good news is we are not relying on any mix shift into supplies out of consumables to meet our guidance. If that happens, wonderful. Tailwinds. Fantastic.

We're not relying on that to deliver our guidance.

Oliver Wintermantel (Managing Director)

Thank you very much. Good luck.

Joel Anderson (CEO)

Thank you, Oli.

Operator (participant)

Your next question today will come from Simeon Gutman with Morgan Stanley. Please go ahead.

Simeon Gutman (Managing Director and Equity Research Analyst)

Hi, guys. Hi, Joel. I wanted to ask about your perception on price and Vital Care, stepping back, looking at the offering, how much value there is. I think this company has done a lot of work on pricing and narrowing gaps. I'm asking also in the context because one of the competitors has that rewards program where they're giving 5% back. It seems like your offering is still in the right place, but I wanted to get your perception.

Joel Anderson (CEO)

Yeah. Thanks, Simeon. Look, price was one of the things we were working on before I even got in here.

We implemented thousands of price changes in the fall to be more competitive both up and down. I feel like we're in a really good place on price right now. Obviously, that's something that's dynamic. We've now gotten better at just monitoring that week in, week out, month in, month out. Our price is in a good spot from a perception place. As far as the Vital Care goes, long-term, the membership program is really important for us. We're in the process of making that even better and doing some enhancements to it. I think that'll be one of the levers we'll look at that'll help us drive growth in 2026 and beyond.

We feel really good about our membership program and expect to see that continue to grow as we have both a free membership program and a paid membership program. We are pretty far down that path. I think we can make it better, Simeon.

Simeon Gutman (Managing Director and Equity Research Analyst)

One follow-up. I mean, no one explicitly asked what the implied comp is. I know we are talking. We talked about it, but curious if you can share what the implied comp is. What does the industry do in 2025? It looks like it is growing slightly again. Curious if it ends up being better or what kind of assumptions you are building in such that you can get comp to positive. Thanks.

Joel Anderson (CEO)

Yeah. Look, our assumption on it is that we are not waiting for the industry to recover. This 2025 is a self-help year for Petco.

We can clearly deliver on what we shared with you today by driving internal operational and profit improvements that are not dependent on the industry. Like other things Sabrina shared, if the industry grows and we take our fair share, that's another tailwind for us.

Sabrina Simmons (CFO)

Yeah. Just to underscore that, with the guidance down low single digits on sales, that's a range. We're not counting on a positive comp to achieve our adjusted EBITDA guidance. There again, if it comes—and we welcome all customers—if it comes, great. It's just tailwind.

Simeon Gutman (Managing Director and Equity Research Analyst)

Okay. Thanks. Good luck.

Joel Anderson (CEO)

Thanks, Simeon.

Operator (participant)

Your next question today will come from Zach Fadem with Wells Fargo. Please go ahead.

David Lantz (Equity Research Analyst)

Hi, guys. This is David Lantz for Zach. Thanks for taking our questions. Was sales expected down low single digit in Q1?

Curious if you can talk about the shape of Q2 to Q4 in a bit more detail and whether there's anything to keep in mind in terms of timing of store closures this year.

Joel Anderson (CEO)

Yeah

Sabrina Simmons (CFO)

Yeah. I'll start off there. I mean, where we try to be really helpful is giving you the shape of the P&L that we are trying to achieve as a goal each and every quarter. Just as a reminder, our goal would be to expand gross margin every quarter on a year-over-year basis. I'm not talking sequentially. I'm talking year-over-year and to leverage SG&A. We just march that economic model right through every single quarter. That is the goal.

Joel Anderson (CEO)

As far as store closures, we can't give you anything definitive on that.

I think if you thought about it as one-third, two-thirds, first half of the year, second half of the year, I think that's a reasonable range. Obviously, we handle them on an individual basis as their leases come up.

David Lantz (Equity Research Analyst)

Got it. That's helpful. fresh frozen remains a standout. I was just curious if you could talk about the drivers of that and how that's performing relative to the industry.

Joel Anderson (CEO)

Look, I mean, fresh frozen, relative to the industry, is still one of the faster growers. It's an area we've been in for a long time, invested in. It's an area you should see us continue to expand in. I feel really strong about our fresh frozen capabilities. That'll be another potential growth lever for us down the road as we explore that further.

David Lantz (Equity Research Analyst)

Thanks.

Joel Anderson (CEO)

Thanks, David.

Operator (participant)

Your next question today will come from Peter Benedict with Baird. Please go ahead.

Peter Benedict (Senior Research Analyst)

Hey, guys. Thanks for taking the question. One, just staying on the stores, the 20-30 net closures this year, is that a run rate that we should expect to continue maybe in out years? Just curious kind of what the longer-term viewpoint is on kind of the store fleet. That's my first question.

Sabrina Simmons (CFO)

Yeah. I wouldn't read too much into that. With a fleet of 1,500 stores—I'm sorry, 1,400 stores—you're going to do some optimizing every single year. I think probably the way to think about the net closure number is we're not actually opening a lot of stores against that. And that's why maybe the net closure looks a little bit bigger.

The theme here is that we own a lot of assets already on our balance sheet that we strongly believe we can make more productive. Job one is taking the assets we own on our balance sheet and really making those work. We will look to the future to regrow. Some of that may come in the form, of course, of more stores, more to come. I would not read into too much of the two years of about 25 closures.

Peter Benedict (Senior Research Analyst)

Okay. Thank you. That is helpful. My next question was just kind of on merchandise differentiation efforts. You kind of talked a little bit just recently here about the fresh frozen. I am just curious if there is anything else in consumables that you kind of have your eyes on. Is it brands? Is it owned brands?

Also on supplies, kind of how do you achieve that? I know there's been some efforts around that already. Just curious, any more insights you'd share on where you're looking to go. Thank you.

Joel Anderson (CEO)

I think the best insight to share on that is just to be a little bit broad with y'all. As I've gotten firmly planted, and we've named Jack as our Chief Merchant, I'm starting to get out in the field and doing some top-to-tops with our top suppliers. I would tell you, we just have great relationships with our vendors. They want to see Petco succeed. They like the discipline we put in place, the transparency we're having at the top. What that'll translate into is opportunities. They are talking to us about brands they're working on, ideas they're working on.

I'm really excited about the prospects that are out there. I think specifically, that'll all come as we move down the year. As shared with you, right now, we're optimizing our store, really focused on the top sellers and what's driving the business. We're in the middle of a big reset that's going to happen here and a big optimization of our overall consumables. I don't see any limit to some new ideas. We talked about Fresh Frozen. Cat business is really strong. We'll get more specific as we move on down the year. This has really been focused on redeveloping relationships with the vendor community.

Peter Benedict (Senior Research Analyst)

Fair enough. Thank you. Good luck.

Joel Anderson (CEO)

Thank you.

Operator (participant)

Your next question today will come from Kendall Toscano with Bank of America. Please go ahead.

Kendall Toscano (Equity Research Associate)

Hi. Thanks for taking my question.

Just curious, as you're doing all this work to optimize the assortment, any update on how you're thinking about differentiation for Petco at a high level and where the opportunities are, whether it's on the consumables or general merchandise?

Joel Anderson (CEO)

I'm not at any point that I want to talk about it openly. I would tell you the marching orders for the team here has really been about looking at newness, looking at where there's innovation, and testing new product out there. That's why we're in phase II right now, not phase III. What's more important right now is that we get our cost infrastructure back under control and deliver on the three principles that Sabrina outlined in detail.

Kendall Toscano (Equity Research Associate)

Understood. Thanks. If I could just ask one more, any more color on how traffic versus pricing looks during the quarter within the 0.5% comp?

Sabrina Simmons (CFO)

I think we're looking at every lever to drive our position that we've guided to. It's not one lever that we're looking to overuse. There is no big callout there.

Kendall Toscano (Equity Research Associate)

Thank you.

Operator (participant)

Your next question today will come from Seth Basham with Wedbush Securities. Please go ahead.

Seth Basham (Managing Director and Director of Research)

Thanks a lot. Good afternoon. Maybe just to clarify or reiterate, in terms of your EBITDA guidance, a 14% increase at the midpoint, what are the largest building blocks? If you can help us quantify those, that would be very helpful.

Sabrina Simmons (CFO)

The two biggest levers are this notion of expanding gross margin and leveraging SG&A. We are going to use both of them. We're not leaning into one at the expense of the other. We're going to be balanced. We're going to be flexible. We're going to be adaptable.

Those are our big two levers. We're laser-focused on delivering that.

Seth Basham (Managing Director and Director of Research)

The store closures represent a material improvement, I would assume, within that 14% growth you're expecting. Can you clarify or quantify that and tell us what any other primary key drivers are?

Sabrina Simmons (CFO)

Yeah. As Joel mentioned, in 2024, we closed 25 net stores. Broad numbers, just simple assumptions, that's about $50 million in sales and nearly 1% of sales as we come into 2025. In 2025, we expect to close net 20-30, generally back-halfway closures as most retailers would. That will not have as big of an impact in 2025 as the 2024 closures. It gives you a sense of what the closures mean to the year.

Seth Basham (Managing Director and Director of Research)

All right. Last follow-up question related to that.

When we think about the biggest risks and opportunity to the visibility of your EBITDA improvement in 2025, how do you assess those?

Sabrina Simmons (CFO)

What I like about how we're managing this year is we're not relying on a robust macro or robust consumer. Again, because you see our top line is anchored on a low single-digit decrease in sales, that to me is good news because it forces us to use all the other levers to deliver the adjusted EBITDA. If we do better macro top line, it's all just great extra tailwind for us.

Seth Basham (Managing Director and Director of Research)

Thank you.

Operator (participant)

Your final question today will come from Chris Bottiglieri with BNP Paribas. Please go ahead.

Chris Bottiglieri (Senior Equity Research Analyst of US Hardlines, Broadlines, and Internet Retail)

Hey, thanks for taking the question.

Just wanted to ask what you're kind of embedding for inflation within your outlook, if you're seeing any kind of signs from vendors that costs turning up again, you can pass that through. And then kind of not really related, but semi-related. What are you assuming for promos, like percentage or COGS sold on promo, given that you said you're pulling back? Is there a way you can frame that for us? Will promos be down year on year, or you just can be repurposing those promos into more productive programs that actually drive profits? Thank you.

Joel Anderson (CEO)

Yeah. Look, it's pretty steady year over year from that. I mean, the market's promotional, but it's generally rational.

I think my commentary was more just about chasing empty calorie sales and just being more disciplined that when we do a promo, there's an end game to it, that it delivers some lifetime value for us. It is just all part of us getting back to executing against retail fundamentals. Overall, I think the promotional environment's pretty steady year over year. I don't know.

Sabrina Simmons (CFO)

Yeah. No, the only thing I'd add to that, Chris, is that we want to offer value to our customer, and we want to be perceived as offering value to our customer. Some of the things that we were allowing systemically in our offering was, for example, stacking of promos, which you just don't want to do. That is just cleanup.

When we say managing promos, some of it is just this real cleanup so that we're not allowing the stacking of promos. We are still going to be offering good value, and we are going to be in there with the competition.

Tina Romani (Head of Investor Relations and Treasury)

Fantastic. Thanks, Joel and Sabrina. That concludes our call today. Thank you, everyone, for your time and your thoughtful questions. We look forward to continuing the conversation.

Operator (participant)

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.