Hostess Brands Inc (TWNK) 2017 Q2 法說會逐字稿

Greetings, and welcome to the Hostess Brands Second Quarter 2017 Earnings Conference Call. (Operator Instructions)

As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Katie Turner.

Thank you. Good afternoon, and welcome to the Hostess Brands Second Quarter Fiscal 2017 Earnings Conference Call.

By now, everyone should have access to the earnings release for the period ending June 30, 2017, that went out this afternoon at approximately 4:05 P.M. Eastern Time. If you've not received the release, it's available on the Hostess' website at www.hostessbrands.com. This call is being webcast, and a replay will be available on the company's website.

Hostess would like to remind you that today's discussion will include a number of forward-looking statements. If you refer to Hostess' earnings release, as well as the company's filings with the SEC, you will see the discussion of the risk factors that could cause the actual results to differ materially from these projections. Please remember that the company undertakes no obligation to update or revise these forward-looking statements.

The company will make a number of references to non-GAAP financial measures. The company believes these measures provide investors with useful perspective on the underlying growth trends of the business and has included in its earnings release a full reconciliation of non-GAAP financial measures to the most comparable GAAP measures.

In addition, Hostess has supplemented its earnings release with unaudited pro forma financial information for the quarter ended June 30, 2016, giving effect to the November 2016 business combination as if it had occurred on January 1, 2016. All references to the results for the quarter ended June 30, 2016, refer to such audited pro forma results.

And now, it's my pleasure to turn the call over to Hostess' CEO, Bill Toler.

Thanks, Katie. Good afternoon, everyone, and thank you for joining us today.

I'll begin today's discussion with a brief overview of the second quarter. Afterwards, our CFO, Tom Peterson, will provide greater detail on our Q2 financial results as well as reiterate our revenue and adjusted EBITDA guidance for fiscal 2017. Then Tom and I will open up the call for questions.

We are pleased with our continued ability to grow top line, bottom line and market share in a challenging retail environment, particularly given that Q2 was a difficult [time] for us based on last year's very strong results.

For the second quarter of this year, revenue grew 5.6% to $203.2 million, and adjusted EBITDA was up 7.7% to $63.2 million. These represent a record result for revenue in a quarter and adjusted EBITDA in a quarter, and we delivered a very strong 31.1% adjusted EBITDA and margin as well.

Our top line was driven by 2017 product innovation. Strength in our core brands and growing traction in our whitespace opportunity, including In-store Bakery, Food Service and International channel expansion. Results were largely in line with our expectation, and we remain confident in our guidance for the full year. When we first provided annual guidance, we anticipated Q1 would get the year started quickly, and we'd show less growth in Q2 and Q3 followed by a strong Q4 to finish the year. Our guidance of $781 million in sales and $235 million in adjusted EBITDA remains firm and will represent over 7% sales growth for the year and over 9% adjusted EBITDA growth for the year.

Our positive momentum has continued in our Hostess Brands, along with strong consumer demand for our core products. Hostess' leading brands in several subcategories: Donettes, Cupcakes and Twinkies. All three of these large core businesses grew point of sale in second quarter. We continue to gain market share and consumption dollar growth across our businesses.

Per Nielsen, our Sweet Baked Goods market share for the 52 weeks ending July 1 was up 17.1%, up 120 basis points from the prior year. Our share continues to expand this year as well representing now 17.5% for the second quarter of 2007. And in Q2, we enjoyed share growth across total Nielsen, our 4 largest channels: convenience, food, mass and dollar.

As previously communicated, our expectations are to gain about 50 basis points of share per year. Since our performance has remained strong and the category has softened, we have gained 120 basis points in Q2 versus last year. Q2 represented the highest share we've enjoyed since launch in overall Nielsen, and these -- and also in those 4 channels I alluded to, which represent about 95% of our Sweet Baked Goods panel. Unfortunately, as many of you know, the category is down 1.6% year-to-date, primarily due to reduced c-store trips and overall weakness across many categories within grocery. To help offset these c-store trends, we have included incremental in-store merchandising in Q3 to accelerate our growth. Our share of convenience grew 80 basis points over the prior year to 21.7% for the second quarter resulting in our highest quarterly share since relaunch.

The growth of the brands is critically important as well. On a Nielsen basis year-over-year, we're growing Ding Dongs, Cupcakes, Twinkies, Coffee Cakes, Zingers, Ho Hos and Donettes, all on a consumption basis. These brands represent nearly 83% of our sales in Nielsen and are all growing. We've primarily driven growth in our brands for product innovation and sales efforts. Twinkies, Ding Dongs, Ho Hos and Coffee Cakes all reported double-digit growth for Q2 compared to prior year. We expect this trend to continue as our new core product line extension such as our White Fudge Ding Dongs, peanut butter Ho Hos, Apple Coffee Cakes and chocolate cake Twinkie continue to gain distribution in the marketplace.

Another measure of business momentum is volume. We are seeing very strong volume trends with over 9% growth in cases versus year ago. Our sales channel in [packed-type] mix is causing revenue growth to be lower than volume, but that volume creates important scale in our facilities and tonnage to our customers' registers. Even with that mixed pressure, we delivered over 31% adjusted EBITDA margin, 60 basis points higher than Q2 of last year.

A final measure of business momentum is shopper purchase dynamics, which continue to improve. In Q2, Hostess increased our household by 2%, while increasing dollar purchased in each of those household by 1.2%, units up over 2% and frequency up over 2%, all measures that show our brand and our business continues to penetrate into new households and further provide consumers with products they enjoy and want to continue to purchase and repurchase.

Our team remains focused on these growth drivers. Rebuilding the core innovation, innovation. We really see they're [already prevailing in] the core business, innovation and line extensions and whitespace opportunities. Rebuilding in the core has continued in 2017 and we're gaining distribution with the majority of retailers filling voids and adding item cap. We've added an average of 2 items on shelf in the average retailer across all of Nielsen, bringing our average count for all retailers to 22.5.

The lifeblood part of any growing business is innovation, and it's been central to our share and volume growth. Our pipeline for later this year and into 2018 is robust, and includes new offerings to help elevate the category, further expand us into whitespace segments in Sweet Baked Goods and add key renovations to existing items. Expansion of the Hostess Brands in the new spaces and segments within Sweet Baked Goods like brownies and peanut butter has yielded strong results and will continue to be a focus. Additionally, we're very pleased at the consumer reception to Hostess Brand in totally new categories, including Frozen Retail, Food Service and In-store Bakery.

The third part of our growth strategy is whitespace, where numerous opportunities represent tremendous potential for our brands. We have improving traction in In-store Bakery and both our Food Service and International did well in Q2. These channels are not measured in what we all call our Nielsen numbers that we frequently quote and that you guys follow very closely. As an example, our whitespace success, our total revenues in channels that are not measured by Nielsen grew from 11% to 17% from Q2 last year to Q2 this year. So while measured channel data is helpful, it's not a full representation of the success in any given quarter. And going forward, as we further unlock these whitespace opportunities, we expect that growth in non-measured channels to continue to expand.

In our In-store Bakery business, we're building momentum with the Hostess Bake Shop and new subcategories where Hostess brings key capabilities to this area of the store. We're gaining distribution in Western geographies and starting to fill out -- fill up the national footprint in new large retailers. A great example includes our recently added hand-held pies, and our Donettes are now being sold in a large tub in the club stores around the country.

We're pleased that ISB posted a sequential improvement from Q1 to Q2. Momentum is expected to continue as we benefit from the recent refocusing of our own sales force in ISB and continue distribution expansion.

In our Food Service segment, our partnership with McCain is leading to new business wins. We've had recent success in gaining distribution and quick service restaurants, stadiums, amusement parks with our deep-fried Twinkies. International business continues to expand strong year-over-year revenue growth. We benefited from our ongoing rollout in the Canadian market via our Dolly Madison brand, new product launches in Mexico and expanding our presence in the U.K. market.

We continue to explore M&A as well, generally focused on the following criteria: number one, a potential target that can leverage the Hostess brand and/or our warehouse model; number two, a potential target that can expand our baking capabilities, including further into ISB or move us into adjacent categories that we should or could participate in; and third, a target that can enable us to build the (inaudible) a greater snacking platform.

Switching gears, I'd like to comment on our recent announcement regarding our Head of Plant Operations, Stuart Wilcox. He's moving on to another opportunity outside of the food industry. Stuart was a valued member of the management team, but we have a deep bench with a lot of bakery and supply chain experience, and they're already stepping in to lead while we recruit for his replacement. We believe that one of the major keys to our success is our hands-on management approach that is ingrained in our culture, that you could be assured we're all deeply involved in every aspect of supply chain in the plant operation.

In summary, we're very pleased with the overall progress and results to the first half of the year. We believe it's an excellent quarter, particularly in today's CPG industry when you can report the highest share in all 4 of your largest sales channels, the top 6 brands posting consumption growth, significant and consistent market share gains, volume that is 9% above year ago and a 31% adjusted EBITDA margin. The sequence of the year is playing out exactly as we have previously communicated with larger growth in Q1 and expected in Q4 and slower growth in Q2 and Q3, delivering an aggregate 7.4% revenue growth for the year and over 9% EBITDA growth for all of 2017. We have entered the second half of '17 with strong momentum and continue to believe that Hostess brand and our innovation pipeline will enable us to build share and grow far above the SPG category. We now remain well on track to achieve our annual outlook.

Thank you. Now I'll turn to Tom and provide more detail and perspective. Tom?

Thank you, Bill.

I will now review our second quarter financial performance and some other data from today's press release. For comparative purposes, we will compare our 2017 results to our unaudited pro forma financial statements for the quarter ended June 30, 2016, which presents our results as if the business combination had occurred as of January 1, 2016. We believe this discussion provides helpful information on the comparative performance of the Hostess business during this period.

As Bill indicated, we are pleased with our financial performance despite the challenging retail environment and believe we are well positioned to execute on our growth initiatives. Net revenue for the second quarter was $203.3 million, an increase of $10.8 million over pro forma second quarter 2016 revenue of $192.3 million. This represents a 5.6% year-over-year growth rate primarily from our 2017 new product initiatives, including chocolate cake Twinkies, White Fudge Ding Dongs and Golden Cupcakes. And our whitespace growth led by our In-store Bakery operation. We generated $88.4 million of gross profit in the second quarter of 2017 or 2.6% growth year-over-year. Gross margin was 43.5% of net revenue, down 130 basis points from the same quarter last year as a result of the shift in product mix to include ISB and growth in our multipack and club-packed product sales as a percentage of total growth. With respect to the mix between segments, our gross margin in the Other segment decreased from 32.2% to 29.7% of overall business due to higher In-store Bakery sales.

SG&A expenses, which include advertising, were $32.6 million or 16% of revenue. This compares to $29.4 million or 15.3% of revenue for the pro forma second quarter of 2016. The increase in SG&A was primarily attributable to an increase in noncash share-based compensation, partially offset by decreased permanent [rata point]. Also, as noted in our financial statement, we expensed approximately $1 million in the second quarter of 2017 and also the second quarter of 2016, related to a litigation matter. This matter is now closed and the expenses relating to this litigation ended in Q2.

We generated adjusted EBITDA of $63.2 million or 31.1% of revenue compared to adjusted EBITDA of $58.7 million or 30.5% of revenue for the pro forma second quarter of 2016. The year-over-year growth rate in adjusted EBITDA was 7.7% driven by increased gross profit and lower operating expenses impacting adjusted EBITDA.

Our effective tax rate for the second quarter was 28.6% compared to a pro forma effective tax rate of 28.5% for last year. GAAP net income was $28.2 million or $0.18 per fully diluted share compared to $21.9 million or $0.15 per fully diluted share on a pro forma basis for the same quarter last year.

Our cash flow generation continues to be strong with operating cash flows for the quarter of $41.5 million driven by our strong EBITDA results. Our CapEx for the quarter was $10.6 million, mainly for property and equipment to support our strategic growth initiatives and productivity improvement. We continue to anticipate approximately $30 million to $40 million in CapEx for the full year. We also distributed $8.9 million to our noncontrolling interest, which represents 2 quarterly reimbursements for tax payments for the Class B shareholders.

Turning now to the balance sheet. Net debt as of June 30, 2017, was $930 million, and we have cash and cash equivalents of $66.2 million and also have availability on our undrawn revolving line of credit. We repriced our term loan to reduce our interest cost by 50 basis points in the quarter, which was the second repricing in six months.

Our total leverage ratio as of June 30, 2017, was 4.11x based on trailing 12-month pro forma combined adjusted EBITDA of $226.2 million. This has improved from 4.51x at the end of 2016. And excluding the use of cash for future acquisitions, we expect this rate to continue to come down over the next year given our consistent cash flow generation.

In terms of our outlook for 2017. We continue to expect revenue to grow above the Sweet Baked Goods category average and are reaffirming our previously issued 2017 guidance of net revenue of $781 million and adjusted EBITDA of $235 million.

We currently anticipate net income of $96 million for 2017, of which $34 million is expected to be allocated to the holders of the noncontrolling interest. The remaining $62 million is expected to result in basic EPS of $0.63 and diluted EPS of $0.58 for Class A common shareholders based on expected basic and diluted shares outstanding of approximately $99.1 million and $107.2 million, respectively.

Our 2017 net income and EPS guidance is slightly lower than prior guidance as a result of a change in state tax laws that will impact our third quarter results. We expect the change in state tax law will cause an increase to our deferred tax liability, resulting in additional income tax expense of $2.5 million to $3 million and an increase to the tax receivable agreement resulting in additional expense of $1.5 million to $2 million. We are anticipating income tax payments of $45 million to $53 million to cover the company's federal and state income tax to reimburse the holders of the noncontrolling interests for their tax liability and for payments to the selling equity holders of Hostess Holdings for 2017 activity under the terms of their tax receivable grant.

In summary, we are pleased with our year-to-date performance in 2017 and believe we are well positioned to continue to deliver revenue in our earnings growth.

With that, Bill and I are available for your questions.

(Operator Instructions) Our first question comes from Bill Chappell with SunTrust.

Just help me -- a couple of the statements of expecting to grow faster than the category and still reiterate your full year revenue guidance when -- I mean, clearly, it looks like the category as with most food categories has slowed kind of from the original expectations over the past 6 months. And in that vein, maybe give us some more color on why you expect fourth quarter to be so strong with 2Q and 3Q being a little bit weaker?

Yes, we've got -- yes, they're weaker only in relativity mainly because of the year ago lap, right? Last year, in Q2, we lapped the big start on brownies and Suzy Q and in Q3 we lapped that unique frozen Twinkie event that Walmart created. So those are going to create the sort of reporting OPTIX of year-on-year. We also by Q4, will have the full innovation pipeline for the early year '17 rolled out, and our innovation this year is doing better than last year's, which is good to see. And we've got some fall things that are coming out that we think we're going to strengthen the momentum even further as we go into that fourth quarter that aren't really announced yet with customers. We're working with a couple of lead customers to drive some innovation on that type of stuff. So that's why we think Q4 will be stronger than Q3. But again, it's relative to those comps in a lot of ways.

And then in terms of the whole category slowing but maintaining your full year outlook?

Yes, I mean -- what's happened is the category has slowed, obviously, we've all seen it. And -- but we've actually been able to pick up more share because of that. We think that partly, the stuff we're doing on our innovation is going to drive the growth. And also, were growing outside the Nielsen panel [well]. Our Food Service, International, those businesses, ISB is picking up momentum. So those things don't contribute to what we all refer to as the category because they're outside that traditional Nielsen panel. But they're providing nice growth to us.

Great. And then one last one. Just as you look at the new product launch, I mean, there's a comment in the press release that you've had some declines from last year's launches, are you promoting behind these enough? Or is it just a year later or 2 years later? Or is it more just this year's crop just is resonating with consumers better than last year's crop?

Yes. I mean, every product goes through the sophomore slump, right? And I think that a year ago, we had an unusual amount of support dedicated to the brownies when they first came out, and the Suzy Q -- kind of bringing Suzy back was a pretty novel and exciting thing. And we're going to do some things to kind of put a shot in the arm in Suzy late this year or early next year as well. But I think it's a lot of it, that we'd probably put more focus of our -- a percent of our merchandising on those products a year ago and now it spread out across most of our core initiatives, things like chocolate cake Twinkies, Ho Hos peanut butter, white-fudge covered Ding Dongs. So I would just say it spread more this year. Last year, we had it concentrated around those 3 items, 2 brownies and a Suzy.

Our next question comes from Brian Holland with Consumer Edge Research.

So again, thinking about sort of how this guidance plays out over the back half of the year. I know you talked about Costco and sort of being a rotational -- I guess, as I'm looking at the non-track channels, Costco was one that you talked about, as thinking about as rotational. And then, you've also got In-store Bakery, which you talked about, you didn't have a lot of visibility on, it took some time to get in to those markets and the timing of those, you don't have traditional reset. So I guess I'm just -- I'm trying to understand, to the extent we're looking at the non-track stuff, what sort of visibility do you have in the back half to drive that confidence that we can hold the line here on the top line?

Yes, I think the best one is a year ago, these non-track were 11% of our volume, now they're 17%, okay? So they picked up sort of share of total because of the momentum we've created in those segments. And frankly, all of them are getting some level of traction. Now they're not -- none of them individually is going to move the needle in -- by itself. But each one is picking up a $1 million here and a $1 million there per quarter. Then you've got 3 or 4 of those, and all of a sudden, that's a nice part of your growth. Because we're growing kind of this $10 million a quarter kind of rate. So you pick it up pretty quick when you start growing that way. So that's the reason that we feel comfortable with that. We also have momentum in each of those as well as momentum in our new products, which are year-to-date stronger than the 2016 new products were.

Okay. That's helpful. Talking about the innovation. You mentioned -- maybe you can correct me if I'm wrong here. Maybe lower sales from prior year innovation or not sure, maybe you can sort of expand on that. But I'm just curious, as clearly, you noted prior year innovation as being somewhat of an offset. Does that play into cannibalization? And to what extent do we think about that? And again, I mean, when we think about the Hostess brand and where it can go, you guys have done some great work in In-store Bakery and frozen novelty. But obviously, there are some limits to where Hostess can play. And as we think about go-forward innovation, can we continue to expand the consumption occasions for the consumer? I guess, first of all, just in retrospect, what happened with this year -- last year innovation this year to offset and to what extent, how do we think about cannibalization?

Yes, I think that we've got an unusual quarter, and that the size of the 2016 innovation in Q2 of last year was unusually large. It's cycling down in Q2 of this year but being replaced by 2017, right? You could argue that last year's Brownies and Suzy Qs were a little further out, so maybe it's slightly more incremental. This year, we're closer in on chocolate cake Twinkie and peanut butter Ho Ho and White Fudge Covered Ding Dong. Those are closer in. So that's cannibalization incrementality question is certainly a -- it's a hard one to gauge, right? But overall, core is kind of flattish, which is terrific when you're growing as much innovation as we are. So core plus innovation is keeping the big brands growing, that's why I mentioned that all of 6 of the big brands are growing for us, which is terrific. We also had a few million dollar quarter-on-quarter shortfall from discontinued items. So we try to be smart and aggressive in helping the customers manage the category when we take out items, we took out Red Velvet CupCake because it slowed down in sales and replaced that with Golden Cupcake. And obviously, over time, we think Golden will do better. But we try and keep the category fresh, we try and work in partnership with our retailers and to do that, sometimes you take a short-term trade-off like we did with the discontinued items.

Last one for me and I'll pass it on. The Q3 comp, you included the deep-fried frozen Twinkies, which I think was sort of a disproportionate lift to third quarter results last year. And I think, as I recall, you talked about at the Investor Day, maybe like some other products, Chocolate Lava Cakes, things like that. Can you give us a sense of sort of -- I understand that there are some sensitivities around that, but can we think about the kind of support and distribution new products will get such that you might have confidence, I don't know, if it's a full offset against the deep-fried frozen Twinkies last year? Or just how to think about that?

Yes, no. It's not going to be a full offset. You're going to see that small segment of the business will be down in Q3. And that's okay, that's a one-off onetime level of support last year. The Molten Lava Ding Dong, which is [based from we're starting] to ship now is rolling out into several large customers, but it won't come out with the fanfare and the uniqueness of that. So that will be a little bubble in the year, just like it was for brownies and Ding Dongs year-on-year. But we think that over time, this item's going to do well. Deep-fried Twinkie is still in distribution, but frankly, where we're seeing the most traction on deep-fried Twinkies in food service where it's offered in restaurants, offered in amusement parks and stadiums and other places. And that we think is probably the best place for it long term. Although it will still be available at retail.

Next question is from Michael Gallo with CL King.

My question, just on the kind of lower half of the Sweet Baked Goods category. Obviously, you recently launched a second coffee cake product, but it would seem like you have a significant opportunity in the breakfast day part of the category. So I was wondering how we should think about over the next 12 to 36 months, how you might approach that? And whether we should think of coffee cake as maybe the first foray into making a more aggressive push in that area?

Yes, it's a good comment and question. Coffee cake has been one of our core, kind of historic, almost iconic identity products for Hostess. Launching the Apple item as the second item is something that is going well. It's pretty small at this point, but it's building. The real key is what you said, Michael, which is the broader breakfast occasion, right? We got into Danish and Jumbo Muffins and Honey Buns a couple of years ago, and those products are currently undergoing some review for some product improvement. And one of the comments I made in my remarks was around renovation of existing items. And we think we have some room to improve those products, so we think that can be an area. The breakfast occasion across most parts of the store is growing nicely except for dry cereal. And so we think that contemporizing and strengthening our offerings there will help us in breakfast. That will probably be more late '17, early '18, but those are items that we'd certainly think are a good potential for us.

Okay. Great. And then just a follow-up question for Tom. The change in the state tax law and corresponding increase in the tax rate. If that was something we should think of as an ongoing basis? Or more as a onetime impact to the valuation allowance?

There will be a onetime impact for the valuation allowance, and then it will be slightly increased going forward. I think our rate for the year will be 31% to 32% for the year. And it was in it -- it was the rate change in Illinois, which is where our distribution center is, so that's why it's disproportional in the market.

Okay. And so that's a good tax rate to use kind of going forward?

For this year, it'll be that -- the onetime catch up, but that's for this year and that -- yes.

And then, for '18 and beyond?

Yes, it matters where we are in Class B to Class A but probably in that rough range.

Our next question is from Rob Dickerson with Deutsche Bank.

So I just had a question on the gross margin. I guess, the gross margin year-over-year came in a bit light. It was like -- it looks like it was driven kind of by both segments. Like sales were up for just under 6%, gross profits were just under -- up under 3%. So I'm just curious, is there like -- is that fully driven by just -- is it just, so let's just say, adjustment in the Sweet Baked Goods area, not the margin that's differential per segment, but just in Sweet Baked Goods. Is there -- is that more of a non-track channel has slightly lower margin and it's really continued off of the bagged donuts with just lower margins. So it's being driven by margin mixed shift down? But is that being driven by a channel shift? I'm just trying to get a sense of the...

It's really a packed-type shift, which essentially is a little bit of a channel shift. It's primarily the weakness in c-store relative to grocery. We've been growing in sort of high single digits in grocery that's mostly multipack for the year. C-store is only up marginally because of the traffic things we've been talking about. And what that does, the shifts are mixed from single-serve, which has higher margin to multipack, which has slightly lower margin. So that alone has driven that change in there.

Okay. And then just as we get through the year, I guess it's mainly Q4, is there an expectation for that to essentially continue? Or is that -- you have to get a little bit of easier comp in Q4 or maybe there's a little bit more P&L leverage?

It's a little more straightforward on the comp side, the comparable side, which is good. The other thing is we are seeing a slight uptick in c-store, which we're encouraged by. I think that, that industry had a rough Q1, and it built a little bit over Q2 from a traffic perspective. And we think it's going to turn positive for us. Plus our innovation in '17 and our late year innovation getting fully fleshed out is going to help us as well at Q4 year-over-year.

Our next question is from Jon Braatz with Kansas City Capital.

Bill, you -- last year was a strong year in terms of new product innovation. And this year looks like it's going be strong too. But you referenced a sophomore slump relative to the 2016 introduction. Is there anything you can do -- or what can you do to avoid that slump next year? Or is this typical of the rollout in the following year?

It's really an industry issue primarily driven by the fact that in a given year, in your first year, you get the stocking cases, you get the, essentially, you have to build your own pipelines. So you get kind of 8 to 12 weeks of volume that goes out there onetime. And then you lap that and you generally will have that. But also, in our business, think about it as we have sort of one main display of cake and Donette products in a store in that year that we bring out the new products. We're always going to have those new products featured more prominently. So you're going to have a cycling of that. Our job is to get that second and third display, so we can keep expanding the brand. But in the short them, you're going to see that almost always, products are going to have that year-on-year, at least on an individual product base, this decline, simply because you have the pipeline in one year and you have to follow up in the next, and also you continue to bring out new products that expand their footprint beyond.

Okay. Do you think it cycles back up then in the third year?

Well, I look at it like this. The innovation has to, in totality, contribute to overall growth. And so we keep looking at it. And that's why occasionally, we take out an item or we rotate things through, that our job is to keep the category fresh, to keep bringing consumers new ideas, to keep bringing our customers new ideas. And if we're continuing to grow Hostess and gain market share, then in aggregate, we're winning, right? And so that's going to always have a seasonal component to it, a limited time offer component to it, a new product component, a line extension, a refresh. All of those aspects come together to try and drive the total. And if you're driving that total and you're winning share, that's generally a pretty good overall proposition.

Okay, Bill. One last question. As you talk to your customers and other people in the retail industry, the category has slowed. Any thoughts on why that might be? And why it may change in the upcoming quarters?

I think it comes down to, overall, what all the players are doing on the innovation front, right? Little Debbie has not done a lot, it's done a little bit with muffins, Entenmann's continues to do a pretty job with their muffins, but not much beyond that. Tastykake had pushed hard for a couple of years and frankly, some of that has slowed a lot. And so those are the areas that frankly haven't provided much news and sort of energy to the category. And I think that we have to continue to remind ourselves to push our own brand in the whitespace areas where we can get more incrementality and drive more growth. When we went into brownies then Suzy came back as kind of a stand-alone form and provided a lot of incrementality. And that's a good reminder to us, to look at things like cookies, to look into other areas we can elevate the category, to look into places that Sweet Goods are being offered that we currently don't have an offering. Those are the places where we can continue to really carry the category on our shoulders and continue to expand this business both for Hostess and for the retailers.

Our next question comes from Steve Strycula with UBS.

Congratulations on a good execution quarter. So first question would be about the middle of the P&L, specifically how it correlates with revenue growth for the overall business. How – now is it possible to gain the market share that you're looking to do by managing, call like a low-single digit year-on-year advertising spend growth? How do we think about that? And also, are you seeing any kind of lift from your partnership with Acosta in increasing the frequency of visits to the store and channels that used to be serviced by DSD? Or are you guys seeing a lift there?

Yes, I'll start with the second one. The Acosta partnership is going very well. Our grocery growth and shutting grocery share is up by 200 basis points in the last 18 months behind the DRT, it's called direct retail team initiative. And that really is sort of hands on the shelf, hands in the back room, putting product out, reordering. We feel like those 2 things are very directly correlatable. And in fact, we have an incentive program with Acosta where we hold back their commission until we see the growth. So they're highly motivated to do that as well. So that's really a big part of that kind of growth. Back to the overall marketing and advertising question, we have continued to believe and continue to see success from thinking of marketing as creating in-store presence, right? So while our kind of capital and direct-to-consumer marketing is rather small, our direct-to-consumer marketing, we view it as getting in-store display. That impulse purchase, that catching them in the aisle as they're walking down with a new product, having that -- what's new from Hostess display in c-stores, in grocery and mass around the country. That's really the marketing efforts we make and that's how we get our product in front of consumers. It's not a category that has historically spent lots of money in traditional DTC, so we feel like that really, our marketing dollars are best served doing things like supporting retail efforts with Acosta, driving display, getting really creative on our point of sale, those type things are the most effective marketing tools for us at this stage in our careers -- I mean, and at this stage in the business cycle. Later on, we may think about different types of marketing for different initiatives. But right now, the way we have played it has been very effective and pretty efficient as well.

All right. That's really helpful. And then how should we think about, and this one has already asked about this already, but just to clarify a little bit. How should we think about the year-over-year growth rate in 4Q versus 3Q? Obviously, it sounds like 4Q has a little bit more of an innovation pipeline. Can you walk us through those needle moving innovations one last time? And then similarly for In-store Bakery, you had a really good organic underlying growth rate in that business year-to-date. How should we think about that in the back half?

Yes, okay. Good question. We're -- we provide annual guidance. We don't want to get into kind of the quarter subtleties and frailties of that. You think about sort of first half to date, second half to date. We have to grow at a lower growth rate in the second half than we did in the first to get to $781 million and $235 million. So all we're trying to do is give you a little bit of color around expectations that, because of the lap from the year ago, we knew Q2 would lap at a lower growth rate in Q3 because of those same similar factors. And then Q1 and Q4 would be higher growth rate factors. So that -- but it's going to get you to the same number, right? So you can do the math of where we are and what we've got to do. But the growth rate in the second half is projected to be lower than it was in the first overall, and it still gets us to the $781 million, $235 million. It will be driven by the innovation that's already rolling out, the 2017 innovation. There are a couple of add-ons that go in later in the year that will help us some as well. But also just general momentum in our whitespace categories, including ISB that you referenced, will be the sort of the overall formula that gets us to this plus 7.5% top line and plus 9% bottom line that we've got guided for the year on.

Great. And these growth CapEx investments that you're making right now, how should we think about that hitting the P&L from new products coming to market? Is that more of a 2018 pipeline fill? The equipment you're putting in place today? Is that the right way to think about it?

Yes, the equipment we were putting it in place this year is for next -- we're always -- you need to be about a year ahead. So our -- equipment we're putting in for this year is for next year and the same with the following for the -- what we've talked about that. It's always for the next year.

Next question comes from Farha Aslam with Stephens Inc.

First thing, could we talk about the peanut butter Twinkies? Has it launched? Is it in stores? And how is it doing?

Absolutely. It is essentially launched as a limited-time offer for our summer of Twinkies, okay? So it is not what I would call broadly available or in 100% of stores by any means. It really was primarily at Walmart and big grocery item that's going out for the summer of Twinkies. Then it will roll more into everyday distributions. So it's a -- and first of all, it's doing great, and it's a lot of fun product. I think it's one of the [fun that] we had at Investor Day. And it's doing well, but it's not sort of at that 100% availability level yet. But it will be -- become more and more available as the year moves through.

Is that one of the reasons you're confident about the fourth quarter because you're having broader distribution on a major lot?

Yes, it should help. And I think chocolate cake Twinkie, frankly, has been the biggest success of the year. Peanut butter Twinkies, a little too early to tell because it's kind of all of in the middle of the big Twinkie support we get for the whole summer. But chocolate cake Twinkie has delivered quite nicely and then probably would be the bigger piece of this in the balance of the year. But all of that, yes, adds to the confidence of the momentum we're feeling going into Q3 and Q4.

That's helpful. And when we think about the back half margin for that Sweet Baked Goods category, is it similar to the first half? Because your guidance implies that you have some room for that to go down. How should we think about that?

Yes, we have it as going -- it will go down just slightly in Q3 and Q4.

A lot of that is our Q3 summer, the Twinkies promotion events, those are generally the biggest investments we make in the year. So sometimes our margin will dip in Q3 and come back in Q4 as we don't have as much promotional scheme going during the holidays. But those 2 things could lead to a slight downtick, yes.

Okay. So you had already planned that in your guidance?

Yes.

And then, can we talk about the ISB now that we've -- [a lapse in its] acquisition. And think about how we should think about sales growth for that business?

Yes, I think that will be hopefully a double-digit growing business for us. '18, '19 and '20 as we really get the full footprint of that. As we've mentioned on other calls, we like the business a lot, Hostess makes a lot of sense over there. But we're also learning a lot about the category dynamics. We've just brought in the hand-held pie execution with 4x the fruit into a couple of retailers and that's gone very well. We're looking at some other cake analogues to go into, we're looking at some -- and we're selling now a tub of donuts or Donettes in club stores. And we think that's an interesting ISB offering for things. So we're tweaking our product mix. We're expanding our customer base. We're moving into the West Coast, for frankly the first time that these products have been available in the West Coast. So all those things are coming together for us as we're building momentum in those categories. So we think we should be able to grow double digits, kind of in that low double-digit type percent year-on-year type change for this category. But we still have a lot to learn on how it executes.

That's helpful. And then, final question is M&A. Recently, you've seen some [frozen bakery] businesses come up for sale. Is that an area you're interested in? Or are you going to continue to look for M&A in In-store Bakery?

Yes, we look at a lot of things for the reasons that we talked about, as places that the brand can go, assets and capabilities we'd like to have, things that build on our warehouse model, things that build on our snacking platforms. Those are the primary criteria. So some of the ones you'd mentioned meet some of those but maybe not all of them. So we're very judicious in what we purchase because we feel like we've got a lot of growth left in the brand. But we also are interested in continuing to build the company and expand the platform that we're operating from.

Ladies and gentlemen, we have reached the end of the question-and-answer session, and I would like to turn the call back to management for closing remarks.

Well, thank you, everyone, for the time and being with us this afternoon. We are pleased to be able to share with you our Q2, and look forward to speaking with you in the future. Thank you so much.

Thank you.

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