Scotts Miracle Gro Earnings Call INSIGHTS: “More is More” Paid Off in Recession, Operating Margin

On Friday, Scotts Miracle Gro Co (NYSE:SMG) reported its third quarter earnings and discussed the following topics in its earnings conference call. Take a look.

“More is More” Paid Off in Recession

Alice Longley – Buckingham Research: My question is about what you said about the industry growth and you compared it to other consumer staples categories. It looks to me like I think you said you think the industry growth this year is flat and last year it was down 4% to 5% and assuming this is sort of normal weather year because weather was good at the beginning of the year and not so good later. You look at the — it’s an easy comp you look at the two years together, it looks like the industry is actually shrinking a little bit and the concern to me is that maybe the affluent consumer has shifted back to using LawnService since the recession and the non-affluent consumer just doesn’t need to do lawn and garden work, and you’ve got a structural deterioration in the industry because people don’t need to do lawn and garden they need to buy toilet paper and detergent, but they don’t need to do lawn and garden. So, could you comment on that?

James Hagedorn – Chairman and CEO: I feel there was a lot there that you said and I want to start out by saying that we made the decision last year to hold pricing and jack the advertising. I think you were the one that said do more in the recession, and I just wanted to say maybe you were right, okay. So, I’m not sure if you’ve ever heard that before from me Alice. I think when we look at this year and we look at other consumer goods companies where if you back out pricing in their – I’m going to call it old world markets which is, I am starting to feel like, call it North America and Europe where you’re seeing unit volume declines in sort of other consumer staples. I think that’s what our comments were referring to is that, we’re seeing that. Certainly, we’ve seen reasonable performance in our LawnService business with – I’m going to say a slight increase in consumer account, but generally – I’m going to start by saying part of what the LawnService business done is what the Americans need to do now, which is run the business, a lot more efficiency, and the ability to make money on kind of slowly increasing customer account is really the story I think behind where we’ve been with LawnService. I’m going to say, exceptional management that’s occurring in that business and has been. So that business is growing, but they have not seen a decline that the other business is. I’m not sure I quite go to the fact that everybody is rushing out to LawnService, but it is certain that some things happening with the consumer, and especially sort of in the second half of our lawn and garden season. The good news to us is that we’re not seeing a shift to private label. What we think the data is telling us is that, if people are stressed, they will just step out of the market for the year and they won’t do anything. Now, I know that Barry and Jim Lyski in the team, we need to work on that to keep the incentive high on the consumer to even when they are feeling stressed that they need to use lawn and garden. But I think the reality is, that’s what we’re seeing is that the business is showing a sort of behavior like other consumer goods companies that were not losing – that they’re not shifting down to lower price products that they’re tending to leave the category and step back in – and we’ve talked about this before and step back in next year. So, I don’t know if that answers the question, but I think that that’s kind of what we are seeing.

Alice Longley – Buckingham Research: Well, if we’ve got (cranny) volume prospects, what kind of pricing are you talking about for next year, is it two to three or is it four to five?

James Hagedorn – Chairman and CEO: We’re going to say low single-digits. We’re still to some extend in the line review process, and so I don’t really want to go beyond that.

Alice Longley – Buckingham Research: Then finally, are you buying shares aggressively if you are going to help shareholders?

James Hagedorn – Chairman and CEO: At the moment our focus is going to be on getting leverage down. We have a open authorization from the Board to buy shares, and when we feel the time is right, we will do so.

Operating Margin

Olivia Tong – Bank of America: I guess, first question, you said you should be able to return to where you were at two years, but you also said that category growth expectations are lower and you won’t be investing in advertising as much to ‘chase growth’. So, I guess looking forward, how much of this decline that came this year, you think is short-term volatile weather trends and things like that. How much of this is sort of structural problems and how – you said that 2013 should see a significant rebound. How can you move that fast to fix what sound to me like, there are some structural problems within the business?

James Hagedorn – Chairman and CEO: I’m going to say actually relatively easy expense control. If you look at our outlook really for the planning period, we just finished the board meeting and in fact we’re still at the site where we met with the board. We’re effectively budgeting no organic growth for the period, okay. So, that actually makes at least the sort of solution of saying how you’re going to do it pretty easy for us. It’s going to be sort of expense control and getting our operating margins up.

Olivia Tong – Bank of America: How much of that — as you sort of think about the operating margin, how much of that is going to come from scaling back advertising? What do you think in terms of mix sort of next year because part of that is weather, but part of that is also just the lower margin categories like mulch are doing better?

James Hagedorn – Chairman and CEO: No, I mean I think it’s to some extent people need to remind me the components of the question, I’ll stick with mix for a second. This season this year and look I think that our budgeting process and our belief in the weakness of the consumer is pretty important, and so what I’m going to really say is I don’t know exactly what happened in the second half of the season, but I think we saw broadly in retail and that other people in consumer goods saw the same thing, but that the decline in retail sales in the second half of the season hit our Miracle Gro brand pretty hard. It’s sort of – that part of the season is the gardening part of the season and that’s pretty high margin. So, I think that at least my expectation is that we’re going to – that the Miracle Gro brand should do better next year and that should be to some extent beneficial on mix. Some of the other areas of products that sell like mulch, I think we believe there is something happening there and that’s a business that continues to year-over-year perform well and that the margin challenges we had there, deal to some extent with our supply chain and our ability to make money and Barry and Dave Swihart and sort of the whole operating team are working hard and believe we have a strategy to significantly increase margin on mulch, so that as the mulch business we think continues to do well we’re in a position to make more money on it. In regard to sort of promotional spend; I don’t really want to get in the detail on it now except on dollars, except to sort of just philosophically tell you. The North American business had a 50% increase in media spend in ’12, the year we’re in now. We’re going to spend a lot more than we spent in ’11, in ’13. It’s just not going to be as much as ‘12 so it will still be a significant increase of what we spent in ‘11 and I really don’t want to get into dollars until we sort of start tying things down, but my hope is that we can be more specific with you sort of at a minimum in December when we sit down with you at the Analyst meeting.

Olivia Tong – Bank of America: Just lastly. Can you talk about your share – such briefly on overall share gains, but can you talk about the difference in share gains across the categories, so maybe how much did you gain in seed versus fertilizer versus – not seed, but fertilizer versus mulch. So, sort of comparing the higher margin categories versus the lower margin ones?

James Hagedorn – Chairman and CEO: Barry, you want to take that.

Barry W. Sanders – President and COO: Olivia, this is Barry Sanders. We are gaining share faster in some of the lower margin categories of this year. We did see a faster gain in the mulch category than in the lawns business, but Jim and David said in their opening remarks, we did gain share in every category except for the non-selective business and select business and it ranged anywhere from 1 point up to around 8 points on the mulch business.

James Hagedorn – Chairman and CEO: I just I don’t want to left the sort of lawn fertilizer. The change in sort of sales trajectory that occurred call starting in May and had a pretty bad effect on sort of margin and that core of the business which is Miracle Gro and the tail end of the lawn fertilizer business, but even with that, we flattened out the units sold in lawn fertilizer. Remember, we were dealing with sort of million unit losses per year in lawn fertilizer. So, sort of one of the small victories that we had maybe more than a small victory is the trajectory change in a loss of units in lawn fertilizer. So, even with sort of the gutting of the tail end of the lawn fertilizer business or season, we still ended up flat a year-over-year units which was at a big change in trajectory, okay.