Scotts Miracle-Gro Company — Q2 FY2011 Form 10-Q
Reporting period: Quarter and six months ended April 2, 2011. The company makes branded lawn and garden products, markets consumer Roundup products for Monsanto, and operates Scotts LawnService. Sales are highly seasonal, with approximately 75% of annual sales generally occurring in the second and third fiscal quarters. Amounts below are in millions of dollars except per-share data.
Financial performance and liquidity
| Metric | Three months ended April 2, 2011 | Prior-year quarter | Six months ended April 2, 2011 | Prior-year six months |
|---|---|---|---|---|
| Net sales | $1,129.6 | $1,050.7 | $1,359.8 | $1,303.1 |
| Gross profit | $462.7 | $415.0 | $511.8 | $467.8 |
| Gross margin | 41.0% | 39.5% | 37.6% | 35.9% |
| Operating income | $245.6 | $196.7 | $151.1 | $127.7 |
| Continuing-operations income | $148.6 | $114.2 | $81.9 | $64.1 |
| Net income | $177.6 | $118.5 | $109.7 | $60.8 |
| Diluted continuing-operations EPS | $2.20 | $1.69 | $1.21 | $0.95 |
| Diluted net EPS | $2.63 | $1.76 | $1.62 | $0.90 |
- Quarterly sales rose 7.5%; organic sales growth was 6.8%. First-half sales rose 4.4%, with organic growth of 4.0%.
- Quarter gross margin improved 1.5 percentage points; first-half margin improved 1.7 points. Management attributed gains primarily to product mix, supply-chain productivity, and lower commodity costs.
- Quarter net income includes $29.0 of after-tax discontinued-operations income; first-half discontinued-operations income was $27.8. These results include the Global Professional business sale gain, so net income growth exceeds continuing-operations growth.
- First-half operating cash flow was a use of $604.0, versus a use of $611.4 a year earlier, reflecting seasonal inventory build and receivables from heavy spring shipments. Investing provided $205.5, including sale proceeds; financing provided $437.5. Cash ended at $128.7.
- At April 2, total debt was $1,180.6, including $764.6 classified as current and $416.0 long-term. Revolving borrowings were $760.6; the term loan had been fully repaid. Credit-facility availability was $803.1, including letters of credit. The company reported compliance with borrowing covenants, a leverage ratio of 1.58 versus a 3.50 maximum, and interest coverage of 10.53 versus a 3.50 minimum.
- Shareholders’ equity was $788.6. The company paid $33.3 in dividends and repurchased $93.7 of shares during the first half; approximately $118.7 of repurchases had been completed through the second quarter.
Material changes and business developments
- On February 28, 2011, the company sold a significant majority of Global Professional assets to Israel Chemicals Ltd. for $270.0, receiving $264.6 after agreed adjustments at closing. The sale generated a reported first-half after-tax gain of $21.5, including transaction costs. The closing proceeds remain subject to post-closing adjustments. Global Professional is presented as discontinued operations; the non-European professional seed business remains in Corporate & Other.
- Global Consumer sales increased 7.5% in the quarter and 4.1% in the first half. Quarter segment operating income increased $49.1. Retail point-of-sale at the largest U.S. retailers fell 1.4% in the quarter, which management attributed primarily to unfavorable March weather; first-half point-of-sale increased 1.9%.
- Scotts LawnService sales increased $2.1 in the quarter and $6.2 in the first half, primarily from higher customer counts. Its operating loss was nearly unchanged for the quarter and narrowed by $2.9 year to date.
- The board had authorized $500.0 of repurchases in 2010 and authorized an additional $200.0 on May 4, 2011, for total authorization of $700.0 through September 30, 2014. The quarterly dividend was doubled to $0.25 per share in fiscal 2010.
Outlook, risks, and unusual items
- Management forecast fiscal 2011 sales growth of 4%–6%, gross-margin improvement of 70–100 basis points, and a 10%–13% increase in continuing-operations income excluding product-registration and recall matters and impairment charges. SG&A was expected to grow slightly less than sales.
- Management expected fiscal 2011 interest expense to increase by $8–$10, and expected to refinance the senior secured facilities by July 1, 2011, ahead of their February 2012 expiration. On May 10, the receivables purchase agreement was extended through September 30, 2011; no borrowings were outstanding under it at April 2.
- The company expected $8–$10 of fiscal 2011 product-registration and recall costs, excluding possible fines, penalties, judgments, and litigation costs. EPA, Department of Justice, and California investigations continued. The company said potential liabilities could be material; no reserves had been established for those potential liabilities. California had offered to settle for $245,631, for which no reserve was recorded.
- Weather, commodity prices, seasonal working-capital demands, and the planned debt refinancing are relevant operating and liquidity risks. The company stated that operating cash flow and capital resources should be sufficient for fiscal 2011 and the foreseeable future, but gave no assurance that future operating cash flow or credit availability would meet all needs.
- Other contingencies include asbestos-related claims for which no loss estimate or reserve was recorded, and environmental matters. Management considered existing reserves adequate, while noting outcomes could affect results. The company reported disclosure controls were effective and no material change in internal control over financial reporting.
Important facts for investors to verify
- Final Global Professional sale working-capital adjustments and the reconciliation of closing proceeds to the $249.8 of net sale proceeds shown in investing cash flow.
- Progress, final costs, and potential liabilities from the EPA, DOJ, and California product-registration matters, including any reserve changes or enforcement actions.
- Execution and terms of the planned credit-facility refinancing, debt maturities, covenant headroom, and seasonal borrowing needs.
- Whether fiscal 2011 sales, gross-margin, and adjusted continuing-income guidance is achieved, considering spring weather, retail sell-through, and cost trends.
- How repurchases, dividends, and planned capital investment affect debt, liquidity, and cash generation.