Business context and reporting period
The Scotts Miracle-Gro Company filed this unaudited Form 10-Q for the three months ended January 1, 2011. It sells branded lawn and garden products, operates Scotts LawnService, and—until the pending transaction closes—has a professional products business classified as discontinued operations. Results are highly seasonal: management says 70%–75% of annual sales generally occur in fiscal Q2 and Q3.
Financial performance
Amounts are in millions, except per-share data. The comparable quarter ended January 2, 2010 has been reclassified to present Global Pro as discontinued operations.
| Metric | Q1 FY2011 | Q1 FY2010 |
|---|---|---|
| Net sales, continuing operations | $230.2 | $252.4 |
| Gross profit / margin | $49.1 / 21.3% | $52.8 / 20.9% |
| Operating loss | $(94.5) | $(69.0) |
| Loss from continuing operations | $(66.7) | $(50.1) |
| Net loss | $(67.9) | $(57.7) |
| Basic and diluted loss per share | $(1.02) | $(0.88) |
| Cash used in operating activities | $(169.7) | $(176.7) |
- Sales fell 8.8%; organic sales declined 8.1% after a 0.7% favorable foreign-exchange impact. Global Consumer organic sales decreased 10.9%, while Scotts LawnService organic sales increased 12.1%.
- Gross margin increased 0.4 percentage points, reflecting lower average material costs, partly offset by higher freight. The larger operating and net losses reflected lower Global Consumer sales, higher pre-season investment spending and severance costs. Prior-year other income included a property-sale gain.
- Global Consumer sales were $188.8, down from $214.0; its pre-tax segment loss widened to $55.1 from $40.4. LawnService sales rose to $37.1 from $33.0 and its pre-tax loss narrowed to $4.5 from $7.5.
- Cash and cash equivalents were $78.8 at January 1, 2011, versus $51.5 a year earlier and $88.1 at September 30, 2010. Capital spending was $28.1, compared with $19.4 a year earlier; the increase primarily related to a new liquids manufacturing and bottling plant.
Debt, liquidity and capital allocation
Total debt was $855.9 at January 1, 2011, compared with $965.5 at January 2, 2010 and $631.7 at September 30, 2010. It included $168.5 current debt and $687.4 long-term debt. The company issued $200 million of 6.625% senior notes due 2020 in December 2010; it also had $200 million of 7.25% senior notes due 2018. The new issuance helped repay secured credit-facility borrowings and support general corporate purposes.
- Availability under the senior secured facilities was $1.34 billion, including letters of credit; $26.7 of letters of credit was outstanding. The company reported compliance with debt covenants and leverage and interest-coverage ratios of 2.0 and 9.0, respectively, against limits of 3.50 maximum leverage and 3.50 minimum interest coverage.
- The secured facilities were due to expire in February 2012. Management expected to refinance them in fiscal Q3 2011 and noted that higher borrowing spreads could increase interest expense.
- Financing activities provided $186.3 cash, including the $200.0 note issuance; the company paid $16.8 in dividends and repurchased $25.0 of shares during the quarter. The board had authorized up to $500 million of repurchases through September 2014.
- Management said operating cash flows and capital resources should be sufficient for fiscal 2011 and the foreseeable future, while cautioning that future cash generation and borrowing availability are not assured.
Outlook, significant transactions and risks
- Management projected fiscal 2011 sales growth of 4%–6%, gross-margin improvement of 70–100 basis points, SG&A growth slightly below sales growth, interest expense of approximately $60 million, and diluted EPS growth of 10%–13%.
- In December 2010, the company received a binding $270 million cash offer from Israel Chemicals Ltd. for a significant majority of Global Pro’s assets, subject to closing adjustments, regulatory review and other conditions. Closing was expected by the end of fiscal Q2 2011. Proceeds were intended for capital investment and debt retirement. Global Pro’s quarterly discontinued-operations loss was $1.2, including $5.2 of transaction-related costs; the prior-year discontinued-operations loss was $7.6.
- Federal and state investigations into pesticide product-registration matters continued. The company expected $8–$10 million of fiscal 2011 registration and recall costs, excluding possible fines, penalties, judgments and litigation costs. It had established no reserve for these potential liabilities, whose amount could not be reasonably determined and could be material.
- Other disclosed exposures include environmental matters, asbestos-related claims for which no loss estimate or reserve was recorded, and general legal and regulatory contingencies. The filing says market risks had not changed significantly from the 2010 Form 10-K.
- Management attributed the quarter’s lower Global Consumer shipments in part to pre-season shipment timing; U.S. retail point-of-sale increased 10.7% at its largest retailers, despite an 11.9% decline in U.S. segment organic sales. Weather, seasonal demand, commodity costs, refinancing terms and execution of the Global Pro sale remain relevant uncertainties.
Important facts for investors to verify
- Whether the Global Pro sale closed on the expected timetable and at what final proceeds after adjustments; confirm the planned use of proceeds.
- How subsequent seasonal sales, consumer point-of-sale trends and shipment timing compare with the 4%–6% full-year sales outlook.
- Whether projected margin and EPS growth are tracking, considering severance, pre-season spending, commodities and freight.
- Progress and final outcomes of the EPA, DOJ and California investigations, including any fines, claims or additional reserves.
- Terms and timing of refinancing the secured facilities, covenant headroom, debt levels and the company’s ability to fund working capital, capital spending, dividends and share repurchases.