Business context and reporting period
Scotts Miracle-Gro Company (NYSE: SMG) filed this unaudited Form 10-Q for the quarter and nine months ended June 29, 2019. The company sells lawn and garden products and indoor/hydroponic gardening products through its U.S. Consumer, Hawthorne and Other segments. Sales are highly seasonal, with the second and third fiscal quarters typically accounting for most annual sales.
Financial performance
| Metric | Three months ended June 29, 2019 | Nine months ended June 29, 2019 |
|---|---|---|
| Net sales | $1,170.3 million; up 17.7% | $2,658.3 million; up 19.2% |
| Gross profit / margin | $423.4 million / 36.2% | $930.1 million / 35.0% |
| Operating income | $258.2 million | $463.5 million |
| Income from continuing operations | $178.0 million; diluted EPS $3.15 | $492.3 million; diluted EPS $8.78 |
| Net income | $201.6 million | $518.4 million |
| Operating cash flow | Cash used of $77.7 million for the nine months |
For comparison, prior-year net sales were $994.6 million for the quarter and $2,229.5 million for nine months; gross margins were 34.9% and 35.5%, respectively. Prior-year nine-month income from continuing operations was $258.2 million, while net income was $210.6 million.
- Quarterly sales growth reflected volume, acquisitions, pricing and higher Roundup-related sales; the filing attributes 6.9 percentage points of quarterly growth and 10.4 points of nine-month growth to acquisitions.
- Hawthorne sales were $176.3 million for the quarter and $461.1 million for nine months, up 137.6% and 139.2%. U.S. Consumer sales rose 9.6% and 8.7%, respectively. Other-segment sales declined 4.2% for the quarter and 1.1% for nine months.
- Hawthorne segment profit improved to $16.8 million for the quarter and $31.6 million for nine months, from losses of $3.6 million and $6.6 million. U.S. Consumer segment profit rose to $271.5 million and $548.5 million, respectively.
Liquidity, debt and capital
At June 29, 2019, cash was $36.4 million, total debt was $1,934.8 million and total equity was $805.2 million. Total debt was $2,297.5 million at June 30, 2018. Current assets were $1,389.9 million and current liabilities $955.4 million. The company reported $1,278.8 million available under its revolving credit agreement, plus $10.8 million available under its receivables facility.
Nine-month cash flow included $263.5 million provided by investing activities and $182.9 million used in financing activities. Cash used in operations was $77.7 million, reflecting, among other items, taxes paid on the TruGreen disposition, litigation payments, seasonal working-capital needs and interest payments. The company paid $92.1 million in dividends during the period.
The company’s credit-agreement leverage ratio was 3.68 against a maximum of 5.00 for the relevant quarter; its interest-coverage ratio was 5.94 against a minimum of 3.00. Management said it expected to remain within these covenants in fiscal 2019 based on current operating assumptions, while noting that weaker earnings or higher debt could threaten compliance.
Material changes, outlook and notable items
- Joint-venture divestitures: The company sold its approximately 30% interest in the TruGreen joint venture for $234.2 million and received $18.4 million from repayment of related financing. It recorded a $259.8 million pretax gain and used proceeds to reduce debt. It also sold its IT&O joint-venture interest for $36.6 million, recording a $2.9 million pretax gain.
- Reported earnings include unusual items: Nine-month other non-operating income included the $259.8 million TruGreen gain. Discontinued operations included a favorable $22.5 million adjustment related to the Morning Song bird-food litigation and insurance recoveries of $13.4 million for nine months. These items materially affect comparisons of reported net income.
- Legal settlement: The Morning Song settlement became effective July 12, 2019. The company had paid $42.5 million and accrued $20.0 million for a final payment expected in the fourth quarter of fiscal 2019. The EZ Seed litigation was settled, with no remaining accrual at June 29, 2019.
- Roundup agreement after quarter-end: On July 29, 2019, the company entered into a revised Monsanto marketing agreement effective August 1. For program year 2020 and later, commission changes to 50% of program EBIT rather than 50% of EBIT above $40 million. The agreement also sets specified termination fees. A separate asset-sale agreement provides for $112 million plus the value of finished-goods inventory.
- Other capital actions: The board approved an increase in the quarterly dividend from $0.55 to $0.58 per share on July 30, 2019. On August 2, it extended the share-repurchase authorization through March 28, 2020, with an aggregate authorization of up to $1.0 billion. No program repurchases were made during the reported quarter or nine-month period.
- No numerical full-year earnings or sales guidance is stated in the provided filing text. Management identifies seasonal demand, costs, foreign exchange, acquisition synergies, and covenant compliance as factors relevant to results. Project Catalyst restructuring continued; costs incurred since inception totaled $37.4 million.
- The company reported that disclosure controls were effective at June 29, 2019, and that there were no material changes in internal control over financial reporting during the quarter.
Key investor verification points
- Assess underlying operating performance separately from the TruGreen gain and litigation-related discontinued-operations benefits.
- Verify the sustainability of seasonal sales growth, Hawthorne profitability and Project Catalyst savings, including acquisition-related margin effects.
- Monitor operating cash conversion and seasonal receivables and inventory needs, alongside debt reduction and borrowing availability.
- Review the revised Monsanto agreement’s commission economics, termination provisions and asset-sale consideration as implementation proceeds.
- Track final Morning Song settlement payments, tax payments related to the TruGreen sale, and compliance with credit covenants.