Scotts Miracle-Gro Company — FY2012 Form 10-K
Reporting period: Fiscal year ended September 30, 2012. The filing also reports fourth-quarter results; the company’s business is highly seasonal, with about 75% of annual sales in the second and third fiscal quarters. Unless noted, comparisons are with FY2011 and reflect continuing operations.
Business context and key financial metrics
Scotts Miracle-Gro sells branded lawn and garden products, including consumer Roundup products marketed under an agency agreement with Monsanto, and provides U.S. lawn and landscape services through Scotts LawnService. Global Consumer generated approximately 89.8% of FY2012 sales. The company completed the wind-down of its professional seed business and presented it as discontinued operations.
| Metric | FY2012 | FY2011 | Change / context |
|---|---|---|---|
| Net sales | $2,826.1 million | $2,799.7 million | Up 0.9%; volume and pricing each contributed 0.7%, partly offset by 0.7% unfavorable foreign exchange. |
| Gross profit / margin | $961.3 million / 34.0% | $1,009.2 million / 36.0% | Margin fell 2.0 percentage points, mainly from higher input and distribution costs and unfavorable product mix. |
| Operating income | $243.6 million | $274.8 million | Down 11.4%. Adjusted operating income, a non-GAAP measure, was $258.9 million versus $345.3 million. |
| Income from continuing operations | $113.2 million; diluted EPS $1.82 | $139.9 million; diluted EPS $2.11 | Adjusted continuing income was $124.9 million versus $187.2 million. |
| Net income | $106.5 million | $167.9 million | FY2011 included a $39.5 million after-tax gain on the Global Pro sale; FY2012 included a $6.7 million discontinued-operations loss. |
| Operating cash flow | $153.4 million | $122.1 million | Reported cash flow increased; continuing-operations operating cash flow was $143.1 million, down $48.2 million. |
| Cash and liquidity | Cash $131.9 million; working capital $566.4 million; current ratio 2.3 | Cash $130.9 million; working capital $523.9 million; current ratio 2.1 | $1.3 billion of availability under the credit facility at year-end. |
| Debt | $782.6 million | $795.0 million | Leverage ratio was 2.93 versus 1.98; covenant maximum was 3.50. Interest coverage was 4.90, above the 3.50 minimum. |
FY2012 Global Consumer sales were $2,539.2 million, nearly flat year over year, while segment income fell 20.4% to $338.3 million. Scotts LawnService sales rose 4.3% to $245.8 million and segment income increased to $27.0 million.
For the fourth quarter, sales were $401.2 million versus $403.1 million. The company reported a $36.6 million loss from continuing operations and a $40.1 million net loss, compared with losses of $62.0 million and $53.4 million, respectively, in fourth-quarter FY2011.
Material changes and management commentary
- Sales increased modestly, but growth in consumer demand and Global Consumer sales fell short of management’s expectations.
- Management had initially expected operating income to remain relatively flat. It cited lower gross margins and higher SG&A, including increased advertising, as principal pressures.
- Advertising expense rose 20.0% to $168.9 million, or 6.0% of sales, to support brand marketing and product launches. New initiatives included the national launch of the Scotts Snap fertilizer-and-spreader system and an Ortho battery-operated applicator.
- Management planned pricing increases, product cost optimization and SG&A productivity measures to support a significant operating-earnings recovery without relying on unit-volume growth. The filing provides no specific numeric FY2013 earnings or sales guidance.
- The quarterly dividend increased to $0.325 per share in September 2012. The board’s share-repurchase authorization totaled $700 million through September 30, 2014; FY2012 repurchases were $17.5 million.
Risks, contingencies and unusual items
- Regulatory settlements: The company resolved the U.S. EPA civil enforcement action with a $6.05 million penalty and a $2.0 million environmental project. A separate DOJ plea required a $4.0 million penalty and $0.5 million for five environmental programs. The company accrued the amounts payable under the agreements. The EPA civil agreement concluded the government’s civil investigation; the DOJ matter was resolved by sentencing in September 2012.
- Other litigation and environmental exposure: Four wild-bird-food class actions were consolidated; the company had not accrued a reserve because the case was at an early stage and potential impact could not be determined. Asbestos-related lawsuits also remain, with no estimated probable loss or reserve. Environmental compliance reserves were $4.9 million, mainly for remediation.
- Concentration and seasonality: Home Depot, Lowe’s and Walmart represented 32.2%, 18.4% and 14.7% of FY2012 sales, respectively. Weather can materially affect seasonal demand and shipment timing.
- Costs and regulation: Fertilizer inputs, packaging, fuel and other commodities can fluctuate; the company uses hedges, which can also increase costs when market prices fall. Pesticide registration, environmental requirements and restrictions on products or ingredients present continuing risks.
- Debt and liquidity: The company reported compliance with its debt covenants at year-end and expected to remain in compliance during FY2013, but noted that unexpected charges, increased debt or weaker results could affect covenant capacity. Dividend and other restricted payments are subject to credit-agreement limits when leverage exceeds specified levels.
- Other exposures: The company relies on Monsanto’s Roundup marketing agreement for earnings and cost absorption; termination could be materially adverse. A $5.3 million impairment charge related to commercialization issues involving MAT 28 was recorded in FY2012.
Important facts for investors to verify
- Whether pricing, cost optimization and SG&A actions restore margins and operating earnings, given management’s stated shortfall in expected demand.
- Whether material, freight and product-mix pressures persist, and how much of the FY2012 cash-flow increase reflects sustainable continuing operations.
- Customer concentration, seasonal demand and weather effects on sales, receivables and working capital.
- Debt covenant headroom, the leverage ratio, availability under the credit facility, and restrictions affecting dividends or repurchases.
- Developments in the bird-food class action, asbestos litigation and environmental remediation, including any change in the ability to estimate or reserve potential losses.
- Performance and terms of the Monsanto Roundup agreement, and the commercial prospects for new product launches.