1. Is the company undervalued?
EV/EBIT: 13.17
Price/Sales: 1.67
Price/Book: 7.36
Scotts is a high-quality business, which is trading at a meaningful discount to the market. Moreover the company is shareholder friendly and has grown rapidly in the past few years. With that said, revenues are expected to decline in 2022. Be that as it may, $SMG can still delivery outsized returns even if they fall short of 2021 performance.
2. Can I easily explain what the company does?
Yes, they sell fertilizer and other lawn care products.
3. Does the cash flow statement line up with income statement?
No, cashflows haven’t even been close. This is a usually a big red flag, but seems to be explained by how they account for inventories.
Most of their excess cashflow went towards dividends paid out, acquisition costs, and capital expenditures. The only question mark here is the purchase of HydroLogic, but I ain’t mad at it as there appears to be synergies at face value.
4. Is the Balance Sheet Healthy?
Total Debt: $2.42B
Total Cash: $58.3M
Current Ratio: 2.15
$SMG holds a sizeable amount of debt relative to their market cap and they have next to no cash on hand. Notwithstanding, Scotts throws off significant free cash flow and annual net interest payments aren’t egregious. All and all I would give $SMG a slightly above average balance sheet grade.
5. How profitable is the business?
Gross Margins: 30.7%
Net Margins: 11.11%
ROIC: 20.59%
10-yr Revenue CAGR: 3.6%
These numbers are by no means spectacular, but they get the job done. Furthermore the revenue growth is most likely understated, as their topline declined from 2011-2015. Conversely revenues have grown by 9.7% annually from 2015-2020. $SMG is objectively a slightly above average business, which is growing at an average pace.
6. Is management rewarding shareholders?
Scott’s currently offers investors a 1.78% dividend and have historically returned ~80% of free cashflow back to investors. For example they awarded a breathtaking $5.68 special dividend in September of 2020! Additionally there’s a $750M share repurchase plan in place thru 2023. The only issue here is that free cashflow has been quite choppy over the years. If we use 2020 as a proxy and assume 80% paid out to shareholders, that would imply a 4.8% yield at current levels. This of course is outstanding, but will be much lower if $SMG keeps acquiring outside companies.
7. How does the company stack up against their peers?
Scott’s biggest competitor is Central Garden & Pet Company $CENT:
$CENT Price/Sales: 0.83
EV/EBIT: 12.89
Net Margins: 5.19
$CENT is marginally cheaper than $SMG, but Scotts is a much better business. For example, Scotts’ net margins have been roughly 2X higher compared to $CENT over the last decade. Furthermore they’re about the same in regards to balance sheet health and revenue growth. However Scotts is returning more capital back to shareholders and for these reasons I believe $SMG is the better risk adjusted bet.
8. What’s the counter argument?
The counter argument is that $SMG is nearing the top of their business cycle and revenues will start to decline from here. Moreover inflationary headwinds will have an adverse effect on profitability and margins will begin to erode.
The margin compression argument I’m quite dismissive of, as $SMG is a solid brand and consumers are now anticipating price hikes on everything. The cyclical argument I do find to be more compelling, as it’s unusual for a fertilizer company to grow double digits for 3 years in a row. On the surface I feel like Scotts’ revenues are due for some mean reversion, but analysts are only forecasting a 3% revenue decline in 2022. If this pans out, I would consider it a win for $SMG longs.
9. Is the company unsexy, uncool, or contrarian?
Scotts has 8 analysts covering the stock with; 2 sells, 5 holds, and 1 outperform rating out. For this reason $SMG should be considered contrarian. Additionally Scotts is without question unsexy and uncool, as Dads bragging about their lawns is literally the most uninteresting conversation on earth.
10. Is there something I think the market may be missing?
Mr. Market is certainly pricing in some future pessimism based on today’s share price. However $SMG did recently acquire another business and demand has remained strong. If Scotts can grow revenues even modestly in 2022, then the company is trading at a bargain.
Final Thoughts:
$SMG is an interesting investment idea, but one that I’m not comfortable forecasting out. The range of possible outcomes is pretty wide regarding revenue growth. Intuitively I feel like 5% growth after 2022 would be fair, but I have little conviction in that estimate. Furthermore the company isn’t ridiculously cheap, they have historically traded in the 17-19 EV/EBIT multiple range. This leaves a ~ 30% margin of safety, which is good but not slap you in the face good. Having said that it’s a company I’ll watch, as it offers a low risk profile and could get cheaper as they face tougher comps.
***Disclosure: I have no position in the security mentioned above, nor do I have any plans to purchase within the next 72 hours. This article is intended for educational purposes only and in no way should be interpreted as investment advice
The Scotts Miracle-Gro Company $SMG
No mention of hawthorne I’m this report 😂….as a cannabis grower, I’m telling you that 90% of products sold in stores are strongarmed into the Hawthorne supply chain. If you want your
Products in grow stores, you have to go through hawthorne or prepared to be blackballed from the industry. Few companies have overcame this and sell direct.