Get Ready for Summer: Add Scotts Miracle-Gro to your Portfolio
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You don't have to love the smell of fresh-cut grass to love shares of The Scotts Miracle-Gro Company (NYSE: SMG). However, if you are proud of your green thumb, you probably use their products - and may swear by them. In talking with lawn and garden enthusiasts for this article, I came to realize that Scotts has a loyal customer base that believes in their premium quality merchandise.
Scotts develops, manufactures, and sells premium lawn care and garden products in North America and Europe, and was established in 1995 through the merger of The Scotts Company and Stern's Miracle-Gro Products. The company's products are marketed under recognizable names such as Scotts Turf Builder, Miracle-Gro, Osmocote, and Ortho, and it's the sole marketer of Roundup products in the U.S. and some other countries for Monsanto (NYSE: MON). That marketing agreement with Monsanto generated $57.1 million in commission in 2011. In addition, Scotts LawnService is the second largest lawn service operation in the U.S. behind TruGreen, and accounted for about 8.5% of sales in 2011.
All hasn't been rosy for Scotts. The company struggled as consumers retrenched during the 2008-2009 financial crisis and was hurt by a poor growing season in 2011. Consumer sales decreased 5.4% in 2011 due to poor weather. The company has shifted to a consumer-focused business model over the last year as consumer spending rebounds. In early 2011, Scotts sold its Global Professional business for $270 million. Scotts also streamlined its operations cutting layers of management, increasing research and development, and increasing marketing spend.
Scotts is again beefing up its marketing and advertising in 2012 as well as launching new products. The Snap spreader along with the pre-filled seed and fertilizer bags are new this year and, according to the company, are selling well. The Snap bags have higher margins than traditional bagged seed and fertilizer products. The company has placed the Snap products prominently in home and garden centers to increase sales.
Although analysts and investors were disappointed when Scotts released Q2 numbers, it was an issue of expectations being too high rather than sales being slow. Analysts had hoped that Scotts would handily beat estimates since the warmer weather in the first three months of the year had pushed consumers to spend early. Consumers did begin spending early, but the company noted that sales had slowed in April due to cooler temperatures and rain. The company also noted that sales appeared to strengthen again at the beginning of May. That wasn't enough for investors as they sent the stock down 16% after the release. This appears to be a buying opportunity as the stock now faces more reasonable expectations.
The stock now trades at less than one times annual sales and 13.42 times next year's projected earnings. The stock is closer to its 52-week low than it is its high. Scotts' dividend yield is approaching 3%. Despite its high long-term debt load the company's balance sheet is in good shape and it should be able to easily service its debt payments.
In addition to paying a dividend, the Board of Directors has authorized a stock repurchase program of up to $700 million through Sept. 30, 2014. In fiscal 2011, Scotts repurchased approximately 6.9 million shares for a total of $358.7 million. In total Scotts has repurchased 7.4 million shares under the program.
Scotts is doing the right things to improve their business. Stock analysts don't particularly like when a company is spending more on research and advertising. However, investors should like that Scotts is doing what it needs to do to increase its customer base. Scotts customers are very "sticky" so increasing the base develops more long-term loyalists. Prominent advertising and new products should propel results in the future even if it has hurt the stock in the short run. Another boon to the stock could be a recovery in housing. The housing market will recover one day and Scotts will benefit as new homeowners work on their lawns.
There are some risks worth watching. If Europe has a considerable slow-down this could affect Scotts' European sales, although foreign income before taxes was less than 9% of Scotts' total income before taxes in 2011. The 2012 growing season appears to be off to a good start. However, as with any year, Scotts will be dependent on decent weather. If the weather turns nasty this summer, sales would surely suffer.
In my mind the biggest risk to the stock is the marketing agreement with Monsanto. It appears that the two companies are very happy working together. However, Scotts doesn't have a definitive time-frame for the agreement in the U.S. and Monsanto could decide it's better to market its own products. The agreement is significant to Scotts' income especially because expenses are much lower when marketing another company's products. If Monsanto were to ever end the agreement, I would reconsider my position in the stock.
Scotts is making the investments needed to improve its business going forward. The company's focus on the consumer is allowing it to develop new higher margin products and build an even bigger loyal customer base. The recent sell-off in the stock appears to be an opportunity for investors that are, like Scotts, focused on the long-term. With a dividend yield above the market average, Scotts may just be Miracle-Gro for the portfolio.
fjconstantino owns shares of The Scotts Miracle-Gro Company. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend The Scotts Miracle-Gro Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.
