The Scotts Miracle-Gro Company (SMG, Financial), probably the most well-known name in the consumer lawn and gardening space, reported earnings results earlier this month that topped Wall Street analysts’ estimates as consumer demand for products remains high. This continues a theme of the company producing excellent results, with revenue and earnings per share often growing by high double-digits.
And yet, shares of Scotts Miracle-Gro are down by more than 36% over the last six months. While current shareholders might be disappointed with this return, this decline has kept shares from becoming expensive.
In fact, the stock trades well below its historical valuation and its intrinsic value according to GuruFocus. For those looking for a truly undervalued name with the potential for a solid total return, Scotts Miracle-Gro might be a good investment; let’s look at why.
A rundown of earnings highlights
Scotts Miracle-Gro reported the results for its third quarter of fiscal 2021 on Aug. 4 (the company’s fiscal year ends Sept. 30). Revenue grew 7.8% to $1.61 billion, topping estimates by $111 million. Adjusted earnings per share of $3.98 was an 18 cent (or 4.5%) increase from the prior-year quarter and 46 cents ahead of expectations.
The U.S. Consumer business, which contains lawn and gardening products and is responsible for approximately two thirds of revenues, fell 4% to $1.05 billion. However, much of this decline was attributed to a late start to the quarter that happened to fall during the peak lawn and garden selling season. Scotts Miracle-Gro estimates that this shifted approximately $115 million in revenue from the third quarter to the fourth quarter. That said, consumer point-of-sale units were higher by 5%, showing that demand remains robust for this segment.
The Hawthorne segment, which contains indoor gardening products, lighting equipment and hydroponics, grew 48% to $421.9 million. This business saw gains in every area. Lighting in North America improved nearly 80% year-over-year while Nutrient improved 54%.
Scotts Miracle-Gro’s gross margin declined 460 basis points to 30.7% due to higher commodity and transportation costs and a weaker segment mix.
The company has really outdone itself so far in the fiscal year, with sales having increased 29% on the back of a 19% improvement for the U.S. Consumer business and a 60% gain in Hawthorne.
Scotts Miracle-Gro reaffirmed its guidance for the fiscal year. Revenue is still expected to grow 17% to 19% for the year, which comes on the heels of a 31% increase in fiscal year 2020. U.S. Consumer is projected to grow 7% to 9% with Hawthorne expected to grow 40% to 45%. Adjusted earnings per share was once again guided towards a range of $9.00 to $9.30, which would be a 31.5% increase from the prior fiscal year at the midpoint and a new record for the company.
Takeaways and valuation analysis
Scotts Miracle-Gro’s primary advantage against the competition is its leadership position as one of the premier names in the consumer lawn and garden space. With name brands such as Scotts, Turf Builder, Miracle-Gro, Roundup and Ortho, Scotts Miracle-Gro has many products used and trusted by consumers.
The U.S. Consumer business was down slightly from the same period last year, but this was primarily due to the timing of the quarter. Point-of-sales was higher for the quarter and year-to-date is up in the high teens. The Hawthorne segment is a lower margin business, but the growth rates remain very high.
Some of the growth is surely from consumers spending much more time at home since the start of the pandemic. Without travel, eating out or theater tickets to spend money on, many took to improving their homes, which, of course, includes lawn and garden maintenance. Consumers also had the benefit of several direct stimulus payments, and as we all know, more money flowing to lower-income households means more money that circulates through the economy, helping businesses report higher earnings.
It should be noted that Scotts Miracle-Gro’s forecast for the remainder of the year shows that the company expects to close out its fiscal year with strong growth even after last year’s excellent results. Company management’s guidance for the fiscal year is fairly bullish. Even so, shares look to be trading below fair value.
Using Thursday’s closing price of $154.16 and the midpoint of the company’s guidance, Scotts Miracle-Gro trades with a forward price-earnings ratio of 16.8. The stock’s valuation has been very inconsistent over the last decade, with the average annual price-earnings ratio fluctuating from 11 to 40. The average price-earnings ratio is just over 23 for the past decade.
Erring on the side of caution, I believe a conservative price-earnings ratio range of 17 to 20 is reasonable given the company’s leadership position in its industry and elevated consumer demand. Shares could be as much as 19% undervalued using this target range.
Looking at the GuruFocus Value chart also shows that the stock is undervalued:
Scotts Miracle-Gro has a GF Value of $171.14, meaning shares trade with a price-to-GF-Value ratio of 0.90. Reaching its GF Value would result in a return of 11% from current levels.
Adding to this potential total return would be the company’s dividend, which Scotts Miracle-Gro has raised for 12 consecutive years. The dividend has increased with a compound annual growth rate of 8.4% over the last 10 years. Shares currently yield 1.7%.
Final thoughts
Scotts Miracle-Gro has not enjoyed the success of the broad market recently, but that appears to be more the case of a broken stock then a broken company. Led by its leadership position in its industry, strong brand and solid results against difficult comparable numbers, Scotts Miracle-Gro appears poised to deliver at least double-digit returns and possibly more if it trades closer to its longer-term average valuation. For these reasons, I view Scotts Miracle-Gro as a buy today.
