Last week, The Scotts Miracle-Gro Company (NYSE: SMG) released third quarter financial results and reported strong growth from its Hawthorne business. During the period, the entire company recorded an 8% increase in sales growth and benefited from Hawthorne recording a 48% increase in sales.
We believe the earnings report sheds a favorable light on the ancillary cannabis vertical and are favorable on the growth that Scotts reported from Hawthorne. 2021 has been a roller coaster ride for Scotts’ stock price and the shares have fallen more than 30% from its April highs. During the last quarter, several Wall Street broker-dealers have lowered their price target on Scotts and we will monitor this trend following the earnings report.
The Scotts Miracle-Gro Company is the world’s leading marketer of branded consumer lawn and garden as well as indoor and hydroponic growing products. Several Wall Street firms cover the company and broker-dealers considered the business to be one of the best ways to be levered to the growth of the cannabis market.
Hawthorne Continues to be Scotts’ Primary Growth Driver
During the quarter, Scotts reported to have generated $1.61 billion of revenue. When analyzing the performance of its US Consumer segment and its Hawthorne segment, sales declined 4% (to $1.05 billion from $1.09 billion) and increased by 48% (to $421.9 million from $285.7 million), respectively. From an income standpoint, the US Consumer segment recorded a double-digit percentage decline and generated $264.4 of income (down 16%), while the Hawthorne segment recorded double-digit percentage gain and generated $51.9 million of income (a 37% increase).
An important item to highlight from the quarterly earnings report is related to the timing of it. Due to Scotts’ fiscal calendar, the third quarter of 2021 began six days later than the third quarter of 2020. Those six days were during the peak lawn and garden selling season which impacted sales for the quarter by approximately $115 million on a company-wide basis.
Hawthorne was a bright spot of Scotts earning report and the division recorded growth in every product category and across every major geographic market. During the quarter, the North America lighting market continued to be a key growth driver for the entire company and the category recorded a 77% increase in revenue. Two other attractive growth categories were nutrient sales (revenue increased by 54%) and growing media (revenue increased by 33%).
Another important trend from the quarter is related to how Scotts’ brands (i.e. Gavita, General Hydroponics, Mother Earth, and Botanicare) significantly outperformed the brands that it distributes in each of their respective categories and we are bullish on this. We believe the outperformance by the brands that Scotts’ owns is a key theme for our readers to be aware of and will monitor how they continue to perform.
Growing Through Strategic Acquisitions
In an effort to grow the Hawthorne business, Scotts reported to have acquired HydroLogic Purification Systems. The transaction is expected to be immediately accretive to Scotts and is forecasted to add approx. $20 million in annualized sales. The California based company is considered to be a leading provider of products, accessories, and systems for water filtration and purification in the cannabis industry.
HydroLogic will expand Hawthorne’s brand portfolio to include water filtration and purification products. One of the reasons for our favorable view on the transaction is related to the type of clients that work with HydroLogic. According to the press release, commercial growers make up approximately half of HydroLogic’s sales and these clients typically require custom builds for their water purification and filtration needs.
Under the terms of the transaction, Hawthorne will acquire the business assets and operations of HydroLogic for $65 million. Going forward, Hawthorne intends to retain the Santa Cruz facility (which includes distribution and assembly) and we will monitor how the companies are able to integrate.
When compared to previous acquisitions by Scotts, the HydroLogic transaction is on the smaller side. We consider the acquisition to be strategic as it will significant strengthen Scotts’ portfolio of signature brands as well as its relationships with commercial growers. Going forward, Scotts plans to continue to make acquisitions for both its Hawthorne and US Consumer business units.
Scotts’ management team announced that it plans to announce additional acquisitions in the near future. We are favorable on the company’s plans to grow through strategic acquisitions and through organic growth opportunities. We continue to view Hawthorne as the most attractive division of Scotts’ and will monitor how the management team is able to continue to growth the business.
Companies that Could be Acquisition Targets
Following the acquisition of HydroLogic and the management team’s commentary about future acquisitions, we want to highlight operators that could be considered acquisition targets. We believe the ancillary cannabis market is an attractive vertical of the industry and expect to see more acquisitions reported before the end of the calendar year.
Although GrowGeneration Corporation (Nasdaq: GRWG) seems to be a potential acquisition target, we believe the current valuation is too high for Scotts. At current levels, GrowGeneration is valued at almost $2.5 billion and Scotts is valued at less than $10 billion (by market capitalization). Based on the amount of revenue that is being generated by each company, we believe that GrowGeneration is receiving a larger premium from the market and expect this to negatively impact the chances of a merger or acquisition.
A few weeks ago, Surna, Inc. (OTC: SRNA) released preliminary quarterly financial results that showed impressive growth on a variety of key operational metrics. With a valuation that is below $20 million (by market capitalization), we find Surna to be a more attractive acquisition target for a business like Scotts.
In the preliminary earnings report, Surna reported strong revenue growth and we believe the market is discounting the growth prospects that are associated with the business. So far this year, Surna has increased the types of products and services that it provides to clients and are favorable on how the management team has been advancing the business.
When making acquisitions, there are a lot of factors that need to be analyzed by the acquirer. From the amount of cash on hand to the amount of backlog, we believe that Surna possesses the traits that make the business an acquisition target for larger operators like Scotts or GrowGeneration.
During the last quarter, Surna has been nothing short of an execution story and we are favorable on the recent addition of a highly qualified Chief Financial Officer (CFO) to the management team. We believe that Surna has a compelling valuation when compared to Scotts or GrowGeneration and is an opportunity to be aware of.
If you are interested in learning more about Surna or other ancillary cannabis companies, please send an email to firstname.lastname@example.org with the subject “Surna and Ancillary Cannabis Companies” to be added to our distribution list.
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