Central Garden & Pet Co (CENT) 2010 Q3 法說會逐字稿

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  • Operator

  • Good afternoon, ladies and gentlemen, and welcome to Central Garden & Pet's fiscal third-quarter 2010 earnings conference call.

  • At this time, all participants are in a listen-only mode.

  • Later, we will conduct a question-and-answer session, and instructions will follow at that time.

  • (Operator Instructions).

  • As a reminder, ladies and gentlemen, this conference is being recorded.

  • I would now like to introduce Stuart Booth, Chief Financial Officer for Central Garden & Pet.

  • Please go ahead, sir.

  • Stuart Booth - CFO

  • Thank you operator.

  • Good afternoon everyone.

  • Thank you for joining us.

  • With me on the call today is Bill Brown, Central's Chairman and Chief Executive Officer.

  • Before I turn the call over to Bill, I would like to remind you of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

  • The statements made during this conference call which are not historical facts, including expected margin and capital efficiency improvements, are forward-looking statements.

  • Central undertakes no obligation to publicly update forward-looking statements to reflect new information, subsequent events or otherwise.

  • These statements are subject to risks and uncertainties that could cause actual results to differ materially from those set forth in or implied by forward-looking statements.

  • These risks are described in the Company's Form 10-K for fiscal year ended September 26, 2009 and in other Securities and Exchange Commission filings.

  • With that, let me turn it over to Bill for his remarks.

  • Bill Brown - Chairman, CEO

  • Thank you for joining us this afternoon.

  • For the third quarter, our income statement reflected solid performance in the Pet segment and softer results in the Garden segment.

  • Our balance sheet continued to improve with further reductions in working capital and the completion of a new revolving credit facility.

  • Third-quarter sales declined 3% and operating income increased 2%.

  • Pet segment sales were up 4% and operating -- income from operations was up 9% for the quarter compared to a year ago.

  • We saw solid sales increases in our Animal Health and Companion Animal categories, as well as continued stabilization of the more discretionary categories such as Aquatics.

  • Garden segment sales were down 9% and income from operations was down 15%.

  • The Garden sales declines were driven largely by our wild bird feed and our grass seed categories, where the consumer takeaways were soft the season.

  • We also lowered prices to our customers as a result of lower commodity prices, and we elected to eliminate certain SKUs and customers in connection with our profitability and capital efficiency programs.

  • Stu will give you more details on that in a few minutes.

  • Earlier this year, we embarked on a program to refinance our existing debt.

  • In March, we closed a new eight-year $400 million senior subordinated notes facility.

  • In June, we closed a new five-year, $275 million senior secured revolving credit facility.

  • This completes our debt recapitalization program.

  • The revolver remains undrawn and will be a primary source of capital to finance our organic and acquisition-related growth initiatives.

  • In July, our Board of Directors authorized a new $100 million share repurchase program.

  • Since 2006, under the prior $100 million repurchase program, we repurchased 6 million shares of common stock and 4.9 million shares of Class A common stock.

  • The price for this was $99.7 million.

  • The new repurchase -- the new share repurchase program does not have a specific time limit, and we intend to repurchase shares from time to time.

  • Over the last two years, I have focused our energy on improving our financial condition through working capital improvement, gross margin improvement, and expense control.

  • We have accomplished a lot, and believe we have the opportunity to make further improvements in these areas.

  • As I mentioned on an earlier call, my primary emphasis going forward and that of our entire team will be profitable growth.

  • We are tackling this initiative with the same energy that we applied to our recent financial initiatives.

  • While we consider 2010 to be a transition year, we are excited about the new products and programs that are in store for 2011 and beyond.

  • In 2011, we expect that you will see products, new products, that make a difference for consumers in our major categories.

  • With that, I will turn it over to Stu to recap the financial highlights for the quarter, and then we will take your questions.

  • Stu?

  • Stuart Booth - CFO

  • Thank you, Bill.

  • Recapping the quarter's performance, net sales for the third quarter of fiscal 2010 were $465 million compared to sales of $482 million a year ago, a decline of 3%.

  • Branded product sales were $382 million, a decline of 6%, driven by lower Garden segment branded sales.

  • Sales of other manufacturers' products were $83 million, an increase of 10%, driven by increased sales in both segments.

  • Garden segment sales decreased approximately $24 million, or 9%, to $243 million compared to the third quarter of 2009.

  • Of that, Garden branded product sales decreased approximately $30 million, or 13%, to $201 million.

  • Sales of other manufacturers' products were $42 million, an increase of $5 million, or 15%.

  • The decline in Garden sales was due primarily to a $12.4 million decrease in grass seed and an $8.7 million decrease in bird feed.

  • The decrease in grass seed sales and in bird seed sales was due primarily to volume reductions and secondarily to price reductions as a result of lower commodity cost.

  • Lower Garden segment unit sales are attributable to lower consumer demand at our major retail customers and, to a lesser degree, our decision to eliminate certain SKUs in customers in connection with our profitability and capital efficiency programs.

  • Price reductions primarily in grass seed and wild bird feed accounted for approximately one-third of the decline in Garden product sales.

  • Pet segment sales were $223 million, an increase of $8 million, or 3.6%.

  • Of that, pet branded sales increased $6 million, or 3%, to $182 million.

  • Sales of other manufacturers' products increased $2 million, or 5.5%, to $41 million.

  • The increase in Pet segment sales was due primarily to additional sales in our Animal Health and Companion Animal categories.

  • The increase in sales of our Animal Health products was partially offset by a $2.2 million decrease in sales due to a supply issue in a product line now expected to continue at a reduced level through year-end, and sales in the prior-year quarter from a marketing license no longer held by us.

  • The Company's gross profit for the third quarter was $163 million.

  • This is a decrease of $2 million compared to a year ago, but represents an increase of 80 basis points to 35% as a percentage of sales.

  • Looking at the segments individually, our focus on margins resulted in a 90 basis point improvement in Pet products and a 30 basis point improvement in Garden products.

  • Selling, general and administrative expenses for the third quarter were approximately $110 million compared to $113 million a year ago, a decline of $3 million.

  • The improvement was due primarily to decreased warehouse and administrative expenses.

  • As a percentage of net sales, SG&A increased to 23.7% for the third quarter of 2010 compared to 23.5% in the same quarter last year, due primarily to the decrease in net sales.

  • Operating income for the quarter was a record $52.6 million compared to $51.6 million a year ago, an increase of 2%.

  • Operating margin in the quarter was 11.3% versus 10.7% in the same period last year.

  • This also represents an all-time high for Q3.

  • Garden segment operating income was $30.1 million compared to $35.3 million in the year-ago period, decrease of 15%.

  • Pet segment operating income was $32.6 million compared to $29.8 million in the prior-year period, an increase of 9%.

  • Net interest expense for the quarter was $9.8 million compared to $5.2 million in the year-ago period.

  • Interest expense for the third quarter of 2010 consists largely of expenses related to our $400 million senior subordinated notes issued in the second quarter.

  • Interest expense also increased by $650,000 due to the expensing of unamortized fees related to the extinguishment of our maturing revolving credit facility.

  • Our borrowing rate for the quarter was approximately 8.4%, compared to 4.1% a year ago, reflecting the meaningful difference in mix of subordinated debt and senior debt.

  • Our effective tax rate was 37% for the quarter, compared to 32.3% a year ago, which included $1.7 million of research and development tax credits.

  • Net income for the quarter was $25.9 million, or $0.40 per fully diluted share.

  • This compares to net income of $31.1 million or $0.44 per fully diluted share in the same period last year.

  • Capital expenditures for the quarter totaled $6.2 million, compared $3.3 million last year.

  • Turning to the balance sheet, comparing June 26, 2010 balances to June 27, 2009 balances, Accounts Receivable were $224 million, a decrease of approximately $39 million, or 15%, compared to last year.

  • Inventories were $306 million, a decrease of approximately $8 million or 2% compared to last year.

  • Accounts Payable were $120 million, an increase of $3 million, or 2%, compared to last year.

  • As of June 26, 2010, total debt stood at $400 million compared to $409 million last year.

  • Cash and equivalents were $92 million compared to $25 million in the year-ago period.

  • Our current debt-to-EBITDA ratio, as defined by our credit agreement, is approximately 2.5 times compared to 2.7 times a year ago.

  • Finally, during the quarter, we repurchased approximately 1.1 million shares of our common stock at an average price of $9.42, which completed our share repurchase program started in 2006.

  • As Bill mentioned, we now have a new $100 million share repurchase program in place, and we expect to continue to repurchase shares in the open market from time to time.

  • With that, I will now turn a call back to Bill.

  • Bill Brown - Chairman, CEO

  • Thank you Stu.

  • The quarter produced good results in many, but not all, of the areas of the Company.

  • The garden season was shaping up exceptionally well in April where we experienced record sales, but the season lost momentum in May and June.

  • The Pet segment produced solid results throughout the quarter.

  • Also on the positive side, we're very excited about the growth opportunities that we are working on.

  • We completed our debt recapitalization, resulting in a very strong balance sheet which we intend to put to good use in support of our growth plans.

  • We are continuing to control cost, manage working capital, and drive gross profit margin expansion.

  • We are optimistic that there are more improvements to come.

  • With that, we'll now take your questions.

  • Operator, we'd like to open up the call to Q&A.

  • Operator

  • (Operator Instructions).

  • Bill Chappell, SunTrust.

  • Bill Chappell - Analyst

  • Good afternoon.

  • I guess first, just trying to understand the tech business, both on the grass seed and the birdseed drop in volume.

  • Is this all seasonal in terms of weather trends?

  • Was there a shift to other retailers versus your main retailer or to branded versus private-label?

  • Can you give us a little more color on what happened there?

  • Bill Brown - Chairman, CEO

  • On the birdseed, we're seeing softness amongst all the retailers as an issue of consumer takeaway, which is part of the issue that's volume-related.

  • The second one is, because commodity prices came down and we've reduced prices, there's also less sales dollars for the same number of units.

  • On the grass seed, Stu, would you speak to that a bit?

  • Stuart Booth - CFO

  • Sure.

  • We do see some consumer softness in grass seed as an entire category, but our grass seed sales are down $12 million.

  • It's really a mix of three things.

  • It's just a little bit softer consumer takeaway, and we feel we are doing -- it's pretty much even keel in terms of our major project products with our major customers where we are seeing some additional sales decline and stuff that we've actually walked away from, lower margin commodity type grass seed.

  • That's a pretty good contributor to our volume reduction.

  • Then about a third of our grass seed sales is related to price reduction.

  • So it's really a mixture of those three things.

  • If you can take that and extrapolate it to the entire Garden segment, it almost tracks about that way as well.

  • Bill Chappell - Analyst

  • If I'm looking at weather trends, I was under the impression that grass seed was more of an early-season, more March/April type sales.

  • So if you had decent weather trends and consumer trends there, I'm surprised that May or June could have that much of an impact.

  • Bill Brown - Chairman, CEO

  • Well, I think it has to do more with what we're comping to and not so much about --

  • Stuart Booth - CFO

  • It's not as much (multiple speakers)

  • Bill Brown - Chairman, CEO

  • -- this year as it is last year, because we moved some grass seed in our sales last year that didn't go to consumers that were quantities in the sales volumes as well as well, as Stu mentioned, we walked away from some commodity grass seed that wasn't contributing.

  • Bill Chappell - Analyst

  • Just I know we tried this last quarter but I'll try it one more time.

  • In terms of growing the business going into next year, and I understand you're going to use the same discipline on cost cutting that you're going to use to try to grow the business.

  • But can you give us anything in terms of number of new products, or should we expect the SG&A line to ramp up as you spend more on advertising?

  • How do you go about it in a business that now has -- I think we are going on eight quarters of year-to-year decline?

  • Bill Brown - Chairman, CEO

  • We go out and we sell more, and we sell more of existing product through promotions and advertising, and expanding it with existing customers, and we sell more by bringing new products to the marketplace that are strongly promoted.

  • If we do this successfully, the ratios of SG&A and other expenses to the overall sales volume will either stay the same or improve.

  • That would be our vision.

  • Bill Chappell - Analyst

  • Just the last one, trying to again understand the growth, I assume you're going to continue the SKU reduction through next year.

  • Do you think these businesses can actually post growth despite that, or is that going to be more of an uphill battle?

  • Bill Brown - Chairman, CEO

  • Our intent would be to find some ways to -- and we are working on initiatives to post growth that would more than offset our SKU reduction.

  • All these things -- and I'm being more open than on the last call because you guys were pretty damn frustrated with it -- but in all of these things, the proof is in the pudding, and you have to see how it all comes out.

  • We are a good seven or eight months away, so lots of things yet to resolve.

  • Bill Chappell - Analyst

  • I'll turn it over.

  • Thanks.

  • Operator

  • Joe Altobello, Oppenheimer.

  • Joe Altobello - Analyst

  • Good afternoon.

  • First question, I want to go back to the birdseed side of things.

  • Can you talk about distribution where it stands today, particularly at your two biggest retailers?

  • Bill Brown - Chairman, CEO

  • I'm not sure I understand what you mean, Joe, by distribution.

  • Joe Altobello - Analyst

  • Well, I think some of your competitors, or at least one of your major competitors, has tried to make a big push into some of those retailers.

  • Have you seen that have an impact on your shelf space allocation?

  • Bill Brown - Chairman, CEO

  • I would say it has not.

  • We are quite comfortable with where we are, and we need to keep moving forward.

  • Joe Altobello - Analyst

  • Got it.

  • Secondly, it seems like the weather, at least in some parts of the country, has been a little bit wetter than normal later in the quarter and into July.

  • It sounds like that would probably be pretty good for some of your chemicals businesses.

  • Could you give us an update on how AMDRO is doing in Over 'N Out for example?

  • Stuart Booth - CFO

  • Those products are doing exceptionally well.

  • In our garden chemical controls area, it's flat to up versus last year on our major products.

  • Offsetting that is some of the rebalancing that's going on in some of the private-label businesses we are doing where our customers are actually reducing the number of SKUs.

  • So we're working with them on basically rightsizing their offerings on the private-label side.

  • That's actually helped us a little bit on some of our on branded products.

  • But by and large, it's working pretty well.

  • Our two major fire ant products this year are doing extremely well, Over 'N Out and AMDRO.

  • So we are very pleased with that, even though it's considered a pretty soft year for fire ants across the board.

  • So that's -- we are pleased with that part of the business.

  • Joe Altobello - Analyst

  • Last one, on the acquisition side, some of you guys have completed a refi on the debt, and you've got a lot of capital access right now.

  • I think, Bill, on the last call, you alluded to doing some acquisitions.

  • Have you rethought that, or are things heating up?

  • What are you looking at particularly?

  • Bill Brown - Chairman, CEO

  • The theme is the same.

  • If you look at it big picture, first and foremost, number one is organic growth.

  • Number two is acquisitions.

  • We are active in the market.

  • We have many, many discussions, and we have nothing to announce today.

  • Joe Altobello - Analyst

  • Okay, perfect.

  • Thank you.

  • Operator

  • Reza Vahabzadeh, Barclays Capital.

  • Reza Vahabzadeh - Analyst

  • Good afternoon.

  • You mentioned the Animal Health business did well.

  • Any particular drivers for that?

  • Stuart Booth - CFO

  • Well, we had some pretty solid sales in our flea and tick control products, as well as into the professional channel.

  • The professional channel is mosquito control and all the economic animal category that generally was pretty soft last year, and we're seeing some rebound in that.

  • Bill Brown - Chairman, CEO

  • That's very good to see.

  • Reza Vahabzadeh - Analyst

  • How would you describe your aquatic business and the equine business?

  • Stuart Booth - CFO

  • Both stable.

  • As we reported last quarter and this quarter, our aquatics business is stable.

  • We haven't called out but we've seen the basically sales flatten out, so hopefully, knock on wood, we found the bottom on that.

  • On the equine business, it's pretty much flat (inaudible) --

  • Bill Brown - Chairman, CEO

  • It softened a lot last year, and it continues to move along there.

  • The key there for us is going to be energizing more new products and as people get back to feeling a little more prosperous.

  • Horses are expensive to take care of.

  • Stuart Booth - CFO

  • How many do you have, Bill?

  • Bill Brown - Chairman, CEO

  • Too many.

  • But it's a good business for us.

  • Reza Vahabzadeh - Analyst

  • Fair enough.

  • Going back to the birdseed business, has the category maintained its historical shelf space in total at the major channels, and have promotional levels remained at historical levels?

  • Bill Brown - Chairman, CEO

  • To the best of my knowledge, without -- the lawyers would say without due inquiry, yes and yes.

  • I am not aware of any particular falloff in shelf space or promotional levels.

  • What we are aware of is the consumer takeaway is not where it was.

  • When you think about that, it's not surprising in one sense because, if you go back three years ago, we had the explosion in grain prices largely associated with the corn and ethanol and all the grains moving very rapidly up, tremendous price change.

  • At some point, there's a consumer impact.

  • The prices are now coming back down, but that doesn't mean that you regain the marginal consumer of you regain the volume for the heavy users at the same level.

  • It's no different than the impact.

  • Actually, it is different than gasoline.

  • That's more you've got to do it.

  • This is much more discretionary.

  • Stuart Booth - CFO

  • So we had all the grain price impact from a couple years ago, and then we have the current economic environment where, quite frankly, bird feed for a lot of customers is a discretionary purchase, regardless of price.

  • Reza Vahabzadeh - Analyst

  • Fair enough.

  • Thank you.

  • Operator

  • Reade Kem, Bank of America.

  • Reade Kem - Analyst

  • Good afternoon, thanks.

  • I just was curious if we could follow up a little bit more on the gross margin.

  • I guess we weren't maybe looking for as much improvement year-over-year, given that it has been improving for a while.

  • If you could just maybe elaborate a little bit more on what was driving that?

  • Bill Brown - Chairman, CEO

  • Well, if you frame it in the largest sense, those SKUs that don't perform and pull margins down we've stepped away from.

  • It's one of the reasons that the top line is softer.

  • But as you take those low-margin SKUs out of the mix, your margin will go up.

  • We've also had some modest benefit from commodity prices flowing through.

  • Although a lot of that has been passed on to retailers and consumers, there's some gain there.

  • Any other mix things, Stu, that you think of?

  • Stuart Booth - CFO

  • I think you hit the big ones.

  • We already mentioned grass seed where we are down $12-plus million and a good chunk of that was commodity grass seed -- that business which we, in large measure, exited.

  • Bill Brown - Chairman, CEO

  • So we are improving our mix and, in certain cases, improving our margins on products in a planned, disciplined, structured way.

  • Reade Kem - Analyst

  • Okay.

  • I think -- I know you probably don't like to call out individual customers, but I think Target might have made an announcement about their Garden segment.

  • Is that likely to have much of an impact on you in the future?

  • Bill Brown - Chairman, CEO

  • I don't think of Target as being a particularly large customer for us on the Garden side.

  • I wouldn't think a move on their part would have any kind of a material impact.

  • Reade Kem - Analyst

  • Then is it -- I guess we'll get into that time when you start talking about line reviews for the '11 season.

  • Is it a little bit too early to ask you there?

  • Is there any kind of indication you can give (multiple speakers)?

  • Bill Brown - Chairman, CEO

  • We talked about line reviews?

  • It must be another call you're talking about.

  • I'm kind of joshing with you.

  • Stu, any comment you would want to make?

  • Stuart Booth - CFO

  • No, it's too early.

  • Bill Brown - Chairman, CEO

  • The guys are doing the work.

  • Stuart Booth - CFO

  • They are working.

  • Bill Brown - Chairman, CEO

  • The energy is going out there.

  • As I said in my broader comments, we have a focus and an enthusiastic process going on relative to 2011.

  • That's about as much detail as I can peel back for you.

  • Reade Kem - Analyst

  • Okay.

  • Just final one on the balance sheet, the AR reduction, I guess how much of that was due to some of the customer reductions?

  • Stuart Booth - CFO

  • Well, customer sales are down not quite as much as our AR is down, so we did some improvement there.

  • That is a chunk of it, though, but we are still making progress.

  • Working capital, June this year versus last year, has improved, not precisely but like $49 million.

  • Sales are down a fraction of that.

  • Reade Kem - Analyst

  • Thank you very much.

  • Operator

  • Alice Longley, Buckingham Research.

  • Alice Longley - Analyst

  • Good afternoon.

  • Can you be more specific about what percentage of sales were cut with these reductions of SKUs, permanent reductions?

  • Is that [23]% of sales or something like that?

  • Sort of permanent excising?

  • Bill Brown - Chairman, CEO

  • Stu and I are both looking at the board and doing some mental calculations.

  • Stuart Booth - CFO

  • It's kind of in the middle of what we said.

  • About a third was due to price reduction and about -- and the rest was volume.

  • So it's somewhere in the middle there.

  • Alice, if you were to look at the Garden segment this year, I'm just going to give you a round number, so take it at that.

  • About a third of the decline is eliminated SKUs, customers or programs with some of our major customers.

  • Bill Brown - Chairman, CEO

  • That's Garden segment.

  • Stuart Booth - CFO

  • That's Garden segment.

  • Alice Longley - Analyst

  • This is the Garden segment for the year?

  • Stuart Booth - CFO

  • No, that's for the quarter.

  • Alice Longley - Analyst

  • For the quarter.

  • A third of the sales decline were eliminated SKUs?

  • Stuart Booth - CFO

  • Yes, eliminated SKUs --

  • Alice Longley - Analyst

  • Or customers.

  • Stuart Booth - CFO

  • -- or customers.

  • Bill Brown - Chairman, CEO

  • Yes.

  • Alice Longley - Analyst

  • Is that a good assumption that would be true for the year too?

  • Bill Brown - Chairman, CEO

  • I haven't looked at it (multiple speakers)

  • Stuart Booth - CFO

  • We haven't -- we'll look at that at the end of the year and give you a number.

  • I think that's the best way to answer it for you.

  • Alice Longley - Analyst

  • So basically, if lawn and garden sales were down 9%, a third of that is price, or -- and a third of that is reduced SKUs?

  • What's the other third?

  • Bill Brown - Chairman, CEO

  • Volume.

  • Stuart Booth - CFO

  • Volume.

  • Alice Longley - Analyst

  • Reduced purchasing by the consumer (multiple speakers)

  • Stuart Booth - CFO

  • (multiple speakers) consumer takeaway.

  • Bill Brown - Chairman, CEO

  • Less takeaway like we talked about on the birdseed.

  • Alice Longley - Analyst

  • You are going to continue to cut SKUs next year, so I guess you don't know yet.

  • I understand you don't know yet what you're going to do.

  • But as the going-in assumption, if I assume the same kind of reduction of SKUs, that wouldn't be unreasonable?

  • Stuart Booth - CFO

  • Well, I think this was a pretty big year.

  • The last two years have been pretty big for us in terms of SKU reduction.

  • I'd temper that, but I don't have a more precise number for you.

  • Alice Longley - Analyst

  • So maybe a little less off sales?

  • Stuart Booth - CFO

  • (multiple speakers) trying to hedge it.

  • Alice Longley - Analyst

  • Over in Pet, are you permanently reducing SKUs to a lesser extent?

  • Bill Brown - Chairman, CEO

  • I would say to a lesser extent, yes.

  • Alice Longley - Analyst

  • Okay.

  • Then I'm kind of trying to figure out why you took prices down.

  • I understand commodity costs were down.

  • But I guess it must be that everybody else is putting their prices down because, if you are struggling to get operating profit growth, why not just keep your pricing?

  • Take advantage of the commodities being favorable?

  • Stuart Booth - CFO

  • I'd love to have you be a retailer.

  • But it's basically you have to be competitive with the market.

  • Really, what we are doing is we are doing price reductions; we are doing price reduction as commodity prices roll back.

  • We are not voluntarily cutting prices where our input costs have changed.

  • You can see it across the board.

  • Our gross margins are up a little bit.

  • But that's driven a lot by mix, not by SKU bases.

  • But we are holding margins where it's appropriate, and we have commodity price reductions.

  • We are flowing through with our retail partners.

  • Bill Brown - Chairman, CEO

  • The other thing is there is a certain demand elasticity on these things.

  • The consumer has got to have a value at the shelf.

  • When prices went way up, we saw a slowdown in takeaway.

  • That has remained, and there's going to need to be some relief for the consumer, to some degree, to come back.

  • Having a high margin and not selling much isn't such a good thing as having a good margin and selling more.

  • There's always a question of the right balance between those two things.

  • Stuart Booth - CFO

  • Yes and Alice, when we talk about price reductions, it's really three categories that are driving that.

  • It's grass seed, bird feed and our garden chemical controls businesses, which as you know -- and you've followed commodity prices for the last couple of years -- have been more volatile than they have been historically.

  • So those are the three areas that we are addressing.

  • The rest of the business is kind of I'll say business as usual.

  • Alice Longley - Analyst

  • Can you explain the fundamental reason then, for lawn and garden, your sales are down 9%.

  • That's not far up from the 11% drop in the second quarter.

  • Yet, in the second quarter, your profits were flattish; in this one, they are down 15%.

  • So what's the real difference with the same sales -- negative sales trend, but much worse operating profit trend?

  • Why would that be?

  • Stuart Booth - CFO

  • A lot of it has to do with our third quarter is -- there are more operating expenses in the third quarter.

  • There are more inventory related COGS, charges in the third quarter.

  • It has a lot to do with just the operations of our business and the seasonality of our business on the Garden side.

  • The third quarter has just historically been a little bit heavier expense business quarter.

  • Bill Brown - Chairman, CEO

  • You asked an interesting question.

  • I personally have not looked at it quite that way from that point of view.

  • I'll do it after the call.

  • Alice Longley - Analyst

  • Because if it's a heavy expense quarter, it was a heavy expense quarter last year too.

  • So I'm just wondering why you couldn't pull off better profits that way you did in the second quarter.

  • Stuart Booth - CFO

  • Because the second quarter is a different quarter than the third quarter.

  • Bill Brown - Chairman, CEO

  • Can we have the next question please?

  • Operator

  • (inaudible) Jefferies.

  • Unidentified Participant - Analyst

  • Good afternoon Bill and Stu.

  • A question for you on the new products I guess to start out with.

  • You sound pretty excited heading into fiscal '11.

  • Have you said -- is there a SKU on the new product site between the Garden and/or the Pet side, or is it a lot of new products on both?

  • Bill Brown - Chairman, CEO

  • Each of the businesses in each of the units is working on new products.

  • While there can be a variation amongst them, it's pretty much across the board in all our businesses.

  • Unidentified Participant - Analyst

  • Okay.

  • Did the anticipation I guess of new products have any impact on reorder activity of the more seasonal products in the current quarter, or in the September quarter for that matter?

  • Bill Brown - Chairman, CEO

  • Not at all.

  • Unidentified Participant - Analyst

  • Not at all?

  • Okay.

  • With the recapitalization plan completed, is the kind of 8.4% cost of debt here in this quarter, is that a reasonable kind of expectation longer-term for modeling purposes?

  • Stuart Booth - CFO

  • Yes, for the foreseeable future, it's -- really that's the 8 1/4 sub notes and then the unused line fees on the revolver.

  • Unidentified Participant - Analyst

  • Great.

  • Everything else I think had been asked, so thank you very much.

  • Operator

  • Colleen Burns, Oppenheimer.

  • Colleen Burns - Analyst

  • Thanks.

  • Can you just give a little color maybe on sales trends throughout the quarter?

  • It sounds like lawn and garden was struggling in the beginning and then kind of faded off, but maybe the chemicals business improved.

  • How did the Pet business fare generally throughout the quarter?

  • Bill Brown - Chairman, CEO

  • Pretty steady.

  • The thing that was really nice is we'd had a tough quarter before this, and April looked like, boy, everything is good.

  • Stuart Booth - CFO

  • April exploded.

  • It's, by and large, it's -- by and far, it is our biggest quarter on the Garden side, and it was a strong quarter on the Pet side.

  • Bill Brown - Chairman, CEO

  • The month.

  • Stuart Booth - CFO

  • I'm sorry, the month.

  • (multiple speakers)

  • Bill Brown - Chairman, CEO

  • So come the end of April, we are saying, wow, we always know you don't know when it's coming, and you don't know quite how big it's going to be, but it's going to be there, and it was.

  • Just May and June, particularly May (multiple speakers) on the Garden side.

  • Stuart Booth - CFO

  • On the Garden side.

  • Pet just continued to chug along at a nice clip.

  • Bill Brown - Chairman, CEO

  • So that is the nature of lawn and garden.

  • At the end of the year, it seems to sort its way out, but you do get some moves up and down along the way.

  • Colleen Burns - Analyst

  • I guess just on a SKU rationalization, that's expected to be completed by the end of next year, correct?

  • Bill Brown - Chairman, CEO

  • From my point of view, it will never be completed.

  • In terms of the larger push and the greater chunk of savings, just like our inventory reductions, the biggest bulk has come out in the first couple of years.

  • But there is a vigilance here about inventory management.

  • There is a vigilance about SKU reduction and rationalization that I would hope is in the core DNA of the Company now.

  • Colleen Burns - Analyst

  • Would you say that (inaudible) you're like 70% complete?

  • Bill Brown - Chairman, CEO

  • I wouldn't put a number on it.

  • Because you know, it's --

  • Stuart Booth - CFO

  • (multiple speakers)

  • Colleen Burns - Analyst

  • No, that's fine.

  • Stuart Booth - CFO

  • It's a part of life.

  • Bill Brown - Chairman, CEO

  • 70% to the gold and the mother lode.

  • You know, we keep working that inventory, we are going to -- who knows what we can take out of it?

  • Colleen Burns - Analyst

  • Great.

  • Then lastly on the acquisition side, are you seeing better opportunities on the Pet side or the Garden side, or are you really looking at both sides of the business?

  • Bill Brown - Chairman, CEO

  • We always look at both sides.

  • Our view is to be actively exploring every aspect of the business where there might be a fit, and to look broadly.

  • Colleen Burns - Analyst

  • Would you say that you're close on anything or --?

  • Bill Brown - Chairman, CEO

  • Well, yes and no.

  • Golly, we just never talk about that.

  • Colleen Burns - Analyst

  • No, I understand.

  • Okay, thank you.

  • Operator

  • Carla Casella, JPMorgan.

  • Mindy Cioni - Analyst

  • This is [Mindy Cioni] for Carla here.

  • Can you talk about your packaging cost trends and expectations for the back half, as well as transportation costs?

  • Bill Brown - Chairman, CEO

  • That's drilling pretty deep.

  • Our supply-chain initiatives -- we'll address that and hopefully we will see some improvements in both areas we see some opportunities.

  • That's about as far as I can go.

  • Mindy Cioni - Analyst

  • All right.

  • Is there -- have you seen any greater promotional activity in any particular regions on the lawn and garden side?

  • Bill Brown - Chairman, CEO

  • Not that come to my mind.

  • Operator

  • (Operator Instructions).

  • Joe Altobello, Oppenheimer.

  • Joe Altobello - Analyst

  • One quick follow-up on the pass-through pricing on your birdfeed and grassy businesses.

  • Are you guys leading there, or is it response to price reduction you're seeing from competitors?

  • Bill Brown - Chairman, CEO

  • Couldn't comment.

  • Our folks who are running those businesses are dealing with that day-to-day, our segment group leaders.

  • I suspect sometimes it's one and sometimes it's the other, but I really don't have a comment.

  • Joe Altobello - Analyst

  • Okay, great.

  • Thanks.

  • Bill Brown - Chairman, CEO

  • Any other questions?

  • Operator

  • Jon Andersen, William Blair.

  • Jon Andersen - Analyst

  • Good afternoon.

  • Thanks for taking my question.

  • Bill, as you look to 2011, and it sounds like there are some interesting things from a new product standpoint on the horizon, what kind of marketing support do you think is most important in your categories in support of that innovation?

  • Is it consumer advertising?

  • Is it in-store promotion?

  • I'm just trying to get a sense for how you're thinking about that and where we might see some increased activity over the next 12 to 18 months.

  • Thank you.

  • Bill Brown - Chairman, CEO

  • The way we think about it is that there is no one single thing in the marketing package that makes it work or is particularly dominant.

  • We think our merchandising teams in the stores are important; we think the various forms of advertising are important; we think the product and its benefits are important; we think promotional displays are important.

  • You could touch on a number of other things.

  • So it's a balance of mixing all of those different things in the right way to get the best efforts that we can.

  • We continue to work on optimizing how we allocate resource against them.

  • Jon Andersen - Analyst

  • Thanks, that's helpful.

  • Bill Brown - Chairman, CEO

  • Good.

  • Well, thank you everybody for your questions.

  • Thank you for joining us for the call.

  • Operator

  • Ladies and gentlemen, thank you for your participation in today's conference.

  • That does conclude the presentation.

  • You may now disconnect.

  • Have a wonderful day.