Central Garden & Pet Co (CENT) 2011 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to Central Garden & Pet third-quarter 2011 financial results conference call.

My name is Amisia and I will be your conference operator for today.

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

Later, we will conduct a question-and-answer session.

Instructions will be given at that time.

(Operator Instructions).

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

I would now like to turn the conference over to Steven Zenker, Vice President of Investor Relations.

Please go ahead.

Thank you, Amisia.

Good afternoon, everyone.

I would like to welcome you to Central Garden & Pet's third-quarter 2011 earnings conference call.

Thank you for joining us.

It is my pleasure to welcome you to today's call and to introduce our other speakers.

With me on the call today are Bill Brown, Central's Chairman and Chief Executive Officer; Gus Halas, President and Chief Executive Officer of the Central Operating Companies; and Lori Varlas, Central's Chief Financial Officer.

As a reminder to everyone on the call, we issued a press release this afternoon providing results for our third quarter and the nine-month period ended June 25, 2011.

The press release is available on our website at www.central.com.

Before I turn the call 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 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 the fiscal year ended September 25, 2010, the Company's Quarterly Report on Form 10-Q to be filed August 4, 2011, and other Securities and Exchange Commission filings.

Before I turn it over to Bill, I will read a portion of our third-quarter earnings press release.

Central Garden & Pet Company, a leading innovator, marketer, and producer of quality-branded products for the lawn and garden and pet supplies market today reported financial results for fiscal third quarter ended June 25, 2011.

The Company announced third-quarter net sales of $484.3 million, a 4% increase over the comparable fiscal 2010 period.

The Company's sales gains were largely driven by the Garden Products segment which reported sales growth of 6% for the quarter and an 11% sales increase for the nine-month period ended June 25, 2011.

Third-quarter operating income was $36.6 million, compared to operating income of $52.6 million in the comparable 2010 period as the continued rise in raw material costs, change in product mix, unfavorable weather, and the Company's continued strategic investments in marketing and brand building activity impacted results.

Net interest expense was $9.8 million for the quarter ended June 25, 2011, consistent with the prior year.

Net income for the quarter totaled $17.1 million or $0.31 per fully diluted share compared to net income of $25.9 million or $0.40 per fully diluted share in the year-ago period.

Now let me turn the call over to Bill Brown.

Bill?

Thank you, Steve, and good afternoon, everyone.

As we told you last quarter, we have embarked on a journey to leverage our Company's strengths and build an efficient scalable operating model for the future.

I had wanted to spend some time talking about that.

However, given the nature of the results we are announcing today, I would like to restart the call.

Good afternoon, everyone.

As you saw, this was a very challenging quarter.

Today I'm going to talk about three different subjects.

First, this quarter's results.

Second, the implications as we move forward.

And third, where we are taking the Company.

I will then turn the call over to Gus, who will take you through the things that we are doing to improve performance.

And Lori will take you through the quarter in detail.

Turning to the quarter.

We had poor bottom line profit results.

There are two primary reasons for this.

The first is the tremendous rise in raw material and commodity costs.

These cost increases have moved faster than our ability to get pricing to offset them.

This has had a serious impact on our gross margins.

The second is the extreme weather across the United States, particularly in Texas and the Southeast which stopped many insects and fire ants from surfacing.

The sales of these higher margin control products were down dramatically.

In spite of all of that, the overall Company sales were up 4% for the quarter and from my point of view, more importantly, our branded products were up 7%.

The majority of this growth is associated with units, volumes, sales increases.

Moving to the second area.

When we look forward, and think about what is happening, we are implementing price increases to get back to normal margins.

The question is, what is going to happen in the fourth quarter and the balance of the calendar year?

It is hard to predict the future.

Parts of our business are implementing price changes right now.

Other parts have implemented them over the last several months.

Having said that, we do not expect fourth-quarter margins to recover to normal levels.

Further, as we look out to the remainder of the calendar year, margins may not fully balance out until we begin shipping next season's Garden Products in December.

Turning to the third area, which is, what are we doing?

How about the business fundamentals?

Our business is solid and strong.

We have great products, strong relationships with our retailers and consumers, a solid foundation for the future.

Our focus going forward is growth, innovative products, and operations' performance and improvement.

I'm now going to turn the call over to Gus who will drill deeper into these areas with you and talk about how we ran the business in the past and how we plan to improve it going forward.

Gus?

Thank you, Bill.

Even though I have been consulting for Central Garden & Pet for over two years, a great deal has transpired since April when I joined as President and CEO of the Operating Companies.

We had been working to leverage the Company's strong portfolio of products, talented employees, and history of innovation that significantly raised performance to meet its full potential.

And so we are working diligently on improvement in all of those [profits].

We are scrutinizing our business operations and launching initiatives that will touch almost every aspect of the organization from increasing the effectiveness of our sales, marketing, and innovation efforts to strengthening our supply chain and manufacturing capabilities.

In the past, our business model was to manage a portfolio of companies.

We operated the business in our organization like separate companies, with most of these functions in the business residing within a particular operating unit -- purchasing, marketing, manufacturing, planning.

All of these functions being done simultaneously by different people in different business units.

This resulted in duplicated efforts and did not enable us to share best practices [further with the] cross training, optimize our processes and educate all our employees across the different business units.

Our focus today and in the future is on improving Central's operations across our business units, taking advantage of synergies and economies of scale across the entire organization.

We believe there are significant opportunities to improve our long-term profitability and growth of business.

The senior management team, Bill and I, have put together a plan of what we envision the Company to achieve and a blueprint on how to get there.

And we have begun to take the steps necessary to achieve our goals.

Some of the takeaways for now, and with more details to follow in the future, are first and foremost will be a performance-driven learning organization.

We will be operationally excellent.

In order to be operationally excellent, we must have key performance indicators and metrics and hold ourselves accountable to these metrics.

It is all about being a disciplined, goal-oriented organization.

We are currently in the process of doing an analysis across the enterprise to evaluate our operational facilities in order to identify, plan, and execute specific actions to drive efficiency and cost savings.

We are focused on operational excellence and having the mindset and skills to make that a reality.

We will evaluate our operational facilities and drive improvements across the entire Company by implementing lean Six Sigma.

Other key areas of focus are innovation and marketing.

Innovation is the lifeblood of any organization and, more importantly, ours.

We are taking steps to leverage our strong portfolio of products, while bringing new and innovative products to market.

We are in the process of building and re-organizing our marketing teams to ensure customers and consumers know the benefits of our products, what they stand for, and what sets them apart from the competition.

On the sales and marketing front, it starts with the tenet that we must be aligned with our customers' needs.

Many of our customers themselves are going through similar transformational processes and we must understand what they need and must approach them with one voice.

That one voice needs to serve from a sales perspective on all product lines, not just specific ones.

One of our most important priorities is our employee base.

We are focused on developing, training, and educating our people, frankly our most important asset.

We are committed to giving our employees the opportunity to learn and develop their skills and provide a path to advance within the Company.

And while we will have accomplished a great deal in the last three months, it is a journey and we have a long way to go.

We are moving from a company with a portfolio of products to a marketing and branded company with efficient operations and focused on providing solutions for our customer needs.

Realize that these types of changes do not occur overnight or in a couple of quarters.

There is a lot of hard work that lies ahead as we seek to transform this organization into one of excellence.

Again, it is a journey of continuous process improvement and we will never be done.

I am confident that the strategy we have established are absolutely the right ones and that our employees are set up for the challenge.

I will now turn the call over to Lori for a more detailed review of our financial results.

Lori?

Thanks, Gus.

Let's begin by recapping the quarter's performance beginning with the income statement.

Net sales for the third quarter of fiscal 2011 increased $18.8 million or 4% to $484.3 million compared to $455.5 million a year ago.

Q3 was our third consecutive quarter of revenue growth.

Branded product sales increased 6.6% to $407.7 million, a $25.2 million increase (technical difficulty) and sales of other manufacturers' products decreased $6.4 million or 7.7% to $76.6 million.

The majority of our growth came from our Garden Products segment which increased sales to $257 million, an increase of $14.2 million or 6% when compared to the prior year.

This revenue growth occurred despite extreme weather conditions across the country.

The quarter's gains were led by grass seed sales, which increased $14.5 million when compared to prior year with custom demand driving increased volumes.

Wild bird seed sales increased $11.4 million when compared to the third quarter 2010 due to higher pricing and increased volume.

Seasonal decor revenue was $7.8 million higher than a year ago, driven by new products and strong demand.

While our seasonal decor business is one of our smaller operating units, it is also one of our fastest growing and a good example of how innovation has driven growth organically.

These sales gains were partially offset by an $18.1 million decline in our chemicals and control product revenues due to unfavorable weather which impacted demand for fire ants and other control products and also due to retailer inventory reductions late in the quarter.

It is unlikely that we will gain back the lost chemical and control product business in the fourth quarter due to the seasonality of demand.

June was a particularly difficult month as Garden Products sales declined 17% compared with June 2010.

Garden branded product sales were $221.7 million, an increase of 10.4% or $20.8 million.

Sales of other manufacturer Garden Products were $35.3 million, a $6.6 million decrease over the same period last year.

As a reminder, the garden season primarily spans our second quarter and third quarter and our fourth-quarter garden sales are a much smaller percentage of our annual -- over all annual garden revenue.

Turning to our Pet Products segment.

Third-quarter Pet Products sales were $227.3 million, a 2% increase or $4.6 million, compared with Q3 of last year with increases in almost all of our pet categories.

Revenue gains were led by companion animal products, aquatics and bird seed.

The revenue gains were partially offset by a sales decrease in our higher margin pet health product due to unfavorable weather not conducive to flea and tick populations and due to increased competition.

Pet-branded product sales increased $4.4 million to $186 million.

Sales of manufacturers' products -- of other manufacturers' products were $41.3 million in the second quarter versus $41.1 million in the prior year period, essentially flat.

Moving to our gross profit.

The Company's gross profit for the third quarter was $149.4 million, a decline from $162.8 million in the third quarter of 2010.

Gross margin decreased 420 basis points to 30.8% from 35% of sales in the comparable year ago period.

Rising raw material costs and a change in our product mix due to unfavorable weather impacted our gross margin in the third quarter.

For products that have a high percentage of commodity input, such as bird feed, we continue to be significantly impacted by rising commodity prices.

Market prices for sunflower, milo, and millet traded higher than their 2008 peak during the third quarter.

Our cost for the raw material inputs for bird feed were up almost [60]% year over year and 18% over the prior quarter.

Although we have been taking price increases throughout the year, including during the third quarter, the increases do not fully cover the continued [acceleration] in our raw material costs.

There is a lag between when input prices go up and when we are able to pass it along in the form of price increases.

Rising raw material costs also had an impact on many of our other products, including our pet food and garden chemicals and controls products.

We continue to work with retail customers to mitigate the impact of the rising raw material input costs on our results.

The continual climb of these inputs has been very challenging and we expect will continue to put pressure on our margins.

In addition to accelerating raw material input costs, unfavorable weather in much of the US also had an impact on our gross margin.

Unusual amounts of rain in much of the country, cold weather in the western half of the US and extreme heat in Texas and parts of the South impacted pest populations and reduced sales of our higher margin chemical and control products in our Garden segment and our flea and tick products in our Pet segment.

This changed the mix of products sold as we've sold a smaller proportion of higher margin products versus lower margin products when compared to prior year, bringing our overall gross margin percentage down.

Let's move to SG&A.

Selling, general, and administrative expenses as a percentage of sales decreased to 23.3% of sales, down from 23.7% in the comparable prior period.

On a dollar basis, SG&A expenses for the third quarter were approximately $112.8 million, up $2.7 million over the prior year.

The increase is attributable to higher marketing and variable selling costs related to increased sales, reduced by lower administrative costs.

Operating income for the three-month period ended June 25, 2011, was $36.6 million compared to operating income of [$52.6 million] in Q3 of last year, reduced by the lower gross margin during the quarter and increased marketing brand-building investment.

The Garden Products segment's operating income was $18 million compared to operating income of $30.1 million last year.

The Q3 operating income reflects a significant decline in gross margin and the investment in increased marketing and brand building, supporting a higher level of sales.

The Pet segment's operating income was $27.2 million, a decrease of $5.4 million from the third quarter last year due to lower gross margin and increased marketing investments.

Net interest for the quarter was $9.8 million in line with the third quarter of 2010.

Our average borrowing rate for the quarter was approximately 7.4% compared to 8.4% a year ago.

Our Q3 2011 effective tax rate was 36.4% compared to our third-quarter 2010 effective tax rate of 37%.

We expect our expected income tax rate for fiscal year 2011 to be similar to the prior year's tax rate of 37%.

Net income for the quarter was $17.1 million or $0.31 per fully diluted share compared to net income for the third quarter of 2010 of $25.9 million or $0.40 per fully diluted share.

The number of weighted average shares during the quarter was 54.5 million shares versus 64.6 million shares in the same period a year ago.

So let's move to the balance sheet comparing June 25, 2011, balances to the June 26, 2010 balances.

Our current cash and short-term investments balance at the end of the quarter was $26.6 million and $91.6 million in the third quarter of 2010.

Accounts receivable were $257.4 million, an increase at $33.6 million or 15% compared to last year, reflecting the increased billings for the higher Q3 revenues.

Inventory for $343.8 million, an increase of $37.7 million, key factors for the rise were higher controls inventory on the lower sales during the quarter, an increased by the value of inventory containing commodities like bird feed as those prices have risen and the addition of inventory related to acquisition earlier this year of a privately held maker of fertilizer to the professional and retail market.

Accounts payable were $115.4 million, a decrease of $4.5 million or 3.7% compared to last year.

Taking advantage of the favorable bank debt market, on June 9, we announced we have amended our $275 million five-year senior secured revolving credit facility to increase its borrowing capacity by $100 million to $375 million, and extend the maturity date by approximately one year.

The new terms include more favorable interest rates, commitment these, and interest coverage requirements.

Total debt at June 25, 2011, was $450.5 million compared to $400.3 million last year and included $50 million drawn on our revolver.

Cash generated by operating activities was $104.7 million, an increase of $3.8 million over the third quarter of 2010.

Capital expenditures during the quarter totaled $6.4 million in line with capital expenditures of $6.2 million in the comparable prior year period.

During the third quarter, we completed the share buyback program approved by our Board in July 2010.

The Board of Directors approved a new $100 million share buyback program [between last] and June of this year.

During the third quarter, we repurchased approximately 1.1 million shares of our voting common stock and approximately 2 million shares of our nonvoting Class A stock at a combined cost of $30.1 million.

As of June 25, 2011, under our current share repurchase program, approximately $97 million remains available for future repurchases.

So in summary, our Q3 revenues grew for a third consecutive quarter with the growth coming from both our Garden and Pet segments and while our sales grew, our gross margin and earnings were significantly impacted by the continued rise in input costs, the inclement weather which adversely impacted our product mix, and by our strategic investment in building our brand.

As Bill and Gus ascribed, we are pursuing strategies and initiatives which we believe will help propel the Company forward by growing revenues and increasing the synergies and operational effectiveness of all of our businesses across the entire Company.

With that I'll now turn the call back to Bill.

Bill?

Thank you, Lori.

So in conclusion, it is good to see our revenues continue to grow.

But it is very disappointing to see our gross margin and bottom line in the condition it is this quarter.

The extreme weather impact of the industry, the rising commodity crisis continue to be a challenge.

Although we can't change the weather or the commodity prices, we are working diligently on what we can control.

We are focused on pursuing price increases, innovation, brand building, making our organization more effective, and profitable growth.

Thank you for participating today and now we will take your questions.

Operator, would you open it up for Q&A?

(Operator Instructions).

Bill Chappell with SunTrust.

Good afternoon.

I guess my first question only goes for Gus because I understand you have only been here four months, but can you give us some kind of metrics so we can follow this quote unquote journey?

A year ago, 18 minutes ago, Bill had said similar things of we're working to turning things around, we're reinvesting and marketing and innovation and cornerstones of the business and we still have very choppy at best and maybe dismal at worse results for the past 4 quarters.

Can you give us some kind of idea or some kind of color what you have seen or what you are going to be -- we should be looking for that shows that the journey is moving in the right direction?

First of all, let me start out -- this is a process that I've gone through a few times in my life.

So let me just sort of give you historically and also what we are trying to do here.

First and foremost, we had to develop a strategy, which we did.

There are six components to that strategy which we will be talking about in the future that we are focusing on.

Second, as I mentioned, we've got operational excellence and implementing lean Six Sigma.

This is a -- I've done that in three other companies and it was quite successful in both driving efficiency and increasing margin.

I mean, this is a concrete example of the kind of thing that I am doing.

In terms of our people educating and the whole process of retaining, training, and identifying our key folks and going through the things that we need, we have started and we are deep in the throes of it.

Part of the operational excellence and part of what we're trying to do, in conjunction with the retaining and developing our people, we are and we are going to have -- lean Six Sigma as you know has black best and green belts and so forth.

They create a lot of opportunity and can ferret out a lot of the savings.

So we are in the process of doing that.

So that is sort of the operations side.

And the innovation side, we clearly have a lot of folks that are aligned with innovation and we are aligning ourselves something that's not obvious on a high-level discussion as we are doing here that allows us to completely focus on how we innovate products.

And we literally have both external and internal resources that are developing products.

And I will give you one example.

We developed a concept called Idea Central that is simply our own employees can submit and receive rewards for recommending a product.

And that, in the past I've had mixed success.

And with us here, it has been an overwhelming success.

Same thing with sales.

The whole concept of how we go to market better?

How do we go to our customers, how do we develop (technical difficulty).

There are -- behind our strategy there are cascading layers in terms of what we're doing.

So there is an overriding strategy and then there are subheadings, if you will, that are actions underneath it that are very concrete and very, very focused.

And so that is about what I can tell you.

And in terms of rolling it out, it is going to be over a certain period of time and we are going to have the result associated with it.

Since this is your third or fourth time doing it, can you tell us what the timeline was on the prior ones?

I mean, should we see some benefits in the next six months, next year, next 10 years?

Yes.

I don't want to be cheeky, but all of the above because you get the first and foremost in anything like this, you have to get the quick wins which was -- that is what we are in the process of doing.

And then the whole transformation process, a lot of times start to analyze the data, being able to figure out and take the actions necessary so you can have subsequent wins and then until you change the fiber and the culture of what we are doing and what our focus is all about.

Okay.

I guess we'll just stay tuned on that.

I guess, switching gears.

In terms of use of cash, I know, Bill, you've talked a little bit about acquisitions in the past.

It seems with where your stock is today and where it is going to go tomorrow, there's no better use than continuing to do share repurchase.

Is that the right way to think of it?

Or is there something else, some better use of cash at these levels?

Well, first and foremost we will always support good organic growth and the innovation that we are driving and the associated working capital is priority number one.

Second is good acquisitions.

And we are actively out there looking.

We are building a pipeline.

It is not the most attractive thing right now out there, but we expect over time that there will be good acquisitions to do and we have a great deal of capacity to both do organic growth, meaningful acquisitions, and third comes stock buyback.

And where we can't use up our cash powerfully in the first two, we will use it up on stock buybacks particularly at these levels.

In the last one and kind of wrap up the same line of questioning.

Is there any metric you will point us to that we should be looking for improvement over the next six to nine months?

I know you are not giving guidance and but it is more something to hang our hat on after pretty disastrous results this quarter.

Well, you have got to get margins up.

Okay, can we take the next question please?

Joe Altobello with Oppenheimer.

Thanks.

Good afternoon.

First question, I guess, is for Gus.

You mentioned that you were a consultant to Central for the last couple of years.

How much of what you are doing now has been introduced to Central during that period, or are we really starting at square one at this point?

Well, let me give you the -- .

Let me jump in for a second.

From my perspective, it is square one.

Gus did a lot of good things for us, but there's an entire difference from being the head of the business and driving the operations and bringing all of the things that he's talked to to the table versus when we were doing the consulting advisory work.

But please, Gus, go ahead and answer in your own words.

That's what I was going to start with.

Primarily this -- we were introduced to -- Bill and I were introduced to each other by a common shareholder from the last company that I was running.

And I came in originally, and my goal was to retire and play golf.

But I met Bill.

It was a personal relationship and I advised him more than I actively was engaged.

I have a tendency to have a high level of engagement once I'm an employee as opposed to when I'm giving whatever guidance I can -- whatever guidance, advise, counsel, whatever you want to call it.

So from my standpoint it's a completely different ballgame.

We've talked about these things, but now we are executing these things is the best way I can say it.

Got it.

Next question, please.

Reza Vahabzadeh with Barclays Capital.

I just wanted to ask a question on your gross margin weakness year over year.

Just was wondering if you could elaborate on the multiple factors affecting it and how much of it was the gardening weather issues?

How much of it was input costs on the bird feed side and how much of it was insect control business?

Sure.

So, as we discussed, the key factors are exactly tightly that.

We had unfavorable weather that impact our chemical controls business which is a higher margin business.

So as the controls business higher margins decreased, the proportion of those that were lower margin obviously grows to the higher level therefore impacting overall gross margin.

So the unfavorable weather definitely impacted our overall gross margin.

And that second piece is the commodity costs.

To describe commodity costs right now are in the third quarter reached levels higher than the 2008 peak for certain commodity costs.

And even quarter over quarter is up 19%.

We haven't specifically called out which was larger than another.

But they were both significant impacts over our gross margin.

On the bird feed input cost side, some of the costs that you just talked about, they seemed to be sequentially flat here in the fourth quarter versus third quarter.

At least based on the indices we looked at.

Does that mean that you have a decent chance of catching up here in the fourth quarter?

I think as we expressed, we anticipate that our overall gross margin will continue to experience pressure.

Commodity costs have risen across the span of the first nine months and we are taking price increases.

We have taken price increases.

We continue those dialogs to try and improve our margins.

But we -- as we expressed, we continue to think the margins will come under pressure.

Well, given -- sorry, go ahead.

When you look at it, two things have to happen.

Costs have to stabilize.

We have to get the price increases through implemented and coming through all of the customer retail cycle, for price changes for the entire quarter for us to be back to normal margins.

Can you just elaborate on that second point you just made regarding just getting the prices through your retailer or customers who wonder why it taking this amount of time and what are the prospects for getting that implemented fully?

Well, I think the prospects are very good for getting it implemented fully.

It is a timing issue.

There is a notification period and an implementation period and there's also an analytical period within the business as to what you're going to do, how you are going to do it, when you're going to do it.

And then there is kind of the last look for the customers before the change and they are making their retail changes.

It is the period of time.

My last question is, do you have a target to date as far as when you anticipate returning back to normalized margins if not on a percentage basis then on a dollar per volume basis?

I think I was pretty explicit in the comments that we didn't see that getting achieved in the fourth quarter and that on a calendar year basis that things would potentially balance out when we got to December and we were shipping next season's Garden Products.

Got it.

I think there can be continual progress along the way, but when do you get balanced out, that was the comment.

Thanks.

Carla Casella with JPMorgan.

I had one question on the controls business.

You mentioned -- I guess if you could expand a bit, the weakness in controls.

Was it -- did you -- did you lose share in the control category as well because of heavy competition or was it just overall weakness in the category?

And then how long will it take you to clear the excess inventory that you are carrying in controls?

Well, a couple of responses.

I don't believe we lost any share.

The issue is when they aren't fire ants, people don't buy fire ant control.

They don't see a need.

And we understand that.

Same thing.

If you don't have the squirrel problem you are not going to be dealing with the product that deals with that.

So this is -- you know, when the mosquitoes run, we sell a lot of mosquito stuff.

When the flies are out, we sell a lot of it.

If they don't show up, we don't sell so much product.

That is what is going on this year.

In terms of the inventory clearing, my sense is that it will clear within the first calendar quarter of next year, because the amount of pullback is not so great compared to a full season usage.

Okay and then on the gross margin front, in the garden business how much of the 540 basis point decline in the EBIT margin was related to gross margin declines?

So, what we've talked about primarily is our -- obviously our sales and operating margin.

We don't specifically speak to the gross margin on our chief segment.

But I -- it's mentioned on the operating income perspective, the income from operations for our garden business was $18 million and for pet, it was $27.2 million.

Okay, great.

Then it sounds like you didn't raise your prices as quickly as your competition.

Do you think this gains you any share in some of your categories?

I don't have a sense that were slower than the competition on raising prices.

I think it's a problem for everybody.

And we'll have to see how the competitors report their earnings and their margins.

They have different mixes.

They aren't in the same mix of businesses in every case that we are, but I have a sense that this is a pretty broad-based situation.

Okay.

Great.

That's all.

Thank you.

Beth Lilly with GAMCO.

Good afternoon.

Gus, I was wondering if you would just -- you know, I know it is early in the process for your evaluation of the business and such and you talked about the strategy in the six components, which I assume will be talked about at some later date.

But as you look at the business and the operational efficiencies that you think you can generate and you've talked about increasing the margins in lean Six Sigma.

Do you have a sense of what the cost structure or the ability -- what level of cost you think can come out and what margin level the Company should be generating?

I think maybe there is an easier way to do that and that's just look for comparable size companies and you could probably do the calculations just based on what the comps look like, what the comparable companies look like and see what would make it best in class or world class along the way.

Those numbers are pretty mechanical.

As far as we're concerned, it is just a matter of what makes it functional and what makes it successful for us; and that is going to differ because we have certain customer requirements.

We have certain limitations as we move forward.

And so to give you an absolute number or to give you even directional other than to say, look at the competition, we would be doing a disservice to both you and the organization.

As you look at Central Garden versus the other companies that you've done this with, would you say it's been a --?

I want to be clear about this.

This is a very similar plan implementation and cost takeout process for you?

Yes.

To be more specific, the last company that I ran and Central had a lot of similarities.

Although they're completely different industries, completely different structure, but directionally and structurally they were much the same, I think, is the best way that I can say it.

Okay.

You know, both the operational [silos] that we talked about before and the lag of integration.

So, yes, but I think -- and it is not the first time I've seen it in my career.

Okay.

My last question and this probably will be answered by Bill, but do you -- if your goal is to, among other things, improve the margins and get more efficiencies out of the operations, do you think that it is important to maybe change the compensation structure to get the internal organization focused on that?

Well, the compensation structure, I mean, the compensation maybe, maybe not, but the compensation structure clearly any time you manage what you measure so the -- whether you want to call it an old-fashioned word like MBOs or metrics or KBIs, whatever it is you want to use, clearly you have to rely on compensation to those particular metrics.

Without a doubt.

I would expect that there will be selective adjustments and fine-tuning associated with the incentive compensation.

Our cue is that we have quite competitive compensation and lots of upside opportunity.

I don't think that's the big issue for us.

I think the big issue is focusing on the right things, having the right plans, the right energy, focusing on doing it quickly, decisively, and getting everybody on board and in the boat.

You know and, Bill, just along that line then, what do you see as a potential impediment to achieving this?

Because I know you have talked about doing this in the past.

But what in your mind is different about it this time and what potentially is an impediment?

Well, we have a really terrific team.

We have -- it was a very, very thoughtful, big decision to evaluate the old business model and the directions that we are now going and conclude that this is a superior place to be and that is entirely different.

So we've got much stronger talented team and a different game plan.

I said to people it's like moving from the single lane to the West Coast off ramps.

And I truly believe that we will get superior results from doing that.

The impediment is simply if we did not have the will or we do not resource things to accomplish the goals and tasks ahead of us, but I don't see those as impediments.

They are in our hands, they are under our control, and we are very clear about the purposefulness of this and the commitment to it.

Okay, great.

Thank you very much.

Jeff Bronchick with Cove Street Capital.

Good afternoon.

Just one quick note.

Lori, I don't think you have to read through the entire press release just under the heading of Gus, do a great job, but I would tighten that up and leave more for questions.

My question is really to Bill and Gus.

Where does the remaining distribution business fit into the new strategy?

In both sides, both pet and garden?

Well, that continues to evolve as we work it through.

We have a number of people who make a very compelling strong case that our distribution and our sales force presence with the independence that distribution serves is the competitive advantage on a competitive weapon.

There are ways to make that business much more efficient and effective and I will leave it to Gus to comment any further if you choose to.

I think that is where I am.

That it can be very much a competitive advantage and we have got an excellent sales organization and we are -- I think, that not only do we have an advantage of our products, but we also can be a much better solution to the customer themselves and that's a competitive advantage.

Because we can offer a full line that we may have some gaps along the way and so I think that it's, as of right now, it seems like it's a competitive advantage and it's a very good one.

We have some very good people in that organization.

My next question is when you are looking at garden and pet, how separate businesses are they really in practice?

And secondly, when you look at lean Six Sigma or any other number of just operational improvement programs, is it 80% garden and 20% pet?

Is it evenly split?

How would you gauge that?

They are -- let me bifurcate your question, if I may.

If you are talking about operationally or logistically, there is not that much difference and that is where our supply chain benefits are going to come in.

When it comes to the customer base and the go-to-market strategy per se, and some of the complexities and subtleties in both sides of the business very unique and we do need to be very attentive.

Because both the customer base and the structure seems to be different and a lot of dynamics in the businesses are so different.

So, if you can separate those to -- logistics, supply chain, operations, those types of things, may -- there are a lot of similarities on the marketing side, there's a lot of differences is the best way that I can mention that.

And then when you look at just where you are today versus where you think you'll be in two or three years.

Is it garden or pet that stands to use the most -- or can get the most improvements from where you are today?

In your opinion.

Oh I think that -- I don't think one will get more than the others.

In terms of the -- a lot of the things that we're trying to do and implement, we, those two units are not at the same place meaning that one may have progressed more in marketing or innovation, which is the garden.

But we are gaining quickly on the pet.

So we are moving along at a pretty rapid clip on both sides with people very much committed to the transformation.

So there is -- to answer your question directly, there isn't one or the other double benefit from the transformation anymore.

It's just there might be one that sort of may be leading the race if you will.

But you're always going to have that.

If you have two different data market strategies, you are going to have some folks that are moving faster than others.

And so to my last question so it is fair to say that on the garden side, obviously, you are not going to see, quote, results till at least the second quarter next year, just due to the seasonality.

But on the pet side, I would think that is more of an annual business.

Is it more likely that you'll be able to see specific signs of the operational changes before then in the pet side?

Operational changes, no.

Because they are going in concert.

We only have one supply-chain organization.

The analysis for operation improvement or operational excellence, if you will, is being done uniformly across the enterprise.

So no, one will not realize results quicker than the other.

Thank you.

[Jeremy Kahn with Bow Street].

Yes, can you talk about how much of the growth in garden was from the acquisition you completed in Q2?

The acquisition of the fertilizer provider as special in retail market and consumer market as we discussed last call, wasn't material to the overall results.

Thank you.

But it's not a number that we would disclose.

Next question.

Benjamin Sexton with First Wilshire Securities.

Good afternoon.

The question I had had to do with the expiration of the Frontline Plus patents and the aggressive marketing of -- by PET GARD.

I'm just wondering if you could talk about your strategy for those products and any potential impacts that might have or whatever you can talk about?

Sure.

I think it is pretty public that there's been some litigations between Merial and both that the providers of those products and one has withdrawn from the market place and the other one has a date coming up in the next several weeks.

And so, what happens there, we will have one indication sitting on the side there's always the commercial side of the business and what do you do.

We enjoy strong product relationships with the consumers and we continue to develop new products and to place our products in the marketplace.

So at this juncture, it has been a modest impact on us of the generic.

We'll have to wait and see as to how the story unfolds.

Okay.

Thank you.

(Operator Instructions).

There are no audio questions at this time.

Joe, I had the feeling that you had another question and we might have cut you off a little earlier.

Are you still out there?

No?

Okay.

Thanks, everybody.

We'll catch you next quarter.

Thank you for your participation in today's conference.

This concludes the presentation.

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