Scotts Miracle-Gro Co (SMG) 2004 Q1 法說會逐字稿

Good morning and welcome to the Scotts Company's first quarter 2004 earnings release conference call. At this time all participants are in a listen-only mode. After the presentation we will conduct a question-and-answer session. To ask a question please press star 1. Today's conference is being recorded. If you have any objections you may disconnect at this time. Now we'll turn the meeting over to Mr. Paul Desantis, Vice President and Corporate Treasurer. You may begin.

Welcome to our first quarter conference call. With you this morning is Jim Hagedorn, our Chairman and CEO and Chris Nagel our CFO. I want to remind everyone that our comments this morning are likely to contain forward-looking statements, as such, actual results may differ materially. Due to that risk, Scotts encourages investors to review the risk factors outlined in our Form 10-K which is filed with the Securities & Exchange Commission. If you did not receive a copy of this morning's press release you can find it on the Investor Relations portion of our Website, scotts.com. As a reminder, this call is being recorded and an archived version of the call will also be available on the IR portion of the Website. If we make any comments related to nonGAAP financial measures not covered by the press release we will also provide those items on the Website. With that let me turn the call over to Jim Hagedorn to discuss first quarter performance. Jim.

Thanks Paul. Good morning everyone. I'm going to keep my comments as brief as possible this morning April as you all know there is very little lawn and garden activity going on in the first quarter and this is traditionally a quarter in which we report a loss. Having said that we're really happy with the results we announced today which exceeded our own internal expectations. We're also pleased that the positive trends we've seen -- we've been seeing in our business have not lost their momentum even in the off season. Consumer purchases of our branded products at our largest accounts were up 10% in the quarter. With increases in every North American business. Additionally we continue to see gains in our customer service levels, as well as higher quality in our accounts receivable and strong management of our raw material costs. We continue to make progress on our international growth and integration plan in Europe which I'll elaborate on later.

We've made positive strides in our Scotts LawnService as we move forward building a culture focused on customer service. Equals success and I'm pleased with the progress we use to not lose sight of that business. That is hardly the case here in Marysville. If you could summarize into a single word I suspect that word would be focus. If we focused on getting the fundamentals right and executing properly I'm convinced that 2004 can be a great year for Scotts. Whether it's in our core North American business, in Scotts LawnService or international.

In the core business in particular, focusing on the fundamentals will allow us to fully leverage the power of our brands in our existing categories. And even with all the successes we've had in recent years we still believe there is more growth potential in our core business. With that let me give you a little more insight into what's been happening here and why we feel well positioned for the start season. I'll start with an update on North American. We are moving forward with a number of new product launches, strengthening our in store earnings and continuing to improve our supply chains. Let me give you an overview of what we're doing. In lawns our largest and most profitable North American business we saw a 14% increase in POS in our top accounts lat year and we continue to believe there is still a significant opportunity to grow both household penetration and usage among existing users. This year you can expect us to more strongly communicate the benefits of multiple applications of lawn fertilizers. For the first time we will put advertising behind a season to feed your lawn. We'll use more regionally specific radio advertising especially in places like the Southeast and Southwest where we stand to gain the most from increased household penetration. Radio will give us flexibility across the country, and help us deal with variability. Gardens business will increase profitability by moving consumers up the value chain. Miracle-Gro, value added product in our growing media lines will get increased attention this year both in advertising and in store merchandising. Not only is this patented potting mix more competitive than, less frequently. By further simplifying the process of growing pot it plants, we're helping the consumer succeed which is increasing their trust and loyalty in the Miracle-Gro brand. We will also provide more marketing and merchandising support this year to Miracle-Gro garden soil, a value-added growing media that provides consumers with superior results compared to commodity topsoil. Of course as we continue to move consumers up the continuum, we are supporting the growth needs of our retail partners making Scotts a more valued and strategic supplier.

Moving consumers up is also a focus of our plant food business which was strengthened by the advertising support we provided last year to our dry Miracle-Gro Shake 'N Feed product. This is another product that makes gardening easier by providing plants with a controlled release of fertilizer. This incidentally is a product that comes from our professional business. Our Miracle-Gro branded plants programs which is exclusive to Lowe's will be bigger than ever this year. We are confident we will win consumers who are willing to pay a premium price for a premium plant. In our Ortho business there are a variety of new products we believe will help us capture market share by adding value to the consumer and breaking through some of the noise and confusion in the controls aisle. The most innovative of those are called Ortho season long grass and weed killer. Which does exactly what the name implies. Season long begins killing weeds immediately, protective barrier that prevents weeds from returning for as long as four months. Break through product and one we believe will have significant market potential. Consumers have long been looking for a product like this, especially one that is more effective on hard surfaces liked patios and driveways. We're also launching a new granular insect called Bug-B-Gon. With this product, the customer can have max control which we believe, all of our categories we know that consumers want fast results from insect control products. Not only does Ortho Bug-B-Gon Max provide fast results but it lasts for months. We have launched a brand of products called Basic solutions, to help provide a differentiation strategy and to simplify the shelf. Now being sold at Home Depot, this product line is a solution for the value conscious consumer who is looking for known and trusted brand to help solve their problems. In other words, they're looking for a basic solution. We've got a lot of strong programs coming out of controls business right now that make us feel good about the year. That optimism is also due to the addition of Eugene Sung to our team here at Scotts. Eugene recently joined us as Vice President of Marketing for Controls. He has a strong background with branded companies including Campbell Soup, Coca-Cola and Icon Media Lab. Eugene would tell you that all three of the initiatives I’ve outlined this morning would begin to help us better deal with the idea of consumer confusion at the shelf. We know that consumers want a product offering that is easy to understand, product names that make sense and most of all products that deliver superior results. Our hope is that we've begun to make strides that will reduce consumer walk-away and help drive this business. Both season long and Ortho Bug-B-Gon Max will be supported by advertising. You may recall we saw double digit POS growth for every product that was supported by advertising. Of course advertising is only one way we communicate with our consumers.

Our in store communications efforts are another competitive advantage for Scotts. The number of stores served by our more than 1,000 in store counselors this year will increase to another 10% to 2600. Overall our merchandisers who will spend more time working on displays and store sets helping improve the shopping for consumers and helping drive sales for Scotts and our retail partners. While I'm open the subject of communications let me add that we will once again take steps to increase traffic to our Website. Last year traffic to the site more than doubled to 12 million unique visitors and we had almost 1 million consumers signed up for our e-mail reminder service. We expect to dramatically increase those figures this year as we refine our partnership with the weather channel and weather.com and driver consumers to the site with with direct mail advertising and our packaging. Let me move on to the North American supply chain where we continue to make improvements that are allowing us to take more cost out of the business while improving customer service. While the first quarter is a small one, fill rates in the quarter were 98.3%. A major improvement from 96.7% a year earlier. Some of you may remember that these numbers were in the low 90s just a couple of years ago. Additionally we are now operational with the planning software system we purchased Fred Manugistics, helping us to manage our revenue turns. We continue we can double our revenue turns to six times within the next six years without impacting our service levels. By, many continue to improve making Scotts a more important and more efficient partner than ever. While we're on the issue of the supply chain let me anticipate one of your questions and discuss the issue of urea cost. Based on inventory levels throughout the year pricing that have been locked in we've now purchased about 75% of our urea this year.

Given this fact we remain confident that the fact, even with continue it pressure often natural gas prices is low. This is for three reasons. First, we have a well conceived purchasing strategy that allows us to meet our needs with off-shore suppliers and also allows us to lock in pricing in advance of taking delivery. Second, we built urea price increases into our budgeting assumptions so we're not surprised about what we're seeing now. In addition, we also have enough positive offsets in other raw material costs to offset the urea impact and fourth, our remaining impact is so minimal for the rest of the year that we wouldn't expect this to have a material impact on our overall cost of goods. Let me move on to Scotts LawnService. Customer service has become the overriding focus of the SLS management team and will be key to our long term success. We need our customers to view Scotts LawnService as a true Partnership partner in helping them create an outstanding lawn. While I'm confident we have a strong business model I believe we lost sight of the consumer in trying to achieve our targets, a mistake we cannot take again. Reassert our business level around superior customer service including completely overhauling our compensation program for all Scotts LawnService associates. Everyone in this business will now be incentivized on customer retention and maximizing service levels as well as attracting new customers and generating profitable revenue growth. Of course that's not to say that we're not working hard to attract new customers to Scotts LawnService. We've already started servicing lawns in Florida and our marketing efforts are rolling north over the next several weeks. By March we will have shipped 20 million pieces of district mail throughout our 68 direct markets. We feel good about where we stand. Our customer accounts entering the busy marketing season are ahead of last year and heading into expectations.

We are confident that SLS can grow into the 16 to 18% range this year with significant improvement. Let me give you a quick look of what's happening in Europe. Our growth integration plan remains in schedule and our U.K. and French businesses continue to work through their implementation of SAP which went live on April 1st. This one has had its challenges however our previous experience both in the U.S. and in other international markets makes us confident that we will be in good shape once we hit the heat of the season. As is true in the U.S. our citing efforts will be stepped up this year. Michel Farkouh is working on a number of TV spots for the season and are confident that what we've seen in 2003 will continue this year as well. We are expecting two to 3% growth for our overall international business in 2004 which should be anchored by 5 to 6% growth in the consumer business. As I said at the outset we are extremely pleased with our start, and are confident to achieve at least 10% growth this year. That level of performance is already on the upper end of consumer products companies and more impressive when you consider that we continue to invest in our business and decided to improve the transparency of our financials by stock options. Given 2003 in face of internal missteps and lousy weather in the peak of the growing season, I've got confidence that this gardening season can be a strong one. Our relationships with our retail partners have never been stronger. By continuing to focus on the fundamentals and with a little luck from mother nature 2004 has a potential for being another record year for Scotts. Let me turn the call over to Chris to give you a quick overview of the financials.

Thanks Jim and good morning everyone. As the first quarter represents less than 10% of our annual sales I'm going to keep my comments brief and as I have done consistently I will highlight significant impacts. With those comments let's move on. Global sales were 186 million in the quarter up 3% from 181 million last year. Excluding foreign exchange rates, sales were down 2% over the prior year. Our North American business which now includes both our consumer and professional businesses, declined 2% or approximately $2 million. This decrease was driven primarily by the timing of shipments to certain significant retail customers, as well as a special trade promotion held during the first quarter of 2003, that was not repeated this year. Scotts LawnService sales were up 21% in the quarter, to nearly $19 million, ahead of our expectations. Approximately one-half of the growth reflects an increase in the number of operating locations due to applications that, remainder is due to more favorable weather conditions and our successful marketing of add-on services in 2004. International sales were up 7% in the quarter but were down 9% excluding foreign exchange. The decline occurred both in Europe and Australia.

In our European consumer business we encountered some shipping delays as we continued our sku rationalization initiatives as part of our overall growth program. We expect to resolve these delays by the beginning of the season. In our European business we exited a very low margin line which had the effect of reducing sales. In Australia continued drought which has led to watering bans has depressed sales. The delay in shipments in North America and international also reflects continued focus on managing down inventory levels by the company's retail customers as they approach the ends of their fiscal years. We are comfortable with retailer inventory levels at the quarter and the sales outlook remains strong. Moving on to gross margins our first quarter gross margin excluding restructuring charges as a percentage of sales improved by 360 basis points.

Gross margins in our North American business increased over prior year primarily due to the timing of first quarter trade program costs, while gross margins for the international business improved primarily due to cost reductions associated with exiting a very low margin professional growing media line as previously mentioned. Our contribution under the Roundup agreement was even with last year's levels. Beginning in 2004, and going forward, the annual contribution payment will remain unchanged at $25 million. Advertising for the quarter decreased slightly from 8.6 million to 8.3 million, strictly due to a change in the first quarter sales mix of advertised products. We fully expect an increase in advertising spending as a percentage of sales for the fill year. SG&A excluding stock-based compensation, Scotts LawnService and nonrecurring charges, increased nearly 11 million from 67 million to 78 million. Excluding foreign exchange, that increase was 7 million or approximately 10%. Favorable to our full year guidance of 12 to 14%. Drivers of this year-over-year increase include nonrecurring bad debt recoveries in the prior year, and increased legal costs. In addition, selling expense in North America increased over the prior year reflecting the investments we made behind in-store service.

The accounting charges associated with granting stock-based compensation were about 1.3 million this year compared to 400,000 in 2003. As you'll recall, we elected to expense stock option grants in 2003 which has a significant impact on SG&A costs and bottom line growth. Expenses for stock-based compensation should increase by four to $5 million for 2004, compared to last year. To be clear, we are not issuing a larger number of options. We are simply recognizing the accounting charges over the three-year vesting pert. SG&A expenses for Scotts LawnService increased 24% to 12 million for the quarter primarily due to the impact of infrastructure investments and acquisitions made in the latter half of 2003. For the full year, we expect SG&A expense for Scotts LawnService to increase in lean with our earlier guidance. Total restructuring costs decreased to 1 million from 6 million in 2003, due to reduced costs associated with our North American distribution restructuring and the reduction of international plant closure cost compared to the prior year.

Interest expense was reported at about 56 million, compared to nearly 17 million in 2003. Of the 56 million, 44 million was the result of our successful debt refinancing in the quarter. Excluding this one-time refinancing charge, interest expense was 12 million, down nearly 5 million from last year. The decrease is due to the favorable rates in our new credit facility, as well as to lower borrowings which resulted from our strong cash flow in 2003. Debt net of cash at the end of the quarter was $815 million in 2004, down from $878 million in the first quarter of 2003. Our leverage ratio was 2.9 and our coverage ratio was 4.4 as of the end of the quarter, compared to 3.1 and 3.8 respectively for the same period last year. For the quarter, depreciation was 10 million and amortization was 3 million. Capital expenditures were 4 million. The comparable numbers for last year were 9 million, 3 million and 19 million, respectively. On the bottom line, the adjusted net loss for the quarter was essentially flat at 43 million. However, given the increase in the number of shares outstanding, the loss per share decreased from $1.42 in 2003, to $1.34 in 2004.

On the balance sheet, accounts receivable were up 20 million. However, excluding FX receivables were up approximately 4 million or less than 2%. Inventories were 442 million at the end of the quarter, 25 million or 6% increase over last year. Excluding the change in foreign exchange rates, inventories increased by 9 million or 2% as we build inventory in advance of the season. Overall we are pleased with our start to fiscal 2004. Consumer take away remains strong and we are focusing on controlling costs. As a result our first quarter results are better than we had anticipated. But while we are optimistic about the upcoming seen we recognize that our business can be volatile. Anyone living in the eastern United States can attest to the unpredictability of the weather. As a result it would be premature to raise our estimate. We look forward to providing insight as to how the season is unfolding at our conference call in ach. With that I'll turn the call over to the operator so we can answer your questions.

Thank you. We will now begin the question-and-answer session. If you'd like to ask a question, please press star 1. You'll be prompted to record your name. To withdraw your question, please press star 2. Once again, to ask a question please press star 1. One moment, please. Our first question comes from Bill Chappell of SunTrust Robinson Humphrey.

Thank you. A couple ever questions. First, on how to look at the guidance going forward in light of the better than expected performance. Should we assume this is more a timing issue, why you beat by 10 cents and you're not really raising guidance, should we assume you're more optimistic going forward, how should we look at the full year guidance in light of better than expected performance?

Okay, this is Jim. Good morning, Bill.

Good morning.

I'll sort of take that and then I'll hand it off to my handler, Chris Nagel. What would I say? I would say that Chris is absolutely right, to, as you guys remember last year, we were so positive coming into the second half of the year, and then saw it basically all evaporate in a month. Which I guess it's good we were so far ahead. But it was one of those years where I would just as soon forget about, although a lot of credit deserves -- you know, goes to sort of everybody who was involved in sort of making the year happen. But do I feel more confident in the year as a result of the first quarter benefit? Yes. Do I feel confident that -- whether it's capital spending that is significantly below budget right now, or it's G&A, which is below budget right now, that we're going to lock some of that in, yes. But do I agree with Chris that it is too early for Scotts to call our numbers up, yes. And I think that if we continue to see positiveness flow through into the next call, I think you might see a different attitude in regard to that. But you know, as it's a few months in, I mean, it's stilt snowing and everything, you know what I mean? And so that's my attitude. I don't know Chris if you want to add to that.

Not a lot Bill. Any favorability we have got locked in on spending, all I can say is we'll spend some of that and as Jim said we'll try to lock in some that. The only thing I can tell you at this point is I'd basically take the favorability and spread it out over the year. There is no science to that.

I did have one of our large shareholders at a conference a couple months ago ask me, if you are positive what do you do with it, and I think my attitude is, if we're positive, some of that would flow to the bottom line, and some of that would be had investments in marketing support, which as you guys know, we have a goal of about 7% advertising to sales. And we're I think like around 5 or something like that, maybe a little bit over 5. So what I told her, which is what I tell everybody, is that you know, we'll invest some of that money, and let some of it flow to the bottom line. Assume, again, that we're positive. Although we feel good, this season hasn't hit yet.

I guess I'd follow up on that same line. I mean, you've said that you expect kind of the conservatism to be up 5% and total business to be up 2% this year, and maybe I'm mistaken in those numbers but yet total inventories are up close to 9% on a currency adjusted basis. Does that mean you're more excited about that or is there something more I should read into that?

Bill, I want to make sure we're together on the numbers. Excluding FX, numbers were not up 9%. So I don't want you to sort of miss read what we said. I don't think you can read anything that we're building because of anticipation on the yeerd. We have a modest build excluding FX. We're obviously increasing inventory turns.

Final housekeeping, you may have put this out, is there somewhere where the businesses have been reclassified on a quarterly basis for 2002, so we have an apples to apples comparison?

Not externally yet. You'll be beginning to see that you know with our first quarter 10-K 10-Q. But it will come out publicly over the course of the year as we do our quarterly disclosures.

But to avoid confusion, can you call on the phone the financial group here.

Maybe we can consider once we're done with that, maybe we can consider putting it out on the Website or something like that.

Would that be helpful to you Bill?

I'll follow up offline. Thank you.

Joseph Altobello with CIBC you may can your question.

Some color here on the comment made before regarding the strong Q2 sales outlook. It sounds like some of the sales that happen in the December quarter are being pulled into the March quarter, is that correct?

))` Well, you know, I would say that what I tell people before I leave for Christmas is that I expect some people to come to work and sort of make sure that there's not a collapse at the -- you know, this is the bad part of being a public company, I think. But it just means the quarters count. And we got to make sure that like somebody's around to make sure that like stuff we said was going to happen does. I think we felt very strong going into the quarter close, and due to snow and basically trucks arriving, from one of our big retailers that pick up on their own, because the quarter was so strong we didn't kind of chase that and hound people who hadn't picked up stuff they said they were going to pick up that we knew would just flow into January. So to some extent, some business flowed from Q1 into Q2. I think that's what you're asking Joe.

Yes, actually, basically what I'm trying to get out is whether you're seeing any hesitancy on the part of retailers in building inventories after last year's weather?

No. I would say no. But I will add that I'm not sure if it's the end of February or the beginning of February but their year-end close, so the end of January is their year-end close and no matter what they say about like we're going to like pile it on, they do care about their inventories at year end, at their financial year end. And so you know, they remain sensitive to that. But about weather, no. I think that if you look at our top three accounts, and you know, this would be Depot, Walmart and Lowe's, they had really good years last year, okay? And I mean we've said that before. And that was with really crummy weather. So these guys are incredibly excited that if we can sort of use the stuff that we did last year to make for a good year, plus some really good stuff that's new, that we can have a really great year this year, provided we have decent weather. So I would say quite the contrary, you know, they're a pretty excitable group. They're people involved in selling and they're highly optimistic types, and that's good.

Okay. And what's driving the share count increase and what numbers should we be using on a fully diluted basis?

I'll answer the first part and Chris can -- I think it's $60 a share and options are turning into equity, I would say. That fair to say Chris?

That's fair to say.

Okay.

Not by me. I think the stock is, you know, has a lot more room to grow.

I think the guidance we were talking about something, 32.5 or something on a diluted basis for the full year.

Okay.

Joe we'll get back to you on that number, okay?

Okay, great, thanks.

You bet.

Ron Phyllis of Banc of America Securities. You may ask your questions.

I'm pretty concerned about my six Ps right now, and I was wondering if you could tell me about the timing about retail, would you --

Seven Ps. I'll do it. Proper preflight -- go ahead. You try it.

Proper planning prevents painfully poor performance.

I'll do it for you without leaving, proper preflight planning prevents [blank] poor performance. I think there is kind of three issues here. One is in North America, there is no issue. Okay? That the several million dollars that they're short of last year is like, I could have called these guys up the last week of December and said get those trucks that were scheduled to be in here and it would have happened, okay? But there was no pressure to do that, okay, from me. And there didn't need to be because we're coming out of the quarter or toward the end of the quarter very positively. So I would say no issue in the U.S. In regard to the -- to Europe, there's kind of two issues. One is, that when I first got involved in the European business, and this goes back to the late '80s, the -- you know, the first quarter or our first quarter, the fourth calendar quarter, was a business that was, I don't know, way over a third of the business was the first fiscal quarter for Scotts. The retailers today in Europe, even the independent retailers which represent about half the market over there, are much more sensitive to inventory going in the season, and rightfully so. Why would anybody want a whole lot of product even if we incentivized them to take it sort of before the new year's? Because it ain't selling, I don't care where you are unless you're in sort of Puerto Rico, you know southern hemisphere, it ain't selling until call it March. So therefore, there's no reason to do it, and I would say everybody recognizes sort of old and bad practice from the past. So part of what's occurring is that the other part of it Chris mentioned is the fact that we're going through an SAP implementation which we time to be in the slowest part of our season which is the fall. Okay? I don't think anybody -- and Scotts is a company with a really good history of implementing SAP throughout our global business. But to say that it doesn't affect the business when you're implementing it is -- nobody would say is true and therefore we're seeing some impact on timing of sales, not lost sales, but timing of sales in our European business. But remember, it's timed so that when the season is hitting hard, we've gotten through a lot of these issues. And most of these issues I think are pretty much known and resolved already. And you know, I have people nodding at me right now. So I would say those are kind of the issues. No issues in North America and a couple of issues in Europe, one related to retailers want the product later, and the other is, we're going through a major SAP implementation in France and the U.K. Long answer. I'm sorry it's so long.

That's fine. Have terms trade -- have terms changed with retailers?

No.

Thanks.

You bet. It was a good question. Seven Ps. I don't think we violated the seven Ps.

We try not to.

Once again to ask a question please press star one. Jim Barrett of C. L. King and Associates. You may ask your question.

Good morning.

Hi Jim.

Jim, did you take a look at the New England pottery acquisition by Central, and why didn't you purchase the company as opposed to them, given your interest in that category?

Okay, I'll probably get myself in trouble. Never say no. First of all, you know, our view is when we looked at Central's stock price yesterday is if we had done that deal our stock would have gone down $3, not up $3. I don't know why. But -- you know, one of the things that we have, I think, heard from you all and been dealing with internally is the issue of focus. Whether it's tools, lawn service, pottery, you know, certainly you name it, and you know, I think you were at my table at lunch when we talked about focus at the investor conference. So pottery is a business that we remain interested in, but only after we are working on our core business and focusing on that properly. And one of the things that Bob Bernstock rightfully has done, I think as most of you know, killed our tools project, just because, you know, sort of criteria and prerequisites for entering that business include high margin, which I think we basically looked at and said not high enough. And we've continued to look and investigate whether [indiscernible] is a good market for us or not. But I don't think it's a sure conclusion that it is yet. Or, that it's not. But I would say we ain't ready to be plunking down $75 million or whatever they spent for a -- for clay pots, or even with some fancy stuff in there. And definitely no interest in sort of Christmas lights.

Understand that. So can you tell us, what is the magnitude of your pottery effort in '04?

No. And I'm not trying to be smart with you.

Yeah.

But I would say probably smaller than I had thought a year ago. And mostly because we're trying to do it right. And therefore, we ain't going to come out with something until we're ready and feel good that we have something that works. You know, we bought some small acquisitions, we're mostly supply chain exercises last year. Those businesses are -- which I think the businesses in general, heavy weight sort of terra cotta and clay. Bob you might want to add on that. Our first look at that, the heavy weight business clay pots itself does not look that interesting to us, okay? And so I think what is important for us then ask to not only service the business we currently own, but to say, and learn from that, but to say that the real value in the pottery business as far as we're concerned if it's branded pots is in light weight, you know, fiberglass and architectural foam. And you know, that group continues to sort of investigate and work on that. Although we have some good programs with some of our largest retailers for pottery for this coming year. And by the way, it's selling really well. But we're not ready to say it's a core part of our business yet. Bob, you want to add anything to that?

I think Jim's comments were spot-on. I just want to summarize and reemphasize three or four things he said. The first is focus on the core. Our core businesses, because I think there's great potential to continue to build them. The second is our decision whether or not to pursue pottery is whether or not we can come up with a compelling business model and we're examining that right, we're not going to do it unless can do it right. And I think the last point that Jim made is if there's a place too start it's not clear that clay pots is where we should start. That we're relooking where we should enter the pottery business. So I think and that just reinforced what Jim said. I think his comments were spot-on.

Understand. And Jim you did mention that you would be merchandising 10% more stores this year, 2600 new stores. Are you increasing the number of merchandisers or are you simply requiring them to visit more stores?

I'll ask Barry Sanders to answer.

We will hit 10% so increasing the number of folks we will have in the stores.

Thank you very much.

You bet.

Joe Norton of Banc of America Securities. You may ask your questions.

Good morning. I have a couple of questions about the margins. First of all, on the gross margin line, one of the issues you cited or positive things you said was reduction ever first quarter trade program. Is that just promotions? Basically that was the promotion you were referring to that took place last year and no, sir this year?

This is Chris. That was certainly part of it. Timing issue as well in terms of when cost hit. And there were a example of a promotion you cite there is nonrecurring but it is a little bit of both.

But the nonrecurring is not bad news. That promotion last year was a promotion to sort of keep a large questionable retailer sort of in the game. And so that was important that we do that.

Okay. So that part of it is not something you'd expect to carry through for the rest of the year?

The program will not recur. The timing of the other things, it will sort of even out over the course of the rest of the fiscal year.

And then on the international side, can you quantify the amount of sales that were, you know, how much sales you guys got back with this reduction in SKUs or is there any way you can quantify that piece of it?

I would say we're not really dealing with cutting back sales. I would say if you're asking like because of SAP and the sort of major change in the SKU count, which you know, is hard work by the team, how much sales do we lose, you know, less than 10 million. And Chris is saying half that. The point is not to lose sales as we reduce the SKUs, it's to basically make more money. Without losing sales. So I would say that you know, it was a fairly major, as we talked about before, imagine like four of the people in the room here, each one is a country or a business, they all had their own supply chains, they all had different bottle suppliers and all had different factories. And we said we would have one factory and we understand that maybe in France they want culturally a different lawn fertilizer than they do in the U.K. or Germany. But we're going to have a much smaller catalog of available choices for marketers in each of the countries. That's what really this was about. Is rationalizing our manufacturing, rationalizing our sort of inputs and reducing the number of choices that the marketers have not to reduce sales but to make more money. I don't know if that makes sense but --

No, that makes sense and I wasn't saying it was a bad thing. I mean, I think reducing low margin products is a good thing.

But we're struggling a little bit with it. I'm going to say that we have some really great effort by the Europeans, and we've got a like ton of Americans over there working really closely with them. And if you ask me, how SAP is going, I'd say we probably made a lot more mistakes in America when we did it than the European -- the Europeans, it's actually a pretty smooth -- although nobody is going to say they went through an SAP implementation without some bumps.

And then secondly I just wanted to ask about the SG&A. You said it was I guess lower than your plan or lower than you had projected during the quarter. Can you give us any more color on what was driving that?

On the bearings to what we anticipated Joe? Let me put Hag color on it and then Nagel can put his part on it. If there was any puking in December at the analyst coverage it was basically people looking at us with their eyes bulging and popped out of their heads. We came back here and said you know what, we got to focus on the core business. Some of the other stuff we don't have to do and let's look at everywhere we're spending money and saying you know what, you got less money now. And so I know Tony Coltrella who is our controller has a budgeting process that's about to start I think a rebudget for the year, we're likely to bake a lot of those into the full year. But I think it's partly listening to you all and saying you know what, let's prioritize a little more, and we don't need bulging and people criticizing us. Because you know what, we said it when Alice from First Boston looked at us and said not sustainable, and we startled rebudgeting.

The only color I'd add to that is I think we're basically seeing favorability across the board both in sort of corporate G&A and business unit G&A. To add to Jim's comment on how much we're going to bake in, we're aggressively trying to control our SG&A and trying to bake it in. Part of it will be spent as timing. So we're working through that now and we'll probably get a better idea ourselves many, in a few weeks, as we complete our reforecast. But I think overall, every aspect of the business understands how important it is to control our spending. And I think we're off to a good start.

Okay. Good. Thank you very much.

Okay. In the interest of time we can take only two more questions. For anybody who we have not gotten to, please don't hesitate to call us today on our IR line and we'll get back to you as soon as possible.

Daro Mafinian of J.P. Morgan. You may ask your question.

Good morning. Most of my questions have been answered but can you give me an idea of live gd in 2004, general overview of your thoughts on the segment.

Yeah, I can. First of all we have a much bigger program with Lowe's, this year than we had last year. And you remember last year was the first year we went national with the program. Just as a kind of a recap on what did we learn, we learned that the more organized and buttoned down the program was with Lowe's the buyers and the growers, who produce for us, because remember we don't own any of this product. We produce a spec for growing it. We collect the royalty for the use of the brand. We work on the marketing side of it. But I would say it's a pretty much of a group effort, although we don't own any inventory. I think that three quarters of the country we learned really good stuff about how to do it right and about a quarter of the country we learned like -- we learned how to do things better, that's a good way to say it. Which I don't think anybody should stick their head and say that's terrible. That's what we're supposed to learn the first year we went national. You know, of course the more successful, all due respect to my friends in Charlotte, the more successful it is the more they would sort of like to negotiate fees. I said I'm not talking about fees until you guys tell me the program is going to be a hell of a lot bigger. So we reached I think a very good understanding on the size of the program which is much bigger and on fees. Which they might say is more efficient. But we learned a lot. Everybody is really excited about the program. And I don't know exactly what the numbers are. But most of the plants you're going to see at Lowe's next year are going to be branded plants using our Miracle-Gro brand. Barry? Any more about that?

At gris we weren't in last year which is going to drive.

Like what?

We're going to be in, Tim you may want to comment on that, more than just the three-inch perennial, other categories that is going to add, vegetables and herbs and things like that so I think it's going to look really great.

Okay, great.

Okay.

Michael Millman. You may ask your question.

Thank you. I wanted to follow up on the SG&A question. I think if you're talking about the puking was when we heard that the SG&A was going to grow at a faster rate than sales. Are we likely now to see SG&A come out at a slower rate than sales, and also, as part of that change going to be moving away from advertising at 7% of sales? And of course, if sales -- if SG&A is --

Mike, I'm not going to cut you off, so let me just answer that question, then we'll get the second part or third part of your question, okay? The answer is, I doubt it, as far as SG&A, growing at a lower rate than sales. But let me explain a little bit about why some of that is happening. I think everybody's aware that last year we actually had a bad debt recovery in North America, net of all the expenses on bad debt we actually made money on North America because we got a major recovery, okay? We don't want to assume that's going to happen every year, and all we've done this year is go back to a normal sort of percentage of sales for bad debt, which gives us a bad comparison compared to last year, okay? Okay, nothing unusual happening, if anything unusual, it was last year based on the recovery. So that makes us look bad year over year. The second is the -- is that let's say let's talk about incentive, okay? Incentive is another area where while you may say wow, they had double net income growth, that is below budget, was below our budget, and the North American payout for incentive was like 50% of target. Okay? Now, they would hit target if they hit budget, okay? And it's not like linear, by the way. In case you try to figure it out. The -- and there's a lot of inputs to it. So when we budget, we budget to hit budgets. And therefore, we have like it's sort of a comparison issue on incentive as well. Again, you know, that's probably worth a couple million bucks, okay? I'll let Chris sort of jump on there. But I think that those two issues are pretty important. Oh, and the last part is, are we moving away from 7% as our goal on advertising, absolutely definitely not. And if somebody said you have to, I would say I'll change the way we run this business before I do that. I am absolutely totally convinced that -- and when I say advertising, I mean our total marketing efforts are below what they need to be. And that every time we come out with a new product, like Eugene's season long grass and weed killer, it's like having a new kid you got to send to college, okay, and if you say I'm going to have like 20 kids, you better get a raise, okay? Which means, and that raise is, we got to plan on sending our kids to college. And the only way you, you know, that our brands will get to college is if we support them properly, and college is promoting them properly. We have to do that. And so you know, I'll look at every single line in our budget, in our P&L, if that's what it takes to say we are going to get to 7%, in my lifetime. And I don't mean like in the long term. I mean sort of within our strategic planning process.

The comments I would add would be, you know, we're going to secure some of this savings this year, and it's our intention to spend less than we bided to at our previous guidance meeting. Will we get to the point this year where we're spending -- our growth in SG&A is less than sales, I'm not sure we'll get there this year, I think that's unlikely. We definitely have a plan, in fact we're sort of presenting our strategic plan that Jim referred to our board later this week, where we fully anticipate that it will be a fundamental tenet to our plan, that less than sales, and order of magnitude of half of the sales growth. We've heard the message, we understand it clearly as a team, and we're taking it seriously. So we'll do better this year on SG&A than we've guided. I don't think we'll get down to the point you suggested but we'll have favorable --

I think if you take some of these timing issues out we'll probably be growing at around or below the rate of sales, the rate of sales growth.

On an apples to apples basis?

Yes. Yes.

Great, thank you.

You bet. Thanks everyone for participating. If you were in the queue and we couldn't get to you or if you have any questions, please call us on our IR line. Otherwise we look forward to talking to you again in April when we announce our second quarter results.

Thanks everybody.