Scotts Miracle-Gro Co (SMG) 2005 Q1 法說會逐字稿

Good morning. Welcome to the Scott Company first-quarter 2005 earnings release conference. (OPERATOR INSTRUCTIONS) Today's conference is being recorded. If you have any objections, you may disconnect at this time. Now I will turn the meeting over to Mr. Paul Desantis, Vice President, Corporate Treasurer. Mr. Desantis, you may begin.

Thank you, operator. Good morning, everyone, and welcome to our first-quarter conference call. With us 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 and 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 at 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As a reminder, this call is being recorded, and an archived version of the call will also be available on the IR portion of the website.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 this morning relating to non-GAAP financial measures not covered in 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.

There's probably one place in America where gardening is top of mind right now, and that's here at Scotts. Although the first quarter is a seasonal loss for us, we're very pleased with the results we announced this morning. Every business segment out-performed its budget on both the top and bottom lines, and each is off to a strong start as we approach the season.

Consumer purchases of our products were in line with sales, up 8 percent, telling us that the consumer remains committed to the category even during the off-season. The biggest POS gains we saw in the quarter were Roundup, up 26 percent, and Ortho, up 7 percent.

The impact of Smith & Hawken, along with our ability to continue driving consumers to higher-margin, value-added products, allowed us to see gross margin improvement was slightly ahead of our expectations. Meanwhile, SG&A was consistent with our expectations. Additionally, we're feeling increasingly confident that the pricing we took is sticking across all retail channels. Raw material prices, including urea, currently are within the assumptions we made entering the year. And average oil prices have been below the $50 a barrel we forecasted when developing our budget. So, we remain very confident in our full-year guidance that sales will increase 12 to 13 percent on the year, 4.5 to 5.5 excluding Smith & Hawken, and that the adjusted net income would increase 10 to 12 percent.

While our results this morning exceeded our own budget and are consistent with our full-year guidance, we recognize they fell short of First Call consensus. Let me address that.

For years we have tried to provide Wall Street with quarterly earnings guidance, a practice we have decided to abandon. Anyone who follows Scotts knows that the volatility of the business is difficult to accurately predict on a quarterly basis. The correct way to look at our business is on a full-year basis. We can tell you with confidence that we expect earnings to grow 10 to 12 percent, but we can't tell you exactly how much of that will occur in March versus April or June versus July. Within the balance of FD, our investor relations team will try and help you understand the key drivers in our category and historical patterns of our business.

With that, let me move on and explain why I believe Scotts is well positioned as we prepare for the peak of the lawn and garden season.

Throughout 2005 you will hear a recurring theme on these calls; it's the same one we discussed at our meeting in December and then outlined in our recent Annual Report. Our communications with you throughout the year will be in the context of our Grow Excellence initiative, a multifaceted program that includes a simple yet clear articulation of our long-term strategies. It also defines the characteristics of the high-performance culture we are creating here at Scotts.

If you joined us in December, you heard me explain our strategy in three simple words -- Grow, excel, and win. This morning and throughout the year I want to elaborate on those three words and then explain our performance within that context.

We have told you that we use our knowledge of the consumer to better serve their needs, and that we will grow by doing three things -- focusing on our core businesses; extending our reach into new markets; and providing products for a garden-inspired lifestyle. These strategies to grow, coupled with initiatives to excel in innovation, supply chain, sales and marketing, will allow us to build stronger relationships with our retail partners that will also drive our business.

When we talk about winning, it translates into increasing our market share and enhancing shareholder value. For Wall Street we expect that will mean continued improvement in critical valuation measures like margin expansion, operating profit, free cash flow, and return on invested capital.

Stepping back now to explain our growth strategy, I want to highlight some of the ways in which we are focusing on the core business.

We are off to a good start in North America and our listings look good. We're confident our new product offerings will provide solid incremental gains that lead to higher market share and that our continued focus on value-added products will help improve margins for both Scotts and our retailers. So far retailers have been enthusiastic about our plans and optimistic about the lawn and garden category as we enter the season. They have especially embraced our Southern lawn strategy which includes the introduction of three products specially formulated for the unique challenges of that region. It also includes a targeted regional advertising campaign, bilingual packaging, and other in-store support.

We're especially optimistic about our prospects of the TurfBuilder with fire ant killer. If any of you are from the South, you'll know that pests, especially fire ants, not only are a nuisance, but are also viewed as a health concern by consumers, especially those with children and pets. This is the first time that Scotts will offer a combination fertilizer product that also provides fire ant protection. And it's the first time that we'll be co-branding a product to drive sales. The packaging prominently displays both Scotts and Ortho MAX brands.

Additionally, our television advertising, which is being completed within the next several weeks, will promote growth brands as well. It will remind the consumer that TurfBuilder will help them create a beautiful lawn and the power of OrthoMax will help them eliminate fire ants. When those commercials are complete, our Investor Relations department will e-mail you a link so you can see them on our website. When you view the advertising, I think you'll understand why we believe it will resonate with consumers. So far retailers have been extremely supportive of the product. They share our beliefs that TurfBuilder with fire ant killer will be key to driving growth in the lawn business throughout the South.

We're also optimistic about our ability to build upon a 16 percent growth we saw in Ortho last year. At our meeting in December we displayed the new packaging, as well as some details of the marketing strategy related to Ortho Home Defense Max Ortho Weed-B-Gon Max.

Our plans are quite similar to what we did in 2004. Our product messages will be clearer and more compelling and our packaging will be designed to stand out on the shelf. We believe these efforts will help us continue reducing the potential for consumer confusion within the controls category. That's been a hurdle to growth in the past, but one that we are increasingly confident we can clear.

Succeeding against this plan means we continue to move the consumer up the value chain to higher-margin, value-added products. All of our research tells us that consumers are willing to pay higher prices for control products if they believe them to be safe for use and effective in eliminating pests. That's why we've adopted the Max strategy within Ortho, and it's been key to our success so far.

Let me move on to our gardens business where we're also seeing continued willingness by the consumer to move up the value chain. As a result, we once again focus on the high-margin, value-added growing media products like our Super Premium Miracle-Gro Potting Mix With Moisture Control. All of our advertising in growing media will focus on the value-added products that have helped drive the probability of this business over the last several years. Additionally, we expect new line products under the Miracle-Gro Organic Choice to provide incremental opportunities from consumers who prefer to have a fully organic solution to their gardening needs.

In plant food we're preparing new commercials to support Miracle-Gro Shake N' Feed as we remain focused on improving our market share in the fast-growing continuous release segment of the category. We also expect improved packaging, new sizes and a wider variety of products that will help improve sales as well.

Across all segments of the core North American business we remain confident about our prospects, and in the 5 to 6 percent sales growth we have targeted.

Briefly let me discuss our second growth strategy, to expand our reach. This relates to our efforts with Scotts LawnService.

We are increasingly encouraged that the performance of this business, especially with the critical mass we now have. In only its fifth real year of operation, Scotts LawnService will exceed $180 million in revenue this year, nearly 20 percent the size of the industry leader. And it continues to improve its strong number two position in the lawn service industry.

As we have shared in the past, mature branches are capable of generating operating margins north of 20 percent. Over time we expect SLS to be even more critical in helping improve Scotts' overall profitability. Again this year most of the growth at SLS will be organic, since we completed only a couple of small acquisitions last year. At the end of the quarter our customer count of 320,000 was nearly 8 percent better than a year ago. Our retention rate was at an all-time high and significantly better than the competition. And remember, these improvements occurred even though last year we took a mid-season price increase.

Our 2005 spring marketing campaign is off and running with all the lessons from 2004 incorporated into our sales and marketing communications. Our marketing message focuses even more intensely on customer service, encouraging homeowners to see us as a partner that will provide them with superior service levels.

Within the last two weeks we sent nearly 1 million pieces of direct mail to our warm-weather markets in the South, and our customer counts are currently running slightly ahead of our plan. By March, we will send out another 20 million direct-mail pieces throughout the business.

Let me very quickly shift gears and talk about our International business, which like North America and SLS got off to a solid start for the year.

Every major country reported higher year-over-year sales and listings, and most markets have improved. Also, each of the various businesses did a good job of keeping expenses in check. We're also confident the internal challenge that we had last year due to our SAP limitation are behind us.

When we continue to affect considerable improvements in the International business for the full year. However, our overall view of the business from a strategic perspective has not changed. We continue to have a bias to extract capital from this business. But we remain several months away from developing a plan that outlines the best strategy to achieve this goal. We continue to hold discussions with Monsanto about our European Roundup business, which we must get resolved before we can move forward with any broader plan. I'm not going to share any more details of where these things stand, but I will reiterate that it will likely be a while before we see resolution with International.

With that, let me move on. Within our growth strategy I will discuss the ways in which we're focusing on the core business and how we're extending our reach at Scotts LawnService.

The third leg of our growth strategy is provide products that support a garden-inspired lifestyle. That translates to Smith & Hawken. Given its retail presence the first quarter is more important for Smith & Hawken than the rest of Scotts. The business exceeded expectations in some areas during the quarter and fell short in others. But overall, sales were pretty much in line with what we expected. As you know, however, we're far more interested in developing a long-term strategy for Smith & Hawken than we are in its near-term performance.

As our integration efforts intensify we are increasingly encouraged about the potential for Smith & Hawken brand to expand into other channels of retail. For the rest of 2005, we're (technical difficulty) focus on two things -- a continued evaluation of our existing stores, and increased outreach program for premium independent garden centers. Our goal is to make sure all the stores are (inaudible) high-traffic locations. This will help ensure that they allow us to firmly establish Smith & Hawken as the premier brand in outdoor living.

Using the stores to set the tone for the brand will make Smith & Hawken more attractive to our existing retail partners, which we believe ultimately will drive sales for that business. Additionally, we're exploring the most effective way to maximize Smith & Hawken's Internet and catalog businesses. These are two areas of the business the provide almost instant feedback from the consumer, providing critical intelligence that will help us learn what products are also likely to succeed in retail as well. There is no doubt that 2005 will be a learning and planning year for us at Smith & Hawken.

Whether it's the core business, Scotts LawnService or Smith & Hawken, I believe we are well positioned to deliver on a growth strategy that will continue to drive shareholder value. Things will be getting extremely busy here within just a matter of weeks. February is more important as a single month, November, December or January combined. And of course March is larger than all four.

I feel really good about the business right now, and I know the rest of the management team does as well. Retail inventories look good, our programs are being strongly accepted, and our early season sell in is on schedule. We're not only successfully managing our cost of goods, but everyone in the organization has an eye on SG&A to help us ensure that we keep expenses in check.

Before I turn the call over to Chris, I know we're likely to get questions about the recent acquisition of United Industries by Rayovac, so let me go ahead and proactively address that question now.

Within hours of the announcement, some of you had speculated this will mean more competition, and will therefore be bad for Scotts. At the same time some of you said it would be good for Scotts. Let me say this -- as a private company United was a respectable competitor. We assume that Rayovac will be interested in making them even more competitive, and for Scotts that's good news.

One of our biggest challenges is making sure our leadership in the category doesn't cause us to get complacent. Scotts is a company that likes to compete, and more importantly likes to win. In fact, keep in mind the three words that define our strategy -- grow, excel and win. So we welcome Rayovac to the category and look forward to competing with them. I'm sure their entry into lawn and garden will help us stay on our toes.

But as I have shared this morning, we have a clear strategy to grow our core business and will remain committed to that strategy. The competitive landscape is always a fluid one and we need to remain focused on our plans, not someone else's. We remain confident that staying focused on our strategy will allow us to continue improving our market position and enhancing shareholder value at Scotts.

With that, I will turn the call over to Chris to quickly discuss the financials.

Thanks, Jim, and good morning, everyone. As I have done consistently, I will highlight areas where foreign exchange rates have significantly impacted our financial statements. With those comments, let's move on.

Global sales including Smith & Hawken were 244 million in the quarter, up 35 percent from last year. Excluding Smith & Hawken and foreign exchange rates, sales were up 8 percent over the prior year.

In North America sales increased 9 percent to 113 million, with most brands experiencing good growth. New products, including our lawn products for Southern lawns and our repositioned Ortho weed killers, are being well received by our retail partners.

Scotts LawnService sales were up 13 percent in the quarter. The business continues to enjoy impressive organic growth with the increase in sales driven primarily by increased customer count and to a lesser extent increased pricing taken in both fiscal 2004 and the first quarter of 2005. Customer retention levels for the 12 month period were at all-time high, and continuous improvement of this metric remain a key objective for the business in fiscal '05.

International sales were up 6 percent in the quarter, excluding foreign exchange. The increase occurred primarily in the UK and Central Europe.

Gross margin, excluding restructuring charges, improved to 28 percent from 26.7 percent for the same period a year earlier. The improvement was primarily due to the impact of Smith & Hawken, which enjoys higher margin than the Company's other businesses in the first quarter of the fiscal year. Excluding Smith & Hawken, gross margin increased 30 basis points. Notably, first quarter represents less than 11 percent of annual sales for the business overall, while first quarter represents around 30 percent of annual sales for Smith & Hawken.

Our net expense under the Roundup agreement of 7.1 million was even with last year. The annual contribution payment will remain constant at 25 million unless the Company exceeds established profit targets. Scotts does not recognize commission until minimum profit levels required by the Roundup agreement are reached, which is typically in the second quarter.

Advertising for the quarter increased to 14.7 million. Excluding the effect of Smith & Hawken, advertising increased to 10.3 million from 8.3 million. We expect a slight increase in advertising spending as a percentage of sales for the full year, consistent with our previous guidance. The increase in the quarter is due to a change in the first quarter sales mix of advertised products.

Total SG&A expense for the quarter was 113 million compared with 91 million a year ago. The increase in SG&A, which is in line with plans, was primarily driven by the addition of Smith & Hawken, 9 million; Scotts LawnService, 3 million; foreign exchange, 2 million; as well as increased cost for legal, 2 million; North American selling, 2 million; and Sarbanes-Oxley compliance and audit fees, 1 million. The increase also includes the incremental third-year impact associated with the Company's 2003 decision to expense stock options of additional 1 million.

To be clear, we are not issuing a larger number of options. In fact, we issued fewer options in fiscal 2005 than we have in recent years. We're simply recognizing the accounting change over the final year of the options' three-year vesting period.

The Company expects total SG&A expense for the full year to remain in line with previous guidance.

SG&A expenses for Scotts LawnService increased to 14 million from 11 million for the same quarter last year, primarily attributed to infrastructure investments, marketing cost, and selling expenses, reflecting the overall growth of the business.

Restructuring charges and both gross margin and SG&A totaled 200,000 for the quarter, compared to 1 million last year as our restructuring program in International winds down.

Interest expense was 10 million compared to nearly 56 million in 2004, which included 44 million of debt refinancing costs. We've also reduced our average debt by 120 million despite the adverse impact of foreign exchange rates that have added 10 million to the average.

Our leverage ratio is 2.3 and our coverage ratio was 6.2 as of the end of the quarter compared to 2.9 and 4.4 respectively for the same period last year.

For the quarter, depreciation was 12.5 million and amortization was 3.4 million. Capital expenditures were 5 million. The comparable figures for last year were 10.2 million, 3.2 million, and 4 million respectively.

On the bottom line, the adjusted net loss for the quarter excluding restructuring and other charges was 49 million compared to 43 million last year. The loss per share was $1.49 compared with $1.34 in 2004. Including restructuring and nonrecurring items, reported net loss for the quarter was 49 million or $1.49 per share compared to 71 million or $2.21 per share last year.

In connection with our annual strategic planning process, the Company is reviewing whether a non-cash impairment charge is necessary to write down the value of certain European assets. The Company will complete its analysis prior to filing its first-quarter consolidated financial statements to be included in Form 10-Q, which will be filed with the SEC in early to mid-February.

On the balance sheet accounts receivable of 246 million were up 17 million from last year. However, excluding FX receivables were up approximately 8 million or 3 percent.

Inventories were 501 million at the end of the quarter, a 59 million increase over last year. Excluding the effect of Smith & Hawken and foreign exchange rates, inventories increased by approximately 6 percent. The increase in inventories is primarily driven by our International business in order to avoid customer service issues experienced last year due to inadequate inventory levels. We are comfortable with North American retailer inventory at the end of the quarter, and the sales outlook for the second quarter remains strong.

Overall we are pleased with our start to fiscal 2005. Although, as Jim said, we do not provide guidance on a quarterly basis, I can say that the first quarter performance was slightly ahead of our internal plans. Consumer take away remains strong, and we are well positioned to enter the peak of the lawn and garden season. Our guidance for the full year adjusted net income growth remains unchanged at 10 to 12 percent.

With that, I will turn the call over to the operator so we can answer your questions.

(OPERATOR INSTRUCTIONS) Alice Longley, Fulcrum.

My question is about your International division. We all know that the returns are low there and it sounds as though you might want to get out of those businesses. Are you interested in keeping part of the business? For instance, is that UK business strong enough for you to keep, and maybe you just want to get out of the Continental business? Or is the whole business maybe unattractive in terms of returns? That's question number one.

You remember your questions, I'll answer it, and then we will go to number two. Otherwise I'll forget and I will just look dumber than I am.

So let's start with -- I'm going to say this is my view. We have a Board meeting this week which is our three-day strategic retreat with our Board. So this is going to come up as a sort of continued discussion in regard to Europe.

My view is that the business in Europe is a pretty good business -- now, don't misread what I'm about to say -- but that it is a business that together is a consumer business. It's a business that's growing sort of at least in line with other European businesses. It is the market leader in Europe, including the UK and Ireland and all that. And so I think that it's an attractive business as a package. And I think we actually make the business less attractive by breaking it up into pieces. So combine that with a view that says extract capital out, and I think no, I don't think that at least it is my bias today to say we would sell off piecemeal various countries. That's not to say we wouldn't consider it, but that is not our point of view today, at least not my point of view.

So that's number one. What was number two?

Number two is we can't know from here just what kind of a price or multiple on cash flow you might get for those businesses. But penciling it out, it looks like a sale of that business might be dilutive. And I was wondering if you would tell us how much dilution you be willing to take to get out of that International business.

I'm going to start -- I'll hand it to Chris, but let me -- Alice, as usual, good questions. I would say I think we have to look at it from a cash flow and return on capital point of view more than we do on an EPS point of view. So I think that my expectation is that we could invest that money better and provide a higher return for what we believe those businesses are worth in the US or return that money -- if we couldn't invest it better, return it to the shareholders.

So that is kind of my view, is that I'm quite sure it would be dilutive, at least up front. But I'm not sure that's the right way to look at it. I think that it's about returns on capital and sort of the efficiency of the use of the money. And I don't think -- and this is my big problem, and I think Chris' and my big problem with the European business, is that from a capital point of view, based on the our, I think, very good market position here in the US and our ability to and relationships with our major retail partners, that the leverage we have in the American market, or North American market, is so much better than the European market that I just don't think it would take very much. Because remember, on a return on capital basis I think we would be lucky to be getting, call it 4 percent return on the European business. Bob Bernstock's business is a serious double-digit return on capital business.

And so I think I am less concerned about EPS dilution than I am saying could we take that money and deliver a higher rate of return on it in North America. And I think answer to that is -- not I think -- I know the answer is yes.

But it would take a while to get that higher return because you have to get the cash out and then --

I don't know. To me, and maybe I'm like -- because I’m not the economist dude here, but I would say if you're earning 4 percent, our cost of capital is higher than that. So it's one of those sad things; if you pay down debt it's probably like better than owning it.

But Chris, do you want to take over, because I'm into economics and that ain't my thing?

I don't think we have a number yet in terms of if there's some limit in terms of the EPS dilution. I do think that we would anticipate that there would be some. And I would support what Jim said. I don't think that near-term EPS dilution is our primary metric. Considering that the value of the business, I think that it would be accretive in so many other ways, and most importantly on return on capital that we have invested, that I think for longer-term we still think the right thing to do is to reinvest.

I think when it comes right down to it -- and I'm sort of speaking to the whole group that's on the phone -- we are definitely as a team into this view that says it is return on capital and cash flows that drive the value of an enterprise. And I think that's what Chris really is saying when he says there's so many other ways that it's accretive. EPS is not one of them.

Thank you very much.

Bill Chappell, SunTrust Robinson Humphrey.

A couple questions for kind of clarification. First, on the LawnService business, did you say you expect the business to do 180 million in revenue this year?

That 188 includes our franchise revenue. I was trying to make the point, which is remember that is a business that while I think we've been in it like seven years, and I said five real years, the first couple of years we were kind of what we call the three Cs -- Cleveland, Cincinnati and Columbus. And I told those guys, "you can't go anywhere until you start getting scary" (ph). I think what that means is develop a business model that we think we can roll out, whether it's organically or through acquisitions, that we understand what we're trying to do.

That was about five years ago. So if you include sort of the global sales of that business and say it's almost $200 million in five years that they have had the leash removed, I think that's pretty cool. So that's what we meant. Without franchise revenue, you're looking for what approximately?

A little north of 150 million.

The second question, on the Smith & Hawken, I know you're not going to be a long-term retailer, but from the metrics you gave us at the analyst day, it looked like revenue should have come in about 45 to 50 million for the quarter, and you came a little bit light on that. Any commentary or same-store sales or any reason why that was a little short?

I'm not going to get into a lot of detail on Smith & Hawken, except to say they were within $1 million of their sales number roughly. I think it's less than that. But I would say from my point of view it's in the noise (ph). I think there's a lot of stuff we want to get done at Smith & Hawken, and improvements we believe are at least pretty obvious to us. And we're working closely with their management -- or I should say our management -- to make those changes. And I think Bob, you might want to comment on kind of your vision for where we go with Smith & Hawken.

Just very briefly summarize three kinds of initiatives we see it taking over the next few years.

A little bit of sharpening of the positioning to move us more towards outdoor living. We've taken a look at 60 or so stores that are within the franchise. We're going to stay at that number. And we've seen which stores are working better than others, and kind of tends to be the larger stores. We're going to move more towards a model of larger icon stores in the right locations. Kind of sharpen the focus on catalog and Internet and really work on a merchandising strategy.

Also, to your original question, Bill, there's really two businesses. There's a seasonal holiday business, and then there is sort of an outdoor living business. And the one we're primarily focused on is the outdoor living one. The seasonal one is going to become a little bit less important over time, which is what this fourth quarter or first quarter was all about.

On the cost, you said last month you have a better idea as we're getting into February of kind of what the urea costs and commodity costs would do to 2005. Any more color on that?

Yes, I think we're not scared like I was in the beginning of the budgeting cycle. I don't know what the numbers are as far as percent sort of lawn fertilizer, which is a big urea user, is manufactured. But it's got to be the vast majority is made. Urea is within our budget parameters. Our fuel pricing, while it's edging up, I think it's still below $50, and that's within our budget parameters.

So I don't think that there's bad news. And as we go forward, and we said, we took pricing. And our pricing was sort out in line with what our competitors took. And they announced that on their call when Rayovac announced their acquisition. So I think this is positive. Not think -- I know it's positive. And I'm just not willing to sort of say what it is. And we will have to just see how -- at this point I think that our cost and pricing assumptions are probably good, and it's a matter of selling stuff. The guy who used to run the North American business said, "when all else fails, sell something". And I think that's the mode we're in right now, is to sell stuff.

Thanks.

Ron Phillis, Banc of America.

We like to make sure that we're minding our six or seven Ps. Is it seven Ps?

Seven Ps.

Most of the debt folks look at cash, so kind of wondering given your dominance in -- or largest market share in the lawn and garden space, where do you deploy cash? You really can't buy anything, right?

It's a good question. Was that the question?

Yes, sure.

I think that -- and I have told the same thing to our retail partners, which is the opportunities are not where we -- I mean, I think today -- look, we tried to buy Pursell sort of back in the day. This was like a $30 million deal. And within like a week I got a bunch of -- it didn't even require Hart-Scott and I'm getting letters from the FTC.

So I think within our core business, it is probably -- whether it's like herbicide, lawn fertilizers, garden fertilizers, I think that our market shares are probably that we would be in discussions with the government. On the other hand -- my lawyer is like writing notes like crazy right now.

Watch out, Jim. Don't get yourself in trouble.

I'm not (multiple speakers). So I think that the theme of the question is right. I think that you then go around and say where is their shelf space that we don't own? Because remember what my wife said when -- this is ten years ago -- when I was telling her I was going to work in Ohio and she was going to stay living in New York, and she said, "what's the plan?" and I said, "the Procter & Gamble of lawn and garden". Anything there is value on in our lawn and garden department I want or we want.

Why not pool supplies, something like that?

No. I'll tell you, it's something that the planning people come up, and I don't really like the chemicals and chlorine. And I know it's probably a business people could make money on. I really don't like pool chemicals. I think when you look, you can do it yourself. Go down to a DIY store and look and say what don't we own, and it would be tools, watering. Smith & Hawken was part of that in outdoor furniture and sort of other patio, pottery, plants. These are all areas we're interested in that there is --

(multiple speakers) too low for you, right?

What?

The tool margins are too low for you.

Yes, I think it's a little squirrelly business, I got to tell you. I was really excited about the business in large part because it is so much shelf space and allows our sales department a lot more room to kind of spread its wings and execute in the store. For that point of view I liked it even though it was kind of low brand, low margin. I'm not saying never to tools, but there are negatives and the margins are lower.

We are in sort of the good part of our business, which is kind of the pharmaceutical side of lawn and garden. And I think therefore our margins are sort of superior. And it's a good question. But like what I told Alice, which is on a 4 percent return on capital in Europe, unless we thought we could get those returns on capital up higher, to be honest I'd rather give the money back to the shareholders than keep money there if we didn't believe we could change those returns numbers.

So I do think that there are opportunities to grow in our business. I think lawn service is a terrific opportunity. And I think outdoor living is a fast-growing, high-margin business that nobody has gotten really right, and there's no real dominant player there. So I think there's a lot of opportunity for us in the North American business. But I think it is probably a fair observation to say in the businesses you're in now, at least those sort of margins are at shares where they are sort of north of 70 percent, probably we ain't making acquisitions there.

I'm not trying to be cute, but really honestly, why not pet; why not tetra (ph) or something like that?

I'm going to tell a story I think almost everybody has heard. I had dinner with Joe Rice from Clayton, Dubilier & Rice, and Joe owned the business, because Clayton Dubilier bought it from ITT. And so he and I were having dinner together, and he's just a really nice man. And he owned the business, so he cared about it. He told me like how impressed he was with what we've done with the business since they've owned it. And I told him my ideas about like all these other categories -- pool chemicals, pets and others -- and he looked at me and said, "you are crazy, young man". You know like you build this really cool business in this really cool category, and it's growing faster than other consumer goods, and (indiscernible) whole career -- your whole lifetime you could spend and make a lot of money just staying with lawn and garden, and you know exactly who you are.

And I came back from that dinner, and Nagel said, "so, how was the dinner?" and I said, "it was definitely worth the price of the meal," because that's where we're at. We're going to know every day what business we're in. Because you can get into antifreeze and say why don't we go to this counter-seasonal stuff. I think there's a whole lifetime of work for us in lawn and garden. And you know what? If Central Garden & Pet and United and Rayovac want to fight over pet, God bless them. We're going to own where we live, and we live in lawn and garden. And I'm really happy with that. Maybe it's because I said so, I don't know.

So that’s kind of French (ph) for can't find anything in a year or so, stock buybacks, dividends might be something more interesting to you?

I think you could read that as a code, yes. Do you view that as good or bad?

You know, if it's a nice problem to have, right?

I agree with that.

At least from a bondholder perspective. The final question I have for you is can you guys explain the reorganization, the hold co. thing, what the thinking behind that was?

I will sic my lawyer on you, Dave Monowitz (ph).

I don't think it's anything very complicated. Prior to 1995 or 1996 we had a holding company structure and we were a Delaware corporation. In 19 -- about that time, '96 or so, we reincorporated in Ohio, and we eliminated the holding company structure to -- I think it was to save some tax dollars. And frankly, it was not a very sensible move in retrospect. And we've done some acquisitions since 1996, and we obviously just did the Smith & Hawken acquisition. And I think a holding company structure just make a lot more sense, particularly if we are going to add businesses which are not sort of in our absolute core Ortho, Scotts, Miracle-Gro, those kind of businesses. So it was pretty straightforward -- go back to the way we were structured before, which make our lives a little bit more manageable.

Any strategic reason for that?

I think the strategic reason is one of putting every single one of our brands and all of our assets in one company in a world where the president goes down to Madison County, Illinois is like a really bad idea. And I think that today we wouldn't do it that way. And so this is really correcting and saying as we acquire new businesses, we will build a structure that everything is not in Scotts.

And there's no message to that except we just think it's the reasonable and responsible way to hold our assets, that's all. So to me it's no big deal. It's just a matter of saying as we buy new companies, we're going to have them in different companies, all under this SMG hierarchy.

Thanks, guys.

Sam Darkatsh, Raymond James.

A question on Europe again. Before I ask the question, I just want to thank you, Jim, for talking about your aims of capital stewardship. I just kind of would openly hope that other management teams would take your -- more management teams would be like that and be more cognizant of returns on capital other than EPS and revenue growth. I just want to voice my appreciation for that.

You're welcome. Maybe it's because if you owned a third of the business you would act a little bit like it's yours.

Chris, I guess this question is for you. You did mention that you would be doing the goodwill test I suppose in Europe. Was that language to placate the lawyers in the room? Or do you suspect that there may be some write downs? I think if my notes hold you have 120 million or so in goodwill in Europe. What's your thinking on that at this stage?

That's a good question, Sam. As Jim mentioned, we are about to embark for the remainder of the week really on a three-day strategic planning review with the Board. And we're going to be looking at our expectations of all of our businesses, including Europe. And we have some fundamental decisions to make about how we want to operate that business. And it's going to take a pretty extensive review by Jim and the executive team and the Board to figure out how best sort of in the short and even thinking sort of longer term if we were to continue to operate that business how best to do it and what level of probability are appropriate.

So we put that in there to say that we understand that the business is not operating at the levels that we would like, and there is a possibility that there may be an impairment. But for right now it's too early to determine really positively yes or no, and if yes how much that might be. So we thought it was only fair to give the public some heads up. And we will certainly be forthcoming in the next couple of weeks as we issue our 10-Q. But we didn't want to be in a position where we might ultimately have an impairment charge for our Q but didn't mention anything in terms of our earnings release. So we just thought it was the most prudent thing to do.

Based on your to date due diligence, if you were to have some sort of write down in Europe, would that affect either the monetization value or prospects of Europe, or is that irrespective?

I really don't think so, Sam, because this is really, you have to recall, really an accounting drill of doing an estimate of the future cash flows and comparing it to what you have on the books for it. So this is a non-cash accounting charge type of exercise and doesn't really impact our view towards monetizing the business and really what we think the value could be. So this is an accounting exercise.

I'd also say, Sam, that it is law of small numbers. And it's highly sensitive to the forecast that we kind of input into our systems. And our Scotts plan is not even that good at that. When I say not good at it, it's a short window. It's a four-year (indiscernible) we do. So what I want the group to do is sort of extend that out, because that's the input that is used into the accounting calculations. And so I want a longer-term view of the trajectory of that business. And when we did the Scotts planning last fall for our International business it was largely based on developed numbers that you can achieve. I'm tired of bad news. So there was a lot of pressure on them not to promise the moon, but to create something that was very doable and it is important not only for you all, I think -- because remember, we can still make our numbers corporately -- it's important for them as well to have the management team feeling like they can be successful. And so there was not a lot of pressure on that, and that was not particularly useful when it comes to looking at impairment, because it wasn't designed around that. And so we really got to go back and sort of redo those numbers and take a look at them and be properly balanced.

Second question, Jim, I guess is for you. You have largely demurred talking specifics with respect to pricing and attempting to quantify it for 2005. United in their conference call weren't so close to the vest and they did mention I believe that they were going to raise prices, or expected to at least, 2 to 4 percent. I would imagine based on the fact that they would be more private-label than you folks, that you folks would at least look at 2 to 4. Could you help us directionally in what you expect for pricing direction for the season?

Yes, 2 to 4 -- 0 to 5. Since our competitors gave a number, and I think it's getting later in the year. Remember, pricing was not negotiable for us. It was something that we told them here's the price. Generally if I say 0 to 5 I figure somebody is going to go in the middle, and that's fine. You go 2 to 4 and go in the middle, and that's rough cut okay. And we feel confident about it.

Two other quick questions. You noted that the sell-through at retail was up 8 percent for the entire business, I guess ex SLS. Do you have a sense broadly speaking of what category sell-through was?

I know that Bob would tell me we picked up share, so I would say less than what we did. But I don't have that number right now. And if Bob has got something he can give to you like, give a call IR and we will help with that number.

The way we do share data, we've got a three-month lag, so we wouldn't have this latest quarter. We'd have it through the end of September.

Last question, the fertilizer/fire ant combo, I guess calling from Florida I can tell you firsthand that it's going to be a hit down here. Are you concerned at all about cannibalization of Ortho sales because you're selling it in one product at what I'm guessing is a smaller net price or the margin --?

I get you. The answer is no. A little more detail because I like -- this is a good conversation. I've been harassing the lawn people since I've been here that we -- a TurfBuilder for fire ant. But they had all these like dopey ideas like SummerGuard and all these other like -- MaxGuard. I don't know why we just didn't have it.

While we were down with you guys last year, with the analysts down in Florida, you might remember we went to a really nice Wal-Mart in Orlando. And the regional manager was down there who is definitely a high-ranking dude at Wal-Mart. And he and I were walking around while you guys were getting shown around, and he said, "man, if you wanted to do one thing -- because I said, "what can we do for you?" And he said, "give me TurfBuilder with fire ant control." I came back and then finally I think Eugene and the lawn people like got religion and said, "we can do that". And so, going back to -- I think the customers have been asking for the product, and that's always a good place -- find a need and fill it, my father always has said about selling stuff.

But I'd also say that if you look at fire ant, we've got a decent fire ant business. But it's pretty competitive. Probably Spec's (ph) best product is their fire ant, that little 3 pound jobber. You have got Andro, you have got Over n’ Out, you have got all this stuff, and this is a place where Ortho really can and deserves to take share, because this is a really cool product. For a consumer to be able to apply a fertilizer and a fire ant control all at one time, and if they do it call it like twice a year, like guaranteed they will not have fire ants, that is a very cool proposition. And so no, I'm not worried about it. This is nearer where we should be taking share. And if I was a competitor, I be worrying about this, because they don't have TurfBuilder and they don't have OrthoMax, and we do.

Very good. Thank you much.

Joseph Norton, Banc of America Securities.

I hope this is the last question. I'm tired.

Good morning. Just a couple of quick ones. First of all, Jim, your comments today are -- sound happily more confident and less tentative about the pricing for '05. Can you just tell us anecdotally, does that mean your second quarter programs are set or the merchandising season is more -- just kind of get a sense of --

The answer is yes. I would say that -- and this is kind of repeating what I think everybody knows about the business, which is I would say that by August or so the garden season is pretty well like put to bed.

I think what occurs when you say I'm taking pricing, period is you don't know exactly what's going to show up when the orders come in and how people if negotiations fail get revenge. And I think that was kind of why we had been sort reluctant to deal with this. But again, I think that we know from what United has said publicly that they took pricing, and I think that everybody's inputs (ph). If you're buying steel, if you're buying urea, plastics, petroleum truckloads, costs are up.

So I think that our programs have been set with the retailers since the fall, big-time set. Our guys are well into '06 at this point with the retailers. And this is a very good trend for us to be sort of collectively planning the future as a team. And Bob Bernstock and Dan Perdy (ph) so I think are -- Dan runs our North American sales -- Bob has been what he calls pens down on '06 for I don't know how long.

So the answer is, yes I feel more upbeat because we are -- like in the South, we're in the spring in Florida now. So the season is on. It's just growing up the country as the weather warms. And I don't think we're alone in taking pricing. I don't see how anybody could not have taken pricing based on the fact that for us it had been, call it five years since we had pricing before this one. Does that answer the question?

Yes, I think that's helpful. And then secondly I just wanted to go back on LawnService a little bit, just in terms of the SG&A and continued sort of investment infrastructure spending. I was under the impression we would get some leverage on the SG&A line this year, so I'm just wondering is that rate of increase what we will see for the rest of the year? Or is that just sort of some up-front first quarter, second quarter (multiple speakers)

I'll let Tim (ph) answer the question, but I think what you're seeing is basically snow on the ground. Remember, they had a great first quarter because in a lot of areas the season was so warm that unlike past seasons where they have not been able to get in the lawn, they've been out in the lawn. So I think they had a good end of -- because their business really ends, call it Christmastime. They don't fit easily or happily, to be honest, into sort of our end of September fiscal year because they would really be more of a calendar year if they had their way. But people aren't putting fertilizer down, and we aren't billing (ph) with that. And their building up their business, and you're going to see more of an SG&A increase in Q1, which is kind of their inactive season.

You have it exactly right. A, the business is bigger; and B, that is our lowest quarter. We are really only operating in December in Florida and South Texas. And this is also the time of the year when we're gearing up for our expansion for the coming year. So we're opening up several new facilities, and we're relocating a whole bunch of other facilities that are bigger for growth. So there's a little bit of overlap that we build in, so we're carrying two lease costs in some areas because you don't want to time those down to the --

But you believe we will see and are seeing the leverage on getting bigger.

I thing take we gave guidance on SG&A costs for the full year, and they are a lot less than that the rate of SG&A growth than we experienced in Q1. So our numbers are within plan, and we will get the leverage from our SG&A as we grow, which just doesn't happen in Q1 given the seasonality of the business. And this is when we start gearing up for growth.

Good. Thanks. That's what I was looking for.

Operator, we're going to take two more quick questions. I think I've been told that there have been a couple of folks that have jumped out of the queue, so if there are unanswered questions afterwards that we didn't get to, just call investor relations and we will help you out. Thanks.

Joe Altobello, CIBC World Markets.

Good morning. Actually, I only have a couple of more questions and they can probably be handled off-line, so hopefully we can mercifully end this call. Thanks.

Thanks man.

Nothing personal.

I'm happy to get off the call too. Anybody else?

Alice Longley, Fulcrum.

Another question on SG&A. The question you just answer was just SG&A for LawnService, right?

Correct.

If I look at the rest of the business and take out Smith & Hawken, it looks as though SG&A was up more than the sales growth. Is that going to continue through the year?

I tried in my script -- I can try to give you some of those data points again. I think what you saw are -- you have to sort of take into account once again stock options, our legal expense, some Sarbanes-Oxley and foreign exchange. If you take those things out that I consider to be non-operating, the core increase in SG&A is actually up this quarter less than sales. So we're very comfortable with our guidance for the full year. At our investor conference we tried to break that out and show that what we think is the core SG&A growth is less than sales, and we're still comfortable with that guidance for the year.

I think that after you left CSFB we definitely took what you had, and I think largely lead among the analyst community, as sort of saying I don't care what you're doing; you're SG&A growth is too much and it's like a bunch of BS. And I think we've taken that really seriously, and I think we're trying to improve -- put that into our business, because I think as Chris gets in front of us and we develop our financial strategy, which is -- somebody said earlier that we're in a good place right now. We're in a place where we've got a lot more choices than we have had in the past in how we develop and use our capital -- develop our business and use our capital. And I think Chris's point of view with us, and then some of our other folks that work in finance, are saying it's all about cash flow. And we really have got to make sure that SG&A money is being spent wisely and properly, and that the valuations we believe this business should be worth over a long period of time will not be realized if we fritter it away in SG&A.

So we're on, and we have drunk the Kool-Aid. I wish that you could tell the trial lawyers to leave us alone. And the options I don't think mean anything. I don't think that exchange rates mean anything. So I think that the core rate of spend in the business on SG&A is definitely tight. And people are under-spending their budget right now, which I have got to tell you we are real lean right here right now, and maybe we need to think about that. But this is not saying we're going the other, just that we are under-spending budget right now.

I appreciate that. And it would be nice if you could go even further. There are always going to be things like legal and Sarbanes-Oxley that end up being bigger than you think, so it would be great if you could budget so that there would be room for the things that end up being over budget.

I hear you.

And we could see more of the margin expansion.

Yes, ma'am.

Thank you so much.

Are we done?

We're done. Operator, we're going to wrap up. (indiscernible) and follow-up with you off-line. If there's anybody else that has got follow up questions, please call investor relations. And we will be back in touch with you all in April when we announce our second-quarter results.

I want to thank everybody for their support. Thank you very much.