Scotts Miracle-Gro Co (SMG) 2007 Q4 法說會逐字稿

Good morning, and welcome to the Scotts Miracle-Gro Company fourth quarter 2007 earnings conference call. At this time, all participants under a listen-only mode. (OPERATOR INSTRUCTIONS) Now I will turn the meeting over to Mr. Jim King, Vice President of Investor Relations and Corporate Communication.

Thank you Operator.

Good morning everyone, and welcome to the Scotts Miracle-Gro fiscal 2007 year-end conference call. With me this morning is Jim Hagedorn, our Chairman and CEO, as well as Dave Evans, our Chief Financial Officer.

Before we get started I want to do a little bit of housekeeping and remind you that our annual analyst day meeting will be on held this year on Thursday, December 13th at the Grand Hyatt Hotel in New York City.

A series of business overviews and presentations will begin at 9 a.m. that day. After a lunch with management, we will share a more detailed look at our financial guidance for fiscal 2008. We would expect the meeting to conclude at about 2 p.m. By now, you should have received an invitation via email from us, and if you have not, please contact Heather Scott at 937-578-5645, or Don Jones at 937-645-2611.

Moving on to the business at hand, I want to remind everyone that our comments this morning will contain forward-looking statements. As such, actual results may differ materially. Due to that risk, Scotts Miracle-Gro encourages investors to review risk factors outlined in our form10-K, which is filed with the Securities and Exchange Commission. If you did not receive a copy this morning's press release, you can find one on the investor relations portion of our web site, Scotts.com.

As a reminder, this call is being recorded an an archived version of the call also will be available on the web site. If we make any comments this morning related to non-GAAP financial measures not covered in the press release, we will provide those items on the web site as well.

With, that let me now turn the call over to Jim Hagedorn to discuss our performance. Jim?

Thanks, Jim, and good morning, everyone.

Over my career, I have learned there are a lot of ways this measure success. One of the truths of being a public company is that Wall Street tends to look at a single measure above all others: earnings per share. While there's not much I can do to change that reality, I consider 2007 to be a successful year regardless of our earnings per share.

More importantly, I believe the course we set for ourselves this summer also made 2007 not just a successful year but a defining one. I will elaborate on that in a minute.

But first, if you just want to look at the score card, I believe there's plenty to be pleased about from our results today. First, our continued focus on working capital resulted in free cash flow of more than $190 million which was even higher than we expected just a few months ago.

Second, we neutralized the gross margin pressure that could have come from historically high raw material prices by employing an aggressive purchasing and pricing strategy. Third,when weather didn't intercede, the consumers stuck with this category.

Consumer purchases of our garden products were up 12% last year. Overall, POS for the entire U.S. business was up just 3%. But if you exclude our results from April, POS for the balance of the year increased 9%, slightly ahead of our original full year goals.

Fourth, we believe we grew or maintained market share in every major category in the U.S. consumer business. We continued to leverage our competitive strength while others in the category struggled significantly this year and frequently articulated a lack of confidence in their business and their strategy. And fifth, the patience with our international business and our confidence in the opportunities in Europe paid off.

We exceeded our goals on both the top and the bottom line and we continued to believe there's more improvement on the horizon. But if you really want to look at what we accomplished, you need to look beyond our financial numbers. During the year, we remained focused on a number of programs that are in keeping with the strategic plan we outlined last December. In 2008, you will begin to see them take shape. You will see the launch of the state-of-the-art web site that allows us to begin to have a new and more interactive dialogue with our consumers. You will see new product claims and packaging changes that will reinforce the value-added nature of key brands like Turf Builder and Roundup and you will see a stronger in store sales force than ever before, helping our retailers maximize their productivity and helping consumers find the right products to meet their needs.

But these efforts are hardly big enough to move the needle in a meaningful way over the long term. That's why our defining accomplishment this year occurred this summer during a series of discussions with our leadership team. We took a hard look at ourselves and admitted we are not managing the business for sustainable long-term growth. Last December we shared our five year financial outlook.

While we had begun to take some actions to succeed against that plan, we were not on a path to take the right action. As my father used to say, we were thinking small. Like a lot of public companies, we were looking over our shoulder, worried about the consensus from Wall Street. In fact, in the middle of working to make this year's number, we were already talking about the consensus for next year.

My team has heard me say repeatedly that change is the result of a significant emotional event. Well, we had two of them.

First, 2007 was without a doubt the most challenging season in our collective experience. And second, in the middle of the year, we lost one of our most senior and respected leaders. I will repeat again that Chris Nagle's departure had nothing t do with our performance this year. However, the business was under a significant amount of stress when he departed. So we treated these challenges as an opportunity, hunker down as a team and held an honest dialogue about what needed to change.

When asked what they would do differently if the handcuffs of short-term EPS targets were removed, the entire management team concluded that we needed to put our money where our mouth is. To be even more direct, we need to quit acting like managers worried about day-to-day issues and act more like stewards who recognize how we became a 140-year-old market leading company to begin with.

So in 2008, we will begin to invest in several major programs, some of which will not pay off until 2009 or beyond. And I'm not talking about tinkering around the edges here. We are investing to win over the long term.

For the past 15 months, you heard me say, we have become too short-term focused. We were developing safe budgets that required some investment, enough to drive the business for a year or two but not enough to drive sustainable growth. Compare that to the first ten years after the Scotts and Miracle-Gro merger, when we repeatedly balanced near and long-term needs of the business. That's how we drove real shareholder value. Now, it's time to borrow a page from our own playbook.

While I will let the team speak for themselves when we meet in December, let me briefly touch on four major initiatives that we have launched in the past three months.

First, we believe we can continue to take tens of millions of dollars out of our cost structure by making the right investments in technology. Next year we will begin to build upon our previous investments and SAP to drive more back office and supply chain costs out of the business. We will also add functionality that allows us to better manage human capital and become more efficient in managing our treasury and cash flow needs as well.

Second, we are exploring significant changes to our manufacturing strategy that could result in tens of millions of dollars of additional savings. Today, all of our lawn fertilizer is manufactured in Ohio.

With oil at $90 a barrel, it no wonder that distribution, not urea, is the biggest challenge in our cost of goods. That is why migrating to a regional manufacturing system has never been more economically viable. By building a proper systems and infrastructure, we can permanently and dramatical lower the cost of building product and distributing it.

Third, we are committing to gain changing innovation in our lawn fertilizer business.

We have repeatedly prove than consumers are willing to move up the value chain for meaning innovation like those in Miracle-Gro LiquaFeed and Moisture Control potting mix. Our innovation in fertilizer to date has been more around regions specific formulation changes. That's helped in the short term, but does not provide a long-term competitive advantage. So our goal is to fundamentally change the way that consumers interact with the category. It has to be easier to buy, easier to use, and easier to store.

The development of organic products will become an even greater focus and environmental stewardship issues, especially related to perceived runout problems that prompt water quality concerns must be addressed.

And fourth, we have to up the ante in our international business. We have proven our ability to win in Europe and we are working to maintain and build upon the momentum we have made there, especially in the French market. But our gains in the UK have been more modest, a fact that has to change. We will become more competitive there, and we will make the necessary investments to win with our consumer and our retail partners. We are not interested in simply being in the UK market, we are interested in winning.

In the past, we have justified our failure to make these commitments by saying we just couldn't afford them. The better question now is, how can we afford not to make them? There is no doubt that the competitive landscape has changed in the past several years and we have built upon our number one position in the market place.

Our leadership, combined the macro issues facing others in our category, gives us a truly unique opportunity right now to further improve our long-term position and we can do so while balancing our short term needs to continue winning with the consumer, outperforming the competition and increasing our collaborative efforts with our retail partners. Let's not pull any punches. What is the outcome for our shareholders in the short term? Earnings next year are likely to be flat or slightly down. Does that bother me? No. Could we pull back our investments and hit the numbers that I see on first call? Yes. That's the wrong answer. And we are removing ourselves of the trap of managing the business for a twelve month EPS target.

When we made management change last summer, I told you then that the business had become too short term focused. I'm done complaining and we are now moving.

I understand and respect that our investors expect to see year-to-year improvement in our business In that context, I understand why some of you might be unhappy to hear what I just said. But I also know we have a stable group of long-term investors who have benefited from our long-term approach to running this business. For those, I'm confident you will see the benefit of where we are headed.

When we host you next month in New York, you will hear from our leaders in supply chain, marketing and R&D. Then they will turn the stage over to the business leads. By day's end, I believe you will walk away convinced we are not sitting around and talking about getting things done, we are driving change. You will also be impressed by the depth and the energy of our leadership team, many of whom you have never met.

Of course, among those you will hear from will be Barry Sanders, who since the last time we spoke has been named to lead our businesses in North America. I told you we wanted someone in this role with a proven track record of leadership. That's Barry.

During his tenure here, he has repeatedly demonstrated an ability to articulate a vision, develop a strategy, and then empower his team to execute and succeed. I've shared with you the contributions Barry has made to this organization in IT, sales and the supply chain. He has an outstanding day-to-day knowledge of the business and brings a disciplined approach to the job that will serve us well and I'm glad to have him in this critical role.

You will also hear from Claude Lopez who I'm pleased to say now has dual roles in both the Europe and the U.S. as chief marking officer for the organization. I have told you on many occasions, that I consider Claude one of the strongest members of our team and marketer with great instincts.

We also put other key leaders in new roles this summer, and they will be presenting in New York as well. Paradiso is running our lawn care business which is primarily the Scotts brand. Rich Sirota is leading our gardens business which is primarily the Miracle-Gro brand. And Tim Portland is running our home protection business which incorporates both Ortho and the Roundup brands.

Reassigning these three executives is another outcome of our discussions this summer. These are three of the most serious and trusted leaders in our business and each is charged with running their respective business in a holistic way. Their focus will go beyond marketing and running the P&L on a day-to-day basis. They will look at M&A opportunities, work with the supply chain to reduce cost and drive true innovation that is focused on the top and bottom line and it will grow and nurture their respective teams to insure that we have a deeper management depth over the long term.

For just a moment, I want to switch gears and share some details about the results that were released today. As I already said, I am pretty pleased with what we have accomplished under a significant level of stress. Clearly, we had challenged beyond our control. Snow in April, record heat in May, drought in June, flooding in July. You get the picture. But we continue to see growth. The consumer remained engaged and we took market share. Our biggest success of the year was growing media.

Once again, this business showed the power of our brands, the importance of innovation and the willingness of consumers to move themselves up the value chain for products that make gardening easier and more enjoyable. Consumer purchases of our growing media products, as measured by point of sale data increased 15% in 2007. Miracle-Gro Moisture Control potting mix, which was introduced in 2001, saw a 45% increase in POS. And Scotts Naturescapes mulch which was introduced in 2002 had POS growth of 66%. POS in plant food was up 3% as consumer interest in LiquaFeed continues to grow. That means the overall gardening category, that's growing media and plant food combined, increased by 12%.

We saw consistently strong growth in nearly all parts of the country. POS in our home protection business, which is primarily the Ortho brand, increased by 2%. Though we had strong successes in select areas, home defense increased another 20% on the year and we see even more opportunity next year. Our product offering in this category will continue to expand in 2008 and our retail partners remain extremely supportive of home defense.

Elsewhere in Ortho, POS in our weed control business improved by 4% overall, led by a 9% improvement in Weed-Be-Gone. Obviously, that type of improvement, with just 2% overall growth for the home protection business, means declines elsewhere. Our outdoor insect business was down 6%, for example, which is not overly surprising since hot and dry conditions are not conducive to bugs.

Moving on, we knew our lawns business would have a tough time overcoming the 19% decline we saw in April, and POS of lawn fertilizer for the full year slipped 1%. However, the results over the past month give us renewed confidence that the weather was the biggest challenge in this business. So far in October, consumer purchases of lawn fertilizer products are up about 10%. The biggest improvement we have seen since May, and consistent with the type of performance we would expect to see.

As I step back and look at our North American results in the aggregate for 2007, I can tell you that we had the best results possible given the circumstances. Am I happy with them? No. None of us are. Nonetheless, we see more positives than negatives and the entire North American team remains confident that we can continue to leverage the core strengths of this business to drive stronger results for 2008 and even greater growth in the years to follow.

Let me move on to discuss Smith & Hawken. I want to start by letting you know that Gordy Erickson, who ran this business for us for about 18 months, has left the company and taken a senior job with the Home Depot.

Gordy's vision for this business was instrumental in the improvement that we have seen so far. Not only did he help improve our merchandising strategy and enhance the shopping experience, but he also took great steps to strengthen the Smith & Hawken team. Upon Gordy's resignation, we immediately named Felix Carbullido to lead Smith & Hawken. Felix has been a key leader of Smith & Hawken for two years, and I'm confident that he and the team will not miss a beat.

As it relates to Smith & Hawken's performance last year, our retail stores finished the year with 7% comp store growth, which includes 14% year-over-year improvement from May through September. The peak of the outdoor living season. Sales of our core merchandise, which is furniture and gardening products, were both up in the mid-teens. The results we're seeing right now come from the merchandising mix that Felix and the team put in place. We are confident that their merchandising strategy will continue to result in growth going forward.

We also continue to believe in the potential of the Smith & Hawken brand. We are beginning to explore plans for a line of Smith & Hawken branded products for wholesale, which we believe would have significant appeal to our consumers and our retail partners. As we said throughout the year, 2007 was a test and learn season for Smith & Hawken. Over the next few months, we should be in a better position to share more specifics about our sense of what works, what doesn't work, and what we need to drive the future growth and profitability in this business. Developing a better understanding of what works and what doesn't work with the consumer has also been key in our efforts in recent years in Scotts Lawn Service.

Our customer count increased by about 10%, largely driven by organic growth. I'm also pleased our retention rate with consumers who have been with us more than twelve months has been steady year-over-year at 70% and that we saw a strong gross margin improvement. As was true in the core business, weather impacted in the start of the season and resulted in lower than expected customer count. And, as we have said in the past, SLS consumers tend to be more sensitive to the economy.

Considering those factors we still feel good about where the business is headed and it's important to note that we didn't stop investing in this business this year. We continue to invest and drive long-term growth and leadership in this category. Look for Peter Corda and his Lawn Service team to continue down this path next year.

Let me close my review of the business results this morning with international. Claude Lopez and the entire team in Europe did an outstanding job this year expanding our reach with new customers and proving our market share and dramatically improving our profitability. Growing media was up 13% and plant food increased 15%, due largely to the highly successful European launch of Miracle-Gro LiquaFeed. We also saw strong growth in weed control, pest and disease products and our professional business.

Only in lawn fertilizer do we see any softness due to the highly competitive nature of this business in the UK. Even with the competitive environment in the UK, our overall business there grew by nearly 3%, which is similar to what we saw in Germany. The French business grew by more than 11%, and our professional business was up 9%. I'm confident the international business has plenty of growth in front of it, not just next year but over the long haul. Of course, that's my point of view for the entire business, that the best is yet to come.

Before I turn the call over to Dave to discuss the financials, I want to steal just a bit of his thunder. While EPS and sales may have fallen short of our original goals for the year, I don't believe that either of those metrics is as meaningful in driving value as cash flow. And free cash flow we generated this year was a home run. Not only did we exceed our initial guidance but that number excluded the impact from our recap efforts. We actually exceeded our targets even when including the recap.

As I said at the outset, there are numerous financial metrics that point to a successful year, even with our challenges. 2007 was a year in which success took a variety of shapes. The decision we made and the direction we are heading give me a high level confidence that Scotts Miracle-Gro and our shareholders will continue to enjoy the journey we have been on. We have worked hard over the past decade and have put ourselves in an enviable position. And I feel confident we are about to embark on a process that takes us to an even higher level. We are energized by the opportunities we see in front of us, to stand confident in our ability to expand on our number one position in the industry for years to come. With that, I will turn the call over to Dave to discuss the financials.

Thanks, Jim, and good morning, everyone.

I will spend a few minutes to build upon Jim's comments and provide some additional context for our financial performance in 2007 and preliminary expectations for 2008. While there's certainly many things to be proud of in 2007, clearly the financial outcome was not what we originally planned for. We have spent significant time over the summer updating our business diagnostics, clarifying our understanding of the challenges and opportunities and building a stronger plan for 2008.

In my tenure at Scotts 2007 ranks among the most challenging in terms of the number and magnitude of external pressures we confronted. I'm proud of how our team managed through those challenges. We recognized it would be a difficult year soon after the extreme April weather. We created aggressive plans to drive balance of year growth, revised our financial guidance and then delivered to our commitment.

Throughout our financial statements, you will see the results of our disciplined approach to appropriately managing through a difficult season. Where we could control the outcomes, we did a great job. Sales and marking teams worked tirelessly to keep the consumer and retailers engaged. Our supply chain and transaction processing groups led a strong working capital management process that resulted in strong cash flow growth. And the entire company exercised discipline over SG&A spending to free up more resources for activities, to more immediately drive 2007 earnings.

I'm not going to spend time reading through the financial statements line by line. Rather, I will hit the highlights and provide additional context and color where I believe it's helpful. Let's start on the top line where we reported companywide net sales growth of 6% for the full year, and 3% for the fourth quarter. This growth was in line with the revised guidance we provided in July. As you can see in our press release, North America sales increased 4% for the year and declined 1% for the quarter. A quarter that has been an increasingly important period for us as we spend more effort promoting fall lawn and garden care.

The decline in Q4 was primarily the result of two factors. First, most of our retail partners had more than enough inventory entering the quarter and took a conservative approach to shipments in our fourth quarter. As on outcome, they exited September with a fairly consistent level of inventory as in 2006, considering pricing and store growth. This dynamic contributed to the 300 basis point differential between the point of sale growth of 2% at our largest three retailers and the 1% decline in total North America net sales. Second, we believe that continued heat and drought in large portions of the country led to delayed start of the fall season. This contributed to the overall modest POS growth in the quarter.

Cooler weather in October has jump-started the season and through the first three weeks of October, we have seen 14% POS growth from last year, with lawn fertilizers up nearly 10%. For the full year, sales growth of 4% in North America was led by -- primarily by sales in our gardening category. That's growing medium and plant food combined, which increased 7%.

Shipments in our Ortho business increased 3%. Shipments in our lawn business which includes both fertilizers and grass seed declined 6%. These results are directionally consistent with the POS growth by category, and are consistent with the general theme that lawn products suffered disproportionately from the extreme weather.

Net sales in our wild bird food business improved 23% as we began to see success from the launch of Scotts brand and bird food at Wal-Mart combined with significant pricing in the latter portion of the year. Our international segment represents the other highlight on the top line. International sales improved 15% in the quarter and for the full year excluding the impact of foreign exchange rates, sales in international improved 6% for the quarter and year respectively.

As Jim stated, we saw improvement in every major market with our two largest markets, France and the UK, up 11% and 2% for the year respectively. Our international professional business also continued to deliver consistent growth with a 9% increase in sales from the prior year. Let me spend some time now on gross margins.

As you may recall from our investor conference from last December, I said gross margins would decline in the first half of the year and then improve in the second half. That's exactly what happened.

Although companywide gross margins declined 40 basis points for the full year, margin rates were down 110 basis points the prior year for first six months, while they were flat the prior year for the second six months. We saw gross margin rate improvement from Scotts Lawn Service, which was up 140 basis points for the full year. Smith & Hawken, which improved 100 basis points and international which improved 10 basis points.

Offsetting those gains was North America, which experienced a 90 basis point decline for the full year, due almost entirely to unfavorable product mix. If you study the detail of North America's top line, you understand why. Lawns, which has some of the highest margin rates in our portfolio, was down 6%, while bird food which has some of the lowest margin rates was up 23%. In growing media which still slightly diluted to rate in total had double digit growth.

Regardless of the unfavorable mix, I believe the best story on the gross margin line is a lack of any negative impact from commodity costs. Despite the well-documented volatility and commodities, including urea, wild bird food components and fuel, the pricing and purchasing strategies we employed allowed us to mitigate issues that we believe prove far more difficult for others in the industry.

Moving on to SG&A, you will see a 6% increase in the quarter and a 10% increase for the full year. You might remember from our last conference call that we made a conscious decision in Q3 to increase our media and sales spend in in an effort to drive consumer interest and reinvigorate the category following the weak month of April. The fourth quarter increase reflects a continuation in this strategy led to an aggressive spend and media and selling expense which were up a combined 10%, moderated by more disciplined spending in all other SG&A. Full year increase in SG&A was driven by a variety of factors. These include non-recurrence of last year's $10 million legal recovery, a $12 million increase in media spend, sizable increase in Scotts Lawn Service infrastructure, and an $11 million increase driven by exchange rates. While incentives represent a large headwind to 2008, because they are also paid out less than target in 2006, the benefit to 2007 was under $10 million.

So while we continue to spend money to make money, we did get aggressive on discretionary spending, especially at the corporate level. Excluding the benefit from last year's legal recovery, spending at the corporate level actually declined. We will remain focused on continuing this discipline on indirect SG&A in 2008 and beyond.

Moving on, you can see that we recorded a non-cash impairment charge in the quarter of $37.9 million. As Jim said, about $25 million of that charge related to Smith & Hawken. The rest is related to our biotechnology program and some previous information technology investments. The impact of impairment means that on a reported basis, we showed an operating loss of $31.8 million in the quarter and operating income of $277.2 million for the full year.

Last year, after impairment and structuring -- restructuring, we had an operating loss of $63.2 million in the quarter, and operating income of $252.5 million for the full year. Our North American business showed a full year decline in operating income to $375 million, down from $391 million last year. Scotts Lawn Service also declined to $11.3 million from $15.6 million on a full-year basis. International had operating income of $35 million, which was a 23% increase from $28.5 million a year earlier. Smith & Hawken results were reported in corporate showed a 5% improvement on the year, but still operated at a loss and below our expectations. On a full-year basis, we had more favorability than anticipated in interest expense, which finished the year at $70.7 million.

I still expect the full-year impact of our recapitalization to result in interest expense of up to $90 million next year, but we are fine tuning our models to provide more guidance in December. Our tax rate on adjusted earnings for full year was also slightly better than expected at 35.1%.

As I mentioned last quarter, we identified a number of one-time benefits earlier in the year, some of which proved even more favorable once we closed the books. However, we continue to believe that a rate between 36% and 37% is a more reasonable assumption going forward. On the bottom line, adjusted net income excluding impairment, restructuring, and other one-time charges was $158.8 million, or $2.37 per share, compared to $181.9 million of $2.62 per share a year earlier. Recall that entering the year we expected adjusted earnings per share to be roughly flat in 2006, due to the higher interest expense associated with recap. However, the number reported this morning is well within the range of adjusted guidance we provided this summer.

I will now turn to the balance sheet, which was a very good story for us this year and then I will discuss cash flow. The biggest story is inventory which actually declined on a year-over-year basis, despite the fact that North American sales were behind plan, commodity costs were higher, and exchange rates added about $11 million. Our focus on working capital allowed us to finish the year with free cash flow of $192.7 million. This number reflects free cash flow after the impact of our recap, and it is better than we had originally anticipated, excluding the impact of the recap. Free cash flow for 2007 improved over 50%.

For the past six years, free cash flow has been an extremely good story for us, as we have now generated free cash flow exceeding $1 billion over that period. This remains one of our top priorities and one that we will remain focused on in 2008 and beyond. Speaking of 2008, let me switch gears here. Jim has already told you that our net income in earnings per share next year are likely to be flat to slightly down. Let me fill in some gaps.

I want to stress that we are still fine tuning some of our assumptions now and won't provide any specific guidance until our investor conference on December 13th. Nonetheless, I think it's helpful to give you a sense of what we are thinking. On the top line, I know that many of you expect 2008 will be a year of easy comps due to the weather challenges we faced this year. That point of view seems even more reasonable, given the fact that we are taking pricing, of 4% next year in the North American segment which is equivalent to about 3% across the total sales base. I'm not going to be overly specific this morning, but I will tell you that we are taking a conservative view on volume growth assumptions for next year.

As Jim said, we remain confident that the consumer purchases will grow and that we can take even more market share, however, the assumptions we are making already are higher than the plans we are seeing from our retail partners. Our sense is that you will see retailers even more focused on their own balance sheet next year. Focused more on inventory and cash flow than driving economic foot traffic in a sluggish economic environment. Weighing all of these variables, we think our assumptions are reasonable. On the gross margin line, we continue to focus on managing price and purchasing strategies to offset the impact of raw material prices.

Right now, we have hedged about 40% of our urea needs for the year, which equates to about 65% to 70% of our needs for the first six months of the year. But I don't have to remind any of you of what's happening with oil prices. We are working on a diesel hedging strategy as well, but this is a more difficult market to navigate than urea, sphagnum or other commodities and represents our largest commodity risk to 2008 earnings.

Still, we feel confident that we are in a reasonably good position to manage the mix, pricing and costs given the actions taken to date and that we should be capable of continuing the last six-month trend and actually start driving small incremental gains in gross margin rate next year. Jim has already told you, we are planning additional investments in the business next year and I will provide more details on those next month. I also want to reiterate the natural headwinds we are facing next year. A combination of higher interest expense, higher tax rate, and normalized management incentives will total around $40 million. I wouldn't view any of these headwinds as negative in relation to our overall business. Remember that following the recap, we knew that interest expense would increase to around $90 million in 2008.

So I agree with Jim that the expected results we were planning for next year don't tell the whole story if all you are looking at is the bottom line. I will not be naive and pretend that EPS growth is not important, but I do believe that you have to look at the overall context. As Jim said, the first call consensus that's out there today could be assignable if we made a different set of decisions. But I agree that the best way to insure consistent long term growth is to manage the business with a more appropriate balance between exploiting long-term growth opportunities and delivering short-term results.

In that regard, if you measure preliminary guidance for 2008 against 2007 pro forma adjusted earnings, that is reflecting the recap as it was completed on the first day of fiscal 2007, we would still be showing EPS growth in the mid-single digits for 2008. All in all, I'm encouraged by what I'm seeing in the business right now. Though our assumptions have been moderated, they are relatively in line with our retailers. We will have lots of news in the category next season to keep the consumer engaged and to help further build upon our leadership in the category and we'll be making a number of strategic steps that help to maintain that momentum into the future. With that, I will turn the call back over to the operator and we can take your questions.

Thank you. (OPERATOR INSTRUCTIONS) One moment, please, for first question. Our first question comes from Sam Darkatsh of Raymond James.

Good morning, Jim, good morning, Dave.

Good morning.

A couple of housekeeping questions, Dave. The $38 million impairment, how did that break down in terms of balance sheet impacts? Because I noticed the goodwill and intangibles only went down a fraction of that. I was curious as to -- as to -- what the impacts were on the balance sheet.

Well, virtually all, but I'd call less than $2 million, of it was an impact to our intangibles. So the other -- the other offsets, Sam, are going to be some small acquisitions that we made over the course of the year in lawn service.

But intangibles sequentially from the third quarter only went down $5 million. That's where I was confused. I could ask -- I could ask that offline. I'm curious as to the mechanics of that. But I guess the real question is, there were no inventory write-downs within that $38 million?

It's very small. Less than -- you know, less than $2 million.

Okay. Second question. You mentioned in your prepared remarks, David, that there were $40 million of headwinds next year, perhaps half of that coming from interest expense. What tax rate are you forecasting in '08 and then if you could help us with the breakdown of the strategic initiatives and the investments next year so we can budget that out?

Okay. I will talk first to your question on headwinds.

Yes.

So interest expense, going to be, call it a $15 to $20 million headwind. We talked about management incentives, which I would call about a $15 to $20 million headwind and then the tax rate next year, preliminarily, we're looking at, call it a 36% to 37% effective tax rate. So, you know, those put you in the range of around the $40 million headwind.

Okay. So the -- the strategic investments are not running through the P&L?

No, they are running through the P&L, Sam. I think that as we looked at the business, we came out of it saying, -- we talked to a lot of people who were out in the field. We talked to our marketers and,within the people in the supply chain and I think virtually everyone said we are not spending enough money doing the things that we know we could be doing. So this is not sort of unique and different stuff. This is saying, are we spending enough money on our brands? Are we spending enough money in our ability to execute in the stores? And you -- listen, you have been in our stores. You talked to our people in the stores. They just say if I had more hours, I could do a hell of a lot more. We know we could be doing more in the supply chain. It is going to require investment to get the kind of output from the supply chain to go to the next level. These are generally where we are spending more money. Within that, we have made some choices of some things we will not do. We will talk more about that in December. But at the same time that we said let's belly up to the bar, let's spend appropriately behind our business. Let's have a short time frame where we get to what I call a warrior budget which is a budget designed by the operators where we are stewarding the businesses in a way that we believe is appropriate, i.e., we are spending reasonably behind the things that we think drives the business for the long term. And we told them don't -- in the past, what we would have done is we would have increased the top line to cover it. I think if you look at the numbers at least how we think where you guys are, compared to what we released -- I think that you explain it all in sales, by the way. In that regard, we told the guys, don't take the sales up. Because what we don't want to do is in a squirely type of time, over commit on the top line and not produce. So we put the P&L under stress, never mind sort of the natural headwinds and just go back to -- we are saying, we are going to spend significantly more money behind the business. We are not going to tell the operators -- in fact, we will not allow the operator to put top line to cover it and you are dealing with an environment where the retailers are really running scared in a way I have not seen before. So this does not mean we are not confident in the business. We are just trying to be relatively conservative in how we basically communicate a revenue outlook. And I think it's a reasonable point of view, given sort of the uncertainty out there. But we do know what it takes to drive this business. There's nothing unique and new. This is not investing heavily behind squirely stuff that you all have never heard about. This is driving our business and not sort of almost allowing a payback in '08. And, so that's, I guess, is the answer.

Well, I guess what I'm getting at is you say you could hit street estimates, but you are guiding to where you are, which is a difference of maybe $30 or $40 million pretax, is that what you are referring to with respect to the level of the strategic initiatives and investments that you are referring to and if so, does that leverage it in time, or is that a one-off type of expenditure? Help us understand what that means.

Well, I would say all of the above. So first, I would say, yes. Second, I would say recognize -- listen, as freaky as the equity price may be today, we could have actually invested more and so we are trying to balance this out. I do think that, yes, there is leverage going forward and I think there is probably upside in that, but it depends on how the consumer is. I mean, the thing is if you look at the consumer this year, when the weather is, good our business was, like, bad. You know? The business up through the end of March was good. The beginning of May was good. April sucked. And when the weather cooled off, primarily in call it the -- do you want to call it the rust belt or wherever, where our lawn business is, like, super strong, we have seen double digit POS growth at retail in our lawn products which is about what we expect to see. The Smith and Hawken business did well. The European business did well. I think that it all depends on the consumer and sort of commitment by the retailers to their business. And this -- these are questions that we don't really know the answer to yet. And this is, I think this is part of reason that we are being -- I would say more than a little bit conservative. We are being pretty darn conservative in our top line expectations, largely because we don't know and I don't want to be behind. I would rather take pain now and tell you good stuff later on than be making excuses all year long. Dave looks like he's on the edge his chair trying to get something out.

Well Sam, I would just say -- so we said we could conceivably bridge back the consensus, we tried. I would say what we are telling you is we -- we're building into our plans next year. Sizable increases in SG&A that in a different environment, if we chose, we wouldn't make those investments. But we think it's going to drive long-term growth. The other thing is we are building a plan around some of what we think are appropriate growth rates, although they are fairly modest relative to some historic comparisons.

But the $30 to $40 million that I suggested is a pretty good ballpark guess as to the level of incremental spend that's going on the P&L?

A good ballpark estimate.

Last question and then I will defer to others. $193 million in free cash flow this year was excellent. On flat earnings next year, who you expect a similar free cash flow next year?

Sit on that one Sam, let me give you more detail of that in December. We are still finalizing some of our balance sheet forecast for next year.

You know, it tends to be the last thing we sort of get to is the balance sheet and that's where we are now. So I would say, we will talk about that more specifically in December. Any major issues, though, as to big swinging factors.

I think our capital investment could be a little bit higher. I think this year we were down in the low 50s. But I don't see a change in the pattern of the balance sheet focus, focus on maintaining inventory levels. All of those fundamentals are still going to be there next year.

Excellent. Thank you, folks.

Olivia Tong of Merrill Lynch, you may ask your question.

Hey, good morning. The lack of EPS growth in '08, you are you thinking more of it as a function of moderate sales growth or the higher spending that you are putting behind the business.

Well, Olivia, from my point of view this is one of those things where all the above, but, we sat down this morning and said, how do we get to the street consensus, and how do we get to what we are transmitting to you and what are the big differences? And I would say are, the revenue differences that we see in the current models, between what we -- what we're seeing and what you guys have already communicated, at least I think to us, but maybe to the external community, I think is the difference. Okay? On the other hand, I think you could say that, our margins are probably a little better than what we are seeing you guys have. And our G & A is a little higher. o, all I know is that if you said and sort of went - that sort of keep it simple approach, the difference between the sort of, let's just call it 240 and 270, call it roughly, could be covered by either saying, it's the incremental expense we want to make or by saying the difference between what you guys are calling sales at and what we are calling sales at. And I'm not sure it really matters but, I think that explains it and makes it pretty simple to understand.

Can you give a sense of magnitude of that $0.30 difference, how much is coming from sales versus expenses?

Between what and what?

Between sales and expenses. Olivia maybe --

No, no, I can help on this one. This is really simple. The incremental expense we are talking about is purely designed by driving business, okay? This is not like, oh, we're going to get, like, new airplanes and we are going to be living high off the hog here at corporate. This is -- you know, we called this budget here at Scotts a warrior's budget. It was basically saying, you know what? We are going to design a budget for the guys who are fighting the battles, not the Pentagon, okay? And so this is not about sort of just -- everything that we're investing in, is driving the business. In fact, we made choices within the budget for '08 that the priorities would be so biased towards driving the business in the long term that other even interesting opportunities would be held until we get North America doing what we want it to be doing. So, it's all about driving the business.

Okay. I -- yes, I wasn't trying to suggest that --

No. I didn't take it --

-- that it was frivolous spending or anything like that. But, one of the things, the major initiatives that you talked about, technology, changes to manufacturing, et cetera. That sounds to me more like increased operating efficiencies rather than driving further long-term growth and it sounds also more like --

Well, you know part of it is that -- it would be easy to beat us up. I mean, even internally, it's easy for us to beat ourselves up because I think we tend to be our biggest critics. You look at what we have done in building our sort of infrastructure within our channels of trade and I don't think there's anybody better in the world for sort of seasonal distribution into DIY. As we have focused more and more sort of, I think, sort of during the Bernstock period on earnings and safety, I think we have postponed investments that really is what's required to get us to the next level. Okay? And that next level of savings that come through the supply chain will -- I mean, I think roughly be -- I don't know. You know, everybody is going to, like, throw stuff at me when I say this. But it's roughly going to be split between sending money to the shareholders on earnings and providing money, dough, to the operators to drive their business. So it's -- it's a really important part. The operating efficiencies, you are right, are not really about sales, except they are used to drive the sales because that's how we are going to basically fuel the machine. And so they are, like, super important.

I know you talked in the past about not wanting to call out one-time costs, and running any kind of like one-timer type thing through the P&L. but, of the increased spend, what do you consider to be sort of one-time and what do you consider to be more of an ongoing nature?

Well, Olivia, let me say, so when you asked about growth, the issues we have are designed to drive growth and earnings ultimately. So it's both a combination of investments to drive operating efficiencies. That's a lot of supply chain initiatives we talked about, as well as initiatives to drive the category growth through channel initiatives, increased sales, orders, et cetera, et cetera. So there's a mixture of all of those. Now these investments, obviously we wouldn't be doing them if we didn't believe that they had a payback. We think they will have a payback. But the word investment implies that it's not an immediate payback and we also believe that Jim said that we are not making all the investments we could be making this year. We are trying to start making these to fund a growth next year, which at this point we'd probably want to continue and complete the job next year. We would be getting into a position where it's tough to self-fund. I don't know if that helps give you more context, but that's how we are thinking about it.

Is it a suggestion that '09 -- turning one-year forward towards '09, that additional investment would be done and that there's essential that that is also an add investment year?

Look, I don't know. I -- if you want to read it in a fearful way, I suppose you could. What I would say is we have put very conservative sort of models ourselves together ourselves okay? I don't -- listen, I've got to tell you, I have been in this business a while. I don't really know what to make the whole thing. I -- the retailers are really conservative. The costs are -- you know, the commod -- I mean we took a lot of pricing. I think we've got our costs covered,and probably and a little bit, which was important to try to work our margins back to kind of closer where they were than -- and break that trend of declining margins by, call it 50 basis points a year. I'm a salesman at heart, you know. I know when the weather has been good. We have had really good consumer response to our products, and therefore I don't really know. If we -- if we think we are going to see like, low single digit growth at the consumer level, and then probably we would be spending more -- we would be continuing to invest. I personally think that we will see more consumer response than -- given a reasonable weather year -- than, than everybody is counting on and therefore it will be a very painless and virtuous kind of cycle that we are going through here. But I think it depends on the conservatism and we will know more about that as the spring unfolds and we see how the consumer is doing. Dave is looking pained, like he's listening carefully. I don't know. Do you disagree with that?

No, I think like we could move on. We might be making this more complicated than it needs to be ultimately. I mean, I think at the end of the day, we are looking at growth next year. We are looking at all the environment and we're building a responsible budget assuming that we will not get growth.

And if we -- and we are not saying no earnings growth '08 to '09. We are not saying that. So we're not looking to say earnings will continue to be flat. I think -- my family will kill me, never mind you guys.

Got it. And then just lastly, I know this is more qualitative than quantitative, but do you have any sense of where customer inventory levels are, just their own pantries?

Customer inventory levels, as I said in my script are reasonably consistent prior year when you reflect the fact that pricing has gone up and there's been store growth. So kind of on a comp store or comp unit basis, we think they are fairly equivalent year-over-year.

But I do think you need to read the sort of what the messages we have been sending which is I think that in a world where they are really -- have the be Jesus scared out of them, I think they are pretty focused on their balance sheet. I think this is a company Scotts that, with our systems, our ability to execute both in the store and the through our supply chain that we can actually be pretty responsive to declining inventories but I do think that that's a little bit of a headwind going into '08, which I think actually I look forward to because I think it gives us a significant competitive advantage because we are so flexible. And you see that -- look at this year. Look at our inventories based on a pretty significant shortfall, you know, particularly in our lawn business, which is where a lot of inventory resides here in Ohio. And Luke Meyer and his team, I think, did a super fine job of keeping the inventories down. And we can do that going forward. So we can be pretty responsive to trying to move inventory out of the system without transferring it to us.

Got it, thanks very much.

Alice Longley of Buckingham Research, you may ask your question.

Hi, good morning. Two major questions. One is, you have been very vocal about saying that your sustainable net income growth rate is 10% and that's sort of the rate you turned in over time. Now you are saying that you have under spent to make Wall Street happy. If you had spent at the level you now think you should have, what would your net income profit growth rate have been? And then does that become what we should be using going ahead in order for you to be responsible?

You asked generally many part questions. So let me just -- I will take that part which is -- I sort of don't buy that. I think that what you said is what we kind of said and I -- so I accept that part but I don't accept the conclusion. One of my first board meetings after my mother died and my brothers and sisters and I owned half of Miracle-Gro, my father says I'm doubling the advertising spends and we are going to kill the P&L and it will build this big moat,, this competitive moat and, of course, we were all kids. And we, of course, voted with my father. And we spent the money on investing in the business and we had, like, the best year we ever had. So I think that it depends on what you think the output would have been. I do think -- And I don't blame Wall Street for sort of us falling into a short-sighted way. I do think that that's not you guys, that's us and, it's complicated running a public company. And I think that, we are coming out of a period where commodity prices were going down. t was a very virtuous time, a lot of growth in housing, and that growth is there, the consumer is more skittish, the cost of everything is up. We are going against, our major commodities are significantly more expensive. We're talking $400 urea right now. So I think the environment has changed a little bit and as we tried to make it all work, we became a little more short-term focused. We are basically saying that's stopping. We are going to invest in our business. If it means a quarter hit which is kind of my view, a little hit to attack this market place hard, then that's what we are going to do. And we believe it's the right thing to do going forward. So I don't know what would have happened if we had basically said the heck with it, I mean, part of what we did this year,which effected this year because we could have made more money this year. We invested it behind our advertising and trying to drive the business. There's a lot of people here who say, I wonder if we made the right decision and I say, hey, look what could it have been if we hadn't made those spends? You know, what would have happened to these categories if we hadn't spent behind them. Barry, do you have something to say?

I think we have taken a conservative approach and so I think what we will do in the future is spend with the expectation of higher and long-term returns. We have been very predictable. We could have spent more and had more fluctuation in the short term, but with the expectation of higher return. So we are going to invest in the short term.

Okay. My other question is about sales. And I'm a little confused about what you are saying your problems have been this last year. You make a lot of comments about how you have concluded that your -- the pressure this last year was really mainly weather and, you look at garden products and they were up a lot. So the problem really wasn't housing, it was just weather. And sales have done really well in October to date so that shows the issue was weather. And yet, assume -- you are pulling down your sales guidance for next year. And so I'm trying to figure out whether it's just weather or whether you think other things really are a factor now.

Okay. I'm not sure what guidance we provided, if any going forward. So, you know, let's -- we'll just talk about what we're talking about. Look, in the sort of keep it simple stupid approach to talking about the business, the shortfall for the North American business was, and continued to be, call it like, I don't know somewhere between $80 and $100 million in the month of April. And we just effectively never really made much of it up. We made a little bit up in May, and I think we just didn't see a lot of activity during the summer but it was so hot and dry in the southeast that there just was very little business down there. So I think that -- we can say it's primarily a lawns issue and it's primarily an April issue, Period, okay? That's '07. I think '08 we are talking about it a little differently. And we are just saying that there's just so much fear out there that we just moderate our numbers down. We are trying to be conservative. I think it's a reasonable position.

Okay. And I -- well, I -- I said that you had guided down that you are saying that you think that sales expectations at first call are a little high. So, anyway. You have already said that pricing companywide would be about 3% next year. Unit growth, companywide, are you more comfortable with 3% or 7%? I mean, can you give us sort of an order of magnitude, aside from the environment economically, the weather is likely to be somewhat better?

Yes, I think -- so Alice, if you look at -- take this year, we had 6% growth. If you factor out the pricing we took and the impact of foreign exchange rates on international business, the organic growth was around 3%. So about half of it was organic.

Okay.

As we look at next year, I know what we said back December, last December, I think was on average, over the period of that plan, 5 to 7 organic, right? So if next year we're talking about 3% pricing on average for the company, I think we are probably saying, we are moderating our organic growth rate assumptions. We will give guidance in December. But on order of magnitude, a couple hundred basis points might be appropriate. So if you say -- and that's net of all the weather, and everything. So you might end up in a world where you are more like 3% pricing and 3 to 4% type of organic growth all inclusive.

All right. Could you give us a CapEx number for next year since you are going to be spending more on some CapEx projects it sounds like?

December, Alice. We will give it to you in December.

Okay. And diesel, what percentage of sales does that amount to, roughly? You have given urea in the past.

Well, we in total have about $60 million in fuel costs.

Okay. That's all for new. Thanks a lot.

You're welcome.

Bill Chappell, Suntrust Robinson Humphrey, you may ask your question.

Good morning. I just want to clarify, I guess, a couple of things. First, on the comment that you could have reached consensus numbers in '08, I mean, does that include with management bonuses coming back in or would you have had to eliminate that to get back into that number?

No, that's not a good thing. (Laughter) But the answer is, yes, it would include that. And I guess my answer is, no, then I would -- this would be a really empty room, I think.

Right. That's an ongoing thing that it will come back and continue to go, it's of that kind of $40 million Delta?

Yes, sir, and that -- you know, that number is somewhere between $15 and $20 million, I think.

And then just talk -- I know you feel conservative about the top line assumptions for next year, but is there any way to gauge both weather versus, like, the housing market? Clearly the housing market is not getting better and how much that could hurt and then sitting here in Atlanta where they are talking about a watering ban that may continue through next summer. What are your assumptions for the weather to, you know, return and what do you need to see there?

Well, I mean -- I don't know. I'm not -- I sat with a bunch of Wal-Mart people last week and they buy all kinds of weather services and think it's incredible stuff and maybe it is, but, I think we are just hoping for normal season. And I don't -- listen, we are building a lot of conservatism into our revenue numbers. so I don't think we are expecting everything to be crazy good. I don't know what it means. I think we are being pretty conservative and assuming there is going to be reasonable weather. That's all. I'm not sure what else we can say to it.

Right. But any sense on how much the housing market has affected the business or could affect the business?

We -- it is clear -- listen. Start with our biggest retailers are very much into housing. And they are very nervous and so we have a very significant part of our North American business that's hooked in with our friends in Charlotte and Atlanta. And I think they are pretty nervous. So it's got to have something to do with housing/their attitude and footsteps in their stores. And we continue to work to diversify our business into other categories and other retail channels to sort of balance that wherever the consumer goes, they find our products. And there's quite a bit of opportunity still in the INAT group, as well as working closer with our retail friends.

But, Sam, I think just to put a little bit of context here -- or Bill, I'm sorry.

You can call me Sam.

Call you George, whatever. (Laughter) Bill, so if you look at, you know, publicly available information, one of our major retailers has been disclosing comp store growth rates this year. It's been deep below mid-negative single digits. When you look at our POS growth, we have been positive low single digits. So I think -- I think what is the impact to the economy? Well, we were hoping for organic growth, you know, probably double what we got. But nevertheless, having said that, I think it would continue to validate that we believe we are not immune from the economy but we are somewhat insulated. But we do believe next year, and this is what they are saying, foot traffic is going to be down. And that is going to be inevitably have somewhat of an impact on us. We also know they are talking about balance sheet focus. And that -- you know, we are assuming that we may not have total alignment next year on POS growth and shipping growth. So these are all the things that while we can't put too fine a point on how much we think the economy is, versus the weather, you know, it's somewhere -- maybe it's 50/50 or something.

Let me just throw on there, just since -- you know, the whole tone of this is a little tough. Our discussions with our retailers for the '08 programs and I -- well, I will just -- I will just -- I'll let Sanders say it because I said they are going to ask, how have -- what does your listing support look like next year? And I think this is quite different than this sort of tone you are hearing here.

Our listing support is strong. We've had good meetings with all of our retailers. I think we've got virtually everything that we have asked for. They have great programs. They understand where their consumer is at. You will see a greater call to action, kind of a sense of urgency getting people into the retail stores leading with lawn and garden, to try to drive some of that because it is somewhat insulated. It's a different type of business, really, than the construction business. o we have good programs, good listings and they are fairly strong on where we are at and we are getting good support, I would say actually better support than we have in the past relative to the other categories in their chains. So they are working with us, they're excited, our teams are excited and the programs are pretty well set for next year.

Well, I mean, what he told me was we have never had better programs than we have in '08.

Yes.

Got you. And one last question. On Smith & Hawken, I guess in light of the write-down, are you expecting Smith & Hawken to be profitable in '08 or will it still be a drag?

It depends who you talk to.

I'm talking to you.

You ask me -- [ LAUGHTER ] Me versus Dave. I think the business needs to be making money. I don't think Dave has built that into his budget and therefore, there's probably a difference between sort of the optimism of me and we definitely -- listen, they had their store managers' meeting like, two weeks ago in Novato. This is a group of people, you're talking -- remember, we -- we asked the management there, when can we choke you for the results. And they said, basically starting in the spring. Since the spring, going forward, they have had comp store growth of 14%. Big ticket items selling really well. If we had more teak right now, we could have sold more teak, okay? This is a group of people who are, like, on fire. They have got a really good/bad attitude. Bad meaning good. And they have made a lot of progress in the fall in Q4 in their catalog and the direct to consumer side of the business. We here in Ohio are really fired up about sort of the application, I want to call it, of the Smith & Hawken brand as a brand of lawn and garden, like, consumable products and low-end hand tools. Sort of authentic quality products that could be sold through our existing channels. And so we're pretty optimistic. The write-down was driven by the math that the auditors do, and it's like I didn't really resist that much. It's non-cash. But it doesn't really change our feeling on the business. Now, we're not dumping a lot of money into store growth next year, because we are focusing on the North American consumer business. So they have got a couple of stores in their budget and we expect continued improvement in their, in their merchandising mix in the store and the catalog and the Internet. And so they've got some stuff to prove. They are not going to get a lot of money. I --The difference between Dave and is not a very big number. So it's okay.

Okay. Thanks.

Jim Barrett, CL King and Associates, you may ask your question.

Are you there, Jim?

Mr. Barrett, please check your mute button.

Too late!

Mr. Barrett, your line is opened. Please check your mute button.

Why don't we move on.

Eric Bossard of Cleveland Research, you may ask your question.

Good morning.

Good morning.

A couple of things, first of all, can you give us a sense of the sales expectation for your big customers next year? You talked about their total business being down 5% this year, and your business being up a couple percent is that a similar expectation next year or is it a lower expectation than that next year?

Listen, I -- first, I think you could listen to Frank Blake and the guys at Lowe's talk about their business. I don't need to sort of interpret for them. But if you listen to the folks that I have heard publicly talking, it sounds pretty suicidal, actually. I think that they are -- they are really worried about sort of expensive project work and footsteps in the store. So I would say our business continues to outperform the numbers that, my understanding is that they are using it internally and we view lawn and garden as better than their entire business and even with the numbers that we put out, that's, I think, in many cases significantly better than what they are thinking, based on what I have heard. Okay.

Is your expectation for growth for those customers next year similar to what you generated this year?

We will be better next year than this year. Primarily driven by weather is the assumption.

So I guess I'm confused. Is -- you talked about more conservative sales outlook but it sounds like the sales growth is going to be kind of similar to what you generated this year and it will be better with your big customers. Where do you think you are being more conservative or more cautious in the sales outlook.

Well, for '07, we are down significantly from where we have been in growth rate. So we have not brought it back up to our historical growth rates. We have moderated. Pricing is built in there, and I think Dave talked earlier about, 3, 4% organic growth rate, which is lower than it has been historically.

Okay. Okay. Secondly, in terms of the new efforts, the four initiatives you talked about or more specifically within those four initiatives, I understand the $40 million of interest and tax and bonuses, but can you quantify the amount of incremental dollars that will be spent next year on -- on the initiatives?

Yes, I think we already sort of talked around the issue and we will be more specific in December when we meet with you guys. Listen, I think sort of stand by for a really good day of talking about where the business is going, how we are spending our money, and meeting the people who are driving the business. And I think all in all, I'm pretty sure you will be impressed.

And then lastly in terms of the SG&A spending within that, the selling and advertising and marketing spending within that, not the strategic cost issues, but the selling issues, is the emphasis from that -- or the payback from that going to be manifested in gaining share, getting the category to grow faster or moving your mix higher? Which of those three do you think is sort of where you expect to get the greatest payback from the spending?

Primarily into -- not as much in share but in growing the category which will take the lion's part of that share, and then accelerating the mix, improvement in mix.

Okay. So you kind of feel like your share is sort of where it is, it's just driving your mix higher and getting the overall category to grow faster?

And getting a larger part of the growth, right.

But that has been our philosophy from the Berger days which is grow the category and take the lion's share of the growth. I do think that if you look at the business, the opening price point business is still a significant part of the business, and while we have been taking share, it's still an important part of the business. We do a lot of that now. So I think you will see the whole categories grow based on our efforts.

Okay. Thank you.

Vicki, I know we have a number of left in the queue, I think we have got room for two more. So if we can jump ahead, and if we don't get to you, just please, you can give me a call directly later in the day.

Our next question comes from Connie Maneaty, BMO Capital Markets.

Good morning.

Good morning.

You mentioned that diesel was $60 million. How much is your total distribution expense? Or are they one and the same?

No. No. No. No.

It's about $300 million.

And so you booked that in cost of goods?

Oh, yes.

Okay. Good. So it sounds as though -- so diesel is a component of the $300 million or is it additional?

Within that.

It's a component of that. So Connie when we think about distribution, we are thinking about storage, handling, and for us, we're primarily using third parties for our logistics so for the freight. So when we talk about fuel costs, it's not necessarily totally direct cost for us, it's coming indirectly through third parties who are shipping our products for us.

Okay. Okay. So with the change in your manufacturing to a more regional footprint, I suppose it takes a couple of years to build new facilities, are you looking for a payback in this more in the 2010 time frame?

I think the answer is yes. But I'm -- I wouldn't jump to the conclusion that we need to build facilities and that it's significant sort of fixed capital. I think that we're in discussions with folks who could partner with us to use existing infrastructure that we can sort of marry into,and I think that -- we believe those discussions with fruitful but they are not concluded yet. But I think the first -- the second part of the question is, yes, you will see those of 09 and 10 and beyond with the payback and it's a significant payback. Again, the money goes to both the earnings statement and driving our business forward. So that's how the money gets used is about half and half.

Okay. Also, from the initiatives you announced a few months ago, the sort of internal reorganization, are all of the costs associates with that going to run through the P&L and included already in your guidance or will there be a separate restructuring charge?

The answer is they all are included in what we are describing today, and we -- we are not planning for a restructuring charge to complete that organization.

Okay. And then finally, where are you on the search for the COO position? Is there a short list of candidates yet?

In process. It's something that Arnold [Donald], the head of the comp and org committee, Denise Stump who runs HR for us and myself are very involved in. We have a board meeting next week. The board is expecting a report and I would say, we are making progress.

Okay. Thank you very much.

You bet.

Joe Altobello of CIBC Markets. You may ask your question.

Thanks, good morning. Actually most of them have been answered. Just had one quick one. It seems like since I have been following you guys, I guess about five years now, it's been sort of a feast or famine with your investment levels. You know, a few years ago you invested a lot in building up your systems and then it sounds like today you are talking about how you may cut back a little bit and then now you are talking about another big wave of investment and to go through these, you know, periods of over earning and under earning and over earning again. I was curious, is there a way that you guys could smooth that out, in terms of investing a little bit a year, rather than doing it in these one -- big two or three year projects?

I think the answer is yes, by being consistent, which is part of what I think sort of looked at this summer, as saying, we have not been investing for the long term, and that requires us to step in. I do think that what's a little different than the past is a lot of the buildups we have done in the past have been capital investments and a lot of the investment we are talking here is P&L investment, that is like, directly into the balance -- or into the earnings statement. And so I -- I think that while the capital budget to get the stuff done probably will increase somewhat over time, I think that the big issues are really right now much more for me focused on what we're doing in the sales force, what we are doing with the marketing and sort of our interactions with the consumer and R&D which, is really, I think, a key to higher margins is innovative products. And we have got actually a pretty interesting group of stuff that we can talk about with you guys in December that we believe will drive margins up. So I think the difference between sort of the past investment and the current investment is that there's somewhat more P&L bias where it's going to run through the P&L instead of the balance sheet.

Okay. But -- but is there a way to sort of smooth that out, though?

Yes. Be consistent.

Okay.

And consistently high dollars, which I believe would have paid out had we sort of had the cajones to sort of stand out in front of the boat and say we are leading this boat and not following it.

Got you, okay thanks.

Are we done?

Yes, Vicki, I think that's all we have time for. If there are people in the queue who we have not gotten to, you can call me directly later today. 937-578-5622. Otherwise, we will see all of you, we hope in December at our analyst day conference in New York. Thanks for joining us. Have a great day.