Earnings Call Transcript - SMG Q2 2021

Operator, Operator

Good day, and welcome to The Scotts Miracle-Gro Company's Second Quarter Earnings Conference Call. As a reminder today's conference is being recorded. At this time, I would like to turn the conference over to Jim King, please go ahead.

Jim King, Chairman

Good morning, everyone. I'm Jim King, and I'd like to welcome you to the Scotts Miracle-Gro’s second quarter earnings conference call. Joining me this morning is our Chairman and CEO, Jim Hagedorn; our Interim Chief Financial Officer, Cory Miller; as well as our President and Chief Operating Officer, Mike Lukemire; and Chris Hagedorn, Group President of Hawthorn. In a moment, Jim and Cory will share some prepared remarks and then we'll open the call to your questions. In the interest of time, we ask you to keep to one question and one follow-up. I've already scheduled time with many of you after the call to fill in the gaps. Anyone who wants to set up some Q&A time can call me directly at (937) 578-5622 and we'll work to set up some time as quickly as we can. A quick bit of housekeeping, Cory and I will be participating in the William Blair Growth Stock Conference in early June, which once again will be held as a virtual event. As many of you know, historically, we've used this event as an opportunity to update the investment community on the state of the business coming out of the critical month of May. We'll publish more details related to the date and time of the event a couple of weeks in advance. With that, let’s move on to today's call, as always, we expect to make forward-looking statements, so I want to caution everyone that our actual results could differ materially from what we say. Investors should familiarize themselves with the full range of risk factors that could impact our results and those are filed in our form 10-K, which is filed with the Securities and Exchange Commission. I also want to remind everyone that today's call is being recorded and an archived version of the call will be published on our website. With that, let's get started. And so I'll turn the call over to Jim Hagedorn. Jim.

Jim Hagedorn, CEO

Thanks, Jim and good morning, everyone. I'm only going to speak for a few minutes this morning. We shared a pretty comprehensive outlook during our analyst day meeting a few weeks ago, and I don't need to repeat the key themes you heard that day from the rest of the team. Here's the main thing to take away from this morning's announcement and from this call; the business remains extremely strong and our optimism about another great year continues to swell. In our US consumer segment, retailers remain highly supportive and consumers are in full swing as we enter the peak weeks of the lawn and garden season. POS is up roughly 25% as we enter May and we're seeing encouraging trends in recent weeks as we begin to compare against last year's record results. At Hawthorne, we just posted our biggest four-week sales month ever in April, continuing to build on the momentum we saw throughout our record first half and giving us the confidence to raise our sales guidance once again. The innovation we talked about during the analyst day continues to be a driving force for this business and is helping us put more distance between Hawthorne and the competition. The only negative news we've seen has been related to issues beyond our control, and that's the cost environment. Just like about every other company that most of you are following, we continue to navigate significant inflation in commodities. So I actually want to begin my remarks there and then transition to talk about each of the businesses for just a few minutes. You'll hear from Cory that we're seeing more downward pressure on our margins than we expected. And as you saw in our press release, we're taking aggressive action to address it. Effective in the fourth quarter, we're implementing a mid to high single-digit price increase in our US consumer business that will carry into fiscal 2022. We took a similar increase at Hawthorne. Over the past 15 years or so, we've taken pricing in all but a few years. Usually, it's less than 100 basis points. That level of pricing has allowed us to continue to innovate, it's allowed us to invest in more marketing, it's allowed us to create a more technically proficient selling process at Hawthorne, and to ensure we're nurturing our people at all levels and locations in the organization. I don't like price increases at this level, I'll just say that. I'm not worried about elasticity in the consumer business, and the price increase at Hawthorne has not had an impact on our order volume. But I prefer small and steady increases instead of a change like we're implementing this summer. That said, every raw material we're buying right now is at a materially higher cost than we planned. Distribution costs are higher, too. So we're going to do what we need to protect the margin structure of the business in order to maintain the tools that we need to keep our business healthy and to behave like an industry leader should behave. We're fortunate to be in two remarkably resilient categories. We're fortunate to have clearly differentiated businesses with real competitive advantages. So as long as we remain committed to delivering value to people who use our products, I believe we'll be able to pass along these price increases with little to no disruption to our business. With that, let's pivot and talk about our US consumer business because we continue to exceed our own expectations, which is giving us the potential for upside to the guidance we revised just a month ago. During our Analyst Day meeting, we moved our sales guidance for the US consumer business to a range of 4% to 6% after last year's 24% growth. However, it's already beginning to look as if that estimate was too conservative. Right now, consumers are behaving almost exactly like they told us they would. Going into the season, 86% of consumers who entered the category last year told us they would be back. More importantly, two thirds of them said they would engage at an even higher level than they did last year. The week after our Analyst Day event, we posted our first ever $200 million week of POS with our top four retail partners. On a full month basis, April POS was up about 25% even when factoring in an extremely difficult comparison in the last week of the month, and the impact of a late blast of winter weather in the Midwest and Northeast that kept consumers in their homes the week prior. As we saw last year, gardening activity continues to lead the way. Entering May, consumer purchases of our soils are up roughly 30%. Our long fertilizer business was up 15% year to date and grass seed is up more than 35% entering May. This is the third straight year of double-digit growth in grass seed as we continue to benefit from the tremendous efforts of our lawns’ R&D team. Controlled products are up approximately 20%. Entering May, we remain up double-digit in every region of the country with every major retailer. We continue to see a high level of engagement in all retail channels. Remember, though, May is critical for most of the business. We're up against a tough comp for the balance of the year and we expect to give back some of our first-half POS gains. But the level of consumer and retail engagement is better than we were expecting and is giving us confidence that we may have some additional upside volume on a full year basis. Because so much of the year is still in front of us, we're not going to reset the sales number again this morning, but we will provide an update in early June. But as you know, we are resetting the Hawthorne numbers again this morning as that business simply continues to outperform all of our expectations. The second quarter marked the fifth straight in which Hawthorne reported at least 60% sales growth. The business is now up 68% on a fiscal year-to-date basis. We continue to see strong growth in all Hawthorne categories, especially lighting in North America. Cory will cover the details in a few minutes. However, I do want to commend the team on the way they're operating the business right now. Our commitment to innovation and our 360 selling process is manifesting itself as a distinct competitive advantage. We are not only driving growth but continuing to distance ourselves from the competition and set the industry standard. While it is difficult to quantify market share in this space, we're confident we're outpacing our competitors. Hydro retailers see the clear advantage of working closely with Hawthorne and commercial growers are continuing to see us as the clear leader in this space. If you've not viewed the presentations we shared last month, I'd encourage you to go to our IR website and watch them. You'll quickly understand how and why this business is performing so well. The growth at Hawthorne continues in all geographies. Our largest market, California, was up 80% in the quarter. Michigan rose 60%. And we saw triple-digit growth in seven states, including Oklahoma, where the business grew 250% compared to last year's second quarter. In addition to the current marketplace, since November, eight more states, including three in the past two months, have either expanded their existing markets or allowed cannabis cultivation for the first time. Whether we see federal reform with this administration or not, clearly, the momentum at the state level is not slowing down. We'll see more markets open and create more opportunities for growth. And I'm convinced we'll continue to spread our wings in the years ahead, building on our competitive advantages to drive growth and further solidify our leadership in this space. Whether at Hawthorne or the US Consumer business, we remain in a great place right now. The team is firing on all cylinders. All aspects of the business are strong. The M&A pipeline has lots of potential and we have tremendous financial flexibility. I know I've been saying this for several years now, but I can't remember being this optimistic about our future. And I want our shareholders to know that we're not taking anything for granted. We see opportunities out there but we know success won't simply fall into our lap. We've got to go out and capture it. I'm convinced we have the right team and the right strategy to do just that. With that, let me turn it over to Cory to cover the financials.

Cory Miller, Interim CFO

Thanks, Jim, and hello, everyone. I joked during my Analyst Day remarks that I've had the good fortune of calling up our numbers nearly every time I've spoken publicly since I took on this new role. And here I am again reporting on another strong quarter and once again in a position to update our guidance. Obviously, the positive news this quarter continues to focus on the strong top-line growth in both businesses. However, we're starting to see a bit more margin pressure than we expected. As Jim said, that will likely continue through Q3 and then begin to level out. I'll get to the margin discussion in a bit but let me start with sales in the quarter. Company-wide sales were up 32% in the quarter and we were up 47% year-to-date. We said at the start of the year that we'd be ahead of our full-year guidance at the halfway point, but this is exceeding those expectations. The US Consumer business was up 23% in the quarter and is up 39% year-to-date. We continued to benefit from retailers building inventory at the start of the season, though the overall growth rate in the quarter matched the percentage of year-over-year POS growth as well. We normally don't spend time on the Other segment, which is primarily our Canadian business. However, that business was up 82% in the quarter and 75% year-to-date. So the growth in the quarter was worth more than $40 million. The story in Canada is very much in line with the US. The consumer is highly engaged, and retailers are increasing their inventory levels to stay ahead of demand. It's worth noting that the profitability of the Other segment is up dramatically this year as well. We're not really investing much more in that business, so the upside is falling pretty cleanly to the bottom line. Back to the US segment. Jim said, we are seeing the potential for upside to our recently revised guidance after the strong numbers we posted in April. Retailers continue to aggressively place orders as they expect consumer demand to continue throughout the balance of the season. Given the tough POS comps we have in May, we want to have more clarity before we make any adjustments to our guidance. That's obviously not the case with Hawthorne. We had a record sales month in March to close the quarter, which helped us post the 66% growth you saw in the press release. During the quarter, US lighting sales increased by more than 95%, and sales of growing environment products improved nearly 110%. Consumables were up strongly as well, led by more than 45% growth in growing media and 40% in nutrients. Though momentum carried into April, which was another record month and gave us a strong start to Q3. That's what gives us the confidence to raise our Hawthorne guidance again to a range of 30% to 40% growth on a full year basis. For the time being, we did not adjust our company-wide EPS guidance. We'll likely make another adjustment in June when we update US status of the US Consumer segment. As Jim said, we're seeing more downward margin pressure than we expected, which is offsetting much of the upside we're getting from Hawthorne. In fact, the higher rate of growth on the lower margin Hawthorne business is having more of an impact on our gross margin rate than we planned coming into the year. Company-wide gross margins on an adjusted basis were down 340 basis points in the quarter to 36.6%. On a year-to-date basis, the rate was 33.7% through March compared with 34.8% a year earlier. While Hawthorne segment mix is a big factor in the decline, the biggest issue is commodity and distribution costs. This pressure is more than offsetting the considerable fixed cost leverage that has been a benefit of the higher volume we've been running through our supply chain. The pressure on gross margin rate is likely to continue in Q3, which is why we now expect the rate to decline 175 to 225 basis points on a full year basis. As Jim said, we've already been aggressive with our pricing decisions in Hawthorne, and we'll take a significant price increase in our US Consumer business as well. These increases should begin to help us later in the year and will obviously put us in a better position as we develop our business plans for fiscal '22. It's worth noting that we entered fiscal '21 after negotiating a planned price increase in our US Consumer segment to take effect in August and then run through fiscal '22. But as commodity prices continued to climb, we took an even more aggressive posture. As the industry leader in this category, we embraced the responsibility to continue to innovate and invest in marketing efforts to drive consumer engagement. It takes margin to make those investments, and our decision allows us to continue to invest in the business in a way that our retail partners would expect. Let's move on to SG&A, which was up 18% in the quarter and 23% through the first six months. The increase is due to higher planned marketing and media costs, as well as higher accruals for variable pay. The effect of variable pay in our P&L will begin to reverse in Q3, however, and when combined with lower stock-based compensation, still should be a full year benefit of $50 million or more. I also want to note that we are not changing our SG&A guidance right now, which projects a year-over-year decline of 3% to 8%. However, as we begin to see potential upside in the US Consumer business, we're likely to use some of that if it materializes as we expect to further invest in our brands. We would not look at those investments to pay off in the current year, but to help us continue to strengthen our relationship with consumers and drive the business into future years as well. There's not a lot of news between SG&A and the bottom line, so I won't go through the rest of the P&L unless you want to cover it in Q&A. Our non-GAAP adjusted earnings, which are the basis of our guidance and exclude restructuring, impairment and nonrecurring items were $322.3 million or $5.64 per share. This compares to $253.8 million or $4.50 per share a year earlier. As I said, we're leaving our full year adjusted EPS guidance in place for now, which is a range of $8.60 to $9 per share. The high end of that range would mark more than a doubling of our earnings in just a two-year time period. Moving quickly to the balance sheet. We finished the quarter with a leverage ratio of 2.1 times debt to EBITDA. As we told you last month, there are quite a few M&A opportunities in the pipeline right now, but we have more than enough capacity to make the investments we want while also increasing our CapEx and returning cash to shareholders. Looking ahead, you may see us once again turn to the bond market to raise some capital and lock in long-term debt at the current rates. While this may have a short-term dilutive effect, we believe locking in money at these higher rates will be beneficial in the long run if you assume higher rates are on the horizon as we do. Finally, you'll notice that CapEx is running behind the $125 million to $150 million investment that Jim and I discussed with you last month. Historically, the majority of our CapEx investment every year comes in the second half of the year, which we would expect to be true again this year. So that keeps us on track to deliver our revised guidance of approximately $250 million in free cash flow, which we define as operating cash flow minus CapEx. I'll close by saying I couldn't agree more with what Jim said a few moments ago. With the exception of commodity prices, which are beyond our control, the business is operating as well as I've seen during my 20-year tenure here. I'm extremely confident in our guidance. I see the opportunity to do even better and believe we're putting the company in a great position as we begin the planning process for fiscal 2022. So with that, I'll turn things back to the operator, and we'll open the call up for your questions.

Operator, Operator

We'll take our first question from Jon Andersen with William Blair.

Jon Andersen, Analyst

I wanted to start first about Hawthorne. I think Jim pointed out, this is the fifth consecutive quarter of growth above 60%. You taking your outlook a couple of times now. And the growth has been exceeding what you've previously talked about as kind of a long-term expectation now for quite some time. You also mentioned in the prepared comments the new states that have come online since November, which will probably go live in a more meaningful way over the next 12 to 18 months, which would seem to portend good things for Hawthorne over the next several years. So how are you thinking about the sustainable growth rate at Hawthorne over the next two to three years? And why couldn't we continue to see the kind of growth that you've been putting up more recently out of that business?

Jim Hagedorn, CEO

I do. While Cory is whispering in my ear, which I think is nonsense, I remember the one time I got caught off guard was when I said I didn't see why we couldn't sustain a 15% growth rate for a long time, and then we hit 18%. For those who have been following us for a while, I acknowledge that if I made a mistake, it was in committing to those growth rates. I agree with you; there will be resistance to committing to a specific number. I want to remind everyone that our push into live goods and Hawthorne began because we saw our core North American Consumer business as a 1% to 2% growth opportunity, and we believed we could achieve 2 to 3 times that growth rate at fair pricing with Hawthorne and live goods, which has proven to be true. The sustainability of this growth, from my perspective, is not due to my efforts but the hard work of Chris, his team, and Mike in building the business we previously discussed, backed by significant competitive advantages. We are making progress towards becoming a valuable partner for our business associates. A couple of weeks ago, I asked Chris how far along we are in this journey, and he mentioned we are about 80% there. We still have work to do in areas like supply chain, innovation, technical selling, and possibly adding new product lines. For example, the lighting business is a great case of innovation, and while I won't specify a number, I believe it goes beyond what Cory would be comfortable with me saying. I'm not sure if that fully answers your question, but I believe we are building a business we can all be proud of. Cory, feel free to jump in. Cory wants to say something, and perhaps Chris has additional insights.

Cory Miller, Interim CFO

During April, we transitioned two of our facilities into larger buildings to increase our output, and we also opened a new facility. This positions us for growth in the future. We're working to enhance our supply chain to enable us to ship more products than we have before. As noted, March was an excellent way to conclude the quarter, and April set a record for us. Each time we open a facility like this and increase our shipments, we're aiming for another record month ahead.

Jim Hagedorn, CEO

Yes, there's two ways to look at that. I think, Jon, we're on sort of generation three of sort of supply chain footprint as this business grows. And I think Mike would probably say maybe that was a mistake, generation two was a mistake, not thinking bigger because we're just sort of just settling down in a facility and finding out like that's not working. We need to do it again. And it's a bit stressful. But I think we're leaving a lot of sales on the table. So we continue to, I think, on both businesses, to be honest. And a lot of credit goes to supply chain people for kind of keeping up. But I think if you said, are we a good vendor from a supply chain delivery on time in full? I don't know, Mike, what would you say?

Mike Lukemire, COO

I’d say we were getting better.

Jim Hagedorn, CEO

But how would you grade us?

Mike Lukemire, COO

I'd probably give us a B minus.

Jim Hagedorn, CEO

So I think that while it's true what Cory says, we open up a facility and we pick up sales. I think in part because we were leaving sales on the table when we couldn't deliver. So part of it is growth and part of it is actually having a fulfillment system that is more successful at getting product out the door. I don't know, Chris, anything you want to throw in?

Chris Hagedorn, Group President of Hawthorn

Yes, I believe a lot has been addressed. However, I must say that our service levels are not where I want them to be. I think some of our retailers listening on the call would likely share this sentiment. While we can still outperform our competition, we are not meeting the high standards we set for ourselves. We are making significant progress and investing considerable thought, effort, and resources into enhancing our supply chain. If I could freely express my thoughts, I might mention a figure that Cory would likely disagree with, so I won’t go there. Nonetheless, I am very optimistic about the future of the business. I believe we can enhance our service levels, which I consider our main obstacle. We're also excited about some upcoming mergers and acquisitions that will address important product and brand gaps for us, which we expect to finalize within this fiscal year. I am genuinely enthusiastic about this business and believe we can keep improving it. Much of the challenge has been self-inflicted, and we are dedicated to overcoming that. It's important to acknowledge the strength and competitiveness of our rivals, but I think we have at times stood in our own way, and we are actively working to change that.

Jon Andersen, Analyst

Just a quick follow-up on the pricing commentary. Have you priced already in Hawthorne? Is it at similar levels to what you described for US Consumer, mid to high single digit? And as the leader, do you expect competition to follow or have you seen them follow?

Chris Hagedorn, Group President of Hawthorn

We've already taken our pricing, so it's been in market for about a month now and we haven't seen any impact on volume. On the contrary, it's been picking up. So you're saying, man, we should have taken more and we have the chance. And this is one of the way areas we really like the breadth of our portfolio. It allows us to take pricing in kind of very precise areas and leave certain categories sort of untouched from a pricing perspective, and that's something that we think we can leverage much more than our competitors can. As to do we expect competitors to follow suit, we do. Typically, what we've seen is it will be a month or two in lag from us that we'll see most of our major competitors follow suit very closely. So I don't believe we've seen that hit the market yet but we're kind of just getting to the time frame where we'd expect it to be any day now.

Operator, Operator

We're taking our next question from Bill Chappell with Truist Securities.

Bill Chappell, Analyst

I guess first question on the pricing and the timing of the pricing. I guess, I think you had said for the US Consumer business, it's going to happen more July, August, and with the season largely done kind of by July 4th. Just trying to understand, is it that you're already fully hedged for your most you need this year and so you're just trying to take action for next year? Or will you see something sooner in terms of maybe lower promotions or something like that, that could impact May sales and June sales?

Jim Hagedorn, CEO

I don't think you're going to see lower promotions. Retailers are currently very conscious of their margins. They're experiencing fluctuating prices. However, I don’t anticipate any immediate changes to promotions for our product lines. The price increase planned for the summer has been a topic of discussion for some months due to the mounting pressure. Retailers are aware of the actions we are planning. I suggested to Mike that we consider implementing the pricing changes sooner, but he was hesitant, which I understand given that it's a significant increase compared to historical figures. In my time here, we have only looked at this level of pricing once before. I believe we don’t have much choice in the matter. Mike has mentioned that depending on the commodity market, we may need to revisit pricing. However, considering the current attitudes and the limited advantage of doing it now, I’m more comfortable with Mike's inclination to push this towards the end of summer, and I agree with that. Regarding hedging, our position is pretty standard compared to what we've seen historically. Although we are largely hedged, the price increases we are witnessing are still quite shocking. Mike, do you have anything to add?

Mike Lukemire, COO

No, I believe we had an agreement with retailers for August pricing, and we've increased it. We decided to proceed in that direction. We're in good shape with our remaining production. If there is any pressure, it's in certain categories where we are overselling the plant, like in soils, leading to higher purchases, which means some elevated costs are coming in a bit sooner. That's the pressure we are encountering. However, when we assessed the gap between May and August, the difference wasn't significant enough to warrant a change, so we opted to maintain the August pricing.

Jim Hagedorn, CEO

And I think another thing to add, just so people are clear, is we elected not to take any kind of significant pricing at all during kind of the COVID year last year. And retailers were, I think, very much aware that we were taking a pretty benign position in regard to pricing last year as a result of not knowing what was happening and that, that was going to be required. So part of this is catch up as well.

Mike Lukemire, COO

Yes, think about it as two years’ worth of pricing here.

Bill Chappell, Analyst

I understand that many of the consumer packaged goods companies are raising prices to recover in the second half of the year, while you seem to be doing this in your fiscal fourth quarter. So, this is essentially a recovery for fiscal '22. Is that correct? The prices you are discussing now seem to make a significant impact.

Jim Hagedorn, CEO

Yes, the answer is, yes. It's that simple. Again, I think maybe once, like right when I showed up and I was like, I think running Miracle-Gro at the time, so I was like a segment leader, we took pricing mid-season. But I think it's pretty disruptive in this business to take pricing in the season, and it just sets off pandemonium, a ton of resistance but the retail level to retailers to do that. So I told Mike a couple of weeks ago, I think we should pull it forward. But I think they made good arguments that a couple of months is not worth the trouble it's going to cause.

Bill Chappell, Analyst

And you're comfortable with your guidance without having to do it, which is great. My follow-up question just on Hawthorne, maybe a little different way to ask Jon Andersen's question of where is the growth coming from. I know on the lighting business, a lot of that was replacement lighting from existing customers. Some of that lighting business was just stuff that you couldn't even fill from last year. So just kind of a mix that you're seeing. Is it from newer, more recent states, more recent customers, or is it still being driven by just kind of replenishment of existing customers?

Jim Hagedorn, CEO

I'll start, Chris, if you don't mind. I consider you a friend, and I'm not trying to manipulate the situation. But I believe the current landscape of the business shows that 50% of our revenue is from LED, indicating a significant technical transformation that Gavita is benefiting from. This is monumental. If you analyze the business, it's clear there’s still potential for growth. People are transitioning, and there’s considerable room for innovation. Some of you might be familiar with our collaboration with Michael Porter at Harvard Business School. Chris, Mike Lukemire, and I gathered there to discuss our approach to leveraging components sourced globally. In the past, we followed technology trends set by others. During a visit, Mike stepped away, and upon returning, he found everyone stunned. Porter suggested that if we were merely followers, we should consider selling the business while it’s still valuable. Later, as I traveled back with Christopher, he mentioned he had some inquiries about the meeting with Porter. His response shifted our perspective on lighting as a crucial strategic focus within our industry. I’ve previously expressed pride in our team’s efforts; we’ve developed outstanding LED fixtures, and we have a lot of innovation on the horizon to sustain our growth. This isn't just about a growing market or fulfilling past orders; we've evolved into a strong strategic vendor and innovator in lighting. I encourage anyone interested to visit us as COVID restrictions ease. We can meet here or in Oregon to showcase what we've accomplished, and it’s truly impressive. Chris, you should take the lead on this question.

Chris Hagedorn, Group President of Hawthorn

Yes, I believe you've covered a lot of the points. There is a strong balance between replacement products and new builds. Each new state we enter creates numerous new facilities, and we are equipping those. We're experiencing significant growth in places like Oklahoma, which is exceeding our expectations. In fact, last month marked the first time that Oklahoma outperformed Michigan. The growth there is remarkable and primarily driven by new builds. While I wouldn't say it's 100%, the vast majority are new. In California, new builds are still emerging, but we've designed our lights, especially the LEDs, to be simple replacement products. For instance, our new Gavita 1930 fixture can directly replace old HPS fixtures one for one. We are still seeing strong sales of our Gavita high-pressure sodium line too, which we continue to innovate, making them more cost-effective, easier to service, and simpler for our customers to install. Overall, we're witnessing growth across the board, making it challenging to pinpoint a specific area.

Cory Miller, Interim CFO

And I'd just add on that LEDs are about 50% of our lighting business. And if you think of our total North America business, LEDs are about 15%.

Operator, Operator

The next question comes from Joe Altobello with Raymond James.

Joe Altobello, Analyst

Just had a couple of questions, first on margins. Are you guys pricing to offset the cost increase on a dollar-for-dollar basis or do you expect to maintain your margin structure as we head into fiscal '22?

Cory Miller, Interim CFO

We're looking to price to make sure we're maintaining our margin structure. And if you look at our margins today, we've seen a little decline in margin. Some of that's related to the segment mix as Hawthorne being a lower margin business grows faster than the US Consumer business. The enterprise-wide margin declines a little bit. So within each of the businesses, we're trying to price to maintain that business's margin structure.

Joe Altobello, Analyst

And so if I interpret your comments correctly, given the hedges that you have in place and the pricing that's coming in August, we're probably unlikely to see the gross margin outlook for '21 drift lower from here, it sounds like?

Cory Miller, Interim CFO

The plan is right now, given where commodities are and where we think they're heading, that our margins will be in a very similar ballpark to where we are this year. We'll continue to go through the plan and see if there's additional pressure based on continued cost increases. But right now, we're looking to maintain the structure that we have.

Joe Altobello, Analyst

And just if I could shift gears a little bit to the US Consumer. I know we're still very much in 2021, but how are you guys thinking about that business for next year? I know you think the business is a 2% to 4% grower over the longer term. But do you anticipate that business might take a step back next year after what appears to be two very strong years in 2020 and 2021?

Mike Lukemire, COO

Well, I would never say go backwards. So I think we're going to learn a lot here in May and June. But the conversations I've had with retailers, they're bullish even about 2022. So they're getting in earlier, so they're staying longer. And this is part of where we want marketing activities to continue to bring consumers in. So I would say I would expect to be above zero. I'm not going to put a number out there yet because they're all looking at me so…

Jim Hagedorn, CEO

I believe people tend to react negatively if they hear something unfavorable. However, during the virtual conference, we hinted at the possibility of a downturn next year, so I wouldn’t be surprised by that. I think Mike is hesitant to assert that there is no evidence to support that idea, but we are aiming to be responsible. Joe, you understand how to interpret that.

Joe Altobello, Analyst

So Mike is more aggressive than Jim at this point, it sounds like?

Jim Hagedorn, CEO

I believe that over the past two years, Mike Lukemire has been the most reliable indicator of our business. Randy has mentioned several times that when he felt uncertain about his finance team's forecasting, he would turn to Mike for his insights. Mike has consistently proven to be an accurate gauge. He tends to be enthusiastic and optimistic, and I have spent considerable time trying to temper his outlook recently, especially given the cool and wet weather we've experienced at the start of May. It feels like we haven't faced challenging weather in a long time. My intention is to ensure that Mike's optimism remains grounded. There are no negatives in our situation; our projections are still conservative enough that I believe we will meet or surpass our expectations. The current weather has allowed us to reset our supply chain and restock our inventory. Our team is fatigued, so a little weather change could be beneficial. As long as I can keep Mike's positivity in check, we should be able to navigate through any challenges effectively. While Mike is generally upbeat, I am optimistic about what we will discuss at the upcoming investor conference regarding our results through early June, which is crucial for our manufacturing forecasts and our yearly outlook. From your perspective, there is nothing to worry about; it’s more about how much we might exceed our estimates. I believe Mike's insights are contributing positively, and I am simply trying to manage expectations as we assess our year-end inventory.

Mike Lukemire, COO

But how the consumer takeaway in the latter half of the year will impact 2022 is something we'll understand better later. If consumer demand is strong, that would be very encouraging. However, if it slows down, we may need to reassess what happens in 2022 to start gaining clarity.

Operator, Operator

We're taking our next question from Eric Bosshard with Cleveland Research.

Eric Bosshard, Analyst

A couple of things. First of all, in terms of clarity on your comment on gross margin for next year, I just wanted to understand. Is the '22 gross margin assumed in line with '21 or is '22 assumed to recover what was given up in '21, again, excluding the segment mix, which is the outcome we should be thinking about for '22 at this point?

Cory Miller, Interim CFO

We're currently looking at '22 to be in line with our current expectations for '21.

Eric Bosshard, Analyst

So there isn't a recovery; there's no point of recovery for what was given up in '21. Is that correct?

Cory Miller, Interim CFO

We look at the recovery to come over a potentially two-year period. As we look at what's happening with commodities, the pricing that we have in place, the balance of those two items are going to kind of drive the amount of recovery that we can have in '22.

Eric Bosshard, Analyst

And then secondly, I appreciate the transparency of nobody knows for sure what the numbers will look like in May and June. Your guidance implies the May and June POS down in the 10% kind of range. Am I doing the math right to just level set what the guidance implies in terms of those months?

Cory Miller, Interim CFO

Yes. Our current guidance would say that full year is kind of mid-single digits, and the upcoming months are kind of flattish.

Eric Bosshard, Analyst

And then for the last question, regarding the better-than-expected performance in Hawthorne, I'd like to know if you could address both factors. Specifically, which aspect has exceeded your expectations more significantly, the established markets or the new markets?

Chris Hagedorn, Group President of Hawthorn

Well, I'll answer first. And if Cory or Jim or Luke want to elaborate there, obviously, welcome to. I think to me, the bigger surprise is the new markets, we expect to be to be pretty explosive for us. The continued performance out of California is more of a pleasant surprise to me. We see really good continued growth out of that business, both existing kind of legacy consumers and cultivators and newer commercial guys. It's been a really pleasant surprise for us. So I'd say that has been more of a standout than the new markets, in my opinion.

Eric Bosshard, Analyst

And Chris, why do you think that's happening?

Chris Hagedorn, Group President of Hawthorn

I think it's continued pretty explosive growth out of the, again, what we refer to as legacy cultivators. I think that's a lot of what's driving it as well as just the rollout in the recreational market is still, I'd say, probably not in its infancy, but it's probably in its kind of adolescent years. The recreational market in California has not yet reached a state of maturity like I think you see in a place like Colorado. So we're just continuing to see really, really strong growth from those larger commercial accounts as well as just all the retail activity in California that services primarily those legacy growers.

Jim Hagedorn, CEO

I just want to throw out, just to make my team here uncomfortable, Eric, I think we still meet our Street numbers even if we have double-digit declines kind of for the rest of the year. Is that correct? I think that's correct. So I think what you said is pretty much correct. Now I don't think we see it that bad, by the way. Not at all. So therefore, we continue to be positive just because the hurdles for the rest of the year are not that high. And I agree with what Chris said, by the way. Just that if you look at the legacy states, California, Michigan, sort of our big states, just the performance in those real established states, number one and number two, just continue to be really positive and drive a lot of business.

Operator, Operator

We're taking our next question from William Reuter with Bank of America.

William Reuter, Analyst

With regard to your comments around lots of M&A and then another comment about potentially going back to the high yield markets, I guess what would be the size that you're looking at? I assume that this is all going to be on the Hawthorne side. And then, I guess, what would be the multiples that you're seeing at this point for those types of businesses?

Jim Hagedorn, CEO

I think most of what we're looking at is on the Hawthorne side, but we continue to be interested in live goods as well. Multiples, I think, are probably slightly higher on the Hawthorne side than they have been. We continue to be determined not to overpay. And I think historical multiples on the sort of consumer side are sort of in that 8-ish range. So I would say the mix probably favors, at least in deal kind of unit volume, favors Hawthorne. Although I think we continue and have been outspoken of our desire to sort of continue to solidify and strengthen the Bonnie business.

William Reuter, Analyst

And then just with regard to size, how large are the M&A opportunities that are out there, either in terms of sales, EBITDA, something like that? Just to give us a little bit of a sense. And that's all for me.

Jim Hagedorn, CEO

More money than we could spend. I think it's a very interesting time. It was, I think, key thematic as we went through that virtual Investor Day is the opportunities to further build this business with volume is probably as robust as I've ever seen it. And therefore, I think we have quite a bit of choice, and we've been kind of clear with folks on that, which is that there's enough opportunity out there and we don't have unlimited capacity that we have choice to choose. And in many areas, we have multiple choices for kind of a given segment. And therefore, we can sort of afford to hold our ground on value. So size, I think core Hawthorne, these aren't huge deals. Live goods, you could spend more money. But they're just a lot bigger, so 500 plus, something like that.

Operator, Operator

We're taking our next question from Carla Casella from JPMorgan.

Unidentified Analyst, Analyst

I know you guys alluded to it a few other times earlier, how much the gross margin pressure will be offset by price hikes. What we wanted to ask was if you guys had any sort of early read on the potential acceptance level of these price hikes, or are you seeing any volume pullback as perhaps the market conditions shift in this quarter?

Jim Hagedorn, CEO

I'll let Mike address this since he needs to finalize some details. However, I’d like to share my perspective first. This situation isn't up for negotiation. From where I'm standing, the pressure on manufacturers and those purchasing raw materials is immense. Last year, we hardly utilized any of those funds. If you analyze the spending, it’s likely that three-quarters of it has already been allocated. Our stance on this isn't different from other DIY hardware vendors. Keep in mind that the pricing changes were implemented at Hawthorne and accepted without pressure on orders. The retail side of the consumer market presents a different scenario. I hope we aren’t met with threats because there’s no benefit in that approach. This is not about greed; it’s simply a reflection of our current costs. Therefore, I really don’t see this as negotiable. While there may be some verbal pushback, I believe significant resistance is unlikely. Mike, you’re in charge of managing this situation.

Mike Lukemire, COO

No, I mean this is probably the first time we have to actually do this. And so we'll work with the retailers on the program. And if commodities were to go up again, we've already indicated that it could be higher. So we're trying to get it and work together and solve the problem together and not get into a volume game. This is a lot different than historic negotiations. This is a real issue for all of us and they're facing those issues as well, but we'll get it resolved. And so I think the discussions are good at this point.

Operator, Operator

We take our next question from Alex Maroccia from Berenberg.

Alex Maroccia, Analyst

The first one is on Hawthorne and new markets. It sounds like New York learned a lot from the tough rollout in California in how they're going to tax. So I mean, it could be a bit more successful from the start than the California market was. However, this market won't come online until Q4 '22. So do you think there's a scenario in early calendar '22 where Hawthorne growth looks a bit light on the tough comps and then you see a spike later in the year? I guess, generally, I'm just trying to figure out how material new markets have been for the business in the past few quarters.

Cory Miller, Interim CFO

As we look at the individual states that have come online, new markets like New York are much, much smaller. California is like 100 times the size of New York, just to put it in perspective. So as the rollout happens, there could be some bumps in the road on how it rolls out, but it's on a very, very small base. So it's something that won't even be noticed in our results. But after everything gets in place and we start operating kind of on the new way in a legal state, we expect continued increase in the percentage growth to be really, really strong in those new markets. But we don't see the pain of getting to that growth like we did in California in 2018 because we just don't have a large established market there already. So it's going to roll out in a different way than those earlier states just because of the size.

Jim Hagedorn, CEO

Chris, anything you'd add there?

Chris Hagedorn, Group President of Hawthorn

No, I think Cory covered it. New York is going to be a monster market for us, but it will take a little time for that to develop. So I don't think we'll see lightness there. I think the growth in New York is incremental upside for us.

Jim Hagedorn, CEO

It goes back to the initial question regarding the expected sustained growth rate for Hawthorne. When discussing light, it really depends on the specific figure. I don't think we'll ever declare a 60% growth rate. Cory mentioned approximately 15%, but Chris and I found that hard to accept. We've experienced setbacks, so it largely depends on the circumstances. However, in the long term, hopefully, you can see that with states like Pennsylvania and New Jersey entering the recreational market, and New York joining them, they could provide a substantial boost similar to what California offers on the East Coast. That's our perspective. But I would also like to know the growth rate you are prepared to use for Hawthorne or what figures you plan to incorporate into your models, as we are likely to commit to a lower estimate. This isn’t reflective of what we perceive, but rather stems from our past experiences, especially when I previously suggested a growth rate of 15% per year. It turned out to be a significant oversight, and for about a year and a half, I felt it was one of my biggest errors in communicating too hastily. I recall this happened at an investor conference in Florida.

Mike Lukemire, COO

We only look forward now. Don't look back.

Jim Hagedorn, CEO

I do reflect on that situation. When you consider the long-term perspective and recognize that we're expanding the business by becoming an essential partner to cultivators, it's clear that our strategy with Hawthorne is becoming more focused. We're implementing key tools that enhance our role as a genuine partner, and we are addressing margin rate challenges. Although Hawthorne's margins are better than they used to be, they still fall short of our corporate average, but there has been notable progress. It's challenging to summarize this without stating that, from our perspective, Hawthorne has been a rewarding journey long-term. The Board, which just met, appreciates the strategy we've developed for entering this space and has been very supportive, as has the entire management team. Moreover, if you look at the strengths of our management team across the significant segments of our business, including the consumer sector, the Hawthorne division, and the foundational Scotts aspect, it truly represents an exciting business worth investing in.

Alex Maroccia, Analyst

And then second one is on M&A based on one of the previous questions. Where do the synergies lie with layering on businesses to Bonnie, and would these be Bonnie-like businesses, just in different geographies?

Jim Hagedorn, CEO

I'll start by saying that Bonnie has a really unique business that begins with its brand. There are many companies in the market, but Bonnie has a branded business with a distinctive distribution and service model that I believe no one else possesses. While Bonnie may not be the largest in the green space, it is the most valuable and unique, which fits us well. Therefore, any opportunities we consider would ideally align with this. In terms of scale, Mike is more familiar with the numbers, but Bonnie likely has around 1,000 employees in stores during the season.

Mike Lukemire, COO

1,500…

Jim Hagedorn, CEO

People in stores are a priority for everyone right now. From our experience with Scotts North America, we learned that having multiple salespeople, invoices, trucks, and equipment creates unnecessary complications. My focus is really on finding synergies. It has been my aspiration to establish a dedicated team in stores like Home Depot or Lowe’s that does not travel between locations but works closely with store management on our specific products. I believe we are getting closer to making this vision a reality. Mike?

Mike Lukemire, COO

No, I agree. And I think about the effectiveness of the space in the stores and how you make it more effective and not fighting over space. But the store growth with less space means you've got to be more effective. And we think the live goods solution can actually help in those areas.

Jim Hagedorn, CEO

I'm not saying we're the only ones who can do this, but I believe we're among a select few with the capability, starting with Bonnie, to offer this level of service. There may be financial synergies on our side, particularly regarding in-store operations. I can assure you that since we have our own initiatives in stores, unlike many other vendors who participate in retailer programs, we are experiencing significant challenges in labor availability this year. However, we are well-prepared. Retailers, on the other hand, seem to be facing substantial difficulties. Our competitive advantage comes from our extensive presence in stores, enabling us to deploy our own teams effectively. If you speak with retailers, they would likely agree that Scotts is among a limited number of vendor partners capable of delivering such power in stores. It's probably just us and Behr Paint. I don't think any other non-lumber companies can match our capabilities. The execution benefits for retailers are significant.

Operator, Operator

It appears there are no further questions at this time. Mr. King, I'd like to turn the call back to you for any additional or closing remarks.

Jim King, Chairman

Thanks, everybody, for joining us this morning. If you've got follow-up questions or want to talk about things we didn't get a chance to address, again, just call me directly at (937) 578-5622. And as I said at the outset, Cory and I will be updating our status of the business in early June at the William Blair Conference. We'll issue a press release a couple of weeks out on the details of that conference, and more likely than not, the issuing a press release associated with the comments that we make at that event. So otherwise, we'll hang up at this point. Thanks for joining us today, and have a great spring, everybody.

Jim Hagedorn, CEO

See you guys.

Operator, Operator

This concludes today's call. Thank you for your participation. You may now disconnect.