Scotts Miracle-Gro Company (The)

Good day and welcome to the Scotts Miracle-Gro Company's fourth quarter earnings conference call. At this time, I would like to turn the call over to Jim King. Please go ahead.

Thank you, Operator. Good morning, everyone, and welcome to the Scotts Miracle-Gro fourth quarter conference call.

We're going to modify the structure of the call this morning, so let me set your expectations. I'm here today with Jim Hagedorn, our CEO, Randy Coleman, our CFO, as well as President and Chief Operator Mike Lukemeyer, Chief Marketing Officer Josh Peoples, and Hawthorne General Manager Chris Hangedorn. We've got a lot to cover this morning. Randy will go through the numbers and provide some clarity around the guidance we outlined in this morning's press release. Then Jim, Josh, and Chris will share their thoughts, mostly about the opportunity we see going forward in fiscal 21. At that point, we'll open the call for your questions. I respectfully ask that all of you participating in the Q&A ask one question and one follow-up. I'm glad to set up time later today or tomorrow for anyone who has additional questions. I want to remind everyone that we will be making forward-looking statements this morning, so our actual results could differ materially due to a variety of risk factors. Those risks are highlighted in our press release this morning and explained more extensively in our Form 10-K, which is filed with the Securities and Exchange Commission. I also want to remind you that this call is being recorded. An archived version of the call will be made available on our website, investor.scotts.com. With that, let's get going, and I'll now turn things over to Jim Hagedorn for some opening remarks. Jim? Thanks, Jim, and good morning, everyone. As you saw in our release, we capped off our record-setting 2020 results with a strong finish across the board in the fourth quarter. For both the quarter and the full year, we saw growth in every category of both the U.S. consumer business and Hawthorne. We also announced this morning our plans to increase our existing 25% financial stake in Bonnie Plants through a 50-50 joint venture with its current owner, Alabama Farmers Co-op. I don't want this news to get lost in the headlines around our financial performance for 2020 and our guidance for next year. We see live goods as an essential part of our long-term strategy, and having a more significant stake in Bonnie is the right place to start. I'll elaborate on this point later in my remarks. I know most of you want to focus today on our outlook for fiscal 21. Frankly, that's our focus as well and where I want to spend most of my time. Our EPS guidance, which projects 10% to 16% growth in 2021, demonstrates we're in a good place entering the year. We're going to handle things a little different this morning so that my comments have some better context. I'm going to turn the call over to Randy now. He'll walk through a few highlights for 2020 and then provide some of the details for our fiscal 21 outlook. Then I'll come back and share the remainder of my time with some of my colleagues so you have a better sense of our vision for the business as we enter fiscal 21.

Thanks, Jim, and hello, everyone.

As you know, we essentially pre-released our 2020 results a few weeks back when we said we expected to finish at about $7.25 per share for the year. Given our prior detailed communications earlier this year, I won't be walking through the specifics of the P&L at this time as I normally do, However, I do want to share a few thoughts and highlight some key points. Starting with sales, I've never seen growth in my 22 years here like we had in Q4. In the consumer business, POS growth was 38% in the quarter.

And as Jim said, the growth was everywhere. The other thing that was happening, though, is that retailers were working to rebuild depleted inventory levels, and that is what drove the 90% growth in shipments. We ended the year with retail inventory about 15% higher than a year ago,

but also with customers continuing to buy aggressively into October and planning for a big early spring. Full-year sales in U.S.

consumer increased 24%, driven by P.U.S. growth of a similar number. Gardening was the big driver, leading to a 45% increase in consumer purchases of brand soils and 30% in plant food. Insect control products rippled 51%, weed control was up 16%, grass seed 31%, and lawn fertilizer 11%. At Hawthorne, the story was pretty much the same as it has been. Chris is going to share some of the details in a few minutes, so I won't go into them right now. But I will tell you that September was our largest sales month ever for Hawthorne. And it was encouraging to see that Hawthorne translated higher-than-expected growth for the year into higher-than-expected profitability rates, too.

On the gross margin line, Hawthorne improved 240 basis points due to fixed cost leverage, favorable brand mix, and pricing. The segment margin for Hoffman improved about 300 basis points to 11% for the full year. This was ahead of our initial expectations, and more importantly, keeps us on track for a segment margin goal of 15% in the next few years.

By the way, the U.S. consumer business posted an 80 basis point improvement in gross margin rate for a lot of the same reasons that drove the Hoffman rate higher. You'll notice, though, that the company-wide rate is up only 50 basis points.

That's due to the faster growth at Hawthorne, where the overall gross margin rate is approximately 10 percentage points lower than the corporate average. Nevertheless, we are extremely pleased with what we saw.

SG&A was up 47% in the quarter and 26% for the full year. The biggest driver was variable compensation, which was approximately $80 million higher than a year ago. But SG&A also increased through media, marketing, selling, long-term comp, and charitable giving.

Interest expense benefited from lower debt levels and lower interest rates, with $5 million lower in Q4 and $22 million lower for the full year. And we finished the year with leverage at 2.5 times average net debt to EBITDA. This is about a full term lower than our target leverage and two terms lower than the maximum permitted under our debt commitments. So we entered 2021 with tremendous flexibility to invest in the business while also returning more cash to shareholders. Turning to cash flow for just a moment, you may recall that I said after Q3 that free cash flow would come in around $400 million for the year because we wanted to build inventory. Instead, product was going out the door as soon as we built it because retailers were looking to replenish their own depleted stock. So our free cash flow came in about $100 million higher than $495 million, meaning we still have work to do in terms of building inventory next year. I'm glad to answer any question you have about Q4 or our full year results,

but I doubt there are many surprises in what we announced today. So I want to provide some detail for our 21 guidance and set the stage for Jim to explain our outlook from a more strategic perspective.

We've always prided ourselves on being transparent with shareholders, so let me just start there. We expect to see enormous sales growth in Q1 from both major segments that will have growth rates similar to Q4 and probably even higher. We will also likely be pacing well above our full-year target for Q2 Hawthorne's momentum in U.S. retailer plans for Big Spring. However, our visibility is much less clear after Q2 for obvious reasons. In addition, our Q3 and Q4 comps are huge.

For example, second-half growth for Hawthorne in fiscal 2020 was 69%, and from May through September, our POS comp in the U.S. consumer business is 43%. As you'll hear from Jim and Josh Peoples, We believe full-year growth in the U.S. consumer business is still possible, even with that reality. I'll let them explain why. But if we simply hold the U.S. consumer number flat and Hoffman grows at 20%, we would expect to earn roughly $8.40 per share.

If the U.S. business were to climb by five points and Hoffman grew to 15%, earnings would be roughly $8 a share, which would still be a double-digit increase versus 2020.

We currently see gross margins declining roughly 50 basis points, which is different from what I indicated in our most recent public comments about two months ago. As we finalized our plans for the year, however, it became clear that we need to further increase our investment in warehousing for both businesses to get inventory levels to where we want them. And like other companies, we're starting to see the potential in recent weeks for more commodity pressure, especially from resin.

Note the total company rate decline assumes about flat rates in both businesses, but a negative impact for segment mix, consistent with what happened in 2020 with Hopland's dramatic sales growth. And note also that we are hedged on our key commodities, urea, fuel, and resin, at about a 65% level, similar to our normal historic approach. SG&A will likely decline 6% to 11%. Our guidance assumes variable compensation will be about $80 million lower for the year with some of those dollars being offset by a higher level of planned investments in marketing and our direct-to-consumer efforts. Free cash flow, defined as operating cash flow minus capital expenditures, is expected to be about $325 million. We expect a step-up of CapEx in fiscal 21 to roughly $100 million and perhaps more. And I would expect working capital to be a use of cash during the year as we work to get inventory levels back to where we want them.

Finally, we will make much larger bonuses based on 2020 results, and this creates another cash headwind in 2021. As you've heard from several other companies, this is a tough environment to provide guidance. Our preference is to continue providing the range of what we see as likely outcomes, but it's not easy. In fact, you can argue that 2021 could be even more volatile than 2020. So you'll notice our guidance range for EPS is wider this year to reflect this uncertainty and also the fact that the earnings base is much higher versus history.

I'll remind everyone that we had adjusted EPS at $4.47 in 2019. The low end of our fiscal 2021 range would suggest a roughly 80% increase in earnings and $800 million of free cash flow over a two-year period. In fact, since the start of Project Focus in December 2015, Total shareholder return has increased approximately 160%.

We've generated over $1.5 billion of cumulative free cash flow.

Regarding our bonding announcement, we're not yet including our insurance transaction in our guidance, but we will update you once the deal is closed. The additional investment in the nature of our JV will result in different P&L geographies than we've used in the past, and we'll provide clarity on this when the time comes. You will hear throughout the balance of the call from Jim and members of the operating team that we're striving to do even better. If that proves to be true, we'll change our guidance.

But at this point, trying to estimate the timing and impact of global events on our business is impossible.

Regardless, even if our current P&O estimates pre-vacuate, it will be another year of record results for our shareholders. So with that, Jim, back to you. Thanks, Randy. Before I expand on Randy's comment, I want to provide some of my own thoughts about why I believe our business is so well positioned right now. And it goes well beyond COVID-19 and the way it changed consumer behavior. During our second quarter call, I told you about a saying that hangs above my office door, something I learned from my dad. Luck is where preparation and opportunity meet. Five years ago, we began a transformation of this company through an effort we called Project Focus. We divested businesses we didn't believe could drive shareholder value. We invested in new categories that had a higher growth rate with brands like Tomcat and Bonnie Plants. We also invested in an entirely new business with the creation of Hawthorne. We just crossed the billion-dollar sales threshold with Hawthorne and have begun to exceed the financial targets we set in our business plan when we started down this path. It has quickly become a business that is critical to our future. The benefit of project focus that too often gets overlooked, however, is what we did to improve our core U.S. consumer segment. We dedicated ourselves to ensuring our brands remained relevant in a rapidly evolving marketplace. Without those efforts, the result this year would not have been possible. We changed our approach to R&D, which quickly led in rapid succession to the introduction of our most successful new product launches ever, Miracle-Gro Performance Organics. Scott's Turk Builder Triple Action, and Ortho Ground Clear. All of them were new product home runs. We began overhauling our approach to marketing. Spending behind our brands has increased 40% over the past two years. We also brought new agency partners to the table to help us reimagine our relationship with consumers. Project focus has been about hard work and preparation. And fiscal 2020 presented us the opportunity to exploit that preparation. Not only did we do so, but we positioned ourselves for continued success. And so as we look to fiscal 21, we believe there is more work to do and more growth to capture. While we remain bullish about our strategy and our future, we are taking a prudent approach in setting expectations. I told you on our last call I would be satisfied if we simply held on to the growth of our U.S. consumer business and protected our margins. And that remains the case. The real question is whether we can do better than that. Specifically, do we believe the consumer business can grow in 21? And the answer is yes. Our marketers believe that. Our sales force believes that. Our direct-to-consumer team believes it. And our retail partners believe it, too. So we'll incentivize all of them to deliver that growth. And as we demonstrated throughout 2020, we have the ability to lean into higher sales and we'll be positioned to do so if we see they're achievable. There are legitimate reasons for the optimism. For starters, the momentum we've seen in the second half of the year has yet to slow down. We also know we left sales on the table over the last two quarters, probably $200 million in US consumer and Hawthorne combined, just because we couldn't keep up. The competitive dynamic in the retail market could also be interesting. We expect our smaller national retail partners to fight hard next season to maintain the market share they gained in 2020. and we expect some of our larger retail partners to step up their promotional activity in 2021 to claw that share back. Remember, due to COVID, there was little ability by these larger accounts to drive foot traffic into their stores in March, April, and the first half of May. Though we're optimistic, there's no reason to guide any higher right now. Just as we did throughout 2020, We'll be as transparent as possible when we have greater clarity and we'll adjust guidance when and if it's necessary. We're not trying to be coy. We're simply being honest. Six months ago, I never would have predicted the state of the world right now. And while we have a good line of sight for the next several months, I'm doubtful of anyone who says they can predict what the world will look like next spring and summer. That leaves an enormous gap between what is possible in 21 and what is likely. I will tell you we share the same macro view as many other CPG companies. We believe the U.S. economy will remain sluggish for the next several quarters, and most consumers will still be in nesting mode next year. That actually should bode well for our consumer business. But I want to be clear about my goal for the consumer business in fiscal 21, and this is a message targeted at our long-term shareholders. I will not define success this year based simply on whether we grow. There is a more important long-term mission here, and that's the focus. The next generation of consumers came knocking on our door in 2020, millions of them. And I'm mostly talking about millennials, the largest generation in American history, who are in the midst of becoming homeowners and gardeners. The goal is not simply to enjoy their company for a short visit, but to keep them with us for the rest of their lives. So we will invest heavily to build the strongest relationship with consumers we've ever had. If we also see growth for 21, great. But if we fall back a bit and still keep most of these new consumers engaged, I can live with that, too. How we accomplish that goal is a task that is in the hands of our new Chief Marketing Officer, Josh Peoples. Josh has been here more than 20 years. He's worked his way up from a junior marketeer to run our lawns business and to oversee the work of all the brand teams. He's one of the most thoughtful and analytical marketers we've had here during my tenure. We're lucky to have retained him this long, and I'm confident he's the right person at the right time to serve as CMO. Josh? good morning everyone as jim just mentioned i've been at scott's miracle grow for 20 years now in a variety of marketing roles i believe i've got a good sense of our business and more importantly the needs of our consumers the one thing i've learned for certain over the past two decades is that lawn and garden consumers are different than in other categories there is an emotional element to this space that is truly unique gardening is a form of self-expression that can be deeply personal Understanding how to tap into that emotion, which, by the way, is different for every consumer, is the most critical element between growing and standing still. What we've all learned more recently is that we need to take a different approach if we are going to tap into that emotion and strengthen our relationship with consumers. We can't talk about ourselves and our products like we used to. Our messages have to be focused on consumers, not us. As Jim said, we had tremendous success bringing new people into the category in 2020. About 30% of participants in edible gardening were new or lapsed users. We estimate about 8 million more people participated in lawn care than in 2019. We not only believe we can keep most of these new users engaged, but bring even more people into the space. Demographics will continue to help us. Millennial homeownership will continue to swell in 21 and the years that follow. Our research indicates this group is more interested in lawn and garden activity than their parents and equally accepting of our brands. Jim mentioned the importance of innovation. I couldn't agree more. But our new product strategy has to be driven by consumer needs while being rooted in science. It's not sustainable the other way around. All of the products Jim mentioned, performance organics, triple action, ground clear, speak to the lifestyle of the millennial consumer. They have a great environmental profile and are easy to use. They also happen to deliver outstanding results. But the most important innovation for us will be how we communicate. We were forced to throw out most of our marketing plans at the break of the 2020 season and work on the fly. We learned a lot from that experience and got smarter about what works. So we entered fiscal 21 following these three principles. First, to be creative led. Second, to be always on, and third, to be data driven. As we saw this past season, none of these focus areas exist in a vacuum. They exist together. As recently as just a few years ago, we would have taken months to produce a single TV commercial and ensure that everything was focus group tested. We also would have relied on just 15 or 20 creative assets to support the season. That's not what we're doing today. Instead, we're developing new creative approaches literally every day and creating thousands of them, not dozens in the process. This means we are learning and changing every day. We are responding with real-time data that helps us understand what is resonating with consumers. We are putting increased investment behind what is working, and we are quickly walking away from what is not. Most importantly, quality is not being sacrificed. If anything, it's improved. In 2021, I would expect upwards of 75% of our advertising spend to be on digital. This will allow us to be much more precise in hitting our target audience. We will be more capable of diversifying our creative to represent different audiences and their values. A millennial couple, for example, living in the same house, planting the same garden, are likely to see two very different approaches, each tailored to their online activity or personal interests, like cooking. entertaining, or home decor. And consumers in Chicago are likely to see different messages from those in San Francisco or Dallas or Boston. The timeliness of our messaging has also improved. If the weather is looking good in a specific city, we'll lean in hard to maximize the weekend. If it's going to be rainy, we'll pull back. If a retailer has a promotional activity we want to support, we can target the exact audience most likely to respond. We know this approach works. We see it in our data and in our results. Our retail partners are seeing it, too. That's why we'll work with all of them in 2021 to drive consumer foot traffic and category growth while also fueling online shopping. You'll see us add to our portfolio digitally-native brands not sold at retail like Lunarly, Knock Knock, Barkyard, and Green Diggs. You'll also see more focus on indoor gardening and live goods. I am confident our marketing efforts are more impactful now than at any time since I joined the company, and I am confident in our plans for the 21 season. I agree with Jim about the opportunity in 2021. We have a great opportunity to set up our business for years of future growth. We're not worried about difficult comps and issues beyond our control. We're focused on the issues within our control. And I'm confident that the steps we'll take in 21 will benefit Stouts Miracle-Gro for years to come. So, Jim, let me turn it back to you. Thanks, Josh. One last point before we turn to Hawthorne. As I've mentioned earlier, we've signed a letter of intent in recent days to acquire a 50% equity stake in Bonnie Plants. This is part of a proposed JV with Alabama Farmers Co-op. Most of you know I'm a big fan of live goods. So is Mike Lukemeyer. It is what drives the category. Without the plant, there is no gardening. When we announced Project Focus, I said I wanted Scott's Miracle-Gro to evolve from a gardening products company to an actual gardening company. And the best place for that to happen is in edible gardening. That makes the increased stake in Bonnie an obvious choice. Like us, they've been at this for generations. They have the single most powerful brand in the space, and an exceptional relationship with retailers and consumers love them josh mentioned the emotional component of lawn and garden nowhere is that more evident than in this space the shopping experience for fertilizer and growing media is pretty pedestrian and frankly not that inspiring pick up a bag put it in the car take it home spread it on the lawn or garden but with edible plants we're talking tomatoes, peppers, leafy greens, basil, rosemary, and a variety of other herbs and vegetables, consumers are engaged in a far different way. The shopping experience is different, more engaging. They spend far more time at the shelf looking for the perfect plant. They become invested in the purchase process, and then they go home and they nurture a plant that is going to provide for food for their families. there's an emotional connection we can make in this category, a level of trust that is critical. And we know that connection is especially strong with millennials, which is what makes Bonnie such an important strategic fit. I believe our involvement with Bonnie over the past several years has been a benefit to both companies, and I doubt you'll hear any difference from them. In fact, Mike Sutter, one of our former operators here, is now the CEO of Bonnie. He understands our vision and our goals, and we consider him an outstanding operator. So this has the makings of being a great partnership and is critical to our long-term success. We're not going to cover too many details today because we are still several weeks from actually completing the deal, but expect to hear more from us in the quarters ahead. I now want to switch gears and talk about Hawthorne. As I said earlier, we see double-digit growth as a real likelihood again next year. We have some good tailwinds in the near term to see the long-term outlook to be strong as well. Instead of going into the details myself, let me turn things over to Chris Hagedorn for a few minutes to share his view. Hey, everyone. Chris here. I'll start by simply saying that 2020 was obviously a huge year. Crossing the billion-dollar mark was a big deal for the team, and I felt even better knowing that we didn't have to do anything crazy to drive that number. Honestly, I think we could have added another $100 million or so to the top line this year, but our supply chain was so stressed out at times that we left some money on the table. And so we've been making investments to ensure that those stresses don't emerge again in the future. If you look at 2020, it was a great story everywhere. Within our North American hydro business, we doubled our lighting business during the year, driven by about $100 million worth of LED lights. This was a category that didn't even exist for us two years ago, and it's looking like we underestimated how significant it would turn out to be. LED sales were more than 100% higher than we expected going into the year, and we're selling our fixtures as fast as we can build them right now. Consumables in North America saw 49% growth in nutrients and 64% in grown media. Geographically, we saw growth in literally every market. California, our single largest market, was up 78%, but newer markets like Michigan and Oklahoma were up 133% and 203% respectively. I also want to give a nod to the team because we finished the year with a second margin of 11%. I expect that number to move up again next year. We're doing a good job of striking the balance of driving growth, market share, and improving our profitability. Some of you asked in the last call if we're worried about too much inventory in the channel or some degree of overcapacity. We're not seeing any signs of that right now. In fact, we expect the growth rate in the first quarter of 21 to look a lot like what we saw in Q4. There's also good reason to be optimistic in Q2. The forecasting gets a little less predictable later in the year, though, and obviously the comps we face in second half will be tough. But the head start we get should allow us to deliver the 15% to 20% growth that Jim referenced earlier. The other great news for Hawthorne is what we expect from yesterday's election. Look, people are still counting votes, so I don't get too far ahead of myself. But we expect New Jersey to approve recreational adult use of cannabis, and there's a good chance Arizona will do the same. Going into the election, there was also good polling in South Dakota, Montana, and Mississippi. On top of that, the governors in New York and Pennsylvania have said who knows what's gonna happen in D.C.? But we're increasingly optimistic that the federal rules will change as well, so the timeline there is likely to be longer. What's become clearer than ever this year is that we've built something pretty special at Hawthorne. It's hard not to feel good about the prospect in both the near term and the long term. I do want to be clear, guys. We've seen up and downs in this industry over the past few years, so we're not taking anything for granted. But we clearly have the best product line in the industry and the best service and supply chain, too, even with our challenges this year. Earlier this month, we finally opened our R&D facility in British Columbia, the first of its kind in the world. When we combine what we're doing there related to cannabis cultivation with our current R&D work on hemp in the U.S., I feel confident in saying we'll also have the best innovation program in the industry, too. So, the outlook for next year is a pretty good one for Hawthorne, and we look forward to keeping you all updated as the year comes together. With that, Jim, I'll hand it back to you. Thanks, Chris. One last thought on Hawthorne. These guys have done a tremendous job in getting the business to where we thought it could be. They've clearly established themselves as a leader in the industry, and they've shown the ability to manage complexity like the implementation this year of SAP. I want to congratulate them on how far they've come in this short period. Before we end, I just want to say one more thing. 2020 was beyond anything we could have ever expected, and I'd be remiss if I didn't take the time to thank our associates. I want to start with our field sales force, as well as our manufacturing and distribution folks. These people didn't get the luxury of working from home when COVID hit. They still went to work every day. And I'd be dishonest if I didn't acknowledge they put themselves and their families at risk for the company. We provided them with premium pay and provided bonuses and additional 401k contributions. That's what a good company would do, though I'm not sure we can ever really thank them enough. I'm inspired by the things I've seen this year and humbled now to be entering my 20th year as CEO of this company. It feels a bit trite to say I've never felt better about where we stand, but it's true. We're in the midst of introducing an entirely new generation of consumers to our core business. We're enjoying continued success in a fast-growing category with Hawthorne. And our shareholders have benefited from the multi-year run that allowed us to more than double the value of this company in the five years since the introduction of Project Focus. We don't know exactly what fiscal 21 has in store, but the one thing I do know is that we have the right team in place to manage whatever happens. With that, let me open up the line so we can take your questions.

Thank you. And if you would like to ask a question, please signal by pressing star 1 on your telephone keypad. If you are using a speakerphone, please make sure your mute function is turned off to allow our signal to reach our equipment. If you find your question has been answered, you may remove yourself from the queue by pressing star 2. Please we ask you ask one question and one follow-up question. And as a reminder, it is star 1 if you would like to ask a question. And we'll pause just for a moment to allow everyone an opportunity to signal for questions. And we'll take our first question from Joel Tobello from Raymond James. Please go ahead.

Thanks. Hey guys, good morning. I'll go back to the roughly 8 million new lawns customers that you guys added last year.

Does the upper end of your guidance assume you keep pretty much all 8 million this year?

And maybe a question for Josh that he's still on. Is there a way to target those 8 million customers to keep them in the category in a period when they'll likely have more competition for their time on weekends beyond just promotions? It sounds like you guys know roughly where they live, but do you guys actually know who they are to be able to target market to them from a digital perspective?

Thanks. Hey, good morning. Great questions. Yeah, I mean, right now the goal continues to be to not only retain, I would say, those 8 million, but honestly trying to bring in even more as we go into 2021. You know, a lot of the feedback we got from consumers, even though time may become more of an issue, they definitely found Lawn & Garden to be a passion point that they hadn't really tapped into or hadn't thought was possible. So we feel really good about not only – knowing where they're at, but who they are. And I think this is where it does come into working with our retail partners to continue to keep them engaged and reaching them in new and unique ways and continue to build on really what we've done here in 2020. I was going to show over and say, like, you know, I'm surprised like long sales weren't better. You know, Joe, we had a lot of gardening clearly was sort of leading the pack this year. And I think we've learned enough that I think we ought to be seeing the same kind of growth in turf care. And I think our products are improving. I think our, you know, we're going to have a lot more promotional support this year, regardless of where COVID's at, unless it's a complete lockdown. I think you're likely to see the retailers not being as sensitive as they were this last year. And so that there'll be I think a lot more cooperation and a lot less shyness about bringing people into stores. So, you know, I would be challenging the marketing group to do better in longs than what they did and try to keep up with the gardens people. They're challenged. How are you, Joe? I hope you're being safe.

No, I am. Thank you. And just one other one for Chris, if I could. You know, if you look at Hawthorne this year, the initial expectation was up 12% to 15%.

You did 61%, so a slight over-delivery, I suppose. But if you could put that 60-plus percent growth in more context, how much of that was from the market, how much of that was market share gained, and maybe what you're thinking for 21? Thank you, Joe. Good question, yeah. So, you know, we, as you heard from what we're expecting in 21, we think there'll be continued sort of general market growth share. You know, to try to quantify the gains from this year, we think there's probably a solid 20% increase in consumer usage of cannabis, and that's largely anecdotal, but we call it from the data sources that are available to us. So it certainly seems like stay-at-home orders and that kind of thing did increase the sort of high single-digit usage gains that we see typically in a normal year. And I think we, you know, we We attribute the rest of our growth to market share grains largely driven by our ability to deliver a relatively high service level. We certainly had our challenges this year, but our competition, I think, suffered even greater challenges. And then I've got to give a lot of credit to our innovation team. We launched some really, really great products this year. The LED light that we launched on the computer was the single biggest product launch in SMG history, not just Hawthorne, but the entire enterprise. And that, I think, is Definitely, we have to give a lot of credit to that for how we did this year. Got it.

Great. Thank you, guys.

We'll take our next question from Bill Chappell from Truist Securities. Please go ahead.

Thanks. Good morning. Hey, Bill. Going back to Hawthorne, just trying to understand a similar question, how... tough the comps really are and how much visibility you had. I mean, Chris, I think you said you felt like you'd left $100 million on the table. I think by now you have some kind of, correct me if I'm wrong, idea of how states progress once they legalize medicinal and then recreational and then revenue starts to come in. And so is it really that tough of a comp? I mean, I understand March when there was kind of a surge was, but help me understand how the year really progresses, especially the back half when You have these states coming on, and you did leave, as you said, $100 million on the table.

Yeah, let me just throw some spin on this, Bill. You know, I think this is a year where, honestly, and I think we've been hinting pretty hardcore in the recorded portion of the script, the sort of difference between kind of what we hoped And I think based on like our knowledge of business, both consumer will do and Hawthorne will do and live goods will do versus what we're kind of committing to within the range. This drives a, I think diversity was used somewhere in the script, I think maybe by Randy, of sort of views of what we think is like could happen to what like we want to happen. And, um, so those numbers, the operating numbers are like quite a bit different to be honest, um, to, we just don't believe we can commit to that. So, you know, I would ask everybody on the call to sort of bear with us on this. I think we can't say it more clearly, but we're trying to be safe here that, and you know, and, I know we're going to have more conversations with you guys about this, but I think sort of up until when, at least on the consumer side, there's consumer takeaways, so call it next spring, I think you're going to continue to see, I don't know what Randy used, the adjective he used, you know, gigantic, enormous, sort of, you know, what looked a lot like the sort of growth rate we saw in Q4 and Q1. Q2 probably won't be quite as ginormous as that, but it'll be pretty big numbers. And I think that'll put pressure on you guys to sort of think we're sandbagging this whole believability factor. But the hints we're trying to lay allow you guys to sort of connect dots. And so when you say to Chris, how come you don't think you can do better than that? It's a pretty hard one to answer because we do think we can do better than that. We're just not committing to it on either the consumer business or the Hawthorne business. Chris can answer the question. I'm not quite sure how, but he can try to talk everybody down and talk himself down. But remember, Mike's operating plans are different than what we're talking about, but they're included in sort of the expectations of, you know, we're trying to drive this thing of saying, you know, consumer could be down five, Hawthorne could be up 15, and we still bust eight bucks, okay? And then you sort of take it from there, and it leverages up pretty fast. And so, you know, we had a board meeting yesterday where we, I think, put the best sort of the budget and incentive goals for next year. I think not too hard, but, you know, they're lucrative if really good things happen and they're fair if we're kind of at the bottom end of the range. You know, nothing terrible happens. But I do think that that's kind of what we're dealing with. So when you say, please defend your low number, it's kind of hard to do. It's just saying nobody knows and nobody expected sort of 60-plus percent growth in a single year. And so, you know, I don't know, Chris, how would you answer the question? All right. All that said, look, realistically, internally, yeah, I am definitely driving the team towards success. number that we have inside the building. Like Jim said, the back half of this past year that we just finished was unlike anything I think anybody in our business has ever seen before. So the idea that we're going to be able to match that, it's a challenge for sure. Now the remarks that we've had about favorably across the board. And we do expect to see incremental business as a result of what happened in states like New Jersey and Arizona and others. That being said, these changes aren't going to happen overnight. What we've seen is there's typically a 12- to 18-month lag from when a state legalizes until there's any meaningful increase in business for us. So I wouldn't expect to see 2022 uptake for us. But I do want to throw out, you know, as we were looking and trying to analyze, like, lighting sales, you know, and I might be off by a little bit, if you can correct me, Chris, but, you know, our high-pressure sodium lights, the HVS lights, kind of the traditional lights that get hot and all that, I think they were up, like, 50%. Clearly, we had a blow-away success with the innovation on LEDs, and we're trying to say, where did they go? And so I think that in states that are legalizing, you're seeing build-outs occur, which I think are kind of in advance of the marketplace, and I think that's healthy for us. I think you've heard me mention, and I'm a gigantic fan of Senator Sweeney in New Jersey, who sort of led that process. I don't think he legislatively could get Jersey done and he just kind of threw his hands up. And, um, and this is the guy's like an iron worker. Okay. So big union guy. Um, one of the few guys with a mouth foul of their mind. Um, and, um, he has a real vision for New York or New Jersey being an important, um, center of excellence in cultivation, and the garden estate means something to him. So, you know, I do think you're likely to see build-out occur because, again, if we look at where these lights are going, and you say certain people are just improving the lights and going with LEDs, but there's a good bit of build-out occurring in there, and I think that build-out occurs in advance of the market, as you'd expect. The one thing that Jim might add to that is when we look at our sales of life this year, so everybody knows California is about half of our sales and life had a tremendous year, but we over-indexed to California versus the rest of the country. California being an established market, the fact that we are able to over-index indicates to me that there's a lot of renovation and replacement going on, which is really a positive for the long run, too.

Thank you. No, thanks for that. I'll try to be quicker on the second one, but Looking at your U.S. consumer guidance, and Randy, help me if I'm, I think I'm doing this math right. I mean, at the low end of your guidance, say it's down 5% in 2021, still assumes that it would be, the revenue would be up 17, 18% versus 2019 levels. So can you maybe help us bridge that as, I assume like five points over a two-year period is price and 12 points is volume. And so it's kind of assuming you get a, Normalize it was a six percent growth for the category of our two-year period. Is that the right way to look at it?

Let me try to bridge it by quarter and first half second half bill so First quarter like we said it's going to be tremendous. It's gonna have growth rates for the entire company But us included I look a lot like what we saw in q4 Still a lot of confidence in the q2 and retailers will be building and we expect into consumers to be continually engaged, and we expect POS rates to continue like we've seen in Q4, what we expect to see in Q1, and we expect that to roll through Q2. At that point, our assumption beyond that point is that to get to a minus five or to a zero number for the U.S., that would assume that we're down about a third or half of what we gained in the second half of 2020 on a POS basis, a really big year basis. You can argue that's really conservative because we think people are going to be, you know, continuing to work from home. I don't expect people to go back, you know, five days a week. And I think people who have newly engaged in the category will continue to be because they've enjoyed it and they'll continue to want to, you know, capitalize on investments they made this year. So the time will tell. You know, for us to try to speculate what's going to be going on in the world, you know, And the colony and how that applies to the U.S. lawn and garden, that's really, really challenging. But that's an assumption that we've made, and we want to be transparent about what the math looks like to get to that kind of guidance. So hopefully that helps you, Bill.

Yeah, that helps. Thank you.

We'll take our next question from William Reuter from Bank of America. Please go ahead.

Hi. Great numbers. Two questions for me. The first is, you know, you're going to be doing $800 million of cash flow over a two-year period. I guess, what are your plans with regard to that cash flow? And your leverage continues to go lower as your results have gotten better and better. I guess, what are your plans in terms of leverage targets at this point? That's it.

Thanks. Well, Randy and I are, I think, a partner company. real well on this issue, so I'll start and hand it over to Randy. This is one of the areas where I think we are completely in agreement, and as we prep for the call, we sort of figured this would come up. I think at the moment, we're pretty happy with our leverage, where it's at. It gives us a lot of options. And I think I want to spend some time understanding the election results, to be honest, and what's happening with corporate tax rates, dividend, personal income tax rates, which in this company matters, I think, to our shareholders. And I think we were very much prepared to special dividend a lot of money out if we felt that taxes were going up to the people who own this company. And that is our entire shareholder base. And we definitely have a more active M&A pipe than we did probably two years ago. Nothing crazy, but if you look at the Bonnie deal, we haven't really talked about it, but it's pretty accretive. I'm going to say relatively neutral to leverage. This is one where we're actually doing a deal and it's really hardly moving leverage and on the EPS line it's accretive. So I think we feel good about that. I think, you know, we're looking really hard and spending a lot of time with the board on the sort of evolving cannabis and hemp marketplace and how we place that there. I think live goods continues to be an interest for us, but we do have a commitment to our shareholders to be shareholder friendly, and we absolutely intend to do that. And what happened in 2020 has been really good. I mean, we did not expect to end this year at 2.5 times. And, you know, I have to ask Randy, but I think if you sort of look at our numbers for like year end, I think we're talking, I think the projections internally are down like 2.0 or something like that. So we've got a lot of flexibility. We are committed to shareholder friendly. and we're committed to investments in the business. But we're not feeling in any rush at this point to act anyway sort of quickly. You captured it.

Great.

Well, we've talked about it enough here.

That's very helpful. Thanks a lot. I'll pass it on.

We'll now take our next question from Eric Bosshart from Cleveland Research. Please go ahead.

Good morning. Hey, Drew. I'm the Bonnie business. I'm just curious for a little bit more color. For the last 20 years, you have been somewhat aggressive about trying different things and different adjacencies, but never really done anything in live goods. And so I'm curious if there's something changed in the dynamics of that business or the opportunity to make money in that business. And especially interested in the thinking on that relative to you know, the bigger runway that you have in the cannabis business, just sort of how you, you know, what changed into thinking to get you to want to get in the live goods business? All right. Well, I don't think anything actually. Um, I think we've been trying live goods, miracle grow plants and stuff like that. Um, and I, you know, I call it modest success in that, um, I think if we look at sort of the whole project focus approach to the business that we took, I don't know, whatever we're saying, five years ago, it was sell businesses that we thought were not long-term beneficial to us and look for businesses that had a higher growth rate. Remember at that time, and a lot of stuff has changed since then, to be honest, which is that You know, I think we were looking at zero to two on the core at the time. And that's not a crazy number now, but it's clearly, we believe, better than zero to two. But we wanted businesses that could grow faster than that. And I think we did view live goods, particularly herbs and veggies, you know, as a business that could grow some multiple of zero to two. And that's been true. And so that's really why we... hooked up with them with ASC, Alabama Forest Co-op, and Bonnie to sort of begin with. And the reason that we were at the 25% level with them was because that's as far as they'd let us go, okay? We've had other discussions with other opportunities, and I think liked the Bonnie opportunity better. When ASC asked us, And Mike Sutter asked us could he go over there to sort of, you know, upgrade their management team. We were very encouraging about that. I think if you looked and said what would Randy have been critical of, you know, I think it would be sort of a lot of processes within Bonnie that I think we thought would could be better and that's because we were kind of with them, understood the business, but as a kind of minority partner. I think Mike agrees with those things and he's done a lot of that. So I think as we look at the business and remember, this will become more clear, but it's an average of earnings over the past three years that there was a big enough increase this year that we kind of wanted to go more quickly. We had a right to go to 51%, but they had the right to say no and buy us back out. And we ended up, I think, very happily at this sort of 50-50 place, which we're actually super comfortable with. And so when you look at the profitability of that business today versus before Sutter was there, big difference. So a much more attractive business today than it was, growth rates that continue to exceed our core consumer business, and this idea that we want to be a gardening business. So if you have not been aware of our interest in live goods, I guess we haven't been clear enough. So... And I don't view it as an exclusive decision, you know, where it's binary, like, decide on, like, consumer, veggie, edible, live goods, or within the Hawthorne business. We've clearly been spending, you know, Boku dollars building our Hawthorne franchise, and they've done a really nice job integrating all those pieces. You know, you're not a part of the board, but I would say the board is very encouraging of continuing to look for opportunities and, you know, with kind of fair pricing to continue to invest in that business. So I think that this is where Randy and I fight. You know, Mike and Chris and the rest of the group advocate for deals, and it's Randy and my job, really, and our finance committee at the board, that's run by my sister, my twin, to sort of look at those and evaluate them based on kind of lots of things, but share all the friendly leverage, what we think the opportunity is long-term. And I think we're positive about both of them. And I think if you read something from that, I would say continued investment in live goods, continued investment in the Hawthorne business, and continued shareholder-friendly reactions and very pleased with the results of the election, at least in regard to the Senate and stability of sort of taxation, at least in the near term. You must have something to say. I always have something to say, but I guess what I'd add is they've been really good partners for the last four years. The quality of team there is top-notch, and we've enjoyed working with them and I'm optimistic going forward that we're going to make it even better. So it's been a really good partnership. Look, Eric, just a quickie, and it's maybe redundant. Randy was one of the more tough guys to get on board. with our live goods approach. And you might talk about why that's so and what's changed. Well, on a relative profit basis, Bonnie's the class of live goods when you look at operating margins, but still it's below what we see in our U.S. business and below our corporate average. So this year, it's been a beneficiary of everything that we have as well, but their profitability rate is actually higher now in our corporate average. A lot of optimism that they're going to have a good 2021 just like Scott's will. And I think we're making the right kind of changes to maintain that kind of profitability rate. So at that point, it's easier to get on board. And then I think the price we're paying, too, is fair in that it is based on a three-year average. And if we waited another year, we'd have a much higher check to write. So I think now is the right time, like you said, Jim.

Okay. Very good. Thank you. You're welcome.

We'll take our next question from John Anderson from William Blair. Please go ahead.

Hey, good morning, everybody. Most of my questions have been answered, actually. I guess one thing that piqued my interest, Jim, you mentioned competitive dynamic at retail in 2021. Could you just talk a little bit more about what you expect there by channel or with respect to some of your major customers. And I know that pricing at retail or pricing at retail is up or promo is down. To what extent did that impact you or benefit you or was that truly just a kind of a retail phenomenon and how you expect that to kind of play out in 2021? Thanks. You are going to get me in a pot-load of trouble with that. Actually, I think it's a really good question that I'd like to answer. We've talked about how the large footprint format of some of our larger customers actually was when this whole thing of essentiality and the risk of COVID and nobody wanted to get anybody sick and they were worried about their own associates, that there was a lot of kind of head in the sand during the peak of the season. And so what happened was you saw a lot of our relatively smaller retailers you know, Tractor Supply, Ace, Costco, who really got their head down and were relatively less afraid because I think there was less criticism based on their format of bringing people into the stores. And so I think early in the season you saw just a, you know, sort of Boku share game with our sort of next year down below Depot and Lowe's. I think that once sort of June happened, you saw, you know, I think, and we had a lot of conversations, great ones, with guys I consider friends, both at Depot and Lowe's, to sort of reconnect to the market. And if you look at sort of the second half of the season, they really started to actually work pretty well and take advantage of the marketplace but a lot of credit goes to those smaller retailers who just did really innovative work along with our sort of sales and marketing teams to drive that business and so they deserve a lot of credit and they're going to look to defend their share. In addition, You know, the number we threw out of sort of $200 million roughly of sales between Hawthorne and sort of core consumer business, I think, There was a lot of out-of-stocks and a lot of stuff just in the consumer products world where people wanted to buy the stuff. And nobody wants to do that again. So everybody is also saying, we've got to be in stock. And you're seeing that drive our manufacturing processes right now. Retailers are buying heavily. But I think there's much less fear of investing in the marketplace. And therefore, I think you're going to see a very active sort of promotional schedule as people try to say, actually, this worked out pretty well for us. And I think you're going to see that small customers, large customers, the whole thing. The, you know, I want to mention Walmart just for sake. I think they did a fantastic job this year. And they, you know, they've done a really nice job of head down in the marketplace and working alongside us, just like our other retailers have. But they deserve a compliment because it's been a while since we've said they were leading in the space too, and they were. Now, you get to pricing. This is one area where because of the relative lack of promotion, I think most of that benefit went to the retailers, to be honest. I mean, we got a little bit of pricing last year, but I think our view is retails were probably up about 10% because of the lack of promotion, especially sort of these big, heavy Black Friday events. I think what we learned is consumers on a unit basis were relatively insensitive to it, and that doesn't mean we should be raising our prices and, you know, taking advantage of it, but I think it is a data point that says how valuable, and you guys have heard me talk about these Black Fridays. I generally think they're almost always poorly planned. We miss weather a lot. A lot of our marketing approach deals with that in a much more sensitive level, but you do have to question the whole sort of Black Friday, 75, I just wouldn't be surprised if 75% of our promotional dollars are going to like a couple of weekends. And so, you know, we're working through this with our retailers, but our benefit was less than the retailer benefits, but I think their costs were up significantly as they dealt with sort of hygiene and safety issues in the store. And so I think a lot of that money was spent just in their operations trying to stay open. But I do think it's worthy of real conversation as we go forward as to what does promotion mean in this space? What does pricing mean in this space? And the selling the mulch of loss, just as an example, does that make a lot of sense? And so I think there's a lot of work still to do on this issue. And Mike and his team are, I think, very engaged with a lot of people who are very much personal friends of ours on trying to understand this. And I've had some of those discussions with senior management as well. So where it all goes, you know, I don't know. I hope that they don't all get amnesia, get back into the same world of like give product away, steal share from each other in 21 and not remember the lessons we learned, um, in 20, which I think really are fundamental. But again, If anybody can remember, it's a little bit like looking at the election results. I think there's a lot of lessons learned here. You just wonder if six months from now everybody's going to go back to their corners and just do the same old crap that they've always done. But I think there's real reason here to reflect on what does it all mean. John, I'll give you a little perspective on what pricing means for us over the last few years and thinking about next year and the year after. If you recall, in 18, we didn't take pricing. So in 19, we did a two-year catch-up. Going into 2020, we thought our price would be about 75 basis points, and it actually turned out to be higher because we did pull back some promotional money. Like retailers, we ended up spending that against media marketing. So we didn't necessarily drop to the bottom line, but we invested back in the business. But the actual pricing ended up higher than 75 basis points just to good mix in that areas where we did take pricing, those products sold especially well. So we were able to realize, you know, over 1% by the time we got to the end of the year on just an invoice sales basis. We're starting out in a similar place. I'd quantify it on a total company basis at about 75 basis points. Again, that could flex up a little bit, up or down, depending on how the year unfolds, but we're really comfortable with that in that we take pricing almost every year. We try not to get too far ahead of things, and we try to think long-term about how we're pricing and making sure that it's reasonable. 21, about 75 basis points, and that will cover commodity costs, which have started to increase a little bit over the last couple months. I think more important to us when we think about gross margin more broadly, that we are seeing necessary investments in warehousing and distribution just to keep up with the volume and labor costs as well. There's some pressure there. So two months ago, we would have thought we'd see gross margin rates closer to flat versus down 50 basis points. But definitely going to take pricing in 2022 as well and continue that multi-year continual pricing approach that we've talked about. That's really helpful. Just one quick follow-up. In Hawthorne, a couple of years ago, you were very aggressive, I believe, from a pricing perspective. And it was, I think, part of a strategy to... consolidate market share, et cetera, shore up customer relationships, other things. I think you, correct me if I'm wrong, maybe eased off on that a little bit in the last year, year and a half. What should we expect from Hawthorne on pricing? Are we in more kind of a steady state mode like U.S. consumer or any changes to expect there? So to quantify it here, we will be taking pricing for popcorn again, probably not as high in 21 as what we did in 20. But I think in addition to just a little bit of pricing, and we're clearly not trying to be greedy by any means, but just be rational about it. But we've also greatly simplified the way we get a business with our retailers, and we've structured new trade programs and rebates and so on that's much more rational. And you think about how we – combine all these businesses that we bought over a three or four year period and they were all going to business differently in different programs. So now we've streamlined that, simplified it, made our business much easier to deal with. And I think there'll be a lot of benefits from that simplification as well. But we're thinking about off-barn similar to the U.S. and that we expect to take pricing most every year, but So we definitely don't want to get too far ahead of ourselves. Chris, I don't know if you want to add anything to that. Yeah, I can't believe it. I do. I believe Randy. No, I think you covered it pretty well. You know, we have taken pricing to start the year. we expect to see some pretty significant benefits from that as we go through the year. I'll throw one kind of warning out to the team, and I know Luke carries around this on his shoulders a lot. There's quite a few products on both sides, consumer and within Hawthorne, where we're completely oversold, even today. And I think that... One of the things we have to be really careful of is to sort of, because we know what we've done in the consumer side, which is this whole idea of one thing for the customer. I think we did a lot as we saw the U.S. consumer business system go back 15, 20 years ago, and we built a bunch of companies into one easy-to-do business, to some extent powerhouse. I think Hawthorne is down that track. This is a year where I think, and we're not alone. I mean, there's a lot of people who have products that sold well during COVID time. But, you know, it is not unfair to say that we couldn't fulfill probably a quarter billion dollars of business. And that does make it hard to look someone in the eye and say, I want pricing. We've got to get better products. And I don't think anybody takes it too personally, which kind of surprises me a little bit, to be honest, because I would and I do. I don't know, Mike, your view on kind of the acceptability of sort of having a pricing discussion right now where we couldn't satisfy demand. Well, that's a difficult conversation. I mean, you know. If you're building infrastructure to support the business, I think that's what you do with the retailer, and you both try to win because everybody's trying to increase infrastructure on direct-to-consumer and delivery to stores. But if you're not servicing, for me that's very personal. I don't like not servicing. and we were really bad back 25 years ago. And we built a great supply chain. It's time to go to the next level. So you're going to see some capital and some expenditure that is to build that next capability. Yeah, I mean, this is a little bit of a quirtron in regards to this conversation. Mike took this stuff really personally this year, and so did Randy. I mean, I think... Randy's issue was that while the numbers were great, we had a real difficult time keeping up with the budgeting side of it. And I think it's going to involve us trying to really make some improvements to our system and how we think about budgeting on Mike's side with the supply chain. Let me tell you, this company was entirely functional. during what I view as a pretty significant national emergency and could have been for us. And so this is not saying it stopped being here. It was saying what is it that bothered people a lot was our inability to keep up with the growth from a budgeting point of view and you know, because we view it as a credibility issue to our board, to ourselves, to you guys. And Mike's view that got sort of sour and sour toward the end of the summer that this is unacceptable, that we can't deliver. And so I just want to throw that out in regards to pricing that, you know, we've got some work to do to make it. If we can build a business where we are an absolutely perfect supplier, vendor, partner, whatever you want to call it, to a retailer and you make it easier to do business, people don't have a beef with that. If you were delivering product, that's a way harder conversation and it's worth noting of how difficult the last sort of two or three months have been for Mike, because he has focused most of his time, like back in the day, of kind of dedicating himself to improving our supply chain and our sort of ability to consume our, you know, to get... Our deal is done with, you know, when somebody asks for something, we give it to them 100% of the time in full, in the timeline they want it. But we are still out of stock on products that are important to the future. And this is Randy again. Let me just make one more point. I'm not sure we've been absolutely clear enough. We're all aligned. I'm building a lot more inventory than what we need to be flat in the U.S. and similarly to be up 15% or 20% off on soap. There will be a point in the spring where we need to evaluate what the second half of the year looks like, but we're not building inventory to meet the numbers we talked about in guidance because we need to do better and we need to get ahead of things, and we're actively working on that to make that happen. There will be a point where we need to evaluate, but it's not on November 4th. Thanks so much for everyone chiming in. I appreciate it. Good luck.

We'll take our next question from Alex Maraschia from Barenburg. Please go ahead.

Good morning, guys. Thanks for taking my question. Can you explain the cannabis market opportunity in Jersey and Arizona and how it compares to other states that have well-established medical user bases already? I can explain what we know of it. There's a lot of regulation, obviously, yet to be written in those states, so it's a little premature, I think, to give our opinion on the morning that we saw that the votes went positively. That being said, if you look at the opportunity size, particularly in New Jersey, I think it's significant. We expect those guys, particularly with New York and Number one, I do expect that New Jersey is going to be a trigger for those guys. They've only so long, particularly with the COVID bucket holes that all states have, frankly, but those two as well, that they're going to let New Jersey kind of take their cannabis money. It's an easy subway ride under the river from Manhattan. we'll see a lot of tax money flowing across that border there, much like you saw with a lot of states that have border states that don't have lotteries. Our conversations that Jim referenced earlier with Senator Sweeney are encouraging in New Jersey. They make us think that there'll be a, be pretty business permissive. So we think there's significant opportunity there and that's a marketplace that we've been building up our service and sales operations in anticipation of. Arizona we think will be not quite as significant an opportunity in terms of absolute has been slowly developing a positive way forward. We already have a good presence there. Our sales team is on the ground in well-established relationships with the large cultivators there and retailers. So we feel good about both states. Oh, look, extremely positive. We've talked about this in the past. You know, the research that we've done and, you know, the rubber meets the road and we'll see how it actually plays out says that Northeast Canvas consumers, that's a higher per capita consumption area than California. So we should expect it. And you're talking about when you combine those states, a similar number of individuals, about 40 million people. So it should be a market like California. Florida's often fractured in a few different states. One thing to expect just because we talked about it or something we need to know is California is by far our largest state, still around half of our total business is just California. We expect California to be emphasized as the Northeast comes online. A lot of the product that has grown in California illicitly we believe is to service the illicit market in the tri-state area. Got it. That makes sense. And then as a follow-up, can you explain the current retail environment in Hawthorne? Because I know that one of the retailers has been aggressive in recent months from an acquisition standpoint. So how should we think about industry consolidation and its impact on relationships? Yeah, you know, there is definitely industry consolidation. I assume the retailer you're referencing is Pro Generation. They have been aggressive for sure. And I think it's probably worth acknowledging the fact that they announced two days ago that they had acquired a retail chain out of Northern California called the Grow Biz. The Grow Biz is one of the larger retail chains in California, the country, and they've been a consistently very loyal Hawthorne customer. Now, we expect the positive. with Grow Generation. They're our largest retail customer. They've been aggressive and working with large and aggressive retailers is something that's pretty deep in our DNA at Scott Marable Grow. So watching them grow, they've brought in former Home Depot executives as advisors to them. I think it's clear what their objective is and it's one that we're familiar with being partners too. So we don't expect any negativity from that. We've got a good strong relationship with GrowGen and their executive team. They've been a great partner to us. Understood. Thank you, guys.

And we'll take our last question from Carla Casella from JP Morgan. Please go ahead.

Hi. Good morning. This is Sarah Clark on for Carla Casella. Thank you so much for sending us in. And apologies if you addressed some of this. We had to hop on late. But On working capital, how do you see that normalizing coming out of COVID? It looks like you've been managing your inventory and also seen an increase in payable days. How do you expect that to look going into next year?

Sure. Serena, I'll take this one. So working capital, let me start with inventory. At the end of September of 20, you know, if things were ideal, we would have probably had about another $100 million in inventory versus where we finished the year. But like I mentioned in our descriptive remarks, as soon as we could buy product or manufacture product, depending on the business we're talking about, it was more or less being shipped out the door. So that will be a drag on pre-cash flow next year. But when you think about what inventory will look like at the end of Q1 and even Q2, I'd expect it to be significantly higher than that as we finish those quarters, just as we're trying to build ahead of the man that we're trying to meet now and what we expect the man to be in the back half of the year. Like I said, there will be an inflection point at some point in the spring when we need to decide how things look, but we'll be looking at things just like you do. As far as payables, payables were up and receivables were up a lot as well in the fourth quarter because sales were so high. Trying to forecast that out for what it looks like. you know, for 12 months from now. I don't think we can do that accurately because it's going to depend on, again, so many factors and what consumer demand looks like and how all that rolls off and whether we need to continue to build. Even in addition to working capital, and let me talk about SG&A a little bit, you know, we pulled a lot of projects into Q4 that would have been phased more typically into Q1 and Q2, really trying to get ahead of things. And we'll get to third and fourth quarter of next year, if things go as well as we hope internally, you know, our SG&A could be even higher because we'll keep our foot on the gas and we'll keep investing. But there's a lot of flexibility there, too. So if we need to slow things down, we have, you know, all of our flexibility. So it's going to be interesting. I can't answer your question perfectly because there's just so much uncertainty right now, but that's the way we're thinking about it.

No, that was extremely helpful. Thank you. And then our last question is, You talked a little bit about M&A. How have you seen valuations change pre-COVID versus now? And that's all from us. Thank you and congrats on the good quarter.

Sure. So on the M&A side, you know, The multiple we're paying on the buying deal was pre-negotiated from four years ago, so it's eight times trailing through your legal DA. And so not a lot going on there that would change based on current marketplace. As far as the other deals that we're pursuing right now, I would say there hasn't changed a whole lot, and I don't think it's necessarily driven, you know, upward or downward based on what's happening in the world around COVID. But there are a few things in the pipeline that we're looking at still very early that you know, we can begin to commit to right now. But when it comes to the use of the cash, you know, beyond the Bonnie deal, there will be things that we talk about probably in the next quarter or the quarter after that, the quarter after that. So stay tuned.

Great. Thanks. And that does conclude our question and answer session. And I would like to turn the call back over to Jim King for any additional or closing remarks.

Thank you. For those people who have additional follow-ups, if you want to call my office directly, you can reach me at 937-578-5622.

Right now, we are tentatively scheduled for our Q1 results to be released on January 27th.

We have no kind of active IR plans between now and then, so put it on your calendar, and we hope to talk to you then.

Thanks for participating today, everybody, and have a great day.

And that does conclude today's call. Thank you for your participation. You may now disconnect.