Cold-Weather Blues, Green Thumbs, and Gold-Plated Failures

In this Market Foolery podcast, host Chris Hill is joined by Foolish investor-at-large Tim Hansen to discuss a trio of topics. First, they review Home Depot’s (NYSE:HD) disappointing quarter. The home-improvement retailer may be Amazon-proof, but it’s not entirely weather resistant.

Next, they debate whether Scotts Miracle-Gro(NYSE:SMG) is as good a “picks and shovels” play as it appears for folks looking to invest in the looming legal marijuana gold rush. And finally, they get politely incensed at the number of 2017’s highest-paid CEOs who did a terrible job en route to their massive paydays. Case in point: Snap’s (NYSE:SNAP) Evan Spiegel topped the compensation list with a $500 million package in a year when his company wound up $720 million in the red.

A full transcript follows the video.

This video was recorded on May15, 2018.

Chris Hill: It’sTuesday, May 15th. Welcome to Market Foolery! I’m Chris Hill. Joining me in studio, it’s investor at large, Tim Hanson. Thanks for being here!

Tim Hanson: Always a pleasure!

Hill:I’m happy that you’re here on a day when we’re going to be talking aboutpublic companiesthat are inone of your areas of, maybe not expertise, butcertainly one of your areas of interest, and that’s gardening. You’re a legit gardener in my book.

Hanson:Thank you! I appreciate that!

Hill:Lest anyone think this is just going to be some big lovefest about gardening,we’re also going to be talking about the list of best-paid CEOs that came out recently, sowe’ll have a little bit of fun with that.

Hanson:Gardening and sarcasm, two things I do well.

Hill:[laughs]Let’sstart with Home Depot,their first quarter report that came out this morning. Their profits were better than expected. Overall sales were down a little bit. Theirsame-store sales were down a little bit. The stock fell,I don’t know, it was down 1.5%,something like that. This really did seem likeone of those situations where,not that Home Depot was ducking any responsibility, but they were justsaying on the conference call, very matter-of-factly, “Yeah,the weather in April was pretty bad, and we got affected by that.”

Hanson:Yeah. Sometimes we laugh at companies that blame the weather,because there are some companies that shouldn’t beaffected by weather that use the weather as a convenient excuse. Butin the case of Home Depot, it’s a very reasonableexplanation, and one that we’ve seen in other companies in this space. It stayedcolder longer, and obviously that preventsa lot of things from happening in the springtime. You don’t get out in the gardenas soon, so you’re not buying seasonal items,maybe you’re not doing some repairs around the housein preparation for the warmer weather,re-staining the deck, things of that nature.

But,overall, they maintained guidance for the year, sothey expect those sales to show back up again.Home Depot has been a multi-yeartremendous retail story. At a time when Amazonis reallycausing weakness in a lot of parts of the retail sector,Home Depot has done a wonderful job ofleveraging not only the proximity of all their stores to Americans to sell to DIY people, but theirprofessional business is growing really nicely. Also, they’requietly building a pretty good e-commerce business, as well.

So, a lot of tailwinds for Home Depot. Particularly, the housing startscontinue to go up. That’s a huge tailwind forHome Depot, especially as millennials and people start moving outof their parents’ basements, that should benefit Home Depot for years to come. I think it’s apretty interesting stock to take a look at.

Hill:Whenyou look at the same-store sales and they break it out by month, youreally see the effect of the bad weather in April,which was much colder and snowier than wetypically see. InFebruary, same-store sales were about 5.5%. March, almost 6%. And that falls off a shelf to about 2%.

Hanson:Yeah,it was a legit excuse. Like I said,Scotts Miracle-Groearningsnot too long ago, and theirresults were much poorer, because obviously, from a seasonal perspective, they’re almost pure-playgardening. And they reported the same problem. So,it’s a credible explanation. They maintained guidance for the year. AndHome Depot has been doing a lot of things right with regardsto being a retailer.

Hill:We’ll come back to Scotts injust a second. One more thing in terms ofthe rest of the fiscal year for Home Depot. We’ve talkedbefore about, look, when there are weather events,particularly in the winter, like significant events,blizzards, that sort of thing — if you’re a restaurant, if you’re a coffee shop,if you’re Starbucksor Chipotle or whoever, and you’relosing sales due to weather, you’re not getting those back.

Hanson:Yeah. You don’t buy two cups of coffee on Tuesdaybecause it was closed on Monday.

Hill:I mean,I do.But I’m making a couple of trips every day. But, with auto companies, when they’redealing with adverse weather, look, if you need to buy a new car and you can’t get out becausethere’s bad snow or whatever,there’s bad weather, well, you’re going to go back the next week ora couple weeks later. IsHome Depot in that second category? Becauseit kind of seems like, look, if you needgardening supplies, if you needto do repairs around the house,maybe you don’t get out there in April when it’s snowing. But,those are sales that just get pushed off by a few weeks.

Hanson:Yeah,I would say that’s the right way to think about it. It’s deferred business,rather than business that disappeared. Ifpeople aren’t buying a home, if they didn’t get a chance go out to open houses over the weekend because of poor weather,that’s not going to cause them to go like, “You know what? Forget that whole home buying thing. Wedidn’t get around to it last weekend, let’s just wait.” So,yeah, I think this business will show back upin the next quarter. Obviously, they already have some visibility the next quarter since it is the next quarter, and they maintained their guidancefor the year, so that probably tells you all you need to know about thatparticular secular trend.

Hill:Andprobably safe to assume that whenever Lowe’s reports their report —

Hanson:It’ll rhyme, yeah.

Hill:– theirApril is probably going to look a lot like Home Depot’s. You mentioned Scotts Miracle-Gro, which is a company we don’t talk about very often. It is astand-alone public company, ticker symbol SMG. You had mentioned how they reported recently,kind of a tough spring for them as well. But,you mentioned something to me this morningabout Scotts Miracle-Gro being a way toplay the growth in the marijuana industry.

Hanson:Yeah!

Hill:Andsomebody on Wall Street may have tapped your phone or something,because sure enough, a firm came out this morning andupgraded Scotts Miracle-Gro to a buy, put a buy rating on it,specifically for that reason.

Hanson:I think a lot ofmarijuana legalization stocks,obviously, have been part of a marketwhere there’s been a lot of hype, there’sa lot of overvaluation, there’s a lot ofoutright fraud,so on and so forth. A lot of pump and dump schemes have been in this space.

Hill:A lot of penny stocks.

Hanson:Alot of penny stocks. But obviously, as marijuana is legalizedin places, there are business opportunities associatedwith it. What makes Scotts interesting is that the core business is a very stable, branded gardening business,which is Miracle-Gro, Scotts Turf Builder, those sorts of things. This is a business thatgenerates a lot of free cash flow every year, haspricing power,people use the products every day,so on and so forth.

Then,attached to it, they’ve quietly been using that free cash flow and taking on some debt to build avertically integrated greenhousegrowing business,which can easily be applied as a picks and shovels play onmarijuana agriculture, werepeople to start growing that in significant quantities. It’sthings like hydroponics, seed starting kits, indoor soil,lighting, air filters,things of that nature.

It’s a couple hundred million dollar revenue business now,and if you look at the potential growth rates in the industry,this is one of those opportunities wheremarijuana as a commodity,predicting the price there and the demand and the supply is very difficult. If you know that growers are going to be coming into the industry,the people who supply the growerswith the things they needshould do pretty well. And like I said,they’ve assembled a pretty interestingportfolio of brandsto service that market.

Hill: Farmore brands than I would have expected, andsome of them I’ve never heard of.

Hanson:They’re niche. Niche to the gardening community.

Hill:I mean, Roundup, which, controlling weeds that you don’t want.

Hanson:Onthe retail side, yeah.

Hill:Ortho. But, aphenomenal brand which I had never heard ofuntil you mentioned it this morning issomething called Black Magic.

Hanson:This isgardening for the cool kids.Black Magic. They sell the products at Home Depot, and it’s seed trays, seedstarting soil, everything you need to get started.I start my own seeds.I actually experimented withBlack Magicproducts this year, not to grow marijuana buttomatoes and cucumbers and whatnot. But,it’s a hellaciously cool brand. It has a great logo. Ifthey have T-shirts, I want a T-shirt.

Hill:Yeah. First of all,you tell me. “I’m going to do some shopping this weekend.” “Where are you going?” “I’m going toBlack Magic.”

Hanson:Get someBlack Magic.

Hill:There areso many ways you can go. That could be an amazing pizza place.

Hanson:[laughs]

Hill:Itcould be any number of things. But,the fact that it’sbuilt right into the Scotts Miracle-Groumbrella of brands is fantastic.

Hanson:You know what’s neat is — the majority of acquisitions in corporate America fail tocreate value. That’s pretty well-known, particularly as they get big. But,what’s interesting about Scotts and acquiring these small, nichegardening brands, is that they havedistribution. They can putBlack Magic into Home Depot at a higher price point than Miracle-Gro, andall of the sudden, you have a very interestingshare of the shelf spacein that retail environment, which is,you have a premium product, you have a mainstream product,you have a discount product, and you’retouching the gardening process atbeginning, middle and end.

Thelast time I went to the store, I had to buy seedstarting soil, potting soil,I got peat moss. Allthat is taking share of my wallet,and I’m giving it to one parent company. So,I think it’s a good strategy. Someanalysts in the past have been concerned about theleverage they’ve taken on in order to execute it. But,I think they have more than enough cash flow to pay for it all,and I think it’ll be pretty interesting. Ifmarijuana legalization doesn’t come to the masses,it’s still a pretty reasonable valuation.

Hill:Andyou look at the track record so far. Putting the products aside,look at the job this company has donein terms of capital allocation, andthey’ve built up a nice track record.

Hanson:Yeah, it’snot a huge company, but they’ve done a solid job.

Hill:Ifyou’ve ever wanted to invest inBlack Magic —

Hanson:Now’s the time.

Hill:– nowyou actually can.

It’s nice thatsome of the CEOs of public companies aremaking a good living, because I was really worriedabout some of them. Andcongrats to Evan Spiegel, the CEO of Snap, who,as it turns out, was the highest paid CEO in 2017. He madejust over $500 million.

Hanson:Thatwasn’t all cash, though, was it? No!

Hill:No,much of that came from a huge stock grant that vested when Snap went public.

Hanson:I mean, that’ll be worthless soon.

Hill:[laughs]But here’s the thing. When you juxtapose the just north of $500 millionthat he made in 2017 with the $720 million loss that Snap took in 2017,I can’t help but think,there’s a way to decrease that loss. Youlooked at the list. Whatstood out to you?

Hanson:Thiscame from The Wall Street Journal. What they were pointing out was, was it nine of —

Hill:Eight.

Hanson:Eight of the top 20 —

Hill:Eight of the top 20!

Hanson:– don’t even have their jobs anymore! They included Steve Wynn, who obviously resigned in shame for that. Then,Hunter Harrison, who passed awayafter trying to steer CSX. After successfully turning around some other railroads, he was attracted to CSX by an activist investor. He had health problems and passed away. Still pocketed something on the order of $100 million orsomething along those lines.

It was just fascinating. You like to think, at any company,that you have a pay-for-performance culture, right? That thepeople who are making the money are the people who are helping grow value for the business. And obviously, CEOs makea lot of money. Andthe fact that the turnover is so high for doing a bad job –these people mostly lost their jobs for cause. They were doing a terrible job! And they were making well into nine figures!

Hill:Yes.

Hanson:Crazy!

Hill:That’sthe thing that always has me scratching my head. Because you’re right. All kidding aside about Evan Spiegel, in general, rather than CEOs being paid a tremendous amount of cash, we’dmuch rather see their interestsalign with the interests ofindividual shareholders like you and me. But,I don’t think I will everstop shaking my head atsome of the pay packagesthat are put together for CEOs who don’t perform, to the point that you made, and also some of the parachutes. Even people who are being fired for cause, it’s like, “Oh,yeah, but we’re also goingto give you this enormous bag of moneyon your way out the door.”

Hanson:Yeah,it’s crazy. In sports,there are obviously some overpaidathletes,but they got overpaid because at some point, they were probably underpaid, or their talents were marketable. There’s some connection there between the compensation and their relative ranking among their peer group. With CEOs, there’salmost no correlation between skill and pay when it comes to C-level management. None. So, why any board ofdirectors feels the need to overpay a CEO to keep them or to hire them whenyou could probably find someone ofequal or greater ability for less moneyif you’re just willing to work a little hardercontinues to baffle me. Andyou have all sorts of corporateexecutive headhunting firms that make a lot of money looking for these people. And yet, there’s no science to it!I mean, I like to measure things and be very quantitative —

Hill:Data-driven.

Hanson:Yeah,and I believe in meritocracy, so on and so forth. Andthis is a thing that continues to annoy meabout management teams, ishow much money they think they’re worth when it’sdemonstrably not true that they’re worth that money.

Hill:Youjust reminded me, when you mentioned professional athletes, of the great line that Chris Rock had about the difference between being rich and beingwealthy. It was, “Shaquille O’Neal is rich. The owner of the team who signs his paychecks, he’s wealthy.” How’s The Fool 100 Index doing?

Hanson:Well. The index is beating the market year-to-date. We had ourreconstitution at the end of March. We’llhave another one at the end of June. But, yeah,it’s been a nice time to be in large-cap technology stocks. I think the Fool analysts here in-househave done a really nice jobof identifyingthe cream of the crop there. And that’s helped the index stay ahead of the S&P 500 this year.

Hill:If you want more information on The Fool 100 Index,it’s always right there on the main page of fool.com —

Hanson:I mean, if you’re a Foolish investor,I would say it’s a fun index to compete against.I benchmark all of our servicesand stuff against it now,because it’s stylistically a little bitof a better comparison if you’re investing Foolishly, inrecommendations of ours andso on and so forth. You canmake your life a little harder by trying to beat The Fool 100 instead of the S&P.

Hill:[laughs]Nice. You can also go to fool100.com for more information on The Fool 100 Index. Tim Hanson,I’ll let you get back to gardening.

Hanson:Thank you, sir!

Hill:Thank you!

Hanson:As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don’t buy or sell stocks based solely on what you hear. That’s going to do it for this edition of Market Foolery. The show is mixed by Dan Boyd. I’m Chris Hill. Thanks for listening! We’ll see you tomorrow!