“Scott’s Miracle-Gro (SMG) was Our Worst Performing Stock”

Madison Funds, an investment management firm, published its “Madison Small Cap Fund” second-quarter 2021 investor letter – a copy of which can be downloaded here. The fund’s Class Y shares recorded a quarterly portfolio return of 6.27% for the second quarter of 2021, compared to its benchmark, the Russell 2000 Index that was up by 4.29% for the same period. You can view the fund’s top 5 holdings to have an idea about their top bets for 2021.

In the Q2 2021 investor letter of Madison Funds, the fund mentioned The Scotts Miracle-Gro Company (NYSE: SMG) and discussed its stance on the firm. The Scotts Miracle-Gro Company is a Marysville, Ohio-based manufacturing company with an $8.6 billion market capitalization. SMG delivered a -22.59% return since the beginning of the year, while its 12-month returns are down by -9.64%. The stock closed at $154.16 per share on August 19, 2021.

Here is what Madison Funds has to say about The Scotts Miracle-Gro Company in its Q2 2021 investor letter:

“In Consumer Staples on the other hand, Scott’s Miracle-Gro (SMG) was our worst performing stock, ironically after posting record results. There are a few factors at play here. SMG’s lawncare business benefitted immensely from the lock down and work from home, as homeowners spent more time at home and invested in remodels and upgrades which included their lawn and gardens. Furthermore, the weather was very supportive for lawn and garden season. However, stocks are forward looking vehicles and investors are betting that the best is behind Scott’s and reopening will mean less spending on lawncare. While it’s difficult to argue against a slowdown, we continue to like this dominant franchise for two reasons. First, home ownership has expanded and continues to expand, and second, Scott’s owns the Hawthorne franchise. Hawthorne sells lighting, nutrients and grow media into the fast growing commercial cannabis market. It is the country’s largest and most profitable cannabis supply vendor. Over the last 6 months, laws legalizing recreational marijuana use have passed in several states including New York, Connecticut, South Dakota, and Virginia. Meanwhile the most mature legal states like Colorado and California are still growing rapidly for Hawthorne’s products. The pullback in the stock has been dramatic and excessive, in our opinion. We believe a sum of the parts framework can yield great insight. The Hawthorne business is an effective duopoly with Hydro Farm (HYFM) – also a portfolio company. The market values HYFM at 5x revenue. If we apply the same multiple to Hawthorne’s revenue, this implies that the market leading Scotts’ Miracle-Gro franchise, with greater than 25% Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) margins, is valued at just 5x EBITDA.”

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Based on our calculations, The Scotts Miracle-Gro Company (NYSE: SMG) was not able to clinch a spot in our list of the 30 Most Popular Stocks Among Hedge Funds. SMG was in 32 hedge fund portfolios at the end of the first half of 2021, compared to 34 funds in the previous quarter. The Scotts Miracle-Gro Company (NYSE: SMG) delivered a -28.63% return in the past 3 months.

Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 115 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.

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Disclosure: None. This article is originally published at Insider Monkey.