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Why This Backdoor Marijuana Stock Jumped 21% in January

By Todd Campbell – Updated Apr 18, 2019 at 4:47PM

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This cannabis supply company saw its share price skyrocket, in part due to news out of Washington, D.C.

What happened

After the U.S. Farm Bill re-ignited optimism that demand for the company's marijuana business, Hawthorne, could accelerate, and fiscal first-quarter revenue came in a little better than hoped, shares in The Scotts Miracle-Gro Company (SMG -5.01%) skyrocketed 21% in January, according to S&P Global Market Intelligence.

So what

An oversupply of marijuana in states where it's legal caused wholesale prices to drop in 2018, which crimped demand for products including hydroponics and lighting, sold by Scotts Miracle-Gro's Hawthorne division.

Marijuana growing in a greenhouse.

IMAGE SOURCE: GETTY IMAGES.

The lackluster performance by Hawthorne prompted management changes and a tongue-lashing of the business segment by Scotts Miracle-Gro's CEO last summer. With Hawthorne's sales slumping, Scotts Miracle-Gro's shares declined significantly in 2018; however, there's reason to think 2019 may be better.

First, Congress passed its latest U.S. Farm Bill in December, and that bill included language that removes hemp from the controlled substances list. The change could spark widespread development of hemp-derived consumer goods because hemp has high levels of cannabidiol (CBD), a chemical cannabinoid that's commonly associated with medicinal benefits.

Second, Hawthorne's stumbles may be over. On Jan 30, Scotts Miracle-Gro reported fiscal first-quarter revenue grew 35% year over year to $298.1 million, including $140.8 million in sales from Hawthorne, up 84% from last year. Most of Hawthorne's increase was due to the acquisition of Sunlight Supply, but management did say, "The recent performance at Hawthorne is also encouraging as we began to see a return to growth in the U.S. hydroponics business in the second half of the first quarter, a trend that has continued in January.

For perspective, Hawthorne's sales fell less than 10% year over year last quarter, excluding acquisitions, which was a significant improvement from the 30% year-over-year drop in the prior quarter and a 40% year-over-year drop in the quarter before that.

Check out the latest Scotts Miracle-Gro earnings call transcript.

Now what

During Scotts Miracle-Gro's earnings conference call, management revealed that two of the past three months have been positive in terms of comparable sales at Hawthorne. If that trend continues, then its next quarterly earnings report could reflect a return to year-over-year sales growth at Hawthorne, according to the company.

The Hawthorne business is likely to grow in fits and starts as cannabis markets mature, though, because companies tend to overinvest up front in high-growth industries like this. Nevertheless, long-term investors might want to consider picking up shares in Scotts Miracle-Gro. Its stock price is still significantly lower than last year's peak -- and given that only 10 states have legalized recreational marijuana so far and an estimated $50 billion is spent in the U.S. alone on marijuana annually, there's a big opportunity for future sales growth.  

 

Todd Campbell has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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