GrowGeneration. Blasted, For No Good Reason?

GrowGeneration’s not Canadian and Denver’s not Vancouver. However specialty garden supply retailer GRWG is the largest stand-alone retail chain offering hydroponic and organic gardening gear in North America. The company provides end-to-end solutions to customers which include both individuals and large-scale commercial cultivators. GRWG currently operates in 12 states with 58 sprawling locations. Back on March 6th the retail operation celebrated its’ seventh birthday along with its’ expanding footprint. This past week it also incurred the worst two day share price shred in its’ history. We’re here to find out why and see if it’s a buy. Fact.

Investors behave like bloody ravening beasts. They feed like Piranha while aiming an eye on the shadows.

Last Thursday after close GRWG posted a record quarter: Revenue rose 189%, leaping from $43.5M in the year ago quarter to $125.9M this quarter. Same-store-sales climbed 60%. Net income grew 161%. Adjusted EBITDA(excluding stock-based compensation) reached $14.5M., up 229%. Capping off all that glory management raised FY2021 revenue guidance. And? Was that enough? No. The company missed EPS by a penny–$0.11sh. vs. a $0.12 consensus estamate. The above results came on top of last quarter’s 42.8% EPS beat–$0.10sh. vs. a $0.07sh. estamate. And?

Outrage. Boos rolled forth from the stands while gnawed brats and beer cups rained onto the field. Jesus Christos. Typical. Investors kicked and bawled like children while selling by the arm-load. Shares collapsed 18% on exceptional volume. Oh boy. On Friday the damage continued as GRWG was the recipient of three price target reductions, which triggered an additional 9% decline. What’s that look like in pictures?

-Historic Drops-

What is GrowGen–as a company and thus a stock? It matters in terms of how it trades. GRWG’s a chain retailer–consumer-facing–business. Thus GrowGen is economically sensitive. All retail shares this reality, including Amazon’s(AMZN) ecommerce business. GRWG is “Consumer Discretionary,” although they equip commercial operations as well as individual gardeners. As a Consumer D. play GRWG is viewed as a growth play, rather than secular growth, such as Alphabet(GOOG/GOOGL) or Snow Flake(SNOW.) Why mention this? When retail names plunge, a weak consumer is the first suspect. So were sales the problem here? CEO Darren Lampert:

“The entire enterprise generated more revenue in the first half of 2021 than all of 2020 and adjusted EBITDA in the first half of 2021 was more than all previous periods combined. “–Darren Lampert, GrowGeneration Co-Founder and CEO. GRWG nearly tripled its’ revenue for the six months of 2021 vs. the year ago period–$215.9M from $76.4M.

Sales don’t expand by 190% on a weak consumer. So, was the fall profit taking? GRWG did not run up into its’ Q2 release. Shares actually declined by 10.5% over the quarter. On the bottom line the company did post an EPS of $0.11sh. against its’ $0.06sh. in the year ago quarter. But missing consensus is a sin, and particularly against Q1’s big estimate beat. A penny miss on top of a big beat in Q1 together go some distance in explaining the hate. But is it justified?

GRWG is a manifestation of a profound cultural shit. America’s failed fifty-year long “war on drugs” has mostly lost the support of the baby boom generation and failed to ever gain traction with millennials, Gen X, or Z. These facts are clearly demonstrated by the map.

Launched by the Nixon Administration during Vietnam, the “war on drugs” seemed always destined to end as did prohibition. In 1969-70 American troops were returning stateside fully familiar with marijuana and heroin, both widely available in southeast Asia. The subsequent fifty-year campaign barely dented the demand for, or availability of, illegal substances. It did however consume hundreds of billions of tax payer dollars, militarize police departments across the country, and fill the judicial and penial systems, with non-violent possession cases. And now?

The medical use of cannabis is now legal in 36(70%) states, the District of Columbia, Guam, Puerto Rico, and the U.S. Virgin Islands. 18 States have now legalized the recreational use. Canada is also now fully legal and Mexico is in the process. Further, the Biden Administration has announced a move to decriminalize on the federal level, which would in turn open the national banking system to the industry.

GrowGeneration is the “pick-and-shovel” side of an expanding industry, one inexorably moving forward through public demand, and the lure of substantial new tax revenue. Think lotteries. It almost certainly will continue to do so despite federal foot-dragging. GRWG is a growth stock with robust revenue, one driven by cultural trend. But is it a “momentum” play?

-Momentum-

With the exception of September and October ’20 GOOGL has displayed a climb nothing short of stunning. This is “momentum.” It’s characterized by a strong extended climb riding a cushion above it’s moving averages(chart.) The phase is characterized by soaring price-action simply living above all. Truly blistering momentum trades even above its’ 20-Day SMA(simple moving average.) Such cannot last. How is that different from “growth?”

The commonly-used term “growth” refers to a company growing earnings at a rate above that of the market itself. For investors such companies also display a share price appreciating more quickly than the market average over the intermediate/long term. Think Amazon(AMZN.)

-Growth-

Understanding both momentum and growth clarify what GRWG is now. The Amazon chart above illustrates the classic “rise and rest” pattern of growth stocks. Individually these two elements are an “up-trend” coupled with periods of “consolidation,” or sideways moves, often “saw tooth” in pattern. Again, CEO Darren Lampert:

“I am proud and encouraged with our 170 basis point increase in gross profit margin. On a per share basis, adjusted EBITDA was $0.24 for the quarter versus $0.11 last year.  These increases were accomplished despite port delays, supply chain interruptions, and increases in container costs.”–CEO Darren Lampert, Q2, 2021 Financial Results press release. 

GrowGeneration is a company just now coming into its’ own. GRWG has been described as a “roll-up” due to its’ pattern of multiple acquisitions. This fails to do justice to its’ successful execution. While generating so-called “organic” growth is important, serial accretive acquisitions are a time-tested tool along the road to dominant scale and corporate maturity. In our view GRWG is clearly accomplishing precisely that.

Acquiring direct competitors simultaneously reduces competition and increases an active footprint. “They,” are now you. What’s not to love when financing such at today’s rock-bottom rates? Acquiring already operating enterprises means buying their business, which means their existing customer base. CEO Lambert:

“For the year, we closed 12 acquisitions, adding 20 hydroponic retail locations, bringing our total store count to 58. Our ability to attract and purchase the ‘best of breed’ and largest hydroponic operators in the country was again evident with our signing of HGS Hydro, the country’s third largest hydroponic chain.”–Q2 press release.

GrowGen is indeed a growth stock, one having demonstrated a stunning momentum phase. It’s rise from the depths of COVID was spectacular. Following its’ all-time peak on February 11 it’s created s series of both lower highs and lower lows, for two quarters. Such a decline is not only understandable, but predictable. Rocket-fueled climbs are unsustainable. Only so much new money exists, and only new money coming in can drive prices higher. Here we see GRWG’s momentum phase, followed by two quarters of choppy decline.

Following the market-wide COVID collapse GRWG climbed 2485.8% in a momentum phase. 2021’s subsequent 53.5% decline was predictable. All spectacular climbs end, and often ugly . Four distinct reasons help to explain: 1. Profit-taking combined with risk reduction. 2. Sector rotation into cyclicals in anticipation of a reopening. 3. 2021’s clut of IPOs sucking cash out of growth. 4. Inflation and correction fears further fueling an exodus from high-multiple growth.

GrowGeneration’s thesis remains fully intact. As a leading, high-profile, provider of advanced hydroponic and organic gardening systems and supplies, GRWG is capitalizing on the on-going expansion of the relatively new trend-driven cannabis industry. In our view, for those with a longer-term time horizon the stock offers a very attractive growth opportunity. Patience pays. Shares have not signaled a bottom.

Is GRWG a good stock? Yes. In our view, with a careful entry point, it offers a very significant intermediate term upside. Is GRWG a good trade? We think no, not in the short term. Growth stocks like GRWG now faces both inflation concerns, and the on-going hunt by investors for plays based on an elusive economic reopening. Only so many investing dollars are available to chase opportunity, and just now growth is last in line.

Why talk GRWG now? GRWG is just now searching for a bottom, one which will represent a sale. The time to build a position is when the space is hated, or feared, or both.

GrowGen’s Q2 EPS miss came against an earnings season full of incredible top and bottom line beats, ones produced against anomalously weak comparisons, levels set amid the 2020 pandemic lockdown. What did the company have to say?

On August 12th the GrowGen team gathered at its’ west 7th Denver headquarters to conduct it’s second quarter conference call. The call produced a ticker tape parade of “Congrats” from analysts. “Another strong quarter from you guys.” Comments like these from analysts offer a clear sign of a company’s performance. They know both the business and the company’s history and trajectory. Next? Soon two issues emerged which, in our view, explain the company-specific post report sell-off. The first was the provision of only limited guidance, while the second was the issuance of additional shares. Investors mistrust the first and have no tolerance for the later.

During both opening remarks and the financial summary, the company reiterated second half revenue guidance of $234M-$254M, vs. $117M. in the first six months of 2020. The lower end estimate would represent a 100% revenue gain year-over-year. Further, the company again stated that it has issued 100,000 additional shares, and stated it will offer 400K more, to facilitate the acquisition of Michigan-based HGS Hydro.

The lead off analyst’s question concerned the limited guidance. First question; ” Why not add more guidance?” Much of the call centered on answering this very question. Those remarks centered on pandemic-related slowdowns.

CEO Lampert; “We’re seeing very slow movement in licensing, particularly in the east. It’s taking use longer to build stores and some of that is building materials. So we’re being very conservative in guidance. In states that we’ve been operating in we’re seeing comps in the mid-50’s this year. Same store sales can’t continue at that rate. we expect FY comps to average around 25%. With COVID and supply chain issues we’re being very conservative with guidance.”

“We’re seeing some push back from commercial customers in durables[not consumables].” “Push back” refers to time frame shift–commercial customers’ projects being delayed, or “pushed back” later in the year. “What we provide comes in late in the building process, such as lighting.” “Again, building materials are part of this.” “Further H2 guidance will be provided following the close of the HGS Hydro acquisition.”

Amid further “Congratulations,” we learn that the company has spent $48M. thus far in 2021 on acquisitions, and currently reserves $75M. more for that purpose. It holds a total of $124.5M. in liquidity.

Four distinct macro and market issues combined to create GRWG’s 53.5% decline from its’ February high of $67.75: 1. Profit-taking and risk reduction. 2. Sector rotation into cyclicals in anticipation of an economic reopening. 3. 2021’s glut of IPOs sucking cash out of growth. 4. Inflation and market correction fears further fueling an exodus from high-multiple names.

Technical support suggests GRWG likely has more downside, possibly as low as $16. Yet that seems extreme, given the company’s tremendous fundamentals. Yet the macro-economic and market mechanics pressures will continue. The post Q2 report decline was an exacerbation of the macro/market forces, due to the $0.01 EPS miss against elevated expectations, a lack of more complete guidance, and the additional share offering. We found no previous notification of this share issuance in company press releases, prior to Q2’s report.

Following our research we continue to feel strongly that GRWG will prove a very good buy over the intermediate term. GRWG is a growth stock now in decline, following a spectacular momentum phase. We think that waiting for a turn in the RSI, and strength in the MACD are only wise.

A good entry point could be made employing the classic dip buying strategy; one strong up day close, on volume, followed by a second up day close on volume, one opening above the previous day’s close, We assign GRWG our “HOLD” rating based on very strong fundamentals, its’ pick-and-shovel business, and the clear cultural shift driven trend toward full legalization with access to the national banking system. We own it. We’ll upgrade GRWG to “BUY” when the technicals warrent. Wait for great. We pounced too soon.

-State-by-State; Annual-

GrowGeneration reports record second quarter financial results:

https://ir.growgeneration.com/news-events/press-releases/detail/145/growgeneration-reports-record-second-quarter-2021-financial

-GRWG Q2 2021 Conference Call-

https://ir.growgeneration.com/financial-information/financial-results

As always good luck and savvy investing.

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