Revlon Earnings Show Recovery Underway, Debt Levels Should be Next Focus

Revlon (NYSE:REV) continues to draw almost half of its sales from the U.S. where not only has the economic recovery from the downturn has been slow but the inflationary macroeconomic environment has also added pressure to profit margins for all companies including competitors like L’Oreal (PINK:LRLCY), Procter & Gamble (NYSE:PG) and Unilever (NYSE:UL). Despite this, Revlon has not only posted positive sales growth in its latest earnings, but also improved gross margins, which partly funded an expanded marketing and advertising budget. We review some of the key factors determining its 2011 outlook below.

We value Revlon with a $16.90 Trefis price estimate of its stock, which is inline with the market price.

Latest Earnings Show Positive Signs

In its latest earnings report, Revlon posted a 9% increase in sales at $333 million in Q1 2011, and 7% organic growth (excluding FX gains and one-time items). After sales declines of around 4% annually from 2007-2009, we were encouraged to see sales recover by around 2%. A return in spending and advertising campaigns helped translate to higher sales. Among its initiatives, Revlon spent around over $15 million on  higher advertising to boost the company’s brands and this translated into sales growth.

Revlon’s gross margins also expanded by about 2 percentage points y-o-y to around 66% in Q1 2011. Lower inventory obsolescence and sales returns as well as limits on overhead expenses are partly responsible for this. These signs are encouraging for the year ahead.

Needs to Lower Debt

Revlon continues to be heavily levered with a debt load in excess of $1.3 billion, which is more than one year’s total sales! We believe that bringing down its debt load to more manageable levels is one way to boost confidence among investors.

To draw down its debt, Revlon has two options:

(i) to ease up on expenditures like advertising and potentially take a hit in market share in the process, which would release some cash to pay down the debt, or

(ii) to push sales growth and market share gains by spending on advertising while hoping that margins and pricing hold up so that the company can use these additional revenue to pay down debt.

Revlon has been doing the latter over the past few quarters, which we discussed in an earnings preview note titled Revlon’s Earnings Preview – What We’re Watching, and it looks like this strategy could be working for the time being.

See our full analysis of Revlon’s stock here.