Avon’s Sales Decline Persists In Q2 On the Back Of Currency Headwinds, Brazil’s Economic Problems, And Representative Base Erosion

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Avon Products (NYSE:AVP) announced its Q2 2015 earnings on July 30th. The company suffered yet another weak quarter due to currency headwinds, economic problems in Brazil – its top revenue contributor (~20% as of 2014) [1], and a declining representative base in North America. However, Avon’s management claims that the company had taken these economic factors into consideration and it is on the track to recovery. In the fourth quarter of 2015, Avon’s management will try to encourage more of its representatives to sell through its digital domain, Avon.com, as it sees significant fan followings (around 20 million) on the social media and aims to capitalize on the sales opportunity. [2]

In Q2 2015, the company’s sales declined by 17% to $1.8 billion. However, in constant dollar terms, Avon’s revenues was relatively unchanged due to the growth in Europe, the Middle East, and Africa (EMEA). The company’s active representative base declined by 2% on a year-over-year basis, primarily due to the continued decline of the representative base in North America. As of December 2014, Avon had around 6 million active representatives. [3] [1].

We will shortly update our current price estimate of $6.55 for Avon Products.

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 Avon’s Performance Showed Improvement In Latin America and EMEA, While Representative Erosion In North America Continued

Avon experienced healthy growth on a constant currency basis in the EMEA, driven by its strong growth in Russia due to initiatives by the representatives. Within Latin America – its most important sales region contributing around 50% of its revenues – Mexico showed recovering trends, while Brazil continued its lackluster performance. However, as mentioned in the earlier earnings report, Brazil’s IPI taxes and persisting economic weakness continued to dampen Avon’s growth in the country. North America performed as expected and delivered a moderate quarter. In Asia Pacific, Philippines (its largest market in the region) demonstrated a sturdy performance. However, Asia performed poorly on an overall basis.

In Q2 2015, Avon’s active representative base declined by 2% on a year-over-year basis, which was primarily due to the erosion in base in North America. This was partially offset by relatively better performance in EMEA, with a significant improvement in Russia. There was a sequential quarter over quarter improvement in Avon’s representative base. The company claimed to have witnessed growing trends in representative base in almost two-thirds of its top regions of operation. The management stated that a positive trend in the representative retention has been observed, on a rolling 12-month basis. [2] [3]

 

Avon’s Travails In Brazil And The Remedial Measures 

Avon’s largest market, Brazil, had erstwhile been a catalyst in the company’s growth. The most important reason for this was that direct selling is a very important model in the Brazil beauty market which contributed to around 70% of the market transactions. Hence, Avon’s direct selling market was a huge success in Brazil. Currently, Brazil is being adversely impacted by three economic factors [2] :

  1. The Brazilian Real is facing severe depreciation in recent times.
  2. Brazil’s IPI tax (one of the basic sales taxes in Brazil) that came into effect post May 1, dampened Avon’s sales in the color and skin care segments. Avon is the leading player in Brazil in these two segments.
  3. Brazil’s weak economic conditions led to declines in consumers spending on ‘luxury items’ such as cosmetics.
  • Recovery Initiatives

Brazil’s economic weakness, coupled with other factors such as competition from retail channels and an improper product pricing strategy by Avon, had caused a dent in  Avon’s Brazil sales figures since 2014. To recover the Latin American market and Brazil in particular, towards the end of 2014, Avon struck an alliance with KORRES (a Greek skincare brand) and Coty (a French beauty and personal care company). Avon’s initiatives did bear some improvements in Avon’s Latin American sales in Q1 2015. Avon is still testing the right product pricing strategy to boost consumer confidence. [4] Currently, Avon is trying to maintain its stability in the region by actively recruiting representatives and spending on retention programs. The company has planned for a new set of innovative product launches in the region, which are in the pipeline for the second half of 2015. [2]

Some Highlights Of The Second Quarter

  • Avon divested Liz Earle, its wholly-owned, UK-based natural skincare brand, in the second quarter. Liz Earle contributed around 1% to Avon’s consolidated revenues and adjusted operating profit in 2014. Liz Earle was acquired by Walgreens (NASDAQ:WBA) for £140 million. Avon plans to use the proceeds from the sale to redeem its $250 million worth 2.375% notes, due in March 2016. (See Press Release). Avon will also use some of the resources from the sale to revive its declining capital structure.
  • Avon closed on a $400 million, 5-year senior secured revolving credit facility. This will replace the previous $1 billion unsecured revolving credit facility. [2]
  • For the full year 2015, Avon had guided to slight improvements over 2014 on a constant dollar basis and around 17 point negative impact on revenues due to foreign currency translation. [2]

Trying To Shift More Representatives To Sell Through The Digital Medium

Avon’s online portal, avon.com, is showing double digit growth; however, it is still less than 10% of the total business. The company is trying to shift more representatives to sell through the online channels, and it will take more initiatives towards this end towards the fourth quarter. [2]

Avon’s direct selling model is dependent on a sturdy representative base and the sales initiatives taken by those representatives. Avon’s representative base erosion had been a serious problem in the recent past and had been an important factor for its sales decline. Avon had a representative count of around 6 million in 2014, after witnessing a 4% year-on-year decline. Avon’s competitors in the beauty domain have multiple channels for sales including retail outlets, standalone shops, as well as digital media. In 2014, Avon’s major sales regions witnessed representative base erosion. The representative pool in North America, Asia Pacific, and Latin America, declined by 18%, 7%, and 4%,  respectively. We believe that in the long run, other modes of sales (such as through the digital medium) will cannibalize sales from the direct-selling channels for Avon. [5]

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Notes:
  1. Avon’s Annual Report, 2014 [] []
  2. Avon’s Q2 2015 Earnings Call Transcript, Seeking Alpha, July 30, 2015 [] [] [] [] [] [] []
  3. Avon Reports Q2 2015 Results, Avon Press Releases, April 30, 2015 [] []
  4. Avon’s Q1 2015 Earnings Call Transcript, Seeking Alpha, April 30, 2015 []
  5. Avon’s Q4 2014 Earnings Call Transcript, Seeking Alpha, February 12, 2015 []