L’Oreal Earnings Preview: Luxury Cosmetics and Acquisitions Might Fuel Sales, Offset Perhaps By Economic Adversities

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L’Oreal (OTC:LRLCY), the international leader in cosmetics and beauty care, is set to release its fourth quarter earnings on February 12th. The company witnessed a moderate 2014, as judged by its financial performance. For the first nine months of 2014, L’Oreal reported a sales contraction of 0.4% to €16 billion. Like-for-like sales, which exclude currency headwinds and other inorganic growth effects, increased 3.5% during the nine months in FY14. Currency headwinds tempered down during the third quarter of 2014, compared to the first half.

L’Oreal’s cosmetics branch is further divided into four segments. Below, we give a description and the first nine months’ year-on-year sales performance  of these divisions: Professional Products Division: Products sold and used in hair salons. (+2.8% like for like growth); Consumer Products Division: Products sold in mass market retail channels. (+1.2% like for like growth); L’Oreal Luxe Division: Products sold in selective retail outlets i.e. department stores, perfumeries, travel retail, the Group’s own boutiques and certain online sites. (+6.5% like for like growth); and, Active Cosmetics Division: Products for “borderline” complexions (i.e. neither healthy nor problematic), sold through all health channels such as pharmacies, parapharmacies, drug stores, and medispas. (+9% like-for-like growth) [1]

In this article, we discuss the major factors that might affect L’Oreal’s performance in the fourth quarter and also in the long run.

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We have a $37 price estimate for L’Oreal, which is at a slight premium to the current market price. We will update our estimate after the Q4 earnings results.

See Our Complete Analysis for L’Oreal Here

L’Oreal Luxe And Active Products Division Performed Strongly, Whereas Consumer Products Division Lagged Behind

In the first nine months of fiscal 2014, the luxury cosmetics division of L’Oréal Luxe was the star performer, driven by growing demand in the overall market-particularly, in China, U.S., and Western Europe. Revenues for the division grew 6.5% on a like-for-like basis (+3.2% based on reported figures) and reached €4.4 billion.

The strong performance for L’Oréal Luxe was driven by robust performance of brands such as Yves Saint Laurent, Giorgio Armani, Urban Decay, Kiehl’s and Clarisonic. The American make-up product maker Urban Decay, acquired by L’Oréal in 2012, registered a 93% jump in revenues in the first half of 2014. The market for specialized make-up brands constitutes 44% of luxury make-up market in the U.S. Hence, the strong revenue growth from Urban Decay could translate into market share gains in the US. The Luxury Division witnessed growth in all categories, particularly in make-up, which was being prioritized in 2014.

L’Oreal’s Consumer Products division, on the other hand, grew by 1.2% on a like-for-like basis (-3.2% based on reported figures) to reach €8 billion. The market for mass-market cosmetics has remained sluggish both in North America and emerging markets, particularly the Asia-Pacific region. The company’s performance in North America was impacted by a high comparison base from last year due to a product launch.

Strategic Acquisitions Might Act As A Catalyst For Overall Growth In The Fourth Quarter And The Future

In 2013, the top three markets accounting for around 50% of the world’s beauty market growth were China, Brazil, and the U.S. [2] Hence, it comes as no surprise that L’Oreal’s major acquisitions in 2014 focused in those regions.

  • L’Oreal Tries Gaining A Larger Share Of The Chinese Beauty Market With Magic Holdings

In April 2014, L’Oreal completed the acquisition of Magic Holdings in China. The Chinese beauty and cosmetics market is the third largest market globally, after North America and Japan, and had a market sales of approximately $23 billion in 2013. [3] Within this huge market, L’Oreal reported sales of over $2 billion in 2013. [4] This translates into a 9% market share for L’Oreal in the overall Chinese beauty market. However, the company has faced intense pressure from domestic players within the mass-market cosmetics space and has bowed out of the Chinese hair care market by shutting down its Garnier brand there.

To counter this strengthening competition from domestic players and retain their market share, global beauty companies have been on an ‘acquire-to-grow’ strategy in the Chinese market. L’Oreal announced its acquisition of Magic Holdings International Limited for $850 million in 2013, which is the company’s largest acquisition in the Chinese market. Magic Holdings is the leader in the Chinese facial care market, with annual revenues that grew 14% on a constant currency basis to reach $220 million in 2013. The acquisition of Magic Holdings indicates L’Oreal’s stance against domestic competition.

  • L’Oreal Aims At Restoring Growth In North America with NYX Cosmetics

L’Oreal’s acquisition, NYX Cosmetics, is a high-growth mass market makeup cosmetics brand with presence in more than 70 countries globally. The company is a direct competitor to Estee Lauder’s M-A-C brand of makeup cosmetics and has seen explosive growth in sales over the last two fiscal years. Sales for NYX Cosmetics increased by 46% and 57% in the years ending May 2013 and May 2014, to reach $93 million. [5]

The acquisition of NYX Cosmetics should add support to a recovery in the weak North American market. Impacted by adverse weather conditions, a slowdown in the North American beauty market has resulted in weak consumer offtake for cosmetics. L’Oreal’s growth in the North American cosmetics market slowed down from 4.4% in 2012 to 2.6% in 2013, while other developed markets showed signs of expansion. [6] Going forward, the company expects the North American market to rebound to higher growth driven by an expansion in trendy mass market color cosmetics such as NYX Cosmetics, M-A-C, and UrbanDecay.

  • L’Oreal Enhances Its Professional Products’ Portfolio With Decléor and Carita

In April 2014, L’Oreal completed the acquisition of Decléor and Carita from the Japanese group Shiseido. The turnover for Decléor / Carita was around 100 million euros in 2012. Decléor and Carita hold a second position worldwide, in the global Professional Spa and Beauty Institute market. [7] The acquisition would ensure L’Oreal’s entry into new distribution channels in the professional beauty segment, such as day spas, resorts, and destination spas which specialize in skin care. [8]

  • L’Oreal Penetrates Further Into Brazil With Niely Cosmeticos

In September 2014, L’Oreal signed an agreement to acquire Brazil based Niely Cosmeticos, the largest independent hair care and hair coloration company in the country. Aimed at the middle class mass market, Niely products have a large penetration in Brazil, with a wide distribution network including retailers and wholesalers, supermarkets, pharmacies and perfumery chains.

Brazil is currently the fourth largest beauty market in the world, with a number 1 position in hair care, hair colorants, and deodorants. L’Oreal Brazil is the sixth largest subsidiary for the L’Oreal Group. [2]

L’Oreal aims to improve its largest division, the consumer products, through this acquisition. Brazil being the largest hair color and hair care market and Niely being one of the most prominent players in this segment, we expect Niely to boost L’Oreal’s sales in Brazil and later on, internationally. [9]

  • L’Oreal Continues Excelling In Hair Research With Coloright

In December 2014, L’Oreal announced the acquisition of Israel-based hair research start-up, Coloright. Coloright develops hair-fibre optical reader technology and it will be a part of L’Oreal’s international Research and Innovation network. According to L’Oreal’s estimates, the top two contributors for the global beauty market are skin care (34%) and hair care (24% ). [10] L’Oreal has always been a pioneer in hair research, and this acquisition will further aid the company in being one of the forerunners in hair care related innovations.

L’Oreal’s Performance Will Continue Being Affected By Economic Adversities

The weak performance of the Euro against the U.S. Dollar, weakening prices due to deflation, and slowing GDP economies across Western Europe weighed on sales from the Western European region. While the performance of L’Oréal Luxe and Active Cosmetics remained strong in this region, sales from its consumer products segment remains under pressure in a tough economic environment.

So far, L’Oreal’s results were heavily impacted by volatile currency fluctuations in the emerging markets. According to the company, currency fluctuation had a negative impact of around -3.8 percentage points. Revenues for the first nine months of 2014 stood at €16 billion representing a -0.4% decline from a year-ago period. Excluding currency fluctuations, constant dollar revenues increased 3.5% during the period. (According to estimates from the company, its constant dollar revenue performance is in-line with the performance from the the worldwide market for cosmetics). [1]

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Notes:
  1. Sales at September 30, 2014, loreal.com, November 2014 [] []
  2. L’Oreal’s Annual Report 2013, L’Oreal Finance [] []
  3. Revlon and Garnier exit the Chinese $22.8 billion beauty market, Telegraph, January 2014 []
  4. L’Oréal’s acquisition of Magic Holdings marks firm’s biggest investment in Chinese beauty market, L’Oréal News Room, April 2014 []
  5. L’Oréal signs agreement to acquire NYX Cosmetics, L’Oréal Finance, June 2014 []
  6. 2013 Results, L’Oréal Finance []
  7. Draft agreement between L’Oréal and Shiseido for the acquisition of Decléor and Carita, L’Oréal Finance, October 2014 []
  8. L’Oréal Finalizes the Acquisition of DECLÉOR and CARITA, Day Spa Magazine []
  9. L’Oréal signs agreement to acquire Niely Cosmeticos Group in Brazil, L’Oréal Finance, September 2014 []
  10. L’Oreal’s Annual Report 2013, L’Oreal Finance []