Avon applies foundation for better-looking results

The beauty products company is cutting headcount and costs, and increasing online engagement.

By Trefis Jan 17, 2013 3:26PM
Image, Lipstick copyright Stockbyte, PictureQuestLast year was an important one for beauty products manufacturer and direct marketer  Avon Products (AVP). 

The company's CEO for more than a decade, Andrea Jung, stepped down to make way for Sherliyn McCoy, in April, as the company started an aggressive search for ways to turnaround the decline in sales and profits. The company has seen its operating margins decline from 10% in 2010 to 4%, for the first nine months of 2012.


Avon is currently undertaking a restructuring exercise to improve profitability and stay agile. The move will see it reduce headcount by 1,500 and exit the under-performing markets of South Korea and Vietnam. 

The plan is expected to save the company $400 million by the end of 2015. It also plans to focus its energies on high priority markets. We expect the company's restructuring exercise to define the company's performance in 2013. Here we take a look at the factors that will define Avon's performance in 2013.

Avon Stock Break-upPlans to arrest decline in sales

Avon has seen its revenue growth slow down since the economic crisis in 2008. The decline seems to have accelerated in 2012, with the sales decreasing by ~6.5% during the first nine months of 2012. Recognizing the emergence of competition and reduced disposable income in view of the tough economic situation prevalent abroad, the company now aims for mid-single-digit revenue growth and a low-double-digit operating margin over the next three years. Almost 85% of Avon's revenues come from international operations, and the company's performance outside the United States will drive its expected sales growth.


The company estimates the global beauty industry to grow at 6% annually with most of the growth coming from the developing markets. Combined with an an expected growth rate of 4% to 5%, for the the global direct selling industry, the revenue target seems achievable. To achieve the margin target, Avon is looking to aggressively manage its cost base. The company would be looking to do so through an increase in online engagement of its 6 million strong representative base and increased reliance on online mediums to save costs.


Benefits from the costs reduction strategy

The initial cost saving measures include a targeted global headcount reduction by approximately 1,500 positions and exiting the under-performing Vietnam and South Korea markets. These actions will be accompanied with increased focus on high priority market of North America. The actions are expected to cost in the range of $80-90 million, of which approximately $50-60 million will be realized in Q4 2012. These charges are expected to comprise primarily of $55 to $65 million in employee-related costs and $20 to $25 million in accelerated depreciation, in connection with these initiatives.


With a majority of the costs accounted for in Q4 2012 and the benefits expected to start reflecting in Q1 2013, margins should improve in 2013. The company also declared that the remaining ~$30 million will be distributed over further quarters, and hence, the positive aspects of the initiative are expected to outweigh the distributed remaining costs. Several such measures are expected to be announced over the next three years as the current plans account for just about 20% of the target. However, the effect of the added costs on the later quarters could be minimal if the initial initiatives have the desired effect and the operating margins improve to the historical level of 7-10%.


Reinvesting savings from dividend cut

In the Q3 earnings call, the company also announced, an almost 75% cut in dividend from $0.23 per share to $0.06 per share. The savings arising from the initiative will be redirected into online initiatives aimed at improving the supply chain process and driving representative and customer engagement. The benefits from these cuts should show results in 2013. The company also shifting its focus to engaging representatives by means other than incentives.


Avon operates across various markets through a mix of single-level, hybrid and early multilevel marketing. This diversity and inconsistency, adds complexity, increases cost and reduces effectiveness. This has prompted the company to rethink its methods, and it now plans to have a consistent approach. We expect majority of the savings to be reinvested in the expected restructuring of marketing.


The company's shift in focus towards manufacturing and marketing prestige beauty products is often blamed for its current dilemma. During the Q3 earnings call, CEO Sherliyn McCoy, announced Avon's plan to drive customer engagement by tuning products, quality and packaging in accordance to local insights and deliver relevant products, at the right price. We expect the move to undo some, if not all the damage done by the prior strategic faux pas.


Avon's direct selling business model differentiates it from its competitors, L'Oreal (LRLCY), Proctor & Gamble (PG), Estee Lauder (EL) and Revlon (REV).


Trefis has a $17 price estimate for Avon stock, which is 10% above the current market price.


1Comment
Jan 17, 2013 4:05PM
avatar
It is my understanding that many women who once used Avon, because they did not test on Animals, have stopped using their products.  When Avon entered China they started testing on Animals, and claim it is because that is required in China.  Anyway those that care about animal testing don't really care about the reason.  I look to see them loose more sales because of their lack of care in this area.
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