Business context and reporting period
The Estée Lauder Companies Inc. filed this Form 10-K for the fiscal year ended June 30, 2017. The filing also provides unaudited fourth-quarter results; the request metadata’s “2016 Q4” does not match the reporting period in the filing. The company sells prestige skin care, makeup, fragrance and hair care products across more than 150 countries and territories.
Financial results and liquidity
| Metric | FY2017 | FY2016 |
|---|---|---|
| Net sales | $11.824 billion | $11.262 billion |
| Gross profit / margin | $9.387 billion / 79.4% | $9.081 billion / 80.6% |
| Operating income / margin | $1.692 billion / 14.3% | $1.610 billion / 14.3% |
| Net earnings attributable to Estée Lauder | $1.249 billion | $1.115 billion |
| Diluted EPS | $3.35 | $2.96 |
| Operating cash flow | $1.800 billion | $1.789 billion |
| Capital expenditures | $504 million | $525 million |
| Total debt at year-end | $3.572 billion | $2.242 billion |
Reported sales rose 5%; growth was 7% in constant currency. Operating cash flow less capital expenditures was approximately $1.296 billion. Cash and cash equivalents were $1.136 billion; short- and long-term investments totaled $1.631 billion. The company reported $2.376 billion of cash and investments offshore under its permanent reinvestment strategy. Its undrawn revolving credit facility was $1.5 billion.
Fourth-quarter FY2017 sales were $2.894 billion, operating income $230 million, attributable net earnings $229 million and diluted EPS $0.61, compared with $2.646 billion, $143 million, $94 million and $0.25, respectively, in fourth-quarter FY2016.
Material changes versus comparable periods
- FY2017 reported sales increased $562 million. Makeup sales rose 7%, fragrance 10% and skin care 2%; hair care declined 3%. Growth reflected acquisitions and strength in brands including La Mer, Too Faced, BECCA, Tom Ford and Jo Malone London. Foreign currency translation reduced reported sales by approximately $187 million.
- Gross margin fell 120 basis points, principally reflecting business mix, obsolescence, currency and acquired-brand costs, including inventory step-up charges. Lower operating expense as a share of sales offset this decline, leaving reported operating margin flat at 14.3%.
- Attributable net earnings increased 12% and diluted EPS increased 13%. FY2017 included a $75 million tax benefit from reversal of a China deferred tax valuation allowance; adjusted diluted EPS, excluding the filing’s specified items, increased 8% to $3.47.
- Debt rose by $1.330 billion, primarily following the February 2017 issuance of $1.5 billion in senior notes. Total debt as a share of total capitalization increased to 45% from 39%.
- Investment cash outflow increased to $2.214 billion, largely due to $1.681 billion paid for acquired businesses, including Too Faced and BECCA. Financing activities provided $630 million, compared with $605 million used in FY2016.
Outlook, commentary, risks and unusual items
- Management cited continued growth opportunities in online and mobile commerce, specialty multi-brand retail, travel retail, emerging markets and product innovation. The filing says FY2018 and first-quarter guidance ranges were provided with year-end results, but the ranges are not stated in the supplied filing text.
- Leading Beauty Forward is expected to generate total pre-tax charges of $600 million to $700 million and annual pre-tax net benefits of $200 million to $300 million after full implementation. The company expects a net reduction of approximately 900 to 1,200 positions; initiatives are expected to be completed through FY2021.
- FY2017 included $212 million of restructuring and other charges and $31 million of goodwill and intangible-asset impairments. A $57 million pre-tax gain from remeasurement of acquisition contingent consideration partly offset those charges. Impairments related principally to RODIN olio lusso and Editions de Parfums Frédéric Malle.
- Key risks include competition, changing consumer shopping behavior and declining U.S. department-store traffic, foreign exchange and tourism exposure, retailer concentration and credit risk, acquisition integration, supply-chain disruption, cybersecurity and global economic or geopolitical conditions. The Lauder family held approximately 87% of voting power.
- The company stated that current litigation was not expected to have a material adverse effect, while noting that outcomes could change. It reported that a previously disclosed material weakness in IT general controls was remediated by June 30, 2017; management and the auditor concluded internal control over financial reporting was effective at year-end.
Important facts for investors to verify
- Reconcile reported and constant-currency growth, and assess how acquisitions contributed to sales, margins and cash flows.
- Track gross-margin pressure, the performance and carrying values of acquired brands, and the assumptions behind contingent-consideration valuations.
- Monitor restructuring charges, implementation progress and whether expected annual savings materialize.
- Review debt maturities, refinancing needs, interest costs and the availability of offshore cash for domestic obligations.
- Assess exposure to department-store traffic, travel retail, foreign currencies, major customers and evolving tax or regulatory requirements.
- Confirm the actual FY2018 guidance ranges and subsequent results against management’s outlook; the ranges are not clear in the supplied filing text.