Estee Lauder Companies Inc. — Q1 Fiscal 2011 Form 10-Q
Reporting period: Three months ended September 30, 2010; compared with the three months ended September 30, 2009. The company manufactures and sells prestige beauty products globally across skin care, makeup, fragrance and hair care.
Financial performance
| Metric | Q1 FY2011 | Q1 FY2010 | Change |
|---|---|---|---|
| Net sales | $2,091.7 million | $1,833.4 million | +14%; +15% excluding currency |
| Gross profit / margin | $1,603.6 million / 76.7% | $1,388.3 million / 75.7% | Margin +1.0 percentage point |
| Operating income / margin | $298.0 million / 14.2% | $220.4 million / 12.0% | +35%; margin +2.2 points |
| Net earnings attributable to Estee Lauder | $191.1 million | $140.7 million | +36% |
| Diluted EPS | $0.95 | $0.71 | +34% |
| Net interest expense | $16.1 million | $19.6 million | Down $3.5 million |
| Effective tax rate | 32.7% | 31.4% | Up 1.3 percentage points |
Sales grew across the Americas (+12%), EMEA (+13%) and Asia/Pacific (+16%). Skin care (+17%), makeup (+11%) and fragrance (+15%) advanced; hair care declined 4%. EMEA travel retail and growth in China and other Asian markets were notable contributors.
Operating margin improvement reflected sales growth, cost controls and lower restructuring-related charges. Cost of sales declined to 23.3% of sales from 24.3%; operating expenses declined to 62.5% from 63.7%. Prior-year results included $42.3 million of restructuring-related charges, versus $4.6 million this quarter. Management cautioned that the same rate of year-over-year improvement was not expected to continue.
Cash flow, balance sheet and liquidity
- Operating cash flow was negative $39.1 million, versus positive $2.7 million a year earlier. The company attributed the outflow mainly to higher receivables from shipments ahead of the holiday season and lower accounts payable.
- Investing cash outflow was $316.2 million, including $258.5 million for acquisitions and related items, and $57.7 million of capital expenditures. Financing cash outflow was $83.4 million, including $143.8 million of treasury-stock purchases.
- Cash and equivalents were $693.5 million at September 30, down from $1,120.7 million at June 30, 2010. Current assets were $3,198.4 million and current liabilities $1,686.9 million.
- Total debt was $1,235.1 million ($30.6 million current and $1,204.5 million long-term), compared with $1,228.4 million at June 30. Debt was 37% of total capitalization, down from 39%. The company reported no commercial paper outstanding and an undrawn $750 million revolving credit facility expiring in April 2012; its interest coverage ratio was 12:1 against a 3:1 covenant requirement.
- The company repurchased approximately 2.4 million shares for $141.5 million under its authorization. It said cash, operating cash generation, credit availability and access to capital markets should adequately fund planned operations and commitments.
Material developments, outlook and risks
- The company acquired Smashbox Beauty Cosmetics during the quarter, funded with cash from operations. The acquisition added approximately $139 million of goodwill, $77 million of amortizable intangible assets and $61 million of non-amortizable intangible assets; valuations were provisional. Reported aggregate acquisition-related cost, net of cash acquired and including continuing Bobbi Brown earn-out obligations, was approximately $258 million.
- The ongoing cost-savings program is expected to produce $350–$450 million of cumulative restructuring and special charges before tax. Management anticipated $500–$550 million of savings through the end of the program, including approximately $500–$525 million through fiscal 2011. The program includes workforce reductions of approximately 2,000 employees; $120.8 million of program restructuring charges had been recorded through September 30, 2010.
- Management said the quarter exceeded expectations but remained cautious about global economic uncertainty. It identified potential challenges in North American department stores, a soft U.S. salon environment, competitive pressures and foreign-exchange movements. The company also noted that EMEA perfumery customer buying activity benefiting this quarter was not expected to continue at the same level for the rest of the fiscal year.
- After quarter-end, the company concluded the IRS examination of fiscal years 2006–2008 and estimated a related net-of-tax tax and interest benefit of $7–$11 million in Q2 FY2011. It also said unrecognized tax benefits could decrease by $55–$70 million within 12 months, subject to examination resolutions and statutes of limitation.
- The company terminated $250 million of interest-rate swaps and received $47.4 million in cash; the related debt fair-value adjustment will be amortized against interest expense over the remaining debt term. Foreign-currency forward contracts totaled $1,338.9 million in notional value.
- Management believed pending litigation would not materially adversely affect results or financial condition, while noting outcomes could differ from its assessment. Key disclosed risks include retailer distress or destocking, product-launch execution, consumer and channel shifts, currency fluctuations, acquisition integration, supply-chain or systems disruptions, and economic uncertainty.
Important facts for investors to verify
- Whether the strong sales and margin gains persist after adjusting for currency, product launches, the Smashbox acquisition and unusually favorable prior-year restructuring comparisons.
- Whether seasonal receivables convert to cash and working-capital outflows moderate after the holiday-shipment build.
- Progress against restructuring savings and charges, and integration and valuation of Smashbox assets.
- Exposure to department-store and travel-retail conditions, foreign exchange and the company’s substantial currency-hedging positions.
- Resolution and timing of tax examinations, and the expected $7–$11 million Q2 benefit.