At AIM we like to invest in companies that are supported by long-term structural growth trends. There is no doubt that with the rise of the “Instagram generation” beauty is now big business… and getting bigger. At 21, Kylie Jenner (founder of Kylie Cosmetics) became the world’s youngest self-made billionaire. Her success in such a short time is testament to the explosive power of beauty and social media combined.
US-listed Estée Lauder is a company that we have followed for some time now. It is also benefiting from the powerful combination of beauty, e-commerce and social media, and their exposure to the most profitable pockets of the beauty category should drive earnings growth for years to come.
Estee Lauder’s brands:
Source: EL 2018 annual report
As you can see from the chart above, EL owns some of the most dominant beauty brands in the world. The company is 100% exposed to the prestige beauty category, which EL is forecasting will grow at 5% p.a. long term. While the prestige beauty market ($110b) is half the size of mass beauty, it is growing at double the rate due to the rising global middle class, a desire to trade up and increased usage driven by social media, as the benefits of beauty products are more appreciated. Beauty is a competitive industry and many of EL’s competitors are large and well-funded. Despite the competitive landscape, EL’s global prestige beauty market share has gone from 13% in CY09 to 14.4% in CY17. This is due to continued success in higher growth and higher margin segments including e-commerce, travel retail, emerging markets (China) and specialty retail (to a lesser extent).
EL is the #1 e-commerce player in the US and global prestige beauty industry. E-commerce is a key pillar of EL’s growth strategy (currently 18% of sales, and a quarter of profit), with the channel growing ~30% over the past 5 years, it is expected to double again in three years.
EL operates its e-commerce business in more than 50 countries with over 300 brand.com sites (providing EL with more than 200,000 data points daily), 60 brand boutiques on platforms like Tmall, and over 1,600 retailer.com doors. Brand.com sites act as 24/7 media platforms, collecting 500m visitors in the last year who spent 9.5 minutes on average engaging with the content, equal to billions of dollars in media value. EL’s margins are also higher within e-commerce, given almost half of the mix is its own captive sites eliminating the need to share margin with the middleman. Management commented at their recent investor day “E-commerce has long been one of our highest growth channels and we expect consistent double-digit growth over the next three years. In our top six markets which make up nearly half of our online sales today, e-commerce already drives close to 30% of our total business”.
Travel retail is also an important Prestige sales channel as 59% of prestige beauty shoppers purchase their first product in an airport. Travel retail is EL’s second largest and fastest growing channel, delivering a double digit net sales CAGR over the last 10 years and is expected to continue to grow strongly, driven by strong air passenger traffic and the opportunity to expand more brands into this channel. It’s also an important brand building channel as 30-40% of travellers come from cities where EL isn’t distributed through a physical store. EL targets travellers through pre-travel advertising (two-thirds of decisions are made before consumers travel) and in-store stages of travel retail shopping, and also aims to expand its use of travel retail-exclusive products. At Heathrow terminal 5, EL touches 30m travellers every year with branding and visuals.
Emerging markets are a big focus for the company. EL estimates they will drive ~50% of long-term prestige beauty category growth (with China alone driving ~25%, nearly doubling the current market size), led by an emerging middle class, women’s increased spending power, trade-up to prestige, younger consumers spending more, and a growing population of financially independent women. By 2028, China, India and Brazil are expected to have 3 of the 5 largest middle-class populations in the world. Together, they are expected to account for 60% of the growth of the global middle-class population in the next 10 years. Today, EL is present in more than 15 emerging markets, and the #1 ranked company in more than 10 emerging markets. The China opportunity is particularly large, given the average age of luxury consumers is just 28 (versus 40 in Europe and 45 in the US) and consumers under 30 spend $188 annually on prestige beauty vs. those over 30, who spend $145, and China per capita spend on prestige beauty is $23 versus $255 in the US and $276 in South Korea.
While e-commerce is a big part of the growth potential, the digital revolution is also powering new opportunities for the company. 75% of the EL advertising budget is now digital. This means that every brand in the portfolio is currently advertised, versus just a select few in the pre-digital days. This also allows EL to capture data that can be leveraged for consumer insights around innovation and marketing. As an example, Clinique ID was a product born out of data driven information on the growing trend in personalisation of skincare. Clinique ID is a moisturising treatment with 15 different combinations that addresses a variety of skin needs – 98% of women in America use moisturiser daily, this product is aimed at the 68% who don’t feel like they have found the right one. To launch Clinique ID, EL took 40 “influencers” to 5 countries to discover their ‘Unique ID’. The corresponding product activation generated 1.5 billion impressions, with an engagement rate of 18% (5x industry average) and recruited 40% new customers to the product. In another example in China, EL launched a new MAC lipstick collection via a collaboration with Tencent and China’s number 1 video game Honor of Kings (of which 50% of players are female), which featured four top influencers. The collaboration consisted of 5 special lip products and drove total lip sales up 84% from the previous year in China. This kind of data driven innovation will continue to drive solid earnings growth in our view.
Source: EL investor day presentation
Based on FY20 consensus earnings, the stock is trading on 28x – at around its 1-year average (10 yr average 23x) and a 7% premium to peers, which is warranted given EL’s superior organic sales growth profile. It is expensive, however, the company has guided to double digit earnings growth over the next three years. This guidance may prove conservative, given the continued mix shift to fast growing higher margin channels and the power of data driven innovation. We think EL has a fantastic long-term profile, and a good stock to have on the “shopping list” for any market pull back.
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