Avon’s Search For Growth Goes On While Direct Selling Booms Elsewhere

While other direct sellers including Nu Skin and Mary Kay report accelerating sales, Avon’s battle to stabilize its business continues, with revenue down 2% on a reported basis in the firm’s second quarter. Execs highlight positive results in Latin America and EMEA, but weakness in the firm’s North America and Asia-Pacific businesses continues to hinder topline growth.

[Avon Products Inc.] continues to struggle to generate top-line growth, in sharp contrast to the recent performance of other direct sellers in the personal-care space.

For its fiscal 2013 second quarter, Avon’s revenue slipped 2% to $2.5 billion, including a 4% decline in beauty sales. In constant dollars, the firm’s results in beauty were flat, while its overall revenue increased 2%, according to an Aug. 1 release.

Avon’s “top-line malaise,” as characterized by private equity and investment firm Wedbush Securities, is an abiding concern among analysts, though the firm has made progress in its cost-cutting initiatives.

Such measures helped the company achieve adjusted net income of $127 million for the quarter, or earnings per share of $0.29, which exceeded consensus of $0.25, according to an Aug. 1 note from Wedbush.

In discussing Avon’s beleaguered U.S. business during a same-day call, CEO Sheri McCoy acknowledged that “we can’t just look at cutting without looking at how we strengthen the topline. … We need to make sure we have a healthy field and that we are bringing new people into Avon from a representative standpoint, that they are engaged and that we have the right consumer proposition.”

Furthermore, innovation is a key priority. The firm has identified skin care, in particular, as an area where it currently is “challenged” (Also see "Avon Turnaround Includes “Journey Back To Growth” In Skin Care" - HBW Insight, 17 Jun, 2013.).

“It is important that we invest behind our growth drivers. We are taking a thoughtful and disciplined approach to investing in the brand and in new innovations,” McCoy said.

The firm plans to support key product launches in the second half of the year with additional resources, and it will be “watching enhancements” to its color cosmetics business as well, the exec noted.

Latin America, EMEA Provide Lift

There were some bright spots in Avon’s Q2 results, including positive momentum in core markets such as Brazil and Russia, where revenue increased 4% and 8% in constant dollar terms, respectively, driven in part by increases in active representatives in the countries.

In an Aug. 1 note, Morningstar points out, however, that the gains came on weak comparisons against the year-ago period, when the firm’s revenue in Brazil and Russia declined 1% and 6%, respectively.

Nevertheless, McCoy upholds Avon’s strong performance in Russia as a potential model for execution that could be extended to other markets.

“While each of our markets has some unique characteristics, we are looking closely at the progress that the Russian team has made, and we are sharing learnings across the organization,” she said.

According to EVP and CFO Kimberly Ross, the company’s business in Russia “continues to benefit from [Avon’s] continuity program that rewards representatives for consecutive orders each campaign.”

Total revenue in Avon’s Europe, Middle East and Africa segment increased 5% in constant dollars, or 2% on a reported basis, to $678.4 million.

In Latin America, revenue was up by 7% in constant dollars, or 1% reported, to $1.25 billion, driven by growth in its active representative base, the company notes. Revenue in Mexico increased 4% over the prior-year period in constant dollars, with beauty sales in the country “strong” with the exception of fragrance, “where we still have work to do,” according to Ross.

While pleased by the company’s results in Latin America, Avon’s leadership cited factors that could hinder growth in the region in coming quarters.

“There are some potential headwinds in the second half, including uncertain economies in Mexico and Brazil, increased competition, and the difficult environment in Venezuela and Argentina,” Ross noted. “So, we are focusing on initiatives to sustain the progress we have made so far. To that end, we will be investing in the second half against our new product initiatives and efforts to sustain momentum in representative growth and retention,” she said.

Problems At Home Persist

The most significant challenge for Avon remains at home with the U.S. market. “Our North American region was down on all measures, and the U.S. business continues to decline,” McCoy said.

North American revenue fell 12% for the quarter to $380.3 million, offsetting cost reductions for an adjusted operating loss of $6.2 million, according to Ross.

Avon looks to Pablo Munoz, appointed SVP and president, North America, in June, to revive the firm’s business in the region.

Previously with Tupperware Brands Corporation, where he oversaw a turnaround of the direct seller’s Latin America business as group president of its Americas region, and a former executive director or business development at Sara Lee Corporation, Munoz comes equipped with “extensive experience in direct selling in both housewares and beauty,” according to a May 20 release.

Avon has welcomed Munoz as “an innovative thinker and a big-picture strategist with strong operating skills and a proven track record of driving growth.”

Though participating execs declined to provide specifics during the Aug. 1 call, they spoke optimistically of Munoz’s ideas for upcoming initiatives and the company’s future prospects in North America.

In a market research report from Deutsche Bank Securities Inc., the firm notes that stabilizing Avon’s U.S. business “has been a long and frustrating process, and while [Munoz] has a strong resume with considerable direct-selling experience, patience here is required.”

Avon’s Asia-Pacific business also saw declines in the second quarter, with total revenue in the region falling 9% on a reported basis, or 10% in constant dollars, to $198.1 million.

The firm is focused on rebuilding its China business, which has suffered since China lifted restrictions on direct selling in recent years and Avon shifted resources away from its beauty boutiques in the country. According to Ross, constant-dollar revenue in China plummeted 28% in the second quarter, and the picture is only expected to worsen over the second half of the year.

“We do not expect it to improve anytime soon,” she said. “We are focused on fixing the business and the value proposition so we can regain the trust of [brand boutique] owners. Additionally, it is now more clear that many of our beauty boutiques are carrying high levels of inventory.”

Avon also has been operating in China in the shadow of alleged violations of the Foreign Corrupt Practices Act. The firm made a $12 million offer to settle a related investigation by the U.S. Securities and Exchange Commission and Department of Justice, which was rejected by the government in June.

Morningstar notes: “We anticipate that the ultimate charges Avon will incur will likely exceed this amount. That said, we’re encouraged that management is attempting to close the book on this dispute (in order to focus on righting Avon’s business).”

While it works to stabilize Avon China, Avon aims to improve its performance in other Asia-Pacific markets, including the Philippines.

As part of a plan to realize $400 million in annual cost savings by 2015, Avon exited South Korea and Vietnam in December 2012, a move that negatively impacted revenue in the second quarter (Also see "Avon To Exit South Korea and Vietnam, Cut 1,500 Positions Globally" - HBW Insight, 17 Dec, 2012.).

“Longer term, there is good potential for future growth in Asia, but right now our top priority is stabilizing our key markets,” said McCoy. “It is clear that we need to have all of our key markets performing well in order to have consistent, sustainable growth for Avon,” said McCoy.

Wedbush, which maintains a Neutral rating for Avon, is loath to upgrade its rating largely in light of the firm’s continuing problems in Asia-Pacific and North America.

“Given flat recruiting trends, lack of successful recent new products and reduced advertising support, we believe reinvigorating the top line over the next several quarters could remain challenging for Avon,” the firm states.

Direct-Selling Model “Not The Problem”

Deutsche Bank, which carries a Buy rating for Avon, points to the performance of firms such as Tupperware, as well as Nu Skin Enterprises Inc. and Herbalife Ltd., as evidence that direct selling remains a viable and even advantageous business model in today’s marketplace.

“The direct-selling channel is not the problem – [Avon’s] execution over the last several years is,” the firm asserts.

Deutsche Bank cites data from Euromonitor that suggests that in many markets around the globe, “beauty direct sellers are growing considerably faster than store-based retailing.”

Herbalife – which markets weight-management products as well as bath and body-care items, anti-aging skin creams and fragrances – reported adding 80,000 new independent distributors to its already well-established U.S. business in the second quarter, as its North American sales increased 10.2% to $247.6 million.

In China, the firm’s Q2 sales exploded 53.3% to $118.1 million, helping to drive overall global sales expansion of 18.1% to $1.22 billion, the Los Angeles-based company said July 30.

The company has booked those gains while fending off pyramid-scheme accusations from investor William Ackman of Pershing Square Capital Management, which has prompted efforts within the company to provide greater transparency into Herbalife’s business structure (Also see "Herbalife Works To Rewrite Pyramid-Scheme Narrative, Improve Transparency" - HBW Insight, 15 Jul, 2013.).

Provo, Utah-based Nu Skin has faced similar allegations from opportunist investors and answered in kind with measures to educate the public (Also see "Nu Skin Unfazed By Allegations Of China Violations, Projects More Growth" - HBW Insight, 27 Aug, 2012.). Meanwhile, the firm’s sales are on the rise.

In the second quarter, Nu Skin’s revenue climbed 15% to $682.9 million – a notable achievement given regional ageLOC product launches in the prior-year period, CEO Truman Hunt said Aug. 1. Net income for the quarter climbed 23% to $74 million, according to the firm’s release.

The results reflect a 23% increase in sales leaders and 32% growth in active product purchasers, the multilevel marketer said. The gains also bode well for the back-half of the year, prompting the firm to raise its 2013 sales guidance by $90 million to between $2.91 billion and $2.95 billion.

Nu Skin has high expectations for its planned third-quarter launch of the ageLOC TR90 weight-management system, which should help to grow the company’s footprint in the category, it says.

Mary Kay, Inc. is another company whose recent performance speaks to the sound health of the direct-selling industry.

The firm reported in July that its independent consultant base in the U.S. grew by roughly 90,000 reps during the first quarter of this year, helping the firm achieve its highest-ever monthly sales in March and other company records in April, May and June (Also see "Mary Kay Highlights Record Growth During Golden Anniversary" - HBW Insight, 29 Jul, 2013.).

Regarding Avon’s prospects, Deutsche Bank states: “We believe delta between beauty direct sellers and store-based retailers is actually wider than it appears, and [the] gap should expand as Avon starts to get its act together, which we are starting to see in some key markets.”