On August 18th, Estée Lauder released its financial results for the fourth quarter and full fiscal year of 2023. As a beauty industry giant that had already experienced consecutive declines in net sales and profit for four quarters, the company reported a slight 1% increase in net sales for the FY23 Q4, reaching $3.61 billion. However, it was a case of increased net sales without increased net earnings, as the company reported a net loss of $33 million in the FY23 Q4, compared to net earnings of $52 million in the fourth quarter of fiscal year 2022.
Facing the negative impact of supply chain issues and the significant decline in travel retail, Estée Lauder has been experiencing lackluster performance in recent years and has gradually fallen behind its largest competitor, L’Oréal.
Falling behind L’Oréal even in US market
On August 18th, Estée Lauder released its financial results for the fourth quarter and full fiscal year of 2023. In the fourth quarter, the company reported a modest 1% increase in net sales to $3.61 billion. However, it experienced a net loss of $33 million in the fourth quarter, compared to net earnings of $52 million in the same period last year. For the full fiscal year 2023, the company’s net sales amounted to $15.91 billion, a 10% decrease compared to the previous year, with a net earnings of $1.01 billion, significantly lower than the previous year’s $2.39 billion.
In terms of specific business segments, Estée Lauder saw the largest decline in net skincare sales, reaching 17%, while makeup sales slightly declined by 3%. Fragrance remained nearly flat, while haircare experienced a slight growth of 3%. Geographically, all regions experienced a decrease in net sales, with the Americas and Asia Pacific regions declining by 2% and 4% respectively, and Europe, the Middle East, and North America experiencing a significant decline of 19%.
Regarding the performance decline, Estée Lauder CEO Fabrizio Freda once again attributed it to the slower-than-expected recovery of Asian travel retail and the Chinese mainland market. Fabrizio Freda said: “Most notably, the pace of recovery in Asia travel retail and mainland China was slower than anticipated. In Hainan, prolonged store closures initially presented a headwind and, thereafter, low levels of conversion occurred when travel resumed. This was compounded by inventory tightening by certain retailers.” Estée Lauder global travel retail business decreased 34% organically in fiscal year 2023.
In the continued pressure on Asian travel retail, Estée Lauder expects a decline of 12% to 10% in net sales and organic net sales for the first quarter of fiscal year 2024 compared to the same period last year. In the short term, the recovery of Asian travel retail appears to be challenging.
Amidst the lackluster performance, internal tensions seem to have emerged within the top ranks of Estée Lauder. Following the significant drop in financial performance in the third quarter of fiscal year 2023, reports emerged that activist investor billionaire Nelson Peltz was exploring restructuring options for Estée Lauder, including the potential removal of the long-standing CEO and possibly pushing for a turnaround and eventual sale of the cosmetics giant.
Although the company’s board and the Lauder family expressed their support for President and CEO Fabrizio Freda and the company’s leadership team in an internal memo sent to employees, investors remained unconvinced. Subsequently, Estée Lauder’s stock price continued to decline, reaching a three-year low of $156.69 on August 18th, returning to levels last seen in April 2020. While the company’s top management denied the restructuring rumors and expressed support for the CEO, it reflects a certain level of internal anxiety amidst the continued decline in performance.
The underperformance is primarily evident in the decline of the U.S. market. One of Estée Lauder’s most pressing issues currently is the erosion of its market share in the domestic U.S. market. With U.S. sales struggling to recover to pre-pandemic levels, Estée Lauder faces fierce competition from independent brands. These smaller cosmetics companies are known for their cost-effectiveness and strong social media influence, attracting more consumers and gradually eroding Estée Lauder’s market share.
In the past, Estée Lauder was a dominant force in multiple U.S. department stores, contributing significantly to its sales. However, the shift towards online shopping prompted by the pandemic has disrupted this sales channel, leading to the closure of its standalone stores and layoffs. The annual report for fiscal year 2023 shows that Estée Lauder’s net sales in the U.S. decreased from $4.009 billion in 2022 to $3.848 billion in fiscal year 2023.
According to Euromonitor data, as of 2022, Estée Lauder’s market share in the U.S. beauty and personal care market has declined by nearly one-fifth compared to five years ago, dropping to 6.2%. Meanwhile, L’Oréal’s market share has grown by one-tenth, reaching 13.7%, consolidating its position as a leading beauty and personal care company in the U.S. Estée Lauder’s position in the domestic U.S. market has been surpassed by L’Oréal.
Deeply trapped in the travel retail Dilemma
Travel retail has been a key focus area for Estée Lauder, as repeatedly mentioned in their financial reports.
As early as 1992, Estée Lauder established an independent travel retail division, which now boasts a 30-year history. Since 2016, the group has consistently highlighted the significant boost to sales performance from travel retail for 15 consecutive quarters. Travel retail is one of the fastest-growing channels for Estée Lauder, reaching over 3 billion consumers annually.
In global travel retail, China’s Hainan province is one of the most important components. Reports indicate that China’s duty-free market has increased its global share from 14% in 2019 to 29% in 2021, particularly in the beauty sector.
In 2009, travel retail accounted for only 6% of Estée Lauder’s annual sales. However, by the 2021 fiscal year, this figure had risen to a new high of 28%. Based on their 2022 fiscal year data ending June 30, Estée Lauder stated that their largest customer came from Chinese travel retail.
From fiscal year 2020 to 2022, Estée Lauder’s travel retail sales in China were $1.031 billion, $2.278 billion, and $2.232 billion, respectively, accounting for 7%, 14%, and 13% of the company’s consolidated net sales. Additionally, in fiscal years 2021 and 2022, their receivables from Chinese travel retail were $179 million and $399 million, representing 10% and 24% of Estée Lauder’s total receivables, respectively. The significant increase in the proportion of receivables reflects Estée Lauder’s growing dependence on Chinese travel retail.
In recent years, China’s travel retail sector has faced difficulties. According to official data from Hainan Province, the total sales of duty-free shops on Hainan Island in 2022 amounted to 48.71 billion yuan, a 19% decrease compared to the same period the previous year. Specifically, according to data from Haikou Customs, duty-free sales amounted to 34.9 billion yuan, a decline of 29.5% compared to the same period the previous year. The number of actual duty-free shoppers was 4.224 million, a decrease of 37.1%, and the number of duty-free purchases was 49.44 million, a decrease of 29.8%. Both the duty-free consumption amount and the number of consumers have experienced significant declines, which have dealt a major blow to Estée Lauder’s travel retail business, resulting in consecutive quarters of declining revenue and net profit.
In the latest financial report, Estée Lauder once again emphasized that the most noteworthy aspect is the slower-than-expected recovery of the Asian travel retail industry and mainland China. The prolonged closure of stores in Hainan initially created obstacles, and subsequently, when travel resumed, the conversion rate was low. The inventory tightening of certain retailers has exacerbated this situation.
What was once a source of pride for Estée Lauder, travel retail, has now become the Achilles’ heel of its business growth. In the 2023 fiscal year, the company’s overall organic sales in the global travel business declined by 34%.
Due to an increased reliance on Chinese travel retail, Estée Lauder Group had to further depend on Hainan’s travel retail market after the pandemic due to performance pressures. However, this exacerbated the imbalance in its revenue structure, leading to a vicious cycle.
According to previous reports, all duty-free goods sold by Estée Lauder in China are supplied by the group’s headquarters and are not related to the Chinese subsidiary. As a result, the corresponding sales performance directly belongs to the group. Some industry insiders have warned that relying too heavily on duty-free channel sales strategies may lead to a division between the duty-free and regular-price markets. The contradictions that Estée Lauder currently faces in the Chinese market are not only reflected in the conflicts between the subsidiary and the duty-free zone business management, but more importantly, the chaotic pricing system may have a severe negative impact on Estée Lauder’s important market in China.
In terms of pricing, duty-free products have relatively lower prices, leading to a noticeable price difference compared to the regular-price market. This price disparity may cause hesitation among consumers when purchasing regular-price market products, thereby disrupting the brand’s pricing positioning and market landscape. In terms of product lines, to cater to the demands of the duty-free market, Estée Lauder has introduced specific series or product lines that are sold in duty-free channels but do not have a corresponding presence in the regular-price market. This differentiated market positioning may confuse consumers and further contribute to the confusion in the pricing system.
Experts have pointed out that as the proportion of duty-free market in China’s consumer ecosystem grows rapidly, it is gradually approaching the scale of the mainland regular-price market. This trend has raised concerns among brand owners who fear that excessive reliance on discounted prices by consumers may lead to a chaotic pricing system, thereby causing long-term damage to the most important brand assets of high-end brands.
In contrast, L’Oréal has been more proactive in responding to the situation. Earlier, L’Oréal CEO Nicolas Hieronimus stated that protecting brand assets is a major reason for the continuous increase in L’Oréal’s market share in China. They have consistently raised prices in Hainan’s duty-free shops to narrow the price gap between other domestic stores in China and the duty-free stores in Hainan. This is done to avoid excessive discounts or highly unreasonable prices in the travel retail business. Based on this concept, L’Oréal has established a dedicated department called the Consumer & Commercial Excellence China Team (CCCT) to ensure that pricing and promotional levels in travel retail do not undermine its daily profitability in China.
Regarding the issue of pricing system confusion, Estée Lauder’s adjustments seem to be a case of trying to remedy the situation rather late. Earlier this year, the Estée Lauder Group announced the registration and establishment of Estée Lauder Travel Retail Service (Hainan) Co., Ltd. in the Haikou Comprehensive Bonded Zone. They also established their travel retail China headquarters in Hainan Free Trade Port. These changes were made to address the issues of price control in duty-free sales and the coordination between duty-free and taxable markets. Against the backdrop of the gradual decline of the pandemic, these changes may still be timely.
Overall, the Chinese travel retail market has faced challenges in recent years, with declining duty-free sales and consumer numbers, putting pressure on Estée Lauder’s performance. As its dependence on Chinese travel retail increases due to declining performance, it has led to an imbalance in its revenue structure. This revenue structure imbalance, in turn, contributes to further performance decline, creating a vicious cycle.
The incomplete supply chain leads to slowly recovery
The issue of price confusion may be improved in the short term through measures such as establishing a travel retail China headquarters to address product and price differentiation problems. However, the problems related to Estée Lauder’s supply chain and product portfolio may require more time to resolve.
In terms of the supply chain, the layout of distribution and production centers in the past five fiscal years clearly shows Estée Lauder’s relatively passive approach. In the 2018 fiscal year, Estée Lauder had a total of seven production centers globally, none of which were in the Asia-Pacific region. There were 15 distribution centers, including six in the Americas, seven in Europe, the Middle East, and Africa, and two in the Asia-Pacific region. By the 2023 fiscal year, the number of global production centers even decreased, and there were still no new production centers in the Asia-Pacific region. Despite Estée Lauder’s heavy reliance on the Asia-Pacific region, especially the Chinese market, there has been only one additional distribution center in the past five years.
On the other hand, Estée Lauder’s long-standing competitor, L’Oréal, has implemented a more timely and mature supply chain strategy. Initially, L’Oréal’s supply chain focused on traditional processes with an emphasis on manufacturing and distribution efficiency. As L’Oréal expanded its business beyond the domestic French market, the company faced the challenge of operating a global supply chain. Expanding into new regions required efficient cross-border logistics, localized manufacturing, and streamlined distribution networks. L’Oréal began establishing a broader supplier base to achieve procurement diversification and ensure stable supply of raw materials.
For example, even before officially entering the Chinese market, L’Oréal started constructing factories in China. The Shangmei factory in Suzhou, which took four years to build, has become L’Oréal’s largest production facility in the Asia-Pacific region. In 2013, L’Oréal’s other factory in China, the Tianmei factory in Yichang, became operational. It serves as the largest cosmetics production base in the Asia-Pacific region, primarily producing lipsticks and other cosmetic products. L’Oréal’s comprehensive and timely supply chain layout in China has allowed the company to maintain a strong performance even during times of pandemic. In contrast, Estée Lauder does not have any production centers in China, which resulted in supply chain issues during the pandemic.
While Estée Lauder plans to address the imbalance by establishing new factories in Asia, the construction of these factories is slow and unable to adapt to the reopening of the Chinese market earlier this year. Therefore, due to supply chain delays, Estée Lauder has had to ship products to Chinese duty-free shops and other retailers at least six months in advance, and the increase in ocean freight prices has also resulted in higher costs for Estée Lauder. However, Estée Lauder’s recovery has been relatively slow, leading to overstocked inventory and insufficient demand in travel retail stores.
The CEO of Estée Lauder acknowledged in June that the length of the supply chain is one of the reasons for the inventory issues in travel retail stores, and they are working to address this problem.
The process of resolving this issue will take time to be tested.
Apart from supply chain issues, the layout of the product portfolio is also one of the reasons why Estée Lauder is gradually falling behind L’Oréal.
It is well known that for cosmetic industry giants, the most effective way to expand market share and enter international markets is through acquisitions. Developing a brand from scratch not only takes time but also requires more costs, while acquiring established brands can effectively expand the product portfolio and utilize the acquired brand’s sales network to enter local markets.
Both L’Oréal and Estée Lauder, as long-standing competitors, have followed this strategy.
As L’Oréal continued to grow, it gradually acquired various brands, and to date, L’Oréal owns more than 40 brands. These brands cover various categories, ranging from skincare, haircare, to perfumes, and include brands focused on dermatology. They also span from high-end to mass-market segments.
Although Estée Lauder has also acquired over 20 brands, the problem lies in the lack of focus. The high-end products are heavily reliant on travel retail, and the overall global travel retail business showed a 34% decline in organic sales in the 2023 fiscal year. While L’Oréal’s high-end products are also affected by travel retail pressures, it is far less dependent on travel retail compared to Estée Lauder. In addition, the mid-range and low-end products face competition and market squeeze from domestic Chinese brands in China, and even in the domestic US market, they are being eroded by emerging brands.
In the high-end market in China, Euromonitor data also shows that L’Oréal has overtaken Estée Lauder in terms of market share. L’Oréal’s market share is 18.4%, while Estée Lauder is at 14.4%.
Overall, Estée Lauder is struggling to compete with L’Oréal in the high-end segment, and its market share in the mid-range and low-end segments is being eaten away by domestic brands.
In search of new growth opportunities, Estée Lauder made a significant acquisition of Tom Ford for $2.25 billion, bringing its beauty business back in-house. The fragrance business of Tom Ford is an area of growth that Estée Lauder is focusing on.
In the 2023 fiscal year, Tom Ford’s performance lived up to expectations. Estée Lauder reported that TOM FORD’s net sales grew in almost every market due to the continued strength of key products such as Noir Extreme and Ombre Leather, as well as successful innovations like TOM FORD Noir Extreme Parfum.
While Tom Ford may be seen as a savior for Estée Lauder, its overall growth has not brought a turnaround for the company. In the 2023 fiscal year, Estée Lauder’s fragrance business revenue was $2.512 billion, almost flat compared to $2.508 billion in the previous fiscal year.
Looking at specific business segments, Estée Lauder’s skincare net sales saw the largest decline of 17% in the 2023 fiscal year, with both the high-end brand La Mer and the core Estée Lauder brand experiencing declines. The cosmetics segment saw a slight decline of 3%, with both the high-end product line Tom Ford and La Mer experiencing declines. Fragrance remained almost flat, while haircare saw a slight growth of 3%. In comparison, L’Oréal achieved growth of at least 7.6% across all four divisions.
Although Estée Lauder has been raising prices on its products in recent years, it has not brought about actual improvement in its sales figures, indicating a gradual decrease in its product influence among consumers.
In the current uncertain economic situation, Estée Lauder’s mistakes in product and supply chain have reduced its margin for error in responding to market changes. It is facing internal management instability and external challenges from L’Oréal, which is eroding its market share in the US domestic market and experiencing a significant decline in its Chinese duty-free business. In this challenging situation, Estée Lauder appears to be struggling. However, as a long-established multinational company, it is believed that Estée Lauder will be able to turn the situation around by implementing strategic changes, improving its supply chain efficiency, and focusing on innovative product development to regain its competitive edge in the beauty industry.
