On November 1st, Estée Lauder released its financial report for the first quarter of its fiscal year 24. The owner of Tom Ford and Le Labo faced a setback at the beginning of the new fiscal year, with net sales of $3.52 billion for the three months ending on September 30th, a 10% decrease compared to the same period last year. Organic sales also declined by 11%. Net earnings plummeted from $489 million in the first quarter of fiscal year 23 to $31 million, marking the sixth consecutive quarter of declining net earnings for Estée Lauder. The news caused its stock price to fall by approximately 19%, closing at $104.51. Since the beginning of this year, Estée Lauder’s stock price has declined by around 59%. With lagging supply chain issues and the negative impact of the sharp decline in travel retail, Estée Lauder has been experiencing lackluster performance in recent years and has gradually fallen behind other international beauty conglomerates.
The decline in net earnings is over 90%
For the first quarter of fiscal year 2024, ending on September 30, 2023, Estée Lauder reported net sales of $3.52 billion, a 10% decrease compared to the same period last year when it was $3.93 billion. Organic net sales also declined by 11%. The net earnings for the first quarter was $31 million, compared to $489 million in the previous year. Diluted earnings per common share were $0.09, while in the first quarter of fiscal year 23, it was $1.35 per share.
Estée Lauder attributed the decline in first-quarter performance primarily to anticipated pressure on the company’s Asian travel retail business and a slower-than-expected recovery in the overall beauty market in mainland China. Although many markets in the Asia Pacific region, including the United States, Hong Kong SAR, and Japan, as well as nearly all markets in Europe, the Middle East, and Africa (EMEA), saw growth in organic net sales, it was not enough to offset the significant impact of the travel retail downturn on Estée Lauder.
Looking at specific segments, net sales for Skin Care reached $1.638 billion, a 21% decrease compared to the previous year. Estée Lauder indicated that this decline reflected a lower-than-expected recovery in the Asian travel retail business and renowned beauty brand in mainland China, as well as resistance due to policy changes. Notably, MAC sales achieved double-digit growth in all regions worldwide.
The sales revenue of the Makeup segment was $1.063 billion, a slight increase of 1% compared to the previous year. This category’s business achieved high single-digit growth in the Americas and the Asia Pacific region. MAC, Too Faced, TOM FORD, and Clinique all experienced growth in net sales, contributing to Estée Lauder’s mid-single-digit growth in the Americas region.
The Fragrance and Hair Care categories generated net sales of $637 million and $148 million, respectively. Le Labo achieved strong double-digit growth in net sales, with performance growth in each region. However, the hair care category experienced a 7% decline in net sales due to weakness in the North American market.
In terms of regions, net sales in the Americas increased by 6%, driven by strong growth in North America and Latin America. Sales in Europe, the Middle East, and Africa (EMEA) were $1.252 billion, a 27% decrease compared to the previous year. Estée Lauder attributed this decline to offset the growth in almost all markets. Net sales in the Asia Pacific region declined by 3%, reaching $1.058 billion. The decline in skincare net sales in mainland China offset the growth in fragrance, while net sales of makeup products remained stable. However, in Hong Kong SAR, net sales for almost all product categories more than doubled, benefiting from the reopening of borders and the corresponding resumption of travel as well as the return of brick-and-mortar traffic compared to the prior year.
The acquisition of Tom Ford in April this year for a substantial amount of $2.25 billion became one of the few bright spots for Estée Lauder.
In the makeup category, TOM FORD achieved strong double-digit growth in net sales, driven by the lip sub-category (including the launch of Ultra-Shine Lip Gloss in fiscal year 2024) and the eye sub-category. Fragrance had the highest increase in net sales among all business segments, with a growth rate of 5%, thanks to the growth of Le Labo and TOM FORD. However, despite the significant growth of Tom Ford, it was unable to reverse the downward trend of a 21% decline in the skincare category.
Is the net sales decline solely attributed to travel retail?
On several consecutive quarterly financial reports, Estée Lauder has repeatedly mentioned one word as the reason for the performance decline: travel retail. Travel retail has always been one of the focus areas for Estée Lauder.
Estée Lauder has maintained a positive attitude towards travel retail, distinguishing itself among many international beauty giants. As early as 1992, the company established an independent travel retail division, which now has a history of 30 years. Since 2016, the group has emphasized the significant boost to sales performance from travel retail for 15 consecutive quarters. Travel retail channels are one of the fastest-growing channels for Estée Lauder.
Within the global travel retail market, China’s Hainan province is one of the most important components. According to reports, the share of China’s duty-free market in the global market has risen from 14% in 2019 to 29% in 2021, particularly in the beauty sector.
In recent years, the proportion of Estée Lauder’s sales in the travel retail sector has significantly increased. In 2009, travel retail accounted for only 6% of Estée Lauder’s annual sales, but by the fiscal year 2021, this number had soared to a new high of 28%. According to data from the fiscal year 2022 ending on June 30, Estée Lauder states that travel retail in China is the company’s largest source of customers.
During the fiscal years 2020 to 2022, Estée Lauder’s sales in the Chinese travel retail market 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. At the same time, in fiscal years 2021 and 2022, Estée Lauder’s accounts receivable from Chinese travel retail were $179 million and $399 million, respectively, accounting for 10% and 24% of the total accounts receivable. This demonstrates Estée Lauder’s increasing dependence on the Chinese travel retail market.
However, in recent years, Chinese travel retail has also faced challenges.
According to official data from Hainan Province, the total sales of offshore duty-free shops in Hainan in 2022 amounted to 48.71 billion yuan, a decrease of 19% compared to the same period last year. Among them, according to data from Haikou Customs, duty-free sales were 34.9 billion yuan, a decrease of 29.5% compared to the same period last year; the actual number of duty-free shoppers was 4.224 million, a decrease of 37.1% compared to the same period last year; the number of duty-free purchases was 49.44 million, a decrease of 29.8% compared to the same period last year. Both duty-free consumption and the number of shoppers have experienced significant declines, which have had a huge impact on Estée Lauder’s travel retail business, resulting in consecutive four quarters of declining revenue and net profit.
In the latest financial report, Estée Lauder once again stated that the slow recovery pace of Asian travel retail and mainland China is the most concerning. In Hainan, the prolonged closure of stores initially posed challenges, and when travel resumed, the conversion rate remained low. The inventory shortage of certain retailers further exacerbated the situation.
Due to the increased dependence on Chinese travel retail, Estée Lauder Group had to further rely on Hainan’s travel retail due to performance pressure after the pandemic. However, this has exacerbated the imbalance in its revenue structure and led to a vicious cycle.
According to reports, Estée Lauder supplies all products sold through duty-free channels in China through the group’s headquarters, unrelated to the Chinese branch. The corresponding sales performance is directly attributed to the group. Some industry insiders have warned that over-reliance on duty-free channel sales strategies may lead to a division between the duty-free and regular-priced markets. The contradictions currently faced by Estée Lauder in the Chinese market not only manifest in the conflicts between the branch and the duty-free business management but more importantly, the chaotic pricing system may have a significant negative impact on Estée Lauder in this important market in China.
This significant negative impact continues until the first quarter of the 2024 fiscal year.
The once proud travel retail business has now become a major challenge for Estée Lauder’s growth. In the 2023 fiscal year, the company’s organic sales from the global travel business declined by 34%. By the first quarter of the 2024 fiscal year, the situation worsened further, with Estée Lauder’s global travel retail sales plummeting by 51%.
In fact, in the third quarter of this year, there has been a slight recovery in China’s travel retail. China’s largest duty-free enterprise, China Duty-Free Group (CDFG), achieved an operating income of 14.979 billion yuan in the third quarter, a year-on-year increase of 27.87%. The net profit attributable to shareholders of listed companies was 1.341 billion yuan, a year-on-year increase of 94.22%, and the net profit attributable to shareholders of listed companies after deducting non-recurring gains and losses was 1.337 billion yuan, an increase of 103.90%. This also indicates that China’s Hainan travel retail business is rebounding, and attributing Estée Lauder’s performance decline solely to the decline in travel retail may be biased.
One reason for Estée Lauder’s decline in China is that Chinese brands are becoming increasingly popular among local consumers.
According to data from CHAILEEDO Intelligence, Estée Lauder’s GMV on Tmall’s Singles’ Day this year dropped by 43% to 848 million yuan. It fell from the second place to the fourth compared to last year. GMV of its other brand La Mer also dropped by 17% this year.
In contrast, Chinese beauty brands have experienced explosive growth collectively. CONFIME’s YoY growth was 105%, FLOSSOM’s YoY growth was 2652%, Marubi’s YoY growth was 175%, TIMAGE’s YoY growth exceeded 154%, Herborist’s YoY growth exceeded 306%, BIOHYALUX’s YoY growth exceeded 114%, and COLLGENE’s YoY growth exceeded 271%. As the leading Chinese beauty brand, Proya achieved a YoY GMV growth of 43% during this year’s 11.11 Shopping Festival, surpassing one billion yuan for the first time at 1.385 billion yuan, surpassing L’Oréal to claim the top spot.
Bernstein, a US financial advisory firm, pointed out that Chinese cosmetics brands have gained market share by adapting to local consumer preferences. Javier Gonzalez Lastra, portfolio manager of the Tema Luxury Exchange Traded Fund, said, “Chinese are happy to go more than before with local brands.”
Supply-chain missteps may be the main cause
The decline in travel retail may directly cause Estée Lauder’s performance to decline. However, the underlying reason may lie in its supply chain issues.
For fast-moving consumer goods, the consumption radius is crucial. Typically, perishable food products have a smaller consumption radius because of higher quality requirements and a market closer to production bases. However, for global consumer goods companies, building an efficient supply chain is essential to distribute products to target markets quickly. A well-developed supply chain reduces transportation costs and expenses and enables the company to make product decisions that are more in line with consumer markets, respond faster to market trends, and unforeseen events such as pandemics and regional conflicts, and enhance risk resilience.
Looking at Estée Lauder’s distribution and production center layout over the past five fiscal years, the company appears to have taken a conservative approach to supply chain development. In the 2018 fiscal year, Estée Lauder had a total of seven production centers worldwide, with no production centers 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 had decreased by one, and there were still no new production centers in the Asia-Pacific region. However, Estée Lauder heavily relies on the Asia-Pacific region, particularly the Chinese market. Despite that, over the past five years, the company has only added one distribution center.
Estée Lauder’s slow supply chain transformation left it unprepared for the recent turmoil in China earlier this year. The significant decline in sales from its Asia-focused travel retail business, which accounted for nearly one-third of its recent fiscal year’s revenue, reflects this issue.
In comparison, L’Oréal, as a longstanding competitor of Estée Lauder, has been more timely and mature in its supply chain development. In the initial stages, L’Oréal’s supply chain primarily focused on manufacturing and distribution efficiency, employing traditional processes. As L’Oréal expanded its business beyond the domestic French market, global supply chain operations became a significant challenge. L’Oréal needed efficient cross-border logistics, localized manufacturing, and a streamlined distribution network to support expansion into new regions. L’Oréal began establishing a broader supplier base to achieve procurement diversification and ensure a stable supply of raw materials.
An example of this is that L’Oréal started building factories in China even before formally entering the Chinese market. The Shangmei factory in Suzhou is L’Oréal’s largest factory in the Asia-Pacific region, taking four years from groundbreaking to completion. In 2013, L’Oréal also established the Tianmei factory in Yichang, which became the largest makeup production base in the Asia-Pacific region, primarily producing lipsticks and other types of cosmetics. L’Oréal’s comprehensive and timely supply chain layout in China enabled them to maintain strong performance during the pandemic. In contrast, Estée Lauder lacks production centers in China or even in Asia, which resulted in supply chain issues during the pandemic.
Although Estée Lauder plans to establish new factories in Asia to address this imbalance, the construction process has been slow and unable to keep up with China’s market reopening earlier this year. As a result, due to supply chain delays, Estée Lauder had to ship goods to Chinese duty-free shops and other retailers at least six months in advance, and the rising sea freight costs increased their expenses. However, Estée Lauder’s recovery has been relatively slow, leading to excess inventory in travel retail stores and insufficient demand.
The CEO of Estée Lauder stated in June that the length of the supply chain is one of the reasons for the inventory issues in travel retail, and they are working to address this problem. However, resolving this issue will require time to be tested.
Estée Lauder is also making changes in its supply chain. On September 11th, the company confirmed the appointment of Quentin Roach as Senior Vice President and Chief Procurement Officer. It is reported that Roach will report to Roberto Canevari, Executive Vice President of Global Supply Chain, and he has joined the company’s global supply chain leadership team. He will be responsible for managing Estée Lauder’s key supplier relationships, with a focus on optimizing the synchronization of the entire company’s supplier network to drive innovation and growth. Additionally, he will oversee third-party manufacturing procurement and work closely with the company’s global manufacturing team to integrate external and internal networks into a cohesive manufacturing ecosystem.
In the first-quarter earnings outlook, Estée Lauder stated that it will fully support the growth of its China business, including upgraded distribution networks, a China Innovation and Research Center, and new manufacturing facilities. This also demonstrates Estée Lauder’s focus on the local Chinese supply chain.
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. Faced with internal management instability, external pressure from L’Oréal’s encroachment on the US domestic market, and a significant decline in its China duty-free business, Estée Lauder appears somewhat vulnerable. However, as a well-established multinational company, it is believed that Estée Lauder can turn the tide, but time is of the essence. Facing L’Oréal’s rapid advancement, Estée Lauder must change quickly because it has limited room for trial and error.
