Estee Sees Sales Increase 7% in Quarter

Estee Lauder has not been swayed by slowing global economic growth or competitive pressures, as evidenced by its continued top-line growth and margin expansion. Fourth quarter sales popped 7% (excluding foreign currency movements)–even more impressive as it came on top of 12% growth in the year-ago period. Investors were encouraged the firm is decentralizing innovation efforts to ensure its products resonate with consumers around the world, which should support mid- to high-single-digit sales growth over the next 10 years.

Management referenced that although it realized mid-single-digit growth in the U.S., growth has slowed in the region. Analysts have been skeptical whether Estee Lauder’s solid performance in North America would prove sustainable (particularly given its exposure to the mature department store channel), so these comments were not surprising. We also question whether mass consumers, who may have traded up to the firm’s core line of prestige products, will continue to be luxury patrons in light of the numerous alternatives that exist in beauty care.

Adjusting for charges related to the firm’s effort to drive efficiency improvements, gross margins slipped 20 basis points to 80.3% and operating margins shot up 200 basis points to 6.3%. The fourth quarter is historically the firm’s weakest during the year, and we expect operating margins will expand over the next few quarters, particularly as the firm looks to trim costs by centralizing core operating functions and reducing less profitable stock-keeping units. Results over the past 12 months came in as we expected. The firm’s initial fiscal 2014 guidance calls for organic sales growth of 6%-8% and earnings per share of $2.74-$2.87.

However, Estee Lauder has a track record of raising its guidance throughout the year, and as such, the outlook is prudent. We intend to review the assumptions underlying our discounted cash flow model, but don’t anticipate making any meaningful changes to our outlook or the $59 fair value estimate. At 24 times the midpoint of management’s fiscal 2014 earnings forecast, the shares seem a bit rich.



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