L'Oreal or
February 09, 2021 - 11:45pm EST by
eigenvalue
2021 2022
Price: 312.00 EPS 8.60 10
Shares Out. (in M): 561 P/E 36.3 31.2
Market Cap (in $M): 175,000 P/FCF 36.3 31.2
Net Debt (in $M): -3 EBIT 6 7
TEV ($): 172 TEV/EBIT 26.65 22.9

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Description

I recommend the purchase of shares of L’Oreal.  L’Oreal is the world’s largest cosmetics company which I think is well-managed, has excellent growth opportunities, plenty of room for margin expansion, and much lower valuation than its main competitor, Estee Lauder.  I think that the stock is very undervalued given the quality of the business, growth prospects, room for margin expansion, and current levels of interest rates and cap rates on high quality real estate assets. 

 

Thesis

Opportunity to buy a cash rich, well-managed compounder with excellent growth opportunities, significant margin expansion, and potentially a chance to boost EPS by 30% if Nestle sell its stake in L’Oreal back to the company.    

 

Description of the business

L’Oreal is the world’s largest cosmetics company, with brands such as L’Oreal Paris, Lancome, Kiehl’s, Maybelline, La Roche-Posay, Vichy, CeraVe, IT cosmetics, and so on.  The company operates in nearly every country in the world, but the two most important markets are China and the US. 

The company historically has been quite good at acquiring brands and growing them rapidly, while it has not been as good at developing brands internally. 

Cosmetics business has historically been characterized by high barriers to entry, although in recent years, they have declined somewhat thanks to Instagram and digital marketing. 

 

Financials & Historical performance

2020 – I estimate organic revenue growth will be negative 3-4% for the year as a whole and operating margin probably at 18.5-19%. 

2019 = 8.0% organic revenue growth. 18.6% operating margin.  Advertising & promotion = 30.8%. 

Revenues = E 29.87bn, EBIT = E 5.5475bn, EPS = E 7.74.

2018 = 7.1% organic revenue growth.  18.3% operating margin.  Advertising and promotion = 30.2%

Revenues = E 26.937bn, EBIT = E 4.922bn, EPS = E 7.08

2017 = 4.8% organic revenue growth, 18.0% operating margin, advertising and promotion = 29.4%

2016 = 4.7% organic revenue growth, 17.6% operating margin, advertising and promotion = 29.0%

2015 = 3.9% organic revenue growth, 17.4% operating margin, advertising and promotion = 29.1%.

2014 = 3.7% organic revenue growth, 17.3% operating margin, advertising and promotion = 29.1%

2013 17.0% operating margin, advertising and promotion = 29.9%. 

The company has been gaining market share and has shown lower revenue declines and smaller margin declines than its competitors in the first nine months of 2020. 

 

Forecasts

I expect the company to be able to grow revenues at 5%+ per year on an organic basis for at least the next two decades.  I expect L’Oreal to expand operating margins (EBIT) to 25-27% by the end of the decade from 18.6% in 2019. 

Revenue growth should be driven by continued expansion into travel retail, Tier 4 cities in China, Africa and Latin America, as well as premiumization. 

Margin expansion will be driven by improving mix, since luxury divisions are growing faster, travel retail, price increases, increasing proportion of direct on-line sales, and cutting corporate fat. 

2021 Revenues = E 31.4bn, operating margin = 19.5%, EPS = E 8.60

2022 Revenues = E 34.8bn, operating margin = 20.5%, EPS = E 10.0

2023 Revenues = E 36.9bn, operating margin = 21.5%, EPS = E 11.1

 

Capital Structure

I estimate that L’Oreal has net cash = E 2.8bn on 12/31/2020 or roughly E 5 per each of its 561MM shares o/s.  It also has a 9% stake in Sanofi that worth around E9bn and contributes around E 360MM in annual dividends to L’Oreal. 

 

Valuation

Market cap = E 175bn with stock at E 312

Net cash = E 2.8bn, Sanofi stake = E 9bn

EV = E 163.2bn

EV/2021 EBIT = 26.65

EV/2022 EBIT = 22.9

EV/2023 EBIT = 20.6

 

Capital Allocation

Historically, the company used cash to pay dividends, make acquisitions and sometimes buy back stock.  The acquisition track record has been decent, from what I can tell. 

 

Management

The long time CEO – Jean Paul Agon is retiring this year, and this always introduces a risk that his successor – Nicolas Hieronimus will not do as good of a job.

It is my understanding that the management is quite good, but I do not have a special insight into this.

 

Large shareholders

Mrs Francoise Bettencourt and her family – 33.27% of s/o

Nestle – 23.27% of s/o.

 

Possible risks

LVMH deciding to use Sephora to make a major push into skin care and luxury cosmetics.

Company missing on a major new hot trend.

France getting into a diplomatic spat with China, and Chinese consumers turning away from L’Oreal.

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

None

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