Estee Lauder Cos. Inc (EL) — Q3 2019 Earnings Call Transcript

Good morning. On today's call are Fabrizio Freda, President and Chief Executive Officer and Tracey Travis, Executive Vice President and Chief Financial Officer. Since many of our remarks today contain forward-looking statements, let me refer you to our press release and our reports filed with the SEC, where you'll find factors that could cause actual results to differ materially from those forward-looking statements. To facilitate the discussion of our underlying business, the commentary on our financial results and expectations is before restructuring and other charges, the net gain on liquidation of an investment in a foreign subsidiary, goodwill and other intangible asset impairments, changes in contingent consideration, the finalization of provisional charges related to the U.S. tax line active at the end of calendar 2017 and the new accounting standard for revenue recognition, which benefited our results this quarter. All net sales and EPS gross numbers are in constant currency and exclude the impact of the new revenue recognition accounting standard. You can find reconciliations between GAAP and non-GAAP figures in our press release and on the Investors section of our website. During the Q&A session we ask that you please limit yourself to one question, so we can respond to all of you within the time scheduled for this call. And now I'll turn the call over to Fabrizio.

Thank you, Rainey and good morning everyone. We delivered another quarter of outstanding results, thanks to strategic investments in our best opportunities combined with creativity and data-driven insight that fueled our innovations. Our double-digit constant currency growth in both sales and earnings per share came from being well diversified across categories, brands, geographies, and channels, our multiple engines of growth, all while staying 100% focused on prestige beauty, one of the fastest growing consumer areas worldwide. Our net sales growth accelerated to 12%. We continued to gain global share. We invested some of the savings generated from our Leading Beauty Forward initiative into targeted advertising, which helped support our increased sales and leverage our cost structure. Our diluted earnings per share rose 17%. As you recall, when we reported last quarter, we were cautious in our outlook as it related to several macroeconomic and geopolitical factors around the globe. These included a prudent stance on the United States, given the industry slowdown in December. We also anticipated that the uncertainty surrounding Brexit would continue to dampen consumer spending in the UK. Lastly, we factored in a gradual moderation of growth in China and travel retail due to trade tensions and economic slowdown risks. While some of these risks materialized, particularly the softness in the U.S. and the U.K. markets, slower growth in China and travel retail did not happen, which contributed to our overachievement in the third quarter. The key areas driving our strong performance this year continue to be vibrant. They included the Asia Pacific region, the skincare category, The Estee Lauder, La Mer, and Tom Ford Beauty brands and several other brands and the travel retail and online channels. In addition, most emerging markets grew, and particularly we continue to attract and retain consumers in India and Russia with locally relevant products and compelling social media. In total, our strategy is working and produced again exciting results. Skincare continues to be our largest and best-performing category, reflecting global trends. With increasing demand for skincare around the world, we devoted more resources to this area, and our sales rose sharply. Our makeup business climbed solidly with strong results across many brands in our portfolio. Our fragrance sales were healthy, driven by our high-end artisanal and luxury brands. Having confirmed the strength of our business this quarter, we are raising our full-year sales and EPS guidance. We now expect sales growth of 10% to 11%, well above our long-range goal and the industry, and EPS growth of 18% to 19% for fiscal year 2019. During the quarter, three of our four largest brands grew globally, demonstrating the popularity of established loyalty-driven brands, offsetting high-quality products backed by decades of science and creativity. Our largest brands continue to enjoy strong repurchase rates for their hero products while also attracting new younger consumers with compelling innovations and digital storytelling. One of our stronger brands was our namesake Estee Lauder, which has now delivered eight consecutive quarters of double-digit growth. This quarter's increase was the strongest one yet. Estee Lauder's sales rose in every region, and its skincare, makeup, and fragrance business each grew double-digits globally. Estee Lauder had terrific initial success with a new product, Micro Essence with Sakura Ferment, which launched in Japan before rolling out globally. The idea for this innovation came from local insights in data analytics and was created as a watery lotion that provides a strong skin foundation for a translucent glow. The formula and benefits are locally relevant to the target Asian consumers. In the lotion's first month on counter, sales of the Micro Essence franchise more than doubled and lifted the entire brand. Importantly, the lotion attracted younger consumers. We estimate over 30% of the new consumers buying the product in the first six weeks were millennials. It is now rolling out in the rest of Asia and in key traveling corridors. Clinique's overall sales declined slightly; however, its skincare category increased globally, driven largely by Clinique ID, an important innovation that has successfully attracted new consumers, younger and multi-ethnic consumers and it has performed particularly well in the specialty multi-channel, making it a big win. Clinique ID strengthens the brand's dramatically different moisturizer franchise, enabling users to customize a moisturizer with one of five treatments, creating a truly personalized experience. In addition, the brand's social media activity around the world won a Webby Award. In makeup, Clinique introduced a new foundation, Even Better Refresh, which incorporates repairing and hydrating skincare benefits and in the U.S., it helped increase sales in its entire Even Better franchise, which is one of its core hero lines. For the MAC brand, our MAC brands grew globally on the strength of its international business, driven in part by terrific consumer response in travel retail, where it launched its first campaign specifically for the channel across all regions. MAC China sales soared and it was the number one prestige makeup brand on Tmall. Several new pure play platforms in Europe, including ASOS and Lookfantastic contributed to its strong e-commerce sales. MAC also continued to make progress in specialty-multi and opened in Sephora in Canada, where it quickly became the number one lipstick brand. Our four brands with annual sales over $1 billion is La Mer, which grew rapidly and gained share in many markets, including France, Italy, and across total Asia. Recent innovations and engaging social media programs recruited new and younger consumers. As an example, La Mer relaunched one of its core products called The Concentrate. During the first four weeks in China, sales of The Concentrate grew by 60%, and more than half of the consumers were new to the brand, driven by successful digital marketing. La Mer also enjoyed one of the highest repurchase rates and that trend continued with a large base of loyal consumers who are devoted to the brand and its products. Our two fastest growing channels continue to rapidly expand. Travel retail delivered outstanding results, and its growth drivers were well diversified. We had a double-digit net sales gain from each one of our top five brands. The two largest geography regions within the channels and the skincare and makeup categories, we strengthened our leading position in prestige beauty in travel retail. We developed many activities with focused products that capitalize on higher traffic during the Chinese New Year. Our Estee Lauder brand, for example, opened pop-up locations in key airports, even outside of Asia to reach traveling Chinese consumers. Our retail sales growth during the quarter was far ahead of passenger traffic growth, a trend we expect to continue, as we bring more brands into more airports and increase conversion, leveraging our increased brand investment in local markets. Our sales were also boosted through our accelerating online pretailing business which more than doubled. Another fast-growing channel, our global e-commerce business continued to thrive. And for the first time, half of our sales came from mobile devices, with the highest penetration in Asia Pacific. Tmall continued to be a large contributor to our online sales in China. We recently successfully launched Tom Ford on Tmall, now our 10th brand on that platform, and our strongest launch on Tmall so far. We see terrific runway ahead of our online business expanding, with many more brands to roll out in dozens of countries. MAC, for example, became our first brand online in Vietnam, launching on LAZADA with a store-in-store online model followed recently by Clinique. Looking at our geographies, Asia Pacific continues to be the major contributor to growth. Nearly all countries grew led by China, Hong Kong, and Japan as well as Southeast Asia, particularly in emerging markets. This performance strengthened our number one position in prestige beauty in the region. Skincare, makeup, and fragrance all grew more than 20%. Our net sales in China rose sharply, with across-the-board gains in categories and channels and virtually all brands grew by double digits. Retail sales also increased strongly. In total, our emerging markets grew double-digits. India, while still small, had excellent growth. We strengthened our number one position in prestige beauty there as well. Recent launches of our Aveda brands and a makeup collection from Tom Ford contributed to the country's growth. Clinique and Estee Lauder have signed Indian Brand Ambassadors, as they make a bigger push in the market. Clinique's new spokesperson, a Bollywood actress, will promote the brand globally. We continue advancing our strategy in North America, which includes increasing our presence in fastest growing channels. Our retail sales rose in specialty multi and online. The Estee Lauder brand's retail sales improved, helped also by a successful Gift with Purchase program at Macy's. The brand's sales rose sharply during the event, even with fewer doors than in the past years, reflecting strong desirability and social media engagement. MAC's retail trend is improving. It continues expanding in specialty multi as mentioned. Our innovations continue to resonate strongly with a greater focus on strengthening our most important brand franchises. This fiscal year, sales from our new innovations tied to our hero products comprised nearly 40% of our total innovation, up from last year. Our innovation toolbox includes data analysis, rich insights about global and local consumers, and the long history of scientific discovery and connectivity that we combine to capitalize on big, fast-growing, and new opportunities. Our strategy to create fewer bigger launches is working beautifully. The average size of our top 30 product launches is 30% higher than last year. In addition, our speed-to-market is faster. In the third quarter, we had 17% more products in skincare and makeup launched under 12 months than in the previous year quarter. Products launched last year are expected to account for 30% of our sales in fiscal year 2019, a new record. Among our latest innovations launching now is Clinique Moisture Surge eye concentrate, which expands one of the brand's large hero franchises. In makeup, MAC is extending the shade range of its new Powder Kiss lip collection that was created by using analytics to understand consumer needs, combined with creativity from the brand's makeup artist and runway trends. The result is a unique formula, a moisturizing lipstick with a matte texture that we are supporting with advertising. In new development, consumers can now buy these lipsticks and order MAC products directly from the brands' Instagram posts. MAC is our first brand to use this technology, which simplifies shopping through social media. During our Investor Day, we spoke about the importance of our social impact in charitable activities. And today I want to highlight the incredible work of our MAC brand. This is the 25th Anniversary of its VIVA GLAM campaign, which has raised nearly half a billion dollars to help people affected by HIV and AIDS in more than 100 countries. Every penny of every VIVA GLAM lipstick sold goes to the cause, which is a vital part of the brand's DNA and actively supported by its makeup artists and consumers alike. In the last nine months, we achieved outstanding results while continuing to transform our business to adapt to a changing global landscape and competitive beauty environment, and to be always well positioned to leverage the biggest future opportunities. Without losing our advantages of scale and scope, we are instilling a more entrepreneurial mindset to ensure we stay agile and act decisively. This gives us the best qualities of a well-financed structured organization with the challenger spirit of a startup. This unique positioning is just one of the many characteristics that makes our company distinctive. We are proud of our performance this quarter and fiscal year, and confident we are well positioned in the biggest and best opportunities, to keep advancing our strategy winning model. We have an amazing portfolio of diverse and desirable brands. We are the prestige beauty leader in two of the fastest growing channels: travel retail and online, and our wide geographic footprint enables us to invest where we see the greatest rewards. Our innovation has never been more robust, and our hero franchises still have high loyalty and attract new global consumers. All of this is made possible by our talented employees, led by our exceptional leadership team, many of whom you met during the Investor Day. Our results this quarter proved once again their ability to execute so effectively. The diversity among our leaders and the breadth of their ability makes them the best in the industry and is essential to our success. As we wrap up fiscal year 2019, we are mindful of ongoing geopolitical risks, yet confident in our ability to continue executing with excellence across brands, countries, and channels, which we have demonstrated throughout the year. In closing, long-term prestige beauty has strong fundamentals, backed by positive demographic trends. Even if an economy slows, we believe that our industry will be less affected than most consumer goods businesses, as we have shown in the past. Prestige beauty is an affordable luxury, and our aspirational brands have high consumer loyalty and enviable pricing power, putting us in a unique position as the best diversified pure-play to deliver long-term, sustainable, and profitable growth. Now, Tracey, will discuss our financials.

Thank you, Fabrizio, and good morning, everyone. First, I will review our fiscal 2019 third quarter financial results, and then I will discuss our expectations for the balance of the year. As a reminder, my commentary today is adjusted for the items that Rainey mentioned at the beginning of this call. All net sales growth numbers that I will discuss are in constant currency and using comparable accounting methods, unless otherwise stated. Also as a reminder, we adopted the new accounting standard for revenue recognition, ASC 606 this fiscal year on a modified retrospective basis. For the quarter, the impact increased our sales growth by 3 percentage points, our operating profit growth by 21 points, and our diluted EPS by $0.27. I would encourage all of you to look at the bridges that we've included in the press release this morning, as we do have a lot of adjustments. But I will talk to the adjusted numbers as I go through the quarter results. Net sales for the third quarter rose 12% with growth in our international regions and all product categories. From a geographic standpoint, our Asia Pacific region had robust net sales growth this quarter. Net sales rose 27% with all major categories rising double-digit. More than half of the markets in the region saw double-digit growth, led by a sharp increase in China, reflecting the continued strength of prestige beauty. Nearly every one of our brands rose strong double digits in China, as did all distribution channels. Among the larger markets in the region, Hong Kong rose double digits, Japan grew high single digits, and both Korea and Australia delivered solid mid-single digit increases. Net sales in our Europe, the Middle East, and Africa region rose 20%, led by strong double-digit increase in our global travel retail business, which Fabrizio just described. The EMEA region also benefited from growth in emerging markets, led by India and Russia. Growth in Western European markets was mixed. Modest increases in markets like Italy, Greece, and Switzerland were essentially offset by modest declines in France, Benelux, and the U.K. Net sales in the Americas declined 6%, reflecting a deceleration in prestige beauty in brick-and-mortar retail in North America. We continued to achieve solid growth online across both retailer.com and brand.com sites. Latin America sales declined overall, as growth in Brazil and Mexico was offset by declines in other markets like Chile and Venezuela. Skincare, again, led product category growth this quarter. Net sales grew 21% with very strong contributions from the Estee Lauder and La Mer brands internationally. Estee Lauder’s sales were driven by continued success in hero franchises, notably Advanced Night Repair, Nutritious, and Revitalizing Supreme, as well as preliminary sales from the launch of its Micro Essence with Sakura Ferment in Japan. La Mer saw success from its Arrive Hydrated travel campaign and its New Year holiday program in Asia. Our Origins brand also delivered terrific results in Asia and travel retail, reflecting the strong performance of its Dr. Weil Mega-Mushroom franchise. Net sales in makeup grew 7%, led by strong demand in Asia and travel retail. Key drivers of the growth included Estee Lauder's Double Wear and Pure Color franchises, La Mer's Luminous Cushion foundation, Tom Ford's Beauty Lip and eye makeup, and M.A.C's locally relevant activation, Strike of Kings and Tmall Super Brand Day in China. Fragrance net sales rose 5%. Higher net sales of Estee Lauder, Tom Ford, Jo Malone, and Le Labo fragrances were partially offset by declines in certain designer brand fragrances. Our hair care net sales rose 1%. Higher net sales from Aveda's recent launches in Asia and targeted expansion in EMEA were partially offset by soft sales from Bumble and bumble. Our gross margins declined 160 basis points compared to the third quarter last year. The new accounting standard negatively impacted our gross margin by 135 basis points. Favorable mix impacts and pricing were offset by higher obsolescence, negative currency, and tariffs. Operating expenses as a percent of sales improved 410 basis points or 70 basis points, excluding the impact of the new accounting standards and currency translation. Increases in digital advertising to support innovation were more than offset by savings in selling and other expense areas. Operating income rose 28% and operating margin increased by 260 basis points. Excluding the impact of the new accounting standard, operating income rose 6% and operating margin contracted 30 basis points, entirely driven by negative currency. Diluted EPS of $1.55 increased 33% compared to the prior year and grew 40% in constant currency. Earnings per share for the quarter included $0.09 of unfavorable currency translation. Diluted EPS, excluding the impact of the accounting change was $1.28, an increase of 10% compared to the prior year or 17% in constant currency. During the quarter, we liquidated investments held in a foreign subsidiary and realized a net gain of $71 million before tax, which was reported in other income in our GAAP financial statements. This equates to approximately $0.15 of EPS. Also in the third quarter, we recorded additional impairment charges of $52 million for goodwill and other intangible assets related to the Smashbox brand. This reflects the continued softness in the brand's makeup sales driven by slower than expected growth in key retail channels for the brand. For the nine months, we generated $1.76 billion in net cash flows from operating activities, below the prior year, due primarily to higher inventory levels to support international growth and the timing of payables and receivables. We invested $441 million in capital expenditures and we generated $1.22 billion from the liquidation of investments discussed a moment ago. We continue to return substantial cash to shareholders as we repurchased $1.34 billion or 9.7 million shares of our stock, and we paid $453 million in dividends. We are obviously pleased with our third quarter results. Now let me turn to our outlook for the fourth quarter and for the full fiscal year. Global prestige beauty is a vibrant category that is currently growing above historical rates. With the outstanding performance we've seen year-to-date, we're again raising our full year guidance. However, we are mindful of a number of macro risks that remain concerning. These include uncertainties caused by political tensions and instability, as well as soft economies in certain markets. Given the strong performance to date, we are raising our expectation for full year net sales growth to 10% to 11% in constant currency, excluding the impact of a new accounting standard. Currency translation is expected to negatively affect reported sales growth by 3 percentage points, reflecting rates of $1.14 for the euro, $1.297 for the pound and 6.808 for the yuan for the fiscal year. We expect the full year impact of the new accounting standard to be immaterial to net sales growth for the full year. We are raising our EPS expectations to a range of $5.15 to $5.19 before restructuring and other charges. This reflects approximately $0.22 of dilution from currency translation and $0.06 of accretion from the new accounting standard. In constant currency and with comparable accounting, this reflects EPS growth of 18% to 19%. For the fourth quarter, our sales are expected to rise by approximately 9% to 10% in constant currency and using comparable accounting. Currency translation is estimated to dilute sales growth by approximately two percentage points, and the accounting change is forecasted to dilute an additional point. Therefore, we expect reported net sales to grow between 6% and 7%. We expect to increase investments substantially behind advertising and promotion to leverage our strong momentum and support our successful new product launches, as well as to increase investment behind recruitment in the U.S. This investment should also provide us with a strong start to our fiscal 2020. EPS is forecast to be between $0.45 and $0.49 before restructuring charges. This includes an approximate $0.04 dilution from currency and $0.04 from the new accounting standard. With two months left in the fiscal year, we remain encouraged by the momentum in global prestige beauty and our ability to effectively execute our strategy to generate profitable growth. Our outstanding performance represents continued investment behind the greatest opportunities in our business as well as our commitment to long-term sustainable growth. The additional financial flexibility we have gained through our Leading Beauty Forward program, the increasing strength of our operating cash flow, and the greater returns we are achieving from our advertising investments position us well for continued success. And that concludes our prepared remarks. We'll be happy to take your questions at this time.

Great. Thanks. Good morning. I guess I was hoping to understand a little bit more about what you've been seeing in the North American market. I mean, the down 6% was worse than I think a lot of us were expecting. So, maybe if you can unpack some of the drivers whether you're still seeing Bon-Ton, maybe it was the pressure of government shutdown? And then relatedly, could you talk a little bit more about what specifically you're seeing in the specialty multi-channel here in North America and then where are your investments as you think about Q4 kind of being driven? Thank you.

Sure, Erinn. I'll start by discussing the Americas, particularly the U.S. prestige beauty market. This quarter, the prestige beauty market showed softness, and our share results indicate a decline. I believe this is due to several factors, including the end of tax rebates and a lower level of promotions, which we view as healthy but has impacted sales growth. Additionally, we experienced some destocking in our business, though we generally aligned with market performance. Globally, the specialty multi-channel grew by about 6%, indicating that we are still seeing positive growth from that segment. Fabrizio, would you like to add anything?

I want to mention that Bon-Ton was still a factor in our numbers from the previous year, so we are likely seeing its impact for one last quarter. The market overall was down, especially in brick-and-mortar retail, which made for a challenging quarter. However, we are optimistic about our improvement plan in North America. In fact, we plan to invest in exciting innovations in the fourth quarter that we believe will draw in new customers. We will also continue to focus on growing channels like specialty retail and online sales. We have just finished restructuring our field operations, which will enhance our market approach. We are ready to implement the new targeted marketing strategies we discussed at the Investor Day. There are numerous opportunities ahead to stabilize and eventually grow the U.S. market again.

Hey, everyone, congratulations and thank you for all the details shared today. I want to follow up on Erinn's question regarding the Americas, specifically about the operating income for the quarter. It seems that the negative figure is largely attributed to the decision on the Smashbox impairment. Could you provide some additional insight on your thoughts about Smashbox? It's clear you've made some accounting adjustments to align the brand within your financials. What do you believe the brand needs moving forward? Are we approaching a point where it won't be as much of a burden on those U.S. numbers? It appears that the figures look significantly better when we exclude that. Additionally, I was curious if you could elaborate on your comment about new innovations that will drive customer recruitment. Does this mean that within the negative 6%, the acquisition of new customers has also slowed down? What are your thoughts on the previous trends and what insights do you think you can leverage to help improve those numbers in the fourth quarter?

I'll begin with the second question and then address the Smashbox issue. Our focus on consumer acquisition, particularly among young consumers and millennials, is gaining traction. We are making headway in attracting new millennial and Gen Z customers in the United States. As Tracey pointed out, in the last quarter, there was generally lower promotional activity and reduced traffic in stores. However, our brand acquisition is showing improvement. My comments about intentions for the fourth quarter and next year highlight our plan to accelerate this progress. We have various resources, including improved targeting, new innovations, better access to growth channels, and increased advertising investments as part of our United States turnaround strategy. We remain optimistic about the medium and long-term effects of these initiatives on consumer acquisition. Regarding Smashbox, I want to clarify that it is not the primary factor behind the decline.

From a sales perspective, right?

Yeah.

From a profit perspective, you're right that the impairment certainly did impact the profitability of the Americas segment. But from a sales perspective, as Fabrizio mentioned, it's not the main driver.

Thank you. Good morning. I actually wanted to touch on your skincare margins in the quarter, which were still very strong. So hoping you guys could bucket maybe some of the key drivers for us in a bit more detail, and then help us understand what the contributions might have been from the fast growth in certain geographies such as Asia versus maybe improvements you're seeing in the product mix from some of your innovation? Thanks.

So let me start. Again, the margins on skincare are so strong, I would say first because the skincare category was up 25% in constant currency. So when you've got that kind of growth in the category, we see tremendous leverage across the board. That would be the first driver. Clearly, we're seeing great success as we called out in APAC and travel retail, and leveraging that success in those regions certainly helps from a margin standpoint as well. But really when we've got a category growing at 25%, that certainly justifies the kind of margin expansion that we're seeing in the skincare category. We've also had some terrific new innovations in the skincare category this year that we're quite excited about. So our innovation has continued to step up every year; this year in Estee Lauder, La Mer, and Clinique, we've had terrific, terrific innovation, and Origins as well. So all of our skincare brands are doing quite well, globally and certainly with the strongest impact being in the Asia-Pac and travel retail region.

And the only thing I want to add is that our improved focus on hero products, meaning on the main products, the main SKUs on every brand is also driving profitability over the medium and long-term because it creates bigger products that can be better leveraged and better optimized, and this trend will continue.

Hi, this is Javier. The question has to do again with North America, if you can help us understand the channel mix now in the U.S., with all the brands that you bought that tilt toward specialty channel. So basically, if you can help us understand how important department stores are? What was the impact of Bon-Ton in the U.S., whether you can give us a sense of what was the growth in U.S. department stores ex-Bon-Ton? And also basically, how you are doing in the specialty channel? What is exposure? What is the growth rate? That will be helpful. Thank you.

Any other questions?

Javier, department stores still represent about half of our business in the U.S. Although we are primarily seeing growth in online and specialty channels, department stores remain a crucial distribution channel for us. Without Bon-Ton, this segment would have shown negative growth. Bon-Ton contributed approximately $16 million in revenue during the same quarter last year, and there have been no sales from them this year. That's the current scenario in the U.S. regarding sales growth.

I want to add that today, 75% of our business is outside the United States, and we are very well diversified across different channels, categories, and brands. I also want to clarify that we are focusing on markets like the United States, the U.K., and China, with a geographic segmentation. However, looking at our results this quarter by channel, globally, every channel has experienced growth. For instance, specialty-multi grew by 6% to 7%, and department stores globally saw a growth of 2%. Our travel retail, online, and freestanding stores, which include direct-to-consumer sales through brand websites and freestanding locations, are all growing in double digits, and at a very strong pace. In terms of categories, every category is showing growth: skincare, makeup, fragrance, and hair care. Within skincare, all subcategories like moisturizers and serums are experiencing double-digit growth. Regarding brands, 80% of our brands are growing more than double digits, with the exception of Smashbox and GLAMGLOW. This shows we have numerous growth drivers within our business right now. The way we segment our business also influences our operational strategies.

Great, thanks, good morning.

Morning.

One of the things I wanted to ask, I'm sorry because I know Fabrizio you were just now emphasizing that the U.S. is 25% of the business today. But I was still curious, I'm sorry about channel mix because the mention of the sales restructuring struck a chord with me. I think for a few years I've sort of been thinking about your investments in the U.S. as being to sort of fully support traditional brick-and-mortar, being both your freestanding stores and department stores, while at the same time investing well ahead of the revenue build in kind of specialty-multi and online in totality. And with mentioning the sales restructuring, did suggest to me that all this kind of, call it, newer channels have reached scale to where you can perhaps start reallocating resources in the U.S. in a way that better suits the future growth. So I want to just ask, one, is that a reasonable way about thinking where we are in terms of long-term channel mix shift? And then secondly, brand performance in the U.S. within those faster growing channels versus the channels where the traffic isn't. What's your feeling on market share performance for your brands in those faster growth channels versus the more struggling part of the market? Thanks.

You're welcome. First of all, in terms of channel mix, we are currently 50% in department stores, with the remaining in the fast-growing channel. We aim for a better balance or diversification by channel in the United States, and this will continue to be our strategy. We have improved our penetration in specialty and have a strong online presence across both retail dot-com and brand dot-com. Our freestanding stores are a significant channel in the United States, and department stores remain an important part of our business. In some areas, we are seeing growth, and certain department stores are making significant progress. The distinction lies between brick-and-mortar and online, as both are experiencing growth. Online sales in department stores and across retail dot-com are accelerating, which is positive for us as we are gaining market share in this area. Our brands are thriving in this space. Regarding your question about brand success in new channels, absolutely. Our brands are performing even better in these new channels, both in the United States and globally. During our Investor Day, we showcased our success in new channels such as online, Tmall, travel retail, and specialty-multi globally, which is ongoing, and we are fully capable of driving these brands. With our extensive brand portfolio, some brands are more suited for success in specialty, while others fit better in a department store environment, and some excel online. We strategically manage this portfolio to ensure that we align the right brand with the appropriate channel and consumer target. This process is nuanced and tailored, not one-size-fits-all. That's why our portfolio is a strong competitive advantage. Lastly, regarding our field sales force restructure, it was indeed time to adjust our investment in the field to align with our new distribution strategy and the balance of different channels. As part of this plan, we are increasing resources, focus, and importantly, skills in the new channels, aiming to match our performance in these areas with the strong historical performance we’ve had in department stores.

Thanks, good morning everyone. Fabrizio, I just had a question for you on your comment on trailing 12-month launches that are 30% of sales, which I think you mentioned was the highest level. Can you give us some context of how that number has trended over the last few years? And how that connects to the advertising spend that you're doing kind of have fewer bigger launches with more focused advertising? Thank you.

Yes, we have made significant progress over the years. We now operate multiple brands, each with its own innovation program, and we are innovating in various categories such as skincare, makeup, hair care, and fragrances. Within categories like skincare, we have specific innovation programs for sub-categories, for example, moisturizers compared to masks. This detailed approach to identifying opportunities has led us to innovate across numerous global segments. As a result, the success rate of sales driven by innovation has increased. Our strategy combines major innovations with fewer but impactful ones, leveraging established franchises like Advanced Night Repair and Clinique. This combination enhances the strength, abundance, profitability, and efficiency of our innovation efforts. Over the past nine years, we have tripled our innovation capacity; last year, it accounted for 20% of sales, and this year it's projected to be 30%. Our stronger advertising investment has adapted to include a wider range of brands. In the past, we primarily advertised a select few brands, relying on word of mouth and in-store promotions for others. Now, every brand is promoted, enabling all of them to gain scale and allocate part of their budgets to advertising. This approach, particularly when paired with innovation, accelerates our top-line growth. Additionally, a significant portion of our advertising focuses on our innovative products.

Hey, good morning, guys.

Good morning.

So, Fabrizio, it's rare to see this level of corporate top line growth that you're expected to post this year. It's even rare to see it continue in subsequent years, when you cycle more difficult comparisons. So, I'd love to hear your viewpoint on sustainability of the strong top line growth, as we look out to next year? And specifically are there any signs of a potential slowdown in some of the key momentum areas that have been driving your business? And then also, just from a longer-term perspective, can you talk about how you've managed the business this fiscal year to sort of take advantage of the top line growth, and use it to propel longer term growth as you look beyond this year? Thanks.

Yeah. The idea of growing ahead of market is definitely sustainable. We believe we will continue to grow ahead of market and continue to build global market share. And the reason why this is a sustainable long-term view for us is assertive. Many will think I was just planning is because we are exposing our business to the fastest growth currents of the world. Thanks to Leading Beauty Forward, we have changed a lot in fixed costs and created variable OpEx. And these variable expenses, we can tailor them where the biggest opportunity at the speed of light. This was not possible in the past. So the first thing that makes us sustainable is that we can invest and allocate resources very fast with a lot of agility wherever the opportunity is. And so even in a world which is more volatile and where the opportunity changes faster than in the past, we have now the agility to react with the same speed. This ability to match resources to opportunities is our strength. At this moment, the biggest opportunity is China; we are able and willing to invest in China in a great way. This has to change someday; there will be other opportunities as we have demonstrated in the past where we will invest more. At this moment, our priority is to focus on the United States. We are going to invest in the United States and within the United States on the biggest opportunities, which are in the channels, by category, by channel, and by consumer segment. So this ability to granularly look at the opportunity and invest resources on them is a sustainable long-term capability that we have built into our business that I believe will continue to drive our business ahead of market for many years to come. Do you want to add anything to it?

I would like to add a couple of points. If we examine our history over the past few years, the fourth quarter tends to have our lowest operating margins, which relates to the timing of our major innovations. Additionally, once we evaluate the performance of these innovations throughout the year, we take the opportunity to invest more in them. Historically, this has helped us start the next fiscal year on a strong note. As Fabrizio mentioned, we anticipate continuing to grow faster than the market. Last year, the market grew by approximately 7%, and as we indicated at Investor Day, we expect it to stabilize between 5% and 6%. Although we foresee a slowdown in the double-digit growth we’ve experienced over the last few years, we remain confident that we will continue to grow at a pace that exceeds the market.

Good morning, everyone, and congratulations on the terrific results.

Thank you.

Thank you.

As you consider your categories, particularly the makeup category, could you share your thoughts on its progression? What factors could influence the direction of operating income in this area? Are there specific products, channels, or regions where performance varies? Thank you.

So let me start, Dana. Obviously the makeup category is impacted by some of the challenges that we discussed with Smashbox. We are seeing the M.A.C brand pickup, but obviously the M.A.C brand had been slow in the last year or so, so that has impacted the profitability of the makeup category. And fundamentally, again, when you think about the architecture of our P&L, growth drives a lot of margin expansion. So, to the extent that we see the makeup category growing globally, which we are growing relatively in line with the makeup category, but to the extent that we see that category pick up, certainly we'll see operating margin pickup. We expect operating margin will pick up anyway, given some of the innovation that we've got planned for some of our makeup brands like Too Faced, like M.A.C and some of our other brands as well, BECCA, etc., in the next few quarters. So we do expect that that will be an improvement. But we do have some brands struggling in the category that's dragging the operating margin down.

Yeah. And our strong brand, whether it's growing the demand, the operating margin is very, very attractive. And so it's a matter of mix of brands that we'll correct over time. But also I wanted to clarify the market of makeup, is we go up and down. I mean, now is the skincare moment. But two years ago was the makeup moment. And by the way, this is different by region. In the U.S., clearly makeup is not a growing segment at this moment. But in Asia, it is the fastest growing segment. Just to be clear, makeup in China, in the last quarter grew faster than skincare. And I'm not speaking about our business only; I'm speaking about the market. And so, makeup is a very strong category with a lot of future. And, when it reaches a certain level of growth, it'll have the same positive impact on allowing us to leverage our cost structure that skincare has.

Thanks and good morning everybody.

Good morning.

I wanted to revisit the U.S. and ask about the current brands and channel mix. The department store still represents half of the business. Do you believe you can enhance performance in this area as it stands? You mentioned increasing spending, but is that sufficient, or do you think you need to be more selective in exploring different brands, channels, or potential acquisitions that could support your goals? Would expanding into more active areas and trends appealing to consumers be beneficial? Additionally, when do you expect the U.S. market to return to growth?

Yeah. As we said, we believe we have a great plan. As I said, the plan is about continuing to expose different brands through the right channel, to the right target group. As you said, by brand, certain brands are really playing well in specialty. And they're playing well with the specialty customers. Other brands are perfect for department stores. It will continue to be exposed in the majority of the department stores, which are very important channels. And all of these brands are doing fantastic online and that we are continuing to build their specific targeting online. The innovation and the new exciting innovation that attracts consumers is going to be a key driver, continue to be a key driver of acceleration. And the other is segmentation, the ability to speak in a granular way to different segments of consumers, including multi-ethnic consumers around the U.S. is our plan. And we believe this mix of distribution, activation, innovation, and granularity of marketing and the new area of segmentation combined with a better field sales force; better focus by channel is our answer to restart growth. Obviously, we need to assume that the market overall will start growing back again. And that's what we also expect that the market will go back to growth. And when this happens, which we believe next fiscal year, we do have the potential to go back to growth.

Thanks, good morning. Want to talk a little bit about the operating expense, because excluding the change of the accounting impact there was quite a nice movement there. Did Leading Beauty Forward have an inflection point because historically you've reinvested a significant portion of that, so maybe it's just timing but normally you don't flow that much of it through, so just trying to understand that a little bit better? Thank you.

No, we did have a great quarter of leverage, Olivia, in the third quarter, you're right. And Leading Beauty Forward absolutely contributed to that. So, as we had announced previously, we actually have increased our expectations for the program given the number of programs that have been added to Leading Beauty Forward. And it is giving us more flexibility in our expense base. So we did see more leverage in some of the areas outside of advertising and promotion than what we had expected. And so, yes, we have more flexibility. We are still investing, though, a good portion of the savings of Leading Beauty Forward. Fabrizio mentioned, digital advertising, the digital capabilities in order to be able to do digital advertising. So the talent, the technology that we are investing in, to be able to both create the digital advertising as well as investing a lot more in our analytics capability as well. So we are using some of the savings to reinvest back in the business, to build capabilities that we need to have continued growth over the next few years. And that's working out well for us in the short term, and we believe in the long term as well.