Estee Lauder (EL) makes premium skin care, makeup, fragrances and hair care products, which it sells through various high-end outlets across the globe. The company competes with well-known product manufacturers like Revlon (REV), L’Oreal (OTCPK:LRLCY), Avon Products (AVP) and P&G (PG). Estee Lauder’s brands include Aramis, Clinique, La Mer, Aveda and designer brands such as Donna Karan, Tommy Hilfiger, Michael Kors and Sean John.
Although our current price estimate for Estee Lauder (at $53.28) remains well below market value, we highlight here two potential sources of upside – makeup and fragrances. We estimate that makeup and fragrance operations contribute roughly 38% and 5%, respectively, to EL’s stock value, both trailing the 52% contribution from skin care. For further analyses of the company’s skin care operations, see our recent article (Estee Lauder Showing Upside in Skin Care, but we Remain Cautious).
Makeup Market Share
The makeup segment constitutes over one-third of our $53.28 price estimate for Estee Lauder stock. The company’s makeup sales grew by 11% during its fiscal first quarter ended October 29th,  primarily driven by makeup artist brands such as MAC and the recently acquired Smashbox brand.
A double-digit growth in sales, much in excess of the increase in the global market of makeup at close to 3%, signifies a significant gain in market share. We project that if this trend continues, the company’s market share could breach 12% by 2011, vs. our current estimate of just over 11%, leading to almost 4% upside to our base case stock value.
Fragrances Operating Margins
Estee Lauder’s fragrance sales increased a healthy 15% during its fiscal first quarter. We can attribute much of these improvements to improving macroeconomic conditions and growth in international travel as business activity recovers and duty-free shops increase perfume sales at airports and ports. What is particularly impressive about this segment’s results is the staggering improvement in operating profit (EBIT margins) by over 500 basis points, to roughly 15%.
We have been cautious on this segment’s operating profitability, estimating EBITDA margins between 5% and 6% during 2011 and 2012. Estee Lauder has given this due attention with cost reductions combined with focused promotional spending on higher-margin recent launches and designer fragrances as well as selective markets that exhibit the greatest potential. If EL’s EBITDA margin for fragrances could breaches 7% by 2011, this creates 3% upside to our current price estimate. Despite the potential upside, we note that the scenarios illustrated above would still leave us below current market value for Estee Lauder.
Disclosure: No position