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Revlon, Inc. (NYSE:REV)

Q3 2012 Earnings Conference Call

October 25, 2012 9:30 am ET

Executives

Elise A. Garofalo – Senior Vice President, Treasurer and Investor Relations

Alan T. Ennis – President and Chief Executive Officer

Chris Elshaw – Executive Vice President and Chief Operating Officer

Steven Berns – Executive Vice President and Chief Financial Officer

Analysts

Carla Casella – JPMorgan Chase & Co.

Patrick Trucchio – BMO Capital Markets

Jeffrey Kobylarz – Stone Harbor Investments

Operator

Good morning, ladies and gentlemen, and welcome to Revlon’s Third Quarter 2012 Earnings Conference Call. At the request of Revlon, today’s conference call is being recorded, if you have any objections you may disconnect at this time. (Operator Instructions) I would now like to turn the call over to Ms. Elise Garofalo, Revlon’s Senior Vice President, Treasurer and Investor Relations. Ms. Garofalo, You may begin.

Elise A. Garofalo

Thank you, Irlanda. Good morning, everyone, and thanks for joining today’s call. Earlier today, we released our results for the third quarter ended September 30, 2012. If you’ve not already received the copy of the earnings release, you can obtain one on our website at revloninc.com.

On the call with me this morning are Alan Ennis, Revlon’s President and Chief Executive Officer; Chris Elshaw, Chief Operating Officer; and Steven Berns, Chief Financial Officer. Before I turn the call over to Alan, I’d like to remind everyone of a few things.

First, our discussion this morning might include forward-looking statements, which are subject to the Safe Harbor provisions of the Private Securities Litigation Reform Act. Information on factors that could affect the Company’s results from time-to-time and cause them to differ materially from such forward-looking statements, is set forth in the Company’s filings with the SEC, including our 2011 Form 10-K and our 2012 third quarter 10-Q, which we filed earlier this morning.

Next, our remarks today will include a discussion of adjusted EBITDA and free cash flow, both of which are non-GAAP measures. These non-GAAP measures are defined in the footnotes to our release and are also reconciled to the most directly comparable GAAP measures in the financial tables at the end of our release. And finally, as a reminder, our discussion this morning should not be copied or recorded. With that, I’ll turn the call over to Alan.

Alan T. Ennis

Thank you, Elise, and good morning everyone. As we’ve discussed for some time, our strategic goal is to profitably grow our business. Overall, we had another very positive quarter as we grew net sales by 4.8%, on a year-to-date basis our net sales were up 3.2%.

From a regional perspective we grew net sales in the U.S., Canada, Asia Pacific and Latin America. However we continue to experience softness in Continental Europe and consumer uncertainties persist in several other countries outside of Europe including China and Australia.

From a brand standpoint our Revlon brands continue to perform well in the marketplace. And we are pleased with the performance of SinfulColors and our recently acquired Pure Ice brands.

From a financial perspective we maintain highly competitive operating income margins and improved cash flow. During the quarter, we announced certain actions to drive operating efficiencies throughout our company including the exiting of certain manufacturing facilities and streamlining our organization in France, Italy, and Latin America. Once fully implemented these actions some of which are subject to consultation are expected to generate annualized cost reductions of approximately $10 million and will further enable us to invest in the execution of our strategy.

So taking a look at our performance so far this year, we've grown the top line, we have sustained highly competitive margins and we are generating positive cash flow, all of which reflect the effectiveness of our strategy. While we remained focused on delivering profitable growth, we are keenly aware of the challenging global economic environment until we continue to manage our resources carefully with a balanced perspective on our long-term growth and profitability.

As we marked our 80 anniversary I would like to comment on our recent public service campaign focusing on the message, Your Lips Can Save Lives. This campaign features Revlon’s global Brand Ambassadors Halle Berry and Emma Stone and encourages women to talk about cancer emphasizing the importance of early detection. Philanthropy is the cornerstone of our heritage and we are proud that this campaign celebrates beauty and depicts the power each individual has to positively impact the lives of others.

So with that I will hand it over to Chris, who will talk about our marketplace performance.

Chris Elshaw

Thank you, Alan and good morning everyone. Today I will review our net sales performance by region and by brands excluding the impact of changes in foreign currencies. Total net sales in the third quarter of 2012 were $347 million, an increase of 4.8% as compared to the third quarter of last year. This increase was primarily driven by high net sales of Revlon color cosmetics, as well as the inclusion of Pure Ice net sales since its accusation on July 2.

In the United States net sales increased $7.3 million or 4% primarily due to high net sales of Revlon color cosmetics and the inclusion of Pure Ice net sales, which will partially offset by lower net sales of Almay color cosmetics, Revlon ColorSilk induction. Net sales in the U.S. region grew in the quarter excluding the results of Pure Ice.

In Asia-Pacific net sales increased $3.2 million or 5.5% primarily driven by high net sales of Revlon color cosmetics in Japan and certain distributor territories partially offset by low net sales of Revlon color cosmetics in China. As you are aware the economy in China has been slowing down. We have also seen a slowdown in consumption. We continue to ensure that we have the appropriate product portfolio for the consumer in China while working closely with our retail partners and focusing on the execution of our marketing plans.

Moving on to Europe and Middle East and Africa, net sales decreased 5.5% to $2.8 million. Of the $2.8 million dollar decrease, $1.6 million was due to the higher returns accrual associated with the previously announced restructuring in France and Italy. The remaining decrease of $1.2 million, or 2.3% in net sales was primarily driven by low net sales of fragrances in the U.K. and certain distributor directories and low net sales of Revlon color cosmetics in Italy. These declines were partially offset by high net sales of Revlon color cosmetics in South Africa.

In Latin America, net sales increased $6.3 million or 24.6%. This increase was primarily driven by high net sales in Venezuela, due to the absence of sales for a portion of the 2011 third-quarter as a result of a fire that destroyed the Company's facility there last year. Net sales in Venezuela and Argentina also benefited from high selling prices, reflecting market conditions and inflation, which accounted for approximately one quarter of the $6.3 million net sales increase in the region.

Finally, with respect to our Canada region, net sales increased $2.2 million, or 12.4%, primarily due to high net sales of Revlon color cosmetics.

Now moving on to the performance by brand; starting with Revlon color cosmetics, total company net sales increased as compared to the prior year. In face, earlier this year, we extended our PhotoReady franchise with the introduction of Airbrush Mousse Makeup, which continues to perform well in the U.S., Canada and Australia. Also within the PhotoReady franchise, we introduced Perfecting Primer which recently received an Allure Magazine, 2012 Best of Beauty Award.

In lip, ColorBurst Lip Butter and extension of our established ColorBurst franchise, continues to be extremely well received by consumers in all of our major markets. And also in lip, building up on our successful Revlon Just Bitten franchise, we introduced Kissable Balm Stain, a balm infused with a lightweight lip stain packaged in a retractable chubby crayon; it gives women softer, smoother lips with a perfect flush of color. Today this product is performing extremely well in the U.S., and we are launching this successful product in other major markets.

In eye, this year we restaged and upgraded our Revlon ColorStay eyeshadow quads with 16-hour wear and new premium design on packaging. These quads we use to create the latest runway looks for several shows during the New York and London fashion weeks. The restage of these quads has built upon our established ColorStay franchise on a year-over-year basis. We believe this positive performance is a result of our continued emphasis on developing innovative new products as well as keeping our existing franchises on trend and relevant.

And lastly in Nail, trendsetting and innovation are driving our growth in that category in all key markets. Our most recent new product: ColorStay Longwear Nail Color, which provides a one step gel-like shine is performing well in the marketplace. Overall, net sales of the Revlon Nail business increased in the quarter and overall in 2012.

Finally, with respect to the Revlon brand. this summer we launched a Revlon Expression Experiment, a unique digital platform accessible through Revlon’s Facebook page. we are delighted with a significant level of consumer engagements achieved by this platform, which is an important indicator, a favorable consumer connection with the Revlon brand.

Moving on to the Almay brand, net sales decreased during the quarter as compared to the prior year. As we have stated in prior quarters, we have been dissatisfied with the marketplace performance of the brand and our focus on improving Almay’s performance.

So far this year, we have made changes to advertising and promotional plans, seeking to improve a combined effect in this over time. Changes include increased media support across the wider range of products and incremental promotional support. We are also refining our brand positioning and implementing changes to merchandising.

We believe these changes are having a positive impact on our performance in the marketplace. However, net sales were down in the quarter. Furthermore, we aimed to continue to build Almay’s brand affinity through innovative new products and effective brand support, which together will be essential in driving the long-term success of Almay. So as you can see, we are focused on the drivers of success for the Almay brand.

In women’s hair color, net sales of Revlon ColorSilk were essentially unchanged year-over-year. we continue to be pleased with the marketplace performance of ColorSilk.

In anti-perspirant deodorants, net sales of Mitchum in the third quarter of 2012 decreased as compared to the prior year.

And finally, in Revlon beauty tools, net sales were essentially unchanged year-over-year. Consistent with our comments year-to-date, the beauty tools category remains soft. however, we continue to maintain our strong leadership position and in 2012 our new products are performing exceptionally well in the marketplace.

Now, I’ll turn it over to Steven to walk you through the rest of our financial results for the quarter.

Steven Berns

Thank you Chris starting with gross margin performance in the quarter. Gross margin was essentially unchanged year-over-year at 63.4% versus 63.5% in the third quarter of 2011. The third quarter of 2012 gross margin benefited from lower manufacturing and freight costs. As a result of our supply chain cost reduction initiatives as well as lower allowances in the period.

These were offset by the unfavorable impact of product mix, inventory obsolescence and restructuring charges. SG&A was $179.9 million in the third quarter, as compared to $169.3 million in the same period last year. The $10.6 million increase is primarily attributable to three items.

The first item impacting SG&A was a lower benefit from insurance recoveries related to the June 2011 fire in Venezuela. We recognized $1.7 million of benefits from insurance in the third quarter of 2012, which was $4.4 million less than the $6.1 million recognized in the third quarter of last year. Throughout 2012, we have more fully resumed operations in Venezuela resulting in the decrease in benefit from insurance recoveries.

The second item impacting SG&A was a $2.2 million charge in the third quarter with respect to the estimated cost of settling previously disclose litigation related to the Company's 2009 exchange offer. Together the impact of insurance recoveries and the litigation charge totaled $6.6 million of the $10.6 million increase in SG&A on year-over-year basis.

The balance of the increase in SG&A in the third quarter was primarily due to higher advertising expenses in the period mostly due to the timing of advertising campaigns as compared to the same period last year.

Operating income in the third quarter of 2012 was $19.1 million compared to $44.8 million in the same period last year and adjusted EBITDA was $36.2 million compared to $60.3 million in the same period a year-ago.

Operating income and adjusted EBITDA in the third quarter of 2012 were negatively impacted by $24.1 million of restructuring and related charges associated with the actions announced on September 5. The quarter was also impacted by the aforementioned charge of $2.2 million related to the estimated cost of settling previously disclosed litigation related to the Company’s 2009 exchange offer.

As Alan mentioned earlier on the call, the restructuring actions are expected to generate annualized cost reductions of approximately $10 million with 2013 expected to benefit by $9 million as a result of the timing of implementation of the restructuring actions.

Restructuring and related charges related to the September 5 actions are expected to total approximately $25 million, $24.1 million of which was reported in our income statement for the third quarter of 2012. The chart was recorded as follows: $21 million was recorded as restructuring charges; $1.6 million was recorded as a reduction to net sales, $1.1 million was recorded as an increase in cost of goods sold, and lastly, $400,000 was recorded in selling general and administrative expenses. Of the total expected charges of $25 million, $23 million are cash charges, which will be paid over the next 18 months.

Moving on to interest in the period, interest expense decreased $500,000 to $21.5 million due to lower weighted average borrowing rates. The provision for income taxes was $11.5 million in the third quarter of 2012 compared to $22.1 million in the same period last year.

The decrease was primarily attributable to decreased pretax income as well as the absence of a number of discrete items that in total, negatively affected the provision for income taxes in the third quarter of 2011. These items did not recur in the third quarter of 2012. Cash paid for income taxes, net of refunds in the third quarter of 2012 was $2.9 million compared to $1.7 million in the same period last year.

Net loss in the third quarter of 2012 was $15 million or $0.29 per diluted share compared to net income of $100,000 or nil per diluted share in the same period last year. Our net loss this quarter included the after-tax impact of the previously noted restructuring and litigation charges.

Moving on to cash flows, net cash provided by operating activities in the third quarter of 2012 was $39.6 million compared to $16.9 million in the same period last year. And free cash flow was $34.2 million compared to $13.3 million in the same period a year ago.

Cash flow in the third quarter of 2012 benefited from favorable changes in working capital and lower pension contributions as compared to the same period last year. Net cash used in investing activities in the third quarter of 2012 was $71.6 million primarily due to the Pure Ice acquisition, compared to $3.6 million in the same period last year.

As a reminder with respect to operating cash flows in general, the timing of cash flows from working capital can vary significantly from quarter-to-quarter based on a number of factors. On the liquidity front, our unutilized borrowing capacity and cash on hand as of September 30, 2012 was $160.3 million comprised of $33.9 million of available cash and $126.4 million available under our revolving credit facility. Our revolver was undrawn at the end of the quarter, and we had $10.4 million of undrawn standby letters of credit issued under this facility.

Now moving on to cash flows for the full year of 2012, regarding the guidance we have previously provided, the following items remain unchanged: capital expenditures of approximately $25 million, permanent display expenditures of approximately $45 million, and cash paid for income taxes of approximately $20 million.

Lastly, we are updating our guidance for pension plan contributions to approximately $30 million revised down from our prior guidance of $35 million due to the impact of U.S. pension legislation passed earlier this year.

This concludes our prepared remarks. And we would now like to open up the call for your questions. Operator, please prompt the participants for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) We’ll go first to Carla Casella with JPMorgan.

Alan T. Ennis

Good morning, Carla.

Carla Casella – JPMorgan Chase & Co.

Hi, good morning, I had to unmute. there’s a couple of questions here. Given the weakness in internationally, is that cost giving you any additional acquisition opportunities or you think it’s likely to free up some brands or properties that might not have been available before and what’s your interest in terms of further acquisitions?

Alan T. Ennis

Well, just in terms of the international market. clearly, there’s a lot of uncertainties out there, particularly when you look at the lights of continental Europe, and most notably, and recently China, which is going through its own issues. In terms of acquisitions, we remain interested in looking at opportunities that can complement our brand portfolio; we made two very nice bolt-on acquisitions in the last 18 months with SinfulColors and with Pure Ice.

Our goal obviously is to profitably grow net sales and we’re doing that through a combination of both organic growth and through acquisitions. and so, we will continue to look at opportunities that are additive to our growth objectives and extend our brand portfolio.

Carla Casella – JPMorgan Chase & Co.

Okay. And then with your bonds callable very soon, any thoughts on refinancing plans yet?

Steven Berns

Carla, it is Steven. Yes, as you know, we evaluate our debt securities in our capital structure on a regular basis. we want to make sure that the capital structure is in line to support the strategic objectives that we’ve outlined in details in the past. This of course includes 9 3 / 4 % notes, which as you indicate are callable in November. And we are very cognizant of the marketplace, so we evaluate the conditions, and when and as appropriate, we’ll address any and all of those opportunities.

Carla Casella – JPMorgan Chase & Co.

Okay, great. and just what brand question, on Almay, what do you think was the main problem, is it that there is too much competition in that same kind of natural segment or was it just not positioned well from a price point standpoint, I think you can point to that you think might have been the driver for the weakness there, not just this quarter, but over the last, recent past.

Chris Elshaw

Hi Carla, it’s Chris. So as you know, this is a very competitive category. And the drivers of performance are the things that we’ve outlined that we’re dealing with. So as I said, we’re very focused on the changes we’re making to our advertising and promotional plans. We believe they are going to improve our performance over time. We changed and increased our media support, and we suppose a wide range of products. And then we also increased our promotional support. We’re doing some work on refining and the brand positioning, and we’re also implementing some merchandising changes. So altogether, we believe those are going to be the drivers of improvement in the Almay brand. We are extremely focused on it as you can imagine. And we’re working very hard to improve that performance.

Carla Casella – JPMorgan Chase & Co

Okay. Where are you pricing Almay versus the most direct competition?

Chris Elshaw

Well, the middle of the mass market with Almay.

Carla Casella – JPMorgan Chase & Co

Okay, great. Thank you.

Alan T. Ennis

Thanks, Carla.

Operator

Our next question will come with Connie Maneaty with BMO Capital Markets.

Patrick Trucchio – BMO Capital Markets

Hi, good morning. this is actually Pat Trucchio filling in for Connie.

Alan T. Ennis

Hi, Pat, good morning.

Patrick Trucchio – BMO Capital Markets

Hi, good morning. So first on Venezuela, if the insurance proceeds have ended, should we assume that it’s being made up in the actual operating profit being generated in the country. And if it isn’t being offset by profit generated in the country, when do you lap the difficult comparisons from the Venezuela insurance proceeds?

Steven Berns

Pat, it’s Steve, and thanks for the question. I mean, two items, one is the insurance proceeds that ended in October of this year, ended as related to business interruption insurance, okay. So we have a claim to our insurance company of course, for both business interruption as well as the property damage that we sustained. so just to make clear that that remains outstanding and there’s no timing or ultimate understanding as to the resolution of when that will happen, but it’s in process. You are correct. so the business in Venezuela has recovered. And therefore, we only were recognizing business interruption insurance relative to an amount to make that business effectively hold during the period.

Patrick Trucchio – BMO Capital Markets

Okay.

Steven Berns

Did I answer your question?

Patrick Trucchio – BMO Capital Markets

Yes. so the $4.4 million that was made up in the quarter from better performance in the country?

Steven Berns

It’s correct.

Patrick Trucchio – BMO Capital Markets

In the U.S., would sales have increased without Pure Ice?

Steven Berns

Yes. As I said in my remarks, they had increased excluding Pure Ice.

Patrick Trucchio – BMO Capital Markets

And then just on the trend in Europe in the quarter. were sales weaker in September as compared to August and July or is it just weak all the way?

Steven Berns

Well, as you know, we don’t break out the months, we’re reporting the quarter here. bear in mind, in Europe, $1.6 million of the $2.8 million was related to that returns accrual, which was associated with the restructuring activities. So net of that, the decrease was $1.2 million those of 2.3%. as we said, that was really related to our lower net sales of fragrances in the UK and in certain distributor territories, plus low net sales of Revlon color cosmetics in Italy.

So as you know, the European region remains uncertain from the economic point of view. And hence, we’re very focused on making sure that where execution in the marketplace will have any success. yeah, I’ve pointed South Africa where our sales are up. And of course, at the same time, there’s a lot, we’re taking these actions to restructure our operating model in both France and Italy.

Patrick Trucchio – BMO Capital Markets

Okay. thank you so much.

Operator

And we’ll hear next from Jeff Kobylarz with Stone Harbor Investments.

Jeffrey Kobylarz – Stone Harbor Investments

Good morning.

Steven Berns

Good morning, Jeff.

Jeffrey Kobylarz – Stone Harbor Investments

Hi, just curious about the restructuring effort and saving $10 million. can you comment just how that $10 million will be, how we’ll play out in the income statement and cash flows will be reinvested say, in the brands or will you let it drop down to profits. Any general color there?

Steven Berns

Yeah. So a couple of things. To the actions we announced specifically included exiting a plant that we owned in France, moving out of the leased facility in Maryland and then some organizational streamlining primarily in Italy, France, and in Latin America. So most of the actions that we took are our people related in terms of the savings.

So you’ll see those savings start to materialize in the beginning of 2013 obviously some of the actions are subject to consultations. and so it takes sometime to work through the process. In terms of the cost reductions, listen, we look at all of our resources and all of our investment priorities, we make decisions about what we need to spend and where. And so, there’s no specific formula that says X and M will drop to profit next will be reinvested. It’s really a combination of all of the priorities we have. The resource we have available making sure that we’re investing appropriately behind the brands while maintaining highly competitive margins and we look at the entire pool of resources collectively.

Jeffrey Kobylarz – Stone Harbor Investments

All right, fair enough. And then about this most recent acquisition you made in July. can you comment about just any kind of color about how accretive this is going to earnings or just to support how you intend to improve this business?

Alan T. Ennis

Well, similar to the business that we acquired in March of last year, the SinfulColors business, Pure Ice is a predominantly a Nail Color business that has kept meaningful distribution in a major retailer in the U.S. Both the businesses, both SinfulColors and Pure Ice fit very well into our portfolio, clearly our heritage as a company has a strong position in Nail. we know to do Nail and we’re capitalizing on the trends that we’re seeing. And so both of them are very complementary to our existing portfolio, obviously the opportunity for us is to take both of those brands and to deploy them to additional geographies, additional retailers where they are in today or different geographies where they are in today. and so we’re in the process of doing that. And with both of those brands, we’re also looking at ways to potentially extend the brands beyond just Nail Color, to see it as an opportunity in different segments today in the color cosmetics market. So it’s not simply by the brand, and not to do when it does this by the brand and find ways to grow it aggressively. And we’re doing that.

Jeffrey Kobylarz – Stone Harbor Investments

Okay, fine. And then just lastly on China, can you just comment the slowdown that you’re seeing is just kind of the first start of the slowdown and is there – does it look like it was getting worse throughout quarter as the quarter went on?

Alan T. Ennis

Well. Everyone is right what’s going on in China for many months now and of course, they’ve been putting their own slowdown in GDP. As I said, as they propose with that economic slowdown, we’ve also seen a slowdown in our consumption. so it’s impossible for us to forecast the future Chinese economy, of course, as the leadership change coming up, we’ll have to see, watch and is taken in the economy there. but we’re focused on what we can do. So the Chinese consumer is different. We’re very focused on continuing to ensure we have the appropriate product portfolio. we were very close with the retail partners there, because obviously their experience in reduction for traffic so making sure that we are very effective in store and focusing on the execution of the marketing plans with those retail partners. The key is, it’s important to have a healthy and sustainable business in China. China is the large market with lots of distribution opportunity, but that's very different from pursuing a sustainable profitable business that is our aim in overtime.

Jeffrey Kobylarz – Stone Harbor Investments

Okay and can you comment about sell through in China, was it down I assume selling is down, and but was sell through down also in the third quarter.

Steven Berns

As we said net sales were lower in the quarter in terms of sell through, we’ve seen decelerating sell through trainings as the economy has suffered.

Jeffrey Kobylarz – Stone Harbor Investments

All right. Thanks very much.

Alan T. Ennis

Thank you Jeff.

Operator

Thank you and at this time I will turn the call back over to Mr. Ennis, for any additional or closing remarks.

Alan T. Ennis

Thank you Irlanda and thank you all for joining our conference call this morning, we look forward to speaking with you when we report our fourth quarter 2012 results early next year. Thank you

Operator

That will conclude today’s conference. Thank you all once again for your participation and have a wonderful day.

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