Joel Greenblatt (Trades, Portfolio) initiated a position in Estée Lauder (NYSE:EL) in the second quarter, buying 425,384 shares for an average price of $93.33 per share.
Greenblatt tries to find cheap and good companies. He looks for value with a catalyst. Greenblatt likes special situations and thinks that they are simply different places to find cheap stocks. In his own hedge fund, Greenblatt uses the basic principles in the Magic Formula: Look for high ROC and high earnings yield. He tries to figure out what "normalized earnings" will be three to four years into the future. Greenblatt makes sure the stock is cheap based on normalized earnings.
The Estée Lauder Companies Inc., founded in 1946 by Estée and Joseph Lauder, is one of the world’s leading manufacturers and marketers of quality skin care, makeup, fragrances and hair care products. Its products are sold in more than 150 countries and territories under a number of well-known brand names including Estée Lauder, Aramis, Clinique, Origins, MAC, Bobbi Brown, La Mer and Aveda.
The company is also the global licensee for fragrances and/or cosmetics sold under brand names such as Tommy Hilfiger, Donna Karan, Michael Kors (NYSE:KORS), Tom Ford, Coach (NYSE:COH) and Tory Burch. Each brand is distinctly positioned within the market for cosmetics and other beauty products.
The company’s product portfolio consists of Skin Care (43% of net sales), Makeup (38% of net sales), Fragrance (13% of net sales) and Hair Care (5% of net sales). In addition to these products, the company also sells ancillary products and services that accounted for less than 1% of its net sales.
The company sells its products primarily through limited distribution channels to complement the high quality and “high touch” images associated with its brands. These channels consist primarily of upscale department stores, specialty multi-brand retailers, upscale perfumeries and pharmacies and prestige salons and spas.
In addition, Estée Lauder’s products are sold in company- and distributor-operated freestanding stores, its own and authorized retailer websites, stores on cruise ships, in-flight and duty-free shops, and DRTV, and certain fragrances are sold in self-select outlets. The company believes that its strategy of pursuing selective distribution strengthens its relationships with retailers, enables its brands to be among the best selling product lines at the stores and heightens the aspirational quality of its brands.
As part of the company’s strategy to diversify its distribution, Estée Lauder has been selectively opening new single-brand stores that it or our distributors operate. The MAC, Aveda, Jo Malone and Origins brands have been the primary focus for this method of distribution, and the company is expanding it to other brands. The company operates around 1,260 freestanding stores and, its distributors operate about 400 freestanding stores worldwide. The company expects the number of freestanding stores to increase moderately over the next several years.
The company has seen a good growth in sales and profitability over the last five years. Its revenues have seen a total increase of 44% in the last five years while its EPS has more than doubled from $1.19 in 2010 to $2.96 today The company has also raised its dividend per share from 27.5 cents in 2010 to $1.14 in 2016.
Going forward, Estée Lauder is expected to continue posting higher than industry growth given the company’s premium exposure which is seeing less pricing pressure from competition, relative to mass segment. Although management has guided for 6% to 7% revenue growth in fiscal 2017, which is slightly below its long term target of 6% to 8%, this slight deceleration in topline is only temporary and the company is still expected to do much better than its peer group.
Berenberg analyst Rosie Edwards recently initiated coverage on Estée Lauder with a buy rating and a price target of $105.00. In her research note Rosie commented,
"We forecast top-line growth of 7.5% in 2017E-19E versus an HPC sector average of +4%. We believe this outperformance stems from the group’s exclusive premium exposure, which has enjoyed faster category growth, faced less pricing pressure and been insulated from local competition, relative to the mass segment."
Given its better than industry growth prospects, I recommend buying the stock.
Greenblatt is founder and managing partner of Gotham Asset Management LLC. He is known for the invention of Magic Formula Investing. He is the author of two investment books, including "The Little Book that Beats the Market." He is also an adjunct professor at the Columbia Business School.
Disclosure:Â I have no positions in any stock discussed in this article.
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