e.l.f Beauty (ELF) is trading lower (-8%) after reporting Q1 earnings last night. In fact, the stock sold off aggressively after the close last night, down to the $24.50 range before bouncing back to the $28 area. Since it's a recent IPO with some attractive growth qualities, we thought it'd be good to provide some color on the Q1 results and the trading action.
In case you're not familiar, next time you're at WalMart (WMT) or Target (TGT), go into the cosmetics section and look for e.l.f Beauty cosmetics. Its goal is to make luxurious beauty accessible for all women as it challenges the traditional belief that quality cosmetics are only available at high prices in select channels. Walmart and Target accounted for 30% and 28%, respectively, of sales in 2016.
e.l.f. offers high-quality, prestige-inspired beauty products for eyes, lips and face (that's where the e.l.f. name comes from) at an attractive value, with the majority of its items retailing for $6 or less. Its price points encourage trial and experimentation. As a result, e.l.f Beauty is one of the fastest growing cosmetics companies in the US. Examples of its pricing include: e.l.f. Mineral Infused Face Primer at $6 versus a prestige primer at $36, e.l.f. Baked Eyeshadow Trio at $4 versus a competitive baked eyeshadow trio at $28 and e.l.f. Lip Exfoliator at $3 versus a similar type of lip treatment at $24.
There is a gap between high-priced prestige beauty products and less innovative mass products. ELF feels that it fills this gap. The company has drawn a strong following among the most sought after and heaviest users of cosmetic products. ELF also has strong appeal with Millennials and Hispanics, two of the fastest growing demographic groups in the US. This attractive and loyal consumer base supports high sales per linear foot and higher category sales for its retail customers.
Its products are first launched on elfcosmetics.com, and distribution is generally only broadened to retail customers like WMT and TGT after ELF receives strong consumer validation online. The company believes this has led to its consistently strong retail sales per linear foot of shelf space, which it refers to as "productivity."
Turning to the Q1 results, non-GAAP EPS rose 50% YoY to $0.09, which was quite a bit better than market expectations. Revenue rose 15.0% year/year to $60.6 mln, which was slightly better than expected. ELF also reaffirmed guidance for FY17, it sees non-GAAP EPS of $0.40-0.43 and revenue of $285-295 mln.
On the call, ELF talked quite a bit about how it focuses on innovation. On this front, ELF had 21 product launches in Q1, including an expansion of its skin care segment. Also, ELF said it was excited about the expansion of its international business. Specifically, it recently launched its products at Superdrug, a key retailer in the UK.
So why did the stock trade lower initially? It seems, based on the questions from the analysts on the call, that ELF's inventory build was a concern. ELF ended $Q1 with $76.9 mln in inventories vs $69.4 mln at the end of 2016 and vs $28.4 mln at the end of the prior year period. Inventory builds can lead to concerns that product is not selling and may lead to discounting and margin erosion etc.
ELF explained the inventory build by saying that it proactively took up its inventory in fast moving items as the company wanted to make sure it could satisfy demand. ELF conceded that perhaps it did overshoot a little bit on inventory. However, its current inventory is heavy on fast moving items, so the company is comfortable that will sell and levels will normalize.
In sum, while the stock is off its lows from last night, it is still trading to the downside today. While it was a nice beat, perhaps there are some lingering concerns about the inventory and perhaps investors would have liked to have seen ELF raise full year guidance at least by the amount they beat expectations in Q1. Perhaps ELF is just being conservative but perhaps some think it could mean management is a bit cautious about the upcoming quarters.
From a broader perspective, investors really like the niche ELF serves, somewhere between prestige and mass market cosmetics. If they can provide quality cosmetics for $6 or less, we can see how that is attractive to a lot of women. That price point allows for a lot of experimentation by customers. Another nice tidbit is that ELF has strong appeal with Millennials and Hispanics, two of the fastest growing demographic groups in the US. We also like that they have their own strong online presence. ELF will be an interesting name to watch in the coming months.