Did Coty Inc. pay too much for Procter & Gamble beauty brands?

CFO: This is a great outcome for shareholders
Posted at 7:00 AM, Oct 13, 2016
and last updated 2016-10-13 10:30:25-04

CINCINNATI - When a shareholder at Procter & Gamble Co.’s annual meeting questioned the $11.4 billion sale price of 41 beauty brands to Coty Inc., Chief Financial Officer Jon Moeller defended the deal with a fairly provocative retort.

“This is about $5 billion more than we felt we could create internally by retaining those brands, so this is a great outcome for share owners,” Moeller said.

At least one shareholder took that to mean that Moeller thought Coty overpaid for the brands.

“The impression I got out of it was, ‘Hey, we got $5 billion more than we thought we could,’” said Mike Brautigam. “In other words, ‘We would have taken less.’”

Bernstein Research analyst Ali Dibadj offered a different explanation: “I actually think it means P&G ran those brands quite poorly and that Coty can do better with them.”

P&G spokesman Damon Jones said neither interpretation is correct.

Moeller was not trying to suggest Coty overpaid for the 41 brands, only that “it was a wise decision to divest” based on “how much profit we’d have made if we had retained the business versus selling it to Coty.”

At the same time, Jones said it’s not unusual for a buyer to place a different value on assets than a seller.

“This is not a zero sum game,” he said. “Just because P&G got X, that doesn’t man Coty lost Y.”

Investors seem to be siding with P&G these days. The company now has 14 analysts with a “buy” recommendation on the stock, including one – B. Riley & Co. – predicting that P&G shares will reach $105. The stock closed Tuesday at $88.54.

In addition, the shareholder who asked the question – Carl Broeckman of Pleasant Ridge – said he was basically satisfied with Moeller’s answer.

Coty has not responded to questions about the deal’s final value, but it did offer some details on how the 41 brands will impact its company in an Oct. 3 press release. Coty said the deal will improve profit margins to an industry-leading 19.6 percent within four years and “generate close to $1 billion in free cash flow” within two years.

“I believe this combination, together with our distinctive entrepreneurial culture, focused and lean operating structure, and efficient earnings model, will enable Coty to be a challenger in the beauty industry,” Coty CEO Camillo Pane said.

Still, it’s clear that Coty bought a smaller piece of business at the end of the transaction that it agreed to buy at the beginning.

“The business has shrunk,” Dibadj said. “What Coty actually bought was $4.4 billion in revenue and $850 million of EBITDA,” or earnings before taxes depreciation and amortization.

Some of that decline came from the exclusion of two perfume brands from the sale, but Dibadj said foreign exchange impacts and sluggish growth were also factors.

When P&G announced the transaction in July 2015, it said it expected to sell 43 brands that generated $5.9 billion in 2014 revenue and $1.1 billion in operating profits. In the end, it sold 41 brands that generated revenue of $4.4 billion and operating income of $188 million in the 12 months ending June 30, 2016, according to P&G filings with the Securities and Exchange Commission.

One reason for the decline: Brands licensed by Christina Aguilera and Dolce & Gabbana refused to OK the deal. So, they were excluded.

P&G filings said the two excluded brands – and five others sold to other buyers -- represented $506 million in revenue in its 2016 fiscal year.

Those filings also show P&G paid a $73 million termination fee to Dolce & Gabbana, which refused to approve its license transfer to Coty. P&G also took a $42 million asset-impairment charge against earnings, related to Dolce & Gabbana carve out.

All of that leaves shareholder Mike Brautigam with even more unanswered questions. What time frame is covered by Moeller’s analysis that P&G got $5 billion more from the deal than it would have received by keeping the brands? Did he include in his analysis the impact of one-time charges related to Dolce & Gabbana? More importantly, was Moeller admitting that P&G wasn’t operating the brands effectively – so they had to be unloaded?

“I think they left money on the table,” Brautigam said. “What they said is so ambiguous that it’s completely open to interpretation. Therefore, it’s wrong and misleading.”