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| AVP > SEC Filings for AVP > Form 10-Q on 30-Jul-2009 | All Recent SEC Filings |
30-Jul-2009
Quarterly Report
(Dollars in millions, except per share data)
OVERVIEW
We are a global manufacturer and marketer of beauty and related products. Our business is conducted worldwide, primarily in the direct selling channel. We presently have sales operations in 67 countries and territories, including the United States, and distribute products in 43 more. Our reportable segments are based on geographic operations in six regions: Latin America; North America; Central & Eastern Europe; Western Europe, Middle East & Africa; Asia Pacific; and China. We centrally manage global Brand Marketing, Supply Chain and Sales organizations. Product categories include: Beauty, which consists of cosmetics, fragrances, skin care and toiletries; Fashion, which consists of fashion jewelry, watches, apparel, footwear and accessories; and Home, which consists of gift and decorative products, housewares, entertainment and leisure products and children's and nutritional products. Sales from Health and Wellness products and mark., a global cosmetics brand that focuses on the market for young women, are included among these three categories based on product type. Sales are made to the ultimate consumer principally through direct selling by approximately 5.8 million independent Representatives, who are independent contractors and not employees of Avon. The success of our business is highly dependent on recruiting, retaining and servicing our Representatives.
We view the geographic diversity of our businesses as a strategic advantage in part because it allows us to participate in higher growth beauty markets internationally. In developed markets, such as the United States, we seek to achieve growth in line with that of the overall beauty market, while in developing and emerging markets we seek to achieve higher growth targets. During 2008, approximately 80% of our consolidated revenue was derived from operations outside the U.S. When we first penetrate a market, we typically experience high growth rates and, as we reach scale in that market, growth rates generally decline.
During the first half of 2009, revenues decreased 11%, impacted by unfavorable foreign exchange and the depressed global economy. Local currency revenue increased 4%, with increases in all segments except North America and Asia Pacific. Sales from products in the Beauty category decreased 11%, due to unfavorable foreign exchange. On a local currency basis, sales of products in the Beauty category increased 5% due to a 2% increase in units and 3% increase in net per unit. Active Representatives increased 9%. The unfavorable impact of foreign exchange lowered operating margin by an estimated 4 points (approximately 3 points from foreign-exchange transactions and approximately 1 point from foreign-exchange translation), year over year. See the "Segment Review" section of Management's Discussion and Analysis of Financial Condition and Results of Operations for additional information related to changes in revenue by segment.
We expect that the global economic pressures and negative impact of foreign currency will continue in the foreseeable future and that 2009 will continue to be a challenging year. Given the current macro-economic environment, we expect that revenue growth in 2009 may be somewhat lower than our long-term revenue growth, which is expected to average mid-single digits, excluding the impact of foreign exchange. We also expect that operating margin in 2009 will continue to be pressured by the unfavorable impacts of foreign exchange, both foreign currency translation and the impact of transaction losses caused by changes in foreign exchange. Operating margin will also be negatively impacted by restructuring charges during 2009. We believe benefits from our strategic sourcing initiative ("SSI") program, focusing on manufacturing productivity, changing sourcing of raw materials and finished goods to help mitigate foreign exchange impacts, and some softening in commodity costs will help to partially offset the negative impact of foreign exchange. We continue to look for ways to transform our cost structure and intend to reduce non-strategic spending during 2009, while continuing our strategies of investing in advertising and our Representatives, which we continue to expect will remain constant as a percent of revenue for the full year on a combined basis. We also continue to offer an increased assortment of "smart value" products, which are quality products at affordable price points, and promote our Representative earnings opportunity to a wider audience.
We believe that our operating cash flow and global cash balances of $1.2 billion, coupled with the continuing execution of our turnaround strategies and the competitive advantages of our direct selling business model, will allow us to look beyond the 2009 challenges and continue our focus on long-term sustainable, profitable growth.
AVON PRODUCTS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in millions, except per share data)
Our strategic initiatives include advertising and representative value proposition ("RVP") investments, the product line simplification program ("PLS"), SSI, enterprise resource planning system, zero-overheard-growth philosophy and sales and operation planning process. We are also implementing restructuring initiatives under our 2005 and 2009 Restructuring Programs. We recently announced initiatives to realign manufacturing operations, primarily in North America and Europe, and improve operating model effectiveness in Latin America and Western Europe. For a description of our key strategic initiatives, please refer to Item 7 of our 2008 Annual Report on Form 10-K ("2008 Form 10-K"). With regards to our four major initiatives, SSI, PLS and the two restructuring programs, we remain on track with our expectations included in the 2008 Form 10-K. See Note 9, Restructuring Initiatives, of the Notes to Consolidated Financial Statements for more information on our restructuring programs.
NEW ACCOUNTING STANDARDS
Information relating to new accounting standards is included in Note 1, Accounting Policies, of the Notes to Consolidated Financial Statements.
RESULTS OF OPERATIONS-THREE AND SIX MONTHS ENDED JUNE 30, 2009, AS COMPARED TO
JUNE 30, 2008
Consolidated
Three Months Ended June 30, Six Months Ended June 30,
Favorable Favorable
(Unfavorable) (Unfavorable)
%/Point %/Point
2009 2008 Change 2009 2008 Change
Total revenue $ 2,470.3 $ 2,736.1 (10 )% $ 4,650.1 $ 5,237.8 (11 )%
Cost of sales 934.3 993.4 6 % 1,745.5 1,917.1 9 %
Selling, general and
administrative expenses 1,353.1 1,368.8 1 % 2,553.3 2,650.6 4 %
Operating profit 182.9 373.9 (51 )% 351.3 670.1 (48 )%
Interest expense 27.9 26.1 (7 )% 52.7 52.2 (1 )%
Interest income (4.7 ) (8.6 ) (45 )% (12.0 ) (17.8 ) (33 )%
Other expense, net (0.2 ) 12.0 102 % 4.0 12.7 69 %
Net income 82.9 235.6 (65 )% 200.2 420.3 (52 )%
Diluted earnings per share .19 .55 (65 )% .46 .98 (53 )%
Advertising expenses* 81.7 102.7 20 % 159.6 184.3 13 %
Gross margin 62.2 % 63.7 % (1.5 ) 62.5 % 63.4 % (0.9 )
Selling, general and
administrative expenses as a %
of total revenue 54.8 % 50.0 % (4.8 ) 54.9 % 50.6 % (4.3 )
Operating margin 7.4 % 13.7 % (6.3 ) 7.6 % 12.8 % (5.2 )
Effective tax rate 47.1 % 31.2 % (15.9 ) 34.1 % 32.1 % (2.0 )
Units sold 2 % 1 %
Active Representatives 11 % 9 %
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* Advertising expenses are included within selling, general and administrative expenses.
AVON PRODUCTS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in millions, except per share data)
Revenue
Total revenue decreased 10% for the three months ended June 30, 2009, with unfavorable foreign exchange accounting for 15 percentage points of the revenue decline. Local currency revenue increased 5%, with increases in Latin America, Central & Eastern Europe, Western Europe, Middle East & Africa and China and decreases in local currency revenues in North America. Revenue in Asia Pacific was flat for the period. Active Representatives increased 11%.
On a category basis, the decrease in revenue for the three months ended June 30, 2009, was primarily driven by a decrease of 10% in Beauty sales, with decreases in all sub-categories of Beauty. Within the Beauty category, skincare declined 12%, personal care declined 10%, fragrance declined 9% and color declined 9%. Fashion sales decreased 13% and Home sales decreased 1%. Local currency sales of our product categories increased 5%, with the Beauty category increasing 5%. Within the Beauty category, local currency sales of skincare increased 1%, personal care increased 6%, fragrance increased 8% and color increased 7%. Local currency sales of Fashion decreased 3% and Home increased 12%.
Total revenue decreased 11% for the six months ended June 30, 2009, with unfavorable foreign exchange accounting for 15 percentage points to the revenue decline. Local currency revenue increased 4%, with increases in all segments except North America and Asia Pacific. Active Representatives increased 9%.
On a category basis, decrease in revenue for the six months ended June 30, 2009 was primarily driven by a decrease of 11% in Beauty sales, with decreases in all sub-categories of Beauty. Within the Beauty category, skincare declined 14%, personal care declined 10%, fragrance declined 10% and color declined 9%. Fashion sales decreased 12% and Home sales decreased 10%. Local currency sales of our product categories increased 4%, with the Beauty category increasing 5%. Within the Beauty category, local currency sales of skincare decreased 1%, personal care increased 7%, fragrance increased 8% and color increased 8%. Local currency sales of Fashion decreased 2% and Home increased 4%.
Gross Margin
Gross margin for the three and six months ended June 30, 2009, decreased by 1.5 points and 0.9 points respectively. We estimate that the unfavorable impact of transaction foreign exchange lowered gross margin by approximately 2 points for the three and six-month periods ended June 30, 2009. We were able to offset a portion of this negative impact from foreign exchange through improved pricing, manufacturing productivity gains and benefits from SSI. During the three and six months ended June 30, 2008, gross margin was benefited by approximately $13 of reduced obsolescence as a result of changes in estimates to our disposition plan under our PLS program.
Selling, General and Administrative Expenses
Selling, general and administrative expenses for the three and six-month periods ended June 30, 2009, decreased $15.7 and $97.3, respectively. The decrease for both three and six-month periods primarily related to lower advertising costs, which decreased by 20% and 13%, respectively, offset by higher costs incurred to implement our restructuring initiatives. We recorded charges under our 2005 and 2009 restructuring programs of $89.4 and $103.9 during the three and six-month periods ended June 30, 2009, respectively, as compared to $13.3 and $38.8 during the respective periods of 2008. Additionally, as a percentage of revenue, selling, general and administrative expenses for the three and six-month periods ended June 30, 2009, increased by 4.8 and 4.3 points, respectively, due to:
• the decline in revenues caused by the impact of unfavorable foreign exchange, while selling, general and administrative expenses are disproportionately U.S. dollar based;
• higher brochure costs due to higher cost of paper, additional flyers and brochure pages to offer "smart value" products and an increase in the number of brochures due to a larger number of Representatives;
• incremental investments of approximately $13 and $24 for the three and six-month periods ended June 30, 2009, incrementally in our Representatives through RVP by continued implementation of our Sales Leadership program, enhanced incentives, increased sales campaign frequency, improved commissions and new e-business tools. This incremental investment was ahead of revenue growth;
• higher bad debt expense as a percent of revenues caused by an influx of new Representatives, who normally have a higher rate of default than established Representatives, as well as economic conditions; and
AVON PRODUCTS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in millions, except per share data)
• higher distribution costs as a percent of sales due to the impact of processing more, smaller orders.
See the "Segment Review" section of Management's Discussion and Analysis of Financial Condition and Results of Operations for additional information related to changes in operating margin by segment.
Other Expense
Interest expense for the three and six-month periods ended June 30, 2009, increased by 7% and 1%, respectively, due to increased borrowings, partially offset by lower interest rates. At June 30, 2009, we held interest-rate swap agreements that effectively converted approximately 84% of our outstanding long-term, fixed-rate borrowings to a variable interest rate based on LIBOR.
Interest income for the three and six-month periods ended June 30, 2009, decreased by 45% and 33%, respectively, primarily due to lower interest rates.
Other (income) expense, net for the three month period ended June 30, 2009, benefited from foreign exchange gains as compared to foreign exchange losses in the prior year. Other (income) expense, net for the six-month period ended June 30, 2009, was a lower expense than the prior year as a result of lower foreign exchange losses.
Effective Tax Rate
The effective tax rate for the three and six months ended June 30, 2009, was 47.1% and 34.1%, respectively, compared to rates of 31.2% and 32.1%, for the same periods of 2008. The effective tax rates for the three and six months ended June 30, 2009, include the establishment of a valuation allowance of $21.3 against certain deferred tax assets as a result of restructuring activities and a higher tax cost associated with the repatriation of anticipated current year earnings. The effective tax rate for the six months ended June 30, 2009 was benefited by a reduction in a foreign tax liability as a result of a planning strategy.
Segment Review
Latin America
Three Months Ended June 30, Six Months Ended June 30,
%/Point Change %/Point Change
Local Local
2009 2008 US$ Currency 2009 2008 US$ Currency
Revenue $ 977.0 $ 1,010.7 (3 )% 15 % $ 1,771.0 $ 1,875.0 (6 )% 15 %
Operating profit 133.9 187.5 (29 )% (11 )% 222.1 308.1 (28 )% (7 )%
Operating margin 13.7 % 18.6 % (4.9 ) (4.0 ) 12.5 % 16.4 % (3.9 ) (2.9 )
Units sold 5 % 6 %
Active Representatives 13 % 10 %
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Revenue decreased for both the three and six-month periods of 2009 due to the impact of unfavorable foreign exchange. Local currency revenue increased for both the three and six-month periods of 2009 reflecting growth in Active Representatives, driven by significant investments in RVP and a higher average order. The impact of unfavorable foreign exchange rates drove revenue declines of 2% in Brazil and 11% in Mexico. Local currency revenue for the three months ended June 30, 2009, benefited from continued growth in most markets, particularly from increases of 23% in Brazil and 14% in Mexico. Revenue declined 9% in Brazil and 12% in Mexico for the six months ended June 30, 2009, due to the impact of unfavorable foreign exchange rates. Local currency revenue for the six months ended June 30, 2009, benefited from continued growth in most markets, particularly from increases of 18% in Brazil and 15% in Mexico. Revenue in Venezuela for the three and six-month periods of 2009 grew 2% and 7%, respectively, in both local and U.S. Dollars.
AVON PRODUCTS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in millions, except per share data)
Local currency revenue growth for both the three and six-months periods of 2009 in Brazil was primarily driven by an increase in average order, as well as an increase in Active Representatives. Local currency revenue growth in Mexico for both the three and six-months periods of 2009 was driven by a significant increase in Active Representatives, partially offset by a lower average order. Revenue growth in Venezuela for both the three and six-month periods of 2009 reflected increased prices due to inflation.
The decrease in operating margin for both the three and six-month periods of 2009 in Latin America was primarily due to the impact of unfavorable foreign exchange, including the impacts of foreign exchange transactions as well as translation, which negatively impacted operating margin for both periods by an estimated 3 points and 4 points, respectively. Additionally, higher costs to implement restructuring initiatives negatively impacted operating margin for both periods by 2.3 points and 1.6 points, respectively.
Currency restrictions enacted by the Venezuelan government in 2003 have impacted the ability of our subsidiary in Venezuela ("Avon Venezuela") to obtain foreign currency at the official rate to pay for imported products. Unless official foreign exchange is made more readily available, Avon Venezuela's operations will continue to be negatively impacted as it will need to obtain more of its foreign currency needs from non-government sources where the exchange rate is unfavorable as compared to the official rate.
At June 30, 2009, Avon Venezuela had cash balances of approximately $136, primarily denominated in bolivars. The last dividends repatriated to the U.S. were during 2007, when Avon Venezuela remitted dividends of approximately $40 at the official exchange rate. Avon Venezuela continues to receive official foreign exchange for some of its imports and other remittances. As a result, we continue to use the official rate to translate the financial statements of Avon Venezuela into U.S. dollars. In 2008, Avon Venezuela's revenue and operating profit represented approximately 4% and 8% of Avon's consolidated revenue and Avon's consolidated operating profit, respectively.
Inflation in Venezuela has continued to increase over the past few years and it is possible that Venezuela will be designated as a highly inflationary economy during 2009. Gains and losses resulting from the translation of the financial statements of subsidiaries operating in high inflationary economies are recorded in earnings. If Venezuela is designated as a highly inflationary economy and there is a devaluation of the official rate, earnings will be negatively impacted. For example, based on the balance sheet of Avon Venezuela at June 30, 2009, if Venezuela is designated as a highly inflationary economy and there is a 20% devaluation, our pre-tax earnings would be negatively impacted by approximately $60. Additionally, revenue and operating profit on an ongoing basis would be impacted by the devaluation.
North America
Three Months Ended June 30, Six Months Ended June 30,
%/Point Change %/Point Change
Local Local
2009 2008 US$ Currency 2009 2008 US$ Currency
Revenue $ 570.6 $ 633.3 (10 )% (8 )% $ 1,096.3 $ 1,226.9 (11 )% (9 )%
Operating profit 25.1 75.2 (67 )% (65 )% 47.6 139.1 (66 )% (64 )%
Operating margin 4.4 % 11.9 % (7.5 ) (7.2 ) 4.3 % 11.3 % (7.0 ) (6.8 )
Units sold (6 )% (7 )%
Active Representatives 4 % 2 %
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North America consists largely of the U.S. business.
Revenue for both the three and six-month periods of 2009 was negatively impacted by the continued recessionary pressure. Total revenue decreased for both the three and six-month periods of 2009 as a lower average order received from Representatives more than offset an increase in Active Representatives. Average order remains challenging particularly in our non-beauty categories. The growth in Active Representatives of 4% and 2% for the three and six-month periods of 2009 reflects the company's ongoing recruiting and training efforts. Given the economic environment, we expect continued pressure on our results in North America.
AVON PRODUCTS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in millions, except per share data)
The decrease in both the three and six-month periods of 2009 operating margin in North America was primarily driven by the impact of lower revenues and fixed overhead expense. Additionally, higher costs to implement restructuring initiatives negatively impacted operating margin for both periods by 2.7 points and 1.5 points, respectively.
Central & Eastern Europe
Three Months Ended June 30, Six Months Ended June 30,
%/Point Change %/Point Change
Local Local
2009 2008 US$ Currency 2009 2008 US$ Currency
Revenue $ 324.4 $ 432.6 (25 )% 3 % $ 645.8 $ 854.2 (24 )% 3 %
Operating profit 19.4 91.6 (79 )% (66 )% 67.7 184.7 (63 )% (48 )%
Operating margin 6.0 % 21.2 % (15.2 ) (13.7 ) 10.5 % 21.6 % (11.1 ) (10.5 )
Units sold (4 )% (3 )%
Active Representatives 6 % 8 %
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Revenue decreased for both the three and six-month periods of 2009 as a result of unfavorable foreign exchange. Local currency revenue for the six months ended June 30, 2009, increased despite continued recessionary pressure throughout the region, reflecting growth in Active Representatives, driven by investments in RVP, offset by a lower average order. While the impact of unfavorable foreign exchange rates drove revenue declines during the three months ended June 30, 2009, of 16% in Russia and 38% in Ukraine, local currency revenue grew 14% in Russia and declined 4% in Ukraine. The impact of unfavorable foreign exchange rates drove revenue declines for the six months ended June 30, 2009, of 21% in Russia and 28% in Ukraine. Local currency revenue for the six months ended June 30, 2009, grew 10% in Russia and 11% in Ukraine.
The local currency revenue increase in Russia for the three and six months ended June 30, 2009, was primarily due to strong growth in Active Representatives. In late 2008, we completed the roll-out of Sales Leadership and improved the discount structure we offered Representatives in Russia. Offsetting the improved sequential growth rate in Russia was a sequential decline in Ukraine. We experienced a decline of 4% in local currency revenue in Ukraine during the second quarter of 2009 as compared to a 25% local currency revenue growth for the first quarter of 2009 due to the negative impact of current economic conditions.
The decrease in operating margin for both the three and six-month periods of 2009 was primarily driven by unfavorable foreign exchange, including the impacts of foreign exchange transactions as well as translation, which negatively impacted operating margin for both periods by an estimated 7 points and 6 . . .
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