20172017 ANNUAL REPORT REPORT ANNUAL ANNUAL Sally Beauty Holdings, Inc. Inc. Holdings, Holdings, Beauty Beauty Sally Sally [ IN BEAUTY ]] BEAUTY BEAUTY IN IN [ [ STRENGTH STRENGTH
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716661cvr.indd 2 AboutAbout Sally Sally Beauty Beauty Holdings, Holdings, Inc. Inc.
SALLYSALLY BEAUTY BEAUTY HOLDINGS, HOLDINGS, INC. INC.(NYSE: (NYSE: SBH) SBH) OperatingOperating Segments Segments (as of (as September of September 30, 2017) 30, 2017) IS ANIS INTERNATIONALAN INTERNATIONAL SPECIALTY SPECIALTY RETAILER RETAILER SallySally Beauty Beauty Supply Supply ANDAND DISTRIBUTOR DISTRIBUTOR OF PROFESSIONAL OF PROFESSIONAL BEAUTY BEAUTY + An+ open-lineAn open-line and exclusive-labeland exclusive-label beauty beauty products products SUPPLIESSUPPLIES WITH WITH ANNUAL ANNUAL REVENUES REVENUES OF OF retailerretailer offering offering professional professional beauty beauty products products to to both bothretail retail consumers consumers and salonand salon professionals professionals $3.9$3.9 BILLION BILLION AND AND NET NETEARNINGS EARNINGS OF $215 OF $215 MILLION. MILLION. + Began+ Began operations operations in 1964 in 1964 The companyThe company operates operates primarily primarily through through two businesstwo business + 3,782+ 3,782 stores stores worldwide worldwide units,units, Sally Sall Beautyy Beauty Supply Supply and Beautyand Beauty Systems Systems Group, Group, and and is theis largest the largest distributor distributor of professional of professional beauty beauty supplies supplies • 2,883• 2,883 in the in United the United States States (including (including Puerto Puerto Rico) Rico) in thein United the United States States based based on store on store count. count. We provide We provide our our • 899• outside899 outside of the of United the United States States customerscustomers with witha wide a widevariety variety of leading of leading third-party third-party branded branded and exclusiveand exclusive label labelprofessional professional beauty beauty supplies, supplies, including including + Annual+ Annual sales sales of $2.3 of $2.3billion; billion; gross gross profit profit margin margin hair colorhair color and hairand carehair careproducts, products, styling styling tools, tools, skin skinand nailand nail of 55.6%of 55.6% care careproducts products and otherand other beauty beauty items. items. + Average+ Average store store size 1,700size 1,700 square square feet feet The TheSally Sally Beauty Beauty Supply Supply and Beautyand Beauty Systems Systems Group Group + Comprehensive+ Comprehensive product product assortment assortment with with businessesbusinesses sell and sell distributeand distribute through through 5,150 5,150 stores, stores, approximatelyapproximately 8,000 8,000 SKUs SKUs includingincluding 187 franchised187 franchised units, units, throughout throughout the United the United States States (including(including Puerto Puerto Rico), Rico), Canada, Canada, Mexico, Mexico, Chile, Chile, Peru, Peru, the the BeautyBeauty Systems Systems Group Group UnitedUnited Kingdom, Kingdom, Ireland, Ireland, Belgium, Belgium, France, France, Germany, Germany, the the + A +leadingA leading full-service full-service beauty beauty products products distributor distributor NetherlandsNetherlands and Spain.and Spain. Approximately Approximately 82% of82% consolidated of consolidated offeringoffering professional professional beauty beauty products products exclusively exclusively to to net salesnet sales are from are from customers customers located located in the in United the United States. States. professionalprofessional stylists stylists and salonsand salons for use for anduse resaleand resale to theirto their customers. customers. SallySally Beauty Beauty Supply Supply has 3,782has 3,782 stores stores worldwide; worldwide; 2,883 2,883 are are locatedlocated in the in United the United States States (including (including Puerto Puerto Rico) Rico) and and + 1,368+ 1,368 stores stores in North in North America America 899 are899 located are located outside outside of the of United the United States. States. Sally Sall Beautyy Beauty • 1,200• 1,200 company-operated company-operated SupplySupply offers offers up to up 8,000 to 8,000 SKUs SKUs of professional of professional beauty beauty productsproducts for hair for care,hair care, hair color,hair color, styling styling tools tools and nailsand nails • 168• franchises168 franchises throughthrough leading leading third-party third-party brands brands and exclusive-labeland exclusive-label + 829+ direct829 direct distributor distributor sales sales consultants consultants professionalprofessional product product lines. lines. Sally Sally Beauty Beauty Supply’s Supply’s customer customer basebase includes includes retail retail consumers consumers and salonand salon professionals. professionals. + Annual+ Annual sales sales of $1.6 of billion;$1.6 billion; gross gross profit profit marginmargin of 41.5% of 41.5% The BeautyThe Beauty Systems Systems Group Group business business has 1,368has 1,368 stores, stores, + Average+ Average store store size 2,700size 2,700 square square feet feet includingincluding 168 franchise168 franchise stores. stores. Beauty Beauty Systems Systems Group Group also also has onehas ofone the of largest the largest networks networks of professional of professional distributor distributor + Comprehensive+ Comprehensive product product assortment assortment with with salessales consultants consultants in North in North America, America, with withapproximately approximately 829. 829. approximatelyapproximately 10,500 10,500 SKUs SKUs The BeautyThe Beauty Systems Systems Group Group stores stores and salesand sales consultants consultants + Broad+ Broad selection selection of third-party of third-party branded branded professional professional sell upsell to up 10,500 to 10,500 SKUs SKUs of merchandise of merchandise that thatinclude include beautybeauty products products not available not available in retail in retail professionallyprofessionally branded branded hair colorhair color and hairand carehair careproducts, products, stylingstyling tools tools and nailand productsnail products that thatare sold are soldexclusively exclusively to professionalto professional stylists stylists and salonsand salons for use for anduse resaleand resale to to theirtheir customers. customers.
ForFor more more information information about about Sally Sally Beauty Beauty Holdings, Holdings, Inc., Inc., pleaseplease visit visit sallybeautyholdings.com. sallybeautyholdings.com. [ CONTENTS ]
LETTER TO SHAREHOLDERS
GLOBAL FOOTPRINT
FINANCIAL HIGHLIGHTS
716661txt.indd 1 11/28/17 9:43 PM [ DEAR FELLOW ] SHAREHOLDERS
In last year’s letter to shareholders, + Found new and creative ways to communicate our unique value proposition through both social media and I described our efforts to make investments traditional media. designed to strengthen our competitive + Continued to expand our store footprint and brand in position and enhance the customer fast-growing international markets. experience, including investments focused on the in-store experience and state-of-the-art Our Beauty Systems Group had another successful year. The business continued to drive sales growth and strong customer relationship management (CRM). bottom-line performance by offering a wide variety of Those efforts continued in fiscal 2017, as we new brands and exclusive distribution and by executing its customer experience strategy through stores and salon implemented several initiatives designed consulting teams. We remained focused on putting stylists, to streamline the business, focus on our salon customers and manufacturers at the center of all customers’ needs and invest in our future. our efforts as we:
+ Realigned and consolidated segments of the business In our Sally Beauty Supply business, we completed in order to drive our strategy forward. the next phase of our customer engagement and conversion strategy: + Launched a new mobile application for our stylist customers, and implemented other best-in-class + Realigned our Field organization to bring our teams technology solutions. closer to our customers and deliver a more consistent brand experience. + Continued to expand our CRM capabilities, customizing messages to our customers based on their shopping + Leveraged our CRM capabilities by expanding our patterns and unique needs. customer database and refining our approach to consumer engagement. + Cultivated a balanced portfolio through acquisitions and brand exclusivity. + Introduced several new and exciting brands. + Continued to evolve the in-store experience. + Rolled out a new relationship-based selling model to our store associates and provided them with tools to In summary, we remain confident in our ability to improve better serve our customers. performance in Sally Beauty Supply and in the long-term growth prospects of our Beauty Systems Group distribution + Piloted our new customer loyalty program in two business. Looking ahead, we will seek to make strategic important geographies. investments in the business that will drive growth, maintain cost discipline, better support our customers and provide + Invested in our e-commerce platform in order long-term value for our shareholders. to achieve two-day delivery to the vast majority of U.S. households by the middle of fiscal 2018.
02 | Sally Beauty Holdings, Inc.
716661txt.indd 2 11/28/17 9:43 PM Highlights of Fiscal Year 2017: + Successfully refinanced a portion of the company’s long-term debt + Continued solid performance in Beauty Systems Group + Generated cash flow from operations of $344 million + Maintained strong cash flow in Sally Beauty + Repurchased $346 million, or 16 million shares, of common stock + Successfully opened 31 net new stores; ended the year with 5,150 stores Financial Results in Fiscal Year 2017 + Completed the streamlining During FY 2017, our consolidated net and realignment of our U.S. and sales were $3.9 billion, a slight decline Canadian operations of 0.4% compared to the prior year.
“Looking ahead, we will seek to make strategic investments in the business that will drive growth . . .”
2017 Annual Report | 03
716661txt.indd 3 11/28/17 9:43 PM BEAUTY IS IN THE HAND
We put the stylists at the center of everything we do.
04 | Sally Beauty Holdings, Inc.
716661txt.indd 4 11/28/17 9:43 PM Negative foreign exchange translation, the business disruption from hurricanes late in the fiscal year and the impact of an extra selling day in the prior year—which was a leap year—were largely offset by the impact of strategic pricing increases, increases in average basket and positive same store sales performance for Beauty Systems Group and our Sally business outside the U.S.
Global same store sales declined 0.7%, including a negative impact of 0.5% related to hurricanes and the leap year. Gross profit ended the year at $2.0 billion, essentially flat to the prior year, with gross margin up 20 basis points to 49.9%. Diluted earnings per share were $1.56, up 4.0% versus the prior year. We generated $344 million in cash flow from operations, which funded our capital investments and stock repurchases.
Global Presence
We now operate 4,131 stores in the United States and Puerto Rico. Outside of the U.S. and Puerto Rico, we operate 1,019 stores in 11 countries: Canada, Mexico, Chile, Peru, the United Kingdom, Ireland, Belgium, France, Germany, the Netherlands and Spain.
Summary
Our strategies for fiscal 2018 will continue to center on our corporate value: “We Put Our Customers First.” From implementing new, innovative technology solutions and significantly improving our e-commerce delivery service to executing our integrated marketing and CRM strategies, our customers’ needs will remain at the center of everything we do. These efforts will be supported by our goal of continuing to operate the company as efficiently as possible.
As always, thank you for your support.
Best regards,
CHRIS BRICKMAN President and Chief Executive Officer
2017 Annual Report | 05
716661txt.indd 5 11/28/17 9:43 PM [ GLOBAL FOOTPRINT ] ( Store Count as of September 30, 2017 )
Sally Beauty Supply Beauty Systems Group Total Company North America United States 2,841 1,246 4,087 Puerto Rico 42 2 44 Canada 139 101 240 Mexico 227 19 246
North America Total 3,249 1,368 4,617
International United Kingdom 259 – 259 Belgium 51 – 51 Chile 41 – 41 Peru 25 – 25 Ireland 9 – 9 France 74 – 74 Germany 18 – 18 Netherlands 31 – 31 Spain 25 – 25
International Total 533 – 533
Total Store Count 3,782 1,368 5,150 Direct Sales Consultants – 829 829
Non-U.S. Stores 899 120 1,019 U.S. Stores[1] 2,883 1,248 4,131 Total Stores 3,782 1,368 5,150
[1] Includes Puerto Rico stores
Our strategies for fiscal 2018 will continue to center on our corporate value: “We Put Our Customers First.”
06 | Sally Beauty Holdings, Inc.
716661txt.indd 6 11/28/17 9:43 PM Consolidated Sales Segment Operating Earnings and Gross Profit Margin and Segment Operating Profit Margin
$4.5 50% $700 18%
$4.0 Total Segment Operating Profit Margin $600 17% $3.5 49% 16% Gross Profit Margin $500 $3.0 15% 48% $2.5 $400 14% $2.0 $300 47% 13% Sales (In Millions) Sales $1.5 $200 12% $1.0 46% $100 11%
$0.5 Earnings (In Thousands) Segment Operating
$0.0 45% $0 10% 2013 2014 2015 2016 2017 2013 2014 2015 2016 2017
Sally Beauty Supply Beauty Systems Group Sally Beauty Supply Beauty Systems Group
2017 Annual Report | 07
716661txt.indd 7 11/28/17 9:43 PM Operate efficiently
Invest in long-term strategic initiatives
08 | Sally Beauty Holdings, Inc.
716661txt.indd 8 11/28/17 9:43 PM Fiscal 2017 Highlights
01 Completed the streamlining and realignment of our U.S. and Canadian operations
02 Generated cash flow from operations of $344 million
03 Launched the new mobile CosmoProf app for our stylist customers
04 Successfully refinanced a portion of the company’s long-term debt
2017 Annual Report | 09
716661txt.indd 9 11/28/17 9:44 PM [ FINANCIAL ] HIGHLIGHTS Dollars in Thousands, Except Per Share Amounts Fiscal Year Ended September 30
Financial Highlights 2017 2016 2015 2014 2013
Net sales Sally Beauty Supply $ 2,345,116 $ 2,386,337 $ 2,351,614 $ 2,332,089 $ 2,252,372 Beauty Systems Group $ 1,593,201 $ 1,566,281 $ 1,482,729 $ 1,421,409 $ 1,369,844
Total Company Sales $ 3,938,317 $ 3,952,618 $ 3,834,343 $ 3,753,498 $ 3,622,216
Consolidated gross profit $ 1,964,895 $ 1,963,940 $ 1,897,851 $ 1,860,172 $ 1,795,263 Gross profit margin 49.9% 49.7% 49.5% 49.6% 49.6%
Operating earnings $ 478,597 $ 498,297 $ 495,326 $ 506,996 $ 520,362 Operating earnings margin 12.2% 12.6% 12.9% 13.5% 14.4%
Consolidated net earnings $ 215,076 $ 222,942 $ 235,087 $ 245,993 $ 261,151 Net earnings per basic share $1.56 $1.51 $1.50 $1.54 $1.52 Net earnings per diluted share $1.56 $1.50 $1.49 $1.51 $1.48 Cash flow from operations $ 344,378 $ 351,005 $ 300,787 $ 315,972 $ 310,454
Operating Highlights
Same store sales growth [1] Sally Beauty Supply -1.6% 1.7% 1.7% 1.3% -0.6% Beauty Systems Group 1.3% 5.5% 5.7% 3.5% 4.2%
Consolidated Same Store Sales Growth -0.7% 2.9% 2.9% 2.0% 0.8%
Number of stores (end of period) Sally Beauty Supply 3,782 3,781 3,673 3,563 3,424 Beauty Systems Group 1,368 1,338 1,294 1,265 1,245
Consolidated Store Count 5,150 5,119 4,967 4,828 4,669
Professional Distributor Sales Consultants 829 936 958 981 982
[1] Same stores are defined as company-operated stores that have been open for 14 months or longer as of the last day of a month.
10 | Sally Beauty Holdings, Inc.
716661txt.indd 10 11/28/17 9:44 PM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED: SEPTEMBER 30, 2017 -OR- TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission File No. 1-33145 SALLY BEAUTY HOLDINGS, INC. (Exact name of registrant as specified in its charter) Delaware 36-2257936 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 3001 Colorado Boulevard 76210 Denton, Texas (Zip Code) (Address of principal executive offices) Registrant’s telephone number, including area code: (940) 898-7500 Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Each Exchange on Which Registered Common Stock, par value $.01 per share New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined under Rule 405 of the Securities Act. YES NO Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. YES NO Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES NO Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES NO Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of ‘‘large accelerated filer,’’ ‘‘accelerated filer,’’ ‘‘smaller reporting company,’’ and ‘‘emerging growth company’’ in Rule 12b-2 of the Exchange Act. Large accelerated filer Accelerated filer Non-accelerated filer Smaller reporting company (Do not check if a smaller Emerging growth company reporting company) If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section13(a) of the Exchange Act. Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.) YES NO The aggregate market value of registrant’s common stock held by non-affiliates of the registrant, based upon the closing price of a share of the registrant’s common stock on March 31, 2017 was approximately $2,826,367,000. At November 10, 2017, there were 128,434,982 shares of the registrant’s common stock outstanding. DOCUMENTS INCORPORATED BY REFERENCE Portions of the registrant’s Proxy Statement relating to the registrant’s 2018 Annual Meeting of Stockholders are incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. TABLE OF CONTENTS
Page PART I ITEM 1. BUSINESS ...... 1 ITEM 1A. RISK FACTORS ...... 13 ITEM 1B. UNRESOLVED STAFF COMMENTS ...... 31 ITEM 2. PROPERTIES ...... 32 ITEM 3. LEGAL PROCEEDINGS ...... 33 ITEM 4. MINE SAFETY DISCLOSURES ...... 33 PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES ...... 34 ITEM 6. SELECTED FINANCIAL DATA ...... 37 ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ...... 39 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ...... 63 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ...... 64 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE ...... 64 ITEM 9A. CONTROLS AND PROCEDURES ...... 64 ITEM 9B. OTHER INFORMATION ...... 66 PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE . . 67 ITEM 11. EXECUTIVE COMPENSATION ...... 67 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS ...... 67 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE ...... 68 ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES ...... 68 PART IV ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES ...... 69
i In this Annual Report, references to ‘‘the Company,’’ ‘‘Sally Beauty,’’ ‘‘our company,’’ ‘‘we,’’ ‘‘our,’’ ‘‘ours’’ and ‘‘us’’ refer to Sally Beauty Holdings, Inc. and its consolidated subsidiaries unless otherwise indicated or the context otherwise requires.
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS Statements in this Annual Report on Form 10-K and in the documents incorporated by reference herein which are not purely historical facts or which depend upon future events may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which we refer to as the Exchange Act. Words such as ‘‘anticipate,’’ ‘‘believe,’’ ‘‘estimate,’’ ‘‘expect,’’ ‘‘intend,’’ ‘‘plan,’’ ‘‘project,’’ ‘‘target,’’ ‘‘can,’’ ‘‘could,’’ ‘‘may,’’ ‘‘should,’’ ‘‘will,’’ ‘‘would’’ or similar expressions may also identify such forward-looking statements. Readers are cautioned not to place undue reliance on forward-looking statements as such statements speak only as of the date they were made. Any forward-looking statements involve risks and uncertainties that could cause actual events or results to differ materially from the events or results described in the forward-looking statements, including, but not limited to, risks and uncertainties related to: • anticipating and effectively responding to changes in consumer and professional stylist preferences and buying trends in a timely manner; • the success of our strategic initiatives, including our store refresh program and increased marketing efforts, to enhance the customer experience, attract new customers, drive brand awareness and improve customer loyalty; • our ability to efficiently manage and control our costs and the success of our cost control plans, including our recently implemented restructuring plans; • our ability to implement our restructuring plans in various jurisdictions; • our ability to manage the effects of our cost-reduction plans on our employees and other operations costs; • charges related to the restructuring plans; • possible changes in the size and components of the expected costs and charges associated with the restructuring plans; • our ability to realize the anticipated cost savings from the restructuring plans within the anticipated time frame, if at all; • the highly competitive nature of, and the increasing consolidation of, the beauty products distribution industry; • the timing and acceptance of new product introductions; • shifts in the mix of products sold during any period; • potential fluctuation in our same store sales and quarterly financial performance; • our dependence upon manufacturers who may be unwilling or unable to continue to supply products to us; • our dependence upon manufacturers who have developed or could develop their own distribution businesses which compete directly with ours; • the possibility of material interruptions in the supply of products by our third-party manufacturers or distributors or increases in the prices of the products we purchase from our third-party manufacturers or distributors;
ii • products sold by us being found to be defective in labeling or content; • compliance with current laws and regulations or becoming subject to additional or more stringent laws and regulations; • the success of our e-commerce businesses; • diversion of professional products sold by Beauty Systems Group to mass retailers or other unauthorized resellers; • the operational and financial performance of our Armstrong McCall, L.P. franchise-based business, which we refer to as Armstrong McCall; • successfully identifying acquisition candidates and successfully completing desirable acquisitions; • integrating acquired businesses; • the success of our initiatives to expand into new geographies; • the success of our existing stores, and our ability to increase sales at existing stores; • opening and operating new stores profitably; • the volume of traffic to our stores; • the impact of the general economic conditions upon our business; • the challenges of conducting business outside the United States; • the impact of Britain’s decision to leave the European Union and related or other disruptive events in the United Kingdom, the European Union or other geographies in which we conduct business; • rising labor and rental costs; • protecting our intellectual property rights, particularly our trademarks; • the risk that our products may infringe on the intellectual property rights of others; • successfully updating and integrating our information technology systems; • disruption in our information technology systems; • a significant data security breach, including misappropriation of our customers’, employees’ or suppliers’ confidential information, and the potential costs related thereto; • the negative impact on our reputation and loss of confidence of our customers, suppliers and others arising from a significant data security breach; • the costs and diversion of management’s attention required to investigate and remediate a data security breach and to continuously upgrade our information technology security systems to address evolving cyber-security threats; • the ultimate determination of the extent or scope of the potential liabilities relating to our past or any future data security incidents; • our ability to attract and retain highly skilled management and other personnel; • severe weather, natural disasters or acts of violence or terrorism; • the preparedness of our accounting and other management systems to meet financial reporting and other requirements and the upgrade of our existing financial reporting system; • being a holding company, with no operations of our own, and depending on our subsidiaries for our liquidity needs;
iii • our ability to execute and implement our share repurchase program; • our substantial indebtedness; • the possibility that we may incur substantial additional debt, including secured debt, in the future; • restrictions and limitations in the agreements and instruments governing our debt; • generating the significant amount of cash needed to service all of our debt and refinancing all or a portion of our indebtedness or obtaining additional financing; • changes in interest rates increasing the cost of servicing or refinancing our debt; and • the costs and effects of litigation. The events described in the forward-looking statements might not occur or might occur to a different extent or at a different time than we have described. As a result, our actual results may differ materially from the results contemplated by these forward-looking statements. We assume no obligation to publicly update or revise any forward-looking statements.
iv PART I ITEM 1. BUSINESS Introduction Sally Beauty Holdings, Inc. is an international specialty retailer and distributor of professional beauty supplies with operations in North America, South America and Europe. We believe we are the largest distributor of professional beauty supplies in the U.S. based on store count. At September 30, 2017, we operated through two business units, Sally Beauty Supply (‘‘SBS’’) and Beauty Systems Group (‘‘BSG’’), and, through SBS and BSG, we had 4,963 company-operated stores and supplied 187 franchised stores. Within BSG, we also have one of the largest networks of distributor sales consultants for professional beauty products in North America, with 829 sales consultants who train, educate and sell directly to salons and salon professionals. SBS targets retail consumers and salon professionals, while BSG exclusively targets salons and salon professionals. Through SBS and BSG, we have store locations in the United States (including Puerto Rico), Canada, Mexico, the United Kingdom, Ireland, Belgium, France, Germany, the Netherlands, Spain, Chile and Peru. We provide our customers with a wide variety of leading third-party branded and exclusive-label professional beauty supplies, including hair color products, hair care products, styling tools, skin and nail care products and other beauty items. For each of the fiscal years ended September 30, 2017, 2016 and 2015, over 80% of our consolidated net sales were from customers located in the U.S. For the fiscal year ended September 30, 2017, our consolidated net sales and operating earnings were $3,938.3 million and $478.6 million, respectively. The information contained in this section should be read in conjunction with the information contained in Item 1A. ‘‘RISK FACTORS’’ below.
Professional Beauty Supply Industry Distribution Channels The professional beauty supply industry serves end-users through four distribution channels: full-service/ exclusive distribution, open-line distribution, direct and mega-salon stores.
Full-Service/Exclusive This channel exclusively serves salons and salon professionals and distributes ‘‘professional-only’’ products for use in salons and resale to consumers in salons. Many brands are distributed through exclusive arrangements with suppliers by geographic territory. BSG is one of the leading full-service distributors in the U.S. In addition, BSG offers its products for sale to salons and salon professionals through websites (including www.cosmoprofbeauty.com and www.cosmoprofequipment.com).
Open-Line This channel serves retail consumers and salon professionals through retail stores and e-commerce platforms. This channel is served by a large number of localized retailers and distributors, with only a few having a regional or national presence and significant channel share. We believe that SBS, with its nationwide network or retail stores, is the largest open-line distributor in the U.S.. In addition, SBS’s websites (including www.sallybeauty.com) and other e-commerce platforms provide retail consumers and salon professionals access to product offerings and information beyond our retail stores.
Direct This channel focuses on direct sales to salons and salon professionals by large manufacturers. This is the dominant form of distribution in Europe, but represents a smaller channel in the U.S. due to the highly fragmented nature of the U.S. salon industry, which makes direct distribution costs prohibitive for many manufacturers.
1 Mega-Salon Stores In this channel, large-format salons are supplied directly by manufacturers due to their significant purchase requirements.
Key Industry and Business Trends We operate within the large and growing professional beauty supply industry, primarily in the U.S., but also in 11 other countries across North America, South America and Europe. We believe the following key industry and business trends and characteristics will influence our business and our financial results going forward: High level of marketplace fragmentation. The U.S. salon industry is highly fragmented with approximately 270,000 salons and barbershops. Given the fragmented and small-scale nature of the salon industry, we believe that salon operators will continue to depend on full-service/exclusive distributors and open-line channels for a majority of their beauty supply purchases. Growth in chair renting and frequent stocking needs. Salon professionals primarily rely on just-in-time inventory due to capital constraints and limited warehouse and shelf space. In addition, chair renters and suite renters, who now comprise a significant percentage of the total U.S. salon professionals, are often responsible for purchasing their own supplies. The number of chair renters and suite renters has significantly increased as a percentage of total salon professionals in recent years, and we expect this trend to continue. Chair renters and suite renters, given their smaller and more frequent purchase pattern, are dependent on frequent trips to professional beauty supply stores, like BSG and SBS. We expect that these factors will continue to drive demand for conveniently located professional beauty supply stores. Increasing use of exclusive-label products. We offer an extensive range of exclusive-label professional beauty products, predominantly in our SBS segment. As our lines of exclusive-label products have matured and become better known in our retail stores and online, we have seen an increase in sales of these products. Generally, our exclusive-label products have higher gross margins than leading third-party branded products and, accordingly, we believe that driving growth in sales of these products would enhance our overall gross margins. Furthermore, we believe that we provide our customers with a unique value proposition by offering compelling exclusive-label brands that we believe to be of the same quality as leading third-party branded products at more attractive prices. Favorable consumer trends. Our industry is characterized by continuously changing fashion-related trends that drive new styles, including hair and nail styles, and continuing demand for beauty products. In addition, we expect the aging baby-boomer population in the U.S. to continue to drive sales growth in certain professional beauty product categories, including through an increase in the usage of hair color and hair loss products. We continuously adapt our marketing and merchandising initiatives in an effort to expand our market reach or to respond to changing consumer preferences.
Business Segments, Geographic Area Information and Seasonality We operate in two business segments: (i) SBS, an open-line and exclusive-label retailer of professional beauty supplies offering professional beauty supplies to both retail consumers and salon professionals, primarily in North America, South America and Europe, and (ii) BSG, including its franchise-based business Armstrong McCall, a full-service beauty supply distributor offering professional brands directly to salons and salon professionals through our own sales force and professional-only stores, many in exclusive geographical territories, in North America. For each of the fiscal years ended September 30, 2017, 2016 and 2015, SBS accounted for approximately 59.5% and BSG accounted for approximately 40.5% of our consolidated net sales. Neither the sales nor the product assortment for SBS or BSG are generally seasonal in nature.
2 Sally Beauty Supply As of September 30, 2017, SBS had 3,763 company-operated retail stores (generally under the Sally Beauty banner), 2,883 of which are located in the U.S. (including Puerto Rico), with the remaining 880 company- operated retail stores located in Canada, Mexico, the United Kingdom, Ireland, Belgium, France, Germany, the Netherlands, Spain, Chile and Peru. SBS also supplied 19 franchised stores located in the United Kingdom, Belgium and certain other European countries. At September 30, 2017, SBS’s store count was flat versus the prior year-end. At September 30, 2016 and 2015, SBS’s net store count had increased by 108 and 110 stores (including franchised stores), respectively, compared to the prior year-end. Our SBS stores and website carry an extensive selection of professional beauty supplies for both retail customers and salon professionals, featuring an average of 8,000 stock keeping units, or SKUs, of beauty products across a variety of product categories including hair color, hair care, skin and nail care, styling tools and other beauty products. SBS’s stores and website carry leading third-party brands such as OPI , China Glaze , Wella