Beauty Industry 2012 Outlook Q1 2012 Macroeconomic and Capital Markets Macro economic improvements, at a painstakingly slow pace, have led to a slight uptick in consumer spending and more positive sentiment for 2012 (2.5 – 2.9% GDP growth); global headwinds threaten the sustainability of recovery Situation Impact ▪ Headlines of growing unemployment, sinking ▪ January consumer confidence at 61.1, slightly below consumer confidence, the EU debt crisis, and a December 2011 (64.8), the highest level in 8 months double-dip recession are beginning to wane as the ▪ Holiday spending, which includes November and economy improves, albeit slowly December sales, grew 4.1% over last year, with ▪ Unemployment has fallen to 8.5%, the lowest level Ecommerce up 15% in 3 years, and down from 9.4% one year ago – Spending in Beauty, particularly in Prestige Macro ▪ Household balance sheets continue to improve, Fragrance, Skincare, and Color drove double home building and factory output are picking up digit increases for most retailers ▪ Housing prices, however, the heart of the financial ▪ Despite improved Q4 results, consumers still face a crisis and recession, sit 33% below 2006 levels and long road to recovery given unemployment, deflated more than 1 in 5 home mortgages are underwater personal wealth and very little wage growth ▪ Gasoline prices currently 12% above year prior, ▪ The Federal Reserve forecasts GDP growth of 2.5- while a pending global supply disruption looms 2.9% in 2012, above 1.8% for 2011E ▪ Capital markets had a mixed year; the Dow ▪ Beauty M&A volume increased 4.5% in 2011, but increased 5.5%, while the NASDAQ and S&P 400 transaction size decreased 11.3% decreased 1.8% and 3.1%, respectively ▪ Key themes of channel diversity and international – Beauty companies on average gained 4.4% development will continue to drive M&A in 2012 ▪ U.S. IPO volume remained flat vs. 2010 although ▪ Private eqqyuity took a g reater share of transactions total dollars raised decreased 16.7% in 2011 vs. 2010 (20% vs. 15%) and remains Capital focused on high-growth independent brands Markets ▪ Consumer M&A volume decreased slightly (-2.9%) but total transaction value increased 4.7%; capable of achieving global success strategics, accounting for 85.4% of volume, ▪ M&A valuations remained flat with 2010 at ~10x continue deploying stockpiles of cash toward M&A LTM EBITDA, but innovators and those with ▪ Total private equity volume fell 10% in 2011 as differentiated products receive premium second half activity slowed multiples Source: Capital IQ, ComScore, NPD, NRF, PitchBook, S&P, and Demeter Group Estimates. 2 U.S. Beauty Industry — 2012 Category Outlook Demeter Group estimates a $59.8 billion 2012 U.S. Beauty market, slightly lower-than-forecasted by Euromonitor due to recent economic tribulation, causing concern at the consumer level 2012E 2011E 2010A Bullish expectation for a 5.5% increase 2011 proved the category is critical The $10.1 billion category grew by in total sales to reach $11. 6 billion, and won’t be sacrificed despite 2. 0% in 2010 following 5. 3% growth in Skincare which is in line with expected global economic tremors; expect nearly 9% 2009; premium facial nourishers and (19% of Total) category growth, as consumers lift over 2010 due to premium anti-agers grew 13% continue to trade-up for facial, anti- launches, demand for spot correctors, aging innovation and a modest rise in Professional sales Category likely to remain flat at $10.2 Expected to inch up 1.4% in 2011 due No longer the largest U.S. Beauty billion, a culmination of basic shampoo to depressed Professional product sales category, 2010 sales declined slightly Haircare & conditioner dollar declines but didn’t slip below $10.0 billion; (17% of Total) countered with higher sales of hair appliances also decreased by 1% oils, smoothers, and problem-related solutions Category likely to plateau, realizing a Unexpectedly strong in 2011 — will The 3rd largest Beauty category made a 1% growth rate, or $9.8 billion in retail post significant gains to reach nearly remarkable turnaround in 2010, Color Cosmetics sales; “extreme” eyes and pared-down $9.7 billion; palette, nail and eye growing 3.8% to reach $9.4 billion in (16% of Total) lips will influence segment sales products boost the category retail sales after 2 years of decline accordingly Sales will slip due to oversaturation; Despite massive 2011 launches, Sales have steadily declined since expect the category to decline by a broadening Fragrance distribution, and 2005; nevertheless, subtle consumer Fragrance to ta l of 0.5% CAGR from 2010 to 2015 a strong Ho liday for Pres tige, the $5. 3 optim ism he lpe d boos t the category by (9% of Total) billion category is expected to remain 1.7% in 2010; Premium was up 3.1%, flat while Mass suffered a 3.8% decline Sales are not expected to rebound Sales will slide 1% in 2011 due to The $5.3 billion Bath & Shower through 2015 as the category remains category maturity; wipes and category declined 2.0% in 2010 despite Bath & Shower heavily promotional; majority of sales sanitizers help stem the decline the Body Wash & Shower Gel (9% of Total) are Mass, with private label and cover segment’s growth of 7.5% label sales accounting for nearly 25% share Source: Euromonitor, Mintel, NPD, GCI, and Beauty Cross Channel Monitor. 3 Trend Watch — A New Incubator Model It isn’t about Mass vs. Prestige, or even Masstige this time around, instead it’s about being a retail incubator for independent brands with innovative, problem-solving solutions as their point of differentiation The Original The Newcomer ▪ Sephora is the original ▪ Look Boutique’s strategy is Beauty incubator where less dependent on brand niche prestige Beauty brands exclusivity and more found a home when they dependent on pure scale and couldn’t fund a department reach, as is evidenced by store presence or compete Walgreen’s acquisition of with the big CPG behemoths Duane Reade and at Mass Drugstore.com; they don’t require brands to choose ▪ Sephora’s support comes with a degree of exclusivity for the between Mass and Prestige retailer, the implication being brands must choose between Mass and Prestige channels, as well as between growing ▪ This reworked “Masstige” concept is not about putting quickly through expanded distribution or staying the course prestige brands into a drugstore format and is not about price within the extended Seppyhora family point, rather it’s about creating a fertile environment for emerging and innovative niche brands to find the consumer ▪ Sephora University trains unbiased Beauty experts who are and vice versa present on the selling floor; consultants are credible at telling a product’s story and personally endorsing efficacious brands ▪ Education is no less important within this model, but the brands do the heavy lifting, not the retailer ▪ However, as Sephora has become a large, global powerhouse, resources are reserved for the launch of a few special brands, ▪ Physically, the model has been upgraded – drugstores now as well as for Sephora-only cover brands, leaving a void in the fin d premium real estate in hihhigh-traffic urban areas and make market for many indie brands heavy investments in the store’s look & feel, highlighting newness and innovation with special fixtures and tables ▪ Convenience alone can’t carry all the weight to drive traffic to these stores, rather innovation and being ahead of the curve will determine their success Baring the actual experience of pleasure shopping, the savvy consumer is armed with product detail via digital sources and looks beyond channel boundaries while heading straight towards new Beauty solutions 4 Trend Watch — Migration from Medical to Consumer Channel Regardless of origin, brands must follow the Consumer — not all women can or do shop at their dermatologist, therefore, some form of Direct-to-Consumer (“DTC”) is essential for Medical and Professional brand growth ▪ As more pharmaceutical brands emerge with scientific discoveries in skin repair and rejuvenation, the deliberation continues as to the optimal distribution channel, and the possibility of a brand coexisting profitably in both the medical and the consumer markets – Physicians, Dermatologists and Plastic Surgeons hang their reputation on recommending “professional-only” products that are exclus ive ly sold throug h medica l providers, and not availa ble to the consumer via tradit iona l retail channe ls – Several professional brands have tip-toed into the Consumer market via DTC portals like Dermstore.com, on TV through QVC or HSN, and through prestige retail outlets that also provide services, as a way to broaden their customer base ▪ Due to marketing and editorial, there is a high perception of efficacy with medically-positioned products, and therefore consumer demand for access to these products ▪ In order to reach this consumer, Professional brands need to understand the intricacies of the Consumer channel, how to service and staff retailers, and priorities for marketing investments, all which are uniquely different from Professional distribution models Medical Brand Attributes Medical Brand Challenges ▪ Credibility ▪ Big budgets for launch ▪ Will Consumer market ▪ Shelf space is at a and ongoing support give them credit? premium ▪ Clinical claims through extensive ▪ Existing relationship ▪ Will the consumer ▪ Consumer market requires in-house and 3rd with Medical channel understand the science? unique distribution / sales party testing force Pharma Company: Brand(()s): 5 Trend