The cosmetics industry is likely to keep its shine on, given strong+ demand for skincare products, which account for a significant chunk of cosmetic sales. Apart from skincare, the cosmetics’ space is also poised to gain from strength in the haircare category, along with improved trends in makeup and fragrance businesses. Notably, the global prestige beauty industry is anticipated to grow nearly 6-7% in fiscal 2018.

Well, cosmetic players are set to continue gaining from their solid efforts comprising effective promotional and marketing strategies to keep pace with the evolving consumer trends and shopping patterns. Moreover, they remain focused on undertaking prudent buyouts, while they also remain committed to strengthen digital operations to cater to the rising demand for online shopping.

Of late, the market has witnessed a shift in consumer preference with more and more people opting for natural and organic beauty products and anti-aging products.  To this end, companies in the cosmetics space remain focused on innovations and new product launches.

Certainly, cosmetics industry remains under the purview of FDA regulations, which may put limitations on adulterated or misbranded cosmetics. Also, intense competition and soft brick-and-mortar traffic in North America are concerns for some cosmetic industry players. Nonetheless, vast international presence remains a driving factor, though any tariffs on Chinese imports are likely to weigh on beauty and personal care categories.

Further, a strong travel retail network is acting as a tailwind for the cosmetics industry. Markedly, beauty accounts for a considerable portion of travel retail sales that have been growing over the last many years, courtesy of increased travel around the Asia Pacific and China regions. These factors, along with a favorable economic scenario should keep the performance of cosmetic players going amid hurdles like increased supply-chain costs and investments associated with innovations and marketing.  

Industry Outperforms Shareholder Returns

Constant efforts to enrich consumers’ experiences, along with rising demand for skin care as well as anti-age products have been driving the performance of a sizeable number of stocks in the space.  This clearly seems to be a treat to investors as evident from shareholder returns in the past year.

The Zacks Cosmetics Industry within the broader Zacks Consumer Staples Sector has outperformed both the S&P 500 and its own sector over the past year.

While the stocks in this industry have collectively gained 23.7%, the Zacks S&P 500 Composite has rallied 16.4%, whereas the Zacks Consumer Staples Sector has lost 4.5%.

One-Year Price Performance

However, it’s worth noting that there was a significant lack of synchronization in the performance of individual stocks within the group. While some cosmetic stocks are being impacted by elevated costs, lower active representatives and loss of market share due to cheaper alternatives, others with solid financial backing and effective strategic plans are outperforming.

Are Cosmetic Stocks Cheap?

One might get a good sense of the industry’s relative valuation by looking at its price-to-sales ratio (P/S), which reflects how much investors are paying for each dollar of revenues generated by the company.

The industry currently has a trailing 12-month P/S ratio of 2.6X, which is slightly lower than the high level of 2.8X over the past year, and almost in line with the one-year median level. Further, the space looks undervalued when compared with the market at large, as the trailing 12-month P/S ratio for the S&P 500 is 3.4X and the median level is 3.3X.

As evident from the chart below, the premium to the broader market has expanded since February and is still at an elevated level.

Price-to-Sales Ratio (TTM)

Outperformance to Continue on Decent Earnings Outlook

Positive indications about the global prestige beauty industry, solid M&A activities and robust digital operations should help cosmetic stocks generate positive shareholder returns in the near future. However, softness across the global mass beauty market and intense competition may weigh on investor sentiment.

But what really matters to investors is whether this group has the potential to perform better than the broader market in the quarters ahead. The earlier valuation discussion shows that market participants have been willing to pay up for these stocks already, potentially limiting further upside from current levels.

One reliable measure that can help investors understand the industry’s prospects for a solid price performance going forward is its earnings outlook. Empirical research shows that earnings outlook for the industry, a reflection of the earnings revisions trend for the constituent companies, has a direct bearing on its stock market performance.

The Price & Consensus chart for the industry shows the market’s evolving bottom-up earnings expectations for the industry and its aggregate stock market performance. The red line in the chart represents the Zacks measure of consensus earnings expectations for 2019, while the light blue line represents the same for 2018.

Price and Consensus: Zacks Cosmetics Industry

This becomes even clearer when we focus on the aggregate bottom-up EPS revisions trend. The chart below shows the evolution of aggregate consensus expectations for 2018.

Please note that the loss per share estimate of $1.53 for the industry for 2018 is not the actual bottom-up dollar estimate for every company in the Zacks Cosmetics industry, but rather an illustrative aggregate created by our proprietary analytics model. The key factor to keep in mind is not loss of $1.53 per share of the industry for 2018, but how this estimate has evolved recently.  

Current Fiscal Year EPS Estimate Revisions

As you can see here, the 2018 loss per share estimate has improved from a loss estimate of $1.58 at the end of April and $1.57 at the end of the month prior to that. Also, we note that the sell-side analysts covering the companies in the Zacks Cosmetics industry have kept their estimates stable over the past three months.

Zacks Industry Rank Indicates Robust Prospects

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates continued outperformance in the near term.

The Zacks Cosmetics industry currently carries a Zacks Industry Rank #107, which places it at the top 42% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

Cosmetics Space: Earnings & Revenue Trends

The past earnings trend of the cosmetics space reveals that the group has been witnessing a declining trend since 2012, prior to which it was seen rising for about four years. The recent fall can be accountable to aforementioned factors like increased promotional costs and intense competition that keep margins of cosmetics stocks under pressure.

EPS – Cosmetics Market

Nevertheless, the top-line performance of the Zacks Cosmetics industry shot up significantly in 2016, after declining for about three years.

Revenues – Cosmetics Market

Bottom Line

Apart from the strategic growth initiatives, certain macroeconomic factors also decide the fate of the cosmetics industry. That said, we believe that the current economic environment presents solid opportunities for the U.S. cosmetics industry – which is one of the largest across the globe. This is evident from an improving consumer confidence and rising disposable income.

Certainly, digital transformation has become the need of the hour, but the importance of brick-and-mortar stores remains – keeping companies in the space focused on strengthening both. That said, cosmetic players’ in-store dynamic merchandising, digital marketing, pop-up stores and product innovations keep them well placed amid changing consumer and category performance trends.

With such strategic arrows in their quiver and a favorable economic backdrop, companies are likely to sustain the radiance of the cosmetics industry, which has a long-term earnings growth rate of 12.3%. Markedly, per a March report, Reuters projects global cosmetic market to witness CAGR of 7.14% over the 2018-2023 period.

Though the industry’s valuations are cheap for the one-year horizon (as discussed above), solid run of the stocks in the past few months might have made some stocks pricey. So, it is appropriate that investors closely evaluate the long-term expectations and look for some good entry points in the stocks that will help them to make the most of the momentum in the industry.

Notably, there is one stock in our cosmetics industry that carries a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Helen of Troy Limited (HELE Free Report) : This Texas-based consumer products player has gained 19% in the past year. The Zacks Consensus Estimate for the current fiscal year EPS has been revised 4.1% upward in the last 30 days.

Price and Consensus: HELE

Given the solid prospects of the Cosmetics industry, investors may retain some stocks with a Zacks Rank #3 (Hold) that can fetch great returns in the near future. Here are two such stocks:

The Estee Lauder Companies Inc. (EL Free Report) : The consensus EPS estimate for this New York-based company has remained stable for the current fiscal year in the last 30 days. The stock has rallied 48.4% over the past year.

Price and Consensus: EL

Inter Parfums, Inc. (IPAR Free Report) : The stock of this New York-based company has rallied 52.3% in the past year. The current fiscal year consensus EPS estimate of this stock has remained unchanged in the last 30 days.

Price and Consensus: IPAR

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