The Beauty M&A Bubble Is In Full Effect. Will It Burst?
Outfitted in a sleek white jumpsuit, Elena DiGiovanni wasn’t much for shades of gray in her assessment of the state of mergers and acquisitions in the beauty industry at the conference BeautyX Capital Summit on Tuesday in New York meeting venue Convene.
“Is everyone and their mother investing in beauty right now? Check. Even 7-Eleven has their own makeup line. Are valuations high? Are they dependent on supercharged growth? Check,” said the strategy and corporate development professional at Indie Beauty Media Group, parent company of Beauty Independent and BeautyX, and former consultant with L.E.K. Consulting. “If it looks like a bubble, if it feels like a bubble, if it smells like a bubble, guess what? It is a bubble.”
As early as 2017, speculation about a beauty bubble has been mounting, but the pace of deals hasn’t deflated. Through June of this year, there have been 73 transactions in the beauty space, up from 63 for the same span last year, according to data compiled by IBMG from Capital IQ, FactSet, Pitchbook and Capstone Headwaters Research. Annual transactions increased from 76 in 2014 to 125 in 2016, 136 in 2017 and 120 in 2018.
Valuations for prime beauty properties are creeping into technology territory. The median ratio of enterprise value to expected 2019 revenues for beauty industry unicorns—brands valued at $1 billion-plus—stands at 8.8, surpassing software valuations at a median of 7.9. With an estimated $340 million in yearly turnover, Anastasia Beverly Hills’ $3 billion valuation is 8.8X revenue; Glossier’s $1.2 billion valuation is 12X its approximated $100 million in annual sales; and Pat McGrath Labs’ $1 billion valuation is 16.7X its estimated $60 million in yearly revenue.
“Whether you believe these valuations or not, to achieve these valuations, there has to be growth. You have to meet the great expectations,” said DiGiovanni, adding, “Pat McGrath is not Saas. It cannot scale like a software company. The real question to me is not, are we in a beauty bubble? It’s what could cause the beauty bubble to burst, and what happens when that beauty bubble bursts?”
“The real question to me is not, are we in a beauty bubble? It’s what could cause the beauty bubble to burst, and what happens when that beauty bubble bursts?”
She pointed to three scenarios that could cool beauty M&A heat: a global recession, trade disruption and sector weakness. In an article published in the The New York Times on Saturday, economic prognosticators put the chances of a near-term recession in the United States at one in three. Beauty, of course, is a worldwide business, and economic slowdowns in other countries or disruptions in trade with them inhibit sales of makeup, skincare, haircare and more.
Sales of color cosmetics have already been slowing as a result of an array of factors, including oversaturation, the declining relevance of key social media influencers and lack of innovation. In contrast, skincare has been a strong category, but there are signs it could be decelerating as well, at least in certain markets. According to a survey by Mintel, almost 30% of women in the United Kingdom reduced the number of products in their facial skincare routines in the last year.
If beauty industry conditions worsen, overleveraged, indistinguishable and operationally-challenged beauty companies could tumble. “If you are the 58th CBD brand on the market and you have no differentiation, when the bubble bursts on CBD, it’s going to be difficult,” said DiGiovanni. “If you have inefficient operations, it’s great to be profitable during high-growth times when everything is selling and things are going well, but what happens when the growth stops, even temporarily? You have to be able to control your costs to weather that period.”
Speaking about the unrealistically towering current beauty brand valuations, she suggested they could be due for a correction. “Right now, investors are allowing for that, but, trust me, if the beauty bubble bursts, they’ll go from one extreme right to the other. They will take a machete right to those targets,” she said. Tech valuations tanked 47% in the dotcom bust, DiGiovanni shared. She said, “It was a little bit of a massacre. However, out of those ashes also rose some of the companies that we consider to be the greatest and most successful companies of our day.”