Avon's profit sinks as sales crumble; shares fall

Tue May 1, 2012 5:12pm EDT

Avon products are seen at a sale in New York April 18, 2009. REUTERS/Eric Thayer

Avon products are seen at a sale in New York April 18, 2009.

Credit: Reuters/Eric Thayer

(Reuters) - Avon Products Inc's (AVP.N) quarterly profit fell short of expectations as costs rose and sales fell, strengthening smaller rival Coty's bid to take over the world's largest direct seller of cosmetics.

Avon said on Tuesday it sold 1 percent fewer items, and its army of sales representatives shrank 2 percent. Excluding the impact of currency, sales edged up 1 percent, helped by modest price increases.

The company's shares closed down 8 percent, or $1.73, at $19.87, their lowest level since just before Coty announced its $10 billion takeover offer on April 2.

Avon, which has begun laying off corporate employees and will let go more this quarter, said gross margin fell 3.1 points to 60.8 percent of sales, hurt by labor costs in such markets as Brazil, Argentina and Venezuela, and the costs to make and promote its cosmetics in Russia.

"Margins were pretty much a disaster but it goes to show how much they have to spend back to grow just 1 percent," said Bernstein Research analyst Ali Dibadj.

Avon last month rebuffed Coty's unsolicited $23.25 a share takeover bid, saying a new CEO would do more to increase the company's value than being bought out.

That new CEO, Sheri McCoy, a former Johnson & Johnson top executive who replaced 12-year veteran Andrea Jung last week, acknowledged how much work was ahead of her.

"Avon also faces significant challenges. It has lost market share and missed expectations. It has had problems executing. It has faced operational and strategic issues," McCoy said on a call with Wall Street analysts, in her first public statements since taking the helm.

"Stabilizing the business is my first and most urgent objective," McCoy said.

Avon has been bedeviled by heavy competition from drugstores and low-cost, trendy brands in the United States, aggressive pricing by rivals in Eastern Europe and inadequate ordering systems that have frustrated representatives in Brazil.

AMMO FOR COTY?

Avon's weak results could bolster Coty's argument that Avon has been mismanaged and needs to be taken private for the business to turn around.

Coty has said it could consider raising its bid but would need access to Avon's books and conduct due diligence to get a better handle on the extent of Avon's problems and the potential fallout of an ongoing U.S. probe it is facing into whether it committed bribery overseas last decade.

Its own internal probe has cost it tens of millions of dollars.

"It probably gives Coty more fodder if they wanted to make a more aggressive push for Avon," Dibadj said.

Ross told analysts that Avon's problems were "fixable."

Avon last year shelved a top-to-bottom business review, preferring to wait until a new CEO was in place.

Avon finance chief Kimberly Ross said the company would discuss its growth strategy "at the appropriate time."

Avon reported a net profit of $26.5 million, or 6 cents per share, on revenue of $2.58 billion in the quarter ended March 31, compared with net income of $143.6 million, or 33 cents, on revenue of $2.63 billion a year earlier.

Excluding certain items, Avon had a profit of 10 cents a share, well below the 28 cents Wall Street estimate according to Thomson Reuters I/B/E/S.

There were nonetheless signs of improvement. Sales in Brazil, its top market, rose 2 percent excluding the impact of currency exchange despite aggressive competition, helped by an increase in the number of reps.

But Ross said on the call that she expected pressure from competitors to continue in Brazil and that Avon needs to offer more "Brazilian-centric products" and ad campaigns.

Sales in Russia, another top market, rose 1 percent as Avon signed up new representatives.

But in North America, sales continued their years-long slide, falling 4 percent, hurt by a 10 percent loss of reps.

McCoy said one of her priorities will be to keep reps "motivated and well compensated."

Avon will face shareholders on Thursday at its annual meeting in New York.

(Reporting By Phil Wahba; Editing by Maureen Bavdek)

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