Mizina

Investment thesis

Thanks to a strong competitive positioning, Olaplex (NASDAQ:OLPX) has secured significant room for growth in a huge and highly sustainable beauty market. The company has strong revenue growth, abnormally high margins, strong cash flow and a strong balance sheet. If there is a strong year the fundamentals were more than reflected in the cosmic multiples, Olaplex is trading today at the mid-industry level. According to our DCF valuation, the company is trading at a significant discount to its fair market value. We value stocks as a strong purchase.

Company Profile

Olaplex Holdings Inc. offers patented shampoos, conditioners and other products for the treatment, maintenance and protection of hair. Olaplex markets its products through three sales channels: Professional, Specialty Retailer and Direct-to-consumer. [DTC]. The company’s two main customers, Sephora and Beauty Systems Group, account for more than 10% of all sales. The revenue structure is shown below:

Revenue structure

Created by author

Olaplex went public in late September 2021. The company’s shareholders sold 73.7 million shares at $21 and raised $1.5 billion. Although the company did not receive any proceeds, the withdrawal of investors is not a strong negative signal, as they only sold part of the shares and created a public market for future transactions. Olaplex was founded in 2014 and is based in Santa Barbara, California.

Resistance to macro headwinds

Macroeconomic turmoil is one of the main risks for the stock market and the economy as a whole. Historically, the consumer staples sector has been one of the most resilient to recession. In 2008-2009, the Consumer Staples Select Sector SPDR ETF (XLP) fell 27.9% while the S&P 500 fell over 44%. We could also see a relatively low industry standard deviation in 2020.

Chart
Data by YCharts

At first glance, this thesis seems inappropriate for Olaplex, since the company has lost more than 60% of its capitalization in the past year. However, a significant drop in the stock is due to the market treating the company as a growth story, which has long been priced in multiples. A correction to rational levels was expected.

The market for beauty products was stable even as unemployment in the United States reached 25% in the 1930s. Cosmetics successfully survived several wars, presidential scandals and the Great Recession of 2008. During the recession of 2001, discussions began on the “lipstick index”, which proved that the beauty industry was immune to economic problems.

During Olaplex’s latest conference call, CEO JuE Wong noted that Prestige beauty was the only industry in the United States with an increase in physical sales in the last quarter despite high inflation and a contraction in consumer spending. This once again confirms the thesis of a high degree of sustainability in the industry.

A strong positioning in a competitive market

The global hair and scalp care market is expected to grow from $86.03 billion in 2021 to $134.30 billion in 2028, projecting a compound annual growth rate of 6.6% over the period forecast. The market is competitive and very fragmented: despite the presence of giants such as L’Oréal (OTCPK: LRLCF) and Estée Lauder (EL), there are a large number of independent manufactures with a loyal customer base.

Olaplex has pioneered the home professional hair care market and has secured significant room for growth. The secret of the company’s success lies in a strong competitive positioning based on a unique product and an exemplary marketing strategy.

The uniqueness of the Olaplex product lies in the developed and patented active ingredient Bis-Aminopropyl Diglycol Dimaleate, which acts at the molecular level and improves the condition of the hair by repairing the disulfide bonds.

The loyalty of professionals in the beauty industry also confirms the high quality of the company’s products. The main sales channel is that of Professionals, which generates approximately 46% of turnover. According to Olaplex, 61% of customers make their product purchasing decisions based on a stylist’s recommendations.

OLPX investigation

Company presentation

However, it is not enough to have a good product, it is important to convey its value to consumers. Active engagement with social media and the involvement of influencers such as Jennifer Lopez, Kim Kardashian and Margot Robbie have increased Olaplex brand awareness and built a loyal customer base. The amount of content with the Olaplex hashtag on social media is second only to Apple and far exceeds other famous and fast-growing brands.

OLPX hashtags

Company presentation

High brand awareness has enabled Olaplex to achieve outstanding marketing performance: in 2021, for every dollar spent on sales and marketing, the company earned $112 in revenue. In 2020, the figure was $99.

Growth opportunities

Despite the high growth rate, the potential for continued expansion remains. In its price segment, Olaplex is the leading hair care brand and has single-digit penetration. In addition, international sales represent only 44% of total turnover. For comparison, Estée Lauder represents 75% of its turnover in EMEA and Asia. Olaplex could use the United States, the most competitive market in the world, to test hypotheses and launch new products that could then be rolled out in other markets.

In the second quarter, the company launched a 1 liter format of our No. 4 shampoo, no. 4C clarifying shampoo and conditioner n°5. The company’s portfolio includes 13 products, the main of which are OLAPLEX Bond Multiplier (No. 1), OLAPLEX Bond Perfector (No. 2) and OLAPLEX 4-in-1 Moisture Mask. We will likely see an expansion of the product portfolio, as management made clear in the last conference call.

“The global prestige haircare category remains in the early stages of long-term growth and OLAPLEX is playing a leading role in developing this market. We are excited about our long-term initiatives to build brand awareness, increase penetration into existing channels, growth distribution internationally and expanding our portfolio, which today only has 13 products, with enough white space for future very incremental launches.” – JuE Wong, CEO

Financial performance

Since its IPO, Olaplex has seen strong revenue growth across all sales channels, but has experienced a significant slowdown in recent quarters. Thus, according to the results of the second quarter, revenues amounted to $210.9 million, or 38.6% more than a year earlier. The slow growth is natural, as it is due to the high stand base.

Despite inflation, Olaplex improved its operating leverage and achieved abnormally high margins. At the end of the last reporting period, operating profit increased 56.8% year over year to $120 million, operating margin was 56.9% from 50 .3% a year earlier. Net income jumped 77.7% to $87.7 million, while net margin increased 9.2 percentage points to 41.6%.

Chart
Data by YCharts

While management expects margins to remain at comparable levels through 2022, Wall Street consensus expects margins to steadily decline over the next few years due to growing competition and rising costs. of marketing. It was the growing risks of competition that caused the recent 10% decline in stocks.

Despite active expansion, Olaplex generates high cash from operations ($253.1 million TTM) and free cash flow ($250.5 million TTM). Additionally, the company has a strong balance sheet with net debt of $465.7 million, which is about the same as TTM’s EBITDA.

Valuation of OLPX shares

The DCF model is built on several assumptions. Fiscal 2022 sales are expected to increase by $813.7 million in the middle of the forecast range. We assume that absolute revenue growth will remain at the current level until the end of the forecast period.

We assume that the gross margin will remain at the level of Q2 2022 until the end of the forecast period – 74.2%, which is well below the figure for the last twelve months. The forecast operating margin is in line with the TTM of 55%, lower than that of 2021 and Q2 2022.

At the end of the last reporting period, TTM DD&A expenses as a percentage of revenue stood at 16.9%, which is expected to continue through the end of the year. CapEx as a percentage of revenue will be equal to 2021 until the end of the forecast period.

The assumptions are presented below:

Hypotheses

Created by author

With a cost of equity equal to 7.4%, the Weighted Average Cost of Capital [WACC] is 6.9%. The low cost of equity is due to the low beta of consumer staples companies.

WACC

Created by author

With a Terminal EV/EBITDA of 12.48x, the model projects a fair market value of $12,067 million, or $18.6 per share, below the Wall Street consensus estimate of $19.4. The upside potential we see is around 107%.

You can see the model here.

Olaplex trades at a premium to EV/Sales, driven by the company’s high margins. On the P/E multiple, Olaplex trades at the industry average despite posting double-digit growth.

Company Teleprinter EV/Sales EV/EBITDA P/Cash Flow C/E GAAP
Olaplex Holdings OLPX 8.74x 13.71x 23.21x 22.65x
L’Oreal SA OTCPK: LRLCF 4.71x 22.54x 26.88x 30.41x
Unilever APIs UL 2.36x 12.15x 13.17x 18.34x
Estee Lauder EL 4.47x 18.57x 24.59x 31.96x
Coty Inc. COTY 1.97x 12.19x 7.54x 95.37x
Procter & Gamble Co. PG 4.05x 15.10x 17.84x 21.54x

(Source: Search Alpha)

Risks

  • The main risk is increased competition. The beauty industry is a competitive environment and has a large number of players who have more resources than Olaplex. The loss of market positions could lead to slower growth and a significant revaluation of OLPX shares.
  • The first two buyers represent more than 10% of Olaplex’s sales. The refusal of buyers of the company’s products can lead to a decline in financial performance.

Conclusion

Olaplex is a fast-growing, highly profitable business that is recession proof. In our opinion, the company is an excellent bet not only for conservative investors looking to protect their capital during a recession, but also for growth investors. Until recently, Olaplex’s impressive financial results were reflected in its high share price. The company moved closer to the industry average after the correction. According to our assessment, the fair market value upside potential exceeds 100%, which is in line with the Wall Street consensus. We are bullish on the business.

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