The report concedes that L’Oreal has some outstanding brands but accuses the company of focusing narrowly on earnings growth to the detriment of operating performance.
“We believe that L’Oreal has, for too long, been trading on past glories, with little reference to the current realities,” said senior analyst and report author Andrew Wood.
Excessive focus on earnings growth
The report claims that by concentrating on the maintenance of earnings growth of over 10 percent L’Oreal has failed to make the investment necessary to feed sales growth.
Spending on advertising and promotion has dropped as a percentage of sales in five of the last seven semesters and research and development expenditure has also fallen as a percentage of sales. Meanwhile, L’Oreal’s peers have increased their spending.
The report also criticised the company’s move away from small and targeted bolt-on buys to US professional distribution and retail with The Body Shop acquisition.
Paying for past mismanagement with poor sales figures
Bernstein Research said the world’s biggest cosmetics company is now suffering the consequences of this strategy in declining sales growth.
L’Oreal has already seen a slowdown in top line expansion in recent times with organic growth for the past 5 years averaging out at 5.7 per cent compared with 8.5 per cent for the five previous years. The company has also missed sales targets in three out of the last four years.
In the increasingly challenging retail market, Bernstein Research predicted that in the soon to be released figures for the final quarter of 2008, sales growth could be as low as 2.1 per cent.
Looking to the year ahead, the report said L’Oreal should continue to struggle. Wood said the combination of mismanagement and the difficult market environment would lead to poor operating performance for the short and medium-term.
However, Wood said: “We do believe that management is beginning to realise that it needs to invest much more strongly behind its business in order to regenerate growth.”