Description

EPC sells HPC products.  57% of revs comes from razors and shaving cream (Schick, Billie), 19% from sunscreen (Banana Boat), 14% from tampons (Playtex, OB), and the remaining 10% primarily from Wet Ones and skin care creams.  There are 3 segments: Wet Shave, Sun & Skin Care, and Feminine Care.  Wet Shave accounts for 55% of EBIT, Sun & Skin 35%, and Feminine Care 10%.

The company is quite levered at ~4x after acquiring Billie Shave a little over a year ago.  They pay a very small dividend but have started buying back stock despite their leverage.  

EPC is a long-term share loser.  In the 4 years leading up to covid, organic growth averaged negative 2-3% and gross margins fell from 49% to 45%.   This was a popular short at one point, and shares fell from over $80 in 2016 to under $30 in 2019.  Shares are now at $45 and trade at 17x earnings, a full turn above the SPW. 

The Idea

To summarize, EPC (like BGS, etc) is another secularly declining staple that was bailed out by covid and other factors.  Not too hard to get your arms around this one.

EPC’s sunscreen and tampon grew dramatically in ’21 & ’22 due to temporary factors.  Sunscreen benefited from a recall by J&J (Neutrogena), and tampons benefited from an industry-wide shortage, which primarily hit the small DTC brands that are gaining share.  I expect both of those segments to give back the share they gained, whereas consensus models continued growth from here.  Share loss could be exacerbated by JNJ’s upcoming consumer brands spin-off – I expect JNJ to accelerate its historical share gains across many of EPC’s categories due to incremental investment (as is common with spins). 

Further, Shave continues to bleed, but the recent acquisition of Billie has driven some growth that I believe will prove fleeting.  Billie was a DTC brand, but upon acquisition, EPC expanded Billie to WMT and more recently, other B&M retailers.  While some of this rev will be sticky, rev is currently benefiting from channel fill, and high-margin DTC sales are being cannibalized.  

As JNJ regains lost share in sunscreen, the tampon shortage is addressed, and Billie’s growth normalizes, I expect EPC to return back to LSD-MSD declines by the 2nd half of their fiscal year.  

Finally, earnings quality is poor, w/ consistent cash restructuring charges and ongoing integration expense added back to earnings.  FCF has been mediocre, despite benefiting from AR sales which have become larger over the years.  Poor FCF and acquisitions have resulted in 4.0x leverage, the highest levels in years.    

The Down / Up

The stock is up dramatically over the past year, as the multiple has expanded from a hefty discount, to a 9% premium.  Assuming a return to its historical multiple discount, and based on my ~15-20% earnings variance, I believe there is 30-45% downside.  Upside seems capped at ~10-15%  given the multiple is back to multi-year highs, and earnings shouldn’t grow more than HSD even in a bullish scenario.  

More specifically, my base case calls for ~$2.30-$2.45 in ’25 (ending Sept) vs cons at ~$3.00.  I expect EPS to decline LSD from there after adjusting for buybacks.  Consensus models MSD+ growth.  I assume an 11.0-12.5x PE multiple, which is 8-9x EBITDA.  

Consensus View

Consensus is the most bullish it’s been in years with 50% buys and 30% holds (consensus has historically been quite bearish).  PE is at a 9% premium to the market, a level not seen since 2017.  Over the past 5 yrs, EPC’s multiple has averaged ~75% of the market’s.  On EBITDA, EPC is at a market multiple, vs. an historical 2-3 turn discount.  SI% is only 4.7%, near all-time lows (historically was 6-7%, peaking at low-teens).  

1. Sun & Skin are great categories, growing MSD+, and recent share gains will be sticky.  Tampon is an ok category and share gains will be sticky.

2. EPC’s share in shave appears to have bottomed.  Should grow LSD from here vs MSD historical declines.  

3. Cost cuts and LSD rev growth should result in HSD earnings growth.

Variant Perceptions

1. Sun & Skin is an ok category, but EPC has historically grown much slower than the market.  The recent growth is all driven by 1) the JNJ recall, and 2) commodity pass-thru / pricing, which has hit peak levels.  I expect Sun & Skin to underperform expectations in 2H, and shrink LSD-MSD next year, vs. cons expectations for LSD-MSD growth.  Category growth has also been driven by an explosion of post-covid travel, which appears to be decelerating.  Longer term, EPC should go back to share losses, growing LSD vs. an industry at MSD.

2. EPC’s tampon biz is structurally challenged, consisting of brands primarily used by middle-aged women.  Younger women are opting for alternatives to tampons, or for small DTC brands.  EPC’s tampon biz only grew bc 1) there was an industry shortage, and as an industry loser, EPC had more inventory available than most, and 2) significant input cost inflation (cotton etc) that was largely passed through in pricing.  Tampons should go back to MSD shrinkage soon.

3. Ex Billie, EPC continues to lose significant shelf space.  However, EPC’s expansion of Billie into wholesale has driven a significant channel fill tailwind that should be largely exhausted in the NTM. My analysis of Billie suggests it peaked right before EPC acquired it, and their DTC biz is now shrinking – channel checks confirm this.  Net, I expect wet shave to go back to LSD declines vs. pre-covid / Billie MSD declines.

4. EPC is constantly restructuring.  This is a structural short – cost cuts are just the price of admission.  They will not result in sustainable margin expansion.  

Why the opportunity exists

1. EPC was one of the few HPC brands that didn’t disappoint on earnings in the last few qtrs.  This appears to be primarily driven by the temporary factors outlined above.  That said, their multiple has expanded dramatically – the market is capitalizing seemingly temporary tailwinds.

2. EPC hasn’t been able to pass through all of its commodity inflation, but it has passed through a fair amount.  Given they primarily sell commodities, the industry tends to pass through cost pressures, which has resulted in a temporary acceleration in sales growth.

3. Staple in a market concerned about cyclicality.  Note EPC’s dividend is very small vs. peers.

Sunscreen

Note all years are for EPC’s FYE, which is Sept.

Primarily due to the recalls in 2021, EPC share expanded 400 bps to ~31%.  The market also grew 25% over the past 2 yrs due to an explosion of travel related demand.  Channel checks suggest JNJ is regaining their lost share.  Most recent Nielsen data suggests EPC share give-back is accelerating – unit share is ~140 bps y/y in March.  

I expect org growth to go negative in 2H FY23, and decelerate further in FY24.  Consensus expects growth in FY24.

Margins also appear to have benefited from a quirk in EPC’s accounting.  It’s common practice in the industry for unsold sunscreen to be returned to the mfg’er after the summer.  EPC’s return accruals are at multi-year lows as a % of sales.  This is a meaningful margin tailwind.  Historically, Sun & Skin has had breakeven margins in EPC’s fiscal first quarter – this year, margins were positive 12%.

Tampons

EPC has historically lost meaningful share in Tampons.  Now that the tampon shortage is mainly behind us, and pricing is decelerating from 10%+, Tampons should go back to MSD declines.

Shave & Billie

Shave has historically shrunk MSD, driven primarily by shelf losses.  Billie is a DTC brand that expanded from $0 in 2017 to $90M of sales when EPC acquired it in ’21.  EPC accelerated sales by expanding Billie to WMT in ’21, and TGT / others this year.  This expansion in wholesale has made it seem like EPC’s shelf losses have bottomed.  However, excluding Billie, shelf space losses have continued their historical trend.  

Using credit card data for Billie’s DTC sales, and Nielsen data for Billie’s wholesale sales, we can get a picture of the value that this wholesale expansion has generated.  It seems that ~50% of the incremental wholesale sales have cannibalized DTC sales.  Even worse, DTC may be higher margin.  It’s possible that EPC is only creating $0.20 in value for every dollar of incremental wholesale sales.  This is likely why Wet Shave margins have declined more than commodity pressures would suggest.  Further, it seems that Billie was peaking right before EPC acquired it.  Note that EPC acquired Billie for $310M, or ~20x EBITDA.  

WMT had an exclusive with Billie for its first year at wholesale.  This year, Billie will be added to other wholesale accounts like TGT and drug stores.  Our conversations with shave experts suggest WMT standalone will generate more sales to Billie than all of the other wholesale accounts they’re entering, combined.  In short, the “channel fill” tailwind this year should be smaller than the tailwind last year.

However, more recent credit card data suggests Billie DTC sales are absolutely imploding.  According to these data, sales were trending down 15-20% for the LTM period through early Feb ‘23 (in line w the full launch at WMT).  But, beginning in mid March, these data have decelerated to down 50%+.  This suggests the cannibalization from this next crop of wholesale accounts is even more extreme than the above chart suggests. 

Earnings Quality & Cash Flow

EPC never stops restructuring.  This is common with many structural shorts, and quite obvious.  However, the variant perception here is that restructuring just keeps the lights on – savings don’t flow to the equity holders.

FCF is terrible and getting worse, while net debt is up 50%+ over the past 1.5 yrs.  Note that I adjust the FCF below for AR factoring – mgmt. and sellside don’t adjust for this.  

Catalyst

Earnings misses and / or guide down.