Makeover Complete? Yatsen Says The Worst May Be Behind It

Key Takeaways:

•      Yatsen reported its revenue fell 16.3% in the third quarter, but forecast a probable return to growth in fourth quarter

•      In a show of confidence, the cosmetics and skincare company added $50 million to its $150 million share repurchase program announced a year ago

By Edith Terry

Third-quarter results from Yatsen Holding Ltd. YSG reflected ongoing pain for the Guangzhou-based cosmetics and skincare company, led by a double-digit revenue decline to 718 million yuan ($101 million) and a net loss of 198 million yuan. The loss was 6.1% narrower than a year earlier, although the company’s gross profit fell by 13.3% to 513 million yuan, reflecting difficulties Yatsen faces in its uphill climb back to revenue growth and net profitability.

Most of the revenue decline came from a 21.5% decrease in the company’s older color cosmetics brands, which account for about two-thirds of sales. Revenue from its newer skincare brands, which account for about a third of sales, fell by a milder 4.1%. One bright spot for the company was its gross margin, which rose to 71.4%, up from 68.9% from the prior year period.

Like many consumer-facing companies, Yatsen suffered last year as China’s lockdowns and other pandemic-control measures dampened sales. While those restrictions are now gone, the company faces a newer – and potentially longer-term – challenge from growing consumer caution as China’s economy slows. In such an environment, discretionary items like cosmetics may be one area where consumers decide they can go without.  

In such an environment, the big question becomes whether Yatsen will continue its slide, or is the worst behind it?

Addressing that question, Yatsen put on a brave face during its investor call last week to discuss the results. “In the past almost two years, the sales of the company have been declining,” said CFO Yang Donghao. “And hopefully, that decline has bottomed out, and we do expect our sales to start to gain traction in the foreseeable future.”

Such a face, while brave, isn’t exactly attracting investors. Yatsen’s stock currently trades at a price to sales (P/S) ratio of 0.90, well behind the 5.72 for France’s L’Oréal (OR.PA) and 2.72 for domestic peers Shanghai Chicmax (2145.HK) and 6.73 for Proya Cosmetics (603605.SS). Analysts are more upbeat, with two out of three surveyed by Yahoo Finance recommending the stock as a buy, and four canvassed by Simply Wall Street believing Yatsen will return to the black next year.

Yatsen has been shifting away from its older focus on color cosmetics and into higher-margin skincare products. As a percentage of total revenues, Yatsen’s skincare brands have increased from 31.4% of the pie to 36%, so the needle is moving in the right direction. Cash shouldn’t be a problem either for the company, which had 2.24 billion yuan in its coffers at the end of the quarter.

Yatsen’s fourth-quarter guidance was also relatively upbeat. The company forecast 1.01 billion yuan to 1.06 billion yuan in revenues for the quarter, which would represent a return to slight growth at the midpoint. It also announced an increase of $50 million to its share repurchase program, raising the total to $200 million.

“Amid uncertainties in consumer demand, Yatsen remained committed to its strategic transformation plan,” said Chairman Huang Jinfeng on the earnings call. He added that the company’s overall skincare sales decline during the latest quarter was due to the phasing out of one brand, and noted Yatsen’s remaining three major skincare brands posted 7.4% growth in the quarter.

Closing Underperforming Stores

Huang blamed the weak performance from Yatsen’s color cosmetics business on underperforming offline stores, many of which have been closed due to underperformance. The company’s Perfect Diary brick-and-mortar stores totaled 123 at the end of the quarter, less than half the 286 in 2021. Despite that slim-down, Yatsen’s selling and marketing expenses grew to 71.3% of net revenues from 65.8% a year earlier, reflecting its ongoing commitment to the chain.

Yatsen shares briefly ticked up after the results announcement last week, but a week later were still well below the $1 threshold that puts them at the threat of delisting. Investors initially snapped up the shares when it listed on the New York Stock Exchange three years ago, after the stock priced at $10.50, which was the top of its range. At its latest close of $0.80, the stock is now down 92% from the IPO price.

According to one analysis, Yatsen has gone from China’s second-largest cosmetics maker to No. 6 over the last three years. Its star performer, the Perfect Diary chain, has expanded to Vietnam, Singapore and the Philippines, seeking relief from stagnation in its home China market. But so far, those efforts haven’t contributed much to revenues.

What’s more, Yatsen isn’t the only Chinese cosmetics brand with global aspirations. Hangzhou-based Florasis recently became the first Chinese beauty brand invited to the Business of Beauty Global Forum, and has targeted the U.S. and Japan for future growth.

There are some reasons for optimism, though none are sure bets. Notably, Perfect Diary is a made-in-China beauty brand that plays both to nationalist sentiment and also sells for less than foreign brands, appealing to China’s Gen Z buyers. That positioning was a major factor behind its strong initial post-IPO performance.

As a leading name, Yatsen could also benefit as China’s cosmetics market shows signs of consolidating around the largest players. Market share of the top 20 domestic cosmetic brands doubled from 14% in 2017 to 28% last year, despite a decline in overall cosmetics sales over that time, according to Euromonitor International.

Worried investors can also take solace in the fact that sluggish third-quarter sales hit everybody in China’s beauty market, including L’Oréal, whose North Asia sales slumped 4.8% in the period, partly in the absence of an anticipated rebound in Mainland China sales. Overall retail sales for beauty products in China actually grew 2.6% during the quarter, but the figure was still down from the previous quarter, and trailed the 4.2% growth in total consumer goods retail sales, according to China’s National Statistics Bureau.