Walgreens and The US Mass Beauty Market

What exactly is the structure of the mass market channel in the US in terms of size and split between different stores?

Walmart is about 33% of the entire beauty business in the mass market. CVS, and Walgreens, and Target, those four together make up about 75% of the syndicated data market. Walgreens would be second largest, CVS would be third, but that teeters back and forth as far as volume is concerned, and I think CVS may have taken over Walgreens this past year. I have to wait till the 2018 data comes through. Then Target also has a great business here and is the darling of the industry as far as top line growth is concerned.

I think will be continued pressure there because their operating income continues to shrink, which is what's been causing some dings to their share price, which they can get margin out of several different ways. They can cut the their SGNA but they can also ask for an increase from the supplier community to offset some of that. Everybody wants to be at Ulta [Ulta Beauty Inc.]. Literally, that's where you'd want to start your business if you want to be considered a beauty player, you would have distribution at Ulta versus any of the big four. They're not as attractive because the cost to serve is so much higher until-- Whatever happens with Ulta on their margin requirements going forward, they may be considered very high cost to serve in the future versus what the payback's going to be. Then you have e-commerce - Amazon is a massive player, undisclosed amounts of money, but it's multi-billions for their beauty and personal care business. A couple of billion sits outside that's not recognized in the Amazon business, and they're fairly decent to do business with as far as the margin structure's concerned.

Could you elaborate on the cost to serve?

Yes, the trade fill that you would spend, the cost to do business with the drug retailers is the highest, and then Walmart and Amazon are the lowest, and Target and Ulta sit in the middle. Then you've got off-discounters like the value distribution channel et cetera that have a good-sized business. I know Ross [Ross Stores Inc.] has 500 million or something that they take out the market, a billion, that they take out the market. Ross does like 14 billion, as a total store. You don't see it go through any syndicated data, but I know that's how big their business is, so you take that out of the market.

What's the difference in the cost of serve? How should we look at that between Ulta, and say Walgreens for example?

Yes, so a Walgreens trade fill, in the gross to net exercise, they would be spending double. A manufacturer could spend double the promotional monies, the ancillary fees, the fines that they would at a Walmart.

So can you just run through that just that this is clear for the students?

We'll break it down like this: Walgreens and CVS will ask for slotting fees, they will ask for money for the advertising, just to be in the circular, plus you have to pay for the money of selling it through the register when it's on deal. Over 70% of the business is sold on deal, so there in itself, a high low retailer is very expensive.

It’s going to cost more margin, it's going to cost more profits to do business with them than it would with an everyday low-price retailer because of the volatility of your shipments going out that you're selling at a lower cost to the supplier, and you're getting the majority of your volume through the deal, so that in itself is an enormous expense. They have things called Co-ops. There's no contracts in the US. There may be contracts around a particular marketing initiative that you've signed up for, but no one has a contract that would be equal to what would happen in Europe.

It would be different if I was talking to a group of students in France, you write out your whole entire year. It's guaranteed. Unless someone is in breach of contract. In the US, it's an open capitalistic market, which means you have to earn your space every day and the retailer can change their mind from planogram to planogram, with no repercussions whatsoever. There's no legal action that any supplier can take. It's a free enterprise market.

You can't write yourself into shipments, you have to earn them. Which makes it difficult, because everyone is on the same playing field. And that's where you're going to spend some more money. It is predictive in how much you'll spend, but there are things that can be brought forward as new initiatives from retailers such as, we have a new JBP partnership, joint business planning and we want you to spend-- Like Walgreen WBA asked for 2% of the total volume of each manufacturer. The big ones to be given into costs concessions or just write a check for margin.

Which is egregious as you can imagine. That could be $20 or $40 million that they would want for no additional shipments, nothing. They just ask for it. They have to negotiate something that would be a value-add for the customer: so Walgreens and the consumer who uses it. That kind of practice happens quite a bit in the drug channel specifically. You don't see that type of egregious behavior at a Walmart or an Amazon.

Why is that?

They will ask for things that are value-add to their customer, the consumer of the items that you sell. But, there's lots of non-value-add cost that's built into the drug channel - non-value-add to the consumer and non-value-add to the supplier business - that's built into serving the drug channel, and it only serves the retailer. It's a value-add to the retailer but not to the consumer.

If selling at a gross level to Walgreens for example, at $100, it's going to be extra spend on non-value costs?

Then would get 60 back. 60 or 50. Even half. It could go as low as 50 depending on how bad the business is. So, if you were Revlon, you would spend probably 40 - 50% of trade fill there. It's 40% for all the ones that I know.

That spend is purely on the retailer side of things where they have to try and promote the product.

Yes. Okay, I'll be fair, so 20% of that gets passed on to consumer, but the rest is absorbed for their margin requirements. Just to do business with them. If you want to be in the circular - they call it the roto - if you want to be in the roto, then you’ve got to pay this, and there's no value-add to the actual consumer by that happening.

How much inventory do the retailers typically hold?