The Update Issue: Celebrity CPG Scores Another Win, State of the IPO MarketBy Berna Barshay  Yet another celebrity scored a big payout from work off the screen when actress Jessica Alba's The Honest Company (HNST) made its trading debut earlier this month...
Alba, who first broke out as the lead in the Fox sci-fi show Dark Angel in the early 2000s and went on to star in movies like the Fantastic Four and Sin City, co-founded The Honest Co. in 2011 and currently serves as its chief creative officer. Alba says she founded the company after struggling to find chemical-free products for her children – something that was important to her, after having struggled herself with allergies and asthma as a child. The actress is the face of the brand, is all over the website – often with her three children – and calls the company her "fourth child." What started perhaps as a side hustle looks like it has become Alba's primary area of focus, along with her three kids, as she has been less active in Hollywood as The Honest Co. has grown in size. The Honest Co. made its name in baby products – such as diapers, wipes, and rash creams – and over time has expanded into other personal-care categories for both kids and adults, such as shampoo, conditioner, body wash, hand sanitizers, cleaning products, skincare, and cosmetics. The company's products are all non-toxic, and its marketing emphasizes that the products are both safe and effective... Source: honest.com The "clean" ingredient trend is strong in skincare and other personal-care products, as well as in consumer-packaged goods ("CPG") in general. The Honest Co. has banned the use of 2,500 ingredients it deems as "questionable," and its clothing, bedding, and other textile products are made with organic cotton and are free of harmful dyes. The company also emphasizes sustainability by using recycled materials for packaging and has spent money to make its online order delivery carbon neutral. In addition to Alba, women sit in 53% of the leadership positions at the company and make up 68% of its overall workforce. The company also shared that nearly half of its workforce was made up of people of color. Its beauty products are 100% cruelty-free, and the company prominently displays its efforts to give back to the community through the donation of more than 25 million personal-care and feminine-care items to needy families, as well as product donations to relief efforts for natural disasters and COVID-19. The company sells its products on its website as well as on Amazon (AMZN) and at traditional brick-and-mortar retailers, including Target (TGT) and Costco Wholesale (COST). About 55% of sales happen online and 45% in stores... which makes The Honest Co. much more weighted toward digital sales than the average CPG company. With its female founder, environmental awareness, and socially responsible ethos, The Honest Co. almost seems to have been reverse-engineered to tick all the boxes for 'ESG' investing... "ESG" – or environmental, social, corporate governance – investing is a big trend in the money-management industry these days. Funds are increasingly being asked by the pension funds, foundations, and endowments that fund them if they are considering the sustainability and social effect of the companies that they are investing in, and funds specifically dedicated to ESG investing have been growing in size and number. With the following branding statement, it's clear where The Honest Co. wants to align itself: "Honest for You. Honest for the Earth. Honest for the Future." Whether the company's image and values developed organically or were designed in a more targeted and Machiavellian way, it's great messaging for millennials and Gen Z, who show a strong preference for buying brands with values that align with their own. The younger cohorts have also proven more likely to care about sustainability, animal rights, and diverse ownership/leadership. And given that 63% of sales are still in its flagship baby products, positioning The Honest Co. to appeal to young people is a wise move. The Honest Co. did $300 million in sales in 2020, up 27% from 2019 sales of $236 million. The company recently swung into the black on an adjusted earnings before interest, taxes, depreciation, and amortization ("EBITDA") basis, posting $11 million in adjusted 2020 EBITDA, versus a $9 million loss on this basis in 2019. And yet, the company is still burning cash and posting earnings losses. The Honest Co. went public on May 5 at $16 per share and had its opening trade at $21.22 per share – 33% above the initial public offering ("IPO") price. HNST shares closed at $23, up 44% on its first day of trading. At its IPO price, the company was valued at $1.4 billion, and Alba's stake was worth $90 million. The actress's success in the CPG arena follows similar windfalls to big screen stars like Ryan Reynolds and George Clooney, who made big bucks selling their spirits brands, Aviation gin and Casamigos tequila, respectively, to alcoholic beverage giant Diageo (DEO). Meanwhile, action star Dwayne Johnson (aka The Rock) and pop star Bruno Mars wait it out for the paydays of their tequila and rum startups. One celeb who's done waiting is serial entrepreneur Jay-Z. Earlier this year, the rapper sold 50% of his champagne label, Armand de Brignac, to French luxury conglomerate LVMH (MC.PA), which is a big player in bubbly through its ownership of brands such as Moët & Chandon, Krug, and Veuve Clicquot. Armand de Brignac – also known as the "Ace of Spades" champagne, for the design on its bottles – sold more than half a million units in 2019 before the pandemic took a big bite out of champagne sales, which were estimated to be down 18% last year. Financial terms of the deal weren't disclosed, but LVMH had supposedly been courting the brand – which Jay-Z bought in 2014 – since 2019. LVMH is an expert acquirer of smaller brands, to which it then applies its marketing prowess and muscle with retailers in order to accelerate growth. So don't be surprised if you start seeing bottles that look like these at your local wine shop... Source: CNBC/Francois Nascimbeni/AFP/Getty Images While The Honest Co. marks another win in the column of celebrities using their fame to build a large consumer product brand, HNST shares have stumbled since the IPO... Despite its 44% first-day return, HNST shares put in big drops on the next four days of trading... and by the fifth day of trading on May 11, they had "broken price," meaning that they were trading below the price at which shares were issued in the IPO (in this case, $16)... There was no particular news, but HNST shares went on to spend the next seven sessions trading at or below the IPO price. When an IPO breaks price, it's often considered a bearish sign for the company by Wall Street investors. However, I think good companies can often break price just because the business or its underwriters got too greedy in pricing the IPO. In those cases, nothing was wrong with the company... just with its stock's valuation. In the absence of news, the drop can probably be attributed to a supply-demand imbalance in a weak overall tape... This wasn't a very large deal... The company sold 25.8 million shares to the public, making it about a $400 million deal. It's possible that traders came in when the stock opened strongly, thinking limited supply would keep the shares on their upward trajectory for a bit. Then, when that didn't happen, traders were quick to pare their losses. The Honest Co. isn't worth any more or any less than it was when it had its IPO on May 4, but that big pop, which reversed so violently, created a bit of a hole for the shares to climb out of with investors... and traders. The stock is up around 6% today – again on no news – and back over its IPO price. If it can hold $16 per share for a few days, that should help it get its mojo back. Even though I've had good experiences with Honest Co. products and think its messaging is on target for its chosen audience and that it could eventually make for a great acquisition for a traditional CPG company trying to diversify into more clean and natural products, I have stayed away from the shares so far because of valuation. Often the best way for me to think about valuation for a marginally profitable, small company like The Honest Co. is to consider what a strategic acquirer would pay for the whole thing. This is especially true in the CPG space, where larger legacy companies – which are often worth in the tens of billions of dollars – are constantly on the hunt for "tuck-in acquisitions" – corporate purchases that fill in a hole in their product portfolios. These tuck-ins usually happen in product segments that are growing faster than the overall market or in regions with similar growth characteristics. There's also a Goldilocks factor to these deals. Acquisition targets can't be too small, or else they'll never move the needle for the acquirer... But they can't be so big that the growth in their addressable markets has been tapped out either. The Honest Co. is in the right area to get bought – clean and green products are hot. It's also the right size at $300 million in sales. But most of these tuck-ins usually happen at an enterprise value to sales (EV/sales) multiple of 5 times or 6 times, tops. The Honest Co. currently trades at 6 times on an EV/sales basis... so it's a little rich for my blood. I'm passing on HNST shares for now, but I would warm up to them in the lower double digits.
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HNST shares aren't the only newly public ones to be stumbling... We've seen a rotation from growth to value and a sell-off in smaller-cap tech names this year, both of which are being fueled by fears of inflation (and with that, rising interest rates). Recent IPOs aren't proving immune to these market trends. Last week we saw dating app Bumble (BMBL), which was up a big 64% on its first day of trading in February, break its IPO price of $43... Bumble wasn't the only company to make a big market debut in 2021 to break price last week... It also happened to solar company Shoals Technologies (SHLS), resale apparel site Poshmark (POSH), fintech company Affirm (AFRM), crypto exchange Coinbase (COIN), software company Qualtrics (XM), and South Korean e-commerce marketplace Coupang (CPNG), although half these companies (AFRM, XM, and CPNG) are back over their IPO prices today. The takeaway here for investors is that you need to be more valuation-sensitive when considering buying shares in a company just going public, since the market is no longer taking the stocks of these companies indiscriminately higher. For investment banks, it means they will need to advise companies to be less aggressive in their initial pricing. And a more price-sensitive market might cause some companies to postpone their debuts until the market gets frothier again. The good news is that companies that do come public now may be better priced for investors than they would have been had they gone public earlier in 2021 or in late 2020. As always, it's important to do your homework... especially with IPOs. In the mailbag, some reactions to the essay on AT&T (T) booting its entertainment assets, and some questions about the upcoming Power Gage event on Tuesday... Have you bought shares in any of the companies that went public in 2020 or 2021? If you have bought and are under water now because of the IPO pullback, are you hanging on? Has anyone used products from The Honest Co. and want to offer a review? Share your thoughts in an e-mail to feedback@empirefinancialresearch.com. "As a subscriber, the new HBO (Warner)-Discovery combination could get another $5/month out of me by combining the current content of HBO Max and Discovery+ AND adding in live feeds of the stations (Discovery, HGTV, etc.), including TBS and TNT. I'm also wondering if Peacock will be broadcasting live all the Olympic channels. Then what will Disney be forced to do for live feeds of Fox and ABC (currently would cost $65 for Hulu Live)." – Jeff W. Berna comment: Jeff, getting those live feeds added to streaming without increasing prices for the subscription may be tricky, given existing contracts with cable carriers for TBS, TNT, HGTV, and the rest. I agree that would be an appealing package... but not sure it would be the price most consumers want to pay. "My wife and I have been subscribed to Paramount+ because of the content that it has, and the price was small for not having to sit through commercials. What a joke. It is very difficult to navigate and more often than not, we get what we laughingly call the black screen of death – which means nothing is working and we literally have to reboot everything. We are going to give it another 30 days to see if they can work out all the problems. It's no wonder they are not retaining subscribers." – Geoff F. Berna comment: Geoff, you just gave me another reason to pass on shares of ViacomCBS (VIAC). "Signed up for Power Gauge on Tues. May 25th at 8 p.m. eastern. However, I have gone to my calendar and see that I have a doctor's appointment. at 2 p.m. local time or 8 p.m. eastern. "Will it be taped so that I might view it at another time??? Hope so." – Steven H. Berna comment: Steven, I inquired about this and was told that there will be a full replay available the next day on Wednesday. If you register for the live event on Tuesday (even though you can't make it), you will get an e-mail the next day with a link to where you can watch the replay. Just make sure you sign up for the Tuesday event, regardless of whether or not you can attend... You can do so right here. "Hi. Sadly, unable to access VIP as I have a Canadian phone number. "Regards" – Nassir B. Berna comment: Nassir, I asked about this one too. The answer I got was that unfortunately we are limited with the SMS service that we use to U.S. phone numbers. So viewers outside the U.S. can't sign up as VIP. But I will have someone follow up with you directly and send the special report that comes as a bonus for VIP members as soon as it is available. Regards, Berna Barshay
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