The recession hit the cosmetic companies with blunt force last week as two leading companies in the sector reported weak quarterly earnings and lowered its outlook for 2009. This may have surprised some investors who considered the group a safer haven during a downturn.

Elizabeth Arden (Nasdaq:RDEN) announced preliminary second quarter results of 72-76 cents per diluted share, which excludes the impact of foreign currency. This was significantly below its guidance of $1.00-1.10. The company also reduced its outlook for the full fiscal 2009 year to a range of $0.94-1.07 down from the previous $1.50-1.75. The new outlook also excludes a 23 cent impact from foreign currency exchange rates. (Explore the controversies surrounding companies commenting on their forward-looking expectations in Can Earnings Guidance Accurately Predict The Future?)

Almost immediately after the Elizabeth Arden announcement, Estee Lauder (NYSE:EL) said its second quarter would come in below guidance. Second quarter earnings per share (EPS) are expected to be in a range of 75-82 cents. The full fiscal 2009, which ends June 30, 2009, are predicted to come in between $1.30 and $1.60 a share.

Both companies left plenty of room for further reductions. Estee Lauder cited a "high degree of global economic uncertainty" that made forecasting difficult, and Elizabeth Arden made similar cautious statements.

Cosmetic companies have previously belonged to that dwindling group of sectors considered being "recession resistant" under the assumption that women would cut back discretionary spending here last after all other options. However, recent sales trends seem to belie that notion. (Are you seeking a recession resistant stock? Learn where to look in Recession-Proof Your Portfolio.)

Department Store Channel
One problem with both companies is its dependence on the department store sales channel for a high percentage of sales. Traffic at department stores has dropped off markedly during the recession. Estee Lauder received 11% of its sales from Macy's (NYSE:M) in the fiscal year ending June 2008.

Elizabeth Arden is a little more of a puzzle in that although it also sells through the department store channel, its largest customer in fiscal 2008 was Wal-Mart (NYSE:WMT) at 15% of sales. Wal-Mart has done relatively well during the recession so far, down only 2% in the last year compared to the S&P 500's drop of over 37%.

Foreign sales are also a concern for the companies. Estee Lauder had 59% of its revenues overseas in fiscal 2008, while Elizabeth Arden had 40% of its sales overseas in fiscal 2008. A strengthening dollar will hurt both companies.

Both companies financial situation is also of concern to investors. Estee Lauder has $350 million in short-term debt as of September 30, 2008. Most of this is in the form of commercial paper issued by the company. Estee Lauder also has just over $1.0 billion in various long-term debt issues. The earliest matures in January 2012.

Debt is also an issue for Elizabeth Arden, which has a $225 million senior debt issue due January 2014. The company also had $229.5 million in outstanding borrowings under its credit facility as of September 30, 2008.

While in a normal financial environment, a debt situation like these would not be a big concern; investors recently have tended to overreact to any hint of excessive leverage.

The recession hit the cosmetic companies hard last week dispelling any notion that investors might have had about the group being a safer haven during the recession. Further downside may be likely due to the slowing economy, high debt levels, foreign currency exposure, and dependence on the department store channels for part of its sales.

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Tickers in this Article: EL, RDEN, WMT, M

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