5 Beauty Stocks in an Ugly Market

Can vanity trump a slowing economy?

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The faltering economy is causing a few extra wrinkles on a lot of brows lately. The question is what cash-strapped consumers will do about them. Can beauty companies, from big names in cosmetics to the maker of the Botox shot, hold up at a time when vanity is under assault by thrift? Below, we assess the attractiveness of five such stocks, including their chances of thriving in what could be another blemished year.

Avon Products (symbol AVP)

In the early days of 2009, analysts began trimming back estimates for this venerable beauty company. The slowing economy is indeed hurting Avon's sales, particularly in the United States. Citigroup expects Avon's North American sales to decline 12 percent in the fourth quarter, which "marks the worst revenue growth that we have seen in this region in a decade," writes analyst Wendy Nicholson. Still, North American revenues have been plodding along for some time, rising at just 1 percent annually for the past five years. Meanwhile, Avon's total sales between 2002 and 2007 climbed at a much faster 10 percent annual rate, thanks to expansion abroad. However, even global brands are feeling the pinch right now. A strong dollar and the global slowdown could make things challenging for Avon reps pounding the pavement worldwide. In the meantime, the company has been generating healthy cash flow, and it hasn't been too troubled by the ongoing credit crisis. But 2009 should still be a tough year.

The Estée Lauder Companies (EL)

Two key sources of sales for the company behind Aveda, MAC, Clinique, and other popular brands have taken hits recently. First, Macy's, a major seller of Estée Lauder products, muddied the outlook when it announced that it was closing 11 U.S. stores. If that's a sign of things to come and other department stores follow suit, this downturn could turn into something worse for the company. Second, expansion plans in emerging markets look shakier as the global economy crimps spending power in newly affluent middle classes around the world. The consumer crunch also hurts Estée Lauder's globetrotting fans. They are spending less on high-margin duty-free products, which make up 15 to 20 percent of the company's profits. The strong dollar matters here, too, as about 60 percent of sales come from outside the United States. Still, Citi's Nicholson is "wildly enthusiastic about the longer-term opportunities," as efficiency gains continue to help improve Estée Lauder's profit margins and earnings growth.

Allergan (AGN)

Allergan's wrinkle-fighting blockbuster Botox could be getting some competition this year. Rival Medicis (see below) is set to challenge Botox's dominance with Reloxin, a wrinkle-fighter that is up for Food and Drug Administration approval. And this potential competition comes during a year when sales in the facial-filler and botulinum-toxin market are expected to drop about 10 percent. Similarly, sales in the breast-implant market (another Allergan focus, thanks to its 2006 buyout of Inmed) are expected to decline by a similar amount. Still, Allergan has several things going for it. Its eye care business, which makes up slightly less than half of sales, should remain generally stable, thanks to insurance coverage of its products. Plus, Allergan recently announced FDA approval of Latisse, a topical solution used to grow longer eyelashes. Shares could get a boost once investors get a more realistic picture of consumer demand. In the meantime, they'll likely wait and see whether patients and doctors will continue to pay up for pricey cosmetic procedures. Says Louise Chen, an analyst at Collins Stewart: "People have been reluctant to buy these companies because they don't know how low the (sales) numbers can go."

Medicis Pharmaceutical (MRS)

In the first half of the year, the FDA is expected to approve Reloxin, Medicis's long-awaited alternative to Botox. Approval should spark a conflict as Medicis challenges Allergan's entrenched position among doctors and patients. It could also kick off a pricing battle at a time when slower demand means the cost of antiwrinkle shots is reportedly falling. Cowen analysts estimate that Reloxin sales could hit $150 million to $200 million by 2012, or between 15 and 20 percent of the total market, and bringing Reloxin to market will be Medicis's biggest accomplishment this year. That's the good news. The bad news is that Medicis's current biggest seller, the hugely profitable acne treatment Solodyn, is under threat from generic drug makers angling to enter the market. The firm is working on a follow-on product to Solodyn, but if rivals manage to enter the market, it could mean a big hit for a small company. Says Chen: "The biggest thing for them is Solodyn. If they can't replace that in the near term, it will be very damaging."