Personal care company The Honest Company (NASDAQ:HNST) reported Q1 CY2024 results topping analysts' expectations, with revenue up 3.4% year on year to $86.22 million. It made a GAAP loss of $0.01 per share, improving from its loss of $0.20 per share in the same quarter last year.
The Honest Company (HNST) Q1 CY2024 Highlights:
- Revenue: $86.22 million vs analyst estimates of $83.28 million (3.5% beat)
- EPS: -$0.01 vs analyst estimates of -$0.08 ($0.07 beat)
- Gross Margin (GAAP): 37%, up from 27.5% in the same quarter last year
- Free Cash Flow of $260,000, down 97.3% from the previous quarter
- Market Capitalization: $269.8 million
Co-founded by actress Jessica Alba, The Honest Company (NASDAQ:HNST) sells diapers and wipes, skin care products, and household cleaning products.
Initially conceived as a response to the lack of eco-friendly products for children, the company's first products included diapers without chemicals and biodegradable wipes, among other products. Since then, The Honest Company's growth has largely been through organic (rather than through acquisition) expansion of its existing product portfolio.
Today, The Honest Company sells not only baby products but also moisturizers and creams, cosmetics, and home cleaning supplies, for example. The unifying theme continues to be safe and sustainable products free of harmful chemicals. As such, the core customer consists of parents and individuals who care about what goes on and in their bodies as well as how their consumption habits impact the environment. These Honest Company loyalists tend to be middle to higher-income and educated.
The Honest Company's products can be found in a variety of retail channels, including major brick-and-mortar stores such as Target (NYSE:TGT), Walmart (NYSE:WMT), and Whole Foods (owned by Amazon, NASDAQ:AMZN). Their presence in these well-established retailers has contributed to their widespread accessibility.
Personal Care
While personal care products products may seem more discretionary than food, consumers tend to maintain or even boost their spending on the category during tough times. This phenomenon is known as "the lipstick effect" by economists, which states that consumers still want some semblance of affordable luxuries like beauty and wellness when the economy is sputtering. Consumer tastes are constantly changing, and personal care companies are currently responding to the public’s increased desire for ethically produced goods by featuring natural ingredients in their products.
Competitors in the personal care products market that are increasingly their focus on natural and eco-friendly products include Procter & Gamble (NYSE:PG), Kimberly-Clark (NYSE:KMB), and private companies such as Seventh Generation and Babyganics .Sales Growth
The Honest Company is a small consumer staples company, which sometimes brings disadvantages compared to larger competitors benefitting from better brand awareness and economies of scale.
As you can see below, the company's annualized revenue growth rate of 3.9% over the last three years was weak for a consumer staples business.
This quarter, The Honest Company reported decent year-on-year revenue growth of 3.4%, and its $86.22 million in revenue topped Wall Street's estimates by 3.5%. Looking ahead, Wall Street expects sales to grow 3.9% over the next 12 months, an acceleration from this quarter.
Gross Margin & Pricing Power
Gross profit margins tell us how much money a company gets to keep after paying for the direct costs of the goods it sells.
This quarter, The Honest Company's gross profit margin was 37%, up 9.5 percentage points year on year. That means for every $1 in revenue, $0.63 went towards paying for raw materials, production of goods, and distribution expenses.
The Honest Company's unit economics are higher than the typical consumer staples company, giving it the flexibility to invest in areas such as marketing and talent to reach more consumers. As you can see above, it's averaged a decent 30.2% gross margin over the last eight quarters. Its margin has also been trending up over the last 12 months, averaging 9.9% year-on-year increases each quarter. If this trend continues, it could suggest a less competitive environment where the company has better pricing power and more favorable input costs (such as raw materials).
Operating Margin
Operating margin is a key profitability metric for companies because it accounts for all expenses enabling a business to operate smoothly, including marketing and advertising, IT systems, wages, and other administrative costs.
This quarter, The Honest Company generated an operating profit margin of negative 1.5%, up 20.8 percentage points year on year. This increase was encouraging, and we can infer The Honest Company was more efficient with its expenses because its operating margin expanded more than its gross margin.
There are few unprofitable publicly traded consumer staples companies, and over the last two years, The Honest Company has been one of them. Its high expenses have contributed to an average operating margin of negative 11.2%. However, The Honest Company's margin has improved by 10.2 percentage points on average over the last year, an encouraging sign for shareholders. The tide could be turning.EPS
Earnings growth is a critical metric to track, but for long-term shareholders, earnings per share (EPS) is more telling because it accounts for dilution and share repurchases.
In Q1, The Honest Company reported EPS at negative $0.01, up from negative $0.20 in the same quarter a year ago. This print beat Wall Street's estimates by 88.1%.
Between FY2021 and FY2024, The Honest Company cut its earnings losses. Its EPS has improved by 26.1% on average each year.
Wall Street expects the company to continue growing earnings over the next 12 months, with analysts projecting an average 32.2% year-on-year increase in EPS.
Cash Is King
Although earnings are undoubtedly valuable for assessing company performance, we believe cash is king because you can't use accounting profits to pay the bills.
The Honest Company broke even from a free cash flow perspective in Q1. This quarter's result was great for the business as its margin was 4.2 percentage points higher than in the same period last year.
While The Honest Company posted positive free cash flow this quarter, the broader story hasn't been so clean. Over the last two years, The Honest Company's demanding reinvestments to stay relevant with consumers have drained company resources. Its free cash flow margin has been among the worst in the consumer staples sector, averaging negative 6.7%. However, its margin has averaged year-on-year increases of 26.2 percentage points over the last 12 months, showing the company is taking action to improve its situation.
Return on Invested Capital (ROIC)
EPS and free cash flow tell us whether a company was profitable while growing revenue. But was it capital-efficient? A company’s ROIC explains this by showing how much operating profit a company makes compared to how much money the business raised (debt and equity).
The Honest Company's five-year average ROIC was negative 36.4%, meaning management lost money while trying to expand the business. Its returns were among the worst in the consumer staples sector.
The trend in its ROIC, however, is often what surprises the market and drives the stock price. Over the last few years, The Honest Company's ROIC averaged 6.6 percentage point increases. This is a good sign, and we hope the company can continue improving.
Balance Sheet Risk
Debt is a tool that can boost company returns but presents risks if used irresponsibly.
The Honest Company is a well-capitalized company with $33.59 million of cash and no debt. This position gives The Honest Company the freedom to borrow money, return capital to shareholders, or invest in growth initiatives.
Key Takeaways from The Honest Company's Q1 Results
We were impressed by how significantly The Honest Company blew past analysts' EPS expectations this quarter. We were also excited its gross margin outperformed Wall Street's estimates. Zooming out, we think this was an impressive quarter that should delight shareholders. The stock is up 7.8% after reporting and currently trades at $3.17 per share.
Is Now The Time?
The Honest Company may have had a good quarter, but investors should also consider its valuation and business qualities when assessing the investment opportunity.
We cheer for all companies serving consumers, but in the case of The Honest Company, we'll be cheering from the sidelines. Its revenue growth has been a little slower over the last three years, and analysts don't see anything changing. And while its EPS growth over the last three years has been fantastic, the downside is its brand caters to a niche market. On top of that, its relatively low ROIC suggests it has struggled to grow profits historically.
While we've no doubt one can find things to like about The Honest Company, we think there are better opportunities elsewhere in the market. We don't see many reasons to get involved at the moment.
Wall Street analysts covering the company had a one-year price target of $4.55 per share right before these results (compared to the current share price of $3.17).
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