Waldencast plc Q3 FY2024 Earnings Call

Greetings and welcome to the Waldencast Third Quarter and First Nine Months 2024 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to Allison Malkin with ICR. Allison, please go ahead.

Thank you, and welcome to the Waldencast plc third quarter fiscal 2024 earnings call. With me today are Michel Brousset, Founder and Chief Executive Officer; and Manuel Manfredi, Chief Financial Officer. For today's call, Michel will begin with an update on our business and vision and discuss the company's performance within the context of the beauty market. Manuel will follow with a review of the third quarter and year-to-date performance and provide our fiscal 2024 outlook. Following this, Michel will share the strategic growth initiatives for our Milk Makeup and Obagi Medical brands. After the prepared remarks, the operator will open the call to take questions. Before we start, I would like to remind you that management will make certain statements today, which are forward-looking, including statements about the outlook of Waldencast business and other matters referenced in the company's earnings release issued yesterday. Each forward-looking statement is subject to risks and uncertainties that could cause actual results to differ materially from those projected in or implied by such statements. Additional information regarding these statements appears under the heading Cautionary Note regarding forward-looking statements in the company's earnings release and in the company's filings that it makes with the Securities and Exchange Commission. The forward-looking statements on this call speak only as of the original date of this call and we undertake no obligation to update or revise any of these statements. Also, during this call, management will discuss certain non-GAAP financial measures, which management believes can be useful in evaluating the company's performance.

Thank you, Allison, and good morning, everyone. It is a pleasure to speak with you today and share another quarter of strong performance. On the top line, comparable net revenue growth of 34.6% accelerated from 21% in Q1 and 25.7% in Q2 as we anticipated. This reflects increased consumer demand for our Obagi Medical and Milk Makeup brands and improved stock availability. Among our target audiences, our brands are consistently delivering strong innovation and community engagement. As a result, we're seeing ongoing success as we expand our global distribution. We saw in Q3 and throughout the year, robust growth, evidencing the power of our operating platform that enables us to deliver increasing rates of profitability as we grow our market-leading brands. To this end, in the third quarter, adjusted EBITDA rose 134% to 16.3% of net revenue and expanded 720 basis points from the prior year. We continue to make progress towards achieving our vision to build a global best-in-class beauty and wellness platform that creates, acquires, accelerates, and scales the next generation of high-growth, highly profitable purpose-driven brands. Our repeatable Waldencast operating virtuous circle of growth and profitability is continuing to pay dividends as we strengthen our efficiencies to drive gross margin expansion and invest into selling and marketing drivers to sustain and grow our top line momentum. While very pleased with our performance in the quarter and first nine months of the year, we believe we're just getting started in realizing our true potential. Let me share with you why. First, we possess the operational scale of a multi-brand platform that will only get better as we add more brands to the portfolio. This paired with infrastructure and beauty operational talent to support accelerated growth and EBITDA margin expansion for our portfolio of market-leading brands. Second, we have a proven track record, identifying, managing, and building global beauty brands at scale. This success and the many opportunities we see in front of us provide us with a visible path to continue to attract leading brands to our fold. Third, we have taken a balanced approach structuring our portfolio in attractive segments of the category that enable us to maximize growth and benefit from diversification. We operate in the two most structurally attractive segments of skin care and makeup. Fourth, we operate an asset-light and highly efficient capital structure, which gives us the speed and agility and return on capital with the operating discipline of a much larger company. And fifth and equally important, our management incentives are highly aligned to value creation for our shareholders and are focused on rewarding long-term value creation through operational and capital allocation excellence. As you know, we possess two of the most exciting brands in the two biggest beauty categories. Our brands play in the most attractive subsegments of these two categories, prestige clean makeup and professional science-led skin care. Milk Makeup is a cult favorite Gen Z brand and benefits organically from an engaged and diverse community due to its cultural relevance and iconic products. It is a leading clean makeup brand, the number two clean brand at Sephora US with 2.7 million Instagram followers and is quickly building a global following with leadership positions in several international markets. Milk Makeup has accomplished this through its relevant promise of full clean makeup that works. Obagi Medical continues its clear advantage as the number one US physician-recommended medical-grade skin care brand for top ranked patients' needs, leading in the most attractive fast-growing subsegment of premium skin care. Leveraging 39 R&D partners, Obagi Medical consistently delivers breakthrough patented technology and transformative clinically proven results. This drives high loyalty from both consumers and physicians. We continue to believe Obagi Medical is perfectly positioned to answer the growing needs for high-performance, effective skin care while also paving the way for expansion into other categories. Yet, we have set our sights on building a much larger business, not just organically, but also through acquisition and brand development. We believe we are the perfect partner for indie brands as we preserve their brand DNA and allow our acquired brands to operate with autonomy, thereby maintaining the entrepreneurial spirit of each brand. At the same time, our platform provides many benefits from the sharing of best practices to leveraging the collective expertise of the Waldencast ecosystem. Simply put, we provide the data, technology, talent, finance, legal, and supply chain support that elevates profitability and accelerates growth. Let me share a real-life example. When we acquired Milk Makeup, it was a cult favorite but not reaching its full potential. With our platform, we implemented the processes that improved decision-making, created efficiencies, and removed costs to drive profit growth while increasing high ROI marketing spend to accelerate top line growth and we expect this to continue. As a result, we have created an algorithm for long-term success as evidenced by the delivery of top-tier comparable net revenue growth of 26.9% in the first nine months of 2024 and a best-in-class adjusted gross margin of 74.8%. Our flywheel of growth and profitability is simple and repeatable with our Waldencast talent and expertise that you can see at play in both Milk Makeup and Obagi Medical. When we add a brand to our portfolio, we first laser focus on the expansion of gross margin by driving operational efficiency. We then reinvest these savings into sales and marketing business drivers, which drive top line growth, further enhancing gross margin and delivering operational leverage by diluting fixed costs to produce robust profit growth. While we have scale, we're only at the beginning of our journey to building a best-in-class global multi-brand portfolio. Today, we possess two powerful brands that have garnered critical mass while still having substantial runway for growth. With Milk Makeup and Obagi Medical, we have a solid foundation in prestige skin and color. We have a core business in the US and a growing presence in Europe and in the Asia Pacific region. We're achieving strong growth in attractive channels, including professional, specialty retail, and online and expect this momentum to continue as we drive awareness for both brands beyond their core communities, continue to introduce more blockbuster innovations, and expand into other regions and categories. Our increasing success with both brands and the power of our unique pure-play beauty ecosystem, an industry that requires deep and specific expertise gives us a distinct competitive strength in attracting other brands and founders into our platform. And now I will turn the call over to Manuel to review our financials and outlook.

Thank you, Michel. Good morning, everyone. I'm pleased to share our third quarter and first nine months results for 2024 with you today. Our performance continues to reflect the successful execution of our strategy that provides a powerful framework to maximize the inherent strength of our Milk Makeup and Obagi Medical brands. As shown this year, our strategy continues to deliver ongoing revenue and profit growth furthering our commitment to delivering shareholder value. Today, I will focus on our adjusted financial measures. You can find a reconciliation to GAAP financial measures in our press release from yesterday and in the appendix of this morning's presentation. Let's dive into the highlights of our third quarter performance. Net revenue was $70.2 million and represented a strong 34.6% increase in comparable growth. Obagi Medical and Milk Makeup achieved 45.5% and 23.5% growth, respectively, and both brands accelerated from Q2. Milk continues to grow strongly in Q3 2024 with increased global visibility boosted by new partnerships with four European retailers. We also expanded our product line, which has strengthened our presence, especially in North America. In Obagi, our growth has been driven by successful product launches of the ELASTIDERM family and continued acceleration across digital channels, further supported by the benefits of the shift in our Amazon distribution model at the end of 2023 to a direct operating model. Additionally, it is benefiting in this quarter from improved inventory levels, an issue that limited our growth in Q2. That said, while the inventory levels are substantially improved, we are still not completely out of the woods and expect out-of-stock to still be a factor into Q1 next year. Adjusted gross profit came in at $51.4 million. We continue to see significant year-over-year expansion in our adjusted gross profit margin, which rose 400 basis points to 73.2% in Q3 2024. This reflects growth of higher margin channels of distribution and lower inventory obsolescence versus Q3 last year. Adjusted EBITDA of $11.4 million, more than doubling with a 134% increase from Q3 last year. Adjusted EBITDA margin expanded 720 basis points year-over-year reaching 16.3%. This notable growth reflects strong revenue momentum and operational leverage, which more than offset the increased investment in marketing and international capabilities to support growth and future acquisitions. Our outstanding third quarter results have built on the momentum from a strong first half, leading to a remarkable year-to-date performance. For the first nine months of 2024, our net revenue reached $201.8 million, a solid 26.9% increase in comparable growth. Adjusted gross profit came in at $150.9 million, up 37%, with an adjusted gross profit margin of 74.8%, a 720 basis point improvement compared to the first nine months of 2023. Adjusted EBITDA grew by 54.9% to $29.1 million, driven by strong sales growth and improved gross margin, which more than offset our increases in marketing expenses. This brought our adjusted EBITDA margin of 14.4% in the first nine months of 2024 marking a 290 basis point increase from 11.5% in the same period last year. As we look ahead, our strong performance in the first nine months, the continued success of our growth strategy, and the continuous investment in our internal capabilities positions us well to carry on this momentum into the final quarter of the year. With this in mind, for the full year 2024, we reaffirmed our prior guidance and we continue to expect comparable net revenue growth to accelerate beyond the 25.7% increase we saw in Q2 and adjusted EBITDA margin to land in the mid-teens range, a substantial growth from the 11.2% adjusted EBITDA margin achieved in 2023. Turning to our balance sheet and cash flow. We ended the first nine months of 2024 in a solid financial position with no near-term debt maturities. Our business continues to have a strong adjusted EBITDA to cash conversion, driven by efficient working capital management and limited CapEx, thanks to our asset-light business model. Currently, a significant portion of this cash is allocated to cover non-recurring costs associated with the ongoing regulatory investigation. Once this matter concludes, we expect the cash generated by the business will help us to be in an even stronger financial position by improving our capital structure. As of September 30th, 2024, we have cash and cash equivalents of $17.6 million and we also have $30 million available on our revolving credit facility. Our net debt totaled $154 million. And as of November 15, 2024, shares outstanding were 122.9 million.

Thank you, Manuel. Let's now look at the performance by brand, starting with Milk Makeup. In the third quarter, Milk Makeup generated net revenue of $31.5 million, an increase of 23.5% versus a year ago. Momentum for Milk Makeup grew in the quarter, driven by the increased awareness and buzz associated with the brand to deliver a sought-after innovation and our international expansion. Specifically, this quarter, we built on the success of the Cooling Water Jelly Tints with the introduction of two additional shades and versus second quarter, stock levels for jellies have improved, allowing the brand to better meet what has been unprecedented demand. We also launched Hydro Grip and Glow and Kush High Roller brow and mascara, which further strengthened our award-winning franchise in primers and growing cult icons with our new product offerings. Adjusted gross profit margin of 66.6% declined 340 basis points from last year, driven by a shift in mix with increased lower-margin holiday kits shipping in Q3 this year versus last year and a shift in timing of off-price sales to third quarter this year from Q2 last year. In addition, Q3 2023 adjusted gross profit margin had a favorable inventory provision, which aided the net rate. As you will see in the next slide, Milk Makeup's gross margin continues to improve. Adjusted EBITDA nearly doubled to $8.5 million, while adjusted EBITDA margin of 27.1% expanded 1,040 basis points from the third quarter of 2023 as the strong revenue and growth increased gross margin dollars offset increased sales and marketing investments in support of growth. For the first nine months, Milk Makeup generated net revenue of $94.7 million, increasing 21.7% from the first nine months of 2023. Adjusted gross profit rose 25.2% to $65.6 million, with gross profit margin expansion of 190 basis points to 69.2%. And adjusted EBITDA rose 42.5% to $24.2 million from $17 million in the first nine months of 2023 with adjusted EBITDA margin expanding 370 basis points to 25.6% of net revenue versus the first nine months of 2023. Milk Makeup saw balanced growth across geographies, reflecting the increased relevance of the brand across the world. Indeed, globally, more and more consumers are embracing Milk Makeup and what the brand stands for as we deliver on our promise to introduce cool, clean makeup that works. The brand generated outstanding growth across geographies in the first nine months of the year with revenue up 22.3% in North America and 20.4% internationally. Milk Makeup's vision is to be the number one beauty choice of the next generation, Gen Z and increasingly Gen Alpha and we have a clear proven and sustainable growth strategy to get us there. A strategy that is anchored in four clear pillars. Expanding our already cold community by continuing to interchange with the existing one as well as welcoming new groups and delighting both through our expertise, innovation and values-based approach to makeup. Innovation and keep pushing the boundaries of what clean, cool beauty looks like by continuing to build iconic products such as our Prime and Set, Sticks, et cetera, as well as continuing to be the most innovative and exciting makeup brand with additions such as jelly tints, lip oils and other exciting products. Broadening our footprint of both existing categories, makeup and skin care as well as geographies by entering new regions and spaces where we know there is a strong demand by the community. And lastly, leverage the Waldencast platform to double down on our unique brand DNA and accelerate awareness, love, and beauty credentials for the brand. First, let's look at how are we expanding our community. Milk Makeup has built organically through a very strong community relevance and engagement that keeps growing with 7.7 billion press coverage impressions year-to-date, fueled by the intrinsic love of the brand and the excitement behind the NPV at $1.7 billion, which is 22% of year-to-date impressions. Similarly, when looking at earned media value, Milk Makeup is ranking year-to-date as the number 14 brand in the United States with very strong plus 83% growth year-over-year as well as number 19 makeup brand globally, growing at 90% highlighting also the strong desirability of the brand outside of the US, which is also a driver of our international expansion. The community love is anchored on iconic products clean, cool beauty that works bringing breakthrough innovation that is utilitarian, good for you, always vegan, clean and cruelty-free. An iconic range with our cold and award-winning core of Prime and Set and Sticks as well as expansion into new categories like the sold-out Jelly Tint launched in early 2024. In Q3, we launched Hydro Grip + Glow, a unique makeup hybrid that locks in luminosity for 12 hours. That builds on our iconic Hydro franchise as well as playing into the Glow boom with offering a benefit of long-lastingness. We also expanded our core Jelly range, originally launching four strong payout colors with two softer tints that appeal to an incremental consumer need and target. Lastly, as we have shown earlier, the demand for Milk Makeup internationally is very strong. And one of our latest expansion early Q4 was India, where the brand was launched with a big bang in Sephora with phenomenal support from the community. Now from the world of Milk Makeup, let's go to the world of high-performance skincare with Obagi Medical. Obagi Medical continues its excellent performance, recording net revenue of $38.7 million in Q3, representing comparable growth of 45.5% from the prior year third quarter. This growth was driven by the success of our growth strategies focusing on introducing blockbuster innovation, increasing our global distribution and accelerating our e-commerce channel penetration. We are pleased to accomplish each of these objectives in the quarter. To this end, the quarter saw us launch two innovations, which we had previously announced in our last call, the power duo of ELASTIDERM Lift Up & Sculpt Facial Moisturizer and Advanced Filler Concentrate, which helped to elevate growth across the entire ELASTIDERM franchise. We grew revenue across geographies and across channels and we saw particularly strength in e-commerce, driven by our direct-to-consumer website and Amazon aided by the tailwind of the new direct model with that digital partner. Additionally, with better in-stock positions, we were pleased to see our physician dispense channel return to growth in the quarter due to better in-stock levels of key products. We expect continuing supply chain improvements to further support expansion domestically and internationally in Q4 2024. Adjusted gross profit totaled $30.4 million with adjusted gross margin expanding 1,010 basis points to 78.6% from 68.5% in the third quarter of fiscal 2023. Strong sales growth, combined with significant expansion in adjusted gross margin more than offset the increased investment in business drivers, leading to adjusted EBITDA of $7.5 million, a 129.7% increase versus Q3 2023. Adjusted EBITDA margin expanded 770 basis points to 19.3% from 11.6% in the third quarter of 2023. Now looking at the first nine months of the year, Obagi Medical delivered net revenue of $107.1 million, representing comparable growth of 32% from the first nine months of 2023. Adjusted gross profit rose to $85.3 million or 79.7% of net revenue versus $57.8 million or 67.8% of net revenue in the first nine months of 2023. This growth led to adjusted EBITDA of $20.7 million, a 60.5% increase from the first nine months of fiscal 2023, with adjusted EBITDA margin expanding to 19.3% from 15.1% in the first nine months of 2023. Across geographies, Obagi Medical saw balanced growth with a 42.1% increase in North America and 32.8% increase internationally in the first nine months of 2024 compared to the prior year's first nine months. In the US, we saw outsized growth from our digital channels and a strong performance from our innovation. Internationally, our growth remains strong and we continue to gradually re-establish Obagi Medical's presence in Southeast Asia. Since the acquisition of Obagi Medical, our vision for the brand was very clear: to become the number one physician-dispensed dermatological brand in the world. And the growth is centered on three strategic pillars. First, double down on our brand DNA anchored on our professional credentials. Second, accelerate cutting-edge science-backed innovation that serves our physician and their patients. And then, lastly, grow the brand awareness and the footprint and drive points of market entry into our professional channel. Anchoring our brand DNA starts with medical-grade innovation backed with best-in-class clinical tools and this is the role that our latest launch in ELASTIDERM has targeted at. Our ELASTIDERM Lift Up & Sculpt Facial Moisturizer showed transformative results after three weeks and six weeks on all key benefits such as improving elasticity, fine lines, crappiness and skin smoothness on independent clinical testing, culminating at six weeks with results showing 100% visible improvement of fine lines, 94% improvement to smoothness, 88% improvement to elasticity and an 81% improvement in preparedness. On the ELASTIDERM Advanced Filler Concentrate, the before and after very visibly and visually depict the transformative results of these products. And both innovations were launched with a best-in-class education toolkit that armed professionals with the science behind the innovation and the clinical results. This was also shown directly to consumers, and this is how some of our consumer advertising looks. So it is no surprise that with this execution, we saw this NPD deliver versus expectations and contribute to grow the overall ELASTIDERM franchise by 189%, of which existing products accounted for 24% growth. Qualitatively, our physician partners were delighted that brought new use to the ELASTIDERM franchise while also answering through two incremental products that met needs of their patients. Whilst also building awareness directly with consumers with a year-to-date earned media value growth of 165% to attract them into the professional channel and accelerate the flywheel of their best skin with Obagi and our physician community. This awareness is built directly with consumers through social, but also editorial credentialing with 544 million impressions in Q3 just in the US, an acceleration that we see also internationally with 178 million impressions through our top markets such as the UK. To conclude, we're very pleased to share a strong performance across both brands, reflecting the increased desirability, relevance and awareness of our Obagi Medical and Milk Makeup brands. Waldencast is poised for long-term profitable growth through the operational scale of our multi-brand platform with only two brands, but more to come in the future, expertise in managing global beauty brands at scale with big growth opportunity in both geographic and category expansion based on our balanced portfolio anchored in a structurally attractive segments of the category and backed by an asset-light, agile and efficient structure that unlocks speed at scale and management incentives aligned to long-term value creation.

Thank you. We'll now be conducting a question-and-answer session. Our first question today is coming from Jonna Kim from TD Cowen. Your line is now live.

Hi. Thank you for taking my questions. I know you can't give too much guidance for next year, but just wanted to get any color around as you look towards next year and lapping this year's huge success, how are you thinking about the cadence and the quality of innovation across both brands? And how can you drive sustained outsized growth versus the market? Thank you.

Thank you for the call. We are, of course, very optimistic about next year. Our strategy for next year, frankly, remains the same across both brands, continue to drive an increased awareness of both brands, a very strong innovation plan, and continue to expand our footprint. So the playbook is the same. We are, of course, now from a P&L structure standpoint, reaching gross margin levels of what we are expected long-term to reach. So we should expect less, of course, gross margin expansion. But within brands like Obagi, where we're nearly 80% gross margin and we are approaching the destination of gross margin on Milk. From a top line standpoint, there is an immense opportunity ahead of us. We are on both fronts just at the beginning of the story. Our innovation is here. We're particularly keen on the vintage of innovation that is coming on Obagi as well as on Milk. We're having, of course, on Milk having to anniversary Jellies, which is a tremendous launch. It's a launch that was particularly effective this year. So we'll see how that moves in terms of innovation weight next year versus this year, but we have other substantial mechanical leaders in the brand to continue to drive top line. So we're very confident in that in our next year. We are not updating guidance yet. But generally speaking, we're looking to 2025 with a lot of optimism.

And just one follow-up. You mentioned gross margins a little bit. But in light of potential tariffs, how are you planning to manage the gross margins next year and beyond? Thank you.

We believe that gross margin will not be significantly affected by tariffs. Specifically for Obagi, very little of our business comes from China, as almost all of our contract manufacturers are based in North America. For Milk, around 10% to 15% of our cost of goods is sourced from China, but we have strategies in place to relocate some of those costs if necessary. Therefore, we do not anticipate a significant impact from tariffs. We still have sufficient gross margin flexibility to handle this situation. While we do have some potential cost savings within gross margins, we do not expect a substantial expansion in that area. Instead, we plan to reinvest those savings into product packaging and, if needed, manage the minor impact from tariffs on Milk.

Thank you. Next question is coming from Dana Telsey from Telsey Advisory Group. Your line is now live.

Good morning and nice to see the progress. As you think about the gross margin on the Milk side, I think you mentioned in the commentary about higher off-price sales. I think last quarter was lower off-price sales. What's the difference? And how do you see the trends of Milk's gross margin going forward? And then, Michel, can you just talk a little bit about how do you see the beauty industry performing whether in this past third quarter and looking into the fourth quarter compared to the first half of the year? And then I have a follow-up. Thank you.

Thank you, Dana. Yes, gross margin on Milk, there's a little bit of a temporary bit of a phasing issue on off-price sales. Last year, they were more in Q2. This year, they are more in Q3. They're not substantial or significant. It's part of our plan kind of gross margin landing of the year. As I've mentioned many times in these calls, we do not manage the company on a quarterly basis. We manage it on a daily basis, but we don't plan on landing specific numbers on a quarterly basis. So it's part of just normal phasing of how things are falling one place or the other in terms of off-price sales where we clear remnants and various other things. So there's nothing structural. We have this quarter as well the impact of our holiday kits that is coming also a little bit of phasing differences versus last year. And as we mentioned in the release in the base of last year in Q3, there was a bit of a provision release on Milk. So there's nothing structural on the business or on the gross margin as we continue to make substantial progress. That is where I think at Waldencast we excel on how to do. We are approaching, as I've mentioned it, we're approaching a bit of the destination of where we want Milk gross margin to even though there's a little bit of room to improve for the next quarters and so on and so forth. Regarding the beauty market, the beauty market, I mean, we've discussed before, and there's many people that have commented on this, the market continues to normalize. The prestige market is still plus 7% year-to-date. In the US, according to Circana, makeup is plus 5%. Skin care has moderated a bit at plus 3%. But the market continues to be strong and thriving. It is one of the beauties of the beauty industry that is a business that is quite resilient, quite strong in terms of growth and continues to deliver across multiple actors in the market profitability. There are, of course, some that have some specific, in many cases, self-inflicted issues. But the market is strong. Lastly, and again, a point that is very important when we view and the public views, well, because the way we think about growth, the market for us is just a data point. We are relatively small, we're a very small company, a very small player. Our ability to grow the business as is demonstrated by the results that we continue to post quarterly is more limited by our own ability to execute well, to grow our business, to create propositions that are compelling and seductive and interesting to consumers more so than the market. We have plenty, plenty, plenty of levers for growth in which the market, while important, is just a data point of information. It's not something that sets up our destiny.

Got it. And for the follow-up regarding Obagi, what are your current in-stock levels, and how do you anticipate those will change? Additionally, what is your progress on expanding into more dermatologists’ offices? Lastly, for both brands, what trends are you observing in international markets? Thank you.

Yes, as we noted in the last release and again today, we've encountered some inventory shortages with Obagi. These issues were significantly improved in Q3 compared to Q2. We anticipate that it will take at least a few more quarters to fully restore our stock levels due to the strong demand for Obagi products and inventory management efforts we previously implemented to maintain the right level of working capital. However, we are in a better position than we were in Q2, even though it is still affecting part of Q3. We believe it will fully normalize by the end of Q1. Regarding physician penetration, we are one of the most represented brands in physician offices and medical practices nationwide. We are continuously adding new accounts and enhancing our presence, and we see substantial opportunities to not only increase penetration but also to boost revenue per account where we are established. We are experiencing this growth through innovative products that meet new patient and consumer needs, leading to increased revenue from those same offices. Our growth levers involve both expanding in physician offices and improving dollars per office. Lastly, in terms of international expansion for both brands, we are just starting out. Until recently, Milk Makeup was primarily a North American brand with minimal international presence, but we are significantly growing our international business. The same goes for Obagi, as we are at the beginning stages of growth in that area. We expect substantial international expansion for both brands. The brand equity we've built in the U.S. allows us to enter new markets more effectively, as we've seen with Milk and Obagi. Our launches in new markets have been highly successful even without extensive advertising or specific demand creation plans.

Thank you.

Thank you. Our next question is from Ashley Helgans from Jefferies. Your line is now live.

Hi. This is Sydney on for Ashley. Any updated expectations for holiday promotional levels you can share? And I'm just curious what you're seeing kind of in terms of retailer caution toward inventory levels and any color you can give there? Thank you.

Of course. Thank you, Sydney. In terms of holiday plans, they're quite similar to what we've done in prior years. I think if you look at the market and what we expect of the market, in terms of holiday purchase intentions, we see that an increase of intentions by shoppers. I think Circana published a report just recently in which 29% of shoppers plan to purchase beauty products as gifts this year. Notably, 41% of households with children intend to buy beauty this year, which is 11 percentage points higher than our intentions on prior years. So the holiday season, beauty continues to be becoming more and more a staple of the holiday season and our plans remain fairly consistent from a promotionality versus holidays. Both brands are not particularly promotional brands. We don't need to participate heavily in the promotion, but of course, we participate in that market. Regarding the overall kind of retail environment, we are seeing because of the macro environment and certain specific issues with some retailers, some more caution around management of inventory. We've seen that a little bit in more so outside of North America than North America, but we're not seeing more recent in North America. There's a bit of inventory correction and purchase correction that we're seeing on sell-in on retailers. Difficult for us to predict whether this will continue into Q1 or not, but we are definitely seeing a bit more prudency on levels of inventory and open-to-buy and things like that on the business.

Thank you. Next question is coming from Susan Anderson from Canaccord. Your line is now live.

Hi. Good morning. Nice job on the quarter. Thanks for taking my questions. I guess maybe just to start off, if you could talk about how you're thinking about the innovation pipeline for Milk and just keeping consumers interested, how many new products do you expect to roll out each year? And then I don't know if you talked about how much the new products make up of sales? And then just if you could talk about like near-term focus areas and white space for the brand? Thanks.

Thank you, Susan. Innovation is essential in the beauty industry, especially for our Makeup brand, Milk. This year, we're focused on launching Jellies, which is a significant event that I have rarely witnessed achieve such success. We will have the challenge of celebrating this launch next year. However, when we evaluate Milk and our penetration in various Makeup subcategories, we realize we are just starting out. We lack presence in several key subcategories of Makeup, giving us considerable growth potential moving forward. We are particularly excited about what next year holds, which we will share at the appropriate time, introducing new incremental categories that embody the essence of Milk—charismatic, unique, and designed exceptionally well. Predicting exact outcomes in beauty, particularly makeup, is challenging, but we are closely connected to cultural trends and our community. This allows us to have a strong innovation plan for next year. While we do not disclose the percentage of sales from new products, we are very optimistic about our innovation strategy for Milk. This is a part of Milk's unique formula, where we continuously engage with innovation and respond to what our community finds interesting and compelling.

Okay. Great. And then, I don't know, do you have any thoughts just on how the physician dispense channel is doing? I believe the prestige data that we all get in the US by Circana maybe doesn't include that channel. So just curious if it's performing similarly to kind of the other data that we're seeing.

Yes, you are correct. The Circana data does not cover the physician channel. There are other sources that include it, but they do not offer data as frequently as Circana. Therefore, it's somewhat challenging for us to evaluate the quarter-to-quarter changes accurately. The latest information from industry sources indicates that it's growing by around 6% to 8%. However, we lack reliable quarterly numbers, and the data is largely self-reported, which affects its quality. That said, it is evident that there is a significant shift towards science-based medical skincare in that channel as well as a move away from other channels. Consumers are demanding higher performance levels, more evidence, and clinical data because they are more informed about consumer data, product functionality, and ingredients. Brands like Obagi, which holds a leading position as the most recommended brand for key conditions by physicians, are well-positioned to take advantage of this opportunity. Strong demand remains, as we noted in Q2, we faced some challenges regarding supply due to out-of-stocks, but those issues have significantly improved this quarter. The market for medical science-based physician-dispensed products is thriving.

Okay. Great. And then I guess last one for me. Just any thoughts on the M&A landscape with indie brands. I guess are you seeing any attractive opportunities? How are valuations? And then just curious on your thoughts on the landscape in general, do you think that it's becoming too saturated with too many brands or there's still a lot of opportunity there? Thanks.

We cannot comment on specific M&A plans, but the beauty industry has always been known for acquisitions. If you look at the largest strategic players like L'Oreal or Lauder, nearly all their brands have been acquired except for two in each case. This market continues to have many interesting and attractive brands that buyers are looking at. There are numerous potential targets for us that could enhance our portfolio. However, we are quite selective about what we incorporate into our portfolio. This process involves mutual assessment of our goals and the direction we can take the brands. There are many exciting prospects ahead. Interestingly, valuations have not decreased significantly yet, despite fewer transactions. Strong assets and brands remain in high demand. Unlike other consumer categories, the beauty industry is more focused on growth and often comes with high gross margins. The high multiples seen in beauty reflect the expectation that acquisitions will primarily drive growth rather than relying on cost savings. Therefore, there are plenty of great opportunities ahead.

Okay, great. Thanks so much. Good luck for this holiday season.

Thank you. Next question is coming from Linda Bolton Weiser from D.A. Davidson. Your line is now live.

Yes. Hello. I was curious if you could update us on the unaided or aided, I guess, brand awareness of the Milk brand, where it stands now and how much improvement you've made recently? And what are your thoughts on distribution expansion for Milk in the US? Thanks.

Linda, we don't disclose specific awareness numbers. I think what we disclosed is our community, which I think is the best proxy of people that engage. It's interesting, of course, to have aided and unaided awareness. What is more important for our brand is how many people actually engage with you and follow you and build on our business. Just over the last year just if I take Instagram as an example, we've increased our followers on Instagram by 700,000 to 2.7 million Instagram followers. Our community continues to grow. We just crossed the 1 million last quarter, we crossed 1 million threshold on TikTok. So our community continues to grow and thrive. I think the buzz on the brand as measured by the EMV, the earned media value, again, much better approximation to actual purchase and growth of the brand than just a generic awareness number continues to grow and improve on the brand. We are number 14 in the US year-to-date. We peaked during the Jellies launch at about number 6 during the Jellies launch. So the brand continues to grow from momentum to momentum. It is a brand that is getting to an awareness and a size that becomes interesting. Of course, everybody is looking at that and the buzz and awareness of the brand and there's a lot of potential distribution partners that are in the US as well as globally very interested in carrying the brand and building on the brand. We have expanded distribution internationally. We have four new retailers that have built into this year. These are Lyko that we showed you early on, Boots in the UK, Douglas in Germany and Sephora in India most recently with tremendous success, right? So we are expanding distribution internationally where it makes sense and we will continue to evaluate distribution opportunities that makes sense. As we mentioned before, one thing that especially managing a makeup brand where one has to be quite careful is not to expand distribution too far ahead of demand and awareness. And our approach to distribution has always been to control the distribution, keep it very tight and very productive. So we want to maintain a high level of productivity where we are.

Thanks. And just your comment about Milk still has subcategories that it can enter and expand further. Maybe you could just give us without specific numbers but just give us which subcategories in particular, can you name that Milk is either not even in or is very small market share relative to the overall market share of the brand?

Yes, our largest category is liquid foundation, which represents about 14% of the makeup market. However, we currently do not have a liquid foundation in our lineup, and we also lack lipstick products. While I am not indicating that we plan to enter these categories soon, there remains significant opportunity for us. We maintain a strong presence in a smaller set of categories, particularly in our Prime and Set business, where we hold leading market positions. Yet, we are not involved in several other areas and have minimal engagement in some. There is ample room for growth in product offerings and innovation. We must ensure that our innovations are well-paced and that we launch with a compelling proposition, especially since some of these markets are highly competitive. However, they can also be very appealing as success in these areas often leads to high loyalty and customer retention. These are a few examples from the makeup sector.

Okay. Thank you very much.

Next question is coming from Olivia Tong from Raymond James. Your line is now live.

Good morning. This is Lillian on for Olivia. I wanted to ask about how you're thinking about marketing spend going forward. Should we anticipate a similar level to this quarter? And how is marketing spend allocated between brands? Thank you.

Thank you, Lillian. Yes, we've been, as we saw from the presentation on our numbers and we talked quite a bit, I mean, part of our model is to continue to increase marketing and spending behind both brands. We are not yet at the destination in terms of percent of sales on both brands. We're building year-over-year through, one, building efficiency on our gross margin and operations, reinvesting that into business drivers of marketing and selling, which drive top line, further improve gross margin and below G&A. So we will continue to increase media and marketing support on both businesses quite substantially. We've been increasing those quite substantially since we bought both brands and we'll continue to do that into the future.

Thank you. We've reached the end of our question-and-answer session. I'd like to turn the floor back over to Michel for any further closing comments.

Thank you very much for joining us on this call. I look forward to speaking with those of you who are interested in connecting with analysts and others in the future. Thank you and take care.

Thank you. That does conclude today's teleconference. You may disconnect your line at this time and have a wonderful day. We thank you for your participation today.