Revlon Inc (REV), Avon Products, Inc. (AVP): How Could This “Misleading” Company Be a Good Investment for Hedge Funds?

Revlon Inc (NYSE:REV) had quite a news flash last week as it agreed to pay a hefty $850,000 fine to the Securities and Exchange Commission for “misleading” shareholders. The SEC charged the beauty product company for deceiving its shareholders as well as independent directors regarding a “failed” transaction with Mr. Ronald Perelman, which would have turned the public company into a private one. While Revlon Inc (NYSE:REV) settled to charges by paying the fine, it did not admit or make any comment to deny the charges.

On a side note, billionaire businessman Ronald Owen Perelman actually owns the MacAndrews & Forbes Holdings, which has a three quarter stake in Revlon Inc (NYSE:REV) itself. Perelman seems to be paying fines to the SEC on a regular basis nowadays. More recently, one of his companies just settled with U.S. Department of Justice regarding a stock purchase – the second time this month alone. It agreed to pay $720,000 fine for the settlement.

The Beauty and the Competitors

As a holding company, Revlon Inc (NYSE:REV) operates via various wholly owned subsidiaries. Revlon is in the business of manufacturing, marketing and selling a number of cosmetics, beauty tools, hair color products, deodorants, skincare and other cosmetics products. Revlon is a world famous cosmetics brand and it competes at the very high end with other top cosmetics manufacturers such as Avon Products, Inc. (NYSE:AVP) and L’Oreal SA.

As a whole, the cosmetics industry is quite expensive on an earnings multiple basis, mush higher than the S&P 500 average. However, Revlon’s valuation on an earnings basis is much smaller than competitors.  This could be due to the legal issues surrounding the company which could offer up an opportunity.  L’Oreal, however, also is valued at the same level.  If we value the companies on a free cash flow basis, Revlon is much cheaper.  Even though the margins on products of these two companies is similar, Revlon Inc (NYSE:REV) is a more efficient company and has a slightly higher return on assets.

Avon Products, Inc. (NYSE:AVP), on the other hand, is losing a lot of money.  Their make-up products are lower margin than the others which makes it harder in the highly competitive section of the industry.  On the plus side, Avon Products, Inc. (NYSE:AVP) does has positive free cash so they can pay out a dividend and cover interest.

In terms of future growth, L’Oreal will likely lead Revlon Inc (NYSE:REV) and Avon if projections are correct.

Market Is Growing, So Are Threats

Based on a recent study by Goldman Sachs, a company also dealing with accounting battles, the global beauty industry’s skin care segment is estimated to be worth $24 billion, with make-up worth $18 billion, hair-care products worth $38 billion and perfumes at $15 billion, which are growing at an astonishing 7% a year where OECD or developed countries are struggling to grow even half of that rate. The growth is fuelled by growing middle classes in the BRIC economies as well as emerging markets across South America and Southeast Asia.