Prestige Consumer Healthcare, Inc.

After conducting in-depth channel checks and a rigorous forensic review, Spruce Point has significant concerns about Prestige Consumer Healthcare (NYSE: PBH, “Prestige Brands”, or “the Company”), a roll-up of orphaned brand named, over-the-counter (OTC) healthcare products. Our research shows Prestige to be a challenged and overleveraged consumer healthcare business perceived to have steady growth and the ability to generate free cash flow to reduce debt. We believe Prestige will struggle to reduce its current level of debt as the business experiences further competitive pressures, and working capital and free cash flow strains intensify. As the shift to online purchases grow in the post-COVID-19 world, Prestige appears ill-positioned, and has significant exposure to traditional brick and mortar retailers. As the Company’s prior path to achieve growth through debt fueled acquisitions is no longer possible, Prestige’s organic growth has slowed, and financial strains have intensified. Management’s recent comments to focus on reducing debt may be a signal of cash flow drying up. Prestige continues to miss its organic growth targets and misallocates capital while receiving handsome compensation along the way. Prestige’s low-quality management team has consistently underdelivered on its promises, and it is time for the CEO and CFO to resign. We have serious concerns regarding current CFO and Chief Accounting Officer Christine Sacco and her team given their abysmal history at Boulder Brands, another consumer brands roll-up which collapsed 50% after our successful warning about accounting and financial strains. As a result of our investigation, we are calling on PBH’s audit committee to conduct a full investigation into its financial reporting and accounting practices. Prestige’s disclosures are worsening and its corporate governance lags peers. With consumption growth of 2%, lack of pricing power and increased competition, we view the Company’s 2-3% organic revenue growth guidance as unattainable. Combined with a rising cost structure, we believe PBH’s organic earnings will experience an unpreventable terminal decline. Long-Term Secular Challenges And Competition From Private Label Brands, With Significant Brick And Mortar Retail Exposure
  • We believe PBH’s orphaned brand-named products face significant competition in both price and product placement compared to store brands. PBH brands appear to be struggling online due to lower product placement on retailers’ websites and inferior prices.
  • Nielsen data shows PBH’s price and volume sales are declining while private label brands are experiencing price and volume growth
  • The 4 P’s of marketing suggest that PBH is at a clear disadvantage:
Product: OTC consumer healthcare products with expired patents and high competition from comparable store brands Price: Not price competitive; store brands are priced at a significant discount. PBH brand are typically ~30-100% more expensive Despite evidence of increasing promotional provisioning, margin pressure and our conversations with former employees and industry experts, management continues to downplay any sort of pricing pressure Historically higher margins at smaller retailers have made up for pricing pressures from larger retailers.  However, as larger retailers continue to grow their share of sales, PBH may face increasingly more difficulty in maintaining current margins Place: Brands are intermingled with store brands or often found on lower shelves, while competitor products are found on premium, eye level shelves. Heavy brick and mortar retail focus with 20%+ of sales from Walmart and at a clear disadvantage in online channels Promotion: Increased promotional spending as competition continues to intensify. Despite this push, organic growth continues to struggle
  • Amazon’s move into pharmacy with its “Basic Care” branded products and acquisition of Pill Pack presents further challenges for PBH as traditional traffic shifts away from pharmacies and supermarkets to e-commerce channels
Continuously Misses Organic Growth Targets; We Believe The CEO & CFO Should Resign
  • Since CEO Lombardi (June 2015) and CFO Sacco (September 2016) were appointed, PBH missed its organic revenue growth targets for 4 out of 5 years between 2015 – 2019, and was on pace to fall short in 2020 before the Q4 benefit due to the COVID-19 pandemic
  • Given management’s inability to achieve its #1 most important goal, organic growth, we believe it is appropriate for the CEO & CFO to resign
Multiple Signs Of Financial Strain As Organic Revenue Is Flat, EBITDA Declines And Cash Flow Dynamics Worsen
  • Organic revenue growth has compounded at 1% over the past 6 years and has continued to miss targets
  • Red Flag: Under Sacco’s leadership, PBH has made three unusual and stealth changes to the discussion of revenue from major brands: “net revenue”, “revenue”, “total revenue”. We observe a similar stealth change in revenue disclosure made at Boulder Brands ahead of its stock collapsing
  • We estimate organic EBITDA has declined each of the past 6 years
    • Reported EBITDA only declined in the past 2 years due to the absence of an acquisition
  • Substantial delta between GAAP and non-GAAP financials from aggressive adjustments; non-GAAP EBITDA ignores the costs associated with acquisitions and divestitures even thought they are core to the Company’s strategy
    • Company reports an aggressive “non-GAAP adjusted free cash flow” removing the impact of transaction and discretionary financing costs. Management wants every benefit of its actions, but none of the “cash” costs associated with its decisions
  • Working capital under pressure as cash conversion cycle has exploded from 67 to 110 days since 2015
    • Since 2018, DSOs are up from 48 to 57 days and DIOs are up from 94 to 109 days, while DPOs have only increased from 52 to 55
  • PBH’s poor working capital management is a clear outlier compared with its peers
    • DSO has grown significantly faster than peers; PBH is 1 of 2 companies with 4 consecutive years of DSOs increasing
    • DIO and cash conversion cycle have increased faster than peers; PBH is the only company with multiple years of double-digit increases
  • Receivables growth has significantly outpaced revenue growth on both an absolute and organic basis with the divergence accelerating since Christine Sacco became CFO
  • Multiple signs of ballooning inventory levels as products are not selling-though to customers as obsolete inventory grows and inventory purchase obligations as a percentage of sales rises
    • While management attributes this trend to customer destocking, there is evidence that this trend has slowed in calendar year 2019 as PBH’s main customers experience a minimal change in days inventory over the past year relative to declines in prior years
  • Increases in promotional provisioning and consistent rise in advertising & promotional spend of its top brands shows efforts to fend off increasing competitive pressur
    • Despite the rise in promotional spend, PBH struggles to achieve meaningful organic revenue growth
  • Signs of declining efficiency as revenue and EBITDA per full-time-employee have declined over the past two years
  • Red Flag: Potentially aggressive changes to depreciation assumptions have benefited earnings over the past 3 years
International Business Strains Mirror The U.S. While Management Overhypes International Growth Opportunities
  • Management promotes international growth opportunities with a long-term growth target of 5%+
    • International business represents ~10% of revenue; Australia accounts for >50% of international business
  • In Australia, PBH’s largest international market, the Company is showing signs of strain as revenue growth is slowing and potentially being achieved by loosening customer terms, shown by ballooning accounts receivable growth
  • Singapore and UK entities are showing similar signs of increased working capital needs and growing receivables
Poor History Of M&A And Capital Allocation Has Resulted In A Weak Balance Sheet And The Need To Delever CFO Christine Sacco’s History At Boulder Brands, Another Consumer Product Focused Roll-Up Touting Growth That Ultimately Collapsed, Draws Many Parallels To PBH
  • In February 2013, Prescience Point Research Group, Co-Founded by Spruce Point’s Founder and Chief Investment Officer Ben Axler, published a “Strong Sell” recommendation on Boulder Brands. Over the next 2 years shares fell over 50% before being acquired at a discount to the share price before the report
    • PBH changed revenue disclosure for its major brands from “net” to “total” revenues, an identical change Boulder made in 2014 right before its shares collapsed. By making this change, we believe the Company is masking revenue los.
    • Sacco received an SEC Comment Letter in 2015; we find many similarities between Boulder’s poor disclosure practices and PBH’s today
  • After joining PBH, Sacco brought over three senior members of her team from Boulder and hired a new Director of IR with ties to Boulder
  • Sacco previously worked in multiple positions at Alpharma (ALO), another Company with several accounting related problems
  • We have concerns of PBH’s audit partner at PwC, due to her lack of experience auditing large public, consumer product companies Sacco overstates biography by representing herself as a CPA despite it being inactivePoor Corporate Governance And Weakening Financial Disclosure Practices Raise Several Red Flags
  • Spruce Point has a history of successfully exposing poorly positioned consumer focused companies before the market realizes fundamentals have changed, and the share price collapses (e.g. Boulder Brands (BDBD), Church & Dwight (CHD), WD-40 Company (WDFC), Weis Markets (WMK), iRobot Corp (IRBT)). We expect Prestige Brands to follow a similar course
  • Poor organic growth, lack of competitive advantage and eroding market share deserves a valuation multiple at a significant discount to peers
  • Trades at a premium to the sum of its acquisitions (average deal multiple ~9x EBITDA), yet none of the brands have driven any top line growth
  • PBH currently trades 24% below sell-side brokers’ consensus price target of $46 per share
  • We believe it is overly optimistic to view PBH’s brands as market leaders which will be able to maintain share amid increasing competition from store brands, and as sales move towards online channels
  • Management’s 2-3% long-run revenue growth target appears unattainable due to lack of pricing power and increased competition; combined with rising costs, PBH’s organic earnings may face an unpreventable terminal decline
  • It is time for management to reset expectations lower and take additional asset impairments. PBH is likely using unrealistic expectations in valuing its goodwill and intangibles. Its auditor recently cited as a “Critical Audit Matter” – Goodwill and Indefinite-Lived Intangible Asset Impairment Assessments for Reporting Units and Brands of Certain Product Groups
Spruce Point arrives at our price target by applying a multiple consistent with the reality that PBH is worth a discount to the sum of the multiples paid for its assets, which have demonstrated effectively zero growth, and are now under increased pressures. We project revenue to decline and margins to erode READ MORE… DOWNLOAD REPORT