This article is part of our Vogue Business Membership package. To enjoy unlimited access to Member-only reporting and insights, our NFT Tracker and TikTok Trend Tracker, weekly Technology and Sustainability Edits and exclusive event invitations, sign up for Membership here.
Despite tough economic conditions, fast-growing beauty brands are still being snapped up for large price tags. In the latest blockbuster deal, L’Oréal paid $2.5 billion to acquire Aesop in April. Amid super-high revenue multiples (Aesop’s was 4.6) and frothy valuations, founder expectations can be lofty.
A large valuation has a halo effect for a brand, lifting perception of the company and its founders. However, the myopic pursuit of price tag over everything else may lead to future headaches. “The valuation is only part of the deal,” cautions Marissa Lepor, vice president at investment The Sage Group which handled transactions for Henry Rose and Oribe. “There’s the valuation — and then there’s the terms.”
A term sheet dictates the company’s future beyond the sale by laying out the key elements of a transaction. So, what are the conditions that founders should look for? Control over how a company is run, hiring and firing powers and the right to a fair future payout are all things to consider, experts say. They should watch out for investor overstep when it comes to governance, restrictive terms on future sales and even the possibility of losing the rights to their own name.
As M&A activity slows, investors are increasingly wary of beauty brands that shot to success through social media. Instead, those with unique products that can demonstrate true customer loyalty and have a strong balance sheet are top of the acquisition list.
“I didn’t want to have investors approving hires. It was important for me to create my own culture and have a say on who was building the business,” recalls Jules Miller, founder and CEO of supplement brand The Nue Co, which has raised over $35 million in four rounds of investment, with participants including Redo Ventures (the family office of L’Occitane), Pamoja Capital and Unilever. She adds that she likes to have investors meet as many of the staff as possible to establish a culture fit.
“Founders have a tendency to bet on themselves, but investor money comes out first,” notes Marko Horvat, managing director of beauty and personal care investment banking at Financo Raymond James. To that end, founders should be crystal-clear about their desires both for the future of the company as well as how they want their day-to-day life to look when beginning the process of raising capital or selling, according to Horvat, The Sage Group’s Lepor, and Ashleigh Barker, head of beauty and personal care at investment bank Lincoln International.
What’s more, preparing for the process of a sale or investment requires its own strategy, and picking the right investment partners can be almost as complex as the terms themselves.
Naming your price
The valuation a company receives at sale or during funding rounds is of understandable import to founders: it’s the most widely reported element of such news, and it represents a literal price tag on their livelihood. “Just because a company receives a high valuation, it doesn’t mean the founder makes any money personally,” notes Lepor. “Most of the time, especially in early-stage rounds, the money is going into the business. Investors may be willing to put a high valuation on the business, but they’ll also want significant downside protection.”
This protection may come in the form of a liquidation preference, which means investors retain the right to claim back the money they invested upfront as the first money out in subsequent transactions, and often at a multiple. Liquidation preferences of up to three times are not uncommon, says Horvat.
A factor with super-high valuations is that if market conditions, lack of demand or internal problems cause the business to underperform, they may have to raise subsequent funds as a down round, which can spook investors. Another kind of protection is payment-in-kind, (PIK), where the investor may opt for interest or dividend accrual, which in turn can be converted into stock or other securities instead of cash. Over time, this can mean a higher overall ROI, as the accrued PIK is added to their principal investment in case of a liquidity event, or converted into other securities.
“Investors may only be willing to put a bigger topline valuation on the table if they have significant downside protection from a structural perspective,” notes Horvat. Horvat advised on the sale of Mielle to Procter Gamble and Paula’s Choice to Unilever amongst other transactions.
The minutiae of how an investment is structured is less appealing cocktail party chatter than a big-ticket valuation, but a granular approach is advisable, says Luc-Henry Rousselle, managing director in the consumer, leisure and retail group at investment bank DC Advisory. Rouselle previously worked on transactions including the sales of Beekman 1802, Glamglow and Opi to Eurazeo, Estée Lauder and Coty respectively.
“People tend to be optimistic when these transactions happen. But, in the case that the business goes below average or poorly, these protections are basically a guaranteed return for the investor,” he notes. “Sometimes, it’s preferable to take a lower price in order to give up less downside protection, otherwise it could make it more difficult to raise the next round of capital at a valuation that s above that, especially if things don t go as planned.”
Beyond the dollar
Aside from monetary valuations, Lincoln International’s Barker urges founders to be clear about their non-fiscal objectives. “I always ask, particularly with an equity raise, ‘what percentage of ownership are you comfortable giving up? Are you currently the majority shareholder, and do you want to remain so?’” she says, adding that if a founder wants to hand the reins over to someone else, at least in a day-to-day capacity, different kinds of buyers will need to be targeted to allow for that. Barker advised on a minority growth investment for Patrick Ta Beauty, and advised Skylar Beauty on their acquisition by Starco Brands.
“Investors are not only investing in the brand, but also in the team who s going to lead the business and most of the time, the founders are a big part of that,” says The Sage Group’s Lepor, saying founders may not always be able to take a step back immediately. This is especially true in beauty where more and more brands have a founder who appears in consumer press, takes to social media to do tutorials, or in other ways leans on their personal profile.
For The Nue Co’s Miller, a non-negotiable was control over new product development (NPD). “I was adamant that I wanted to be able to own that without outside influence,” says Miller, adding that she knew she wanted to launch fragrance as an extension of their ingestible supplement mainstays and feared investors would baulk.
This kind of governance can be a real sticking point, notes Lepor. “Founders need to be sure how they want quotidian business to be governed. Do you want an investor who’s going to be hands-on and wanting weekly calls? Or do you want an investor who checks in on your quarterly board meetings and otherwise just lets you do your thing?” she says. For companies in early stages or with a particular goal to achieve, such as expanding to a new category, more hands-on experience from a specialist investor may be desired.
“When we launched Starface, we were interested in finding people who had deep CPG experience,” says Brian Bordainick, co-founder of acne-patch and skincare brand Starface, zero-waste personal care label Plus and emergency contraceptive company Julie. In 2020, Starface raised $2 million in a seed round led by BBG Ventures, following a pre-seed $1 million round from investors including Bobbi Brown. “We were exploring a move into big-box retail with Target, and we’d never negotiated that kind of deal before. One of our investors was able to connect us with someone who had done all of that.”
Governance disputes can lead to founders feeling constrained, or in extreme cases, forced out. Vicky Tsai, who founded the now-Unilever owned prestige skincare line Tatcha, was removed as CEO by private equity investors before being reinstated by Unilever to right the ship a few years later. “As often is the case with female founders, I was replaced with a team that looked more like what is ‘expected’ of a C-suite team,” Tsai previously told Vogue Business. In her second tenure as CEO, she says the brand tripled their growth rate.
Right partner, right time
Lincoln International’s Barker says that while M&A and investment is getting more founder-friendly, there’s still a myriad of hazards. “When we’re working sell-side, one thing we work to establish quickly is whether we agree with the methodology of how a valuation was determined, and what our negotiating points of leverage are,” she says. “It’s good that founders are less driven by valuation alone, but also becoming educated around standard terms.”
One complicating factor can be the right to one’s own name. The perfumer Jo Malone and makeup artist Bobbi Brown are understood to have lost the rights to use their names as brand names in subsequent ventures following a sale (Malone has since launched Jo Loves, and Brown started Jones Road), while the hairstylist Frédéric Fekkai bought back his brand from a group of investors in 2018 after its ownership changed hands multiple times, with Procter Gamble owning it for seven years. Non-competes, such as the one that precluded Brown from launching another cosmetics line for 25 years, can also be onerous — something Barker and Lepor advised careful consideration around.
Making your business as attractive as possible through diligent bookkeeping, proving repeat purchases and sell-through and a high-net promoter score will serve founders well, says Horvat. But, as both Starface’s Bordainick and The Nue Co’s Miller note, some degree of feistiness may also be useful. “As one of the first truly Gen Z brands, our pitch deck was very different to what people were used to, and we got a lot of rejections,” recalls Bordainick. “But, I think that worked in our favour long term, even though it made getting initial capital harder. The people that ended up at our cap table got our vision, and believed in us.”
To receive the Vogue Business newsletter, sign up here.
Comments, questions or feedback? Email us at feedback@voguebusiness.com.
More from this author:
Why Ren Clean Skincare quietly cut a third of its portfolio
Premium products and suncare lead beauty surge
Estée Lauder lowers forecast as sales fall 12% on slow Asia rebound
