One Step Late in Online Transition: 'Amorepacific'

The domestic cosmetics industry rapidly grew in the mid-2010s as K-Beauty became popular in China amid the Korean Wave. However, this golden era quickly disappeared after the deployment of the Terminal High Altitude Area Defense (THAAD) system in 2017, which led to the Chinese government's ban on Korean cultural content (Hallyu ban). The cosmetics industry, which had been stuck in a slump, saw some hopes for easing of the ban toward the end of last year. However, the novel coronavirus disease (COVID-19) has thrown the cosmetics industry into another period of upheaval. It has reduced the share of duty-free shops and road shops, which were the main sales channels for domestic cosmetics companies, while increasing the share of online sales. Cosmetics applied to the face are now primarily sold online. Domestic companies are restructuring their business models from offline to online to survive. Asia Economy examines how domestic cosmetics companies Amorepacific and Cosmax are adapting to the contactless (untact) era and assesses their future growth potential.

[Asia Economy Reporter Hyunseok Yoo] Amorepacific established itself as a leading Korean cosmetics company through high growth based on road shops and its China business. However, growth stalled as road shops and duty-free shops, which were the main growth drivers, suffered due to COVID-19. Although the company is strengthening its online presence in line with the untact era, it is considered to be a step behind competitors, so the outlook is not entirely bright.

◆ Third quarter performance still decent = Amorepacific recorded consolidated third-quarter sales of 1.0886 trillion KRW and operating profit of 56 billion KRW. These figures represent decreases of 22.4% and 47.9%, respectively, compared to the same period last year. Although the results are weak year-over-year, they are not the worst when viewed solely within this year. Compared to the previous quarter, sales and operating profit increased by 3.15% and 59.1%, respectively. The operating profit also exceeded market expectations of 40 billion KRW.

Breaking down sales, domestic and overseas sales were 672.7 billion KRW and 423.2 billion KRW, respectively. In the previous quarter, these were 656.7 billion KRW and 405.4 billion KRW. Both sides showed slight increases, suggesting a bottoming out. However, the impact of COVID-19 remains significant. Domestic sales fell 27.7% year-over-year due to a decline in foreign tourist arrivals, which caused duty-free channel sales to shrink by more than 40% compared to the same period last year.

A positive aspect is improved profitability. The overseas segment, which recorded an operating loss of 21 billion KRW in the second quarter, posted an operating profit of 19.7 billion KRW this time. This was influenced by increased sales of the high-margin brand Sulwhasoo and growth in online sales. The domestic segment recorded 36 billion KRW, down 35.71% from 56 billion KRW in the previous quarter.

The greater improvement in profitability than sales recovery is attributed to cost reduction. Selling and administrative expenses decreased from 917.6 billion KRW in the third quarter of last year to 719.3 billion KRW this year. Except for digital marketing in China, most reductions came from large-scale offline store closures in the U.S. and Asia, which lowered labor and rental costs, significantly improving the profitability of overseas subsidiaries.

The fourth quarter is also expected to be challenging. According to FnGuide, securities firms forecast Amorepacific's consolidated fourth-quarter sales and operating profit at 1.1633 trillion KRW and 46.2 billion KRW, respectively. Sales are expected to decrease 12.77% year-over-year, but operating profit is expected to increase by 0.66%. Compared to the previous quarter, sales are projected to rise 6.8%, while operating profit is expected to fall 17.5%.

There are also concerns that the trend of performance improvement needs to be observed further. Kim Hyemi, a researcher at Cape Securities, explained, "Despite improved profitability, the prolonged COVID-19 situation makes rapid sales recovery difficult for Amorepacific," but added, "It is a positive factor that overseas performance, such as in China, is improving faster than domestic performance."

◆ Need to strengthen online presence = Although the third-quarter results were somewhat resilient, the future is not entirely bright. The reason is the late transition to online. In 2017, digital channels (including online and home shopping) accounted for only 8% of Amorepacific's total sales. In 2018 and 2019, the figures were 7% and 8%, respectively, and remained below 10% until last year.

Amorepacific has been increasing its online share this year, reaching 15% in the first half. The third quarter also saw growth in the online sector. Orin A, a researcher at eBest Investment & Securities, said, "Domestic e-commerce sales increased by 40% year-over-year. In China, Sulwhasoo grew by more than 20%, and especially, luxury brands achieved online growth rates exceeding 80%."

However, conflicts with offline stores arising during the online strengthening process have become an issue. At the beginning of this year, Amorepacific Group Chairman Suh Kyung-bae declared a "digital transformation" and launched exclusive brands and products. The problem is that during this process, the same products were priced differently online and offline, resulting in products sold online being cheaper than those sold at franchise stores, causing losses for franchise owners.

Amorepacific has proposed a win-win plan to address this issue. The plan includes ▲ special rent support for franchise stores ▲ expanded profit sharing from online direct malls ▲ special inventory buybacks ▲ easing of store closure burdens ▲ and separate sales activity subsidies. Although it is not yet clear how the funds will be used to provide support, some costs are inevitable.

Especially for Amorepacific, whose growth has slowed due to the late online transition, issues with franchise stores are expected to become a burden going forward. Currently, the cosmetics market is active online, with venture companies launching mid- to low-priced new brands mainly through the internet. This environment inevitably shrinks offline road shops.

A securities firm researcher said, "In Amorepacific's case, they should have converted Aritaum into a multi-brand store like a health & beauty (H&B) store, but they missed the timing," adding, "They should have sold online through platforms like Coupang or 11st, but insisted on their own mall, responding late to channel changes, which made things difficult." He continued, "The issue is how to resolve the franchise problem, but since it is difficult to compensate franchise store performance, the number of stores will inevitably have to be gradually reduced."

This content was produced with the assistance of AI translation services.