10-K: Annual report pursuant to Section 13 and 15(d)
Published on February 28, 2023
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of Contents
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-K
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||||
For
the fiscal year ended
December 31 , 2022
OR
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TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
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For
the transition period from _________ to _________
Commission
file number
001-40860
(Exact
name of registrant as specified in its charter)
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(State
or other jurisdiction of incorporation or organization)
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(I.R.S.
Employer Identification No.)
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Address
not applicable1
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(Address
of Principal Executive Offices)
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(
310 )
691-0776
Registrant's
telephone number, including area code
Securities
registered pursuant to Section 12(b) of the Act:
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Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the
Securities Act. Yes
No ☒
Indicate
by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d)
of the Act. Yes
No ☒
Indicate
by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or
15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period
that the registrant was required to file such reports); and (2) has been subject to such filing
requirements for the past 90 days.
Yes ☒ No
Indicate
by check mark whether the registrant has submitted electronically and posted on its corporate web site,
if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of
Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period
that the registrant was required to submit and post such files).
Yes ☒ No
Indicate
by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check
one):
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☒ | Accelerated filer | ☐ | ||||||||
| Non-accelerated filer | ☐ | Smaller reporting company |
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| Emerging growth company |
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If
an emerging growth company, indicate by check mark if the registrant has elected not to use the extended
transition period for complying with any new or revised financial accounting standards provided pursuant
to Section 13(a) of the Exchange Act. ☐
Indicate
by check mark whether the registrant has filed a report on and attestation to its management’s
assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of
the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or
issued its audit report.
☒
If
securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the
financial statements of the registrant included in the filing reflect the correction of an error to
previously issued financial statements. ☐
Indicate
by check mark whether any of those error corrections are restatements that required a recovery analysis
of incentive-based compensation received by any of the registrant’s executive officers during the
relevant recovery period pursuant to §240.10D-1(b). ☐
Indicate
by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes
☐ No ☒
The
aggregate market value of voting stock held by non-affiliates of the registrant on June 30, 2022 was
approximately $
1.9 billion.
As
of February 21, 2023, the registrant had
651,896,249 shares of common stock, par value $0.001 per share, outstanding.
1Olaplex
Holdings, Inc. is a fully remote company. Accordingly, it does not maintain a principal executive
office.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
of the registrant’s Definitive Proxy Statement relating to its 2023 Annual Meeting of stockholders,
to be filed with the Securities and Exchange Commission within 120 days after registrant’s fiscal
year end of December 31, 2022, are incorporated by reference into Part III of this Annual
Report.
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GLOSSARY
As
used in this Annual Report on Form 10-K (“Annual Report”), the terms identified below have the meanings
specified below unless otherwise noted or the context indicates otherwise. Except where the context
otherwise requires or where otherwise indicated, the terms “OLAPLEX”
“we,” “us,” “our,” “our company,” “the Company,” and “our business” refer to Olaplex
Holdings, Inc.
and its consolidated subsidiaries.
•“2020
Credit Agreement”
refers to the Credit Agreement, dated as of January 8, 2020, by and among Olaplex, Inc., Penelope
Intermediate Corp., MidCap Financial Trust, as administrative agent, collateral agent and swingline
lender, and each lender and issuing bank from time to time party thereto, as amended by the First
Incremental Amendment to the 2020 Credit Agreement, dated as of December 18, 2020. The 2020 Credit
Agreement was refinanced and replaced by the 2022 Credit Agreement.
•“2022
Credit Agreement”
refers to the Credit Agreement, dated as of February 23, 2022, by and among Olaplex, Inc., Penelope
Intermediate Corp, Goldman Sachs Bank USA, as administrative agent, collateral agent and swingline
lender, and each lender and issuing bank from time to time party thereto. The 2022 Credit Agreement
refinanced and replaced the 2020 Credit Agreement.
•“IPO”
refers to the initial public offering of shares of common stock of Olaplex Holdings, Inc., completed on
October 4, 2021.
•“Penelope”
refers to Penelope Holdings Corp., which is an indirect parent of Olaplex, Inc., the Company’s primary
operating subsidiary.
•“Penelope
Group Holdings”
refers to Penelope Group Holdings L.P., which prior to the IPO was the direct parent of Penelope.
•“Pre-IPO
Stockholders”
refers to, collectively, (i) the former limited partners of Penelope Group Holdings prior to the
Reorganization Transactions and (ii) holders of options to purchase shares of common stock of Penelope
that were vested as of the consummation of the Reorganization Transactions.
•“Reorganization
Transactions”
refers to the internal reorganization completed in connection with our IPO, pursuant to which Olaplex
Holdings, Inc. became an indirect parent of Olaplex, Inc. For further information, see “Reorganization
Transactions” in “Note 1 - Nature of Operations and Basis of Presentation” to our Consolidated Financial
Statements included in Part II, Item 8 of this Annual Report.
•“Tax
Receivable Agreement”
refers to the income tax receivable agreement entered into by the Company in connection with the
Reorganization Transactions under which the Company is required to pay the Pre-IPO Stockholders 85% of
the cash savings, if any, in United States (“U.S.”) federal, state or local tax that the Company
actually realizes on its taxable income following the IPO, as specified in the Tax Receivable Agreement.
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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This
Annual Report contains certain forward-looking statements and information relating to us that are based
on the beliefs of our management as well as assumptions made by, and information currently available to,
us. These statements include, but are not limited to, statements about our strategies, plans,
objectives, expectations, intentions, expenditures and assumptions and other statements contained in or
incorporated by reference in this Annual Report that are not historical or current facts. When used in
this document, words such as “may,” “will,” “could,” “should,” “intend,” “potential,” “continue,”
“anticipate,” “believe,” “estimate,” “expect,” “plan,” “target,” “predict,” “project,” “seek” and
similar expressions as they relate to us are intended to identify forward-looking statements.
The
forward-looking statements in this Annual Report reflect our current expectations and projections about
future events and financial trends that we believe may affect our business, financial condition and
results of operation. Examples of forward-looking statements include, among others, statements we make
regarding: our financial position and operating results; our business plans, strategies and objectives;
general economic and industry trends; our business prospects; our reputation and brand; future product
development and introduction, including entry into adjacent and other categories; growth and expansion
opportunities, including expansion in existing markets and into new markets; our sales channels and
omnichannel strategy; our customer base; our supply chain and global distribution network; our
technology and cybersecurity profile; our social and environmental initiatives and programs; our
employees and culture; our operational capabilities; and our expenses, working capital and liquidity.
Forward-looking statements are predictions based upon assumptions that may not prove to be accurate, and
they are not guarantees of future performance. As such, you should not place significant reliance on our
forward-looking statements. Neither we nor any other person assumes responsibility for the accuracy and
completeness of the forward-looking statements, including any such statements taken from third party
industry and market reports.
Forward-looking
statements involve known and unknown risks, inherent uncertainties and other factors that are difficult
to predict which may cause our actual results, performance, time frames or achievements to be materially
different from any future results, performance, time frames or achievements expressed or implied by the
forward-looking statements, including, without limitation:
•our
ability to anticipate and respond to market trends and changes in consumer preferences and execute on
our growth strategies and expansion opportunities, including with respect to new product
introductions;
•our
ability to develop, manufacture and effectively and profitably market and sell future products;
•our
ability to accurately forecast customer and consumer demand for our products;
•competition
in the beauty industry;
•our
ability to effectively maintain and promote a positive brand image and expand our brand
awareness;
•our
dependence on a limited number of customers for a large portion of our net sales;
•our
ability to attract new customers and consumers and encourage consumer spending across our product
portfolio;
•our
ability to successfully implement new or additional marketing efforts;
•our
relationships with and the performance of our suppliers, manufacturers, distributors and retailers and
our ability to manage our supply chain;
•impacts
on our business from political, regulatory, economic, trade and other risks associated with operating
internationally;
•our
ability to attract and retain senior management and other qualified personnel;
•our
reliance on our and our third-party service providers’ information technology;
•our
ability to maintain the security of confidential information;
•our
ability to establish and maintain intellectual property protection for our products, as well as our
ability to operate our business without infringing, misappropriating or otherwise violating the
intellectual property rights of others;
•the
outcome of litigation and regulatory proceedings;
•the
impact of changes in federal, state and international laws, regulations and administrative
policy;
•our
existing and any future indebtedness, including our ability to comply with affirmative and negative
covenants under the 2022 Credit Agreement;
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•our
ability to service our existing indebtedness and obtain additional capital to finance operations and our
growth opportunities;
•volatility
of our stock price;
•our
“controlled company” status and the influence of investment funds affiliated with Advent International
Corporation over us;
•the
impact of an economic downturn and inflationary pressures on our business;
•fluctuations
in our quarterly results of operations;
•changes
in our tax rates and our exposure to tax liability; and
•the
other factors identified in the “Risk Factors” section of this Annual Report and in other documents that
we file with the Securities and Exchange Commission from time to time.
Many
of these factors are macroeconomic in nature and are, therefore, beyond our control. Should one or more
of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, our
actual results, performance or achievements may vary materially from those described in this Annual
Report as anticipated, believed, estimated, expected, intended, planned or projected. We discuss many of
these risks in greater detail in the “Risk Factors” section included elsewhere in this Annual Report.
The forward-looking statements included in this Annual Report are made only as of the date hereof.
Unless required by law, we neither intend nor assume any obligation to update these forward-looking
statements for any reason after the date of this Annual Report to conform these statements to actual
results or to changes in our expectations or otherwise.
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RISK FACTORS SUMMARY
An
investment in our common stock involves risks. You should consider carefully the following risks, which
are discussed more fully in “Item 1A. Risk Factors”, and all of the other information contained in this
Annual Report before investing in our common stock. These risks include, but are not limited to, the
following:
•Our
inability to anticipate and respond to market trends and changes in consumer preferences could adversely
affect our financial results;
•Our
historical rapid growth may not be indicative of future growth, and we expect our growth rate to
ultimately slow over time. If we are unable to manage our growth effectively, our business, financial
condition and results of operations could be adversely affected;
•If
we are unable to accurately forecast customer and consumer demand, manage our inventory and plan for
future expenses, our results of operations could be adversely affected;
•The
beauty industry is highly competitive, and if we are unable to compete effectively, our business,
financial condition and results of operations could be adversely affected;
•Our
brand is critical to our success, and the value of our brand may be adversely impacted by negative
publicity through traditional or social media channels. If we fail to maintain the value of our brand or
our marketing efforts are not successful, our business, financial condition and results of operations
could be adversely affected;
•We
depend on a limited number of customers for a large portion of our net sales, and the loss of one or
more of these customers could reduce our net sales and have an adverse effect on our business, financial
condition and cash flows;
•If
we fail to attract new customers and consumers, retain existing customers and consumers, or fail to
maintain or increase sales to those customers and consumers, our business, prospects, results of
operations, financial condition, cash flows and growth prospects could be harmed;
•We
may be affected by changes in consumer shopping preferences, shifts in distribution channels and changes
in the salon and retail environments, and such changes could have an adverse impact on the demand for
our products and on our business, financial condition and results of operations;
•We
rely on single source manufacturers and suppliers for the majority of our products. The loss of
manufacturers or suppliers or shortages in the supply of raw materials or finished products could harm
our business, prospects, results of operations, financial condition and cash flows;
•A
disruption in manufacturing, supply chain or our shipping distribution and warehouse management network
could adversely affect our business, financial condition and results of operations;
•We
are subject to risks related to the global scope of our sales channels;
•We
rely on the use of our and our third-party service providers’ information technology. Any significant
failure, inadequacy, interruption or data security incident impacting our information technology and
websites, or those of our third-party service providers, could have an adverse effect on our business,
prospects, results of operations, financial condition or cash flows;
•Failure
to adequately maintain the security of confidential information could materially adversely affect our
business;
•Our
processing of personal information and other sensitive data could give rise to significant costs and
liabilities, which may have an adverse effect on our reputation, business, financial condition and
results of operations;
•Our
efforts to register, maintain and protect our intellectual property rights may not be sufficient to
protect our business;
•Third
parties may allege that we are infringing, misappropriating or otherwise violating their intellectual
property rights, which could involve substantial costs and adversely impact our business;
•Disputes
and other legal or regulatory proceedings could adversely affect our financial results;
•If
our products are found to be defective or unsafe, we may be subject to various product-related claims,
which could harm our reputation and business.
•Our
business is subject to federal, state and international laws, regulations and policies that could have
an adverse effect on our business, prospects, results of operations, financial condition and cash
flows;
•Government
regulations relating to the marketing and advertising of our products may restrict, inhibit or delay our
ability to sell our products and harm our business.
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•Our
significant indebtedness could adversely affect our financial condition;
•We
may be unable to generate sufficient cash flow to service our debt obligations;
•Our
stock price may be extremely volatile and, as a result, you may not be able to resell your shares at or
above the price you paid for them;
•Investment
funds affiliated with Advent International Corporation own a significant percentage of our common stock
and have significant influence over us;
•The
Tax Receivable Agreement with our Pre-IPO Stockholders requires us to make cash payments to them and
exposes us to certain risks. These payments may be substantial and could exceed actual tax benefits. The
timing of these payments may also be accelerated, and we will not be reimbursed for any payments made
under the Tax Receivable Agreement in the event that any tax benefits are disallowed. Changes in tax
law, and in particular the tax rate applicable to U.S. corporations and the tax rules on amortization of
intangible assets, may materially impact the timing and amounts of payments by us to the Pre-IPO
stockholders pursuant to the Tax Receivable Agreement;
•There
may be sales of a substantial amount of our common stock, and these sales could cause the price of our
common stock to fall;
•We
are a “controlled company” within the meaning of the corporate governance standards of The Nasdaq Stock
Market LLC. As a result, we qualify for, and rely on, exemptions from certain corporate governance
standards;
•A
general economic downturn or sudden disruption in business conditions may affect consumer purchases of
discretionary items and the financial strength of our customers, which could adversely affect our
business, financial condition and results of operations; and
•Our
quarterly results of operations may fluctuate, and if our operating and financial performance in any
given period does not meet the guidance that we have provided to the public or the expectations of our
investors and securities analysts, the trading price of our common stock may decline.
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PART I
ITEM 1. BUSINESS
Company Overview
OLAPLEX
is an innovative, science-enabled, technology-driven beauty company. Since our inception in 2014, we
have focused on delivering effective, patent-protected and proven performance in the prestige haircare
category. Our mission is to blaze new paths to well-being that ignite confidence from the inside
out.
We
offer science-backed solutions that are designed to improve hair health and are trusted by stylists and
consumers. We identify our consumers’ most relevant haircare concerns in collaboration with our
passionate and highly engaged community of professional hairstylists and consumers and strive to address
them through our proprietary technology and innovation capabilities.
Our Products
OLAPLEX
disrupted and revolutionized the prestige haircare category by creating the bond-building space in 2014.
We have grown from an initial offering of three products sold exclusively through the professional
channel to a broader suite of products offered through the professional, specialty retail and Direct to
Consumer (“DTC”) channels that have been strategically developed to address three key uses: treatment,
maintenance and protection. Our current product portfolio is comprised of fifteen unique and
complementary products specifically developed to provide a holistic regimen for hair health. Our
proprietary, patent-protected ingredient,
Bis-aminopropyl diglycol dimaleate (“Bis-amino”), serves as a key differentiator
in our ability to create trusted, high-quality products. Underpinning our product range is a portfolio
of more than 160 worldwide patents which protects our proprietary technology and we believe creates both
barriers to entry and a foundation for us to enter adjacent and other categories over time. Our patent
claims are broadly drafted and include claims covering applications across adjacent categories in
haircare and also other categories such as skin care and nail health.
Professional Products
Our
current hair health platform is championed by four products that can be purchased and applied only by
professional hairstylists, No. 1, No. 2, our 4-in-1 Moisture Mask and our Broad Spectrum Chelating
Treatment. These products often serve as an introduction to our brand and a gateway to the remainder of
our products that can be used both at home and in the salon.
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Retail Products
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Our Channels
We
believe that a key differentiator of OLAPLEX is our synergistic omnichannel strategy. Our three sales
channels, Professional, Specialty Retail, and Direct-to-Consumer, work together to reinforce
relationships with current customers and introduce our products to an expanded potential customer
base.
Professional Channel Rooted in our Hairstylist Community
In
our professional channel, our products are sold primarily through wholesale beauty supply distributors
who then sell those products to professional beauty industry outlets, such as professional beauty supply
stores, salons and licensed hairstylists, for use in the salon or for hairstylists to sell to consumers
for use at home. In 2022, we sold our products through over 115 professional distributors. Our
international distributors are generally only permitted to sell our products to professional beauty
industry outlets in specific territories, with some having the exclusive right to sell our products in
the territory. Our agreements with professional beauty distributors also typically contain minimum
purchase and sell-through requirements and prohibit the distributor from selling products deemed
competitive with ours.
Specialty Retail Channel Focused on Reaching Consumers
Our
specialty retail customers include specialty retailers with online and/or brick and mortar presences. In
2022, we sold our products through approximately 50 retailers in more than 20 countries throughout the
world.
Direct to Consumer Channel Leveraging our Digital Capabilities
We
sell our products directly to consumers through our branded website, Olaplex.com, and third-party
e-commerce platforms, including Amazon and pure play beauty and wellness partners. We have dedicated
resources to implement creative, coordinated, brand-building strategies across our online activities to
increase our direct access to consumer insights, which we believe has led to higher engagement and
conversion, and can further enhance our innovation and branding performance.
Innovation
We
believe that one of the key differentiators of our business is a powerful innovation platform. We
conduct research in our OLAPLEX laboratory and employ a dedicated in-house research and development
team, which includes scientists, product and packaging innovation specialists, and regulatory and
compliance experts. We also incorporate feedback from our community of professional hairstylists and
consumers to better understand their respective needs. These insights, combined with the efforts of our
in-house research and development team, independent third party laboratory testing, and real-world salon
testing, create a virtuous feedback loop. We develop our products in our laboratory and in partnership
with national co-manufacturers, universities, and biotech companies to remain on the cutting edge of
beauty technology. As our business continues to grow globally, we intend to focus on developing
proprietary new technologies, improving existing products and exploring adjacent and other
categories.
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We
do not perform, nor do we commission any third parties on our behalf to perform, testing of our products
or ingredients on animals.
Our
principal research and development center is located in the U.S. See “Item 2. Properties”.
Marketing
Our
strategy to market and showcase our products begins with our omnichannel platform across the
professional, specialty retail and DTC channels. In our professional channel, we market our products
using educational seminars on our products’ application methods and consumer benefits. We have a
dedicated portal on our website for professional customers to purchase and learn more about our products
and have developed a mobile app for our professional community that serves as a resource on our brand
and products and offers us the opportunity to more directly engage with hairstylists about our products.
In addition, we use professional trade advertising, social media and other digital marketing to
communicate to professionals and consumers the quality and performance characteristics of our products.
In
our specialty retail channel, we support our authorized retailers to drive in-store and e-commerce sales
of our products, and we work with them to ensure the optimal presentation of our products in their
stores or on their e-commerce sites. Advertising activities, in-store displays and online navigation are
designed to attract new consumers, build demand and loyalty and introduce existing consumers to other
product offerings. Our marketing efforts also benefit from cooperative advertising programs with some
retailers.
In
our DTC channel, our digital first approach to performance marketing is designed to offer best-in-class
customer experience on Olaplex.com, from load times, site navigation to a more intuitive check-out
experience, all of which is designed to increase brand awareness, site traffic and conversion.
In
addition, top celebrity hairstylists and colorists from around the world serve as Olaplex brand
ambassadors. These brand ambassadors help market our brand through educational events, social media and
other publicity. We also are investing in new analytical capabilities to promote a more predictive and
personalized experience across our sales channels. For example, we developed an online hair diagnostic
quiz that allows consumers to discover our products by identifying their personal hair health needs,
which are used to provide customized product recommendations.
Our Customers
Our
strategy is to build and maintain strong customer relationships globally, and we have over 215 customers
across our omnichannel sales platform. Our
products are sold in more than 100 countries across the world. During
the years ended December 31,
2022,
2021, and 2020, respectively, the Company’s customers with net sales exceeding 10% of total net sales
consisted of one customer which represented 16%, two customers which represented 25% in aggregate, and
three customers which represented 32% in aggregate of total net sales. The accounts
receivable balance for these customers as a percentage of total accounts receivable was
immaterial
as of
December 31, 2022 and
11% at December 31, 2021. The Company has not experienced material bad debt losses due to this
concentration.
In
2022, approximately 56% of our net sales were generated in the U.S. and approximately 44% of our net
sales were international, based
upon the geographic location of customers who purchase our products. However, the majority of net sales
are transacted in U.S. Dollars, our functional and reporting currency.
Supply Chain and Global Distribution Network
We
believe that we have developed a flexible and resilient third-party supply chain that is capable of
supporting long-term growth at scale. A core tenet of our supply chain strategy is leveraging strong
relationships with our manufacturers and logistics partners to create an expansive supply network that
is designed to create ample capacity without requiring significant additional capital investment.
Our
finished products are manufactured in the U.S. and Europe by four manufacturers. Two of these
manufacturers are located in the U.S., one is located in Europe, and one maintains facilities in the
U.S. and Europe. Cosway Company Inc. (“Cosway”) manufactures products that accounted for more than 77%
of our net sales in 2022, and we continue to rely upon Cosway to manufacture a majority of our current
product offerings. We are currently negotiating a new agreement with Cosway. In order to allow
sufficient time to facilitate these negotiations, we have amended our current agreement with Cosway to
expire on June 30, 2023. In support of our efforts to expand our manufacturing network, this amendment
also removes the requirement that we exclusively purchase certain finished products from Cosway. We
expect to be able to complete such negotiations prior to the expiration date of the current Cosway
agreement (or be able to extend the expiration date as necessary until such time as we are able to enter
into a new agreement with Cosway). In addition, as part of our manufacturing expansion efforts, on July
7, 2022, we entered into a supply agreement with our fourth manufacturer and began manufacturing in
October 2022.
We
utilize third parties with key operational facilities located inside and outside the U.S. to warehouse
and distribute our products for sale throughout the world. We believe that our manufacturing and
distribution network is sufficient to meet anticipated
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demand.
In addition, we have disaster recovery programs in place under some of our agreements with suppliers
that allow for shifting of manufacturing capacity if necessary to account for disruptions due to natural
disasters and other events outside of our or their control. We continue to implement improvements in
capacity, technology, resiliency, and productivity and to align our manufacturing and distribution
capabilities with anticipated regional and international sales demand and expansion of our customer base
in targeted geographies. In 2022, we transitioned our primary U.S. warehouse and logistics center to a
new provider and launched a new business to consumer third party warehouse and logistics center in
Canada.
Seasonality
Our
results of operations typically are slightly higher in the second half of the fiscal year due to
increased levels of purchasing by consumers for special and holiday events and by retailers for the
holiday selling seasons. However, fluctuations in net sales in any fiscal quarter may be attributable to
a number of other factors, including macroeconomic factors, competitive activity and the level and scope
of new product introductions by or promotional activities of our retail customers, which may impact
their order placement and receipt of goods.
Competition
Competition
in the beauty industry is based on a variety of factors, including innovation, product efficacy,
accessible pricing, brand
recognition and loyalty, service
to the consumer, promotional activities, advertising, special events, new product introductions,
e-commerce initiatives and other activities. Our competitors include Estee Lauder, Henkel AG & Co.
KGaA, Kao Corporation, L’Oreal S.A. and Unilever. We also face competition from a number of independent
brands. Certain of our competitors also have ownership interests in third parties that are our
customers.
We
believe we have a well-recognized and strong reputation in our core markets and that the quality and
performance of our products, our emphasis on innovation, and our engagement with our professional and
consumer communities position us to compete effectively.
Intellectual Property
We
rely on a combination of patent, trademark, copyright, trade secret, and other intellectual property
laws, nondisclosure and assignment of inventions agreements and other measures to protect our
intellectual property.
As
of December 31, 2022, we owned over 300 trademark registrations and applications globally. Our
flagship trademark is OLAPLEX. We seek to register our OLAPLEX mark in all jurisdictions where we do
business. In addition, as of December 31, 2022, we owned over 160 issued patents worldwide,
including 15 U.S. patents, and over 45 pending patent applications worldwide. During the year ended
December 31, 2022, we filed 237 new trademark applications and were granted 61 new trademark
registrations. We also filed three new patent applications and were issued seven new patents.
Our
patent portfolio includes a family of patents that includes approximately 100 granted patents with
claims that cover Olaplex’s commercial formulations Nos. 0-9, as well as their uses, and patents with
claims that cover other haircare, nail and skincare products and/or their uses. The patents issued in
this family have been granted in the U.S., Australia, throughout Europe, Brazil, Canada, Israel, New
Zealand and Japan. The patents in this family are generally expected to expire in 2034. Any additional
patents that grant from pending applications in this patent family would also be expected to expire in
2034.
Our
patent portfolio also includes a family of patents with claims to protect us against competitor products
that do not contain our Bis-amino ingredient. This patent family includes approximately 50 patents
worldwide, including patents that have been granted in the U.S., throughout Europe, Brazil, Canada,
Israel and Japan. The patents in this family are generally expected to expire in 2035. Any additional
patents that grant from pending applications in this patent family would also be expected to expire in
2035.
For
more information, see “Risk Factors— Risks Related to Intellectual Property Matters.”
Information Technology
Information
technology supports all aspects of our business, including operations, marketing, sales, order
processing, production and distribution networks, customer experience, finance, business intelligence,
and product development. We continue to maintain and enhance our information technology systems and
customer experiences in alignment with our long-term strategy. An increasing portion of our global
information technology infrastructure is cloud-based and in partnership with industry-leading service
providers. We believe this approach enables a high performance platform to support current and future
requirements and enhances our scale and flexibility to respond to the demands of the business by
leveraging advanced and leading-edge technologies.
We
recognize that technology presents opportunities to build a competitive advantage, and we continue to
invest in new capabilities across various aspects of our business. During 2022, we continued to improve
our business-to-business and business-to-consumer integration, cybersecurity and technology
infrastructure, supply chain network and integrations, business resilience capabilities, and analytics.
In addition, in 2022 we improved our e-commerce experience, launched DTC sites in France and
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Canada,
continued our investment in business intelligence to drive deeper consumer insight and built a
multi-language certification and education platform for our professional hairstylist and consumer
communities.
In
2022 we expanded our data privacy program and our vendor risk program to protect our customers and our
business and to align with the privacy regulations of countries in which we do business. We have
enhanced and will continue to enhance our cybersecurity posture to align with industry standard
cybersecurity frameworks. We review and assess our cybersecurity profile on an ongoing basis, and our
policies and procedures establish processes for risk assessment, risk management, risk oversight, data
protection, incident management, operations security, end user training, third-party reviews and
implementation of general cybersecurity best practices. We have assessed, and will continue to assess,
the adequacy of our policies, procedures, and internal controls for ensuring we meet defined
cybersecurity standards.
Commitment to Social and Environmental Consciousness
We
believe our responsibility extends beyond our products that build better hair. We continue to evaluate
the impact we have on our environment and communities in an effort to further integrate sustainability
and social impact into our strategy and business operations. In 2022 we began a partnership with a
sustainability strategy firm to perform a double materiality assessment of various Environmental, Social
and Governance factors relevant to the Company. This assessment, which will also incorporate feedback
from several of our stakeholder groups, will be used by us to develop our multi-year Environmental,
Social and Governance strategy.
•Environmental
Sustainability. Our
cruelty-free, non-toxic formulas are free of Parabens, Sodium Lauryl Sulfate “SLS”, Sodium Lauryl Ether
Sulfate “SLES”, Phthalates and Phosphates. From our early days we have also limited the use of secondary
packaging for our products. We estimate that between 2015 to 2022 we avoided the use of approximately
6.9 million pounds of paper packaging, which we estimate prevented approximately 56 million pounds of
greenhouse gas from being emitted into the environment, conserved approximately 91 million gallons of
water and saved approximately 70,000 trees from deforestation. In 2022, we also began a partnership with
a leading sustainability rating provider to assess the sustainability practices of our third party
manufacturing and logistics partners.
•Charitable
donations.
In March 2022, we introduced
the Shopping Gives program to our website. Shopping Gives is a charitable initiative whereby we donate
$1 for every order that a retail or professional customer places, at no additional cost to the customer.
Customers can choose from a list of causes to benefit from their purchase.
•Supporting
Small Businesses. We
are invested in the success of our hairstylist community as their businesses grow alongside ours. We are
especially focused on providing support to the small business community and minority hairstylists.
Currently, 98% of our salon community is made up of small businesses and a meaningful percentage of our
hairstylists identify as racial or ethnic minorities.
Employees and Human Capital Resources
Employees
As
of December 31, 2022, Olaplex employed 174 employees, 167 of whom are based in the U.S. and seven
of whom are based in the United Kingdom (“U.K.”). We also leverage contractors to supplement work in
areas that are quickly growing such as technology, operations and accounting. We do not have any
employees governed by a union. We utilize professional employer organizations (“PEO”), who are the
employer of record of our U.S. and U.K. employees and administer our human resources, payroll and
employee benefits functions.
Culture
We
believe our commitment to our heritage in the prestige haircare category and encouragement of our
employees to bring their whole self to work has created a culture that is paramount to our success. We
are passionate about what we do, how our products impact lives and what our brand means to our
community.
Diversity, Equity and Inclusion
We
believe it is important that our employees reflect the diversity of our hairstylist and consumer
communities, and our focus on Diversity, Equity and Inclusion remains a key differentiator in both our
consumer strategy and internal culture. Our current Olaplex employees include former hairstylists whose
unique perspectives and insights have helped us better understand our diverse consumer base and what
matters to them. As a result of our efforts, we have created a diverse workplace environment where 76%
of our employees identify as female and 45% identify as non-white as of December 31, 2022.
Additionally, eight of the ten members of our board of directors (the “Board of Directors”) identify as
female. We know through experience that different ideas, perspectives and backgrounds create a stronger
and more creative work environment that can deliver better results.
In
January 2021, we established DEI Champions within the Company who reinforce our collective commitment to
foster a diverse, equitable and inclusive culture. Their roles are to identify opportunities to further
engage our teammates through training
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and
education, encouraging candid conversations and leading by example. The team is led by a diverse group
of six individual volunteers across different departments.
Compensation and Benefits
The
core objective of our compensation program is to provide a package that will attract, motivate and
reward exceptional employees. Through our “Healthy Hair ~ Healthy Body ~ Healthy Mind” wellness
strategy, we are committed to providing comprehensive benefit options that will allow our employees and
their families to live healthier and more secure lives. We leverage both formal and informal programs to
identify, foster and retain top talent. Our talent development is further supported by a professional
development reimbursement program and an educational assistance plan designed to provide financial
assistance to eligible team members.
Government Regulation
Our
products are subject to regulation by the Food
and Drug Administration (“FDA”)
and the Federal Trade Commission (“FTC”) in the U.S., as well as various other local and foreign
regulatory authorities in the countries in which we operate. These laws and regulations principally
relate to the ingredients, proper labeling, advertising, packaging, marketing, manufacture, safety,
shipment and disposal of our products.
In
the U.S., our products are considered “cosmetics” under the Federal Food, Drug, and Cosmetic Act
(“FDCA”). The labeling of cosmetic products is subject to the requirements of the FDCA, the Fair
Packaging and Labeling Act, the Poison Prevention Packaging Act and other FDA regulations. Cosmetics are
not subject to pre-market approval by the FDA. However, certain ingredients, such as color additives,
must be pre-approved for the specific intended use of the product and are subject to certain
restrictions on their use. FDA regulations also prohibit or otherwise restrict the use of certain types
of ingredients in cosmetic products. If a company has not adequately substantiated the safety of its
products or ingredients, then a specific warning label is required. The FDA may, by regulation, require
other warning statements on certain cosmetic products for specified hazards associated with such
products.
In
addition, the FDA requires that cosmetic labeling and claims be truthful and not misleading. Moreover,
cosmetics may not be marketed or labeled for their use in treating, preventing, mitigating, or curing
disease or other conditions or in affecting the structure or function of the body, as such claims would
cause the products to be a drug and subject to regulation as a drug. The FDA has issued warning letters
to cosmetic companies alleging improper drug claims regarding their cosmetic products, including, for
example, product claims regarding hair growth or preventing hair loss. In addition to FDA requirements,
the FTC and state consumer protection laws and regulations can subject a cosmetics company to a range of
requirements and theories of liability, including similar standards regarding false and misleading
product claims, under which FTC or state enforcement or class-action lawsuits may be brought.
The
FDA has not promulgated regulations establishing Good
Manufacturing Practices (“GMPs”)
for cosmetics. However, the FDA’s draft guidance on cosmetic GMPs, most recently updated in June 2013,
provides recommendations related to process documentation, recordkeeping, building and facility design,
equipment maintenance and personnel, and compliance with these recommendations can reduce the risk that
the FDA finds such products have been rendered adulterated or misbranded in violation of applicable law.
The FDA monitors compliance of cosmetic products through market surveillance and inspection of cosmetic
manufacturers and distributors to ensure that the products are not manufactured under insanitary
conditions or labeled in a false or misleading manner. Inspections also may arise from consumer or
competitor complaints filed with the FDA. In the event the FDA identifies any violation of FDA
regulation, the FDA may request or a manufacturer may independently decide to conduct a recall or market
withdrawal of product or to make changes to its manufacturing processes, product formulations or
labels.
The
Modernization of Cosmetics Regulation Act (“MoCRA”), signed into law on December 29, 2022, will expand
the FDA’s regulatory oversight of cosmetics when it becomes effective on December 29, 2023. MoCRA will
require, among other things, that manufacturers of cosmetics products register their facilities and list
their cosmetic products with the FDA, maintain for FDA review records demonstrating adequate
substantiation of cosmetic product safety, comply with GMP regulations for cosmetic products and report
serious adverse events associated with their cosmetic products to the FDA. MoCRA also grants the FDA
authority to issue mandatory recalls of cosmetic products that pose a risk of serious adverse health
consequences.
The
FTC also regulates and can bring enforcement action against cosmetic companies for deceptive advertising
and lack of adequate scientific substantiation for claims. The FTC has specialized requirements for
certain types of claims. For example, the FTC’s “Green Guides” regulate how “free-of,” “non-toxic” and
similar claims must be framed and substantiated. In addition, the FTC regulates the use of endorsements
and testimonials in advertising as well as relationships between advertisers and social media
influencers pursuant to the FTC’s Endorsement Guides. The Endorsement Guides provide that an endorsement
must reflect the honest opinion of the endorser, based on “bona fide” use of the product, and cannot be
used to make a claim about a product that the product’s marketer could not itself legally make.
Additionally, companies marketing a product must disclose any material connection between an endorser
and the company that consumers would not expect that would affect how consumers evaluate the
endorsement. If an advertisement features endorsements from people who achieved above average results
from using a product,
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the
advertiser must have proof that the endorser’s experience can generally be achieved using the product as
described; otherwise, an advertiser must clearly communicate the generally expected results of a product
and have a reasonable basis for such representations.
Although
the Green Guides and Endorsement Guides do not operate directly with the force of law, they provide
guidance about what the FTC generally believes the Federal Trade Commission Act, or FTC Act, requires in
the context using of “green” claims and endorsements and testimonials in advertising. Any practices
inconsistent with the Green Guides and Endorsement Guides can result in violations of the FTC Act’s
proscription against unfair and deceptive practices.
In
the European Union, the sale of cosmetic products is regulated under the E.U. Cosmetics Regulation (EC)
No 1223/2009, which provides the general regulatory framework for finished cosmetic products placed on
the E.U. market. The overarching requirement is that a cosmetic product made available on the E.U.
market must be safe for human health when used under normal or reasonably foreseeable conditions of use,
taking account of the following: (a) presentation including conformity with Directive 87/357/EEC
regarding health and safety of consumers; (b) labelling; (c) instructions for use and disposal; (d) any
other indication or information provided by the responsible person; and (e) the maintenance of a product
safety report.
Generally,
there is no requirement for pre-market approval of cosmetic products in the European Union. However,
manufacturers are required to notify their products via the centralized E.U. cosmetic products
notification portal. Manufacturers are responsible for safety of their marketed finished cosmetic
products and must undergo an appropriate scientific safety assessment before cosmetic products are sold.
The E.U. Cosmetics Regulation requires the manufacture of cosmetic products to comply with GMPs, which
is presumed where the manufacture is in accordance with the relevant harmonized standards. In addition,
text, names, trademarks, pictures and figurative or other signs used in the labelling and advertising of
cosmetic products cannot imply that these products have characteristics or functions they do not
actually have. Any product claims in labelling must be capable of being substantiated.
The
E.U. Cosmetics Regulation has been retained in U.K legislation, subject to certain amendments, and is
applicable to Great Britain (England, Scotland and Wales) and Northern Ireland. Such amendments include
notification of cosmetic products made available to consumers in Great Britain to the Office for Product
and Safety Standards and the requirement to have a responsible person established in the U.K. We rely on
expert consultants, Obelis, for our E.U. and U.K. product registrations and review of our labelling for
compliance with E.U. and U.K. regulation.
We
are also subject to a number of federal, state and international laws and regulations that affect
companies conducting business on the Internet. These laws and regulations may involve user privacy, data
protection, content, intellectual property, distribution, electronic contracts and other communications,
competition, protection of minors, consumer protection, telecommunications, product liability, taxation,
economic or other trade prohibitions or sanctions and online payment services. Many of these laws and
regulations are still evolving and being tested in courts.
We
are subject to federal, state, local and international laws regarding privacy and data protection. Such
laws and regulations are evolving and may be subject to significant change. In addition, the
application, interpretation and enforcement of these laws and regulations are often uncertain, and they
may be interpreted and applied inconsistently by different regulators and inconsistently with our
current policies and practices. In the European Union, the General Data Protection Regulation (“GDPR”)
imposes a strict data protection compliance regime and provides for significant potential fines or
penalties for violations. The GDPR applies to the processing and transfer of personal data. The GDPR has
also been incorporated into the laws of the U.K. (“U.K. GDPR”) alongside the Data Protection Act 2018.
Additionally, a 2020 decision from the Court of Justice of the European Union and related regulatory
guidance may impact our ability to transfer personal data from the European Economic Area or the U.K. to
the U.S. and other jurisdictions. Recently enacted U.S. state privacy laws require many companies that
process personal information, including us, to make disclosures to consumers about their data
collection, use and sharing practices. In some instances, these laws allow individuals to request access
to, or correction or deletion of, their personal information, as well as to opt out of the sale, or
sharing for cross-context behavioral advertising purposes, of such information to third parties, or to
opt out of the processing of their personal information for targeted advertising or certain automated
decision making and profiling activities. Certain of these laws also require companies, including us, to
obtain prior opt-in consent to the processing of specified sensitive personal information or to provide
the opportunity to limit the use or disclosure of such information in certain circumstances. These new
state privacy laws could mark the beginning of a trend toward more stringent privacy legislation in the
U.S., both at the state and federal level.
Available Information
Our
Internet address is www.Olaplex.com. Our website and the information contained on, or that can be
accessed through, the website will not be deemed to be incorporated by reference in, and are not
considered part of, this Annual Report on Form 10-K. Our Annual Report on Form 10-K, Quarterly Reports
on Form 10-Q, current reports on Form 8-K, including exhibits, proxy and information statements and
amendments to those reports filed or furnished pursuant to Sections 13(a), 14, and 15(d) of the
Securities Exchange Act of 1934, as amended (the “Exchange Act”), are available through the “Investors”
portion of our website
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free
of charge as soon as reasonably practicable after we electronically file such material with, or furnish
it to, the SEC. In addition, our filings with the SEC may be accessed through the SEC’s Interactive Data
Electronic Applications system at http://www.sec.gov.
All statements made in any of our securities filings, including all forward-looking statements or
information, are made as of the date of the document in which the statement is included, and we do not
assume or undertake any obligation to update any of those statements or documents unless we are required
to do so by law.
ITEM 1A. RISK FACTORS
An
investment in our common stock involves risks. You should carefully consider the following information
about these risks, together with the other information contained in this Annual Report.
The risks described below are those that we believe are the material risks that we face. If any of the
following risks actually occurs, our business, prospects, operating results and financial condition
could suffer materially, and the trading price of our common stock could decline. Some of the following
risks and uncertainties are, and will be, exacerbated by any worsening of the global business and
economic environment. The risks and uncertainties described below are not the only ones we face.
Additional risks and uncertainties not currently known to us or those we currently view to be immaterial
also may materially and adversely affect our business, prospects, operating results or financial
condition. See “Special Note Regarding Forward-Looking Statements” elsewhere in this Annual
Report.
Risks Related to Our Business
Our inability to anticipate and respond to market trends and changes in
consumer preferences could adversely affect our financial results.
Our
continued success depends on our ability to anticipate, gauge and react in a timely, effective manner to
changes in consumer tastes for haircare and other beauty products, attitudes toward our industry and
brand and where and how consumers shop. We must continually work to maintain and enhance the recognition
of our brand, develop, manufacture and market new products, maintain and adapt to existing and emerging
distribution channels, successfully manage our inventories and modernize and refine our approach as to
how and where we market and sell our products. Our new products and innovations on existing products may
not receive the same level of consumer acceptance as our products have in the past.
Consumer
tastes and preferences cannot be predicted with certainty and can change rapidly. This risk is increased
by the use of digital and social media by consumers and the speed by which information and opinions are
shared. Even if we are successful in anticipating consumer needs and preferences, our ability to timely
and adequately address those needs and preferences will in part depend upon our continued ability to
develop and introduce innovative, high-quality products and maintain our distinctive brand identity as
we expand the range of products we offer. The acceptance of new product launches and other product
innovations may not be as high as we anticipate due to lack of acceptance of the products themselves,
the price of the products, the strengths of our competitors or the limited effectiveness of our
marketing strategies. In addition, new product innovation may place a strain on our employees and our
financial resources, including incurring expenses in connection with product innovation, development and
marketing that are not subsequently supported by a sufficient level of sales.
As
part of our ongoing business strategy, we may expand our product launches into adjacent and other
categories. The success of such product launches could be hampered by our relative inexperience
operating in such categories, the strength of our competitors in such categories or any of the other
risks described elsewhere in this “Risk Factors” section. Our failure to anticipate and effectively
respond to changing consumer preferences and trends in the market for our products or to effectively
introduce new products in our traditional product categories, new products in adjacent or other
categories or innovations on existing products that appeal to consumers, or the introduction by our
competitors of similar products in a more timely fashion, could lead to, among other things, lower
sales, excess inventory or inventory shortages, markdowns and write-offs and diminished brand loyalty,
and our business, financial condition and results of operations could suffer.
These
risks have been and may continue to be exacerbated by the current macroeconomic environment. Consumer
spending habits and confidence have shifted and may continue to change in light of inflationary
pressures and other risks described elsewhere in this “Risk Factors” section.
Our historical rapid growth may not be indicative of future growth, and we
expect our growth rate to ultimately slow over time. If we are unable to manage our growth effectively,
our business, financial condition and results of operations could be adversely affected.
While
we have experienced significant and rapid growth, our historical rate of growth may not be indicative of
our future rate of growth, and our net sales could decline or grow more slowly than we expect. We
believe that continued growth in net sales, as well as our ability to improve or maintain margins and
profitability, will depend upon, among other factors, our ability to address the challenges, risks and
difficulties described elsewhere in this “Risk Factors” section. We cannot provide assurance that we
will be able to successfully manage any such challenges or risks to our future growth. Any of these
factors could cause our net sales growth to slow or decline and may adversely affect our margins and
profitability. Even if our net sales increase, our growth rate may slow for a number of other reasons,
including a decrease in demand for our products, increased competition, an increase in
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sales
of lower margin products such as holiday kits, a decrease in the growth or reduction in the size of our
overall market or if we cannot capitalize on growth opportunities. In addition, from time to time, sales
growth or profitability may be concentrated in a relatively small number of our products or countries.
Failure to continue to grow our net sales or improve or maintain margins would adversely affect our
business, financial condition and results of operations. You should not rely on our historical rate of
growth as an indication of our future performance.
Our
growth has in the past, and may in the future, strain our ability to effectively manage our operations,
as it requires us to expand our management team, sales and marketing, product development and logistics
and distribution functions. Growth may require us to further upgrade our management information systems,
internal processes and procedures and technology. It also requires us to obtain sufficient raw materials
and manufacturing capacity and additional operational capabilities and facilities to warehouse and
distribute our products, particularly as we continue to expand internationally. Ineffective execution to
support growth could result in, among other things, product delays or shortages, operating errors,
outages, inadequate customer service, inappropriate claims or promotions by our marketing team or brand
ambassadors and governmental inquires and investigations, all of which could harm our revenue and
ability to generate sustained growth and result in unanticipated expenses. Expansion into new
international markets may create operating difficulties in managing our business across numerous
jurisdictions and ultimately may not be successful, which could result in slower revenue growth, higher
operating costs and lower margins than anticipated and could impair our ability to enter into additional
new markets. In addition, we need to continue to attract and develop qualified management personnel to
sustain growth. If we are not able to successfully retain and develop existing personnel and identify,
hire and integrate new personnel, our business, financial condition and results of operations would be
adversely affected.
If we are unable to accurately forecast customer and consumer demand,
manage our inventory and plan for future expenses, our results of operations could be adversely
affected.
We
base our current and future inventory needs and expense levels on our operating forecasts and estimates
of future demand. To ensure adequate inventory supply, we must be able to forecast inventory needs and
expenses and place orders sufficiently in advance with our manufacturers and suppliers based on our
estimates of future demand for particular products. Failure to accurately forecast demand for new or
existing products has resulted in, and may in the future result in, inefficient inventory supply or
increased costs. For example, we experienced a slowdown in sales momentum during the second half of
2022, in part, due to inventory rebalancing across certain of our customers. Inventory levels in excess
of customer demand may result in inventory write-downs or write-offs or the sale of excess inventory at
discounted prices, which would cause our gross margins to suffer and could impair the strength and
premium nature of our brand. Further, lower than forecasted demand could result in excess manufacturing
capacity or reduced manufacturing efficiencies, which could result in lower margins. Conversely, if we
underestimate customer demand, including as a result of unanticipated growth and the launch of new
products, our manufacturers and suppliers may not be able to deliver products to meet our requirements,
and we may incur higher costs in order to secure the necessary production capacity or additional or
expedited shipping. An inability to meet customer demand and delays in the delivery of our products to
our customers could result in reputational harm and damaged customer relationships and have an adverse
effect on our business, prospects, results of operations, financial condition and cash flows.
While
we devote significant attention to forecasting efforts, the volume, timing, value and type of the orders
we receive are inherently uncertain. Historical growth rates, trends and other key performance metrics
may not predict future growth. Our business and our ability to forecast demand is affected by general
economic and business conditions in the U.S. and customer confidence in future economic conditions, and
our ability to forecast demand will be increasingly affected by conditions in international markets as
we continue to expand internationally. A portion of our expenses are fixed, and as a result, we may be
unable to adjust our spending in a timely manner to compensate for any unexpected shortfall in net
revenues. Any failure to accurately predict demand for our products or expenses could cause our
operating results to be lower than expected, which could adversely affect our financial condition.
The beauty industry is highly competitive, and if we are unable to compete
effectively, our business, financial condition and results of operations could be adversely affected.
We
face competition in the beauty industry from companies throughout the world, including multinational
consumer product companies and new independent beauty brands. Some of our competitors have greater
resources than we do and may be able to respond to changing business and economic conditions more
quickly than we can, and some are competing in distribution channels or territories where we are less
represented. Certain of our competitors have and may continue to attempt to gain market share by
offering products at prices at or below the prices at which our products are typically offered,
including through the use of discounts or other promotions, or by marketing their products as lower cost
or as more effective versions of certain of our products. Competition in the beauty industry is based on
a variety of factors, including innovation, product efficacy, accessible pricing, brand recognition and
loyalty, service to the consumer, promotional activities, advertising, special events, new product
introductions, e-commerce initiatives and other activities. It is difficult for us to predict the timing
and scale of our competitors’ actions in these areas. In addition, as we expand into adjacent or other
categories, we have faced, and will continue to face, different and, in some cases, more formidable
competition.
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Our
ability to compete depends on a number of factors, including the continued strength of our brand and
quality of our products, our ability to attract and retain key personnel, the success of our marketing
and innovation strategies, our ability to execute our strategic plan, the successful management of new
product introductions and innovations, the influence of our brand ambassadors and brand advocates, the
efficiency of our third-party manufacturing facilities and distribution network, our relationships with
our key customers and our ability to maintain and protect our intellectual property and other rights
used in our business. In addition, certain of our competitors have ownership interests in third parties
that are customers of ours, and, as a result, such customers may have an interest in promoting theses
competing brands over our products. Our inability to continue to compete effectively could have an
adverse effect on our business, financial condition and results of operations.
Our brand is critical to our success, and the value of our brand may be
adversely impacted by negative publicity through traditional or social media channels. If we fail to
maintain the value of our brand or our marketing efforts are not successful, our business, financial
condition and results of operations could be adversely affected.
Maintaining,
promoting and positioning our brand depends largely on the success of our marketing and merchandising
efforts and our ability to provide consistent, high-quality products. Our brand could be adversely
affected if we fail to achieve these objectives or if our public image or reputation were to be
tarnished by negative publicity through traditional or social media channels. We cannot guarantee that
our brand development strategies will increase the recognition of our brand or increase revenues.
We
frequently use third-party social media platforms to raise awareness of our brand and engage with our
hairstylist and consumer communities. We also partner with brand ambassadors and brand advocates who
promote and market our products, participate in product launches, engage with our professional
hairstylist and consumer communities and educate them about our products. If we are unable to
cost-effectively develop and continuously improve our consumer-facing presence on existing, evolving or
new social media platforms, our ability to acquire new and retain existing customers and consumers may
suffer, and we may not be able to provide a convenient and consistent experience to our professional
hairstylists and consumers, regardless of the sales channel. This could negatively affect our ability to
compete with other companies and result in diminished loyalty to our brand and decreased sales.
The
use of social media by us, our brand ambassadors, our brand advocates and our consumers carries the risk
that our image and reputation could be negatively impacted. Negative commentary or false statements
disseminated by others about the brand, the safety and efficacy of our products, our brand ambassadors
and brand advocates and other third parties who are affiliated with us have been, and may in the future
be, posted on social media platforms. The rising popularity of social media and other consumer-oriented
technologies has increased the speed and reach of information dissemination, and our target consumers
often act on such information without further investigation into its accuracy. The harm resulting from
the dissemination of such negative commentary and false statements may be immediate and could have an
adverse effect on our brand, business, financial condition and results of operations.
Our
ability to maintain relationships with our existing ambassadors and advocates and to identify new
ambassadors and advocates is critical to expanding and maintaining our customer and consumer base. As
our market becomes increasingly competitive and as we expand internationally, recruiting and maintaining
new ambassadors and advocates may become increasingly difficult. If we are not able to develop and
maintain strong relationships with our ambassador and advocate network, our ability to promote and
maintain consumer awareness of our brand may be adversely affected. Further, if we incur excessive
expenses in this effort, our business, financial condition and results of operations may be adversely
affected. Our ambassadors or advocates could engage in behavior or use their platforms in a manner that
reflects poorly on our brand or is in violation of applicable platform terms of service, laws or
regulations, including with respect to product or marketing claims. These actions may be attributed to
us or could subject us to regulatory investigations, class action lawsuits, liability, fines or other
penalties.
In
addition, the importance of our brand may increase as we continue to experience increased competition,
which could require additional expenditures for our brand marketing activities. Maintaining and
enhancing our brand image may also require us to make additional investments in areas such as
merchandising, marketing and online operations. These investments may be substantial and may not be
successful. Moreover, if we are unsuccessful in protecting our intellectual property rights in our
brand, the value of our brand may be harmed. Any harm to our brand or reputation could adversely affect
our ability to attract and engage customers and consumers and expand our business and could negatively
impact our business, financial condition and results of operations.
We depend on a limited number of customers for a large portion of our net
sales, and the loss of one or more of these customers could reduce our net sales and have an adverse
effect on our business, financial condition and cash flows.
We
expect that certain of our largest customers in 2022 will continue to account for a substantial portion
of our net sales for the foreseeable future. The loss of a significant customer, a shift in the level of
support for our brand by any of these customers, or any significant decrease in sales to these
customers, including as a result of the restructuring or bankruptcy of one of our customers,
consolidation among such customers, retail store closures, decrease in consumer demand or other factors,
could reduce
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our
net sales and operating income, lead to a decrease in customer confidence in our brand and cause a loss
of other customers, and therefore could have an adverse effect on our business, financial condition and
cash flows.
If we fail to attract new customers and consumers, retain existing
customers and consumers, or fail to maintain or increase sales to those customers and consumers, our
business, prospects, results of operations, financial condition, cash flows and growth prospects could
be harmed.
Our
success depends in large part upon widespread adoption of our products by consumers. In order to attract
new consumers and continue to expand our customer and consumer base, we must appeal to and attract
hairstylists and consumers who identify with our products. If we fail to deliver a high-quality consumer
experience or if hairstylists or our current or potential customers or consumers are not convinced that
our products are of high-quality or superior to alternatives, then our ability to retain existing
customers and consumers, acquire new customers and consumers and grow our business may be harmed. We
have made significant investments in marketing, enhancing our brand, attracting new customers and
consumers and interacting with our hairstylist and consumer communities, and we expect to continue to
make significant investments to promote our products. Such campaigns can be expensive and may not result
in new customers or consumers or increased sales of our products. Further, as our brand becomes more
widely known, we may not attract new consumers or increase our net sales at the same rates as we have in
the past. If we are unable to acquire new customers and consumers who purchase products in numbers
sufficient to grow our business, we may not be able to generate the scale necessary to drive
efficiencies with our suppliers, our net revenues may decrease, and our business, financial condition
and operating results may be adversely affected.
In
addition, our future success depends in part on our ability to increase sales to our existing customers
over time. We may not be successful in maintaining or increasing sales to, or maintaining strong
relationships with, our existing customers as we expand our customer base, introduce new products and
grow our own e-commerce business, which competes with our professional and specialty retail customers
for consumer sales. We also have been, and may in the future be, affected by changes in the policies and
demands of our professional and specialty retail customers relating to inventory management, changes in
pricing, marketing, advertising and/or promotional strategies by such customers, space allocations by
our customers or any significant decrease in our display space or online prominence.
We may be affected by changes in consumer shopping preferences, shifts in
distribution channels and changes in the salon and retail environments, and such changes could have an
adverse impact on the demand for our products and on our business, financial condition and results of
operations.
We
cannot ensure that there will always be a demand for salon treatments. We may be affected by changes to
the salon environment, and our professional customers may limit their product supply if demand for salon
treatments decreases. For example, in the second half of 2022, we believe that shifting consumer
spending habits due to macroeconomic factors, including inflationary pressures, resulted in a decline in
the demand for professional salon treatments and take-home products purchased from salons. Further,
there may be consolidation of the salon market. If consolidation leads to customers gaining purchasing
power, we may need to reduce the cost of our products, which will have an impact on our earnings.
Consolidation among our customers may also increase the risk of customer concentration.
In
addition, consumer preferences have and may continue to shift with respect to retail traffic in brick
and mortar stores. For example, in the first half of 2022, traffic in the brick and mortar stores in our
specialty retail channel increased following a slowdown in traffic in those stores during the COVID-19
pandemic. Further, any consolidation or liquidation in the retail trade may result in us becoming
increasingly dependent on key retailers and could result in an increased risk related to the
concentration of our customers. A severe, adverse impact on the business operations of our customers
could have a corresponding material adverse effect on us.
We rely on single source manufacturers and suppliers for the majority of
our products. The loss of manufacturers or suppliers or shortages in the supply of raw materials or
finished products could harm our business, prospects, results of operations, financial condition and
cash flows.
Our
products generally rely on a single or a limited number of manufacturers and suppliers. We acquire raw
materials, components and packaging from third-party suppliers and our finished products are
manufactured by four third-party manufacturers. One company, Cosway, manufactures products that
accounted for more than 77% of our net sales in 2022, and we continue to rely on Cosway to manufacture a
majority of our current product offerings.
In order to expand our manufacturing network and to mitigate the risks of relying on a limited number of
manufacturers, we have amended our agreement with Cosway to permit us to engage other manufacturers of
certain of our finished products. The term of the Cosway agreement also was amended to expire on June
30, 2023. While we are currently negotiating a new agreement with Cosway and expect to be able to enter
into a new agreement with Cosway prior to the current agreement’s expiration, if we are unable to enter
into this agreement by the expiration date of the current Cosway agreement or extend the term of the
current agreement on favorable terms or at all, then we may be unable to source an adequate supply of
finished products to meet demand. While we have engaged and continue to engage additional third-party
manufacturers, engaging a new manufacturer involves risks and costs, including additional due
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diligence,
investment and oversight, and may not ultimately be successful. Any new manufacturer may not have the
same capacity to provide us finished product as Cosway currently provides to us. The failure to secure
sufficient manufacturing capabilities from third-parties, including if we are unable to enter into a new
agreement with Cosway, could have a material adverse effect on our business, financial condition and
results of operations.
A
principal raw material for our products is our patented ingredient, Bis-amino. The other primary raw
materials used in our products include essential oils and specialty ingredients. In the past, we have
been able to obtain an adequate supply of our essential raw materials, and we currently believe we have
an adequate supply for virtually all components of our products, including Bis-amino. However, we have
encountered and may in the future encounter supply issues with raw materials due to increases in global
demand and limited supply capacity, or other supply disruptions. If any of our third party suppliers
cease to perform their obligations under our current contractual arrangements or terminate such
arrangements, we may need to find alternative sources of supply, and these new manufacturers or
suppliers may have to be qualified under applicable industry, governmental and Company-mandated vendor
standards, which can require additional investment and be time-consuming. In addition, if we experience
supply shortages, price increases, disruption in transportation, warehousing or other necessary
services, or regulatory impediments with respect to raw materials, ingredients, components or packaging
we use for our products, we may need to seek alternative supplies or suppliers. We cannot guarantee that
we will be able to establish alternative relationships on similar terms, without delay or at all, or
that any alternative supplier will be of comparable quality. We also may be required to reformulate or
substitute ingredients in our products due to shortages of specific raw materials in order to meet
demand, and these reformulated products may be more expensive to procure or less effective than current
formulations and could harm our brand. If we are unable to successfully respond to such issues, our
business, financial condition and results of operations would be adversely affected.
We
have in the past experienced, and may in the future experience, fluctuations in the cost of raw
materials used in our products for reasons beyond our control. For example, in 2022 we experienced
increased costs for raw materials as a result of global supply chain disruption. Sustained increases in
raw material costs or other inflationary pressures in the future may have an adverse effect on our
ability to maintain current levels of operating margin. Further, while we attempt to reduce our exposure
to fluctuations in the price of these raw materials through contractual arrangements with our suppliers,
we may not accurately forecast prices and therefore may at times pay more than prevailing market
rates.
Changes
in the financial or business condition of our manufacturers or suppliers could subject us to losses or
adversely affect our ability to bring products to market. Further, the failure of our manufacturers or
suppliers to deliver goods and services in sufficient quantities, in compliance with applicable
standards and in a timely manner could adversely affect our customer service levels and overall
business.
A disruption in manufacturing, supply chain or our shipping distribution
and warehouse management network could adversely affect our business, financial condition and results of
operations.
Our
finished products are manufactured in the U.S. and Europe, with a substantial portion manufactured in
California. Any interruptions in operations at these locations could result in our inability to satisfy
demand. A number of factors could damage or destroy the manufacturing equipment or our inventory of
components, supplies or finished goods, cause substantial delays in manufacturing, supply and
distribution of our products, result in the loss of key information and cause us to incur additional
expenses. These factors include industrial accidents, natural disasters, strikes and other labor
disputes, capacity constraints, equipment or technology malfunctions or failures, disruptions in
ingredient, material or packaging supply, disruptions in supply chain or information technology, loss or
impairment of key manufacturing sites or suppliers, product quality control, safety, increase in
commodity prices and energy costs, inflationary pressures, licensing requirements and other regulatory
issues, pandemic related shut downs and other external factors over which we have no control. For
example, in 2022 our gross profit margin was negatively impacted by increased input costs for
warehousing, transportation and raw materials as a result of global supply chain disruption, as well as
increased wage rates. Sustained increases in these costs or other inflationary pressures in the future
may have an adverse effect on our ability to maintain current levels of operating margin. The occurrence
of any such events could have an adverse effect on our business, financial condition and results of
operations.
Our
business interruption insurance may not cover losses in any particular case, and insurance may not be
available on commercially reasonable terms to cover certain of these catastrophic events or
interruptions. In addition, regardless of the level of insurance coverage, any disruption that impedes
our ability to manufacture our products in a timely manner could adversely affect our business,
financial condition and results of operations.
We
rely on third-party global service providers to deliver our products to customers, including directly to
consumers. Our ability to receive inbound inventory efficiently and ship merchandise to customers may be
negatively affected by factors beyond our and these providers’ control, including pandemic, weather,
fire, flood, power loss, earthquakes, acts of war or terrorism or other events specifically impacting
our service providers, such as labor disputes, financial difficulties and system failures.
We
are also subject to risks of damage or loss during delivery by our shipping providers. We have in the
past experienced, and may in the future
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experience,
shipping delays for reasons outside of our control. For example, the COVID-19 pandemic impacted
shipping, warehousing and other supply chain operations globally, resulting in delays and higher
costs.
If
we are not able to negotiate acceptable pricing and other terms with our third-party shipping,
warehousing and distribution providers, or if these providers experience performance problems or other
difficulties in processing our orders or delivering our products to customers in a timely fashion, our
customers could become dissatisfied and cease buying products from us, which could negatively impact our
results of operations.
We are subject to risks related to the global scope of our sales channels.
Our
products are sold in more than 100
countries around the world, with approximately 44% of our net sales in 2022 generated outside the U.S.
In addition, certain of our products are manufactured in Europe, and we have key third party operational
facilities located outside the U.S. that warehouse and/or distribute goods for sale throughout the
world. Our global operations are subject to many risks and uncertainties, including:
•fluctuations
in foreign currency exchange rates and the relative costs of operating in international jurisdictions;
•local
civil unrest, political instability or changes in diplomatic or trade relationships, such as
geopolitical tensions between the U.S. and the People’s Republic of China;
•foreign
or U.S. laws, regulations and policies, including restrictions on trade, immigration and travel,
operations, and investments; disputes with third parties arising from such laws, regulations or
policies; currency exchange controls; restrictions on imports and exports, including license
requirements; tariffs; and taxes;
•inflation
and other macroeconomic factors in certain of our international markets;
•lack
of well-established or reliable legal and administrative systems in certain of our international
markets; and
•social,
economic and geopolitical conditions, such as a pandemic, terrorist attack, war or other military
action, including the current conflict between Russia and Ukraine.
These
risks could have an adverse effect on our business, including our ability to capitalize on growth in new
international markets and to maintain the current level of operations in our existing international
markets.
The illegal distribution and sale by third parties of counterfeit versions
of our products or the unauthorized diversion by third parties of our products could have an adverse
effect on our net sales and a negative impact on our reputation and business.
Third
parties may illegally distribute and sell counterfeit versions of our products. These counterfeit
products may be inferior to our authentic products or could pose safety risks that our authentic
products would not otherwise present to consumers. Consumers could confuse counterfeit products with our
authentic products, which could damage or diminish the image, reputation and value of our brand and
cause consumers to refrain from purchasing our products in the future.
Products
sold to professional salon distributors are meant to be used exclusively by salons and salon
professionals or sold exclusively to the retail consumers of these salons. Our products have been and
may continue to be sold to sales outlets other than the intended salons and salon professionals, such as
to general merchandise retailers or unapproved outlets. In some instances, these diverted products may
be old, damaged or otherwise adulterated. Diversion may result in lower net sales of our products if
consumers purchase diverted products or choose to purchase products manufactured or sold by our
competitors because of any perceived damage or diminishment to the image, reputation or value of our
brand resulting from such diversion.
We
have been unable to eliminate, and may in the future be unable to eliminate, all counterfeiting
activities and unauthorized product diversion, both of which could adversely affect our reputation,
business, financial condition and results of operations.
Our success depends, in part, on our key personnel.
Our
success depends, in part, on our ability to retain our key personnel, including our executive officers
and senior management team. The unexpected loss of one or more of our key employees could adversely
affect our business. Our success also depends, in part, on our continuing ability to identify, hire,
train and retain other highly qualified personnel. To support our continued growth, we must effectively
integrate, develop, motivate and manage a large number of new employees in our fully remote working
environment. To attract top talent, we may need to increase our employee compensation levels to remain
competitive in attracting and retaining talented employees. Competition for these employees can be
intense. We may not be able to attract, integrate or retain qualified personnel in the future, and our
failure to do so could have an adverse effect on our business.
Our success depends, in part, on our ability to execute our long-term
strategic plan.
Achieving
our long-term strategic plan will require investment in new capabilities, categories, distribution
channels, supply chain facilities, technologies, personnel and emerging markets. These investments may
result in short-term costs without associated current sales and, therefore, may be dilutive to our
earnings. In addition, we may dispose of or discontinue select products or
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streamline
operations and incur costs in doing so. Failure to realize the anticipated benefits of our strategic
plan, which may be due to our inability to execute plans, global or local economic conditions,
competition, changes in the beauty industry and the other risks described herein, could adversely affect
our business, financial condition and results of operations.
Our business is affected by seasonality.
Our
business has historically been influenced by seasonal trends common to traditional retail selling
periods, and the results of our operations typically are slightly higher in the second half of the
fiscal year due to increased levels of purchasing by consumers for special and holiday events and by
retailers for the holiday selling seasons. Higher sales during the third and fourth quarters may cause
our working capital needs to be greater during the second and third quarters of the fiscal year.
However, fluctuations in net sales in any fiscal quarter may be attributable to a number of other
factors. Adverse events that occur during the second half of the fiscal year may negatively impact our
net sales during such period and have had and may in the future have a disproportionate effect on our
operating results for the entire fiscal year. Furthermore, our rapid growth in recent years may obscure
the extent to which seasonality trends have affected and may continue to affect our business.
Accordingly, yearly or quarterly comparisons of our operating results may not be useful, and our results
in any particular period will not necessarily be indicative of the results to be expected for any future
period.
Risks Related to Information Technology and Cybersecurity
We rely on the use of our and our third-party service providers’
information technology. Any significant failure, inadequacy, interruption or data security incident
impacting our information technology and websites, or those of our third-party service providers, could
have an adverse effect on our business, prospects, results of operations, financial condition or cash
flows.
We
increasingly rely on information technology systems to process, transmit and store electronic
information, including on our e-commerce and other websites. Our ability to effectively manage our
business and coordinate the manufacturing, sourcing, distribution and sale of our products depends on
the reliability and capacity of these systems. Our information technology systems and those of our
vendors and service providers may be susceptible to outages due to fire, floods, power loss,
telecommunications failures, breaches, cybersecurity threats including ransomware and other events. The
occurrence of these or other events could disrupt or damage our information technology and adversely
affect our business. Our insurance policies may not cover any or all of the resulting financial losses
or broader damage to our reputation.
Failure to adequately maintain the security of confidential information
could materially adversely affect our business.
As
part of our normal business activities, we and our third-party service providers collect and store
certain confidential information, including information with respect to customers, consumers and
employees, as well as intellectual property. The success of our e-commerce operations depends on the
secure transmission of confidential and personal data over public networks, including the use of
cashless payments. Security incidents compromising the confidentiality, integrity, and availability of
this confidential or personal information or intellectual property could result from cyber-attacks,
ransomware, computer malware, supply chain attacks or malfeasance of our personnel. Moreover, we and our
third-party service providers may be more vulnerable to such attacks in remote work environments, which
have increased since the start of the COVID-19 pandemic. We are particularly vulnerable to such risks
because our employees all work remotely. We cannot guarantee that our security efforts will prevent
breaches or breakdowns of our third-party service providers’ information technology systems. If we
suffer a material loss or disclosure of personal or confidential information as a result of a breach of
our information technology systems, including those of our third-party service providers, we may suffer
reputational, competitive or business harm, incur significant costs and be subject to government
investigations, litigation, fines or damages, which could have an adverse effect on our business,
prospects, results of operations, financial condition and cash flows. Moreover, our cyber insurance may
not be adequate to cover all costs and liabilities related to these incidents, and the occurrence of any
security incident may impact our ability to obtain future coverage. Additionally, how we handle a
security incident may impact our reputation and brand.
Our processing of personal information and other sensitive data could give
rise to significant costs and liabilities, which may have an adverse effect on our reputation, business,
financial condition and results of operations.
Evolving
state, federal and foreign laws, regulations and industry standards regarding privacy and security apply
to our collection, use, retention, protection, disclosure, transfer and other processing of certain
types of data, including with respect to our customers, employees, suppliers and others. For example,
the E.U.’s GDPR, as well as the U.K. GDPR and the U.K. Data Protection Act 2018, impose a strict data
protection compliance regime and potentially substantial fines for breaches and violations. In the U.S.,
many states are considering adopting or have already adopted privacy, security and data breach
notification laws or regulations. These laws, regulations and standards may be interpreted and applied
differently over time and from jurisdiction to jurisdiction. Our inability to comply with such laws or
to quickly adapt our practices to reflect them as they develop could subject us to significant fines,
damages, liabilities and reputational harm, which could have a material adverse effect on our business,
prospects, results of operations, financial condition and cash flows.
Risks Related to Intellectual Property Matters
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Our efforts to register, maintain and protect our intellectual property
rights may not be sufficient to protect our business.
Our
patents and trademarks are essential to our business, and we also rely on our unpatented proprietary
technology, trade secrets, processes and know-how. We generally seek to protect our patents, trademarks
and other proprietary information through a combination of patent, trademark, copyright and trade secret
laws, as well as by confidentiality, non-disclosure and assignment of invention agreements with our
employees, contractors, collaborators, vendors, consultants, advisors and other third parties. Despite
these measures, any of our intellectual property rights could be challenged, invalidated, circumvented
or misappropriated. This could involve significant expense, potentially hinder or limit use of our
intellectual property rights, or potentially result in the inability to use the intellectual property
rights in question. If an alternative cost-effective solution were not available, there may be an
adverse effect on our financial position and performance.
Enforcing
our intellectual property rights can be expensive and time-consuming, and an adverse result in any
proceeding could put our intellectual property rights at risk of being invalidated or narrowed in scope
of coverage. Patent and trademark challenges increase our costs to develop, engineer and market our
products. We may not have adequate resources to enforce our intellectual property rights. In addition,
our ability to enforce our intellectual property rights depends on our ability to detect infringement.
It may be difficult to detect infringers who do not advertise the components that are used in their
products. Moreover, it may be difficult or impossible to obtain evidence of infringement in a
competitor’s or potential competitor’s product. We may not prevail in any disputes that we initiate, and
the damages or other remedies awarded, if we were to prevail, may not be commercially meaningful.
Furthermore, because of the substantial amount of discovery required in connection with intellectual
property litigation, there is a risk that some of our confidential information could be compromised by
disclosure during this type of dispute.
Pending
and future patent applications to protect our products or which effectively prevent others from
commercializing competitive technologies and products may not be approved or result in patents being
issued. Moreover, the scope of coverage claimed in a patent application can be significantly reduced
during prosecution before the patent is issued. Even once issued, the scope, validity, enforceability
and commercial value of patent rights are uncertain, and our patents may not be of sufficient scope or
strength to provide meaningful protection or commercial advantage and may not preclude competitors from
developing products similar to ours. Any of our patents or pending patent applications may be
challenged, narrowed, circumvented or invalidated by third parties.
While
we have registered or applied to register many of our trademarks, trade names and brand names to
distinguish our products from those of our competitors, we cannot assure you that our trademark
applications will be approved. Third parties may also oppose our trademark applications or otherwise
challenge our use of the trademarks. In the event that our trademarks are successfully challenged, we
could be forced to rebrand our products, which could result in loss of brand recognition and could
require us to devote resources to advertising and marketing new brands.
We
rely on our unpatented proprietary technology, and it is possible that others will independently develop
the same or similar technology or otherwise obtain access to our unpatented technology. Although we
generally seek to protect our unpatented proprietary technology and our trade secrets, processes and
know-how by confidentiality, non-disclosure and assignment of invention agreements with our employees,
contractors, collaborators, vendors, consultants and advisors, these agreements may not provide
meaningful protection in the event of unauthorized use or disclosure of such proprietary technology,
trade secrets, processes or know-how.
If
we do not adequately maintain our intellectual property, it can result in loss of rights. Loss of rights
may be irrevocable. For example, we are required to pay various periodic renewal fees on registered
intellectual property, and our failure to do so could result in the affected intellectual property
lapsing. If this were to occur, our competitors may be able to use our technologies, names, brands or
the goodwill we have acquired in the marketplace and erode or negate any competitive advantages we may
have, which could harm our business and ability to achieve profitability.
If our trademarks, trade names and trade dress are not adequately
protected, we may not be able to maintain or build name recognition in our markets of interest.
If
we are unable to successfully register our trademarks and trade names and establish name recognition
based on our trademarks, trade names and trade dress, we may not be able to compete effectively, and our
business may be adversely affected. In addition, competitors or other third parties have in the past,
and may in the future, adopt trade names, trade dress (including packaging designs and label designs),
design patents or industrial designs, trademarks or domain names that are confusingly similar to ours.
These competitors or third parties may also market certain of their brands or products as a purported
replacement or “dupe” of our brand or products, thereby impeding our ability to build brand identity,
possibly leading to market confusion and potentially requiring us to pursue legal action. In addition,
there could be trade name or trademark infringement claims brought by owners of other registered
trademarks, or trademarks that incorporate variations of our unregistered trademarks or trade names,
which could result in injunctive relief against us that could prevent us from using certain trademarks
and trade names. Our efforts to enforce or protect our trademarks, trade names and domain names may be
ineffective, may impact the public perception of our brand, may be expensive, may divert our resources
and, if a third party brings counterclaims against us in connection with such enforcement
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actions,
could result in payment by us of monetary damages or injunctive relief, all of which could adversely
impact our financial condition or results of operations.
We may not be able to effectively protect and enforce our intellectual
property rights throughout the world to the same extent as in the U.S.
Because
of the differences in foreign trademark, patent and other laws concerning proprietary rights, our
intellectual property rights may not receive the same degree of protection in foreign countries as they
would in the U.S.. For example, the requirements for patentability may differ in certain countries,
particularly in developing countries. Moreover, our ability to protect and enforce our intellectual
property rights may be adversely affected by unforeseen changes in foreign intellectual property laws.
The legal systems of some countries do not favor or may not be sufficiently robust for the meaningful
enforcement of intellectual property rights. This could make it difficult for us to stop the
infringement, misappropriation or other violation of our intellectual property rights. Consequently, we
may not be able to prevent third parties from practicing our inventions in all jurisdictions in which we
have patent protection.
Furthermore,
we currently own trademarks that we use in connection with our business in the U.S. and other markets.
As we continue to expand into international markets, we may experience risks associated with protecting
our brand and maintaining the ability to use our brand in the countries where we operate. Specifically,
there is a risk that our trademarks may conflict with prior registered trademarks of other companies,
which may require us to rebrand our products, obtain costly licenses, defend against third-party claims
or substantially change our products.
Proceedings
to enforce our patent and trademark rights in foreign jurisdictions could result in substantial costs
and divert efforts and resources from other aspects of our business. While we generally seek to protect
our intellectual property rights in the major markets where we intend to sell our products, we cannot
ensure that we will be able to do so in all jurisdictions. Furthermore, we may not accurately predict
all of the jurisdictions where patent protection will ultimately be desirable, and if we fail to timely
file a patent application in any such jurisdiction, we may be precluded from doing so later.
Accordingly, our efforts to protect our intellectual property rights in such jurisdictions may be
inadequate.
Third parties may allege that we are infringing, misappropriating or
otherwise violating their intellectual property rights, which could involve substantial costs and
adversely impact our business.
Third
parties may allege that our products infringe, misappropriate or otherwise violate their intellectual
property rights, and we may become involved in litigation or other disputes relating to intellectual
property used in our business. Any such claims, even those without merit, can be expensive and
time-consuming to defend and may divert management’s attention and resources, and an adverse result in
any proceeding could put our ability to produce and sell our products in jeopardy. We may be required to
expend significant amounts of resources to defend against claims of infringement, pay significant money
damages, cease using certain processes, technologies, or other intellectual property, cease making,
offering and selling certain products, obtain a license (which may not be available on commercially
reasonable terms or at all) or redesign our brand, our products or our packaging, which could be costly
and time-consuming.
In
addition, we may be unaware of third-party intellectual property that covers or otherwise relates to
some or all of our products. Because of technological changes in our industry, current patent coverage
and the rapid rate of issuance of new patents, our current or future products may unknowingly infringe,
misappropriate or otherwise violate existing, pending or future patents or intellectual property rights
of other parties.
The
defense costs and settlements for intellectual property infringement lawsuits may not be covered by
insurance, and such lawsuits can take years to resolve. Even if resolved in our favor, the volume of
intellectual property-related claims and the mere specter of threatened litigation or other legal
proceedings may cause us to incur significant expenses and could distract our personnel from day-to-day
responsibilities. The direct and indirect costs of addressing these actual and threatened disputes may
have an adverse effect on our operations, reputation and financial performance.
We may be subject to claims that our employees, contractors,
collaborators, vendors, consultants or advisors have wrongfully used or disclosed alleged trade secrets
of their current or former employers or claims asserting ownership of what we regard as our own
intellectual property.
Third
parties may allege wrongful use or disclosure of their alleged intellectual property or make claims
challenging the inventorship or ownership of our intellectual property. We may be subject to claims that
we or our employees, contractors, collaborators, vendors, consultants and advisors have used or
disclosed intellectual property, including trade secrets or other proprietary information, of any such
individual’s current or former employer. In addition, we may face claims by third parties that our
agreements with employees obligating them to assign intellectual property to us are ineffective or in
conflict with prior or competing contractual obligations of assignment, which could result in ownership
disputes regarding intellectual property we have developed or will develop and may interfere with our
ability to capture the commercial value of such intellectual property. If we do not successfully resolve
an ownership dispute, we may be precluded from using certain intellectual property or may lose
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our
exclusive rights in such intellectual property. It is not always possible to identify and deter
misconduct by employees, contractors, collaborators, vendors, consultants and advisors, and the
precautions we take to detect and prevent this type of activity may not be effective in controlling
unknown or unmanaged risks or losses. Any of these outcomes could harm our business and competitive
position.
Risks Related to Legal and Regulatory Matters
Disputes and other legal or regulatory proceedings could adversely affect
our financial results.
From
time to time, we may become involved in litigation, other disputes or regulatory proceedings in
connection with or incidental to our business, including litigation related to intellectual property,
regulatory matters, contract, advertising and other consumer claims. In general, claims made by us or
against us in litigation, disputes or other proceedings can be expensive and time consuming to bring or
defend against and could result in settlements, injunctions or damages that could significantly affect
our business. It is not possible to predict the final resolution of the litigation, disputes or
proceedings to which we currently are or may in the future become party to. Regardless of the final
resolution, such proceedings may have an adverse effect on our reputation, financial condition and
business, including by utilizing our resources and potentially diverting the attention of our management
from the operation of our business. See
“Item 3. Legal Proceedings.”
If our products are found to be defective or unsafe, we may be subject to
various product-related claims, which could harm our reputation and business.
Our
success depends, in part, on the quality and safety of our products. If our products are found to be
defective or unsafe or otherwise fail to meet our consumers’ expectations, or if our product claims are
found to be unfair or deceptive, our relationships with customers or consumers could suffer, the appeal
of one or more of our products could be diminished and we could lose sales. For example, we have
historically received, and in the future may receive, complaints regarding our products, including
complaints alleging that our products have caused dryness, skin irritation, hair loss or hair damage, or
have failed to improve the look and texture of hair. We believe in the safety and efficacy of our
products, which are thoroughly tested in-house and by independent third-party laboratories. However,
regardless of their merit, these or future complaints could have a negative impact on the reputation of
our products and our brand, cause us to recall or stop selling our products, or lead to increased
scrutiny or enforcement action from regulatory authorities, which could adversely affect our business
and financial results.
On
February 9, 2023, a complaint alleging personal and economic injury, and asserting claims for breach of
warranty, negligence/gross negligence, products liability, unjust enrichment, and violations of
California False Advertising Law and Unfair Competition Law, was filed against us. The plaintiffs allege
that certain ingredients used in some Company products have purportedly caused irritation or posed a
hazard to consumers, and that the Company engaged in misrepresentation with respect to those products.
The plaintiffs seek actual and consequential damages, punitive damages, restitution in the form of
disgorgement of profits, attorneys’ fees and costs, and any other relief that the court determines is
appropriate. In the future we may be subject to similar claims or additional claims which may assert
that our products fail to meet quality or manufacturing specifications and standards, violate applicable
laws or regulations, contain contaminants, include inadequate instructions as to their proper use,
include inadequate warnings concerning side effects and interactions with other substances or for
persons with health conditions or allergies, or cause adverse reactions or side effects, or that our
product claims, instructions or marketing are false and misleading. Product-related claims or class
action lawsuits could increase our costs and adversely affect our business and financial results. As we
continue to offer an increasing number of new products, our product-related claims risk may increase.
Our insurance policies may not cover any or all of the resulting financial losses or broader damage to
our reputation.
Our business is subject to federal, state and international laws,
regulations and policies that could have an adverse effect on our business, prospects, results of
operations, financial condition and cash flows.
Our
business is subject to numerous laws, regulations and policies in the jurisdictions in which we operate.
Many of these laws and regulations have a high level of subjectivity, are subject to interpretation, and
vary significantly from market to market. These laws and regulations can have several impacts on our
business, including:
•delaying
or prohibiting the sale of a product or ingredient in one or more markets;
•limiting
our ability to import products into a market;
•incurring
delays and expenses associated with compliance, such as record keeping, documentation of the properties
of certain products, labeling, and scientific substantiation;
•limiting
labeling and marketing claims we can make regarding our products; and
•limiting
the substances that can be included in our products, resulting in product reformulations or the recall
and discontinuation of certain products that cannot be reformulated to comply with new regulations.
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These
events could interrupt the marketing and sale of our products, cause us to be subject to product
liability claims, severely damage our brand reputation and image in the marketplace, increase the cost
of our products, cause us to fail to meet customer expectations or prevent us from delivering products
in sufficient quantities or sufficient quality, which could result in lost sales.
Before
we can market and sell our products in certain jurisdictions, the applicable local governmental
authority may require evidence of the safety of our products, which may include testing of individual
ingredients at relevant levels. In particular, because Bis-amino is our proprietary ingredient, it
typically is not a pre-approved ingredient for use in products in specific jurisdictions, and we have
been required in the past, and may be required in the future, to perform testing and provide other data
and information to governmental authorities prior to the sale of our products in the jurisdiction. Our
international distributors are primarily responsible for registering ingredients and obtaining any
approvals necessary to sell our products in the applicable territory, and any failure by them to do so
could decrease sales of our products and harm our reputation.
Additional
laws, regulations and policies, and changes or new interpretation or enforcement thereof, that affect
our business could adversely affect our financial results. These include accounting standards, laws and
regulations relating to tax matters, trade, data privacy and data security, anti-corruption,
advertising, marketing, manufacturing, distribution, customs matters, product registration, ingredients,
chemicals, packaging, selective distribution, environmental and climate change matters. We have been
required, and may in the future be required, to reformulate certain of our products in specific
jurisdictions. For example, we reformulated a product in 2021 as a result of regulation changes in the
European Union. In addition, we may be required to discontinue or revise our product packaging or
labeling as a result of national or international legal or regulatory changes or determinations, new
information regarding ingredients or for other reasons. Delays in or prohibition of selling our
products, or the need to reformulate the ingredients used in our products, could result in, among other
things, increased costs to us, excess and/or obsolete inventory, delays in our product launches, product
returns or recalls and lower net sales, and therefore could have an adverse effect on our business,
prospects, results of operations, financial condition and cash flows.
Government regulations relating to the marketing and advertising of our
products may restrict, inhibit or delay our ability to sell our products and harm our business.
A
variety of federal, state and foreign government authorities regulate the advertising and promotion of
our products and the marketing claims we can make regarding their properties and benefits, including in
the U.S., the FDA, the FTC and state consumer protection agencies. These regulations can apply not only
to the actions and statements of our company and employees, but also to those of our brand ambassadors.
There is a degree of subjectivity in determining whether a labeling or marketing claim is appropriate
under applicable standards, and government agencies could take enforcement action against us for our
advertising and promotion practices or determine that the research and development efforts we undertake
to support our claims are inadequate for any particular product or claim, which could require us to
modify our product claims or result in fines. For example, in some cases the FTC has sought enforcement
actions where an endorsement has failed to clearly and conspicuously disclose a financial relationship
or material connection between an influencer and an advertiser. We have received, and in the future may
receive, complaints regarding our marketing claims, and we may be subject to class action or false or
misleading advertising lawsuits with respect to our marketing claims. In addition, plaintiffs’ lawyers
have filed class action or false or misleading advertising lawsuits against companies based on their
marketing claims. Any government inquiry into the regulatory status of our products and any related
interruption in the marketing and sales of our products or any lawsuit related to our marketing claims
could damage our reputation and brand and have an adverse effect on our business, prospects, results of
operations, financial condition and cash flows.
If our products are not manufactured in compliance with applicable
regulations, do not meet quality standards or otherwise result in adverse health effects in consumers,
we could be subject to reputational harm, remediation costs or regulatory enforcement.
We
rely on third parties to manufacture our products in compliance with applicable law and other quality
standards, including in the FDA’s recommendations for cosmetic GMPs. Compliance with these standards can
increase the cost of manufacturing our products as we work with our vendors to ensure they are qualified
and in compliance. If we or our contract manufacturers fail to comply with these standards, it could
lead to customer complaints, adverse events, product withdrawal or recall or increase the likelihood
that our products are adulterated or misbranded, any of which could result in negative publicity,
remediation costs or regulatory enforcement that could impact our ability to continue selling certain
products. Problems associated with product recalls could be exacerbated due to the global nature of our
business because a recall in one jurisdiction could lead to recalls in other jurisdictions.
Government reviews, inquiries, investigations and actions could harm our
business.
The
regulatory environment in various jurisdictions where our business operates is evolving, and government
officials often exercise broad discretion in deciding how to interpret and apply applicable regulations.
From time to time, we may receive formal and informal inquiries from various government regulatory
authorities or self-regulatory organizations about our business and compliance with local laws,
regulations or standards. Any determination that our operations or activities, or the activities of our
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employees,
are not in compliance with existing laws, regulations or standards could, among other things, result in
the imposition of substantial fines, civil and criminal penalties, interruptions of business, loss of
supplier, vendor or other third-party relationships, termination of necessary licenses and permits,
modification of business practices and compliance programs and equitable remedies, including
disgorgement, injunctive relief, and other sanctions or similar results, all of which could potentially
harm our business. Even if these reviews, inquiries, investigations and actions do not result in any
adverse determinations, they could create negative publicity, which could harm our business and give
rise to third-party litigation or action.
Our employees, customers, suppliers and other business partners may engage
in misconduct or other improper activities, including noncompliance with regulatory standards and
requirements.
We
are exposed to the risk that our employees, customers, suppliers and other business partners may engage
in fraudulent or illegal activity. Misconduct by these parties could include intentional, reckless or
negligent conduct or failure to disclose unauthorized activities to us that violate: (i) the rules of
the applicable regulatory bodies; (ii) manufacturing standards; (iii) data privacy and security laws;
(iv) the U.S. Foreign Corrupt Practices Act, U.K. Bribery Act and other anti-corruption laws; or (v)
laws that require the true, complete and accurate reporting of financial information or data. These laws
may impact, among other things, future sales, marketing and employee education programs.
We
sell our products in many parts of the world that are recognized as having governmental and commercial
corruption and where, in certain circumstances, strict compliance with anti-bribery laws may conflict
with local customs and practices. It is not always possible to identify and deter misconduct by our
employees and third parties, and the precautions we take to detect and prevent these activities may not
be effective in controlling unknown or unmanaged risks or losses or in protecting us from governmental
investigations or other actions or lawsuits stemming from a failure to be in compliance with such laws
or regulations. If any such actions are instituted against us and we are not successful in defending
ourselves or asserting our rights, those actions could result in the imposition of significant fines or
other sanctions, including the imposition of civil, criminal and administrative penalties and oversight
obligations. Furthermore, in the event that we believe or have reason to believe that our employees or
agents have or may have violated applicable anti-corruption laws, we may be required to investigate or
have outside counsel investigate the relevant facts and circumstances. Any such actions or
investigations can be expensive and time-consuming to defend and may divert management’s attention and
resources.
Risks Related to Our Indebtedness
Our significant indebtedness could adversely affect our financial
condition.
Our
significant indebtedness, when combined with our other financial obligations and contractual
commitments, could have important consequences, including:
•requiring
us to dedicate a significant portion of our cash flows from operations to payments on our indebtedness,
thereby reducing funds available for working capital, capital expenditures, acquisitions, selling and
marketing efforts, product development and other purposes;
•increasing
our vulnerability to adverse economic and industry conditions, which could place us at a competitive
disadvantage compared to our competitors that have relatively less indebtedness;
•limiting
our flexibility in planning for, or reacting to, changes in our business and industry;
•increasing
our exposure to rising interest rates because certain of our borrowings are at variable interest rates;
•restricting
us from making strategic acquisitions or causing us to make non-strategic divestitures; and
•limiting
our ability to borrow additional funds, or to dispose of assets to raise funds, if needed, for working
capital, capital expenditures, acquisitions, product development and other purposes.
Although
the terms of the agreements governing our indebtedness contain restrictions on the incurrence of
additional indebtedness, such restrictions are subject to a number of important exceptions, and
indebtedness incurred in compliance with such restrictions could be substantial. If we and our
restricted subsidiaries incur significant additional indebtedness, the related risks that we face could
increase.
We may be unable to generate sufficient cash flow to service our debt
obligations.
Our
business may not generate sufficient cash flow from operating activities to service our debt
obligations. Our ability to make payments on and to refinance our debt and to fund planned capital
expenditures depends on our ability to generate cash in the future. To some extent, this is subject to
general economic, financial, competitive, legislative, regulatory, and other factors that are beyond our
control.
If
we are unable to generate sufficient cash flow from operations to service our debt and meet our other
commitments, including under the Tax Receivable Agreement, we may need to refinance all or a portion of
our debt or raise additional debt or equity
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capital.
We may not be able to affect any of these actions on a timely basis, on commercially reasonable terms or
at all, and these actions may not be sufficient to meet our debt service and Tax Receivable Agreement
requirements. In addition, the terms of our existing or future debt agreements may restrict us from
pursuing any of these alternatives, which may adversely affect our business, financial condition and
results of operations.
The terms of our indebtedness restrict our current and future operations,
particularly our ability to respond to change or to take certain actions.
The
agreements governing our outstanding indebtedness contain a number of restrictive covenants that impose
significant operating and financial restrictions on us and may limit our ability to engage in acts that
may be in our long-term best interest, including, among other things, restrictions on our ability to:
•incur
additional indebtedness;
•create
liens on assets;
•declare
or pay certain dividends and other distributions;
•make
certain investments, loans, guarantees or advances;
•consolidate,
amalgamate, merge, sell or otherwise dispose of all or substantially all of our assets;
•enter
into certain transactions with our affiliates; and
•exceed
certain secured leverage ratios.
These
restrictions could impede our ability to operate our business by, among other things, limiting our
ability to take advantage of financing, merger and acquisition and other corporate opportunities.
Various
risks, uncertainties and events beyond our control could affect our ability to comply with these
covenants and maintain these financial tests and ratios. A breach of such covenants could result in an
event of default unless we obtain a waiver to avoid such default. If we are unable to obtain a waiver,
such a default may allow our creditors to accelerate the related debt and may result in the acceleration
of, or default under, any other debt to which a cross-acceleration or cross-default provision applies.
In the event our lenders accelerate the repayment of our borrowings, we and our subsidiaries may not
have sufficient assets to repay that indebtedness.
Because our operations are conducted through our subsidiaries, we are
dependent on the receipt of distributions and dividends or other payments from our subsidiaries for cash
to fund our operations and expenses, including payments under the Tax Receivable Agreement and future
dividend payments, if any.
Our
operations are conducted through our subsidiaries. As a result, our ability to make payments under our
Tax Receivable Agreement and future dividend payments, if any, is dependent on the earnings of our
subsidiaries and the payment of those earnings to us in the form of dividends, loans or advances and
through repayment of loans or advances from us. Payments to us by our subsidiaries will be contingent
upon our subsidiaries’ earnings and other business considerations and may be subject to statutory or
contractual restrictions. We do not expect to declare or pay dividends on our common stock for the
foreseeable future; however, if we determine in the future to pay dividends on our common stock, the
agreements governing our outstanding indebtedness significantly restrict the ability of our subsidiaries
to pay dividends or otherwise transfer assets to us.
We may be able to incur significant additional debt, which would increase
the risks described herein. We may also require additional capital, which may not be available on
acceptable terms, if at all, and may cause dilution to our existing stockholders, restrict our
operations or require us to relinquish rights to our technologies or product candidates.
We
may increase our levels of debt in the future to finance our operations or in connection with
acquisitions. We regularly consider market conditions and our ability to incur indebtedness to either
refinance existing indebtedness or for working capital. The agreements relating to our indebtedness
limit but do not prohibit our ability to incur additional debt. If we increase our total indebtedness,
our debt service obligations will increase. We will become more exposed to the risks arising from our
substantial level of indebtedness as described above as we become more leveraged.
If
our cash flow from operations is less than we anticipate, if our cash requirements are more than we
expect, or if we intend to finance acquisitions, we may require more financing. However, debt or equity
financing may not be available to us on acceptable terms, if at all. If we incur additional debt or
raise equity through the issuance of capital stock, the terms of the debt or capital shares issued may
give the holders rights, preferences and privileges senior to those of holders of our common stock,
particularly in the event of liquidation. The terms of the debt may also impose additional and more
stringent restrictions on our operations than we currently have. To the extent that we raise additional
capital through the sale of equity or convertible debt securities, your ownership interest will be
diluted. If we are unable to raise additional capital when needed, our financial condition could be
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adversely
affected. Unfavorable changes in the ratings that rating agencies assign to our debt may ultimately
negatively impact our access to the debt capital markets and increase the costs we incur to borrow
funds.
Risks Related to Ownership of Our Common Stock
Our stock price may be extremely volatile and, as a result, you may not be
able to resell your shares at or above the price you paid for them.
An
active or liquid market in our common stock may not be sustainable. In the absence of an active trading
market for our common stock, you may not be able to resell any shares you hold at or above the price at
which you purchased your shares, or at all. We cannot predict the prices at which our common stock will
trade.
In
addition, the stock market in general has been highly volatile. As a result, the market price of our
common stock is likely to be similarly volatile, and investors in our common stock may experience a
decrease, which could be substantial, in the value of their stock, including decreases unrelated to our
operating performance or prospects, and could lose part or all of their investment. The price of our
common stock could be subject to wide fluctuations in response to a number of factors, including broad
market and industry factors, factors described elsewhere in this Annual Report and other factors such as
the following, many of which are beyond our control:
•variations
in our operating performance and the performance of our competitors;
•actual
or anticipated fluctuations in our quarterly or annual operating results;
•publication
of research reports by securities analysts about us, our competitors or our industry;
•additions
or departures of key personnel;
•timing
of new product launches;
•strategic
decisions by us or our competitors, such as acquisitions, divestitures, spin-offs, joint ventures,
strategic investments or changes in business strategy;
•changes
in legislation, regulation and government policy;
•speculation
in traditional or social media channels or investment community;
•changes
in accounting principles;
•terrorist
acts, acts of war, including the current conflict between Russia and Ukraine, or periods of widespread
civil unrest domestically or in markets in which we operate;
•natural
disasters and other calamities, including pandemics like COVID-19;
•changes
in general market and economic conditions; and
•the
other factors described in this “Risk
Factors”
section and the section titled “Special
Note Regarding Forward-Looking Statements.”
Furthermore,
the market price of our common stock may also decline if we fail to meet analysts’ projections or
guidance that we give to the market. Securities class action litigation has often been initiated against
companies following periods of volatility in their stock price or substantial declines following a
company’s failure to meet guidance or estimates, as has been the case with us. On November 17, 2022, a
putative securities class action was filed against us and certain of our current and former officers and
directors. The action is being brought on behalf of a putative class of purchasers of our common stock
in or traceable to our IPO and asserts claims under Sections 11 and 15 of the Securities Act of 1933, as
amended (the “Securities Act”). The action seeks certification of the putative class, compensatory
damages, attorneys’ fees and costs, and any other relief that the court determines is appropriate. This
litigation and other similar types of litigation could result in substantial costs and divert our
management’s attention and resources, and could also require us to make a substantial payment to satisfy
judgments or to settle such litigation.
Investment funds affiliated with Advent International Corporation (the
“Advent Funds”) beneficially own a significant percentage of our common stock and have significant
influence over us.
Entities
affiliated with the Advent Funds beneficially own approximately 76.8% of our outstanding common stock.
In addition, three members of our Board of Directors are employed by affiliates of the Advent Funds. For
as long as affiliates of the Advent Funds continue to beneficially own a substantial percentage of the
voting power of our outstanding common stock, they will continue to have significant influence over us.
For example, they will be able to strongly influence or effectively control the election of all of the
members of our Board of Directors and our business and affairs, including any determinations with
respect to mergers or other business combinations, the acquisition or disposition of assets, the
incurrence of additional indebtedness, the issuance of any additional shares of common stock or other
equity securities, the repurchase or redemption of shares of our
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common
stock and the payment of dividends. This concentration of ownership may have the effect of deterring
investment in our common stock and may reduce the trading volume of our public float.
Our restated certificate of incorporation provides that we will waive any
interest or expectancy in corporate opportunities presented to the Advent Funds, members of our Board of
Directors who are affiliated with the Advent Funds or Christine Dagousset, in her capacity as an officer
or employee of Chanel Inc, U.S. and as a member of the Executive Committee of Chanel Limited U.K. or any
of its controlled affiliates (“Chanel”).
Our
restated certificate of incorporation (the “Certificate of Incorporation”) provides that the Advent
Funds and the members of our Board of Directors who are affiliated with the Advent Funds are not
required to offer us any corporate opportunity of which they become aware and can take any such
corporate opportunity for themselves or offer it to other companies in which they have an investment. In
addition, our Certificate of Incorporation provides that Ms. Dagousset is not required to offer us any
corporate opportunity of which she becomes aware in her capacity as an officer or employee of Chanel and
can take such corporate opportunity for Chanel. We, by the terms of our Certificate of Incorporation
expressly renounce any interest or expectancy in any such corporate opportunity to the extent permitted
under applicable law, even if the opportunity is one that we or our subsidiaries might reasonably have
pursued or had the ability or desire to pursue if granted the opportunity to do so. The Advent Funds may
have interests that differ from yours. The Advent Funds are in the business of making investments in
companies and may from time to time acquire and hold interests in businesses that compete directly or
indirectly with us. Ms. Dagousset, in her capacity as an officer or employee of Chanel, also may have
interests that differ from those of the Company, including that she may be presented with or become
involved with business opportunities for Chanel that may be competitive with the Company.
The Tax Receivable Agreement with our Pre-IPO Stockholders requires us to
make cash payments to them and exposes us to certain risks. These payments may be substantial and could
exceed actual tax benefits. The timing of these payments may also be accelerated, and we will not be
reimbursed for any payments made under the Tax Receivable Agreement in the event that any tax benefits
are disallowed. Changes in tax law, and in particular the tax rate applicable to U.S. corporations and
the tax rules on amortization of intangible assets, may materially impact the timing and amounts of
payments by us to the Pre-IPO stockholders pursuant to the Tax Receivable Agreement.
In
connection with the IPO, we entered into a Tax Receivable Agreement, under which generally we are
required to pay to our Pre-IPO Stockholders 85% of the amount of cash savings, if any, in U.S. federal,
state or local income tax that we or our subsidiaries realize (or are deemed to realize in certain
circumstances) as a result of the utilization of the Pre-IPO Tax Assets (as defined herein) and the
making of payments under the Tax Receivable Agreement. If we did not enter into the Tax Receivable
Agreement, we would be entitled to realize the full economic benefit of the Pre-IPO Tax Assets.
Consequently, stockholders other than the Pre-IPO Stockholders will only be entitled to the economic
benefit of the Pre-IPO Tax Assets to the extent of our continuing 15% interest in those assets.
These
payment obligations are our obligations and not obligations of any of our subsidiaries and are not
conditioned upon the Pre-IPO Stockholders maintaining a continued direct or indirect ownership interest
in us. While many of the factors that will determine the amount of payments that we will make under the
Tax Receivable Agreement are outside of our control, we expect that the payments we will make under the
Tax Receivable Agreement will be substantial and could have a material adverse effect on our financial
condition. The tax liability is based on current tax laws and the assumption that we and our
subsidiaries earn sufficient taxable income to realize the full tax benefits subject to the Tax
Receivable Agreement. Updates to our blended state tax rate and allocation of U.S. to foreign income may
impact the established liability and changes would be recorded to other (expense) income in the period
we made the determination. We expect that future payments under the Tax Receivable Agreement relating to
the Pre-IPO Tax Assets could aggregate to $222.1 million over the 13-year remaining period under the Tax
Receivable Agreement.
In
addition, we are subject to a number of risks pursuant to our obligations under the Tax Receivable
Agreement, including the following risks:
•Payments
under the Tax Receivable Agreement are expected to give rise to certain additional tax benefits. Any
such tax benefits that we are deemed to realize under the terms of the Tax Receivable Agreement are
covered by the Tax Receivable Agreement and will increase the amounts due thereunder.
•The
Tax Receivable Agreement makes certain simplifying assumptions and adjustments regarding the
determination of the cash savings in U.S. federal, state or local income tax that we or our subsidiaries
realize (or are deemed to realize in certain circumstances) as a result of the utilization of the
Pre-IPO Tax Assets (as defined herein) and the determination of the benefits that the Company may be
deemed to receive as a result of making payments to the Pre-IPO Stockholders under the Tax Receivable
Agreement. As a result, payments pursuant to the Tax Receivable Agreement could be significantly greater
than the benefits we realize in respect of the Pre-IPO Tax Assets.
•Payments
under the Tax Receivable Agreement are based in part on our reporting positions. The Pre-IPO
Stockholders (or their transferees or assignees) will not reimburse us for any payments previously made
under the Tax Receivable
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Agreement
if such tax benefits are subsequently disallowed. As a result, in certain circumstances, the payments we
are required to make under the Tax Receivable Agreement could exceed the tax savings we actually
realize.
•Certain
transactions by us could cause us to recognize taxable income (possibly material amounts of income)
without a current receipt of cash. Payments under the Tax Receivable Agreement with respect to such
taxable income would cause a net reduction in our available cash. In these cases, we may use some of the
Pre-IPO Tax Assets to offset income from these transactions and, under the Tax Receivable Agreement,
would be required to make a payment to our Pre-IPO Stockholders even though we receive no cash
corresponding to such income.
•The
Tax Receivable Agreement provides that interest accrues from the due date (without extensions) of the
tax return to which the applicable tax benefits relate to the date of payment specified by the Tax
Receivable Agreement. In addition, if we fail to make payment by the date so specified, the Tax
Receivable Agreement generally provides for interest to accrue on the unpaid amount from the date so
specified until the date of actual payment, at a higher rate of interest (except under certain
circumstances).
•Changes
in tax law, and in particular the federal and state tax rates applicable to U.S. corporations, the tax
rules on the amortization and depreciation of assets, and our split of U.S. to foreign income may
materially impact the timing and amounts of payments by us to the Pre-IPO Stockholders pursuant to the
Tax Receivable Agreement.
•Certain
provisions in the Tax Receivable Agreement may result in situations where the Pre-IPO Stockholders have
interests that differ from or are in addition to those of our other stockholders.
•Upon
certain events or if we elect an early termination of the Tax Receivable Agreement, our payment
obligations under the Tax Receivable Agreement will accelerate and may significantly exceed the actual
benefits we realize in respect of the tax attributes subject to the Tax Receivable Agreement.
•In
certain situations our, or a potential acquirer’s, obligations under the Tax Receivable Agreement could
have a substantial negative impact on our, or a potential acquirer’s, liquidity and could have the
effect of delaying, deferring, modifying or preventing certain mergers, asset sales, other forms of
business combinations or other Changes of Control (as defined in the Tax Receivable Agreement).
•The
Tax Receivable Agreement contains a Change of Control definition that includes, among other things, a
Continuing Directors Provision. The election of new board members could give rise to a Change of Control
and accelerate payments under the Tax Receivable Agreement.
•Because
we are a holding company with no operations of our own, our ability to make payments under the Tax
Receivable Agreement is dependent on the ability of our subsidiaries to make distributions to us. To the
extent that we are unable to make payments under the Tax Receivable Agreement for specified reasons,
such payments will be deferred and will accrue interest, which could negatively impact our results of
operations and could also affect our liquidity in periods in which such payments are made. Among other
reasons, we may be unable to timely make payments under the Tax Receivable Agreement due to limitations
on distributions under the terms of the 2022 Credit Agreement to which one or more of our subsidiaries
are a party.
In
the event that any determinations must be made under or any dispute arises involving the Tax Receivable
Agreement, the Pre-IPO Stockholders will be represented by a shareholder representative that initially
will be an entity controlled by the Advent Funds. For so long as any Advent Funds retain an interest in
the Tax Receivable Agreement, should any representatives of the Advent Funds then be serving on our
Board of Directors, such directors will be excluded from decisions of the Board of Directors related to
the relevant determination or dispute.
The
Tax Receivable Agreement is filed as exhibit 10.3 to the Annual
Report filed on Form 10-K for the fiscal year ended December 31, 2021 as filed on March 8, 2022.
The
foregoing description of the Tax Receivable Agreement is qualified by reference thereto.
There may be sales of a substantial amount of our common stock, and these
sales could cause the price of our common stock to fall.
Sales
of a substantial number of shares of our common stock in the public market, or the perception that these
sales might occur, could cause the market price of our common stock to decline and could impair our
ability to raise capital through the sale of additional equity securities.
As
of December 31, 2022, the Advent Funds held 76.8% of our total shares outstanding. The Advent Funds may
require us to register shares of our common stock held by them for resale under the federal securities
laws. Any such sales or anticipation thereof, including the filing of a registration statement relating
to such shares, could cause the market price of our common stock to decline.
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In
addition, as of December 31, 2022, we had options to purchase an aggregate of 44.8 million shares of
common stock outstanding. We have filed a Form S-8 registration statement to register shares that we may
issue pursuant to our equity incentive plans, including all of the shares underlying options currently
outstanding, which permits the resale of such shares by non-affiliates in the public market without
restriction under the Securities Act and the sale by affiliates in the public market subject to
compliance with the resale provisions of Rule 144.
Any
sales by the Advent Funds, by Company insiders including directors or officers, or of shares issued upon
the exercise of stock options could cause the market price of our common stock to decline, potentially
substantially depending upon the volume and timing of such sales. In addition, short sales or hedging
transactions involving our equity securities, whether or not we believe them to be prohibited, could
also adversely affect the price of our common stock.
Delaware law and provisions in our Certificate of Incorporation and second
amended and restated bylaws could make a merger, tender offer or proxy contest more difficult, limit
attempts by our stockholders to replace or remove our current management and depress the market price of
our common stock.
In
addition to the Advent Funds’ beneficial ownership of a substantial percentage of our common stock,
provisions in our Certificate of Incorporation and second amended and restated bylaws (the “Bylaws”) and
Delaware law could make it harder for a third party to acquire us, even if doing so might be beneficial
to our stockholders, and for stockholders to elect directors that are not nominated by the current
members of our Board of Directors or take other corporate actions, including effecting changes in our
management. These provisions include a classified board of directors and the ability of our Board of
Directors to issue preferred stock without stockholder approval that could be used to dilute a potential
hostile acquirer. Our Certificate of Incorporation also imposes some restrictions on mergers and other
business combinations between us and any holder of 15% or more of our outstanding common stock other
than the Advent Funds. As a result, you may lose your ability to sell your stock for a price in excess
of the prevailing market price due to these protective measures, and efforts by stockholders to change
the direction or management of the company may be unsuccessful.
We are a “controlled company” within the meaning of the corporate
governance standards of The Nasdaq Stock Market LLC (“Nasdaq”). As a result, we qualify for, and rely
on, exemptions from certain corporate governance standards.
The
Advent Funds collectively control a majority of the voting power of shares eligible to vote in the
election of our directors. Because more than 50% of the voting power in the election of our directors is
held by an individual, group or another company, we are a “controlled company” within the meaning of the
Nasdaq corporate governance standards. As a controlled company, we may elect not to comply with certain
corporate governance requirements, including the requirements that:
•a
majority of our Board of Directors consists of “independent directors,” as defined under the Nasdaq
corporate governance standards;
•our
Board of Directors has a compensation committee that is composed entirely of independent directors with
a written charter addressing the committee’s purpose and responsibilities; and
•our
Board of Directors has a nominating and corporate governance committee that is composed entirely of
independent directors with a written charter addressing the committee’s purpose and responsibilities.
We
rely on these exemptions and therefore do not expect that the majority of our directors will be
independent or that the compensation and nominating and corporate governance committees of our Board of
Directors will consist entirely of independent directors. Accordingly, you will not have the same
protections afforded to stockholders of companies that are subject to all of the Nasdaq corporate
governance requirements.
If securities or industry analysts cease to publish research, or publish
inaccurate or unfavorable research, about our business, the price of our common stock and trading volume
could decline.
The
trading market for our common stock is influenced in part by the research and reports that securities or
industry analysts publish about us or our business, our market and our competitors. We do not have any
control over these analysts. If industry analysts cease coverage of us, downgrade our common stock or
publish inaccurate or unfavorable research about our business, our common stock price could decline.
We do not intend to pay dividends for the foreseeable future.
We
intend to retain any future earnings to finance the operation and expansion of our business, and we do
not expect to declare or pay any dividends in the foreseeable future. Moreover, the terms of the Tax
Receivable Agreement and our 2022 Credit Agreement restrict our ability to pay dividends, and any
additional debt we may incur in the future may include similar restrictions. Any determination to pay
dividends in the future will be at the discretion of our Board of Directors. Accordingly,
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stockholders
must rely on sales of their common stock after price appreciation, which may never occur, as the only
way to realize any future gains on their investment.
Our Certificate of Incorporation designates specific courts as the sole
and exclusive forum for certain claims or causes of action that may be brought by our stockholders,
which could discourage lawsuits against us and our directors and officers.
Our
Certificate of Incorporation provides that, subject to limited exceptions, the Court of Chancery of the
State of Delaware (or, if, and only if, the Court of Chancery of the State of Delaware dismisses a
Covered Claim (as defined below) for lack of subject matter jurisdiction, any other state or federal
court in the State of Delaware that does have subject matter jurisdiction) will, to the fullest extent
permitted by applicable law, be the sole and exclusive forum for the following types of claims: (i) any
derivative claim brought in the right of the Company, (ii) any claim asserting a breach of a fiduciary
duty to the Company or the Company’s stockholders owed by any current or former director, officer or
other employee or stockholder of the Company, (iii) any claim against the Company arising pursuant to
any provision of the Delaware General Corporation Law, our Certificate of Incorporation or Bylaws, (iv)
any claim to interpret, apply, enforce or determine the validity of our Certificate of Incorporation or
our Bylaws, (v) any claim against the Company governed by the internal affairs doctrine, and (vi) any
other claim, not subject to exclusive federal jurisdiction and not asserting a cause of action arising
under the Securities Act, brought in any action asserting one or more of the claims specified in clauses
(a)(i) through (v) herein above (each a “Covered Claim”). This provision would not apply to claims
brought to enforce a duty or liability created by the Exchange Act.
Our
Certificate of Incorporation further provides that the federal district courts of the U.S. will be the
exclusive forum for resolving any complaint asserting a cause of action arising under the Securities
Act. In addition, our Certificate of Incorporation provides that any person or entity purchasing or
otherwise acquiring any interest in the shares of capital stock of the Company will be deemed to have
notice of and consented to these choice-of-forum provisions and waived any argument relating to the
inconvenience of the forums in connection with any Covered Claim.
The
choice of forum provisions contained in our Certificate of Incorporation may limit a stockholder’s
ability to bring a claim in a judicial forum that it finds favorable for disputes with us or any of our
directors, officers, other employees or stockholders, which may discourage lawsuits with respect to such
claims. Alternatively, if a court of law in a jurisdiction outside of Delaware were to find the choice
of forum provisions contained in our Certificate of Incorporation to be inapplicable or unenforceable in
respect to an action brought against us by a stockholder, we may incur additional costs associated with
resolving such action in such other jurisdictions.
General Risks
A general economic downturn or sudden disruption in business conditions
may affect consumer purchases of discretionary items and the financial strength of our customers, which
could adversely affect our business, financial condition and results of operations.
The
general level of consumer spending is affected by a number of factors, including general economic
conditions, inflation, interest rates, energy costs and consumer confidence generally, all of which are
beyond our control. Consumer purchases of discretionary items tend to decline during recessionary
periods, when disposable income is lower, which may impact sales of our products. The U.S. experienced
rising interest rates and heightened inflationary pressures throughout 2022, which we believe led to a
shift in consumer spending habits and confidence in the second half of the year and adversely affected
our business. A further weakening in the global macro-environment may lead to additional pressure on
consumer demand and customer inventory reductions.
We
may extend credit to a customer based on an evaluation of its financial condition, usually without
requiring collateral. However, the financial difficulties of a customer could cause us to curtail or
eliminate business with them. We may also assume more credit risk relating to the receivables from that
customer. Our inability to collect receivables from our largest customers or from a group of customers
would have an adverse effect on our business. If any of our customers were to liquidate, we would incur
additional costs if we choose to purchase the customer’s inventory of our products to protect brand
equity.
Sudden
disruptions in local or global business conditions from events such as the COVID-19 pandemic or other
health issues, geo-political or local conflicts, civil unrest, terrorist attacks, adverse weather
conditions, climate changes or seismic events can have a short-term and, sometimes, long-term impact on
consumer spending, which in turn could adversely affect our business, financial condition and results of
operations. Moreover, a downturn in the economies of, or continuing recessions in, the countries where
we sell our products or a sudden disruption of business conditions in those countries could adversely
affect consumer confidence, the financial strength of our distributors and retailers and, in turn, our
sales and profitability.
Volatility
in the financial markets and a related economic downturn in key markets or markets generally throughout
the world have had, and in the future could have, an adverse effect on our business. We may need or
choose to seek additional financing to
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operate
or expand our business, and deterioration in global financial markets or an adverse change in our credit
ratings could make future financing difficult or more expensive.
Our quarterly results of operations may fluctuate, and if our operating
and financial performance in any given period does not meet the guidance that we have provided to the
public or the expectations of our investors and securities analysts, the trading price of our common
stock may decline.
Our
quarterly results of operations may fluctuate for a variety of reasons, including those described
elsewhere in this “Risk Factors” section, many of which are beyond our control. Our quarterly results
may fall below the guidance that we have provided to the public or the expectations of our investors and
securities analysts, which has caused and in the future may cause us to reissue our guidance or the
trading price of our common stock to decline.
In
addition, our quarterly results of operations have varied historically, and they may vary in the future.
Therefore, period-to-period comparisons of our results of operations may not be meaningful. You should
not rely on the results of one quarter as an indication of future performance.
We could be subject to changes in our tax rates, the adoption of new U.S.
or international tax legislation or exposure to additional tax liabilities, which could have a material
and adverse effect on our operating results, cash flows and financial condition.
We
are subject to income taxes in the U.S. and the U.K., where our subsidiary Olaplex UK Limited is
organized. Tax laws, regulations, administrative practices and interpretations in the U.S. or other
jurisdictions may be subject to change, with or without notice, due to economic, political and other
conditions, which may materially affect our operating results and financial conditions. As a result,
significant judgment is required in evaluating and estimating our provision for income taxes. Our future
effective tax rates could be affected by numerous factors, such as intercompany transactions, changes in
our business operations, acquisitions and dispositions, entry into new markets, the amount of our
earnings and where earned, losses incurred in jurisdictions, the inability to realize tax benefits,
changes in foreign currency exchange rates, changes in our stock price, uncertain tax positions,
allocation and apportionment of state taxes, changes in our deferred tax assets and liabilities and
their valuation.
In
addition, as a U.S. company doing business internationally, we may be subject to additional obligations
to collect and remit indirect taxes, and we may be subject to tax liability for past sales, which could
harm our business. State, local and foreign jurisdictions have differing rules and regulations governing
sales, use, value added, goods and services, and other taxes, and these rules and regulations are
subject to varying interpretations that may change over time. As a result, we could face the possibility
of tax assessments and audits, and our liability for these taxes and associated penalties could exceed
our original estimates. A successful assertion that we should be collecting additional sales, use, value
added, goods and services or other taxes in those jurisdictions where we have not historically done so
and do not accrue for such taxes could result in substantial tax liabilities and related penalties for
past sales.
We
are also subject to examination by tax authorities, including state revenue agencies and foreign
governments. While we regularly assess the likelihood of favorable or unfavorable outcomes resulting
from examinations by tax authorities to determine the adequacy of our tax accruals, the actual outcome
resulting from these examinations may materially affect our operating results and financial
condition.
Our business could be negatively impacted by corporate citizenship and
sustainability matters.
There
is an increased focus from certain investors, customers, consumers, employees and other stakeholders
concerning corporate citizenship and sustainability matters, including a desire for increased and
enhanced public disclosure on such matters by companies. From time to time, we may announce certain
initiatives or goals regarding these matters or determine to release public disclosure with respect
thereof. We could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we
could fail in accurately or adequately reporting our progress on such initiatives and goals. In
addition, we could be criticized for the scope of such initiatives or goals or be perceived as not
acting responsibly in connection with these matters. Adverse incidents related to corporate citizenship
and sustainability matters could have an adverse effect on our business.
If we pursue acquisitions, such acquisitions may expose us to additional
risks.
We
may review acquisition and strategic investment opportunities to expand our current product offerings
and distribution channels, increase the size and geographic scope of our operations or otherwise offer
growth and operating efficiency opportunities. The pursuit of such opportunities may divert the
attention of management and cause us to incur various costs and expenses in identifying, investigating
and pursuing suitable opportunities, whether or not they are consummated. There can be no assurance that
we will be able to identify suitable candidates or consummate these transactions on favorable terms or
successfully integrate these businesses. We may not achieve the anticipated benefits of any such
opportunities.
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We are dependent on entities performing outsourced functions.
As
part of our long-term strategy, we outsource certain functions or parts of functions that can be
performed more effectively by external service providers. These include certain information technology,
e-commerce, logistics, finance and human resource functions. The failure of one or more entities to
provide the expected services on a timely basis and at the prices we expect may have an adverse effect
on our business. In addition, any transition of systems to a new external service provider could have an
adverse effect on our business.
Our business and results of operations could be adversely affected by
natural disasters, public health crises, political crises or other catastrophic events.
Our
finished products are primarily manufactured and fulfilled by companies located in Southern California,
an area which has a history of earthquakes, and are thus vulnerable to damage. Natural disasters, such
as earthquakes, wildfires, hurricanes, tornadoes, floods and other adverse weather and climate
conditions; unforeseen public health crises, such as epidemics and pandemics, including the COVID-19
pandemic; political crises, such as terrorist attacks, war and other political instability, including
the current conflict between Russia and Ukraine; or other catastrophic events, whether occurring in the
U.S. or internationally, could disrupt our operations or the operations of one or more of our
third-party providers or vendors. In particular, these types of events could impact our merchandise
supply chain, including the ability of third parties to manufacture and ship merchandise and our ability
to ship products to customers from or to the impacted region. In addition, these types of events could
negatively impact consumer spending in the impacted regions. To the extent any of these events occur,
our business, financial condition and results of operations could be adversely affected.
The
outbreak and global spread of COVID-19 significantly disrupted our operating environment, including
retail stores, hair salons, manufacturing, distribution and the ability of many of our customers to
operate. Our manufacturing, supply chain, warehousing and distribution operations were disrupted for
various periods of time, which resulted in delays in shipments to customers. Further, at various times
during the COVID-19 pandemic, salons and retailers operated under restrictions that caused many to close
or operate at significantly reduced levels. There is uncertainty regarding the future impacts of the
COVID-19 pandemic, and any such impacts on our cash flow, business, financial condition, results of
operations and prospects cannot be predicted and are generally outside our control.
We incur significant additional costs as a result of being a public
company, and our management is required to devote substantial time to compliance with our public company
responsibilities and corporate governance practices.
As
a public company, we incur increased costs associated with corporate governance requirements that we did
not incur as a private company, including rules and regulations of the SEC, under the Sarbanes-Oxley
Act, the Dodd-Frank Wall Street Reform and Customer Protection Act of 2010, and the Exchange Act, as
well as the Nasdaq listing rules. These rules and regulations have significantly increased our
accounting, legal and financial compliance costs and made certain activities more time consuming,
particularly since we are no longer an “emerging growth company.” In addition, certain members of our
management team have limited experience managing a public company, and the substantial attention our
management team devotes to interacting with public company analysts and investors and complying with the
laws pertaining to public companies may divert attention away from the day-to-day management of our
business. Increases in costs incurred or diversion of management’s attention resulting from our
operation as a public company may adversely affect our business, financial condition and results of
operations.
If we fail to maintain effective internal control over financial reporting
and effective disclosure controls and procedures, we may not be able to accurately report our financial
results in a timely manner or prevent fraud, which may adversely affect investor confidence in our
company.
Pursuant
to Section 404 of the Sarbanes-Oxley Act of 2002, as amended, our management is required to report on,
and our independent registered public accounting firm is required to attest to, the effectiveness of our
internal control over financial reporting in each annual report on Form 10-K. This assessment includes
disclosure of any material weakness identified by our management or our independent registered public
accounting firm in our internal control over financial reporting. In addition, we are required to comply
with the SEC’s rules implementing Section 302 of the Sarbanes-Oxley Act, which requires management to
certify financial and other information in our quarterly and annual reports, and we are required to
disclose significant changes made in our internal control over financial reporting on a quarterly basis.
To comply with these requirements, we may need to undertake various actions and to develop, implement
and test additional processes and other controls. Testing and maintaining internal controls can divert
our management’s attention from other matters related to the operation of our business.
As
a private company, we identified material weaknesses in our internal control over financial reporting as
of December 31, 2020. While these material weaknesses were remediated during the quarter ended December
31, 2021, we cannot provide assurance that additional material weaknesses or control deficiencies will
not occur in the future. If we fail to maintain proper and effective
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internal
controls, or are unable to comply with the requirements of Section 404 of the Sarbanes-Oxley Act in a
timely manner or assert that our internal control over financial reporting is effective, or if our
independent registered public accounting firm is unable to express an unqualified opinion as to the
effectiveness of our internal control over financial reporting in future periods, our ability to produce
accurate and timely financial statements could be impaired and investors may lose confidence in the
accuracy and completeness of our financial reports, which could harm our operating results, harm our
ability to operate our business and reduce the trading price of our stock.
We may be liable for the failure of our PEOs to comply with their
obligations under applicable law.
We
utilize the services of PEOs to manage our U.S. and U.K. employees and their employee benefits. Under
the terms of our arrangements, the PEOs are the employer of record for our U.S. and U.K. personnel and
are responsible for administering all payroll, including tax withholding, and providing health insurance
and other benefits to these individuals. We reimburse the PEOs for these costs and pay them an
administrative fee for their services. If any of our PEOs fails to comply with applicable laws or its
obligations under its agreement with us, we could be liable for such violations. The indemnification
provisions of our agreements with the PEOs, if applicable, may not be sufficient to insulate us from
those liabilities. For example, we could, under certain circumstances, be held liable for a failure by
any of our PEOs to pay employer-side taxes arising from payments to our employees or a failure by a PEO
to withhold and remit employee-side taxes arising from such payments. We also could, under certain
circumstances, be held liable for a failure by a PEO to appropriately pay our employees. In such a case,
our potential liability could be significant and adversely affect our business. Furthermore, if any of
our PEOs does not efficiently administer our employee benefits, our relationship with our employees
could be damaged.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None
ITEM 2. PROPERTIES
We
do not own any real property or have a physical headquarters. We lease one facility of approximately
5,000 square feet in New York that we use for research and development activities. The lease term for
this facility ends on August 31, 2027. Our employees work remotely, from home or at shared co-working
office spaces. We believe these arrangements support our current needs.
ITEM 3. LEGAL PROCEEDINGS
We
have, and may in the future, from time to time, become involved in litigation or other legal proceedings
incidental to our business, including litigation related to intellectual property, regulatory matters,
contract, advertising and other consumer claims. In the opinion of our management, reasonably possible
losses in addition to the amounts accrued for any such litigation and legal proceedings are not material
to our consolidated financial statements. In addition, we believe that protecting our intellectual
property is essential to our business and we have in the past, and may in the future, become involved in
proceedings to enforce our rights. Regardless of outcome, litigation (including the litigation noted
below) can have an adverse impact on our reputation, financial condition and business, including by
utilizing our resources and potentially diverting the attention of our management from the operation of
our business.
On
November 17, 2022, a putative securities class action was filed against the Company and certain of our
current and former officers and directors in the United States District Court for the Central District
of California, captioned Lilien
v. Olaplex Holdings, Inc. et al.,
No. 2:22-cv-08395. The action is brought on behalf of a putative class of purchasers of the Company’s
common stock in or traceable to our IPO and asserts claims under Sections 11 and 15 of the Securities
Act of 1933. The action seeks certification of the putative class, compensatory damages, attorneys’ fees
and costs, and any other relief that the court determines is appropriate. We intend to vigorously defend
the pending lawsuit.
On
February 9, 2023, a complaint alleging personal and economic injury, and asserting claims for breach of
warranty, negligence/gross negligence, products liability, unjust enrichment, and violations of
California False Advertising Law and Unfair Competition Law, was filed against the Company and Cosway
Company, Inc., our primary contract manufacturer, in the United States District Court for the Central
District of California. The case, which was filed by twenty eight plaintiff consumers on February 9,
2023, is captioned Albahae,
et al. v. Olaplex Holdings, Inc., et al.,
No. 2:23-cv-00982. The plaintiffs allege that certain ingredients used in some Company products have
purportedly caused irritation or posed a hazard to consumers, and that the Company engaged in
misrepresentation with respect to those products. The plaintiffs seek actual and consequential damages,
punitive damages, restitution in the form of disgorgement of profits, attorneys’ fees and costs, and any
other relief that the court determines is appropriate. We intend to vigorously defend the pending
lawsuit.
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ITEM 4. MINE SAFETY DISCLOSURES
Not
applicable.
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PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
Common Stock Market Prices
Shares
of our common stock have traded on the Nasdaq Global Select Market under the symbol “OLPX” since
September 30, 2021. Prior to that date, there was no market for our common stock.
Holders
As
of February 21,
2023,
there were 27 registered holders of our common stock. The actual number of record holders of our common
stock is based upon the actual number of holders registered on the books of the Company as of such date
and does not include holders of shares that are held in street name by brokers or other nominees.
Dividends
We
do not currently anticipate paying any dividends on our common stock and currently expect to retain all
future earnings for use in the operation and expansion of our business. We may reevaluate our dividend
policy in future. The declaration, amount and payment of any future dividends on our common stock will
be at the sole discretion of our Board of Directors, which may take into account general and economic
conditions, our financial condition and results of operations, our available cash and current and
anticipated cash needs, capital requirements, contractual, legal, tax and regulatory restrictions and
implications on the payment of dividends by us to our stockholders or by our subsidiaries to us,
including restrictions under our 2022 Credit Agreement, our obligations under the Tax Receivable
Agreement and other indebtedness we may incur, and such other factors as our Board of Directors may deem
relevant. If we elect to pay such dividends in the future, we may reduce or discontinue entirely the
payment of such dividends at any time.
Stock Performance Graph
This
performance graph shall not be deemed “soliciting material” or to be “filed” with the SEC for purposes
of Section 18 of the Exchange Act or otherwise subject to the liabilities under that Section, and shall
not be deemed to be incorporated by reference into any of our filings under the Securities Act or the
Exchange Act.
The
following graph and accompanying table compare the cumulative fifteen-month total stockholder return on
the Company’s common stock with the cumulative total return of the Nasdaq Composite and the S&P
Consumer Staples Index. This graph and table (i) cover the fifteen-month period from September 30, 2021
(the date of the initial listing of our common stock on the Nasdaq Global Select Market) to December 31,
2022 on a quarterly basis, (ii) assume a $100 investment on September 30, 2021, and (iii) assume
reinvestment of dividends, if any.
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| Company/Index | 09/30/2021 | 12/31/2021 | 03/31/2022 | 06/30/2022 | 09/30/2022 | 12/31/2022 | ||||||||||||||
| Olaplex Holdings, Inc. | $ | 100.00 | $ | 118.90 | $ | 63.80 | $ | 57.51 | $ | 38.98 | $ | 21.27 | ||||||||
| NASDAQ Composite | $ | 100.00 | $ | 108.45 | $ | 98.42 | $ | 76.33 | $ | 73.19 | $ | 72.44 | ||||||||
| S&P Consumer Staples | $ | 100.00 | $ | 112.86 | $ | 110.76 | $ | 104.96 | $ | 97.37 | $ | 109.03 | ||||||||
ITEM 6. RESERVED
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ITEM 7 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The
following discussion and analysis of our financial condition and results of operations should be read in
conjunction with our consolidated financial statements and related notes included elsewhere in this
Annual Report (“Annual Report”). Some of the information contained in this discussion and analysis,
including information with respect to our plans and strategy for our business, includes forward-looking
statements that involve risks and uncertainties. Our actual results may differ materially from
management’s expectations as a result of various factors. Factors that could cause or contribute to
these differences include, but are not limited to, those identified below and those discussed in the
“Special Note Regarding Forward-Looking Statements” section and in the “Risk Factors” section in this
Annual Report.
Company Overview
OLAPLEX
is an innovative, science-enabled, technology-driven beauty company. Since our inception in 2014, we
have focused on delivering effective, patent-protected and proven performance in the prestige haircare
category. Our mission is to blaze new paths to well-being that ignite confidence from the inside
out.
OLAPLEX
disrupted and revolutionized the prestige hair care category by creating the bond-building space in
2014. We have grown from an initial assortment of three products sold exclusively through the
professional channel to a broader suite of products offered through the professional, specialty retail
and Direct to Consumer (“DTC”) channels that have been strategically developed to address three key
uses: treatment, maintenance and protection. Our patent-protected bond-building technology relinks
disulfide bonds in human hair that are destroyed via chemical, thermal, mechanical, environmental and
aging processes. Our current product portfolio comprises fifteen unique, complementary products
specifically developed to provide a holistic regimen for hair health.
The
strength of our business model and ability to scale have created a compelling financial profile
characterized by revenue growth and very strong profitability. We have developed a mutually reinforcing,
synergistic, omnichannel model that leverages the strength of each of our channels and our strong
digital capabilities that we apply across our sales platforms. Our professional channel serves as the
foundation for our brand. Through this channel, professional hairstylists introduce consumers to our
products and, we believe, influence consumer purchasing decisions. Our specialty retail channel works to
increase awareness of, and education for, our products and expand penetration of our sales. Our DTC
channel, comprised of Olaplex.com and sales through third-party e-commerce platforms, also provides us
with the opportunity to engage directly with our consumers to provide powerful feedback that drives
decisions we make around new product development.
Four Strategic Pillars
We
are focused on executing against four key strategic pillars that we believe will support our long-term
growth. These include igniting our global brand, disrupting with innovation, amplifying channel coverage
and charting new geographies. These key strategic pillars are supported by our efforts to build
capabilities and infrastructure that we believe will enable our aspirations.
Igniting our Global Brand
We
believe we have built one of the most powerful brands in the prestige haircare category. We plan to
continue growing awareness of our global brand, in an effort to deepen connections with existing
customers as well as reach new audiences. We will also continue to invest in enhancing our brand equity.
Our marketing model remains focused on implementing high return on investment, performance marketing
activities aimed at fueling growth. Key levers of our marketing include organic social media
activations, strategic paid media, education and training regarding our brand, community engagement with
our professional hairstylists, influencer partnerships, and retailer activations such as sampling and
in-store events.
Disrupting with Innovation
We
believe we have a strong pipeline of disruptive innovation that leverages our science-based technology
and patented Bis-amino ingredient. We plan to launch two-to-four products annually over the next five
years. To support this pipeline, we intend to continue to invest in research and development to
strengthen our internal innovation capabilities. We remain excited about the opportunity to enter
adjacent categories in haircare and also other categories where our Bis-amino patents can serve as a
foundation for entry that we believe is supported by consumer trust in our brand.
Amplifying Channel Coverage
In
our professional channel, we have undertaken efforts to support strong relationships with the
hairstylist community and maintain brand awareness by increasing our field support efforts, deepening
partnerships with distributors and customers, and refreshing educational content. We also intend to
pursue opportunities to further penetrate premium and prestige salons. In specialty retail, we are
enhancing visual merchandising in stores, deploying targeted communications intended to enable new
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customer
acquisition, and implementing a new program to staff third party Company-trained sales associates in
retail stores. For our DTC business, we are evolving the digital experiences on Olaplex.com and third
party e-commerce websites. On Olaplex.com, we expect to continue to invest in site enhancements and more
advanced personalization efforts.
Charting New Geographies
We
believe there is substantial opportunity to grow globally. Our priority international regions are
currently Europe and Asia. Across Europe and other regions, we aim to implement our business model by
first establishing a strong professional channel and then complementing that channel through entry into
specialty retail and DTC. In the People’s Republic of China, as currently accessed through our
cross-border e-commerce business model, we are pursuing a digital-first strategy.
Supporting our Four Strategic Pillars
To
enable these four key growth pillars, we intend to continue to build our capabilities and
infrastructure. These efforts extend across our organization, including focusing on cultivating top
talent and building a strong corporate culture, evolving our operational capabilities as we scale,
creating a strong financial foundation for growth, and ensuring that we have the technology and data to
support our growth.
Business Environment & Trends
We
continue to monitor the effects of the global macro-economic environment, including the risk of
recession, increasing inflationary pressures, competitive product discounting, currency volatility,
rising interest rates, social and political issues, geopolitical tensions and regulatory matters. We
also are mindful of inflationary pressures on our consumers, and are monitoring the impact that
increasing inflationary pressures may have on consumer spending and preferences and inventory
rebalancing at our customers in an increasingly competitive industry.
Competition
in the beauty industry is based on a variety of factors, including innovation, product efficacy,
accessible pricing, brand recognition and loyalty, service to the consumer, promotional activities,
advertising, special events, new product introductions, e-commerce initiatives and other activities. In
recent years, we have seen increased competitive activity including discounting in the prestige haircare
category, which may continue in a heightened inflationary environment. We believe we have a
well-recognized and strong reputation in our core markets and that the quality and performance of our
products, our emphasis on innovation, and our engagement with our professional and consumer communities
position us to compete effectively.
2022 Financial Highlights
•Net
sales increased 17.7% to $704.3 million for the year ended December 31, 2022 from $598.4 million
for the year ended December 31, 2021. For the year ended December 31, 2022, net sales in our
professional channel grew 16.0%, our specialty retail channel grew 33.9%, and our DTC channel grew 3.0%,
in each case as compared to the year ended December 31, 2021. During the same period, Net sales
increased 15.4% in the United States and increased 20.9% internationally.
•Gross
profit margin decreased to 73.8% for the year ended December 31, 2022 from 79.2% for the year ended
December 31, 2021, primarily as a result of higher input costs for raw materials, warehousing, and
transportation, product and channel mix, inventory and labeling stock write-off and disposal costs, and
distribution start up costs.
•Operating
expenses for the year ended December 31, 2022 increased by 11.1%, as compared to the year ended
December 31, 2021, primarily as a result of increased sales and marketing expense, higher payroll
due to workforce expansion, public company compliance costs, increased professional fees expenses,
non-recurring executive reorganization costs, and increased share-based compensation expense and
distribution and fulfillment expenses, partially offset by non-recurring litigation costs during the
year ended December 31, 2021, one-time initial public offering costs, and cash settled unit
compensation costs incurred in the year ended December 31, 2021.
•Operating
income increased to $364.4 million for the year ended December 31, 2022 from $334.2 million for the
year ended December 31, 2021.
•Net
income increased to $244.1 million for the year ended December 31, 2022 from $220.8 million for the
year ended December 31, 2021 .
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Results of operations for the years ended December 31, 2022, 2021 and
2020
Set
forth below is the Company’s results of operations for its fiscal year ended December 31, 2022 (“fiscal
year 2022”) versus its fiscal year ended December 31, 2021 (“fiscal year 2021”). For discussion of the
Company’s results of operations for its fiscal year 2021 versus its fiscal year ended December 31, 2020,
see “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” in
the Company’s Annual Report on Form 10-K for its fiscal year 2021, filed with the Securities and
Exchange Commission (the “SEC”) on March 8, 2022.
The
following table sets forth our consolidated statements of operations data for each of the periods
presented:
| 2022 | 2021 | 2020 | |||||||||||||||||||||||||||||||||
| (in thousands) | %
of Net sales |
(in thousands) | %
of Net sales |
(in thousands) | %
of Net sales |
||||||||||||||||||||||||||||||
| Net sales | $ | 704,274 | 100.0 | % | $ | 598,365 | 100.0 | % | $ | 282,250 | 100.0 | % | |||||||||||||||||||||||
| Cost of sales: | |||||||||||||||||||||||||||||||||||
| Cost of product (excluding amortization) | 177,221 | 25.2 | 116,554 | 19.5 | 96,611 | 34.2 | |||||||||||||||||||||||||||||
| Amortization of patented formulations | 7,500 | 1.1 | 7,989 | 1.3 | 6,052 | 2.1 | |||||||||||||||||||||||||||||
| Total cost of sales | 184,721 | 26.2 | 124,543 | 20.8 | 102,663 | 36.4 | |||||||||||||||||||||||||||||
| Gross profit | 519,553 | 73.8 | 473,822 | 79.2 | 179,587 | 63.6 | |||||||||||||||||||||||||||||
| Operating expenses: | |||||||||||||||||||||||||||||||||||
| Selling, general, and administrative | 113,877 | 16.2 | 98,878 | 16.5 | 37,170 | 13.2 | |||||||||||||||||||||||||||||
| Amortization of other intangible assets | 41,282 | 5.9 | 40,790 | 6.8 | 39,825 | 14.1 | |||||||||||||||||||||||||||||
| Acquisition costs | — | — | — | — | 16,499 | 5.8 | |||||||||||||||||||||||||||||
| Total operating expenses | 155,159 | 22.0 | 139,668 | 23.3 | 93,494 | 33.1 | |||||||||||||||||||||||||||||
| Operating income | 364,394 | 51.7 | 334,154 | 55.8 | 86,093 | 30.5 | |||||||||||||||||||||||||||||
| Interest expense, net | (41,178) | (5.8) | (61,148) | (10.2) | (38,645) | (13.7) | |||||||||||||||||||||||||||||
| Other (expense) income, net | |||||||||||||||||||||||||||||||||||
| Loss on extinguishment of debt | (18,803) | (2.7) | — | — | — | — | |||||||||||||||||||||||||||||
| Tax receivable agreement liability adjustment | 3,084 | 0.4 | 3,615 | 0.6 | — | — | |||||||||||||||||||||||||||||
| Other expense | (2,256) | (0.3) | (1,012) | (0.2) | (190) | (0.1) | |||||||||||||||||||||||||||||
| Total other (expense) income, net | (17,975) | (2.6) | 2,603 | 0.4 | (190) | (0.1) | |||||||||||||||||||||||||||||
|
Income
before provision for income taxes
|
305,241 | 43.3 | 275,609 | 46.1 | 47,258 | 16.7 | |||||||||||||||||||||||||||||
| Income tax provision | 61,169 | 8.7 | 54,825 | 9.2 | 7,980 | 2.8 | |||||||||||||||||||||||||||||
| Net income | $ | 244,072 | 34.7 | $ | 220,784 | 36.9 | $ | 39,278 | 13.9 | ||||||||||||||||||||||||||
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Fiscal year 2022 compared to fiscal year 2021:
Net
Sales
We
distribute products through professional salon channels, specialty retailers, as well as direct to
consumers through Olaplex.com and through third party e-commerce platforms. As such, our three business
channels consist of professional, specialty retail and DTC as follows:
| (in thousands) | For the Year Ended December 31, | ||||||||||||||||||||||
| 2022 | 2021 |
$
Change
|
%
Change
|
||||||||||||||||||||
| Net sales by Channel: | |||||||||||||||||||||||
| Professional | $ | 300,472 | $ | 259,009 | $ | 41,463 | 16.0 | % | |||||||||||||||
| Specialty retail | 235,310 | 175,799 | 59,511 | 33.9 | % | ||||||||||||||||||
| DTC | 168,492 | 163,557 | 4,935 | 3.0 | % | ||||||||||||||||||
| Total Net sales | $ | 704,274 | $ | 598,365 | $ | 105,909 | 17.7 | % | |||||||||||||||
The
growth in the professional channel was driven by volume growth from existing distribution customers and
the net impact of new products launched since December 31, 2021, which include No. 9 Bond Protector
Nourishing Hair Serum, No. 4C Bond Maintenance Clarifying Shampoo, and Broad Spectrum Chelating
Treatment, as well as 1-liter sizes in No. 4 Bond Maintenance Shampoo, No. 5 Bond Maintenance
Conditioner, and No. 4C Bond Maintenance Clarifying Shampoo. The Company experienced the strongest net
sales growth in Germany, Italy and the U.S.
The
growth in the specialty retail channel was driven by the addition of new customers, growth with existing
customers and the net impact of new products launched since December 31, 2021, which include No. 9
Bond Protector Nourishing Hair Serum, and No. 4C Bond Maintenance Clarifying Shampoo. The Company
experienced the strongest net sales growth in the U.S., Canada, Italy, Germany and France.
The
growth in the DTC channel was driven by the net impact of volume growth from existing and new products
launched since December 31, 2021, which include No. 9 Bond Protector Nourishing Hair Serum, and No.
4C Bond Maintenance Clarifying Shampoo, as well as the addition of new consumers purchasing Company
products through this channel. The Company experienced the strongest net sales growth in the U.S. and
the People’s Republic of China.
Cost
of Sales and Gross Profit
| (in thousands) | For the Year Ended December 31, |
|
$ Change | % Change | |||||||||||||||||||
| 2022 | 2021 | ||||||||||||||||||||||
| Cost of sales | $ | 184,721 | $ | 124,543 |
|
$ | 60,178 |
|
48.3 | % | |||||||||||||
| Gross profit | $ | 519,553 | $ | 473,822 |
|
$ | 45,731 |
|
9.7 | % | |||||||||||||
Our
cost of sales increased primarily due to growth in sales volume and inflationary pressures, as well as a
$4.6 million increase due to inventory write-off and disposal costs related to unused stock of a product
that the Company reformulated in June 2021 as a result of regulation changes in the E.U, and a
$1.6 million increase due to write-off and disposal costs related to unused labeling stock that
became obsolete as a result of regulation changes in the E.U. The increase in cost of sales was
partially offset by a $0.5 million decrease in the amortization of our acquired patented
formulations.
Our
gross profit margin, gross profit as a percentage of sales, decreased from 79.2% in the year ended
December 31, 2021 to 73.8% in the year ended December 31, 2022 due to increased input costs
for warehousing, transportation, and raw materials, which accounted for approximately 4 percentage
points of the decline, with the remainder relating to inventory write-off and disposal costs, labeling
stock write-off and disposal costs, and distribution start up costs, partially offset by favorable
pricing and product and channel mix.
Operating
Expenses
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| (in thousands) | For the Year Ended December 31, |
|
|||||||||||||||||||||
| 2022 | 2021 |
|
$
Change
|
%
Change
|
|||||||||||||||||||
| Selling, general, and administrative expenses | $ | 113,877 | 98,878 |
|
$ | 14,999 |
|
15.2 | % | ||||||||||||||
| Amortization of other intangible assets | 41,282 | 40,790 |
|
492 |
|
1.2 | % | ||||||||||||||||
| Total operating expenses | $ | 155,159 |
|
$ | 139,668 |
|
$ | 15,491 | 11.1 | % | |||||||||||||
The
increase in selling, general and administrative expenses was primarily driven by increases of
$14.5 million in sales and marketing expense, $8.9 million in payroll driven by workforce
expansion, $8.6 million in public company compliance and other selling, general and administrative
expenses, $4.9 million in professional fees, $4.0 million of non-recurring executive
reorganization costs, $3.3 million in share-based compensation expense, and $1.8 million in
distribution and fulfillment costs related to the increase in product sales volume. These increases were
partially offset by decreases of $14.3 million in general and administrative expenses primarily
related to non-recurring litigation costs, $10.0 million in non-capitalizable IPO and strategic
transition costs and $6.5 million in cash-settled units compensation expense, in each case recorded
in the year ended December 31, 2021 and which were not subsequently incurred in the year ended
December 31, 2022.
Interest
Expense
| (in thousands) | For the Year Ended December 31, |
|
|
|
|||||||||||||||||||
| 2022 | 2021 |
|
$
Change
|
%
Change
|
|||||||||||||||||||
| Interest expense, net | $ | (41,178) | $ | (61,148) | $ | 19,970 |
|
(32.7) | % | ||||||||||||||
Interest
expense decreased due to the Company refinancing its 2020 Credit Agreement with the new 2022 Credit
Agreement in February 2022, which reduced the Company’s outstanding debt and lowered the interest rate
in respect thereof during the year ended December 31, 2022 as compared to during the year ended December
31, 2021, as well as $2.8 million of interest income from highly liquid investments purchased with
a maturity of three months or less. See “Liquidity and Capital Resources Requirements – Credit Facility”
for additional information on the Company’s outstanding debt.
Other
Income (Expense), Net
| (in thousands) | For the Year Ended December 31, |
|
|
|
|||||||||||||||||||
| 2022 | 2021 |
|
$
Change
|
%
Change
|
|||||||||||||||||||
| Other (expense) income, net | |||||||||||||||||||||||
| Loss on extinguishment of debt | $ | (18,803) | $ | — | $ | (18,803) | 100.0 | % | |||||||||||||||
| Tax receivable agreement liability adjustment | 3,084 | 3,615 | (531) | (14.7) | % | ||||||||||||||||||
| Other expense | (2,256) | (1,012) | (1,244) | 122.9 | % | ||||||||||||||||||
| Total other (expense) income, net | $ | (17,975) | $ | 2,603 |
|
$ | (20,578) | (790.5) | % | ||||||||||||||
For
the year ended December 31, 2022, other (expense) income, net increased $20.6 million compared to
the year ended December 31, 2021, primarily due to the $18.8 million loss on extinguishment of debt
associated with the Company’s debt refinancing that occurred in February 2022. Additionally,
during
the fourth quarter of 2022, the Company recognized other income of $3.1 million for a reduction to the
liability in respect of the Tax Receivable Agreement, resulting primarily from an update to the blended
state income tax rate used to measure the obligation, compared to $3.6 million in other income
recognized during the same period in 2021. Other
expense, net increased primarily due to an increase in foreign currency transaction losses driven by the
strengthening of the U.S. dollar.
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Income
Tax Provision
| (in thousands) | For the Year Ended December 31, |
|
|
|
|||||||||||||||||||
| 2022 | 2021 |
|
$
Change
|
%
Change
|
|||||||||||||||||||
| Income tax provision | $ | 61,169 | $ | 54,825 | $ | 6,344 | 11.6 | % | |||||||||||||||
The
Company’s effective tax rate was 20.0% for the year ended December 31, 2022, as compared to 19.9%
for the year ended December 31, 2021. The Company’s effective tax rate for the year ended
December 31, 2022 and 2021 was lower than the statutory tax rate of 21% primarily due to the
benefit associated with the foreign derived intangible income deduction (“FDII”), which results in
income from the Company’s sales to foreign customers being taxed at a lower effective tax rate,
partially offset by the net impact of state income taxes.
Tax
Receivable Agreement
The
tax liability is based on current tax laws and the assumption that we and our subsidiaries will earn
sufficient taxable income to realize the full tax benefits subject to the Tax Receivable Agreement.
Updates to our blended state tax rate and allocation of U.S. to foreign income may impact the
established liability and changes would be recorded to other (expense) income in the period we made the
determination. We expect that future payments under the Tax Receivable Agreement relating to the Pre-IPO
Tax Assets could aggregate to $222.1 million over the 13-year remaining period under the Tax Receivable
Agreement. Payments under the Tax Receivable Agreement are not conditioned upon the Pre-IPO
Stockholders’ continued ownership of the Company. During the year ended December 31, 2022, the
Company made a payment to the Pre-IPO Stockholders of $4.2 million as required pursuant to the terms of
the Tax Receivable Agreement. The remaining Tax Receivable Agreement payment obligation as
of December 31,
2022
is recorded as $222.1
million,
of which $205.7
million
was recorded in long term liabilities and $16.4
million
was recorded in current liabilities.
Financial Condition, Liquidity and Capital Resources
Overview
Our
primary recurring source of cash is the collection of proceeds from the sale of our products to our
customers, including cash periodically collected in advance of delivery or performance.
Our
primary use of cash is for working capital and payment of our operating costs, which consist primarily
of employee-related expenses, such as compensation and benefits, as well as general operating expenses
for marketing, fulfillment costs of customer orders, overhead costs, capital expenditures and debt
servicing. We also utilize cash for strategic investments. Fluctuations in working capital are primarily
caused by customer demand
of
our product, timing of when a retailer rearranges or restocks our products, expansion of space within
our existing retailer base, expansion into new retail stores and fluctuation in warehouse and
distribution costs. Capital expenditures typically vary and are currently limited, and future capital
expenditure requirements depend on strategic initiatives selected for the fiscal year, including
investments in infrastructure, expansion into new national and international distributors and expansion
of our customer base.
A
considerable portion of our operating income is earned outside the U.S.; however, the majority of our
bank deposits are held within the U.S.
As
of December 31,
2022,
we
had
$322.8 million of
cash and cash equivalents. In addition, as of December 31,
2022,
we had borrowing capacity of
$150 million under
our 2022 Revolver (as defined below), providing us with a liquidity position of
$472.8 million
plus $144.3 million
of working
capital excluding cash and cash equivalents for a combined $617.1 million total liquidity
position.
Cash Flows
The
following table summarizes our cash flows for the periods presented:
| For the Year Ended December 31, | |||||||||||
| (in thousands) | 2022 | 2021 | |||||||||
| Net cash provided by (used in): | |||||||||||
| Operating activities | $ | 255,324 | $ | 200,029 | |||||||
| Investing activities | (2,682) | (6,265) | |||||||||
| Financing activities | (116,222) | (18,340) | |||||||||
| Net increase in cash | $ | 136,420 | $ | 175,424 | |||||||
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Operating Activities
The
increase in net cash provided by operating activities was primarily a result of an increase in net
income of $23.3 million, changes in working capital and adjusting items to Operating Cash Flows to
reconcile to Net income from operations, partially offset by the loss on extinguishment of debt of $18.8
million related to the refinancing of the 2020 Credit Agreement, inventory and unused labeling
write-offs and disposal adjustments of $8.2 million recorded in the year ended December 31,
2022.
Investing Activities
The
Company’s investing activities during the years ended December 31, 2022 and 2021 included purchases of
software, property and equipment. For the year ended December 31, 2021, the Company’s investing
activities also included investments in unconsolidated affiliates.
Financing Activities
The
Company’s financing activities for the year ended December 31, 2022
primarily consisted of cash outflows for payments on our long-term debt and debt issuance costs,
partially offset by proceeds from the issuance of debt pursuant to the 2022 Credit Agreement,
payments
of debt issuance costs, and
payments
for shares withheld and retired for taxes and exercise price for SARs, partially offset by cash
received
by the Company from stock option exercises, For
the year ended December 31, 2021, the Company’s financing activities primarily consisted of cash
outflows for payments of principal and interest on our long-term debt, partially offset by cash received
by the Company from stock option exercises and issuance of common stock.
Liquidity and Capital Resources Requirements
Based
on past performance and current expectations, we believe that our cash, cash equivalents and cash
generated from operations will be sufficient to meet anticipated operating costs, required payments of
principal and interest, working capital needs, ordinary course capital expenditures, and other
commitments for at least the next 12 months.
If
necessary, we may borrow funds under our 2022 Revolver (as defined below) to finance our liquidity
requirements, subject to customary borrowing conditions. To the extent additional funds are necessary to
meet our long-term liquidity needs as we continue to execute our business strategy, we anticipate that
they will be obtained through the incurrence of additional indebtedness, equity financings or a
combination of these potential sources of funds; however, such financing may not be available on
favorable terms, or at all. Our ability to meet our operating, investing and financing needs depends, to
a significant extent, on our future financial performance, which will be subject in part to general
economic, competitive, financial, regulatory and other factors that are beyond our control, including
those described elsewhere in “Risk Factors” in the Annual Report. In addition to these general economic
and industry factors, the principal factors in determining whether our cash flows will be sufficient to
meet our liquidity requirements will be our ability to continue providing innovative products to our
customers and consumers and manage production and our supply chain.
2022 Credit Facility
On
February 23,
2022, Olaplex,
Inc., an indirect wholly owned subsidiary of Olaplex Holdings, Inc., together with Penelope Intermediate
Corp. acting as the parent guarantor, entered into a Credit Agreement, dated as of February 23, 2022
(the “2022 Credit Agreement”), by and among Olaplex, Inc., Penelope Intermediate Corp, Goldman Sachs
Bank USA (“Goldman Sachs”), as administrative agent (the “Administrative Agent”), collateral agent and
swingline lender, and each lender and issuing bank from time to time party thereto (the
“Lenders”).
The 2022 Credit Agreement refinanced and replaced the 2020 Credit Agreement with a seven-year $675,000
senior-secured term loan facility (the “2022 Term Loan Facility”) and a five-year $150,000
senior-secured revolving credit facility (the “2022 Revolver”), which includes a $25,000 letter of
credit sub-facility and a $25,000 swingline loan sub-facility
The
refinancing of the 2020 Credit Agreement resulted in recognition of loss on extinguishment of debt of
$18.8 million which is comprised of $11.0 million in deferred financing fee write off, and
$7.8 million of prepayment fees for the 2020 Credit Agreement. We incurred costs directly related
to the 2022 Credit Agreement of $11.9 million, consisting primarily of lender fees of
$1.7 million and third-party fees of $10.2 million during the year ended December 31,
2022. These fees were allocated between the 2022 Revolver and the 2022 Term Loan Facility. 2022 Term
Loan Facility fees are capitalized and recorded as a reduction of the carrying amount of non-current
debt, and 2022 Revolver fees are capitalized and recorded as Other Assets on the balance sheet.
The
interest rates for all facilities under the 2022 Credit Agreement are calculated based upon the
Company’s election among (a) adjusted term SOFR plus an additional interest rate spread, (b) with
respect to a borrowing in Euros under the 2022 Revolver, a euro interbank offered rate plus an
additional interest rate spread, or (c) an “Alternate Base Rate” (as defined in the 2022 Credit
Agreement) plus an additional interest rate spread.
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The
interest rate on outstanding amounts under the 2022 Term Loan Facility was 7.9% per annum as of
December 31, 2022. We have not drawn on the 2022 Revolver as of December 31, 2022. The 2022 Term
Loan Facility is repayable in mandatory quarterly installments equal to $1,688, with the balance payable
at maturity. The 2022 Term Loan Facility and 2022 Revolver can each be prepaid at any time without any
penalty or premium (subject to any applicable breakage costs). The 2022 Term Loan Facility is subject to
customary mandatory prepayments with respect to excess cash flow, net proceeds from non-ordinary course
asset dispositions and the issuance of additional non-permitted debt or certain refinancing debt, in
each case as set forth in the 2022 Credit Agreement.
The
2022 Credit Agreement contains a number of covenants that, among other things, restrict the Company’s
ability to (subject to certain exceptions) pay dividends and distributions or repurchase its capital
stock, incur additional indebtedness, create liens on assets, engage in mergers or consolidations and
sell or otherwise dispose of assets. The 2022 Credit Agreement also includes reporting, financial and
maintenance covenants, including a springing first lien leverage ratio financial covenant. The Company
was in compliance with these affirmative and negative covenants on December 31, 2022. Substantially
all the assets of the Company constitute collateral under the 2022 Credit Agreement. The maturity date
of the 2022 Term Loan Facility is February 23, 2029.
The
maturity date of the 2022 Revolver is February 23, 2027.
As
of December 31,
2022,
the Company had outstanding indebtedness under the 2022 Credit Agreement of $671.6 million, of which
$8.4 million was classified as current. As of December 31,
2022,
the Company had $150.0 million of available borrowing capacity under the 2022 Revolver.
On
August 11, 2022, the Company entered into an interest rate cap transaction in connection with the
2022 Term Loan Facility, with a notional amount of $400 million, in order to limit its exposure to
potential increases in future interest rates related to the 2022 Term Loan Facility. The Company has
designated the interest rate cap as a cash-flow hedge for accounting purposes. See
“Note 9.
Long-Term-Debt – Interest Rate Cap Transaction” to our Consolidated Financial Statements included in
Item 8. Financial Statements of this Annual Report for additional information.
Tax Receivable Agreement
In
connection with the Reorganization Transactions, we entered into the Tax Receivable Agreement that
provides the Pre-IPO Stockholders the right to receive future payments from us equal to 85% of the
amount of cash savings, if any, in U.S. federal, state or local income tax that we or our subsidiaries
realize (or are deemed to realize in certain circumstances) as a result of the utilization
of
certain tax attributes existing prior to the IPO, including tax basis in intangible assets and
capitalized transaction costs relating to taxable years ending on or before the date of the IPO
(calculated by assuming the taxable year of the relevant entity closes on the date of the IPO), that are
amortizable over a fixed period of time (including in tax periods beginning after the IPO) and which are
available to us and our wholly-owned subsidiaries (collectively, the “Pre-IPO Tax Assets”)
and the making of payments under the Tax Receivable Agreement.
Although
the actual amount and timing of any payments under the Tax Receivable Agreement will vary depending upon
a number of factors including the amount, character and timing of the Company’s and its subsidiaries’
taxable income in the future and the tax rates then applicable to us and our subsidiaries, we expect the
payments that will be required to be made under the Tax Receivable Agreement will be substantial and to
be funded out of working capital. See “Note 10. Income Taxes” to our Consolidated Financial Statements
included in Item 8. Financial Statements of this Annual Report for additional information. The tax
liability is based on current tax laws and the assumption that we and our subsidiaries earn sufficient
taxable income to realize the full tax benefits subject to the Tax Receivable Agreement. Updates to our
blended state tax rate and allocation of U.S. versus foreign sourced income may impact the established
liability and changes would be recorded to other (expense) income in the period we made the
determination. We expect that future payments under the Tax Receivable Agreement relating to the Pre-IPO
tax assets could aggregate to $222.1
million
over the 13-year
remaining period under the Tax Receivable Agreement. The Tax Receivable Agreement provides that
interest, at a rate equal to LIBOR (or if LIBOR ceases to be published, a replacement rate with similar
characteristics) plus 3%, accrues from the due date (without extensions) of the tax return to which the
applicable tax benefits relate to the date of payment specified by the Tax Receivable Agreement.
Payments under the Tax Receivable Agreement , which began in fiscal year 2022, are not conditioned upon
the Pre-IPO Stockholders maintaining a continued ownership of the Company.
In
connection with the Reorganization Transactions, on September 30, 2021, we
recognized a liability of $232.9
million
for the payments to be made under the Tax Receivable Agreement, which is accounted for as a reduction of
additional paid-in capital on our consolidated balance sheet. Changes in the utilization of the Pre-IPO
Tax Assets will impact the amount of the liability that will be paid pursuant to the Tax Receivable
Agreement. Changes in the utilization of these Pre-IPO Tax Assets are recorded in income tax expense
(benefit) and any changes in the obligation under the Tax Receivable Agreement is recorded in other
income (expense). During the fourth quarters of 2022 and 2021, the Company recognized other income of
$3.1 million and $3.6 million, respectively, for a reduction to the liability for the Tax Receivable
Agreement resulting primarily from an update to the blended state income tax rate used to measure the
obligation. The adjusted liability as of December 31,
2022
is $222.1 million, of which $205.7 million was recorded in long term liabilities and $16.4 million was
recorded in current liabilities.
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For
purposes of the Tax Receivable Agreement, the amount of cash savings in U.S. federal, state or local
income tax that we or our subsidiaries realize (or are deemed to realize in certain circumstances) as a
result of the utilization of the Pre-IPO Tax Assets will be computed by comparing our actual U.S.
federal, state and local income tax liability with our hypothetical liability had we not been able to
utilize the Pre-IPO Tax Assets, taking into account several assumptions and adjustments. Payments under
the Tax Receivable Agreement are expected to give rise to certain additional tax benefits. Any such tax
benefits that we are deemed to realize under the terms of the Tax Receivable Agreement are covered by
the Tax Receivable Agreement and will increase the amounts due thereunder.
The
aggregate amount payable pursuant to the Tax Receivable Agreement is dependent in large part on the
reduction in taxes that we would have been required to pay absent the existence of the Pre-IPO Tax
Assets. As a result, changes in tax law, and in particular the federal and state tax rates applicable to
U.S. corporations, the tax rules on the amortization and depreciation of assets, and our split of U.S.
to foreign income may materially impact the timing and amounts of payments by us to the Pre-IPO
Stockholders pursuant to the Tax Receivable Agreement. Congress is considering a significant number of
changes to U.S. tax laws, including an increase in the maximum tax rate applicable to U.S. corporations,
which may materially increase our payment obligations to Pre-IPO Stockholders under the Tax
Receivable
Agreement.
Different
timing rules apply to payments under the Tax Receivable Agreement to be made to holders that, prior to
the completion of the IPO, held stock option (collectively, the “Award Holders”). Such payments will
generally be deemed invested in a notional account rather than made on the scheduled payment dates, and
the account will be distributed on the fifth anniversary of the IPO, together with an amount equal to
the net present value of such Award Holder’s future expected payments, if any, under the Tax Receivable
Agreement. Moreover, payments to holders of stock options that were unvested prior to the completion of
the IPO are subject to vesting on the same schedule as such holder’s unvested stock options.
If
we fail to make payment by the date specified by the Tax Receivable Agreement, the Tax Receivable
Agreement generally provides for interest to accrue on the unpaid amount from the date so
specified
until
the date of actual payment, at a rate equal to LIBOR (or if LIBOR ceases to be published, a replacement
rate with similar characteristics) plus 5%, except under certain circumstances specified in the Tax
Receivable Agreement where we are unable to make payment by such date, in which case interest would
accrue at a rate
equal
to LIBOR (or if LIBOR ceases to be published, a replacement rate with similar characteristics) plus
3%.
Further,
the Tax Receivable Agreement provides that (i) upon certain mergers, stock and asset sales, other forms
of business combinations, (ii) upon certain sales or other divestitures, (iii) upon certain proceedings
seeking liquidation, reorganization or other relief under bankruptcy, insolvency or similar law, event
of default under certain of our indebtedness for borrowed money, or other Credit Event (as defined
therein), (iv) upon a
breach
of any of our material obligations (that is not timely cured) under the Tax Receivable Agreement, or (v)
or other Changes of Control (as defined therein) or if, at any time, we elect an early termination of
the Tax Receivable Agreement, our payment obligations under the Tax Receivable Agreement will accelerate
and may significantly exceed the actual benefits we realize in respect of the tax attributes subject to
the Tax Receivable Agreement. We will be required to make a payment intended to be equal to the present
value of future payments (calculated using a discount rate equal to LIBOR (or if LIBOR ceases to be
published, a replacement rate with similar characteristics) plus 1%, which may differ from our, or a
potential acquirer’s, then-current cost of capital) under the Tax Receivable Agreement, which payment
would be based on certain assumptions, including the assumption that we and our subsidiaries have
sufficient taxable income and tax liabilities to fully utilize anticipated future tax benefits. In these
situations, our, or a potential acquirer’s, obligations under the Tax Receivable Agreement could have a
substantial negative impact on our, or a potential acquirer’s, liquidity and could have the effect of
delaying, deferring, modifying or preventing certain mergers, asset sales, other forms of business
combinations or other Changes of Control. These provisions of the Tax Receivable Agreement may result in
situations where the Pre-IPO Stockholders have interests that differ from or are in addition to those
of
our
other stockholders.
In
addition, certain transactions by us could cause us to recognize taxable income (possibly material
amounts of income) without a current receipt of cash. Payments under the Tax Receivable Agreement with
respect to such taxable income would cause a net reduction in our available cash. For example, internal
restructurings or reorganizations involving the intercompany sale or license of intellectual property
rights, transactions giving rise to cancellation of debt income, the accrual of income from original
issue discount or deferred payments, a “triggering event” requiring the recapture of dual consolidated
losses, or “Subpart F” income would each produce income with no corresponding increase in cash. In these
cases, we may use some of the Pre-IPO Tax Assets to offset income
from
these transactions and, under the Tax Receivable Agreement, would be required to make a payment to
our
Pre-IPO
Stockholders even though we receive no cash corresponding to such income.
Payments
under the Tax Receivable Agreement will be based in part on our reporting positions. The Pre-IPO
Stockholders (or their transferees or assignees) will not reimburse us for any payments previously made
under the Tax Receivable Agreement if such tax benefits are subsequently disallowed, although future
payments would be adjusted to the extent possible to reflect the result of such disallowance and any
excess payments made to any Pre-IPO Stockholder (or such Pre-IPO Stockholder’s transferees or assignees)
will be netted against future payments that would otherwise be made under the Tax Receivable
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Agreement,
if any, after our determination of such excess. As a result, in certain circumstances, the payments we
are required to make under the Tax Receivable Agreement could exceed the cash tax savings we actually
realize.
Contractual Obligations and Commitments
The
following table summarizes our material cash requirements from known contractual and other obligations
as of December 31,
2022
(in thousands):
| Total |
Less
Than
One
Year
|
1-3 Years | 3-5 Years | More
Than Five Years |
|||||||||||||
|
2022
Term Loan Facility debt (1)
|
$ | 671,626 | $ | 8,438 | $ | 13,500 | $ | 13,500 | $ | 636,188 | |||||||
|
Interest
on 2022 Term Loan Facility debt
(2)
|
322,431 | 53,615 | 105,749 | 103,434 | 59,633 | ||||||||||||
|
Related
party payable pursuant to the tax receivable agreement (3)
|
222,055 | 16,380 | 32,568 | 33,976 | 139,131 | ||||||||||||
|
Purchase
obligations (4)
|
18,201 | 4,121 | 8,242 | 5,838 | — | ||||||||||||
|
Total
contractual obligations (5)
|
$ | 1,234,313 | $ | 82,554 | $ | 160,059 | $ | 156,748 | $ | 834,952 | |||||||
(1)2022
Term Loan Facility debt payments include scheduled principal payments only.
(2)The
2022 Term Loan Facility is subject to variable interest rates. The interest rate on borrowings under the
2022 Term Loan Facility was 7.9%
as of December 31,
2022.
Assumes annual interest rate of 7.9%
on the 2022 Term Loan Facility over the remaining term of the loan.
(3)Represents
85% of the estimated cash savings in U.S. federal, state or local that the Company realizes in its
taxable income as a result of certain existing tax attributes as per the Tax Receivable Agreement. The
Company has not considered financing costs that may be incurred with respect to when tax receivable
payments are due from the Company’s tax filing dates (with no extensions) to the actual filing of tax
returns under extension. See “Note 10. Income Taxes” to our Consolidated Financial Statements included
in Item 8. Financial Statements of this Annual Report for additional information.
(4)Purchase
obligations are commitments for contracted services and include non-cancelable payments.
(5)Does
not reflect any borrowings under the 2022 Revolver. As of December 31, 2022, we had no outstanding
borrowings under the 2022 Revolver. The Company is required to pay a commitment fee of 0.25% to 0.50%
per annum on unused commitments under the 2022 Revolver based upon our First Lien Leverage Ratio (as
defined in the 2022 Credit Agreement).
Critical Accounting Policies and Estimates
Our
consolidated financial statements included elsewhere in this Annual Report have been prepared in
accordance with GAAP. The preparation of financial statements requires us to make estimates and
assumptions about future events that affect amounts reported in our consolidated financial statements
and related notes, as well as the related disclosure of contingent assets and liabilities at the date of
the financial statements. We evaluate our accounting policies, estimates and judgments on an on-going
basis. We base our estimates and judgments on historical experience and various other factors that are
believed to be reasonable under the circumstances. Actual results may differ from these estimates under
different assumptions and conditions.
We
evaluated the development and selection of our critical accounting policies and estimates and believe
that the following items are critical accounting estimates, as they (1) involve a higher degree of
judgment or complexity and (2) are most significant to reporting our results of operations and financial
position. The following critical accounting policies reflect the significant estimates and judgments
used in the preparation of our consolidated financial statements. With respect to the critical
accounting policies, even a relatively minor variance between actual and expected experience can
potentially have a materially favorable or unfavorable impact on subsequent results of operations. In
addition, there are other items within our financial statements that require estimation, but are not
deemed critical as defined above. More information on the Company’s significant accounting policies can
be found in the footnotes to our audited consolidated financial statements included in “Note 2 -
Summary
of Significant Accounting Policies” in Item
8 of this Annual Report.
Revenue Recognition
Nature
of estimates required:
We recognize revenue when control of promised goods are transferred to a customer in an amount that
reflects the consideration that we expect to receive in exchange for those goods. Control of the
products that we sell are transferred at a point in time. Factors that determine the specific point in
time a customer obtains control (and a performance obligation is satisfied) are (i) when we have a
present right to payment for the goods, (ii) whether the customer has physical possession and title to
the goods, and (iii) whether significant risks and rewards of ownership have transferred. Delivery is
typically considered to have occurred at the time the title and risk of loss passes to the customer.
Revenue from transactions, net of estimated and actual allowances, is generally recognized at a point in
time based on the contractual terms with the customer.
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Assumptions
and approach used:
Promotional
allowance: In the normal course of business, we offer various incentives to customers such as sales
discounts and other incentives and allowances, which give rise to variable consideration. The amount of
variable consideration is estimated at the time of sale based on either the expected value method or the
most likely amount, depending on the nature of the variability. Actual incentives and allowances upon
completion of a promotion are inherently uncertain and thus may differ from our estimates. We regularly
review and revise, when deemed necessary, our estimates of variable consideration based on both
customer-specific expectations as well as historical rates of realization. If actual or expected
promotional allowances were significantly greater or lower than the accrual for the allowance we had
established, we would record a reduction or increase to net sales in the period in which we made such
determination.
Sales
returns and allowances: Our terms of sale provide limited return rights and allowances. We record
estimated sales returns, discounts, and miscellaneous customer claims as reductions to net sales at the
time revenues are recorded. We base our estimates upon historical experience and trends, and upon
approval of specific returns or discounts. Actual returns and discounts in any future period are
inherently uncertain and thus may differ from our estimates. If actual or expected future returns and
discounts were significantly greater or lower than the accrual for the allowance we had established, we
would record a reduction or increase to net sales in the period in which we made such
determination.
Inventory
Nature
of estimates required: Inventory
is comprised primarily of finished goods and are stated at the lower of cost (average cost method) or
estimated net realizable value. Cost is computed based on average historical costs. We allocate the
amortization of our patented formulations to the carrying value of our finished goods. The carrying
value of inventories is reduced for any excess and obsolete inventory.
Assumptions
and approach used:
Excess and obsolete inventory reductions are determined based on assumptions about future demand and
sales prices, estimates of the impact of competition, and the age of inventory. If actual conditions are
less favorable than those previously estimated by management, additional inventory write-downs could be
required.
Tax Receivable Agreement
Nature
of estimates required: The
actual amount and timing of any payments under the Tax Receivable Agreement will vary depending upon a
number of factors including the amount, character and timing of the Company’s and its subsidiaries’
taxable income in the future and the tax rates then applicable to the Company and its subsidiaries. We
expect the payments that will be required to be made under the Tax Receivable Agreement will be
substantial and to be funded out of working capital.
Assumptions
and approach used: The tax liability is based on current tax laws and the assumption that the Company
and its subsidiaries earn sufficient taxable income to realize the full tax benefits subject to the Tax
Receivable Agreement. Updates to our blended state tax rate and allocation of U.S. versus foreign
sourced income may impact the established liability and changes would be recorded to other (expense)
income in the period we made the determination. We expect that future payments under the Tax Receivable
Agreement relating to the Pre-IPO Tax Assets could aggregate to $222.1
million
over the 13-year
remaining period under the Tax Receivable Agreement. Payments under the Tax Receivable Agreement, which
began in fiscal year 2022, are not conditioned upon the parties’ continued ownership of equity in the
company. See “Note 10 - Income Taxes” in Item 8 of this Annual Report.
New Accounting Pronouncements
See
“Note 2. Summary of Significant Accounting Policies – Recently Adopted Accounting Pronouncements” to our
Consolidated Financial Statements included in Item 8. Financial Statements of this Annual Report for
information regarding new accounting pronouncements.
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We
are exposed to certain market risks arising from transactions in the normal course of our business. This
includes risk associated with interest rates, our interest rate cap, inflation and foreign
exchange.
Interest Rate Risk
Our
results are subject to risk from interest rate fluctuations on borrowings under the 2022 Credit
Agreement. Our borrowings bear interest at a variable rate; therefore, we are exposed to market risks
relating to changes in interest rates. Interest rate changes generally do not affect the market value of
our 2022 Term Loan Facility; however, they do affect the amount of our interest payments and, therefore,
our future earnings and cash flows. As of
December
31, 2022, we had $671.6 million of outstanding variable rate loans under the 2022 Term Loan Facility.
Based on our December 31, 2022 variable rate loan balances, an increase or decrease of 1% in the
effective interest rate would have caused an increase or decrease in interest cost related to our 2022
Term Loan Facility of approximately $6.7 million over the next 12 months.
Interest Rate Cap
On
August 11, 2022, the Company entered into an interest rate cap transaction (the “interest rate
cap”) in connection with the 2022 Term Loan Facility, as more fully described in “Note 9 - Long Term
Debt” in the Notes to Consolidated Financial Statements in this Annual Report. The Company uses the
interest rate cap to add stability to interest expense and to manage its exposure to interest rate
movements. The fair value of the interest rate cap is measured at the end of each reporting period using
observable inputs other than quoted prices. The fair value of the interest rate cap recorded in other
assets at December 31, 2022 was $5.0 million. A hypothetical 50 basis point increase in interest rates
would result in an increase to the fair value of the interest rate cap of approximately
$2.0 million. A hypothetical 50 basis point decrease in interest rates would result in a decrease
to the fair value of the interest rate cap of approximately $1.7 million.
Inflation
Inflationary
factors such as increases in the cost to produce our products and overhead costs have adversely
affected, and may continue to adversely affect our operating results. During fiscal year 2022, our gross
profit margin was negatively impacted by increased input costs for warehousing, transportation and raw
materials. Sustained increases in warehousing costs, transportation costs, wages and raw material costs,
or other inflationary pressures in the future, may have an adverse effect on our ability to maintain
current levels of gross profit margin if the selling prices of our products do not increase with these
increased costs, or if we cannot identify other cost efficiencies.
Foreign Exchange Risk
Our
reporting currency including our U.K. foreign subsidiary, Olaplex UK Limited, is the U.S. dollar. Gains
or losses due to transactions in foreign currencies are reflected in the Consolidated Statements of
Operations and Comprehensive Income under the line-item Other (expense) income, net. We have not engaged
in the hedging of foreign currency transactions to date, although we may choose to do so in the future.
We do not believe that an immediate 10% increase or decrease in the relative value of the U.S. dollar to
other currencies would have a material effect on our consolidated financial statements.
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ITEM 8. FINANCIAL STATEMENTS
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| Page | |||||
|
Report of Independent Registered
Public Accounting Firm
(PCAOB ID
|
|||||
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To
the shareholders and the Board of Directors of Olaplex Holdings, Inc.
Opinion on the Financial Statements
We
have audited the accompanying consolidated balance sheets of Olaplex Holdings, Inc. and subsidiaries
(the "Company") as of December 31, 2022 and 2021, the related consolidated statements of operations and
comprehensive income, changes in equity, and cash flows, for each of the three years in the period ended
December 31, 2022, and the related notes (collectively referred to as the "financial statements"). In
our opinion, the financial statements present fairly, in all material respects, the financial position
of the Company as of December 31, 2022 and 2021, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 2022, in conformity with accounting
principles generally accepted in the United States of America.
We
have also audited, in accordance with the standards of the Public Company Accounting Oversight Board
(United States) (PCAOB), the Company's internal control over financial reporting as of December 31,
2022, based on criteria established in Internal
Control — Integrated Framework (2013)
issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated
February 28, 2023, expressed an unqualified opinion on the Company's internal control over financial
reporting.
Basis for Opinion
These
financial statements are the responsibility of the Company's management. Our responsibility is to
express an opinion on the Company's financial statements based on our audits. We are a public accounting
firm registered with the PCAOB and are required to be independent with respect to the Company in
accordance with the U.S. federal securities laws and the applicable rules and regulations of the
Securities and Exchange Commission and the PCAOB.
We
conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial statements are free of
material misstatement, whether due to error or fraud. Our audits included performing procedures to
assess the risks of material misstatement of the financial statements, whether due to error or fraud,
and performing procedures that respond to those risks. Such procedures included examining, on a test
basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also
included evaluating the accounting principles used and significant estimates made by management, as well
as evaluating the overall presentation of the financial statements. We believe that our audits provide a
reasonable basis for our opinion.
Critical Audit Matter
The
critical audit matter communicated below is a matter arising from the current-period audit of the
financial statements that was communicated or required to be communicated to the audit committee and
that (1) relates to accounts or disclosures that are material to the financial statements and (2)
involved our especially challenging, subjective, or complex judgments. The communication of critical
audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and
we are not, by communicating the critical audit matter below, providing a separate opinion on the
critical audit matter or on the accounts or disclosures to which it relates.
Revenue Recognition – Accrual for Customer Incentives and Promotional
Allowances – Refer to Note 2 to the financial statements
Critical
Audit Matter Description
In
the normal course of business, the Company offers various incentives, allowances and agreed-upon
deductions, including allowances for advertising, damages, promotions, discounts and returns that give
rise to variable consideration. The amount of variable consideration is estimated at the time of sale
based on either the expected value method or the most likely amount, depending on the nature of the
variability. The Company regularly reviews and revises, when deemed necessary, its estimates of variable
consideration based on both customer-specific expectations as well as historical rates of
realization.
The
Company has recorded an allowance for reductions to prices for agreed-upon deductions, including
allowances for advertising, damages, promotions, discounts and returns. An accrual is estimated based on
agreed-upon terms and the Company’s historical experience and is recorded as a reduction to sales and
accounts receivable in the same period the related sales are recorded. As of December 31, 2022, this
allowance was $19.2 million.
Auditing
the Company’s accrual for allowances was complex and judgmental as the accrual is determined based on
significant management estimate, specifically the customer specific expectations and the historical
rates of realization. Changes in these estimates can have a material impact on revenue recognized.
Additionally, given the subjectivity of estimating the accrual for
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all