This is Part VIII of The Kylie Kronicles, our ongoing series on Kylie’s blossoming beauty empire. Read Part I, Part II, Part III, Part IV , Part VPart VI  and Part VII

This week Coty, the struggling, century-old beauty conglomerate, purchased 51% of Kylie Jenner’s Cosmetics and Skin brands for $600 million, valuing the company at $1.2 billion. Back in May 2019, Kylie tried to fetch $3 billion for her brand, which was absolutely ridiculous. Even so, the much-rumored deal is the end of an era for Kylie Jenner and her burgeoning beauty empire. It also Coty’s latest and most important effort to rebuild itself after a disastrous purchase of 41 beauty brands from Procter & Gamble in 2016 for $12.5 billion, which it took a $1 billion write-down on earlier this year.

The stakes for Kylie and Coty are high and the deal sends many signals about the viability of the partnership. 

Deal structure

For the acquisition, Kylie opened up King Kylie, LLC as the new holding company that Coty will own 51% of. Kylie Skin Inc, her skincare brand, will be a wholly-owned subsidiary of King Kylie. Both Coty and Kylie will have three board seats to run the holding company. Neither party can sell their stake for seven years from the closing date, which indicates the long-term nature of the partnership. Kylie will also earn a marketing and license fee for her work, which will allow Coty to use Kylie’s intellectual property to “manufacture, advertise, promote, distribute the company’s products.” Kylie will focus on creating products and building the brand—a very, very well-paid spokesperson job—while Coty will handle everything else it takes to run a brand in today’s competitive landscape.  

Kylie’s decreasing sales and margins 

As we explored in Part III, Kylie Cosmetics earned $307 million in 2016, which is potentially the largest amount of money any consumer brands has earned in its first year, excluding private labels. In 2017, Forbes estimated sales were $330 million, a small increase from the prior year because of Kylie’s social media hiatus during her pregnancy, which limited sales since the marketing machine was turned off. This estimate is short of the $386 million cited in a WWD piece in August 2017, which would mean the brand missed its projection. Coty reported that Kylie Cosmetics earned $177 million in sales for the trailing 12 months (October 2018 to October 2019), which includes Holiday 2018. This $177 million, surprisingly, includes the first holiday season that the brand was available in Ulta’s 1,124 stores (its first venture into wholesale). One would have expected a much bigger sales increase for such a wide distribution rollout, especially because Kylie Cosmetics quickly became a “top performing prestige brand” in Ulta and helped drive new traffic to its stores, as discussed in Part IV.

As a result, the recent sales trend marks a startling decline—the brand went from an average of $25 million a month in sales in 2016 to $27.5 million in 2017 to $14.5 million in the back half of 2018 and for most of 2019. 

Why did this happen? There are a number of reasons. First, the rapid pace of product development likely exhausted many consumers who had enough or didn’t need new products every few weeks. Second, the quality was average, not great, and some shoppers were likely turned off as a result. But the third reason is most problematic, which is that because of slowing demand and overproduction, Kylie started relying heavily on promotions to drive sales. 

Kylie Cosmetics ran no promotions in 2016 or 2017 when business was good, but rapidly increased its promotions in 2018 (to 24) and then in 2019 (to 42 so far). Not only have sales decreased in the last two years, but the margins at which the company operates have too because of increased promotions and moving into Ulta, which halves the company’s margin.  

While moving into wholesale is a time-tested practice, especially for digitally-native brands that spend an immense amount of money on marketing, Kylie did not have this problem, especially early on, since she had free access to her audience. As a result, the margin decrease is more significant given Kylie is used to industry-leading margins, which likely helped her pocket $300 million-plus in profit from over $1 billion in sales between 2016 and 2019. Most of this profit came in the first two years of the business when her audience was untapped and wholesale and promotions weren’t in the picture.

In addition, 50% of Kylie Cosmetics revenue now comes from wholesale, according to Coty, whereas a year ago, 100% came from direct-to-consumer sales. This is also a rapid channel shift and will likely continue as Coty expands the brand further into traditional distribution. Coty reported that Kylie Cosmetics has 25% EBITA margins, which is likely a big decrease from where they were pre-Ulta. But today, with saturation online and full distribution in Ulta, which has been running promotions of its own, Kylie Cosmetics is a discount-driven brand—not the place it should be. 

The future of Seed Beauty’s relationship with Kylie  

While Kylie gets most of the credit for Kylie Cosmetics, and rightfully so, Seed Beauty was the reason the brand was able to scale, as discussed in Part I. The manufacturer, who also owns and produces ColourPop, worked with Kylie from the get-go. Seed Beauty spun out of Spatz Labs, a multi-generational beauty manufacturing company that works with an undisclosed list of industry giants. Spatz was one of the pioneers of vertically-integrated manufacturing in the beauty business, offering clients a one-stop-shop, which Seed Beauty took to another level. 

The Seed Beauty x Kylie Cosmetics relationship was very profitable for both parties. It gave Seed the credibility to court other celebrities (like Kylie’s sister Kim) and enabled Kylie to build a multi-hundred million dollar business with a minimal number of employees since Seed took care of all of the product development, manufacturing and logistics. But Kylie realized that the gift that Seed gave her was also a curse, as the brand didn’t own anything of value, as we discussed in Part I. It was a cash flow machine but it wasn’t building real IP, which a brand needs to drive outsized equity returns. Previous attempts to sell the company likely got caught up on this point, since paying hundreds of millions of dollars for a spokesperson and some trademarks is rightfully impossible for public companies to justify to their investors. This mismatch is one of the reasons she launched Kylie Skin outside of Seed’s ecosystem; she needed to build her own supply chain and control her backend operations in order to create institutional value. 

The Coty deal all but guarantees that Kylie’s relationship with Seed Beauty is over, as the conglomerate made an explicit mention that it would take over all of the product development and manufacturing. Coty could still work with Spatz Labs, and maybe does, but there is no longer any need for the turnkey solution that Seed offers.  

Kylie Skin’s past and future 

While the bulk of the Coty deal is for Kylie Cosmetics, the conglomerate is also licensing Kylie Skin and will extend the product line into fragrance and nails. Coty reported that Kylie Skin is on track to do $25 million in 2019 sales, which doesn’t account for a full year since it launched in late May, as discussed in Part V. The brand says it has a 50% repeat purchase rate, which is bound to be a lot better than the repeat rate for Kylie Cosmetics (not disclosed) because of the overly-trendy nature of its cosmetics. 

Since Kylie Skin relied on Kylie’s own supply chain, not Seed Beauty, it’s telling that she handed this over to Coty as well. While it’s possible that she has been working with Coty all along, it’s further proof that celebrity-driven brands have massive infrastructure needs, since scaling up so quickly brings with it massive operational complexity, especially as the brand expands further into wholesale. While there is plenty of upside for Kylie Skin, it won’t be the breakout success that Kylie Cosmetics was, which is frankly a good thing because skincare, unlike cosmetics, is a totally different business, as we discussed in Part VI.

Coty’s international expansion premise  

Coty’s main argument for buying its controlling stake in Kylie Inc is that over 50% of Kylie’s audience lives outside of the United States and therefore international remains a big growth opportunity. That logic would assume that the brand is officially not available outside of the U.S., but it has offered international shipping to customers for $14.95 since 2016, and later that year, it added free international shipping for orders over $60. Sure, online sales account for only a fraction of all beauty sales, but Kylie’s products have been in the market and available internationally for over three years for people who really wanted them (Kylie Skin has the same pricing structure). There is a good chance Coty is overestimating the revenue potential of Kylie’s international online audience, even though it will clearly expand the brand’s retail sales. 

Who benefits more from the deal? 

It’s clear that Coty is buying a brand that has already peaked in its purest form and whose only growth opportunities are in third-party retail both domestically and internationally. This is not a bad thing, but Coty is effectively buying a traditional brand with a very famous person at the helm, not a celebrity-driven direct-to-consumer brand. 

Transformative? Definitely not. Incrementally helpful? Sure. While Coty says the deal should add one percent to its net revenue over the next three years, which would mean another $94 million on its 2018 $9.4 billion in revenue. This would compound thereafter, this is not going to make a meaningful difference in Coty’s business.  

For Kylie, the deal is mostly gravy. She already extracted an immense amount of money over the past four years from her two brands, which she hopefully used to max out her 401(k). Sales started slipping two years in and now she’s cashing out $600 million and will still own 49% of the upside in whatever Coty does with the company. If it goes to zero, she still made $1 billion in four years and if the company grows, so will her holdings. She will get marketing and licensing fees on top, even though she will need to stay engaged for many years as the face of the brand. 

Perhaps the smartest thing Coty did is only buy 51% of the company, which means Kylie is more incentivized to stay involved, compared to if it had bought 100% of it and just paid her a marketing and license fee. Even so, if Kylie gets bored, she is rich enough to pay the termination fees and deal with any potential lawsuits. While this outcome seems far fetched as of now, celebrity attention spans are extremely fickle. While this deal is not the end of Kylie Inc, it does close the chapter that was defined by her leading a somewhat independent company to the heights of digitally-native growth and then steering it back down to earth and landing into traditional wholesale. 

Should Kylie have done anything differently? If the goal was to put as much money in her pocket as possible, as is common with the Kardashian family, then the answer is no. Calling the new company King Kylie, LLC maybe tells you all you need to know. If the goal was to build lasting brands that could keep her top-of-mind and at the forefront of the consumer industry for decades, which, like the legacy brands before it, leads to generational wealth, then there was plenty that she should have done differently. But the Kardashian-Jenner family has never been focused on legacy—or, conversely, has always believed in the ability to rewrite its legacy—and legacy itself is potentially an outdated concept for a modern world littered with short attention spans.  

Just as customers have tried her products and moved on to the next ones, Kylie will soon enough follow suit, with more money and time on her side than anyone could ask for. Coty, on the other hand, has an immense amount of work to do to prove that it didn’t overpay for yet another brand. As of now, that’s going to be an uphill battle.