The ‘Do Nothing’ Avon Board…Too Little, Too Late — Dividend in Jeopardy

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\"RRRarely has a new CEO jumped into a big-time, high-profile turnaround situation such as Avon Inc. presents. And if history is any guide, the ‘Do Nothing’ Avon Board of Directors will not be of any help.

Sherilyn S. McCoy who took over the CEO slot on April 23rd must hit the ground running. And not only must she put out short-term fires, she also has to develop a long-term strategic plan — on the run. Simultaneously, she must learn a new (for her) direct-sell business model. Plus she has to deal with SEC probes of bribery charges in China; insider trading accusations; and a myriad of operational malfunctions. In fact, many are questioning her first major judgment call concerning Avon, and that is accepting the job in the first place.

McCoy, who was formerly Vice Chairman of Johnson and Johnson, was passed over for the CEO job at the $65 billion pharmaceutical giant in February. McCoy gets high marks for  reinvigorating the pharmaceutical division at J&J facing patent expirations on major drugs. She did not have as much luck when she took over J&J’s consumer business that was hit hard by manufacturing problems leading to the recall of products ranging from Tylenol to baby lotions.

Andrea Jung, former CEO and current Executive Chairman, who has controlled the ‘Do Nothing’ Board for over a decade gets the blame for Avon Products’ current sorry state of affairs, and she deserves more than her fair share. But the real culprit is the Board of Directors. Inexperience cannot be the explanation. The majority of the Board has had some experience with the direct selling model, as six of them have been members for 10 or so years. How deeply they understand the model is another question.

By the time the ‘Do Nothing’ Board acted, the company was already spiraling out of control. Unless Avon’s McCoy turns out to be Houdini, and can pull a rabbit out of a hat, it may well be too late to save the 125-year-old direct-selling beauty company.

Money talks. It is looking more and more likely that there will be a cut, if not total elimination of its dividend. Currently, Avon’s dividend is 92 cents a share on an annual basis. It has historically increased its dividend every year until this year when it announced that it was holding steady. And what was the ‘Do Nothing’ Board thinking when it aggressively ignored Coty’s nearly $25 a share offer to buy the company? It may well have been Avon’s shareholders last chance to get out at a relatively decent price. If Avon kills the dividend, it will further depress the stock, which was selling in June 2012 at around $16, to around $12 a share or lower. With current Board guidance, or lack thereof, it could be a long climb back for Avon shareholders to see another dividend. A dramatically lower stock price combined with lower earnings and promises of more to come finally awakened the ‘Do Nothing’ Board. What took them so long?

Former Chairman and CEO Jung harnessed her persona to Avon, and while building her own image as one of America’s most powerful women in business (elected to the General Electric and Apple boards), piloted Avon into what may well be a death spiral. The ‘Do Nothing’ Board sat back and watched, as Avon was caught in a time warp with a marketing star at the helm who knew how to tack, but lacked a rudder, and sailed along into a major hurricane.

Out of step with the marketplace, Jung failed to build a first-class digital program at Avon. Maybe her greatest failing was to transform the Avon Web site into a powerhouse selling tool. In fairness, she did understand the need to expand Avon internationally, which she did. To some degree she also upgraded and broadened Avon’s product line and attempted to widen its retail distribution. She launched partnering initiatives with both J.C. Penney and Sears. Although Sears never got off the ground and Penney’s failed miserably. When the recession hit, Jung faced some tough choices. Unfortunately the choices she made led to her ouster and to the current dismal state of the company.

On the global economic front, was the Board aware that geographic markets that have a built-up and sophisticated retail infrastructure, such as the United States and Western Europe, are taking market share from most direct sellers? The combination of Internet sales, drug chains, department stores, big box stores, and the television shopping networks, as well as the thousands of independent beauty discount stores, are putting the squeeze on direct seller Avon. Avon’s North American group, (Mexico is listed under Latin America) has been dramatically trending downward resulting in a 2011 fourth quarter loss of $240 million. The same trend is appearing in Western Europe and parts of Asia.

Was the ‘Do Nothing’ Board aware that while Latin America, particularly Brazil and Mexico as well as Eastern Europe are still flourishing, they will eventually weaken as competitive retail channels open up in their regions? Was the Board aware that market forces that have propelled Avon toward embracing the multi-level marketing model should make a properly functioning board uneasy? It is doubtful that this revenue model can work on the huge international scale necessary for an Avon with some 6.4 million worldwide reps and a turnover approaching 30 percent a year.

This multi-level model is often called a “pyramid scheme” because reps earn commissions not only on the products brought by their own customers, but also on products bought by the reps they hired, as well as on products bought or sold by the reps those reps hired. There is great pressure to hire new reps, as they in and of themselves are a source of revenue. New reps in fact can become the most important source of income. A new Avon rep will buy a significant amount of product (at a 50 percent discount) when first starting out. This gives the company a bump in sales similar to the one a wholesaler gets when selling to new retail doors. This has always been a lure for Avon, but especially so in this difficult economy. On top of this, add the revenue from all the sample and promotional materials a new rep buys from the company to aid in her selling efforts. This potentially results in hundreds of dollars from each new hire. Multiply this by a couple of million new reps each year and pretty soon you are talking real money. While this has always been a factor at Avon, when the great recession hit, Jung took this scheme to a higher and arguably unsustainable level. Companies like Amway openly rely on this multi-level marketing strategy. And while Avon has certainly benefited from it in the past, they primarily relied on its direct sales to customers for growth. It leveraged its giant advertising budget to create demand and maintain brand image. In the last few years it changed direction and began aiming the bulk of its advertising to recruit new sales reps. It even went so far as to run a 2009 Super Bowl ad to attract new reps.

In fact, in 2011 while I was CEO of a website called Fashionetc, and trying to sell advertising to Avon, I was told by a senior marketing executive that “virtually all of our advertising is aimed at recruiting sales reps.” The danger is the acquisition of new reps can become the primary business product, with sales of beauty products to customers secondary. As the economy improves and new reps become more difficult to recruit, the fragility of this model becomes all too obvious.

The ‘Do Nothing’ Board is acutely aware of the well-documented bribery scandal that has the Chinese and the SEC investigating whether Avon executives bribed Chinese officials to gain a foothold in the world’s largest marketplace. Several executives have been fired and the company has spent hundreds of millions of dollars in legal fees. Avon is cooperating with these investigations.

If all this is not enough, industries sources say Avon is sitting on a huge inventory problem with some estimates placing the cost of goods at nearly a billion dollars. When main-line cosmetic companies get stuck with unsold merchandise they push it out the back door and sell it to discount retailers. This practice is called diversion and is widely used. Beauty industry sources say they never see Avon Products in what they call the “Grey Market.”

And the ‘Do Nothing’ Board certainly did not distinguish itself when it finally acted and hired a new CEO, but kept Andrea Jung as Executive Chairman. They even retained her as head the Board of Directors. Perception is everything, and Avon’s website Board listing leads with Jung, above McCoy. Whether Jung’s perfectly manicured culture presence will be anything more than a minor nuisance remains to be seen.

McCoy, to say the least, has a nearly, if not impossible job ahead of her. If she turns this around she will become a business legend. If not Avon, thanks to its ‘Do Nothing’ Board and Chairman Andrea Jung may well become one of American business’s great disasters.

Michael Coady is a media and marketing industry consultant, and the former CEO of Fairchild Publications. He was Editor In Chief of Women’s Wear Daily, founding Editor of W Magazine, President and CEO of Los Angeles magazine, and President and CEO of online publication



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