May 12, 2021 at 04:00PM

After just 20 minutes and a nearly 50 percent gain in its trading debut on the Nasdaq last week, the fortunes of the celebrity-backed The Honest Company started to change. Although the nearly 10-year path that led up to Honest’s IPO had been at least partially streamlined by the star power of actress and founder Jessica Alba, the probing eyes of Wall Street investors immediately began to step in and burst that bubble.

Since hitting an initial high-water mark of $23.88 at around noon last Wednesday (May 5), shares of Honest have declined for five consecutive days, giving back all of those momentary gains — and a bit more — as the company eventually slid below its $16 IPO on Tuesday (May 11). 

To be fair, short-term stock market performance and a company’s business prospects are frequently disconnected. For example, it took 16 months for shares of Facebook to get back above their IPO-day pop. But if nothing else, a choppy trading debut offers a chance to take a closer look inside a company that has just opened its books to the public and see what turns up — which is exactly what PYMNTS did.

Here are five things we discovered on our journey inside The Honest Company:

1. Diapers account for 63 percent of sales 

Although Honest sells dozens of different products under three main categories, its diapers and wipes line account for 63 percent of total sales, with skin care and personal care chipping in 26 percent and household and wellness generating the final 11 percent.

In its prospectus, Honest said diapers are a “strategic consumer acquisition tool that acts as an entry point for our portfolio,” noting that nearly 90 percent of its diaper buyers went on to buy something else last year, while nearly half bought two or more non-diaper products.

Honest estimates that “clean and natural” products within the market segments in which it competes will outgrow their conventional rivals by a 6:1 margin over the next five years, with the natural diapers segment alone pegged to deliver 16 percent annual growth versus just 2 percent for conventional.  

“We believe that certain historical leading brands that have produced products in these categories for decades generally focus on single categories and offer products made with conventional ingredients that are less aligned with increasing consumer preference for clean and natural solutions,” Honest said. “We believe that given consumers’ growing focus on their health and wellness, reducing waste and promoting social impact, we are well-positioned to continue to take market share from these legacy brands.”

2. 55 Percent of sales are digital Sales, and 45 percent are retail.

Honest makes no secret about its omnichannel objective to meet consumers wherever they want to shop, with 55 percent of sales coming through its own website or through third-party platforms like Amazon or Walmart, and the rest coming through approximately 32,000 retail locations across the United States, Canada and Europe.

While that is clearly a lot of stores, 70 percent of its retail sales are made through just two accounts — Target and Costco — with Honest acknowledging that “the success of our business is largely dependent on our continuing development of strong relationships with major retail chains.”

The catch, however, is gaining shelf space.

“We may be unable to secure adequate shelf space in new markets, or any shelf space at all,” Honest warned would-be investors in its prospectus, noting that retail growth opportunities may be limited, and that its revenue, business, financial condition, results of operations and prospects could be adversely affected without them.

“We also face severe competition to display our products on store shelves and obtain optimal presence on those shelves,” Honest revealed on page 32, noting that many of its competitors have “significantly greater financial, manufacturing, marketing, management and other resources.”

3. Growth is slowing

Honest said its total sales grew 27 percent to over $300 million last year, while forecasting in the prospectus that its yet-to-be-released Q1 results from 2021 would be far more modest.

“For the three months ended March 31, 2021, we expect to report revenue in the range of $78.0 million to $80.0 million, representing growth in the range of 8 percent to 11 percent over the three months ended March 31, 2020,” the company said.

Although no Q1 operating results are available, Honest’s biggest business — diapers and wipes — grew more slowly last year than its smallest category, household and wellness. Specifically, diaper sales rose 16 percent last year, compared to a growth rate of 116 percent for household and wellness, and 35 percent in skin care and personal care.

4. Honest is still not profitable

Despite all of the fanfare, hype, celebrity testimonials and nearly a decade in business — as well as a market value that is well above $1 billion — Honest is still losing money. In summarizing 16 different significant risks that the company faces, the profitability issue was at the top of the list.

“We have incurred net losses each year since our inception [in 2012], and we may not be able to achieve or maintain profitability in the future,” the prospectus states.

Although Honest said its 40-year-old founder has “an innate and invaluable ability to resonate and engage with consumers” via almost 40 million social media followers, Alba alone has been unable to stop the red ink. While her professional accolades include “globally recognized business leader, entrepreneur, advocate, actress and New York Times bestselling author,” the day-to-day business operations are handled by CEO Nick Vlahos, a former Clorox and Burt’s Bees executive who was brought in for a $6.8 million salary package that is roughly triple Alba’s non-stock compensation.

5. Scrutiny, lawsuits and recalls 

In its own words, Honest describes itself as a “digitally-native, mission-driven brand focused on leading the clean lifestyle movement, creating a community for conscious consumers and seeking to disrupt multiple consumer product categories.” In addition, the company’s commitment to sustainability and creating “clean and natural” products have been a central part of its ethos since its launch.

While those are certainly laudable goals, Honest warned investors that it faces increasing government scrutiny, as well as growing public awareness over product safety issues, and therefore faces ongoing regulatory and litigation risks.

Specifically, Honest said that in 2015 and 2016, it faced multiple class-action lawsuits alleging that its sunscreen was ineffective and not “natural,” and that it misled consumers about ingredients in its laundry detergent, dish soap and multi-surface cleaner. The company also disclosed in the prospectus that it had to recall baby wipes and baby powder products in 2017, as well as a bubble bath recall in January of 2021, due to concerns about potential contamination. 

“These incidents negatively affected our brand image and required significant time and resources to address,” the company said.

Honest — as well as its peers — said it also faces scrutiny from the so-called “word police” over its advertising claims and language, and the use of such imprecise terms as “natural,” “organic,” “clean conscious” and “sustainable.”

“Although the FDA and the USDA each has issued statements regarding the appropriate use of the word ‘natural,’ there is no single, U.S. government-regulated definition of the term ‘natural’ for use in the personal care industry,” the prospectus stated, before advising potential investors that “the resulting uncertainty has led to consumer confusion, distrust and legal challenges.”

Although Alba’s original idea and philosophy are still intact — to “build a mission-based, for-profit business that addresses health equity, sustainability and social justice” — the path leading to that ideal is clearly strewn with competitive challenges and plenty of thorns.

Inside Honest: 5 Things You Didn’t Know About The Newly Listed Personal Products Retailer …

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