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Coty, Inc. (NYSE:COTY)Q2 2019 Earnings Conference CallFeb. 8, 2019, 8:00 a.m. ET
Contents: Prepared Remarks Questions and Answers Call Participants Prepared Remarks:Operator
Ladies and gentlemen, this is the operator. Today's conference is scheduled to begin momentarily. Until that time, your lines will again be placed on music hold. Thank you for your patience.
Good morning, ladies and gentlemen. My name is Maria, and I will be your conference operator today. At this time, I would like to welcome everyone to Coty's Fiscal Second Quarter 2019 Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session.
As a reminder, this conference call is being recorded today, February 8th, 2019. On today's call are Pierre Laubies, Chief Executive Officer; Pierre-Andre Terisse Chief Financial Officer, and Ayesha Zafar, Group Controller.
I would like to remind you that many of the comments today may contain forward-looking statements. Please refer to Coty's earnings release and the reports filed with the SEC, where the company lists factors that could cause actual results to differ materially from these forward-looking statements.
All commentary on organic net revenue reflect a comparison of the business at constant currency, in the current and prior year period, excluding the impact of acquisitions and divestitures. In addition, except where noted, the discussion of our financial results and our expectations reflect certain adjustments, as specified in the non-GAAP financial measures section of our earnings release. You can find the bridge from GAAP to non-GAAP results in the reconciliation tables in the earnings release.
I will now turn the call over to Mr. Laubies.
Pierre Laubies -- Chief Executive Officer
Thank you, Maria, and welcome everybody to Coty's Fiscal 2019, second quarter conference call. I'm very happy to be participating in my first earnings call since joining Coty. Actually, it's my first ever earnings call, since I've been working private businesses all my life. I'm also very pleased to have Pierre-Andre Terisse here, with us, as our newly appointed Chief Financial Officer. Pierre-Andre and I will walk you through the second quarter financials, and together we'll take questions. We also have with us on the call, Ayesha Zafar, who has served as our Interim Chief Financial Officer, over the past five months.
Before diving into the details of our business, let me just acknowledge that I've been with Coty for fewer than three months, and Pierre-Andre has been with us for one week. So, therefore, we are very much still in the learning phase of our business. We will do our best to answer all of your questions on the call today, and would expect to do so on the future ones. Today, is clearly a bit of an unusual situation, and there may be questions that would need the investor relations team to get back to you on, as appropriate.
Since I joined the company, I've been discovering each part of our business, aiming to assess what is and what is not working, and where the opportunities lie. As a result, I have not yet had a chance to speak to many of you directly, but I look forward to doing so, as we conclude our assessment, and finalize our strategic plan. Before we get into the substance of our last quarter, I thought that it would be appropriate for me to share a bit of my background, as well as some introductory remarks and initial observations about Coty.
As you may know, I spent most of my career at Mars, where I started in finance, and later, became general manager, regional president, and then, divisional president. I acquired extensive experience across the world, as I operated in France, Russia, Latin-America, most of Europe, and eventually, globally, as I became Global Pet Care President of Mars. I left Mars to become CEO Douwe Egberts, which became later, JDE, after a merger with the Mondelez Coffee Business, and which also required a substantial strategic reconfiguration.
My first experience of business transformation, occurred in Russia, 23 years ago, and it feels like I have been doing little else since then; since that time. I derive from these experiences, few core beliefs. I believe that there is no shortcut to greatness, but persistence and consistency are key, elements of any successful turnaround plan. I believe that my job, together, with my leadership team is to lead our organization to mastery, therefore, offering space for creativity and innovation, so that we can generate lasting growth. If you examine my tactics elsewhere, while exact financial figures are private, you will find that with the teams I had the privilege to lead, we systematically created value, by deploying the same business philosophy that we intend to be applying at Coty. I'm also particularly proud to say that each time I moved on to a new challenge, I left a very skilled and highly engaged team, and the business continued to grow and perform for the years that followed.
Our approach to Coty will be no different. To turn around our business, means rapidly focusing Coty on the fundamentals. My observation is that we can unlock significant value at Coty, by running our company better. This will give us the headroom that we need to address the most strategic issues that we face, and capture the opportunity that we see. I must stress to you, that while we are confident we can return Coty to a path of growth, we are also realistic that it will take some time. Our luxury and professional beauty businesses are growing reasonably well, but it cannot compensate completely for the difficult trajectory of our consumer beauty division. In consumer beauty, we need to earn our right to grow, again.
In that respect, my personal experience has led me to conclude, that the path to building a bigger business is always to build a better one. That means, producing better products, better advertising, better in-store execution, better pricing, less complexity, lower costs, more engaged people, simple organizational design, flatter structures, and so on. So, we will just do that, we will focus on doing quality business, and will not be obsessed by market shares at any costs.
We will refocus our portfolio, and make sure that we advertise our power-brands at scale. We will strive the right balance between advertising and promotion, we will ensure that our media choices deliver the right amount of reach and frequency We will create advertising, which cuts through, and consistently build our brand assets. We will make sure that our product trends provide the velocity that our retail partners expect from us. And we will right-size our innovation pipeline to deliver fewer, yet, bigger projects. We already execute on these fundamentals well, in our luxury and our professional beauty division, but we need to do that in all our categories, all our markets, all of the time.
From a financial standpoint, we will be gross margin-obsessed. We clearly understand that gross margin is the lifeblood of the business, and that we have a gap here, versus our beauty field, that we must close over time. That means, managing revenue and cost, improving product mix and range, simplifying our portfolio and formulation, and systematically deploying lean-inspired methodologies, in our manufacturing and logistics operation.
We will depart from having an experimental culture to one that embraces a disciplined approach, grounded in logic, playbook, standardization, and prioritization. I have observed over time, that while there are many ways to kill one, there is truly one way to build a great one. In marketing and selling, like in all other functions, our objective will be to lead our organization to mastery, where we become experts at what we do, and we'll aim to make sure that all our people clearly know what is expected of them, and that they have the tools, and methodologies to excel in their job.
I want to stress, that I do not see any contradiction between discipline and innovation. On the contrary, I'm quite convinced that discipline enables innovation, and maximizes its chance of success. This is very purposely an ambitious agenda. We will deploy these principles whenever possible, during the remainder of Fiscal 2019. Although, our main objective is to finalize a strategic plan, which will define our agenda for the medium term. I have a great deal of confidence that the management team that we have now put in place is a right one to develop this plan. We will leverage the power of all and the capabilities of each. We will make sure that we have true alignment within our leadership team, and of course, the organization, on our roadmap, and our way of doing things.
I am personally very confident that we can do this. Yet, I am also conscious that we need to earn back the trust of our investors. To achieve this, we will need to build a believable plan, which will be shared with you over the next few months. And to build also, a tactical of delivery in the quarters to come. In the meantime, we intend to carry on, and deliver profit time recovery in the second half.
Now, let me turn things over to Pierre Andre, who brings a deep tactical, he comes to us with nearly 30 years of public company finance experience, including nearly 7 years as the CFO of Danone. We are delighted to have him join Coty at this important, yet exciting junction for our company.
Pierre-Andre Terisse -- Chief Financial Officer
Thank you, Pierre, and good morning everyone. I'm excited, too, to join the company, where the potential for value creation is so meaningful, combining challenges, strong brands, and teams, and opportunities for improvement. And this will obviously be a long journey. But ever day, since I joined, is concerning this impression, and I look forward, very much, to contributing to the new management team, and building together in the coming months, strong plans, and execution.
So, on to our second quarter results. In general, I think it's important to say that the quarter results show continued difficulties, first. But at the same time, they also show some progress in strengthening our control over the business. We have a number of positive developments in the quarter, including improved visibility, and progress from supply chain issues, strong luxury results, and improved dynamics in professional beauty. On the like-for-like basis, second quarter revenue increased by 0.7%, and these strong sequential improvements, in the like-for-like performance were connected to several temporary factors: the addition of Burberry, the positive impact from the monetary change in the revenue recognition policy, the shift of some luxury shipments from the first quarter into the second quarter, as a result of U.S., Hurricane Florence, and last, supply chain-related headwinds.
We estimate these factors cumulatively benefited our like-for-like revenue growth rate by approximately 2%. Which, imply a modest underlying second quarter like-for-like decline, of minus-1.1% for the total company. As was seen, for all factors we experienced in the quarter. Year-to-date, like-for-like revenues were down 3.2%. But again, on an underlying basis, we estimate that the like-for-like revenue has declined approximately 2% in the first half.
Let me get now, into a bit more detail, on the highlights of the quarter. I'll start with the supply chain disruption, which in November -- which, we reported in November, with four major issues, we drove the business disruption across the three divisions. We now have significantly more visibility around these issues, and we can confirm that the nearly $150 million of net revenues in the first half of full year 19, represent the majority of impact we expect for the year. We've made significant progress in resolving the issues in our luxury warehouse in Germany. Such, that shipment backlogs have been cleared, and capacity constraints are effectively resolved. We do not anticipate any further impact connected to this warehouse during second half of Fiscal 2019.
The disruption that we experienced during the ramp-up of the consumer beauty planning hub and manufacturing plant in the U.K. has also been steadily improving, and service levels for the current cosmetic portfolio are nearing normalized levels. We expect only minor residual impact from third quarter results, as this consumer beauty supply chain disruption is getting fully resolved. However, we still have progress to make on the consolidation of the professional beauty distribution center in the U.S., which continues to negatively impact customer service, particularly, for the OPI nail brands. We expect to stabilize OPI service levels during the second half. And the teams are working very hard on this as we speak, with good progress.
You may also recall that, there were two external factors last quarter that mainly affected the luxury division, as a result of shortages from component stock suppliers, we continue to experience a deficit of pumps and certain glass bottles, and expect this to be an ongoing issue during the second half. We've been assured, though, by our suppliers, that Coty's order are being prioritized, at very strong capacity, in their own plants, and we expect to see here, again, progress. We firmly believe altogether that we have resolved the most critical supply chain integration issues, and we are confident that the disruption, which will be solved by year-end, with a less, moderate impact expected in the second half. That's for supply chain.
I'll now move to luxury, with the division, which returned to strong, 10.8%, like-for-like net revenue growth, in the second quarter. The supply chain issues, of course, continued to be a sizable headwind, but this was more then offset by strong growth in the Burberry, in light of very depressed prior-year comps, as well as the U.S. hurricane-related impact previously mentioned. On an underlying basis, luxury was still strong, growing approximately 5% in both the quarter and the first half. Which, is consistent with historical trends. We continue to see strong growth across many of our core brands including, Gucci, Calvin Klein, Marc Jacobs, and Chloe, supported by robust innovation and exhibition.
Looking at the details for some of them, in Gucci, we have continued to expand, the Bloom. And as we enter the second half, key launches include the Ultra-Premium, and Calvin Klein collection, Gucci Guilty Revolution, and a select relaunch of items in the Gucci color cosmetic line. In Burberry, the launch of Her, is off to a strong start, driving improved sale trends, particularly in the U.S., U.K., and Germany. Daisy Love, continues to expand the Marc Jacobs' franchise. NYU, has also been impacted by the supply chain disruptions. The brand remains a core focus. We have a key launch slated for second half.
We continue to see strong e-commerce momentum in the division, with online growth way ahead of overall division growth, fueled by both traditional retailers, and e-commerce-pure players. And from the stability standpoint, luxury continues to drive exceptional financial performance, with 41% adjusted operating income growth, in the second quarter, and 29% in the first half, contributing to a 15.4% adjusted operating margin in the first half. These continue, therefore, to be a very strong business for us.
Professional beauty, next. Second quarter, like-for-like trends improves sequentially, to a decline of 0.8% including the negative effects of supply chain disruption. These disruptions are impacting our hair color business, including, Wella, but has disproportionately impacted our OPI brands, as already mentioned, disrupting sequence of the brands both, in North America and internationally. Adjusting from the supply chain disruptions, and the line, professional beauty, like-for-like revenues remain consistent at plus-1.5%.
On the profit side, strong improvement in the divisional growth margin, supported by product mix and accretive innovation together, with fixed cost control, drove a 1% increase in the second quarter, adjusted operating income, resulting in a 17.3 adjusted margin for the quarter, and 12.3 adjusted margin for the first half.
From the brand perspective, Wella continues to benefit from a steady increase, when converting, set on those to the Wella current effect, with ME Plus line. We continue to see growth, strong momentum in GHD, across nearly all countries, due by a combination of our Platinum Plus Styler launch, a new brand campaign, and growing distribution.
Before we move ahead, with consumer, I would like to outline here that, together luxury and professional beauty represent 60% of the portfolio, and that the 60% of the portfolio are showing solid-to-strong performance. Let me now focus on the 40% of the business, which is still facing difficulties. Consumer beauty, second quarter, like-for-like results as -7.3%, improved meaningfully from the 14% decline in first quarter. It was nonetheless the weak results indicating that we still have much work to do to achieve -- the division.
On an underlying basis, second quarter like-for-like was a negative-7.8%, with Younique, contributing to the decline. During the second quarter, the performance was broadly in line with set-out trends, as our brands were pressured by continued weakness in the last beauty category, particularly in the U.S. and Europe. Set-out trends have shown a moderation in the pace of all share losses.
Product category and brand perspective, so color cosmetic declined, mid-single digits, with Cover Girl and Sally Hansen benefiting from easy comps in the prior year, ahead of their brand relaunches, while Rimmel, and Max Factor were weighed down by the supply chain disruptions. In retail hair, Wella, set-out trends remain positive, with Wella, steadily gaining share of over the last year, helped by innovation. Set-out trends at Clairol remain pressured, while net revenue benefited from low comps ahead of less share -- and media relaunch. In body care, our Brazilian local brands continued their momentum, with strong revenue growth, and share gain. Ecommerce, was a bright spot in consumer beauty, with strong growth in the quarter, and year-to-date, and share gains from them, as well, across a number of categories, and in our core consumer beauty categories.
During the second quarter in 19, Younique revenues and profits remain pressured due to a decline in product sales, and presence of sponsorship. We continue to refrain of product offering and compensation plan structures to drive improvements in present sales activity, recruitment, and retention. And from the product standpoint, consumer beauty, second quarter, adjusted operating margin, a total of 5.6%. As supply pressure, and the loss profit contribution from the divested brand, more than offsets fixed cost reduction.
Our expectation in second half for Fiscal 2019, is for both, a moderation in supply chain disruptions, as already said, and a more disciplined strategic approach to our investment. Both and below net revenues, which should translate into an improved profit picture in the second half. Connected to the continued pressure we are seeing at the consumer beauty division, let me briefly touch on the $965 million that are non-cash impairment charge that we are taking this quarter. Primarily connected with the consumer beauty division, and selective brands trademarks. The consumer beauty division has experienced increased competitive in market pressure for the first half of Fiscal 19, which has resulted in weaker than expected revenues and earnings.
Additionally, the discount rate associated with the division has also increased in the quarter. Based on these two adverse factors, management determined that there were indications that the goodwill of the division, as well as certain trademarks, intangible assets, may be impaired and accordingly, an interim goodwill impairment test was performed as of December 31st, 2018. The charge announced today, reflect non-cash impairment charge with $832 million for the consumer beauty goodwill, and $97.8 million to the trademarks of Covergirl, Clairol, and two small regional brands. While this charge clearly had a material effect on reported operating profit, or adjusted operating income, excludes this charge, of course.
Second quarter adjusted operating income of $322.3 million, declined by 7% from the prior year, with a margin of 12.8 %, bringing first half adjusted operating income to $463 million, and an adjusted margin of 10.2%. In the first half, the adjusted operating income was adversely impacted by temporary factors of approximately $48 million, including over $19 million from the supply chain disruption. Excluding these temporary effects, the first half underlying adjusted operating income, does decline about 6% year-over-year, with an operating margin of approximately 11%.
We anticipate a profit trend recovery in the second half compared with the first half. Our second quarter adjusted net income, $181.9 million, declined 23% from the prior year, primarily due to a $41.8 million, positive foreign tax settlement in the prior year, which, we'll not do this year, of course. Interest expense was relatively higher than last year, as a result of a higher debt balance, while net income attributable to minority interest was declining due to the decrease in Younique profitability. As a result of all this, adjusted EPS for the quarter was $0.24 per share.
I'll now comment on the improvement in our net debt during the quarter. Debt decreased in the second quarter, due to approximately $320 million of operating cash flow, and $195 million of free cash flow generated during the quarter. As we drove strong conversion of operating income into operating cash flow, supported by working capital improvements. Our team remains focused on free cash flow, as deleveraging is a strong priority for Coty, and the most important lever for value creation for both equity and debt orders in the short-term.
Like Pierre, I believe that the more disciplined and systematic focus on cash, will meaningfully enhance our cash flow in the medium-term. This, in turn, will free-up resources to both invest behind our brands, and to expand our profits.
Net debt was $7,489 million, on December 31st, 2018, decreased $173 million from the balance of $7,662 million on September 31st, 2018, resulting in the last 12 months net debt to adjusted EBITDA ratio of 5.85. The reduction in net debt reflects positive free cash flow, the payment of $94 million dividend, and a positive foreign exchange impact relating to the part of our net debt, which is in euro. Our covenant adjusted net leverage ratio remains, as a result of all this, below our threshold, and we have ample liquidity available, as a revolver, with no significant debt maturities until 2023.
Let me, to finish, offer some final color on the Fiscal 2019 outlook. As we focus on building a healthier business model, we anticipate a profit trend recover in the second half of Full year 2019. We expect that Full year 2019 constant currency adjusted operating income will be moderately below last year adjusted operating income of $1 billion. And we continue to expect positive free cash flow for Full year 2019, and for the rest of the year.
Before wrapping up, let me quickly review our key priorities for the remainder of the year. The first, of course, is to fully resolve the supply chain issues, and on each front, we are making very good progress, which we'll need to be careful in the third quarter. Collectively, as a team, we will work to delivering the profit target I just mentioned. My own growth focus, as a CFO, will be on improving free cash flow generation, as part of a commitment to deleveraging. And finally, as mentioned several times by Pierre with the new -- and under his leadership, we will spend the next few months, as a team, assessing the risk and opportunities of the business, and building medium-term plans with a focus on gross margin, addressing operating income, and free cash flow. That's what I wanted to tell you, as a comment for the second quarter.
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With that, let's move to Q&A. Thank you.
Questions and Answers:Operator
Thank you. The floor is now open for questions. If you wish to ask a question at this time, please press the * key, followed by the number, 1. If at any point, your question has been answered, you may remove yourself from the queue, by pressing the # key. In the interest of time, we ask that you please limit yourself to one question, and one follow-up.
Our first question, comes from the line of Nick Modi, of RBC Capital Markets.
Nick Modi -- RBC Capital Markets -- Analyst
Thank you, good morning everyone. Pierre, maybe you can just -- I know it's still early, but as you've come in and looked at the businesses, I just wanted to get your assessment on the consumer insights capabilities at Coty, today, and maybe on a scale of 1 to 10, where would you rank it? Obviously, 10, being the best. And just, from the Covergirl perspective, obviously, it was relaunched, it looked like it had some early success, just wanted to get the State of the Union on how that relaunch is progressing.
Pierre Laubies -- Chief Executive Officer
Nick, thank you very much for this question. So, when it comes to consumer insight capabilities, I think that we have -- based on my superficial assessment, and I'd be very cautious about what I say, I think our assessment of where the market is going, what are the constant trends, and what is it that we need to do is probably reasonably good, so I'd give it 6 or 7, I mean, if I wanted to rank it. I do happen to believe that where our opportunities lie is how to transform these insights into a consistent locked in strategy of discipline opposed to brand-building, of discipline opposed to popular management, and I would say, and the discipline media approach, overall. So, that's kind of what I think. I think the opportunity, not less in discovering the insight, but how we transform them into complete action.
When it comes to Covergirl, I have to say, I think this is an amazing one. This is one a lot of -- a lot of scale, a lot of opportunities, not in the U.S. market, but I'm talking from intuition here. And so, I accept that this is sort of answer -- answer. I think that brand, has really, a lot of potential, it is very distinctive, it has really strong international expansion capabilities. So, I think that we have a very strong asset here. When it comes to the relaunch, I think the -- I would say that the assessment is a bit less clear, at this stage. We are not happy with the development of the brand. I know distribution plays into that, but I think that there are also some issues in the way we market that brand from a structural standpoint. Again, we come back to the same conversation we had, we've got choices, building or not on the distinctiveness of the brand. And velocity of our sales and complexity of our brands.
So, we are taking stock of that, but again, I think the team is quite conscious of some of the trajectory that we have with that brand, we really believe it deserves better, and we will work strongly to turn it on.
Nick Modi -- RBC Capital Markets -- Analyst
Great. Thank you, so much. I'll pass it on.
Operator
Thank you. Our next question comes from the line of Shannon Coyne, of BMO Capital Market.
Shannon Coyne -- BMO Capital Market-Analyst
Hi, thank you. Pierre, you talked about introducing playbooks in a more standardized, disciplined approach to the business. Can you give more details on what that means, and maybe talk about how that marries up with being in beauty, which is often a changing in a dynamic industry?
Pierre Laubies -- Chief Executive Officer
Actually, thank you, Shannon, for this very good question. Playbooks talks of the way we -- on how we do business, nothing else. Beauty is a tricky world, and so is music. Right? And nobody can play to a philharmonic orchestra without mastering music, right, or the field of music, and learning music. It's a bit the same analogy. What we need to do is to have strong, standard ways of doing things, organization -- which matters, the why, the how, and the what. The why, is very clear, why we are in the business, why does the company exist. And you know, it's relatively easy to answer these questions.
The what, is what makes the difference. If I want to sell more Covergirl, I need to do something with the range, we need to do something with the price, we need to do something with the distribution, we need to do something with the recipes. That's the what. And that's where we spend most of our -- we spend most of our time. Large organizations face complexity, complexity is the ransom of success, and with complexity comes complexity of businesses, complexity of processes, and complexities of organization. And that's where the how operates.
What we don't want is to have people who disclose on how they have to perform their job. We want them to really master that, by giving them the marketing philosophy, a selling philosophy, a manufacturing philosophy, or a finance philosophy, for whatever it counts. So, that's what we are going to do in this company. We need to invest a bit at the initial phase, but if we free up a lot of time and a lot of energy, so we can focus on selling more beauty.
Shannon Coyne -- BMO Capital-Analyst
Thanks, that's helpful. And just, real quick, can you give us some sense as how based on the guidance you gave today, how Q3 and Q4 plays out? Thanks.
Pierre-Andre Terisse -- Chief Financial Officer
I'll take that. It's going to be skewed toward Q4, clearly, there are different reasons for that. One of them, being the supply chain, resolution, which is obviously going to improve. There will be some impact as well as revenue, recognition, due to the change of norm, it's going to have different impacts throughout the quarters, as we are normalizing it. And some cost-saving, as well. That's it.
Shannon Coyne -- BMO Capital-Analyst
Thanks.
Pierre Laubies -- Chief Executive Officer
You're welcome.
Operator
Our next question comes from the line of Lauren Lieberman, of Barclays.
Lauren Lieberman -- Barclays -- Analyst
Great. Thanks. Good morning. Pierre-Andre, I know you've been there only a week, as you pointed out, but a couple of questions for you. First, just thought on capital allocations, sort of, where does the dividend sit in on your priority list? Also, I noticed n the release, the net debt, the EBITDA target that's been there in the past was not mentioned. So, is there any change to that? And then, also, just that you were willing to step up and kind of -- you know, you adjusted the full year guidance a little bit lower, but like you said, there's this implied significant acceleration. So, why do that at this point? You're very new; you didn't have to. Maybe just offer your level of conviction, the drivers that really kind of get you to be comfortable giving an outlook at this point in time. Thanks.
Pierre-Andre Terisse -- Chief Financial Officer
Thank you, Lauren. So, it's a competent question, actually. I'll start with the last one, it's true, I've been here for a week, but the company has not started working for a week only. And Pierre, by the way, joined three months ago. And for those three months, there's been a lot of things happening, in particular, in reassessing the short-term performances of the business, getting a more realistic view of what we are delivering, and putting in place plans to support the profitability, and the profit delivery, and to support as well the delivery of cash flow for the one week. And I must say, a bit more than one week, to be frank. I've been wrapping up on that work, meeting many people, and getting to the conclusion that there are very solid plans.
And this is the reason why we feel comfortable in saying what we've been saying about a lot of the profit delivery. Which means, $950 to 1 billion operating income target for the year. And indeed, an improvement in the second half. But it's pretty logical and very easy. You see that consumer beauty Q2 is already improving, this is Q1. You see that, as we move forward, we are getting less impact from the supply chain issues, and as a result of that, you can see what the trend is going to be in the second half. So, this is why we are comfortable reassuring the market on that. And somehow, confirming the resilience of the business, which we have seen in the second quarter.
On your other question, which are a bit more long-term, on capital allocation and dividends, very simply, no intention to touch the dividends. My -- sorry -- in the financial dividend and capital allocation, the return to shareholders is a very important matter, and we take it very seriously, as we take very seriously deleveraging. Today, I have no reason to question what's in place, we are focusing on free cash flow generation to match these two objectives of the financial policy.
On the net debt target change, I believe you're talking of the medium-term guidance. As mentioned here, we are going to make a strategic assessment of the company, in the coming month, and obviously, this will result in conclusion in the cash flow generation and what we want to do with it, and therefore, I don't want to confirm before we have made these plans. Whatever target medium-term will be. I simply want to note that we have a set of targets from a covenant perspective, which anyway, leads us to a net debt EBITDA ratio, which are gradually going down, as we move in time. So, that remains in place of course. I hope I have covered your question, with my answer.
Operator
Thank you. Our next question comes from the line of Wendy Nicholson, of Citi.
Wendy C. Nicholson -- Citi -- Analyst
Hi. Good morning. Can you talk about your initial sense for the portfolio of brands? Do you have a feel for whether you just have too many brands to manage, too many different lines of business? And I'm particularly curious if you have an initial take on the hair-coloring business because, that seems to be particularly challenged, and maybe particularly a competitive category, where it might be difficult to regain some momentum. Thank you.
Pierre Laubies -- Chief Executive Officer
Thank you, Wendy, for this question. I think it is. Indeed, as you have said, we don't suffer from a lack of brands at Coty, but probably, we do suffer from a lack of portfolio share. So, I think this is what we are going to assess during the strategic plan. I believe that if you want to manage, or to achieve a solid market share, at any given market, you do need to have brands, but you do need to have a well-structured portfolio brand aligning with the price tiering of the marketplaces. And unfortunately, I think that over the years, this has not been the strategy that Coty has followed.
Some competitors have inevitably followed this strategy because, it is a good one. I think this is something that we need to work on. We will definitely come back to you when we evaluate our strategy, and share our strategy with that way of looking at the market. And I do happen to believe that in that case, Coty is very well placed. We have a few hidden gems into the organization, or into the business that we can capitalize on, and to build, I would call it, a structured group portfolio, which has the capability to become global, providing we give the focus that it deserves. That is my answer, first, to your question.
I understand that they are second brands that we have, which are probably non-strategic. In this type of situation, I think you have to be pragmatic. You can't -- this brand generates cash flows, or where we need that cash flow, so we will continue to manage them. Some of these brands are also going to be off tone, but our local; I don't mind that at all. I think you can have also, a set of local brands providing they are well managed, and you manage them not as global brand, but you manage them as you would manage a global brand at the local level. And again, this is what a value of a playbook gives, which gives people the methodologies, and a way of doing things, which are actually whatever you applied on the Covergirl brand, on the Max Factor brand, you could apply it on the Bruno Banani, in Germany. So, that's my approach to this sort of problem. I think that was your question.
On hair-coloring, we had great idea in the U.S. market, specifically with the Clairol move, where particularly, our exhibition has been a bit challenging, as we have unfortunately, we have -- in the case of Clairol, particularly, in the U.S. market, we have gained penetration, we have deliverance of Clairol, but we have upset some traditional users of the main partition of the market, as I call it, and we have lost business. It is a great example of why your playbook matters, and then, you avoid this type of problem. I think it is a category where we have a right to win, we have capabilities, we have competencies, and we have potentially -- we have some, I would call it, local brands, Clairol in the U.K., and in the U.S. I don't see any reason why we can't build a global portfolio on this category, taking into consideration our success in professional hair color, I'm absolutely convinced that we can take this to the mass market. And again, it would be, clearly, part of our strategy. I would again see that as a great opportunity.
Operator
Our next question comes from the line of William Roeder, of Bank of America.
William Roeder -- Bank of America
Good morning. Earlier, you chose not to talk about a medium-term leverage target. Maybe you could talk even longer-term than that. Philosophically, where do you believe this company should be levered? And then, I guess, if I could just get an update on the P&G integration, we were expecting $225 million of savings in 19. Do you know what was achieved during the first half, and therefore, what we might expect to see on the second half? That's all. Thank you.
Pierre-Andre Terisse -- Chief Financial Officer
Just, on the first part of your question, and I will let Ayesha answer the second part about P&G. I have no philosophy. It basically depends on the business, and the delivered cash flow. So, entering the problem -- the question with -- spirit of conviction, to me, doesn't make sense. I want, first, to go through what is the ability of this business to deliver free cash flow --. What is the ability to deliver sustainable earnings and growth, and then, depending on the outcome, we need to define what is the right level of leverage we want to put in place, and what is one we can put in place from a realistic standpoint? So, that's why I'm not willing to go much further than that, and we'll discuss that once we have numbers.
Ayesha, do you want to answer on the --?
Ayesha Zafar -- Interim Chief Financial Officer
Yes. So, just the answer on synergies, we were expecting about 225 for the year, and we are on track. So, I would say, roughly half, but that's just to give you a sense. That's how we were expecting it to work out.
Operator
Our next question comes from the line of Mark Astrachan, of Stifel.
Mark Astrachan -- Stifel Nicolaus -- Analyst
Thanks, and good morning, or afternoon. I wanted to ask about the gross margin focus. So, that suggests perhaps freeing some funds up for flexibility in the business, including reinvestment, whether it's incremental or just a continuation. I guess, I'm curious, if that's reasonable, if that's kind of how you view the business, and if so, or even if not, how do you think about the EBITDA margin longer term? As I think, your predecessors seem to have what I think in the industry was viewed as a bit of unrealistic expectations about high single-digit EBITDA margins. Do you think that that is still the right number? Sort of directional, not looking for specifics, but what is the right level of margin for the business? What's the right level of reinvestment for the business? That'd be helpful, thank you.
Pierre-Andre Terisse -- Chief Financial Officer
Yes, I will take the first part of the question, and then, I will let Pierre elaborate on gross margin, and the engine. But again, I don't want to make the answer before we have entered the -- exact size. But what we are all clear about is that we think there is room for meaningful improvement of the operating margin, and this, as a whole, actually. We want to take this company at the level of EBITDA margin, which is going to be meaningfully higher than the one we have today. A substantial part of that is going to come from gross margin. Another part of that is going to come from the simplification of the costs, basically, and from fixed costs, and from fixed costs leverage, by the way, as well.
For gross margin, my only comment -- and Pierre, will elaborate more -- is that, if we want to rebuild the business of quality, we need to have the ability to invest behind this, and if we want to have the ability to invest behind this, we want to have available gross margin, which is higher, and that's as simple as that. So, the question is already answered -- choose a second.
Pierre Laubies -- Chief Executive Officer
Exactly, Pierre-Andre. And Mark, thanks for the question. It's almost a point, a strong point of view that I've developed over the years, is that -- and reinforcing to this category, looking at this category in detail, beauty is an expensive business, from an NCP standpoint. You need to be able to compete in this area, it doesn't mean that you need to waste, and we don't need to, we don't intend to. But clearly, we need to strengthen our ability to talk to our consumers, or to build our brand with our consumers. In that respect, delivering, sustain gross margin, and ever-improving gross margin.
I mean, we need to make a step up -- and after that, go to the strategy of continuous improvement, through many levers: being, strategic quality management, costing, simplification of our recipes, simplification of formulation, prediction of our costs. I mean, we have to -- in a strategy like that, you don't leave any stone unturned. And we will just do that. But clearly, we are in the business of brand-building, and as Pierre-Andre said, that takes money, and at the same time, we also want to deleverage our company, pay dividends, and improve our profitability. So, again, I see that as the place to go to, and we will do that in the not-too-distant future.
Operator
Our next question comes from the line of Robert Ottenstein, of Evercore.
Robert Ottenstein -- Evercore ISI -- Analyst
Great. Thank you very much. And you kind of touched on my question just now, but maybe let me try to ask it again, and knowing it's early days. Again, philosophically speaking, you made a couple of key big-picture comments before the Q&A section. 1) You want to earn the right to grow in consumer business. 2) You're not obsessed with market share. 3) You are obsessed with gross margin. And I guess, what I'm struggling with a little bit, and again, you touched on it here, is what do you mean in terms of right to grow in consumer business? Does it mean that you have the brand that the consumers want, or does it mean that you have the profitability, first? It's kind of an egg and chicken situation there. If you stand up and look at some of those comments, you're not obsessed with market share, but you are obsessed with gross margin. Does that mean that you want to be more aggressive, perhaps in terms of pricing? So, again, I know you touched on it a little bit before, but if you could help us think through those various objectives, particularly in the short-term. I understand, long-term, you want to drive the gross margin long-term, but over the next 12 months, how are those different priorities fitting together? Please.
Pierre Laubies -- Chief Executive Officer
Thank you, very much, Robert, for this question. When I say I'm not obsessed with market share, I mean by that, that I'm obsessed with quality business. All right? And they are good business. We all know that there are good business, and very bad business. What we all need to do, we need to focus on building good business, and we are going to forfeit very, very bad business, and we are going to limit bad business. So, I think we need to be pragmatic on this dimension, but it's really philosophically the guidance that we give to all people. I actually don't see any compatibility between doing that, and having gross margin. Actually, I think it is the lifeblood of gross margin, too. And gross margin is, in turn, the lifeblood of building plans, or building portfolios. So, I see that philosophically, it is, sort of 2 times, right, if I may say so, or a 3-time strategy.
Clearly, spend the next six months assessing our point of departure, market by market, assessing our portfolio, market by market, where is the space to go, where are the opportunities. Immediately, at the same time, but that would take another couple of years, I would say, focus on the quality of the business, with the portfolio that we have today, and optimizing its performance in terms of quality market shares, and not only in terms of total market shares. I mean, mostly, in that case, I mean, the market share of the base business, and versus, the incremental one. And at the same time, once we have done all -- really build an innovation program, or a transformation program for a portfolios standpoint that we will be able to deploy in a period of time, starting from, I would say, 18 months to the rest of our life. Or 18 months to 2 years -- to the rest of our life.
Because, again, you need to exercise consistency over that. We have too many markets where we only have one brand. And we can't fight competitors. We have two or three brands with only one brand. That's not going to work. So, we need to give those a position in the marketplace. And again, you don't move Covergirl, as a brand, which has 17% penetration in the U.S. market. It was launched 78 years ago, if I do remember well. All right? So, I think that takes time, and of course, I do not intend to wait that long to see success. But clearly, I do see that series of events, and we all work concomitantly with different parts of the organization working on each specific agenda item.
Operator
Our next question comes from the line of Faiza Alwy, of Deutsche Bank.
Pierre Laubies -- Chief Executive Officer
And that will be the last question, by the way.
Faiza Alwy -- Deutsche Bank -- Analyst
Hi. Good morning. Thank you for that. So, Pierre, we seem to be hearing two things. So, on the one hand, it seems that you want to invest to help build a better company. Some of that can likely be sourced by lean initiatives. But given where you stand now, versus competition, especially in consumer beauty, it also seems that that would require a good deal of upfront investment. And I think that's implied by the lower operating profit outlook today. So, I guess the first question is do you agree with that assessment? And the second question is, how do you balance that desire to improve, and the potential need to invest against your deleveraging priorities? And to what extent is elevated that sort of constraining of what you would otherwise like to do? And how do you sort of break through those constraints?
Pierre-Andre Terisse -- Chief Financial Officer
Maybe Pierre-Andre will take --. I will take the question first. I don't think the investment has anything to do with the profitability, as you mentioned. The profitability incorporates a very important factor, which is the supply chain issue. So, I think that's the main reason for the profitability of this year being better than the profitability of last year.
On the constraints, well, that's basically what we have on the agenda now. We have a strong commitment on the deleveraging standpoint. We have ambition from the profitability of this company. And we know that we need to find a way to at the same time invest and deliver, and do it in a balanced manner. This is very much what we are going to try and work in the coming weeks and months, and we are going to try and incorporate in the strategic review, sorry, we are doing, that's usual constraints for a business. You cannot invest everything upfront because, that would be taking too much risk. You need to do it in gradual manner, and have delivery coming at the same time. So, maybe, Pierre, you want to complement on that.
Pierre Laubies -- Chief Executive Officer
Faiza, very good question. I think that I allude to what I said earlier in my initial statement. We have space to improve the performance of our business by working differently. Right? In our ANCP budget, yes, we are not short of ANCP, yes, we could have more. I mean, that's not the problem. I mean, who does not want more ANCP? But our balance between working media, and non-working media has to be improved. Our balance between reach and frequency has to be improved. Our balance between the different types of media can be improved. So, we have space in our P&L. And we have space in our execution. We received that space, those spaces, and I think it will free-up not only cash, to be honest with you, or money to be spent, but also, it will save us from a lot of waste. And I think with waste comes fatigue, and with fatigue comes lower performance, and our objective is actually to fundamentally eliminate waste and hence, refocusing our organization and our people to what really makes a difference.
Faiza Alwy -- Deutsche Bank -- Analyst
Thank you.
Pierre-Andre Terisse -- Chief Financial Officer
With that, we thank you. And we'll see you on the road. Thank you, bye-bye.
Pierre Laubies -- Chief Executive Officer
Thank you so much, all, for your time.
...
Operator
Thank you, ladies and gentlemen, this does conclude today's conference call. You may now disconnect, and have a wonderful day.
Duration: 59 minutes
Call participants:Pierre Laubies -- Chief Executive Officer
Pierre-Andre Terisse -- Chief Financial Officer
Ayesha Zafar -- Interim Chief Financial Officer
Nick Modi -- RBC Capital Markets -- Analyst
Shannon Coyne -- BMO Capital Market-Analyst
Lauren Lieberman -- Barclays -- Analyst
Wendy C. Nicholson -- Citi Investment Research -- Analyst
William Roeder -- Bank of America -- Analyst
Mark Astrachan -- Stifel Nicolaus -- Analyst
Robert Ottenstein -- Evercore ISI -- Analyst
Faiza Alwy -- Deutsche Bank -- Analyst
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