Coty Inc. has tied up a deal with The Procter & Gamble Company to merge the latter’s fine fragrance, colour cosmetics, and hair colour businesses via a tax-free Reverse Morris Trust transaction to build a company with pro forma combined annual revenue of more than $10bn.

The figure is based on fiscal 2014 performance (ending June): P&G Beauty achieved revenue of $5.9bn and Coty generated $4.6bn, which combined should strengthen the latter’s position in the $300bn global beauty market.

By comparison, in FY 2014, market leaders L’Oréal Group had sales of €22.5bn/$24.9bn and Estée Lauder Companies had  sales of $10.8bn.

Following the $12.5bn transaction, P&G shareholders will own 52% of all outstanding shares while Coty’s existing shareholders would own 48% percent of the combined company.

With P&G’s businesses, Coty – founded in Paris in 1904 – says it expects to become the global leader in fragrances “and to significantly enhance its position in colour cosmetics”. The fragrances, colour cosmetics and skin/body care house has key brands in duty free and travel retail that include Calvin Klein, Chloé, Davidoff, Marc Jacobs, OPI, and Philosophy.

P&G has important franchises in DF&TR too, including Hugo Boss, Dolce & Gabbana and Gucci. In colour cosmetics its brands include Covergirl and Max Factor. The transaction also gives Coty the new category of hair colour to tap into via P&G’s Wella and Clairol brands.

GEOGRAPHICAL FOOTPRINT EXPANDED

The deal significantly expands Coty’s geographical reach, providing scale in important beauty markets like Brazil and Japan, while also increasing critical mass in existing key regions such as in North America, Europe, the Middle East and Asia.

Bart Becht, Chairman and Interim CEO of Coty, comments: “We have the opportunity to create a highly focused, pure-play leader and challenger in beauty which can deliver exciting opportunities and benefits for employees, licensors, customers and suppliers.

“There is no question that with the broader offering of leading brands, strong brand support, the development of a better pipeline of innovative products and the much broader geographical reach and scale, Coty will strengthen its competitive position and capitalise on revenue and profit growth opportunities over time.”

SAVINGS & SYNERGIES

Coty expects to realise approximately $550m in total cost savings on an annualised basis over the next three years, including $400m in non-transferred costs and an incremental $150m in additional cost synergies, equating to 10% of the acquired revenues.

These savings, together with working capital improvement and anticipated growth prospects “is expected to drive material financial improvements”. Coty anticipates incurring one-time costs of approximately $500m related to the transaction, plus an additional $400m of capital expenditures, over the next three years.

GOVERNANCE & OWNERSHIP

Becht will oversee a management team that will include Coty CFO Patrice de Talhouët, together with a broader leadership organisation consisting of executives from both businesses. The board of directors will not change as a result of the transaction.

JAB Cosmetics B.V., the owner of all of the outstanding shares of Coty’s Class B common stock representing approximately 97% of Coty’s outstanding voting power, has granted the shareholder consent required in connection with the transaction. On completion, Coty’s common stock will consist of a single Class A share and JAB will remain the largest individual shareholder, owning approximately 33% of the fully diluted shares outstanding at the close of the transaction.

TRANSACTION DETAILS

The deal will be done through a Reverse Morris Trust structure which involves the separation of the P&G Beauty Business from P&G, followed by a merger of the P&G Beauty Business with a subsidiary of Coty.

At the close of the transaction, Coty will assume $2.9bn of debt of the P&G business. Additionally, Coty will refinance its existing debt. On a combined basis, the business at close is expected to have moderate pro forma debt leverage of approximately 3.0x net debt / adjusted Ebitda. Coty says this provides “ample cash flow for the enhanced dividend while preserving strategic flexibility”.

Coty’s share price had fallen by -5.3% in early NASDAQ trading (before 10.40am) on the merger news.