Some venture capital firms have been pivoting away from the consumer sector. In light of that pivot, for the latest edition of our ongoing series posing questions relevant to indie beauty, we asked 15 investors active in beauty the following questions: What’s happening with VCs departing the consumer sector, and why do you believe the sector, particularly in beauty, is a worthwhile investment? What kinds of returns can VCs garner in consumer and beauty specifically? How do you think the VC dynamics will impact early-stage brands and ultimately end consumers?
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Diana Melencio General Partner, Brand Capital Fund, XRC Ventures In the great migration away from the consumer sector, at least from generalist VCs, we’re seeing investors take a protective portfolio management strategy. They often don’t understand the sector well enough, haven’t seen historical deal flow activity nor have acquirer relationships to make smart investments with acquisition potential because most consumer and beauty liquidity events are via M&A and not IPO.
If the traditional VC model is one out of 10 or 20 “make” the fund, then investing in consumer, which has lower multiples, means you need a higher success rate to get the same return as an enterprise fund.
On the other hand, beauty M&A has not slowed down. It has picked up, and sales multiples are relatively stable. We view this as a huge opportunity to invest in great companies at attractive valuations, leveraging our programmatic and proactive approach to investing and ultimately exiting.
VCs can expect consumer and beauty exit multiples to hold in the 3X to 5X range. A higher initial ownership stake in a winner(s) will be necessary to generate the appropriate returns.
Brands will need to find a combination of VC and alternative financing models to grow their business. There’s a growing marketplace gap for funding in early-stage companies and growth equity to get to the $50 million to $100 million in sales which strategics often need to see as a proof point to acquire.
Founders who wish to launch brands will have to bootstrap longer and/or raise larger amounts from angels, friends and family to get to the sales thresholds many early-stage investors are mandating, $500,000 to $1 million in sales typically. For consumers, this means more intentional discovery on social channels and with micro influencers and less in retail.
- Laura Moreno Lucas Partner, L'ATTITUDE Ventures
Beauty companies over the past year have been stressed. Investors in particular are becoming more mindful of startups that are generating significant revenue or capital on the books.
Because of this, it affects the consumer sectors as there is a need to have capital upfront in order to get the business growing. Usually, for beauty, there is a cycle for product development, distribution and then a return on investment as capital is invested in production.
Beauty products are essential for consumers, even in tight economic context. During times of recessions or economic downturns, times have shown that beauty surpasses the downturn. If the product and the brand have good margins and distribution, loyalty becomes key, especially when social media and influencers are part of the equation.
Beauty has become very competitive, with numerous products in the space. As an investor, it's challenging to find beauty products that are truly differentiated and obtain the necessary capital to produce those goods.
VCs are seeking brands that already have some traction and as a result, early-stage founders with potentially good products might be overlooked. Therefore, it's crucial to focus on building a community and brand quickly to capture the attention of investors, this will therefore create a positive loop and will enable the brands to increase its impact to end consumers.
- Carolyn Simmons Partner, Melitas Ventures
Often the consumer sector scares investors because businesses that cater to consumers are subject to the rise and fall of consumer demand. Simply put, investors like high growth, profitable and predictable businesses.
What we’re seeing is that various venture capital firms that have historically invested in consumer technology are pulling back in favor of enterprise technology. The reason for that is that enterprise technology tends to be stickier and more predictable than consumer because it caters to organizations rather than consumer end users.
Aside from consumer technology businesses, there are consumer products businesses. Think beauty and personal care brands, from upstarts like Good Weird and Bellway to large strategics like Estée Lauder and L’Oréal.
While many investors today are shying away from CPG, I see a ton of opportunity. There are long-term, structural trends within the beauty and personal care sectors and more broadly wellness. Startups are best positioned to capitalize on those trends and offer consumers something that truly meets their needs.
Will strategics continue to look to acquire emerging beauty businesses as sources of innovation? Absolutely. I’m bullish on the sector and think that capital will continue to flow to the consumer businesses that demonstrate high growth and defensibility, ultimately generating investors great returns.
- Amanda Schutzbank Co-Founder and General Partner, Willow Growth Partners
I think it's a healthy and natural evolution to see the traditional technology-focused venture capital funds pull away from consumer brands investing. Consumer brands fundamentally scale and ultimately exit in a much different way than typical software businesses.
For years, many technology-focused venture capital funds deployed capital into sectors like beauty, personal care and even food and beverage as part of a broader consumer portfolio strategy. Typically, these firms think about success in a much more binary way, meaning one or two companies out of 10 will return their entire fund. Consumer brands simply do not fit this mold.
The majority of successful consumer brand M&A transactions occur between $200 million to $800 million. If these companies raise a modest amount of capital, focus on margin integrity and strong channel economics and achieve profitability sooner, they can have a successful outcome for all involved.
We formed Willow with this exact thesis. We saw a gap in the market for an emerging growth fund to write the first institutional check and help consumer brands scale in the right way. We are stage and category-specific specialists and believe it takes this type of focus to provide the best support to founders and brands.
Willow invests behind exciting tailwinds of shifting consumer sentiment and behavior. The consumer is more knowledgeable than ever and cares about a brand’s values. Beauty, personal care and health and wellness are areas the consumer increasingly cares about, and the most successful brands today are not only providing truly differentiated value, but also a broader associated community with opportunities for a greater level of engagement.
For investors with category expertise, sector understanding and a genuine passion for consumer brands, the returns can be significant.
- Rich Gersten Co-Founder and Managing Partner, True Beauty Ventures
Beauty is a worthwhile space to invest in for a number of reasons. The market is large, global and growing. Margin profiles are strong, and profitability is easily achieved at scale. It may be the only consumer category that has a thriving specialty retail channel helping to drive growth.
The industry is fragmented, and indie brands have consistently taken market share from larger legacy brands. In order to sustain growth and innovation, the strategic buyers have created an active M&A/exit market for investors to realize returns on their investments. In fact, since the end of the year, five high profile acquisitions have been announced involving large strategics, family offices and PE funds as acquirers.
VCs can garner attractive returns in beauty as brands can scale rapidly and profitably. Valuation multiples are also attractive at exit for high growth, profitable brands. We realized a very attractive return on the recent sale of K18 in a quick three and half years, demonstrating the great power of phenomenal beauty brands to create significant value for investors.
We do not believe other consumer categories possess the same level of attractiveness as beauty and wellness, which is why True Beauty exclusively focuses on this sector. We expect to see more VC activity in 2024, but the dynamics for early-stage brands have shifted and for businesses who are unprofitable and DTC only, we believe they will continue to have a tough time raising.
We also think this will bring a reckoning to the industry for many brands, as we have already started to see with the many brand closures in 2023. Lastly, given the recent M&A activity, I would expect other VCs to relook at the beauty space for future investment.
- Manica Blain Founder, Top Knot Ventures
I think in the earlier days of the e-comm/DTC rush in the early to mid-2010s, there was a belief that a consumer brand could scale very quickly with meaningful investment dollars behind it. Perhaps this was a fair presumption given the overall environment back then. Customer acquisition costs were much lower, the overall competitive landscape wasn’t as crowded, and it was a novel idea to be the Warby Parker of X or Y. Oh, the number of decks, teasers and email covers I would see with that very line!
The industry has matured, and the landscape has changed. It’s not cost-effective to scale a digital-first brand by simply throwing money at a digital marketing engine. VCs that were quick to enter the consumer space have started to realize what the rest of us consumer investors have inherently known for some time—the long-lasting iconic brands we know and love today were built over decades, and success wasn’t achieved overnight.
Investing in consumer is a long game for the most part, but traditional venture capital investors are typically looking for quick, moonshot returns or flameouts. They want a zero or 100 outcome, and the patience that’s required to truly partner with a founder to build a long-lasting consumer brand isn’t as prevalent amongst the overall venture capital community. I think it’s the absence of that alignment of interests and expectations that’s pulling many early-stage investors out of the consumer world.
I knew when I met Michele Gough-Baril, the founder of Iris&Romeo, back in 2021 that she had done a terrific job of really seeding her community since launching her business in 2019, delivering a differentiated and fantastic product, but concurrently she was building a true brand.
When I led her seed round in 2021 and the subsequent seed extension round that same year, there was some investor pushback around the brand not growing fast enough. I knew Michele was building a real brand, and this is not something the average early-stage investor can easily evaluate.
Iris&Romeo today, five years following its initial launch, is really breaking out, recently closing a series A led by True Beauty Ventures to fund their Sephora.com launch. It seems so obvious to everyone today that this brand is on fire and winning, but it takes time.
There are so many examples of “sleeper” brands in beauty in particular—Shani Darden, Sunday Riley, OSEA, to name a few brands that launched years before becoming more mainstream and landing that coveted Sephora or Ulta launch.
There are outliers of course (i.e., K18/Unilever), but, for the most part, brands that have achieved strong exits—Ilia/Courtins-Clarins, Tatcha/Unilever and more recently Dr. Barbara Sturm/Puig—had visionary beauty founders that took their time building a very loyal customer base, shaping clear brand identities through consistent communication of their values over time, and delivering strong value proposition and product innovation over time.
I love the consumer sector and specifically beauty because I think, if you can find the early markings of what could be a long-lasting brand, you can do very well. 5X to 10X is a realistic result for a successful early-stage consumer investment. Overall, in my experience, loss ratios are much lower than other sectors.
I also think the breadth of acquirers is much deeper than is the case in other consumer sub-sectors, so that’s another reason. There are some breakout new emerging managers in venture with active funds focused in consumer and beauty at the early stage.
Willow Growth and True Beauty Ventures are two of my favorites. Both launched their first funds within the last five years. Both know the beauty category very well and have the networks and resources to help founders scale. They’re also incredibly founder friendly and supportive, and that’s crucial as early-stage consumer is a long game.
The absence of that rush of early-stage founders accessing significant capital means you’ll no doubt see fewer emerging brands entering the overall category. Those who embark on this path, especially today, are likely going to be super gritty founders willing to rough it out and bootstrap, founders that are OK and financially capable to go years without a salary as they grow their businesses from the ground up and without any or very little outside funding.
I don’t think this is necessarily a terrible thing, as the best founders I’ve had the privilege of investing in have the hustle and drive that’s amplified while bootstrapping. These founders also become increasingly resourceful and creative about building real community. So, I think that’s a good thing overall.
Finally, most beauty brands are pursuing retail expansion much earlier on, which requires capital to support, and I’m afraid not all emerging brands will have access to that capital. Beauty Independent reported just a few weeks ago that Nigel Lawmon, a senior U.K.-based Sephora executive shared that brands should invest about 30% in retail and marketing to succeed. Applying that percentage to an example, he advised brands that aim to hit $3 million in retail sales in the first year at a major retailer should budget about $1 million for marketing and other support efforts.
I fear that with a pullback in overall VC funding, you might see brands that launch at retail, but quickly flame out if they don’t have the cash resource to properly support that channel.
- Diego Mandelbaum Investor and CEO, Nomad Initiatives and KF Beauty
VCs are pivoting away from many sectors and not just consumer goods. Fintech, crypto, SaaS, etc., there’s a new game in money town: startup valuations are going through a “correction,” cash burn runways are under the microscope, the go for overgrowth strategy no longer fits a context with higher interest rates, and the focus is now on getting to profitability with some urgency, even if it means cutting spend and overheads. This has had an impact on the beauty startup sector too, and I believe that it makes for better decision-making both as an investor and as a business operator.
The consumer space, and in particular the beauty segment, remains an interesting target for VCs given the constant market need for consumer product innovations in ingredients, formulas or formats (e.g., it could be anything from fungi “leather” on packaging or skin biome solutions).
Ultimately, the renewal of brands that appeal to a different generation and/or changing consumer demographics will always be a relevant factor since, at some point in the cycle, the CPG giants will be on the acquisition path, and VCs can expect a handsome return (3X to 5X) if they backed the right founder.
These new VC dynamics are to be welcomed by the early-stage beauty brands. A few years ago, a 15-page investor deck with one product idea and an engaged influencer may have got you funded, but now that the due diligence is going to be more stringent, it will do all parties a favor in the longer run.
More patience may be needed before accelerating growth, but when it does happen it will be because the business is more sustainable, has a path to profitability and is being widely adopted by a loyal community of end consumers.
- TINA BOU-SABA Investor
This is a great question, and certainly one that is often discussed amongst my investor friends and colleagues. I think that it is important to step back and put this into the context of the past decade or so. V
enture capital was designed to fund high-risk, high-reward, R&D intensive technology startups. Think of your class Y Combinator company. These companies typically burn a tremendous amount of capital—grow or die. That is what venture capital was originally designed for and for many years it was a relatively niche industry.
If you ask beauty founders who started their businesses pre-2010 if venture capital was available to them, they would likely laugh at the question. At that time, venture capitalists had no interest whatsoever in consumer brands.
During the 2010s, there was a relatively brief period during which some venture capitalists saw investment opportunities in fast-growing DTC companies. These investors were absolutely right that cheap social media advertising allowed DTC brands to grow quickly and cheaply. There was indeed an arbitrage opportunity that leveraged inexpensive Facebook ads and DTC distribution in lieu of traditional retail middlemen and expensive brand marketing.
However, most of these brands ultimately hit a wall as advertising costs increased, and just as importantly, there were none of the “winner-take-all” businesses that VCs seek to back. Instead, there was a massive influx of sub-scale (and often soulless) "brands" that were incinerating money on social media ads.
Against this backdrop, I view the current pivot of some VC firms away from consumer as more of a back-to-basics approach following a detour into consumer. For most of those investors, that detour was likely unsuccessful. I’ve never met a tech VC who tells me, “I’m so glad that we invested in that consumer brand back in 2016.” Instead, I hear, “Tina, we should have left that to specialists like you who really understand brand-building.”
High cash burn, growth at all costs and fundraising every 12 to 24 months simply do not make sense for consumer brands. The business model and capitalization for brands are completely different from that of technology companies.
As is so often the case, the pendulum often swings too far one way, and right now we are likely in an overcorrection in which promising consumer brands are being bucketed with the DTC flameouts of the 2010s. This is an inaccurate and unfair generalization.
Beauty in particular, which I would argue is the most attractive in consumer from an investment perspective, is absolutely able to deliver venture returns as they are often described given the high exit multiples that the best brands command. But I would argue that beauty, as well as beverage and some categories in food, are unique in the returns that they can deliver to investors.
This is one of the reasons why I focused on beauty early in my career as an angel investor. I saw that it benefitted from high margins and repeat purchases, favorable macro trends, strong consumer engagement, highly acquisitive strategic acquirers and a massive TAM (total addressable market). This is not the case in most other categories of consumer.
To invest successfully in beauty specialization is crucial. Great beauty investors understand business fundamentals, of course, but they also have strong instincts around what makes an exceptional brand.
With respect to emerging brands, I think that the fundraising environment continues to be challenging, but has improved compared to a year ago. Importantly, this is not due to tech venture capitalists dipping their toes into consumer again. I think that those VCs learned their lesson in that regard!
Rather, it is being driven by a new generation of specialist investors who know the beauty category inside and out and are excited to partner with emerging brands and their founders to build great brands and businesses. In my opinion, this is a positive for the industry.
Brands shouldn’t be competing on who can raise and spend the most money. That might work in some “winner-take-all” tech sectors, but it is wholly inappropriate for consumer brands. This brings us back to the fundamentals of great brands, products that delight the core customer, strategic distribution, profitability and capital efficiency.
- Elizabeth Edwards Founder and Managing Partner, H Venture Partners
Over the last ten years, startup CPG companies spent too much on Facebook ads with too little ROI. Brands that have allocated 90%-plus of their marketing spend to digital marketing (Facebook, Instagram, TikTok, etc.) that are seeing less than a 5X LTV/CAC aren't going to weather the storm. Brands need to have creative marketing strategies that have been proven and that can scale beyond a 5X LTV/CAC.
Returns are really dependent on the entry price and the exit price. If you entered an investment in 2021, when valuations were really high, the returns are going to be lower even if exit prices are the same. We're not seeing a lot of M&A activity, which is the typical exit pathway for CPG brands, so that puts additional downward pressure on returns. The longer it takes to exit and the lower the exit price, the worse the return.
We are in a VC recession with very little capital flowing into new VC funds, and therefore less VC money flowing into new early-stage CPG deals, meaning that early-stage brands will need to be scrappier than ever to survive and should count on very little VC money flowing into early-stage CPG brands. Brands will likely grow topline more slowly and judiciously, and many early-stage brands have folded and will fold, meaning less choice for consumers.
- RON MACKEY Managing Partner, Clinton View Capital
I believe that the beauty sector will continue to attract significant capital from VC/PE investors given the sector’s demonstrated growth. High-quality beauty companies typically have strong gross margins and low capex, which are attractive characteristics for private equity buyers targeting strong financial returns.
Here are reasons why I think VC/PE investors will continue to be active in beauty:
Sector growth: According to Circana, year-over-year U.S. prestige and mass beauty retail sales grew 14% and 6%, respectively, in 2023. Leading beauty retailers Sephora and Ulta have reported strong sales performance in recent quarters despite operating in an uncertain macroeconomic environment. McKinsey expects beauty retail sales in North America to grow at a 6% CAGR through 2027.
Outperforming companies: Within beauty, there are brands with strong management teams and compelling operating fundamentals, which should allow these companies to expand at rates that exceed broader market growth. In my opinion, VC/PE investors and strategic acquirers will actively seek out investments in these high-quality opportunities.
Underperforming companies: Overall, in due diligence, I think that VC/PE investors will place a greater emphasis on the profitability and the return on capital metrics of the operating initiatives of companies they are evaluating than they have in the past. This enhanced focus will make it more difficult for weaker brands, which may have been able to attract capital in 2021 and 2022, to successfully raise funding in the current environment. This dynamic will likely cause underperforming brands to shutter and allow stronger beauty brands, regardless of stage, to gain share in an expanding market.
- Rachel ten Brink Founder, CEO and General Partner, Red Bike Capital
While in the past few years there has been a push towards enterprise in VC, there is still plenty of opportunity in consumer and particularly in beauty. Beauty is a high margin category with strong global category growth and constant technological innovation. You need more creativity than ever to drive growth and financing inventory is a challenge, but there can still be excellent returns.
While M&A volume was light in 2023, there have been exits like Drunk Elephant, Hero Cosmetics and Mielle Organics that show attractive multiples, in the 4X to 7X range at the late stage. Like many other categories right now, it is extremely hard to raise funding for early-stage beauty startups today. Investors want to see more proof that a startup has real traction, capital efficiency and is able to grow profitably.
- Chip Longenecker General Partner, NotVC
Other firms are pivoting away because they were amateur window shoppers hoping to make a quick buck with interest-free capital, but realized capitalizing consumer companies is different than capitalizing tech. To stay in consumer, you need to really have a passion for what we do and also insight into how to uniquely capitalize and scale consumer businesses.
Returns in consumer can be just as high as in any other sector of the economy, and beauty is an amazing segment because of the macro trends toward aesthetics, high margins and consumability of the product, and active acquirers at the top of the industry.
At the earliest stages, there will be a pressure on profitability, distribution and valuations, which will weed out some players, but choice and availability will remain high for the end consumer.
- Sarah Foley Partner, SWAT Equity
We certainly believe the consumer sector continues to provide great investments, particularly at the emerging growth stages. Consumer expenditures are the largest contributor to U.S. GDP yet the category is significantly underrepresented in the amount of investment capital it attracts, which we believe represents opportunity.
In our experience, the beauty category generally carries a higher product margin profile, may reach profitability sooner and experience higher exit multiple valuations, but these early-stage companies need investors who understand the nuances of business models requiring omnichannel distribution, efficient inventory and brand building.
The days of tourist capital from investors who believed e-commerce meant tech-enabled are over.
- ODILE ROUJOL Founder, Fab Co-Creation Studio Ventures
I have always chosen consumer brands as a priority in my thesis of investment as well as tech, SaaS, marketplaces and retail tech, and backed founders with engaged communities building unique brands with excellent products and a holistic view of beauty and wellness.
As an operator, I try to add skills to the table in addition to my investment and anticipate what corporations could want in their portfolios in the future. There will be mergers and acquisitions in 2024 and coming years with high multiples. The future belongs to founders building healthy fundamentals and having insights about their customers. Knowledge and data matters.
- AMANDA EILIAN Co-Founder and Partner, Able
While it's true that some venture capital firms have been moving away from consumer investing, it varies by sector, stage and business model. It's also important to remember that the relative decline in investment comes off of unusually frothy activity through 2021.
Reasons for the pullback include market saturation, concerns about consumer sentiment and the retreat of nontraditional consumer investors. In addition, many of the high-profile venture-backed consumer IPOs of the last few years have performed poorly, from Beyond Meat to Rent the Runway. This tends to disproportionately impact later-stage investing.
When people talk about consumer, they are often thinking about DTC companies, which have more uniformly fallen out of favor. The recognition of online growth limitations together with unsustainable customer acquisition costs contributed to a 97% drop in DTC investments in 2023.
Some of the early macro signals in 2024 could reignite interest in consumer—lower interest rates, falling inflation and rising consumer confidence. When looking at sectors in consumer, beauty has historically been more recession resistant and could be a focus for investors concerned about consumer sentiment.
In addition, the beauty sector has inherently attractive core characteristics such as high margins, loyal customers and acquisitive strategics. However, headwinds remain, including an increasingly crowded market and fickle consumers.
All of these dynamics mean that early-stage brands will need to focus on differentiated offerings with strong unit economics and profitability or a path to profitability. For end consumers, the focus on profitability means they will no longer see as much of their lifestyle subsidized by VCs backing money losing brands.
If you have a question you’d like Beauty Independent to ask investors, please send it to editor@beautyindependent.com.
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