Last week, I introduced you to a stock I've been eyeing for a while -- beauty and personal-care product manufacturer Helen of Troy (Nasdaq: HELE). The company has shown impressive growth, and the stock is relatively cheap.

I covered the case then for buying the stock, so this week, I'll identify the risks -- an exercise every investor should attempt before investing in any stock. But first, I need to update you on a fairly big strategic move the company made on Sept. 26.

Helen of Troy announced it would acquire six product brands from Procter & Gamble (NYSE: PG): Condition 3-in-1, Final Net, Vitalis, and Ammens were purchased outright, and it acquired licenses to the Sea Breeze and Vitapointe brands. This acquisition will also add totally new product categories to Helen of Troy's business. While it didn't disclose the price, the press release noted that the deal would be accretive to earnings next year and would likely add about $45 million to the top line annually. The move also partially addresses some of my concerns about Helen of Troy's business.

Aggressive tax reduction strategies, litigation risk
I have a couple of mostly legal and regulatory concerns about Helen of Troy. First, the company has a complex legal structure designed to reduce taxes by moving some of its holdings to offshore tax haven Bermuda. Unlike W.P. Stewart, a company I recently reviewed favorably with Bermuda connections, Helen of Troy uses the offshore domicile purely for tax reduction. Domestic firms moving assets to offshore tax havens have become controversial lately, and several bills introduced recently in the U.S. Congress are specifically designed to go after companies with such legal structures. If enacted, any changes could result in material tax increases for Helen of Troy. I estimate its fiscal 2002 earnings would've been reduced by 20% had it been paying a full 35% tax rate.

The Bermuda holding company is just one sign Helen of Troy plays hardball with taxes. The company has also run into trouble with the Inland Revenue Department (IRD) in Hong Kong. The IRD has assessed taxes of over $11 million on some of its foreign subsidiaries dating from 1990-1997, which it disputes.

According to the most recent company 10-Q, if the IRD prevails in this dispute, and if it were to apply the same tax treatment for the fiscal years 1997-2002, Helen of Troy could be on the hook for as much as $30.5 million. The IRD offered to settle the assessed taxes of $4.5 million for the period of 1990-1994 for $2.6 million, which the company has conditionally accepted. Should this settlement, which amounts to about 56% of assessed taxes for the period, be representative of all the years in dispute, the beauty-product supplier could be responsible for about $17 million, or almost half of its 2002 reported pre-tax earnings of $38.5 million.

Another issue that must be noted is Helen of Troy's litigation with Conair over a distribution agreement that both companies had with a supplier of butane hair-care products. Helen of Troy is suing Conair for $10 million, and Conair has filed a countersuit seeking $15 million. While I would expect this suit to be settled with neither company receiving the full amount of damages, this represents another risk to be considered by prospective investors.

Accounting complexity
As I noted in last week's column, Helen of Troy's recent revenue and profit growth is almost entirely attributable to the massive improvement of Tactica since its acquisition. It bought 55% of the then-unprofitable Tactica back in early 2000 for $2.5 million in cash. This has been a home run so far for Helen of Troy, which consolidates 100% of Tactica revenues.

Even better, until Tactica makes up the earnings deficit it compiled during its unprofitable years, Helen of Troy gets to keep 100% of Tactica's profits under the terms of the deal. But this little perk is about to end. Tactica is expected to have made up its profit deficit sometime during this quarter, at which point Helen of Troy will only keep 55% of Tactica's profits, with the rest going to Tactica's minority owners.

Helen of Troy's management is projecting fiscal 2003 earnings per share of $1.15 to $1.20, versus the $1.00 reported in 2002 (this factors in the reduced contribution of Tactica to earnings). Nevertheless, I'm concerned that the reduced Tactica contribution will result in some difficult comparisons going forward.

Business risks
Now we come to business risks. Selling hair dryers and curling irons is hardly a commodity business. The company is doing everything it can to differentiate its brands, mind you, but my guess is that customers don't consider brand first when purchasing a blow dryer.

The Tactica acquisition arguably improved Helen of Troy's positioning in this regard. But Tactica relied heavily on direct marketing and Epil-Stop sales, risking product obsolescence and the need for continued advertising spending.

Helen of Troy's dependence on mass-market retailers brings its own set of problems. Its biggest customer is Wal-Mart (NYSE: WMT), which comprised 22% of sales in fiscal 2002. Its largest three customers constituted 35% of total revenues. Unfortunately, reliance upon one or two large customers for a big chunk of sales is a double-edged sword. For example, the Kmart bankruptcy impacted Helen of Troy's earnings by about $0.03 per share in last year's fourth quarter. And Wal-Mart could squeeze the company on price or find another product vendor.

Attacking the weaknesses
Every business has risks, and the company's management has appeared to both recognize and make appropriate moves to address them. Helen of Troy is doing everything it can to create a brand premium for its core small appliances and beauty supplies. As I wrote last week, it has also introduced some 50 new products this year. Tactica will roll out a dozen or so new products, dramatically reducing its reliance on Epil-Stop.

With Helen of Troy now distributing Tactica's products to mass-market retailers, the company isn't as dependent upon direct marketing and advertising for customer acquisition. And management is obviously cognizant of its reliance on Wal-Mart and working hard to cement its relationship; Helen of Troy was recognized as the mega-retailer's "Supplier of the Fourth Quarter" in its category late last year. Finally, the addition of the six new P&G brands will position Helen of Troy's business toward repeat-purchase product categories that benefit from brand loyalty. If the Tactica acquisition is any indication, we can expect Helen of Troy to rapidly and successfully integrate these new product lines.

Overall, I believe Helen of Troy's management is taking the necessary steps to grow the business and build a portfolio of branded products offering a moat against low-priced competitors. The downside risks associated with the company's tax situation and litigation seem manageable. And trading at under 11 times earnings, the stock appears to be very reasonably priced.

Guest columnist Zeke Ashton has been a long-time contributor to The Motley Fool and was a full-time analyst and writer at TMF for several years. Zeke is also the managing partner of Centaur Capital Partners LP, a money management firm based in Dallas, Texas. Please send your feedback to zashton@centaurcapital.com. At the time of publication, Zeke did not own shares of any company mentioned in this article. The Motley Fool has a disclosure policy.