Retailers and Cosmetics: A Hidden Danger

The American cosmetics industry is an anarchist's dream. As it's almost completely exempt from regulation, cosmetics manufacturers can literally sell you snake oil if they so choose. Many modern cosmetics contain ingredients that may cause cancer or that have been associated with developmental problems. Consumers are beginning to notice, and they're voting with their dollars.

Body burden
Unlike its oversight of food and pharmaceutical products, the FDA has no authority to review or regulate the ingredients in cosmetic products before they are released into the marketplace. This creates a situation where cosmetics in the U.S. are among the least regulated products available to us. The Campaign for Safe Cosmetics says, "89 percent of all ingredients in cosmetics have not been evaluated for safety by any publicly accountable institution."

Why should we be concerned about cosmetics ingredients? The Environmental Working Group has conducted extensive research that shows that many personal care products -- including deodorants, lotions, makeup, and even baby shampoos -- contain chemicals linked to cancer, birth defects, learning disabilities, skin problems, and more. Manufacturers often say that their products contain only low levels of these toxic chemicals. The problem is, most people are exposed to scores of hazardous chemicals every day, from many sources. The cumulative effect of these toxins in our bodies, known as the "body burden," is proving to be more harmful than we have previously understood.

Consumer backlash
Consumers are beginning to be more concerned about the potential risks lurking in their medicine cabinets. According to Packaged Facts, the U.S. consumer market for natural and organic skin care, hair care, and makeup, which grew by 61% to $7.7 billion between 2005 and 2010, could exceed $11 billion by 2016. According to a 2011 Organic Monitor report, "Consumers are turning to natural personal care products because of health concerns about synthetic chemicals."

Because of the absence of legislation, retailers become the de facto gatekeepers when it comes to the personal care products they stock. Many -- such as Costco (COST -0.24%) -- acknowledge that they "should be proactive in screening out certain chemicals from products," suggesting that current regulations are inadequate. Consumers tend to trust retailers to ensure their products' safety, and the pressure on corporate laggards is growing.

Consider the recent case of Johnson & Johnson (JNJ 1.49%). After years of pressure from environmental and consumer groups, J&J announced this past August that it would reformulate a number of its personal care products to eliminate many potentially harmful chemicals by 2015. This was considered a major victory for advocacy groups, and will likely exert further pressure on other companies to follow suit.

The good, the bad, and the ugly
Last month, The Campaign for Safe Cosmetics released a report assessing major retailers' performance in keeping potentially toxic personal care products off their shelves. It may come as no surprise, given the company's retail philosophy, that Whole Foods Market (WFM) ranked dramatically higher than any other company, with a score of nine out of a possible 10.

Below is the complete list of assessed companies, in order of their CSC scores. The CAPS score represents the extent to which The Motley Fool's online community of investors believes the stock will outperform the market, from a low of one star to a high of five.

CVS' record on cosmetic safety was the strongest among conventional retailers. Macy's came in at the bottom of the heap, primarily because the company has stated that current regulation is sufficient to ensure product safety. In the face of mounting evidence, Macy's is becoming a dinosaur. If the Safe Cosmetics Act of 2011 (currently in House committee) passes, Macy's will have a lot of catching up to do, as will the others toward the bottom of the ranking.

The bottom line
A combination of consumer preferences and legislative action is exerting increasing pressure on companies to eliminate potentially dangerous ingredients from their personal care products -- and on retailers to pay close attention to the ingredients in the products they sell. While this is certainly just one among many aspects of a retailer's performance, it is still an indicator of management agility, as well as a potential risk in terms of both legal liability and loss of consumer confidence. Such intangibles may not appear on a company's balance sheet or income statement, but they're just as important as profits and assets. Investors should always take note of developments where companies aren't putting their customers first, as that can pose a reputational risk that could severely impact profits down the road. If current trends continue, companies like Whole Foods that are getting out in front of this issue are likely to benefit in the long term.