It once seemed a winning formula for a specialty retail chain. Sell women upscale cosmetics and fragrances, cotton balls and hand lotion, offer unrivaled selection and above all, give discounts of up to 20 percent.

If it worked for "category killers" specializing in linens, office supplies and home-improvement tools, the format could apply to cosmetics as well, founders of Columbia-based the Cosmetic Center Inc. believed.

It might have worked if not for a formidable obstacle, analysts said last week after the struggling company sought Chapter 11 bankruptcy protection.

The April 16 filing came less than a month after the chain began closing about half its retail and outlet stores. The company also replaced its chief executive with Kevin Regan, a director of PricewaterhouseCoopers and a former Jamesway Corp. executive.

As a small but growing chain selling brands such as Estee Lauder, Clinique and Elizabeth Arden -- typically found only behind glitzy department store counters -- Cosmetic Center had taken on a formidable foe, analysts said.

Department stores were losing dominance in areas such as furnishings and electronics and were not about to give up high-profit cosmetics.

Instead, said several analysts familiar with the industry, department store companies put pressure on manufacturers to discourage selling to discounters.

"This is a controlled industry, and the department stores really protect their turf on this," said Howard Davidowitz, chairman of Davidowitz & Associates Inc., a national retail consulting firm based in New York. "Cosmetics suppliers limit and control distribution very carefully."

Cosmetics manufacturers need department store display just as badly, said Burt Flickinger III, managing director of Reach Marketing, a marketing and retail consultant in Westport, Conn.

"Even if people don't buy their brand, it establishes them as prestige brands, having prominent placement and assortment in the department stores," he said.

For Cosmetic Center, the tug of war has made it difficult to get certain products on a regular basis, especially as the chain grew and needed more. Gradually, the stores began selling fewer upscale cosmetics and discontinued some lines altogether.

In Cosmetic Center's Timonium store, for instance, fragrances now fill much of the shelf space once devoted to higher-end cosmetics. A sign on the counter notifies customers that the chain has dropped Clinique and Estee Lauder color cosmetics.

Gone, too, from the shelves are Redken's salon-style hair-care products.

Meanwhile Cosmetic Center has faced growing competition from large drug chains and mass discounters such as Wal-Mart and Target, which also sell beauty supplies.

"The positioning of the company was the problem," Davidowitz said.

"There wasn't a compelling reason for the consumer to go. They ended up with the same type of products that you find in drug chains and in discount chains. Every drugstore in America is expanding cosmetics and beauty care."

"It was a neat concept as a small company," said Kenneth Gassman, a retail analyst with Davenport & Co. in Richmond, Va. "But it was one of those closely guarded gold mines that snowballed out of control."

The chain started in 1957 as a cosmetics wholesaler, founded by Louis Weinstein. Weinstein opened his first retail store in 1973, offering discounts by operating on the "gray market," a legal practice of buying excess merchandise from wholesalers.

By 1986, when the company first sold stock to the public, Weinstein was running a small chain of nine outlets.

By the early 1990s, as the chain's presence and marketing reach expanded, competitors began grousing to suppliers, Gassman recalled.

The chain's sales of salon-style hair care products came under attack by salons.

When several suppliers clamped down, Cosmetic Center agreed to buy directly from manufacturers and opened in-store hair salons in 1995. But only two manufacturers, Paul Mitchell and Nexus, agreed to sell their products in the new salons. Many were closed last year.

After Weinstein's death in July 1995, the chain foundered, analysts recalled. It began suffering losses and continued having difficulty getting some products.

In April, Cosmetic Center entered into a mismatched merger with Revlon Inc., the biggest U.S. maker of mass-market cosmetics. The Revlon merger seemed logical for both parties and was applauded by analysts at the time.

Revlon had been operating Prestige Fragrance & Cosmetics Inc. as a wholly owned retail subsidiary, with 197 stores in outlet malls nationwide that sold excess Revlon inventory. Ideally, the outlets and Cosmetic Center's retail store would merge into a single entity, enabling Revlon to take the Prestige chain public without going through the expense of an initial public offering on Wall Street, Gassman said.

Howard I. Diener, a former drugstore chain executive who had run Prestige for more than a year before the merger, became Cosmetic Center's new chief executive.

In August 1997, Cosmetic Center opened a new corporate headquarters in a converted manufacturing building in Columbia.

The future looked bright.

On its own, Prestige had been a successful, rapidly growing outlet chain. But merging a family business with an outlet business with different operating systems and real estate demands, "that was the beginning of the end," said Mark Millman, president of Lutherville-based Millman search Group, a national retail consulting firm. "It didn't go well. The integration was difficult."

In December, Revlon sold its 85 percent majority stake in Cosmetic Center to Prestige Holdings I, which is controlled by York Management Services Inc., a New Jersey-based investment and management company. Revlon took a loss on the sale of $32.7 million, or 64 cents per share.

The Chapter 11 petition, filed in U.S. Bankruptcy Court in Wilmington, Del., will enable the company to shed costly leases and return to profitability, said Wendi Kopsick, a Cosmetic Center spokeswoman.

"The filing was necessary due to the large number of underperforming stores [Cosmetic Center] is exiting," Kopsick said last week. The company still has the support of vendors, the ability to receive product shipments and new sources of financing from Revlon and BankBoston Retail Finance, she said.

Company executives refused to comment further. Regan said through Kopsick that it is too early to discuss his strategy for the chain, which has not reported a profit since 1995.

Now in bankruptcy, Cosmetic Center faces an uncertain future, analysts say.

Cosmetic Center needs to use its bankruptcy reorganization to get out of unprofitable locations as it closes stores, Flickinger said. He also believes that the chain needs to distance itself from mass discounters, target younger consumers and move in a big way into Internet sales. "A big part of the success will depend on branded suppliers giving them significant cooperation and marketing dollars," he said.

A turnaround would also require better stocked stores, a major new marketing campaign and store remodelings, Millman said.

"They need someone who can act and react quickly," he said, adding that Regan, who replaced former chief executive Betsy Burton, "must know what's got to get done. He doesn't have a lot of time. He might have the financing, but he has to start showing results."

Pub Date: 4/25/99