Ulta Beauty To Gain On Omnichannel Growth Amid High Costs

Ulta Beauty Inc. (NASDAQ:ULTA) is riding well on its robust loyalty program, solid mix of beauty products and favorable omnichannel capabilities. However, the company has been witnessing soft operating margin for a while due to higher expenses. Adding to the woes, management issued bleak guidance for the fiscal fourth quarter.

Shares of this Zacks Rank #3 (Hold) company have gained 14.3% in the past six months, against the industry’s decline of 4.8%. Let’s delve deeper.

A Brief Introspection

Ulta Beauty’s goodwill and the fact that it remains unaffected by the Amazon (NASDAQ:AMZN) dominated market stem from the company’s ability to strike the right chord between physical and online store sales. Notably, the company registered e-commerce sales growth of 42.5% in third-quarter fiscal 2018, which reflects about 340 basis points (bps) of the total comps growth. The uptick was driven by about 36% rise in traffic and 44% growth in mobile traffic. For fiscal 2018, management anticipates e-commerce sales to grow in the 40% range. Also, Ulta Beauty opened 42 stores and closed three in the fiscal third quarter. The company earlier announced plans to open 100 stores, and remodel or relocate 15 outlets in fiscal 2018.

Further, Ulta Beauty’s loyalty program serves as one of the major sales growth drivers. Notably, sales from the loyalty members represented nearly 95% of the company’s total revenues in third-quarter fiscal 2018. Further, the company’s Ultamate Rewards loyalty program had 30.6 million active members at the end of the last reported quarter, up 15.3% year over year. This growth is fueled by the company’s marketing and merchandising endeavors as well as improved store productivity and e-commerce. The company is expected to continue this momentum, backed by the addition of brands, maturation of loyalty members, gains from Platinum and Diamond Tiers, and higher penetration of the credit card program. Sales from gift card, credit card and loyalty programs are expected to remain sturdy and boost the company’s top line.

Additionally, Ulta Beauty boasts a solid mix of beauty products it offers. The company’s stores are a one stop shop for beauty enthusiasts, featuring prestige and discount beauty brands along with salon products and services, all under one roof. This business model, which focuses on “All Things Beauty, All in One Place”, makes Ulta Beauty a go-to destination for cosmetics and beauty product lovers. Further, the company remains keen on enhancing beauty product offerings, while improving store traffic with superior services. The company’s recent partnership with Kylie Cosmetics is expected to aid results in fiscal 2018.

Will High Costs be Offset?

Ulta Beauty has been grappling with soft operating margins for the last few quarters now. In third-quarter fiscal 2018, operating margin contracted 130 bps due to rise of 140 bps in SG&A expenses as percentage of sales. This marked the company’s fifth straight quarter of operating margin decline. Further, this trend is likely to continue in fiscal 2018. Management earlier projected operating margin to decline 50-70 bps in fiscal 2018, which might hurt the company’s profitability.

Nevertheless, we believe that the above-mentioned strategies will help offset the hurdles and boost growth for the company.

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