Ulta Beauty Affirms Its Outlook as Industry Growth Slows

Ulta Beauty (NASDAQ: ULTA) overcame weak traffic trends in the retailing industry -- and a pullback in its core makeup category -- to post solid third-quarter sales growth this week. The company also affirmed its aggressive full-year fiscal targets even though profitability ticked lower headed into the key holiday shopping season.

Here's a look at how the big-picture results stacked up against the prior-year period:

What happened this quarter?

Revenue growth held close to its recent 20% pace as Ulta sped up its store expansion, which made up for a slight drop in sales gains at existing locations.

Here are the key highlights of the quarter.

  • Comparable-store sales rose 10% to mark a deceleration from the prior quarter's 12% increase. That boost was made up of a healthy split between 6% higher customer traffic and a 4% boost in average spending per visit. Management estimated comps would have been 1 percentage point higher without the impact of hurricane closures.
  • E-commerce sales jumped 63% and contributed nearly 4 full percentage points to Ulta's overall comps gains.
  • Ulta added 48 new locations, including in major metro markets like New York City and Philadelphia, compared to 20 new stores opened in the second quarter.
  • Gross profit margin fell to 36.7% from 37.8% due to increased promotions.
  • Bottom-line profitability ticked up to 7.8% of sales from 7.7% last year as lower tax payments offset the decline in gross profit margin.

What management had to say

Management highlighted Ulta's steady performance during a difficult time for the retailing industry. "Our third quarter results clearly demonstrate the strength and distinct advantages of the Ulta Beauty business model," CEO Mary Dillon said. "We delivered double digit comparable sales growth, in spite of a moderation in the growth rate of our largest category -- makeup -- and meaningful disruption from hurricanes," Dillon continued.

That flexible model allowed the company to expand market share by shifting toward higher-growth niches. "We ... benefited from the unmatched breadth of beauty categories and products we offer," Dillon explained. "These levers allowed us to drive significant share gains, continue to rapidly grow our base of loyalty members, and thrive amid shifting category trends within the beauty industry."

Looking forward

Executives forecast a challenging fourth quarter as the company goes up against a prior-year period that delivered a 17% spike in comps. That difficult comparison should lead to weaker numbers this time around, with comps likely to rise by 8% to 10%.

Management still believes it will hit the core fiscal targets it had most recently raised in late August, though. Comps are predicted to rise between 10% and 11% for the full year thanks in part to a 55% increase in digital sales. Ulta is on track to reach its goal of opening 100 new stores in 2017, on the way toward the 1,700 locations the U.S. market might eventually support. The retailer should have about 1,100 stores in operation by the close of the year.

Meanwhile, the profitability decline this quarter suggests Ulta's long-term goal of achieving a 15% operating margin might take longer to reach than investors had hoped. That figure has held at just over 13% so far this year as management responds to weakening demand trends in a few of its biggest product niches. Yet that's a financial trade-off that executives will be happy to make, since it keeps Ulta's market share rising despite sluggish industry growth.

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Demitrios Kalogeropoulos has no position in any of the stocks mentioned. The Motley Fool recommends Ulta Beauty. The Motley Fool has a disclosure policy.