Ulta Beauty Inc (ULTA) Stock Could Explode … Or Implode

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Ulta Beauty Inc (NASDAQ:ULTA) was a darling of the markets until it wasn’t. ULTA stock hit an all-time high of $314.86 in early June when the wheels fell off, sending it on a downward spiral that saw the cosmetics and skincare retailer lose more than a quarter of its value in a little more than two months.

Ulta Beauty Inc (ULTA) Stock Searches For Bottom

For anyone who’s counting, that’s $5.2 billion in market cap that Ulta lost.

It’s the first time the company’s loyal investors have seen a sniff of weakness over the past eight years — a stretch of time in which it had one down year, barely a blip of 1.8% in 2013, while producing seven up years with a minimum annual total return of 32%.

We, folks, are at a crossroad. What happens next determines whether the bottom is in or the slide continues into the $100s.

Ulta Beauty announces its second-quarter earnings Thursday, Aug. 24, after the markets close. While they’re expected to be good, any visible chink in the armor will hit ULTA stock hard.

Here’s what I’ll be looking for in its earnings report.

Same-Store Sales

Analysts in recent days have been lowering their expectations for Ulta Beauty as a result of perceived industry-wide difficulties for all participants, including one of its leaders. Stifel cut its 12-month target price by 17% to $270 on those fears.

Also, industry players feel Amazon.com, Inc. (NASDAQ:AMZN) is going to move further into the beauty market taking sales from Ulta Beauty both online and off. Personally, I believe it’s possible that Jeff Bezos & Co. could take some e-commerce market share from Ulta Beauty, but its unique in-store customer experience will keep customers coming in.

In last year’s second quarter, Ulta grew its retail and salon same-store sales by 12.6% on top of an 8.9% increase in Q2 2015. In Q1 2017, its same-store sales for retail and salon were up 10.9% and 9.9%, respectively.

Overall, including e-commerce, the company had same-store sales growth of 14.4% in Q2 2016. In May at the time of its Q1 2017 earnings release, Ulta Beauty upped its guidance for overall same-store sales growth in fiscal 2017 from a range of 8%-10% to 9%-11%.

Anything in the double digits will mean it’s still on plan.

E-Commerce

According to analysts following ULTA stock, this is where the rubber meets the road.

In the first quarter, Ulta Beauty’s e-commerce sales grew by 70.9% year-over-year to $104.3 million, or 7.9% of its overall revenue. In the second quarter a year ago, e-commerce sales were $55.9 million, and the year before that they were $36.1 million. That’s 189% growth over two years. Moreover, e-commerce sales in Q2 2015 were 3.4% of overall revenue; today, they represent more than double that.

In its full-year guidance in May, Ulta Beauty upped its e-commerce sales growth to 50% from the 40% number set at the beginning of the fiscal year.

I’d say anything above 40% should be considered a success given the perceived difficulties in the beauty marketplace at the moment.

Gross Margins

As department stores struggle to remain relevant in a retail world increasingly specialized, Ulta Beauty faces a war on two fronts.

First, it faces heavy promotional pricing from its department-store competitors eager to increase foot traffic at its stores. Second, it faces lower-priced competition from the likes of Amazon and other online retailers. The company walks a fine line between ignoring these competitive threats and leaving prices as they are or buying into the hysteria and cutting them.

Ulta Beauty has done a good job in the past two to three years of keeping gross margins around 36%. If it delivers a Q2 2017 gross margin within 100 basis points of that percentage, we’re good. Anything less than 35% suggests it is facing some pricing issues; anything above 37%, and its business is on fire.

Bottom Line on ULTA Stock

Analysts expect $1.78 in earnings per share in the second quarter, 24.5% higher than in the same quarter a year ago. The estimate hasn’t budged from 90 days ago, suggesting the 23 people covering Ulta are confident it will hit its estimate. In case you’re wondering, the whisper number is $1.81 per share.

Ulta Beauty’s valuation is a lot more reasonable today than it was two months ago. That said, ULTA stock still trades at 23.4 times its 2019 EPS projections of $9.89.

For me, the fact that the company hasn’t touched the surface when it comes to international expansion like Canada says the company’s growth story is very much intact despite the headwinds it might face.

If Ulta Beauty delivers another strong report, its stock is going to pop. On the other hand, if it’s nothing to write home about, shares will easily lose 10% in Friday’s trading.

I can’t tell you what to do, but if you like Ulta’s business model over the long haul as I do, you buy ULTA stock now and double down after earnings, regardless if that’s up or down.

But like I said, I can’t tell you what to do.

As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.

Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia.


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