It took over a year, but Ulta Beauty (NASDAQ:ULTA) is finally back to posting faster sales gains. The spa and beauty products retailer had plenty of good news for investors in its third-quarter earnings report, including that expansion pace increase. There were some parts of the announcement that were less well received by Wall Street, though, such as Ulta's plan to scale back on new store openings over the next few years.
CEO Mary Dillon and her executive team explained the reasoning behind the move in a conference call with analysts while detailing management's broader confidence in the business. Below are a few highlights from that presentation.
Succeeding where it counts
Ulta Beauty's strong performance in the third quarter reflects continued market share gains across all major categories, acceleration in our overall comp driven by healthy traffic, excellent new store productivity, and robust e-commerce growth.
-- CEO Mary Dillon
Ulta Beauty's 7.8% sales increase was close to the top end of the guidance that management issued three months ago and also represented the chain's first growth acceleration, quarter to quarter, since late 2017. A few positive trends combined to produce a healthier sales environment, including strong customer traffic and booming demand in the online sales channel.
The more important factor was a rebound in the prestige cosmetics niche, Ulta Beauty's biggest segment. Dillon said that management noticed "encouraging stabilization" in that part of the industry, which had been contracting for over a year. That recovery helped comparable-store sales improve to 8% from 6.5% in the prior quarter.
Expanding the store base
With increased confidence in the next several years of store growth, we narrowed our store target range to 1,500 to 1,700 and will slightly moderate new store openings in the next few years. We've planned to open 80 stores in 2019, 75 stores in 2020, and 70 stores in 2021. Moderation is planned in tandem with a greater focus on portfolio repositioning, as a large number of store leases are coming up for renewal in the next several years.
Ulta Beauty is happy with the economic returns from its latest crop of stores, and it opened 42 new locations in the third quarter to make it easily the biggest quarter of the year for launches. However, with roughly half of its sales growth coming from the online channel right now, which now represents 11% of sales, management is seeing good reasons to shift its expansion strategy toward digital and away from new physical stores.
To that end, Ulta plans to scale down the pace of new store openings from 100 this year to 80 in 2019 and 70 by 2021. Executives say there's still room for as many as 1,700 locations in the U.S., up from 1,200 today. But it will take more time to get to that long-term target under this more measured growth approach.
It took us longer than expected and we took deeper markdowns than expected to sell through the discontinued inventory to clean up our backrooms to get our stores ready for all the great new launches ahead of holiday.
--CFO Scott Settersten
The sales promotions that hurt profitability last quarter continued to pressure margins in the third quarter, and operating margin dropped to 10.8% of sales from 12.1% a year ago. But those initiatives have left Ulta Beauty in a strong inventory position heading into the holiday shopping season.
As a result, management affirmed all the key aspects of its 2018 outlook, with sales still expected to rise by about 8% as profitability shrinks slightly. Over the longer term, Ulta is projecting that revenue gains will moderate in 2019 through 2021 as operating margin marches steadily higher.