Ulta Beauty (ULTA 1.53%), a leading cosmetics and skin care retailer in the U.S., saw its stock get pummeled in the wake of second-quarter results in August that missed estimates. Although net sales rose 12% and net income increased 9%, investors were disappointed that the company also lowered its guidance. After the Aug. 30 quarterly report ULTA shares dropped 30% immediately, and still haven't recovered.

The stock continues to struggle in the face of slowing cosmetics growth. But the sell-off is overdone considering the company's leadership position within the industry and its strategy.

Woman choosing cosmetics

Image source: Getty Images.

Ulta's grassroots approach to beauty in the age of selfies

Ulta operates about 1,200 stores offering cosmetics, skin care, and salon services to customers looking for both drugstore and premium brands under the same roof. Its stores are in high traffic locations outside of malls and are popular with all demographics.

The company emphasizes the customer experience, offering everything from custom beauty advice to self-service. When customers visit to replenish basics, they are introduced to ever-changing new lines, imparting a treasure hunt feel to a routine visit.

Ulta has built an impressive customer and loyalty reward program with 30 million members each spending an average of $200 per year, according to Coresight Research. It rewards customers with promotions, gifts with purchases, and in-store experiences that keep them coming back.

It has become the hot spot for celebrity makeup and skin care launches, such as the hit Kylie Cosmetics and top skin-care brand Kiehl's. Being the source of everyday basics and the hottest new brands has put Ulta ahead of its main competitor, LVMH's Sephora, which concentrates on high-end exclusive brands.

Amazon.com is not really a threat, as matching skin tones with makeup is a task best accomplished in person. In fact, Piper Jaffray's Generation Z survey found 90% of teens prefer to shop for beauty in-store rather than online, and consider Ulta their first choice.

The makeup market is slowing currently, as a more-natural look is coming into vogue. But the natural look requires great skin, and the skin care market is growing. Ulta anticipated the shift in consumer staples and has been making investments to expand skin care products and services.

Other investments have included expansion of its digital footprint with acquisitions in artificial intelligence (AI) customer analytics and augmented reality online tools to personalize shopping.

Accurate anticipation is Ulta's secret to growth

After second-quarter 2019 results missed estimates, Ulta reduced guidance for the year based on slowing high-margin cosmetic sales and investment costs in technology.

"It has become apparent to us that we will not see the improvement we had expected in prestige makeup, and we will likely also see moderation in the mass makeup sales trend," CFO Scott Settersten said in August. "As a result, we have lowered our sales and gross margin expectations for the second half of the year." 

But its excellent management team continues to anticipate changes and has not been caught on the wrong foot. CEO Mary Dillon has laid the groundwork for growth by developing a massive customer base, a wide range of products and services, and investments in AI-driven customer analytics and up-to-the-minute e-commerce experiences.

Wall Street expects stock price gains with a mean 12-month target price estimate of $300 from 19 analysts. The stock currently trades at $234, a price not seen since 2016.

Ulta Beauty is the market leader with strategic plans that make sense. For long-term investors, this is an attractive buy, as the stock price is not reflecting Ulta's dominance and agile response to temporary growth issues.