Great growth stocks can come in many forms. Growth investors often focus on the tech sector, and that's where you can find a lot of leading candidates. But often it's the stocks you find in unexpected places that offer the most attractive opportunities.
Take Ulta Beauty (ULTA -0.40%). It's a consumer goods company that markets beauty products. But it has grown to become one of the largest cosmetics companies in the U.S. and the largest specialty beauty retailer with $10.5 billion in trailing-12-month sales. It's growing and profitable, and it has plenty of room to run. Though the stock has more than doubled over the past three years, it can do it again. Here's why.
It reaches a broad cross-section of markets
Beauty companies are typically split into upscale and mass market, or department store versus drugstore. Twenty years ago, those were the main sources of beauty products. Some of that has been changing over the past few years. Smaller players have carved out a niche with a direct-to-consumer strategy, and more companies are going digital. But Ulta uses an omnichannel approach to offer 600 brands and 25,000 products that attract customers from the entire spectrum of beauty product lovers.
The company pays special attention to what it calls the "beauty enthusiast," the 66% of shoppers who account for 83% of beauty spending. Since these shoppers are enthusiastic about beauty and wellness, many of the other labels used to categorize shoppers, such as "upscale" or "cheap and chic," fall away. They may be open to trying both expensive and low-cost brands, depending on the product. With this understanding of the modern beauty shopper, Ulta has been able to capture an incredible amount of market share.
Another element of its differentiated model is that it offers in-store beauty services, such as hair care. This leads to a cycle of customer connection, engagement, loyalty, and revenue generation. The company has 41 million members in its loyalty program, and 95% of sales come from these "Ultamate reward" members.
It demonstrates profitable growth
With the exception of a brief period during the onset of the pandemic, Ulta has a long history of delivering robust profits. And earnings have increased dramatically since the pandemic began -- operating margin was 16.8% in the fiscal 2023 first quarter (ended April 29), and net income rose 5% year over year to $347 million. Revenue increased 12%.
That doesn't sound like a bad quarter, but Ulta shares tanked after the report. Operating margin declined from 18.7% in the year-ago quarter due to added expenses related to wages, investments, and marketing. Comparable-sales growth also decelerated year over year from 18.0% to 9.3%. After accounting for economic uncertainty, management lowered its outlook for full-year operating margin, even as it raised guidance for revenue.
Despite the bearish market reaction, operating margin is still higher than it was two years ago, and it's well ahead of the competition as you can see below.
Data by YCharts.
Something else to note is how much steadier Ulta's margin is through the seasonal cycle in comparison with these other brands.
Grab shares at this price
Ulta stock is down 3% in 2023 as of this writing, and it trades at a forward price-to-earnings ratio of 18. But it won't stay cheap for long.
It has gained 124% over the past three years, and there are still ample growth opportunities. Between higher customer engagement, new store openings, and market share gains in what the company estimates is a $104 billion market opportunity, Ulta stock could double again over the next three years.
