Business Overview

Ulta Beauty is the largest specialty beauty retailer in the United States and the premier beauty destination for cosmetics, fragrance, skin care products, hair care products, and salon services.

Founded in 1990 as a beauty retailer at a time when prestige, mass, and salon products were sold through distinct channels — department stores for prestige products; drug stores and mass merchandisers for mass products; and salons and authorized retail outlets for professional hair care products.

Ulta Beauty reinvented the beauty retail experience by introducing a unique and innovative concept that transformed the industry. They revolutionized the traditional model by combining three separate channels into one comprehensive destination:

1. Prestige products sold in department stores,

2. Mass products in drug stores and mass merchandisers

3. Professional hair care products in salons and authorized retail outlets.

Here are some key ways in which Ulta Beauty reinvented the beauty retail experience:

• Broad Range of Brands and Price Points: Ulta Beauty offers an extensive selection of beauty products from both high-end and affordable brands, catering to a diverse range of customers. They provide a wide range of price points, allowing customers to find products that suit their budgets and preferences.

• Select Beauty Services: In addition to selling beauty products, Ulta Beauty provides select beauty services within their stores. Customers can enjoy salon services such as haircuts, styling, facials, and makeup application, enhancing their overall shopping experience and convenience.

• Convenient and Welcoming Environment: Ulta Beauty stores are designed to be inviting and accessible, creating a comfortable and enjoyable shopping atmosphere. Their stores are typically spacious and well-organized, making it easy for customers to navigate and find the products they need.

• Targeting Beauty Enthusiasts: Ulta Beauty focuses on catering to beauty enthusiasts, individuals who are passionate about the beauty category and view it as a means of self-expression and self-investment. By understanding the needs and preferences of this target consumer group, Ulta Beauty curates their product offerings and services to meet their high expectations.

Overall, Ulta Beauty's reinvention of the beauty retail experience has brought together a diverse range of products, services, and an inviting environment under one roof. This approach has resonated with beauty enthusiasts and customers seeking a comprehensive and enjoyable shopping experience.

The target customer of Ulta Beauty are “Beauty Enthusiasts”:

Here are some key aspects of Ulta Beauty's value proposition:

The revenue segments for Ulta Beauty, Inc. are as follows: 

• Cosmetics

• Haircare Products and Styling Tools

• Skincare

• Fragrance and Bath

• Services

• Accessories and Other Revenue

Revenue breakdown:

Industry

$ULTA operates within the large and growing U.S. beauty products and salon services industry.

In 2022, the beauty products industry totaled approximately $104 billion and included cosmetics, haircare, fragrance, bath and body, skincare, salon styling tools, and other toiletries. Ulta Beauty estimates that they had only a 9% share of the $104 billion beauty product industry. Within this market, $ULTA competes across all major categories as well as a range of price points by offering prestige, mass, and salon products.

In 2022, the salon services industry totaled approximately $68 billion and included hair, skin, and nail services. Ulta Beauty estimates that they had less than 1% share of this industry. $ULTA have full-service hair salons in substantially every store and operate brow bars in most stores, as well as makeup services through salons. $ULTA also offers skin services in approximately 150 locations.

Tailwinds

U.S. beauty & personal care products market is forecasted to keep on growing:

U.S. cosmetics market is also forecasted to keep on growing:

With a forecasted continuation of growth, Ulta Beauty is well-positioned to capitalize on this upward trajectory.

International expansion is also a potential growth catalyst for Ulta Beauty. In fact, in fiscal 2019, the company announced plans to expand internationally with an initial launch into Canada.

Unfortunately, planned expansion was suspended because of Covid.

Suspension of Canadian expansion:

In fiscal 2019, the Company announced plans to expand internationally with an initial launch into Canada. The Company continues to believe international markets provide a long-term growth opportunity. However, as a result of the COVID-19 pandemic, in September 2020 the Company decided to prioritize growth of its U.S. operations and suspended its planned expansion to Canada. Investments to support the expansion into Canada were limited to early-stage infrastructure buildout and lease obligations for a small number of stores. Impairment, restructuring and other costs related to suspension of the Canada expansion were recognized in fiscal 2020.

Competitive Advantages

One-of-a-kind Assortment

Ulta Beauty offers an extensive selection of beauty products, including makeup, skincare, haircare, fragrances, and more. However, what truly sets it apart is the inclusion of both high-end prestige brands and affordable drugstore options under one roof.

This unique approach creates a shopping experience that caters to customers of all budgets and preferences. Whether you're a beauty enthusiast looking for luxury brands like MAC, Urban Decay, or Chanel, or a budget-conscious shopper searching for drugstore staples like Maybelline, L'Oréal, or NYX, Ulta Beauty has it all. This diverse range of products gives customers the freedom to explore different options and discover new favorites, regardless of their budget.

Moreover, Ulta Beauty has its own private label brand, which adds another dimension to its assortment.

The Omni-Channel Approach

In a digital age, adapting and excelling in the online realm is essential. Ulta Beauty has successfully integrated its physical and digital channels to create a seamless shopping experience. Their robust e-commerce platform allows customers to browse and purchase products online, access reviews and tutorials, and even book salon appointments. This omnichannel strategy offers convenience and flexibility, catering to the diverse needs of modern consumers.

Services

Ulta Beauty stands out with its exceptional services. From their salon offerings like hair, skin, and nail treatments to personalized beauty consultations and engaging events, Ulta Beauty provides a comprehensive and customer-centric experience that sets them apart in the beauty industry.

Best-in-Class Loyalty Program

Ulta Beauty has gained a significant competitive advantage in the beauty industry through its exceptional loyalty program, Ultamate Rewards. This program has revolutionized the way customers engage with the brand, fostering a sense of loyalty and providing unique benefits that keep them coming back for more.

One of the key features of Ultamate Rewards is the ability for customers to earn points on their purchases. For every dollar spent at Ulta Beauty, members receive points that accumulate over time. These points can later be redeemed for discounts on future purchases, offering tangible rewards that incentivize continued shopping. This system not only adds value for customers but also creates a strong incentive to choose Ulta Beauty as their go-to beauty retailer.

Moreover, Ultamate Rewards goes beyond simple points accumulation. The program offers members exclusive perks and benefits that enhance the overall shopping experience. For example, members receive special birthday gifts, access to exclusive sales and promotions, and early access to new product launches. These personalized benefits make customers feel appreciated and valued, strengthening their connection to the brand and encouraging repeat visits.

Ulta Beauty has also taken steps to enhance the digital experience for Ultamate Rewards members. The brand's mobile app provides a seamless way to track points, access personalized offers, and easily shop for products. The app also sends targeted notifications and reminders, ensuring that members stay engaged and up-to-date with the latest rewards and promotions. This digital integration further enhances the convenience and accessibility of the loyalty program, making it even more attractive to customers.

Furthermore, Ultamate Rewards offers tiered membership levels that unlock additional benefits as customers spend more and reach higher spending thresholds. These tiers, such as Platinum and Diamond, provide exclusive rewards, such as enhanced point multipliers, free shipping, and priority customer service. The tiered system adds a sense of achievement and progression for members, incentivizing them to reach higher levels and enjoy greater perks along the way.

Track Record

Successfully grew Revenue, Net Income and Free Cash Flow for the last 10 years:

And on a per share basis, company successfully grew Revenue Per Share, Earnings Per Share and Free Cash Flow Per Share for the last 10 years:

High return on capital:

Balance Sheet

Despite the fact that the Total Debt surpasses Total Cash and Short Term Investments, the overall balance sheet remains in good health.

Risks

• Competition: Ulta Beauty operates in a highly competitive industry with numerous competitors, including both traditional retailers and e-commerce platforms. Increased competition can lead to a loss of market share, reduced pricing power, and decreased profitability.

• Economic Factors: Economic downturns or weak consumer spending can impact the beauty industry as consumers may cut back on discretionary purchases like cosmetics and beauty products. A decline in consumer confidence and purchasing power could affect Ulta Beauty's sales and profitability.

• Changing Consumer Preferences: Beauty trends and consumer preferences can change rapidly, and Ulta Beauty needs to stay attuned to these shifts. Failure to adapt to changing consumer demands or anticipate new trends could result in decreased sales and a loss of market share.

• Supplier Relationships: Ulta Beauty relies on a network of suppliers to provide products for its stores. Any disruption in the supply chain, such as a failure to secure adequate inventory, delays in delivery, or quality control issues, could negatively impact the company's operations and customer satisfaction.

• Inventory Shrink: Ulta Beauty's financial condition and operational performance could be negatively impacted if they are unable to effectively protect against inventory shrink. Inventory shrink, which includes damage, theft, and other causes, is a common risk in the retail industry.

Forecast

Sales, Net Income, EPS and Free Cash Flow are all forecasted to keep on growing:

Here’s the forward valuation multiples of Ulta Beauty:

Valuation

Recently, shares of $ULTA experienced a sell-off after the company’s latest earnings report because of their forward guidance. Company reduced its operating margin guidance from the range of 14.7%-15% to 14.5%-14.8%, citing the rising number of theft and organized crime.

The sell-off helped further bring down the valuation of Ulta Beauty.

Both LTM and NTM P/E are below the 5-year average:

LTM and NTM P/E are also below the 10-year average:

According to full:ratio website, the P/E (LTM) of Specialty Retail industry is 14x which means $ULTA is trading at a premium compared to the industry.

Ulta Beauty’s free cash flow yields also looks attractive.

It’s closer to the 5-year highs:

And it’s higher compared to the 5-year and 10-year treasury yields:

DCF (5 years)

Using a 10% discount rate, 4.7% free cash flow growth rate (analyst estimates) and a 2% terminal growth rate:

Reverse DCF (5 years)

A 26.5% Free Cash Flow growth rate needs to be achieved to justify the current share price of $ULTA:

Means the current share price is too overvalued when using the free cash flow forecast (analyst estimates) for the next 5 years.

Technical Analysis

On the weekly chart, RSI is near the oversold level and the price is at the SMA 100 (blue line) which can act as a support. In year 2022, every time the price goes near the SMA 100, the price bounced upwards significantly:

I think there’s a good probability that the price will bounce upwards again this time.

Conclusion

Even though the current share price ($422.40) is overvalued according to the DCF and Reverse DCF calculations, considering Ulta Beauty is a:

• High quality business that is forecasted to keep on growing.

• Has industry tailwinds.

• Its LTM and NTM P/E are trading at a discount compared to its 5-year and 10-year averages.

• Free cash flow yields looks attractive.

…In my opinion, $ULTA is a “Reasonable Buy”.

If I will buy shares of $ULTA at the current share price, it will only be for a starter position. And I’ll accumulate more shares later if ever the price keeps on dropping significantly until I reach the maximum position size (percentage of the whole portfolio) I’m willing to allocate in a single stock.

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