An increasing focus on innovation could boost Ulta Beauty (ULTA, Financial)'s stock price. Recent acquisitions could increase its exposure to artificial intelligence and augmented reality technologies. Alongside a number of partnerships, they could allow it to build an innovation ecosystem.
A more efficient supply chain could improve margins. Increased investment in its loyalty program may further boost customer loyalty. Although its valuation is relatively high, further new store openings and an increasingly innovative customer experience could improve its financial outlook.
Having risen 14% in the last year versus a 1% fall for the S&P 500, the stock could still offer investment appeal.
Innovation
The company’s continued focus on innovation could boost its financial prospects. It is seeking to build an innovation ecosystem which includes a number of partnerships and acquisitions. It has invested in a strategic partnership with Iterate, which will track trends, provide research and curate technology partnership opportunities. It enables rapid prototyping and provides access to relevant start-ups.
The company is also focused on increasing its internal capabilities. The acquisitions of GlamST and QM Scientific could accelerate this process. The two companies offer development potential within its mobile app and artificial intelligence capabilities, respectively. Bringing those capabilities in-house could allow the company to develop its augmented reality capacity at a faster pace.
Ulta Beauty is also testing a new salon appointment booking tool in partnership with technology company Spruce. The aim is to speed up the process of booking appointments, which could improve customer satisfaction and increase guest engagement. The booking tool is due to be rolled out during 2019.
Skin bars have also proved popular with customers, with the format now being in 174 stores. Multi-branded skin bars, which feature a variety of the company’s partners, are expected to be included in 50 stores by the year end.
Strategy
The company’s Ultimate Rewards loyalty program recorded a 15.3% year-over-year increase in membership in the most recent quarter. This takes its number of active members to 30.6 million, with sales from loyalty members now representing over 95% of revenue. Its retention rates among diamond and platinum level loyalty members is 96%, with the company experiencing high levels of engagement from both groups. An increasing focus on personalization is ahead, with the company seeking to grow its share of wallet. It is aiming to develop a closer connection to its customers in order to improve brand loyalty.
Improvements to the company’s supply chain could create a more efficient business model. Its newest online distribution center at Fresno is ramping up, while it is reducing activity in other distribution centers ahead of planned closures next year. It is also launching a stock keeping unit (SKU) rationalization project. This is part of an aim to have the entire supply chain on a common operating model, with improved markdown tools and better inventory visibility set to be introduced.
Risks
The company is set to scale back its store expansion efforts over the next few years. It now expects to open 80 locations in 2019 and 75 in 2020. This is down from store openings of 100 per annum in the previous two years. This comes at a time when the company’s operating margin in the most recent quarter declined 130 basis points to 12.1% when compared to the same period of the previous year. A price-earnings ratio of 23 could indicate that investors have priced in the 9% per annum earnings growth that is forecast over the next two fiscal years.
Ulta Beauty still expects to increase the size of its store estate from 1,163 stores to between 1,500 and 1,700 stores over the next few years. It is moderating its store-opening plans in order to provide a greater focus on portfolio repositioning and a higher rate of earnings growth over the long run. Its lower margin in the third quarter was largely due to a clearance event that took longer than expected and included deeper markdowns than anticipated. This provided the company with the capacity required in order to move ahead with new launches ahead of the holiday season.
Outlook
An increasing focus on innovation could enhance Ulta Beauty’s financial prospects. It is aiming to utilize partnerships and acquisitions in order to build an innovation ecosystem that could provide it with increasing exposure to augmented reality, artificial intelligence and improved mobile opportunities. New experiences such as its skin bar continue to be rolled-out across its store estate and could further enhance customer loyalty.
The company’s supply chain is set to become increasingly efficient. New store openings could catalyze its earnings growth rate, while increased investment in its popular loyalty program may increase engagement and customer retention rates. Having outperformed the S&P 500 in the last year, further capital growth could be ahead.
