Ulta Beauty Inc (NASDAQ:ULTA) was the retailer that could do no wrong. It had a business that seemed insulated against the progress made by Amazon.com, Inc. (NASDAQ:AMZN) and it had comparable-store sales results that most companies would die for. So why then, is Ulta stock down about 35% from its 52-week high?
Home run after home run eventually leads to disappointment. At some point, analyst and investor expectations get so high that even great results aren’t good enough. Ulta seems be a victim of its own success.
Ulta reported quarterly results in mid-March, missing analysts’ earnings per share estimates and had in-line revenue results. The quarter wasn’t bad, but it failed to top analysts’ expectations. Worse, the company’s guidance for both earnings and revenue came up short.
Ouch.
Surprisingly, the stock initially rallied on these results, but just a few days later, here we are. Ulta stock is right back to where it was when the company reported its fiscal fourth-quarter results.
Valuing Ulta Stock
There are a lot of mixed signals with Ulta. The selloff in Ulta stock seems warranted and the reason is simple: it can no longer meet the lofty expectations it had set in the past. That doesn’t mean it’s a “junk stock” — not by any means. It just means it was overvalued last summer.
Last quarter, e-commerce sales surged 60% year-over-year, although it did benefit from a 53rd week in the quarter. Unfortunately though, merchandising margins decreased as part of the result. While that may be true, I will take a sub-1% decline in gross margins for the surge in e-commerce sales.
The company also expects operating margins to come under pressure in 2018, just as it did in 2017. What I see in Ulta is simple: the company is trying to shift investors’ focus from the bottom line to its future growth potential. Ulta clearly sees its potential, otherwise it wouldn’t be planning on opening 100 new locations and remodeling or relocating 17 of its locations in 2018.
From CEO Mary Dillon in the company’s press release:
“Looking ahead to 2018, we are deploying a portion of the tax reform benefits to invest in our people and accelerate investments to drive growth and innovation…We plan to increase operating profit margin rate over the long term, but this measure is expected to decline modestly in 2018.”
Growth is still solid, as management expects comp-store sales growth between 6% and 8% and low-teen sales growth for 2018. Further, as revenue expectations call for low-double-digit growth this year and next, earnings estimates call for 29.5% growth this year and 17.6% growth next year. That signals expanding profit margins.
From a fundamental perspective, Ulta stock is looking pretty attractive after this latest beatdown.
Trading ULTA Stock
In a nutshell, Ulta is one of the few retailers not only surviving AMZN, but thriving. A few others include Costco Wholesale Corporation (NASDAQ:COST) and Home Depot Inc (NYSE:HD). So what do we do with Ulta Beauty, Inc. at this point?
Ulta stock previously had a very high valuation. Given its robust growth, this made sense. However, the valuation is more reasonable after the stock’s recent decline. Ulta stock now trades at 19.3 times this year’s earnings estimates and just 16.4 times 2019 earnings estimates. That’s despite double-digit earnings and revenue growth over the next few years.
Above is a three-year weekly chart. No moving averages, money-flow measurements or complicated oscillators. Just simple price observations. A few years ago, $190 was resistance and it has since been support. While we didn’t know it at the time, in mid-2017, Ulta began a nasty downtrend (black line).
In order to be really bullish on Ulta, we need shares to close above this downtrend. However, investors feeling optimistic can buy Ulta stock near current levels and use a close below $190 as their sell signal. The valuation is reasonable and Ulta is one of the few retailers continuing to churn out strong results. If it can break through downtrend resistance, a run to $240 to $250 is in the cards.
Bret Kenwell is the manager and author of Future Blue Chips and is on Twitter @BretKenwell. As of this writing, Bret Kenwell held a position in HD.
