Business context and reporting period
Ulta Salon, Cosmetics & Fragrance, Inc. operates beauty retail stores, salons and an e-commerce business. The filing covers the 13 and 26 weeks ended August 3, 2013, compared with periods ended July 28, 2012; despite the request metadata, this is fiscal 2013 Q2, not 2012 Q2. Ulta operated 609 stores in 46 states, versus 489 a year earlier.
Financial performance and liquidity
- Q2 revenue: $601.0 million, up 24.8%. Comparable sales rose 8.4%: retail and salon comparable sales increased 7.1%, while e-commerce comparable sales increased 72.1%.
- Q2 earnings: Gross profit was $212.1 million, operating income $72.9 million, and net income $44.9 million, up 28.3%. Diluted EPS was $0.70 versus $0.54.
- Q2 margins: Gross margin was 35.3% versus 34.8%; operating margin 12.1% versus 11.9%; net margin 7.5% versus 7.3%.
- First-half results: Revenue was $1,183.7 million, up 23.8%; net income was $86.7 million, up 24.1%; diluted EPS was $1.35 versus $1.09. Comparable sales increased 7.6%.
- First-half margins: Gross margin declined to 35.1% from 35.4%; operating margin was 11.9% versus 12.0%; net margin was 7.3% in both periods.
- Cash flow: First-half operating cash flow was $84.5 million, versus $36.2 million. Capital expenditures were $98.0 million, versus $71.3 million; cash declined $34.3 million to $286.2 million.
- Balance sheet and debt: At August 3, cash was $286.2 million, inventory $461.2 million, current assets $846.8 million, current liabilities $232.7 million, and total assets $1,392.0 million. No credit-facility borrowings were outstanding; the company reported covenant compliance. The revolving facility provides up to the lesser of $200 million or a borrowing-base amount tied to eligible inventory.
Material changes and management commentary
- Quarterly sales growth reflected $79.7 million of non-comparable-store sales and $39.6 million of comparable-store growth. Traffic rose 1.5% and average ticket 6.9% in Q2.
- Q2 gross-margin expansion was attributed to improved merchandise margins and leverage in fixed store costs. First-half gross-margin contraction reflected merchandise-margin deleverage, partly offset by fixed-cost leverage.
- SG&A rose 26.7% in Q2 and increased to 22.4% of sales from 22.0%, attributed to prestige-brand boutiques and store-labor investment. First-half SG&A as a share of sales improved slightly, to 22.6% from 22.7%.
- Ulta opened 33 stores in Q2 and 61 in the first half. Inventory was $461.2 million, up $144.5 million from a year earlier; management cited store growth, prestige-boutique inventory, new brands and e-commerce fulfillment expansion.
- The company repurchased 500,500 shares for $37.3 million in the first half, averaging $74.58 per share. $112.7 million remained under its $150 million authorization at August 3.
Outlook, risks and contingencies
- Management’s long-term annual net-income growth target is 25%–30%, based on comparable-sales growth of 4%–6%; this is a target, not a specific fiscal 2013 earnings forecast.
- Management expected e-commerce growth to moderate in the second half, citing a planned website redesign and tougher comparisons. It noted holiday-season seasonality and cautioned that interim results may not indicate full-year performance.
- Management expected cash, operating cash flow and available credit to meet working-capital, capital-expenditure and other liquidity needs for at least 12 months. Cash needs include store expansion, inventory, supply-chain and technology investments.
- Disclosed risks include consumer-spending weakness, competition, product-cost changes, execution and resource demands from store growth, distribution capacity, information-system disruption, weather and retaining key executives. The company reported no material change to previously disclosed risk factors.
- A putative California employment class action alleges labor-law violations concerning breaks, wages and overtime; Ulta denies the allegations and is defending the case. Management said liabilities from this and other proceedings were not expected to be material.
- Management stated disclosure controls were effective and reported no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether comparable-sales growth and the long-term 25%–30% net-income growth target remain achievable as e-commerce growth moderates.
- Whether inventory growth, store openings and capital expenditures convert into sales and operating cash flow without pressuring margins or liquidity.
- How the website redesign affects e-commerce sales and fulfillment, and whether the planned transition causes disruption.
- Remaining repurchase authorization, execution price and cash allocation relative to expansion needs.
- Any developments in the California employment litigation and the terms or availability of the asset-backed credit facility.