This was yet another outstanding quarter by ULTA – and the market was expecting every last bit of it. This capped off a banner year for ULTA, the best year in its history, and perhaps the best year it will have for another 3-4 years. EPS came in $6.68 vs the Street at $5.70 – and yes, the stock is trading down on the news, despite a 15.6% comp (in line with prior quarters). Sales productivity has blown through to new highs on the heels of a banner year for the beauty category, three major brand introductions, and a 5% price lift (which did not flow through to EBIT). Traffic data and credit card data both widely telegraphed the comp strength – but it did not capture the gross margin weakness from a rate of change perspective as competition heats up in this space. Gross margin was down 6bps for the quarter, which compares to +161bps in 3Q – not tragic, but rate of change is negative. And from this point forward – the past is the past – it’s all about rate of change from here. The company laps price increases in 2H of this year at the same time we expect the KSS/Sephora threat to be in full swing. To be clear, ULTA management are no dummies. They’re an ‘A’ management team (for retail), and one you don’t often want to bet against. They finally came out and ‘fessed up’ that the new normal in margins is 14-15% (it previously stuck to the 12-13% narrative). Unfortunately, ULTA just earned 16% in 2022. This company cares about market share – a lot. And it will defend that share till the bitter end. Between facing near-impossible comps in the category from the past two years, the Sephora threat at KSS, brands aggressively going direct-to-consumer, and lapping major brand introductions it’s almost a near certainty that we’ll see either a sharp comp deceleration in 2023, and/or pressured gross margins to defend share and drive the top line. Wages are higher, and the company even went so far on the call to highlight higher lighting costs in the stores. Any way we cut it, this P&L screams deceleration in 2023, at a time where it’s easily the most widely held ‘safety stock’ in the space. As we exit Quad 4 later this year, and expectations are rebased across ‘junkier’ retail, we’re likely to see meaningful multiple compression on a down year out of ULTA. This stock simply makes no sense to us above $500 – even $400. We’re modeling TAIL earnings of $25, compared to $24 in 2022, which marks a severe deceleration in the growth CAGR – and most of that growth is coming from a lower share count. We ‘get it’ that being short ULTA is a very counter consensus call. But we just don’t see a path for the P&L to take this stock higher from here. We think that a mid-teens multiple in a downward revision cycle is perfectly feasible, if not probable. We were early shorting this stock – and early means wrong. But we’re sticking with this short, and think it will start with a $3-handle over 12-18 months, with the stock currently trading down to $510. Needless to say, we’re sticking with this as a Best Idea Short.
For details on our competitive analysis around how ULTA stores comp down when a Sephora opens up next door at a Kohl’s, see our presentation from last month. Video Replay Link CLICK HERE
