Will Ulta Beauty Disappoint Investors With Its Holiday Quarter Results?

A woman has her hair washed.

Shareholders have two good reasons to pay attention to Ulta Beauty 's (NASDAQ: ULTA) fourth-quarter earnings report next week. The holiday period makes up a disproportionate amount of the retailer's annual sales and profits, for one. And second, it's possible that revenue growth slowed due to weakening demand in the cosmetics industry. The extent of that slowdown will determine whether Ulta projects a tough operating year ahead in 2018.

With that bigger picture in mind, let's look at a few trends investors will be watching in the report due out on Thursday, March 15.

Market share gains

Investors have so far seen only faint hints of challenges in the beauty products specialist's business. Comparable store sales improved by 10% in the most recent quarter, which is a number that most retailers would count as an impressive win.

In Ulta Beauty's case, though, the metric marked a slowdown from the prior quarter's 12% increase . The retailer needed a surprisingly strong contribution from its e-commerce sales channel to meet its growth target, too. Digital sales accounted for 3.7 percentage points of its 10% comps gain, compared to 3.4 percentage points in the prior quarter.

CEO Mary Dillon and her team still believe they'll reach the growth goal they set for the full year of between 10% and 11%. But if they miss that target, it's likely to be on the low side since the industry contracted over the holiday season. Supplier e.l.f. Beauty , for example, saw its sales growth pace plunge to 7% from 28% in the prior quarter. Still, even a weaker growth number would translate into market share gains for Ulta.

Steady profitability

Profit margin dipped by more than a full percentage point in the third quarter as management chose to cut prices in the volatile makeup segment that accounts for about 40% of its sales. They were happy with the results of those initiatives , which included rising market share in the niche and continued healthy customer traffic growth. The retailer also added to its huge base of loyalty members and managed an over 60% spike in online sales.

However, the price cuts forced Ulta to reduce its profit outlook, and executives are now calling for operating margin to hold steady in 2017 as opposed to the modest increase they had initially projected. That's why it will be interesting to see whether competition in the industry, or a faster shift toward online sales, lowered operating margin over the holiday season. If Ulta was able to keep its cuts confined to the makeup niche, that would count as a solid win for the business.

Can Ulta keep its growth pace going?

By late November the company had added nearly all the 100 new stores it targeted for 2017. That success meant it could take full advantage of the extra selling space during the critical holiday shopping period. Depending on how well the business fared over those weeks, management might need to shift its outlook for 2018 and for the longer term.

As of early December, Ulta had projected adding 100 more stores to the base in 2018 to take another big step toward the 1,700 locations they see the market supporting over time (up from about 1,100 today). Operating margin should climb to 15% of sales by 2019, from the 13% mark in 2016.

These figures are subject to change, but if they hold up they would translate into annual earnings growth of at least 20% in fiscal 2018 and 2019.

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Demitrios Kalogeropoulos has no position in any of the stocks mentioned. The Motley Fool recommends e.l.f. Beauty, Inc. and Ulta Beauty. The Motley Fool has a disclosure policy .

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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