Ulta Beauty, Inc. (NASDAQ:ULTA) Q2 2019 Results Earnings Conference Call August 29, 2019 5:00 PM ET
Kiley Rawlins - VP, IR
Mary Dillon - CEO
Scott Settersten - CFO
Dave Kimbell - Chief Merchandising and Marketing Officer
Conference Call Participants
Steph Wissink - Jefferies
Erinn Murphy - Piper Jaffray
Steven Forbes - Guggenheim Securities
Simeon Gutman - Morgan Stanley
Rupesh Parikh - Oppenheimer Co
Beth Kite - Citi
Christopher Horvers - JPMorgan
Mark Altschwager - Baird
Michael Goldsmith - UBS
Ike Boruchow - Wells Fargo
Dana Telsey - Telsey Advisory Group
Greetings and welcome to the Ulta Beauty Second Quarter 2019 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded.
It is now my pleasure to introduce your host, Ms. Kiley Rawlins, Vice President Investor Relations. Please proceed.
Thanks Ben. Good afternoon everyone and thank you for joining us today for Ulta Beauty's second quarter earnings conference call. Hosting today's call are Mary Dillon, Chief Executive Officer and Scott Settersten, Chief Financial Officer, Dave Kimbell, President and Chief Merchandising and Marketing Officer is also with us today.
This afternoon we released our financial results for the second quarter of fiscal 2019. A copy of the press release is available in the Investor Relations section of our website at www.ulta.com.
Before we begin, I'd like to remind you of the company safe harbor language. The statements contained in this conference call which are not historical facts, may be deemed to constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.
Actual future results may differ materially from those projected in such statements due to a number of risks and uncertainties, all of which are described in the company's filings with the SEC. We caution you not to place undo reliance on this forward-looking statement which speaks only as of today, August 29, 2019.
We have no obligation to update or revise our forward-looking statement except as required by law and you should not expect us to do so. Please note that in our comments today we will reference non-GAAP earnings growth adjusted for the impact of income tax benefits in the second quarter of 2019 and the second quarter of fiscal 2018.
We'll begin this morning – this afternoon with prepared remarks from Mary and Scott, following our prepared comments we will open the call for questions, to allow us to accommodate as many of you as possible during the hour scheduled for this call, we ask that you ask one question only during the Q&A session.
Now, I'll turn the call over to Mary. Mary?
Thank you, Kiley, and good afternoon everyone. The Ulta Beauty team delivered another quarter of solid top line performance, gross margin expansion and double-digit earnings growth.
To recap our financial performance for the quarter, total sales grew 12%, comp store sales increased 6.2% on top of 6.5% growth in the second quarter of last year. Gross margin extended by 40 basis points and diluted earnings per share excluding the tax benefit increased 11.5%.
Looking forward however, we've adjusted our expectations for the second half of 2019 to reflect the headwinds and volatility we're currently seeing in the U.S. cosmetics market. We'll share more with you how we're thinking about the current sales environment.
But let me reiterate. Our differentiated model is winning in the marketplace and we continue to invest in building the long-term capabilities that will further extend our leadership position in the dynamic beauty industry.
Year to-date, we've continue to expand our market share across most categories; increase our brand awareness, delivered double-digit growth in active loyalty members, increased traffic and delivered double-digit growth in almost every key merchandise category.
I will also add that our salon business is showing real comp strength as we're executing on our optimization strategies. That said, the cosmetics category at Ulta which is roughly 50% of our business and one of our highest margin categories has only delivered in the low single-digit growth year-to-date, well outperforming the market but below our expectations.
So, let me explain more. Ulta Beauty continues to drive meaningful market share growth in makeup across mass and prestige. But it's clear that cosmetics and the overall U.S. market is challenged. After several years of very strong performance, growth in the makeup category has been decelerating over the last two years, but recently turned negative.
Based on the least track data, the cosmetics category in the total U.S. market has experienced mid single-digit declines to the first six months of 2019 and has been more volatile in recent weeks.
Notably, when we look at sales growth by brand, we see that most of the top brands across both mass and prestige are negative year to-date. We'd expected this trend to stabilize and improve as we move to 2019, but we now believe that the softness we've seen so far in 2019 will continue to the remainder of the year.
We believe that the main issue driving this softer cycle in cosmetics is that the newness and innovation that have been the focus of most brands this year has just not driven the kind of incremental growth we've enjoyed for some period of time.
Over the past several years, we've seen strong growth in cosmetics driven by new rituals and application techniques, like contouring and brow styling, and innovative new product formats like liquid lip, palettes and minis. This innovation resulted in new makeup routines requiring new products which drove strong incremental growth.
The most recent cycle of innovation has just not driven those behaviors resulting in a soft cycle for the cosmetics category in the U.S. as innovation and newness price the market has not driven the expected growth.
By contrast, as I mentioned earlier, we're seeing very strong growth in every other categories. In the case of skin care category and brand innovation is driving new rituals and incremental purchases, thus driving strong comp. And we're continuing to drive market share gains in the category, but of course skin care is a smaller part of the business.
We believe the industry-wide challenges in the makeup category will continue in the near-term and as a result we've adjusted our outlook for the rest of 2019 to reflect ongoing volatility in the category.
Leveraging our guest insights, we are working very closely with all of our brand partners to ensure that the innovation pipeline pivot to more exciting and incremental innovation. We are optimistic that cosmetics category in the U.S. market will move back to growth, but we need more time to move through this innovation cycle.
In the meantime, our team is laser focused on the exceptional execution in guest experience that we know our team delivers in-store and online. We'll continue to build on our momentum in non-makeup categories, while we work to stabilize growth in makeup categories.
To that end, we have a number of exciting new and exclusive product launches planned for the second half which I'll discuss in more detail in a little bit. Despite the near-term headwinds we remained confident that are differentiated and diverse business model, our commitment to our strategic investments and our highly engaged associates will continue to drive market share gains and deliver strong returns for shareholders.
Let me give you now an update on the progress we've made this year on our strategic imperatives. Our first strategic imperative is to drive growth across beauty enthusiast segment and we're making good progress.
Reflecting data for the February through July period, Ulta Beauty now represents 24.5% of the prestige beauty market as tracked by NPD, an increase of 210 basis points from a year ago. We continue to expand our brick-and-mortar footprint.
In the second quarter, we opened 17 net new stores, relocated four stores and remodel eight stores compared to 19 net new stores, one relocation and seven remodels in the second quarter of last year, ending the quarter with 1213 stores. New store productivity remains strong with first year sales trending ahead of plan and we remain on track to open 80 stores this year.
Now turning to our second imperative to deepen love and loyalty for the Ulta Beauty brand, our brand awareness continues to grow and our possibilities of beautiful campaign and inclusive positioning have been very well received and very effective as measured by our marketing analytics tools.
Unaided awareness grew 5.56% compared to the same period a year ago and our aided awareness increased to 91% from 90%. Importantly, we continue to strengthen our connection with consumers across the spectrum including the increasingly influential Gen Z segment where we've been recognized as a leader among beauty retailers.
Guests also continue to respond well to the compelling combination of our loyalty, credit card and gift card programs resulting in double-digit growth in all three programs for the second quarter.
Our Ultamate Rewards loyalty program has grown to 33.2 million active members, an increase of about 13% since the second quarter of last year. We continue to see nice growth in the number of guests to achieve platinum and diamond status, our most engaged guest, as well as growth in overall sales per member.
Our loyalty members account for more than 95% of sales and we're using insights about preferences to create more personalized recommendations, replenishment reminders and unique offers, all to drive deeper engagement and increase spend per member. We're making nice progress on this effort, as the number of guests receiving these personalized recommendations and replenishment reminders continues to grow.
We've also begun to use artificial intelligence in our effort to drive promotional effectiveness by leveraging data or identifying guest response to different types of offers and using these insights to help us determine the best offer to present each guest with the goal of building a larger basket and driving incremental sales.
Our marketing events in the second quarter were anchored by omni-channel campaigns including our gorgeous hair events, our new summer/campaign and our semiannual Jumbo Love event. We augmented these multi-week events with a number of new smaller events including Mascara Bonanza and National Lipstick Day.
Now turning to our imperative to deliver world-class beauty assortment, our merchant team is doing a great job curating a highly differentiated omni-channel offering across all of our categories.
Newness drove about 20% of our total comp this quarter driven primarily by new items in skin care and cosmetics. From a category standpoint, we saw strong sales growth this quarter in skin care, hair care and personal care appliances.
Skin care continues to be one of our strongest growth categories with prestige, mass and sun care, all delivering double-digit comps this quarter. As I mentioned earlier, this category strength is been driven by strong innovation supported by new ingredients like moisturizers with SPF and sunless tanners and new skin care rituals like serums and masks.
Mask skin care delivered strong comp driven by growth from both new and core brands. We implemented our mask skincare reset in July and added several new brands to our assortment such as ACURE, a clean skin care lines and a brand called Naturally Good for You; which includes both skincare and supplements in the regime.
We also launched the Ordinary, a skin care collection founded to offer results-driven product at an affordable price point. We initially launch The Ordinary on ulta.com and recently expanded the brand to 400 stores.
Sales in Sun care were also robust driven by an extended selection of self-tanning products and sun protection options. In prestige skin care newer brand like Kiehl's and TULA line drove strong guests engagement, while more established brands like dermatologica benefited from strong product newness.
In addition, new exclusive emerging brands including Awake, Fountain of Truth and Cannuka, all contributed to the strong growth in the second quarter. In earlier this month, we launch a favorite Indie brand Sunday Riley, at all stores and later this quarter we'll extend our exclusive partnership with Kylie Cosmetics with the introductions of a full line of Kylie skin also in all doors.
Haircare delivered another quarter of strong high single-digit comp growth, reflecting the success of our gorgeous hair and Jumbo Love Event and supported by the reflow we completed in the first quarter.
Fragrance delivered solid mid-single digit growth this quarter driven primarily by Ulta Beauty exclusive, as well as newness from luxury brands; YSL and Versace. We have some exciting new exclusive coming in fragrance this quarter including Thank U, Next, a new fragrance from Ariana Grande.
Personal care appliances delivered strong double-digit growth driven by strong demand for Dyson products and the Revlon One-Step Volumizer Hair Dryer, as well as new one-step products from Bed Head and Hot Tools.
Now, as we discussed earlier, the cosmetics category overall at Ulta delivered low single digit comp for the quarter reflecting double-digit growth in mass cosmetic and low single digit growth in prestige cosmetic including iconic brands.
This performance was in spite of weak category trends in the U.S. market as I mentioned before especially prestige. Due to strength of our business model and ability to secure some important exclusives we continue to drive significant market share gains in the categories.
Mass cosmetic continue to benefit from the reflow we completed earlier this year, which allocate additional space for exclusive or limited distribution brands. In addition, newness continues to drive strong growth in traffic especially with our exclusive brick-and-mortar brands such as Morphe and Juvia's Place.
In addition, we continue to deliver newness and innovation through the Ulta Beauty collection. In the second quarter, we partnered with Frida Kahlo Corporation to launch an exclusive makeup line within the Ulta Beauty collection and guest response to the collection has exceeded our expectation.
And earlier this month, we made beauty exclusive Girls United collection, created by six talented African-American young women through a special mentoring initiative with ESSENCE Magazine.
Prestige cosmetics was mixed. We continue to see strong growth from our iconic prestige brands driven primarily by the expansion of Clinique and Lancome to additional stores. In addition, Prestige cosmetic sales benefited from strong growth from new brands such as Kylie Cosmetics and newness including the introduction of Tarte's Big Ego Mascara which launch personal to beauty and the expansion of a collection of vegan and cruelty-free lashes from multiple brands including Tarte in Velour.
These gains were offset by soft performance and a number of other established brands in the portfolio. Looking forward to the second half of the year, we have a number of new exclusive products and brand launches plan which we believe will have strong appeal for our guest. In prestige we have an exciting new exclusive brand launch plan this quarter; KKW Beauty by Kim Kardashian West is coming to Ulta Beauty.
With more than a 146 million Instagram followers, Kim is one of the strongest forces in pop culture and we are very excited to extend our partnership with her. The new collection will launch with 57 SKUs and include products that are most iconic to Kim including contour and highlight kit, new lip and versatile eye looks. And for holiday, we'll offer our guests two exclusive holiday kit available only at Ulta Beauty.
We also have some exciting news to share mass cosmetic. We just unveiled the launch of Florence by Mills, a collection created by Millie Bobby Brown star of Stranger Things. Millie is an influential voice within her generation has more than 27 million followers on Instagram. Exclusive to Ulta Beauty, Florence by Mills offers a fresh, fun approach to clean beauty with the universal range of both skincare and makeup product that will appeal to all guest especially Gen Z.
In addition, we have a number of new Morphe collaborations with key influencers in the pipeline for the second half. The first collaboration launched just this week with Jeffree Star, one of the most prominent social media influencers in beauty today and offers guest the collection of makeup and accessories.
As we discussed on previous calls, emerging brands and digitally-native brands are driving new growth within the beauty channel. At Ulta Beauty we have a strong track record of successfully working with digitally-native and emerging beauty brands and our footprint of more than 1200 stores in more than 30 million loyalty members positions us very well to be a great partner to these brands as they evolve and expand their reach.
To support this effort, last year we created a new dedicated team within our merchandising organization to focus on identifying smaller or emerging brands across all beauty categories and working with them closely to ensure they're successful in a retail environment.
Year to-date this team has launched more than 30 unique new brands. To showcase these brands and give guest the opportunity to discover, explore and play with new emerging brands we debut Sparked at Ulta Beauty at Beautycon earlier this month.
Sparked at Ulta Beauty is a new platform designed to feature a curated, ever-evolving selection of emerging brands across all categories, intellect stores and an ulta.com, while we're optimistic that these exciting makeup initiatives will enable us to continue to gain market share throughout the remainder of the year. We believe the U.S. cosmetics category will continue to be soft in the second half driving further declines in several leading brands and pressuring total makeup results at Ulta.
Now, moving on to our imperative to transform the in-store and beauty services experience, we've completed our services optimization program in all stores and we are very encouraged by the improving trends we're seeing across the board, and staff recruitment and retention, average ticket and guest engagement.
As a reminder, this effort is both associate and guest-facing. To attract and retain top talent we've implemented a more compelling compensation structure and a newly formed field-based leadership team to support industry-leading training and education program.
For the guests, we simplified our service menu, introduced new services and made our pricing easier to understand. We continue to leverage our highly influential Pro Hair team, which is made of industry-leading educators and platform artists which helps us to attract top talent.
This talented and award-winning team is creating excitement and raising awareness of Ulta Beauty's brand within the beauty industry through participation in national and local events that highlight artistry and opportunity that exist at Ulta Beauty.
In addition to optimizing services business, we're also integrating our services business with more of our marketing campaigns and larger merchandising strategies. In conjunction with a gorgeous hair event, we launch a new blowout program introducing five new looks created by the award-winning Ulta Beauty Pro Team.
And we continue to leverage back bar takeovers to introduce new brands like living Proof and LMS to guests and to drive add-on purchases. Now I'll turn to our fifth strategic imperative to reinvent beauty digital engagement.
During the second quarter we successfully completed the rollout of buy online, pickup in-store to all stores, while still early guest response to this convenient omni-channel experience has exceeded our initial applications. We know our omin-channel guests are our best guest and we believe this capability will make it even easier for guests to seamlessly shop between our online store and our physical stores.
In conjunction with the launch of Opus, we also enhance our mobile site and app with an improved product detail page that has a cleaner look and feel including better visibility to in-store inventory availability. We continue to leverage augmented reality in artificial intelligence to create compelling beauty experiences for guest.
During the second quarter we updated Glam Lab, our virtual try and experience to include live try on for android devices. We also began testing our skin care virtual beauty advisor online which is powered by AI and AR and provides guest easy ways to get skin care advice.
Lastly, I'd like to announce two partnerships in the digital space. First, we've recently announced a new exclusive partnership with Samsung and Revieve to provide beauty enthusiasts with access to personalized skin care diagnostic information, targeted product recommendations and the ability to quickly purchase products from ulta.com directly through Samsung's virtual assistant Bixby Vision.
And second, later this year we'll offer our guest the ability to use after pay on ulta.com. We know that some guest particularly younger ones are sensitive to accumulating personal debt. After pay allow shoppers to receive product immediately and pay for them in four installments without taking out a traditional loan or paying upfront fees or interest.
After pay, buy now, pay later option will offer guest more freedom and flexibility without the weight, underpinning and fueling our strategic imperatives, our ongoing efforts to deliver operational excellence and drive greater efficiencies.
We continue to enhance our supply-chain investment including a recent end-to-end optimization of our store shipment categories, which both improve the fee processing efficiency and reduce sorting type for product and stores.
In addition our store on-time delivery trend continues to improve this quarter delivering 80 basis points of improvement over last year. And finally, we continue to make progress toward our goal of two-day e-commerce shipping by 2021 with the successful conversion of our Romeoville Distribution Center to an e-commerce Fast Fulfillment Center.
The team completed the transition seamlessly and was able to leverage much of the existing infrastructure for the new operation. The facility began fulfilling guest's orders in early August and is currently fulfilling about 10% of our total e-commerce volume.
With that, I'll turn over to Scott to discuss our second quarter financials and our updated outlook for the rest of the year in more detail.
Thank you, Mary and good afternoon everyone. I'll start with the income statement. Sales growth of 12% was driven by a 6.2% comp and strong new store productivity. Increased traffic drove the majority of our comp for the quarter with transaction growth of 5.4% and ticket growth of 0.8%.
Although we no longer breakout e-commerce growth specifically, I can share that ulta.com growth was towards the high end of our expectations of 20% to 30% growth driven by traffic.
Looking at trends through the quarter, we began to see more volatility in our sales trends in July and pulled the number of levers to drive traffic and deliver healthy top line growth.
On the gross profit line, margin of 36.4% improved 40 basis points year-over-year from 36%, driven by leverage of rent and occupancy expense and stronger merchandise margin partially offset by investments in our services business.
Our supply chain operations were roughly flat as a percent of sales as leverage in our DC operation was offset by growth in e-commerce. To provide more color on our merchandise margin, we continue to benefit from efforts related to our efficiencies for growth or EFG program.
This goodness was offset by increased promotional activity to drive traffic, as well as ongoing mix headwind. SG&A rate of 23.6% deleverage by 90 basis points compared to the prior year's rate of 22.7%, reflecting planned deleveraging corporate overhead related to investments and growth initiatives including our efforts around digital innovation including omni-channel and personalization and our recently announced Canadian expansion.
We also saw deleveraging store labor versus last year primarily due to continued investments to support the guest experience. Operating margin of 12.5% of sales was down 50 basis points. Given our investment agenda, we had planned for operating margin deleverage for the quarter.
The effective tax rate for the quarter decreased to 23.1% compared to 23.9% in the second quarter last year primarily due to an increase in federal income tax credit. Diluted GAAP earnings per share grew 12.2% to $2.76 compared to $2.46 reported for last year's second quarter. Adjusting for the $0.04 of tax benefit this year and the $0.02 of tax benefit last year, EPS increased 11.5%.
Turning to the balance sheet and cash flow; total inventory grew 7.9% and was flat on a per store basis. We continue to manage our inventory effectively investing in key growth areas, while reducing unproductive inventory to hold average inventory per store flat to last year, while delivering a 6.2% comp increase.
Our in-stock position also remain strong through Q2 as we focused on investing inventory in our top sellers, new brand and product launches and key promotional events. Capital expenditures were $79.3 million for the quarter driven by our new store opening program, investments in IT systems and store remodels and relocations.
We ended the quarter with $327.4 million in cash and short term investments. We've repurchased 791,000 shares at a cost of $270.9 million through our stock repurchase program. $517.3 million remained available on our $875 million authorization as of quarter end.
We continue to expect our repurchase approximately 700 million of shares in fiscal 2019. But as always, we have the flexibility to modify the cadence of repurchases in response to market conditions.
Turning now to guidance. As Mary indicated, we have updated our outlook for the remainder of the year to reflect our expectations for ongoing challenges in the makeup category. Before I get into specifics I'd like to spend a moment giving you a little color on the bridge between our initial 2019 guidance and our updated view.
As we put together our fiscal 2019 plan, we assumed a strong mid single-digit comp based on an expectation that we would see strong performance from makeup overall and an improving trend in prestige makeup, which would contribute to both sales and margin improvement with an acceleration in the second half of the year.
These gains would be partially offset by necessary strategic investment to support healthy long term growth. Based on second quarter results and more recent trends in the U.S. cosmetics market, it has become apparent to us that we will not see the improvement we had expected in prestige makeup and that we will likely also see moderation in the mass make up sales trend.
As a result, we have lowered our sales and gross margin expectations for the second half of the year. We are adjusting controllable expenses where appropriate, but we'll continue to invest in initiatives that drive long term growth, such as digital innovation, our salon services strategy, expanding our omni-channel capabilities, IT security and infrastructure and initiatives to enhance the guest experience.
Specifically for fiscal 2019, we continue to expect to open approximately 80 new stores, all our traditional 10,000 square foot prototypes. We plan to remodel 12 stores and relocate eight stores and execute 270 store refreshes or mini-remodels to enable the addition of new brands and improvements to overall fixturing.
We anticipate driving top line growth between 9% and 12% with total company comparable sales plan in the 4% to 6% range, compared to previous guidance range of 6% to 7%.
We continue to expect e-commerce to grow in the 20 to 30 percentage range contributing approximately 200 basis points to comparable sales. Although, we are no longer providing precise quarterly guidance, we expect comparable store sales growth in Q4 will be stronger than Q3 as we benefit from holiday newness within the assortment.
We expect to deliver earnings per share in the range of $11.86 to $12.06 with approximately 60 to 70 basis points of operating margin deleverage. This compares to previous guidance of $12.83 to $13.03 and approximately 10 to 20 basis points of operating leverage.
We continue to expect to deliver a gross profit improvement for the year driven by merchandise margin expansion, rent and occupancy expense, cost leverage and the benefits of our credit card program albeit lower than our previous expectations. These benefits will be offset by more SG&A deleverage than initially planned due to the lower sales expectation which will increase deleverage of store labor and investments in growth initiatives and innovation.
Thinking about the flow of earnings in the second half, we are planning for EPS in the third quarter to be flat to lower as compared to the third quarter last year. While we continue to expect gross margin expansion in Q3 our lower comp expectations will result in more SG&A deleverage in the quarter.
For Q4, we are planning for EPS growth in the mid single-digit range, reflecting our higher expectations for Q4 sales. We plan to spend between $340 and $350 million in CapEx compared to previous guidance of $380 million to $400 million.
This includes CapEx of approximately $170 million for new stores remodels and merchandise fixtures, $130 million for supply chain and IT, including new fast fulfillment centers and about $50 million for store maintenance and other.
Depreciation and amortization expense is planned to be approximately $300 million compared to previous guidance of $350 million. We expect our tax rate for the year to be 23% which does not include any estimate for the impact of share based compensation.
A fully diluted share count for the year is expected to be approximately $58 million, and our plan assumes share repurchases in 2019 in the $700 million range.
And with that, I'll turn it back over to Mary.
Thank you, Scott. Before we'll begin the Q&A session, I'd just like to take a step back to recap our perspective on the quarter, our current challenges and the strength of our differentiated business model.
While the second quarter results were solid, as Scott said, we've updated our guidance to reflect our best assessment of second half performance based on our expectations for the U.S. makeup category.
We are doing our level best to both set realistic short term expectations and ensure that we work with our brand partners to stabilize and then grow the important color cosmetics category. I am confident we can do that.
Our unique business model representing all of the major categories of beauty, a range of price points and access to many exclusive and digitally-native brands is enabling us to drive growth and market share gains in spite of headwinds in our largest category.
We've expanded our gross profit margin, increase our brand awareness, driven traffic growth, expanded our loyalty program and exceeded new store performance targets. We are relevant to a large and diverse set of beauty enthusiasts and we're focused on attracting growing demographic groups like teens, millennials, Latinos who are all over index and beauty.
We have a powerful and increasingly personalized loyalty program with strong guest engagement. We're also driving strong momentum in our salon business based on our actions to optimize the experience. And I'm proud that we have a team that continues to deliver operational excellence and exceptional guests experience at every day.
That said we are not immune to macro cycles like what we're currently seeing in the makeup category. But I am optimistic and committed to ensure that we'll move through these near-term headwinds, and I believe we have the right strategy, the right business model and the right team to continue to grow and win over the long term.
And now, I'll turn it over to our conference call host to moderate the Q&A session.
Thank you. We will now be conducting a question and answer session. [Operator Instructions]. The first question comes from Steph Wissink who's with Jefferies. Please go ahead, Steph.
Thanks. Good afternoon everyone. Mary, I'll ask you to some first and then the related question for Dave. But if you could help us think about the comp guidance for the back half, what component is category versus your relative outperformance to the category? So, to ask another way, how much of that is purely macro or backdrop? And do you expect to kind of retain share and follow the backdrop or do you expect to see some about share advantage released?
And my question for Dave is on the comments that you made on mass versus prestige, I think you've indicated mass cosmetics up double digits, prestige up low single-digits. Anything in your data that would suggest the consumer is trading down from prestige into mass? Thank you.
Steph, thank you. It’s a risk of reiterating. I will just say that -- I think your question is spot on. We are very confident our business model is working and is going to continue to work. We are outperforming the rest of the market. We believe we're going to continue to do so because of the many assets that we have from a brand that's known and loved, our loyalty program, our omni-channel capabilities, digital capabilities, a lot of the exclusives that we have in our assortment. And you know the fact that we've got the ability to work across all categories, really works to our advantage, right, because we've had very strong growth in all the categories right now except for makeup. But yes, the makeup category is challenge. We're winning. I'd say we've hit -- the categories hit a bit of a speed bump and we'll work with our brand partners big and small really to pivot this.
And so to us, as we look at the second half it's really about -- we've talked about this for several quarters that after years of very strong growth, cosmetics has been growing but at a somewhat slower rate than it had been. But really I'd say trends deteriorated further late in the second quarter and even more recently into this quarter. And so, we would say as we look at this, we figure okay, it's going to stay for a while until we get through this cycle. But I'm confident that our ability to drive share gains will continue. I don't see here in the business model that makes me feel otherwise. And Dave, do you want to comment about the other question?
Right. On mass cosmetics. So as both Mary and Scott said, our mass business did perform somewhat better than our prestige business. In both categories we gained share and we think we outperformed the total industry significantly which allowed us to continue to grow our business. On the mass side of the business, we probably had a bit more advancement in shifting our assortment away from brands -- broad brands into brands that are a bit more limited and exclusive distribution at Ulta Beauty. So our business has been stronger. But we believe and what we see in the marketplace that the mass total made -- U.S. makeup, mass makeup category is equally as challenged relative to prestige.
So we don't believe it's a shift between prestige and mass as much as an overall malaise driven by the innovation trends that Mary pointed out. We're confident that the innovation that we're bringing in both mass and prestige will allow us to continue to gain share. But the softness in the total cosmetic both mass and prestige category will provide these headwinds that we've described.
The next question comes from Erinn Murphy who's with Piper Jaffray. Please go ahead.
Great. Thanks. Good afternoon. I guess just a follow-up to that question as we think about the comp cadence of 4% to 6% now for the year. And your one year into your Analyst Day which was 5% to 7% long term guide, I guess, what gives you the confidence or do you believe that you should be reaccelerating to 5% to 7% beyond this year? I guess it’s a slowdown in cosmetics from what you can see just temporarily to the back half of this year. And then I guess Mary you commented or I guess, Scott, both of you commented on a little bit more promotional activity in the back half of the quarter. What are you expecting for the holiday season from a promotional perspective? Thank you.
Okay. So I step back and say, I want to be really clear, we're really know a less confident about the attractiveness of our business model, our growth potential. We do see the current dynamics as a speed bump certainly as a speedy speed bump right? But we're confident that cosmetics category will return -- will continue to return to growth. The timing is a little unpredictable. But there's been in the past cycles that affect different categories and makeup was very strong for many years and it's going through a tough cycle. But as we look at demographic trends, as we look at engagement in makeup, as we look at the white space that we believe exists and I know our brand partners commitment to getting this back to growth, we feel that we still stand by that guidance.
Today we're not talking about a long term outlook. Now it's prudent for us to plan in the near-term for this potentially lower growth environment and we're thinking about that. But we have not changed our optimistic view of the future. On the promotional end, I mean holiday is always a highly coveted time for everybody to get traffic into their store. So Scott talked about promotion. I'd say, the good news is we have a lot of levers and that we have and we use those levers at different times. As everybody I think understands we've gone to much more targeted types of promotions over the years versus more broad based and with our loyalty program being kind of the core of what we do.
It's going to be I think a competitive second half, because everybody who's in beauty would be facing these same headwinds. So we feel we're well set up for holiday. Obviously that's a key focus area for us. But we're going to continue to -- I guess I'd say drive traffic, make sure that we capture guests into our loyalty program and not see that to competitors at a time that will be competitive, but at the same token I think again we are pretty smart about how we use the levers and we have more efficient levers than ever.
The next question comes from Steven Forbes who's with Guggenheim Securities. Please go ahead sir.
Good morning. Maybe a follow-up on that previous question, given that the comp provision is based really on the store level comp, right, first the e-commerce growth, you're giving that that's 20% to 30%. Can you discuss sort of the mature store comp outlook for the back half and whether the recent performance impacts whether it's the saturation target or unique growth outlook through 2021 that was provided during last year's Analyst Day?
We're happy overall with new store performance, I think we mentioned that in our prepared remarks. So we haven't seen anything in there that would give us any concern on the longer-term target of 1,500 to 1,700 stores. In a recent, over I would call the rolling 12-month period, we saw new stores performing well in the low- to mid-single digit kind of range -- again, vis-a-vis what we saw high single-digits in the years where we are delivering double-digit comps, so they have moderated somewhat.
As we looked at Q2 in absolute terms, the comps in the older cohorts were lower, they were in the low -- very low single-digit range. As you would expect when you do the mass on the overall comp makeup.
Again, when we look at cosmetics -- color cosmetics overall and what were the dynamics we're seeing in the industry, they affect all stores equally, there is nothing in special that stands out with a new stores compared to some of the other stores in the fleet. So again, very happy overall, it doesn't change our outlook and the long-term our store build out here in the U.S.
Yes, and I think, I would just add that I think you might have referred in your question about did it affect channels differently? And I say no. You know obviously it comes growing faster, the stores that hasn’t been for a while, but that channels equally affected by the headwind.
The next question comes from Simeon Gutman who's with Morgan Stanley. Please go ahead.
Thanks. Good afternoon, everyone. A little bit of a follow-up. Right. You have this medium to long-term outlook out there and mid to high-teen DPS growth. Obviously the operating deleverage in the back half would stand at the disconnect to that. I guess, if you look at 2020 which I realize we're not talking about yet is the de-leverage that you could see, let's say, if you do a 3% to 4% comp, it's going to -- it could look similar to what we're seeing in the back half of this year or is there more flexibility on the margin side such that gets you back to your outlook.
And just within that, I know you've talked about the makeup market being soft and you need some times as I go through it, what is your going assumption on this? Mary, I don't know, if there is a conversations you're having with executives, who sell this product as well, but when do you think this recycle it in the market to get soft in the early part of last year even though you outperforming itself? Do we cycle at the beginning of the early part of 2020? Thanks.
Yes, let me start with that one Simeon. Yes. I don't exactly have a crystal ball on this, because there's a lot of moving parts in different brands that participate. I can tell you everybody is focused on this North America makeup market is important for everybody, and it needs to improve. I know, I'd say, it's going to take some time, because part of the what we think is driving it is innovation while good an exciting innovation or good innovation hasn't really driven the interim mentality, I mentioned this in the script of some previous forms of innovation, that would be like, on the contrary I need three products for that right. You know I’m going to do my browser with two products.
So what we're focused on is pivoting to wide space that will drive incremental and exciting type innovation, and that doesn't happen overnight. And frankly, I'd say, it takes a while to assess incrementally. So it wasn't obvious probably until recently that some of that innovation, you have to go to its ground repeat cycle to see is it going to be incremental.
So, categories pivot in certain ways. We're very focused on that with our brand partners. And I don't have exactly a timeframe, but I think it's going to take some time to work through it, but I feel that by second half of 2020 at least we should be in a better place. But again, I'm not holding to that, I hope it's sooner, but I think it does take some time to cycle through.
And those who know us well understand, makeup, right. It's a huge part of our business and it's very high margin for us. So when there's a disruption there, it creates a lot of ripple effects across the business. So you know we believe over the long term there's still opportunity to expand operating margin, Simeon, you know through primarily through EFG initiatives that we've talked about before in the four work streams along with scale over the long term, you know it's just, it's we think it's too early to reconsider you know modifying our long term guidance outlook in any significant way here. We need a little time to let things shake out a little bit and of course we're looking to manage our investments and expenses and everything here really closely.
And assuming, we're thinking about this actively assuming, we're going to be in a lower growth environment here in the near term and adjust our priorities accordingly.
The next question comes from Rupesh Parikh with Oppenheimer Co. Please go ahead.
Good afternoon. Thanks for taking my question. So first on the tower side, we've seen some more mass companies talk about taking price. I was just curious you know just given some of the malaise [ph] out there, I want to get your thoughts on where you thought the consumer acceptance of price increases are?
And then second, Scott you mentioned that you expect Q3 comps to be lower than Q4. I would have expected potentially stronger comps in Q3 just given the easier comparison in Q3 versus Q4. Just want to get your thoughts on that. Thank you.
Yes, so maybe we'll start with the tariff question. So again, at this point for us, we've talked about this over the last few quarters. It's kind of difficult to predict what the impact is going to be in beauty products overall, again, we're not seeing any significant step up in pricing negotiations or issues with any of our vendors. We expect to be able to manage our way through that and navigate that as best we can. And so, we're managing that as best we can through supplier relationships today and we would expect that to continue overall.
As far as the comp stack year-over-year, I know, we can look at two or three years and trends and what you would expect. That's not the environment we're in right now. I mean, the disruption we're seeing in the prestige and color makeup overall is a step change in the normal flow of the business year-to-year and that's really what's driving our outlook.
Great. Thank you.
The next question comes from Beth Kite who's with Citi. Please go ahead.
Hi, everyone. We have a question about your skin care exposure. And given the pressure in color cosmetics especially prestige, if you've considered a bigger move into skin, more brands, more shelf space, more space in store if you will. Have you entertained those conversations to shift the skin care exposure in a greater way more quickly?
Yes, well, we are already experiencing strong growth in skincare, both on the mass and prestige side of the business. And we've made moves to continue to emphasize that part of the business through both the brands that we've been bringing in and partnering with strong innovation that Mary described earlier, and a further amplification within our -- both our store and our e-commerce and app business, so for sure we've been emphasizing and driving that part of the business as well as the other categories that have been driving growth hair and fragrance our personal care appliances, so absolutely emphasizing that. Having said that, and we are always on the move -- on the effort to continue to try to optimize our assortment and look to lean into areas that are demonstrated in those growth.
Having said that, even though makeup is going through this tougher cycle, we still are confident in the long-term growth prospects of this category. So we're not anticipating a dramatic shift away long-term from makeup, we'll continue to try to continue the strong share growth gains that we've had bring new brands and partner with our key brand partners to get those brands back on track, because the demographic trends and makeup are still a strong. Everything we're seeing around millennials and Gen Zs, Latinas, all the growth drivers, we're confident in. We're working through this innovation cycle that Mary described, but we believe we will come out of that. And so we'll continue to maintain a strong makeup business but absolutely emphasizing the growth categories like skin and others across our store.
And the volatility in July through now, was that primarily color or did that impact your other categories?
Yes, it was primarily color that we're seeing this year -- as we've talked, there's been a disruption in the makeup category, a slowdown in the makeup category for a little while now, but in many measures and are tracking and a view of the category there was more disruption, more recently over the last several weeks.
Wonderful, thanks very much.
The next question comes from Christopher Horvers with JPMorgan. Please go ahead.
Thanks. Good evening. So a couple of follow ups. First in terms of the comps that you're implying for the third quarter. Are you basically assuming the current trend that you've seen sustained? Or are you expecting 21 days of beauty in September to improve the trend? And following up on the fourth quarter, you're lapping James Charles, you're lapping Kiley. So are you sizings the newness factor bigger this year? Or is there something else on the common terms of newness that hasn't been announced or are you assuming investment in merch margins to try to drive the comp overall. Thanks.
Yes, I'll start and then I'll see if Dave wants to add anything. You know, we're not going to get that in that granular. We're in the quarter right now. Obviously, I'm just, you know we're trying to do our best to sort of call it, like we see it, and I'd say it is a combination of our view of category trends, and as we size newness and also all the things that we have in the fourth quarter just in terms of holiday promotions. So it's our -- it's our best call right now with a range around that. Okay.
The next question comes from Michael Binetti who's with Credit Suisse. Please go ahead.
Hey guys, thanks for taking my questions here. I was wondering maybe if you could just give us a little more color on the magnitude of the issues in July and in August, the magnitude of the guidance is quite heavy, and it seems like it's based on a fairly short period in time. And obviously, you saw a big thing -- you've described 2Q is less informative a seasonally about the underlying trend in your business, you still got big thing like 21 days of beauty.
Mary, the body language very clear, all of the commentary you expect cosmetics to improve. I'm just trying to figure out why cosmetics will improve. You said the incrementality hasn't worked. What's driving the comp improvement in 4Q versus third quarter based on those comments, especially [latter] obviously the bigger compare.
Yes. I mean, I see the first part of your question is just that it has been, is the category data that we have access to and some of the more recent than what you would see has shown more recent deceleration I guess. So that's sort of part of why the shift in more dramatic change. Again, we just try to call -- we take multiple views of how we build up our volume forecast, and so our Q4 is a combination of all the things thinking about category trends, not necessarily dramatically improving, but thinking about what we have coming, and giving our best shot at both Q3, Q4 cadence of promotional events and launches.
So I guess just to follow that, I think you started first calling out slowing prestige cosmetic trends in mid-2017. You've done a really nice job of gliding your business slower for almost two years now. I feel like, I just want to ask you like what do you think is happening in the industry. It's like; I'm missing something on why it must have changed lower so suddenly here recently?
Well, you know if I had the answer to that, I would have fixed that already. I mean, it's honestly, I think it's a combination of factors. And you’re right. I mean, I share our business model. We're proud about the fact that we can select across categories, and when we drive in market share growth and carry a lot of fantastic exclusive brands. But you know as we look at, it's a combination we think of just innovation not really. You know a cycle of innovation that we're in right now, doesn't compare to what we've seen a few years ago, and it's easy to say that now, it's hard to know --prospectively that that's going to be the case.
Right. So, we think the combination of what our brand -- we bet on and what our brand partners would bet on just wasn't driving that kind of incrementality that we've seen in the past. So that's you know at the highest level, probably the biggest factor.
Okay. Thanks. Best of luck of with 21 days Beauty.
Our next question comes from Mark Altschwager who's with Baird. Please go ahead.
Good afternoon. Thanks for taking my question. Could you walk us through just a little bit further the puts and takes on the updated EBIT margin guidance from the back half of the year. How much of the change in expectations is on merchandise margin versus greater fixed cost de-leverage. Is there any help on the gross margin versus SG&A cadence over the next couple of quarters would be great.
Yes, I guess, we can talk directionally for the back half of the year. I'm not going to -- we're not going to get into specifics quarter-by-quarter. We're trying to move away from that, Mark. I appreciate the question. So I think, we stated in our comments that we still merchandise margin. Right. It -- we still expect to expand that. So that's the good news. Our EFG efforts are working; we're making progress on that. Unfortunately, it's going to be masked a little bit by the downward pressure we have in prestige right and the mix overall of the business.
So we're happy with margin expansion overall, blended up for the back half of the year is what we expect to see. SG&A is heavier, I mean, again, we pointed to these are necessary long-term investments for the health of the business that we're not going to back away from right now in some knee-jerk reaction.
So again, SG&A deleverage is going to be heavier in the second half of the year than what we expected. I guess, I would say there, it's probably a little heavier weighted to the third quarter than it is fourth quarter, because in fourth quarter we're kind of shut down and we're all on all hands on deck for holiday.
So also I would say, third quarter maybe you're kind of at peak with fixed cost, while it's leveraging year-over-year there's less of that in the third quarter, because we're getting a fuller load of new store openings and things like that weighted toward the back half of the year this year. So that's probably about as much color as I want to give on specifically the quarter's themselves.
That's helpful. Thank you and best of luck.
The next question comes from Michael Goldsmith who's with UBS. Please go ahead sir.
What are you assuming about the company's level of market outperformance in the cosmetic category in the back half of the year? And does that represent a change from what we've seen the last couple of quarters? And given the market share gains achieved over the years, does that make it more difficult to pick up share in the category going forward?
Yes I’d say that we are expecting continued similar share gains to the rest of the year, is probably the easiest way to put it.
And then, going forward.
I wouldn't comment on that yet today, but still we still see plenty of share for us to gain. That is out there and other channels that we've been successfully with our business model attracting new guests and share. So we see that playing out for a while.
Thanks very much.
The next question comes from Ike Boruchow who's with Wells Fargo. Please go ahead.
Hey good afternoon, everyone. Mary, I understand there’s a lot going on right now and I do apologize to go back to Simone's question. But less than a year ago there was a multi-year plan that was laid out and it did call for 5% to 7% comps, and it specifically called out for margin expansion in 2020. I understand that there is no crystal ball right now, but I guess what I'd ask is given what's taking -- given it sounds like this is going to take some time to work through and looking at the comps and the leverage you're guiding to in the back half. Should we consider that plan stale at this point?
I think it's really too soon to say that. I mean part of what we need to do is sort of work through this cycle. We've not put our plans for 2020 together yet. You know we still feel very confident about the business model and we can make choices about pacing of what we spend in terms of investments.
You know we've been pretty aggressive. We go after a lot of investment this year that you know are multi-year important long-term investments for us. And so as prudent planners, we would say okay, we want to plan for it maybe a different comp cycle for part of the year, how do we then think about you know how do we stage investments and deliver the appropriate returns.
So I think it is. I mean, I think, Scott said it well. This is not a time to have a knee jerk reaction about the long-term prospects of the business. I don't believe that. But we're also being prudent how we think about you know how we do this kind of planning and stage investments.
Understood. Thank you.
The next question comes from Dana Telsey with Telsey Advisory Group. Please go ahead.
Hi, good afternoon everyone. As you think about the go-forward, how do you think of what type of comps that you need to leverage expenses given the new trajectory of sales growth and category growth? And also, as you think about mass and prestige, has there been a difference in the cadence of mass and prestige in terms of how they are performing most recently? Thank you.
Yes. So the first part of the question I guess I would say to Mary point she just made, the business has been very healthy for a long period of time, and we've been riding a wave so to speak on. Makeup, makeup in general right across both mass and prestige, which has allowed us the flexibility to be more aggressive on the investment front. So there was a time before that phenomena where Ulta operated very effectively, and very well performed, produced some really great financial results on much lower comps.
So we're no stranger to operating in a tougher, lower, growth kind of environment and that's just the kinds of things that we're pivoting towards right now. So again, we don't have all the answers as we sit here today, but you can bet that we're actively managing with that thought in mind.
And on your second question about mass and prestige, just to reiterate, we are seeing in the total U.S. market weakness, softness in both mass and prestige at Ulta Beauty specifically. We are gaining share in both categories due to the strategies and the brands that we brought in and the focus we've had in that category. But as I mentioned earlier, mass has performed better than prestige in recent quarters as that business has been a bit stronger for us.
This concludes the time allocated for questions on today's call. I would now like to turn the call back over to Mary Dillon for any closing comments.
Yes. I would just like to close by thanking our very hard working more than 44,000 associates for delivering another quarter of solid financial results and great guest experience every day. And we look forward to speaking with all of you again soon.
This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.