Ulta Beauty, Inc. (ULTA) Earnings Call Transcript & Summary

Good day, everyone. I'm Steph Wissink with Jefferies Consumer Research team. Thank you for joining us for our virtual Nantucket conference this year. Unfortunately, we are virtual and not in Nantucket but we're looking forward to being back on the island next year. It's my pleasure today to be sharing the screen with the executive team from Ulta Beauty. You'll see Scott Settersten, company's CFO; Kecia Steelman, the company's COO; and Shelley Haus, excuse me, Haus, the company's CMO. And Kecia and Shelley both have new positions. So I'm excited to hear a little bit about their vantage point as we talk a little bit about Ulta Beauty's trends.

So first question actually is geared towards Scott and Kecia. I think one of the things we're getting asked about is just to kind of chronologically talk about what's happened over the last 18 months or so. There's also been a pretty pointed change in the CEO position. You're entering a new phase of growth post-COVID. And for Kecia for you, a bit stronger of a focus on kind of the unit level productivity. So I wanted to just give you a platform to share a little bit about what's been happening behind the scenes over the course of the last 1.5 years or so. So Scott, maybe over to you first.

Great. Thanks, Stephanie. Great to be with you. Thanks, everyone, for joining us today and your interest in Ulta Beauty. So yes, as we announced earlier this year, we're working our way through a CEO transition effective June 2. So fairly recently, Dave Kimbell is going to take the reins as our Chief Executive Officer and Kecia Steelman, as I mentioned, is our newly minted Chief Operating Officer. So both Dave and Kecia, again, they've been with Ulta Beauty for a long time. They've been with the executive team over the last 7 years, working closely with Mary Dillon and the rest of the leadership here to drive our culture, drive the strategic direction of the company and of course, working at all kinds of myriad of ways to engage with our guests. So lots of good things have been done over the course of their tenure with us. Dave's experience as Chief Marketing Officer, Chief Merchandising Officer and more recently as President of Ulta Beauty has given him a super strong understanding of the category, demand creation and the needs of our guests. Kecia has been leading, doing a great job leading our store operations team. And in her new role, she'll be taking on some expanded responsibilities around Ulta Beauty at Target, supply chain and a newly created enterprise level of our company around continuous improvement efforts. So we're looking forward to all the new things Kecia is going to be helping us with. So building on a strong foundation and the progress we've made to establish our leadership within the beauty category, Kecia and the rest of the very experienced team of leaders here at Ulta Beauty are looking forward to driving the next leg of growth for us within the category. In 2020, we used the COVID situation as a key pivot point for us and took some proactive steps to optimize our cost structure while also continuing to invest in new capabilities to drive long-term healthy growth for our business. So we've continued. We've demonstrated our ability to optimize some of our promotional events and also improving our profitability and the discounting promotional profile of our business. We've delivered some meaningful reductions in occupancy costs through more aggressive negotiations and effective portfolio management. We permanently closed 19 stores last year to further strengthen our store portfolio. We made changes to our store management structure to improve efficiency and productivity. And we took steps to optimize, rightsize our corporate infrastructure earlier this year. As regards the store fleet in unit productivity, we're very happy with our store fleet. It's in a great position. It looks great. It's healthy. Our stores generate very attractive store level earnings and cash flows. And we feel very strongly, again, that brick-and-mortar will continue to play a very critical role in the beauty space. And we're seeing that demonstrated as our guests come back and begin to visit our stores. The steps we took in 2020 really position us well for stronger performance as the economy recovers, and we see consumers come back and engage in beauty. Kecia?

Yes. We're always looking for continued improvements and efficiencies with our labor model in our stores. And in the fourth quarter of 2020, we eliminated 2 management positions, the salon manager and also the prestige manager. So that was for all locations. We created a newly -- it was not existing before, but a new position called a services manager. And the service manager focuses on events, all service components within the store and the experiential shopping for the consumer. We also took this opportunity during COVID to elevate one of our operations manager positions that was part time before, and we made them into a full-time position. And their focus was -- here is on the operational performance of freight and freight flow and also replenishment in stores. Part of our business model is to always look for efficiencies to take tasks out and convert those hours into more guest-facing hours. So we're continuing to focus on that through 2021.

And Kecia, just as a point of clarification. So if we were to look at your average staffing levels of an average store in your fleet pre-COVID with a salon manager and a prestige manager and your new salon labor -- or excuse me, our new store labor infrastructure post this change, is it still the same number of people, but it's just the roles and responsibilities that have shifted a bit?

Yes, we're actually net one negative in regards to management, but we staff the more hourly positions based on the volume projections that we have. So it really isn't visible to the consumer shopping, and it's a little bit more focused in regards to the position in the division of responsibility of our management team.

Got it. So let's stay with that because you're talking about kind of adding a bit more variability and opportunity to drive better leverage. And how should we think about the post-COVID recovery? How are you thinking about it? I think the business already in Q1 was above 19. But knowing that there's going to be some variability, whether it's by month or by quarter, how should we think about that re-ramp back towards kind of a new steady state?

Yes, consumer confidence with stimulus checks, COVID-19 restrictions getting lifted and vaccinations happening across the United States, a really positive impacts to our traffic, and we're seeing a nice increase in our average ticket. As you mentioned earlier, our comp sales increased in Q1 in 2021 by 7% over Q1 in 2019, but that was really driven primarily by average ticket. Our traffic trends are improving but are still about 20% lower than our 2019 levels. Part of the factors that are contributing to that are we are still operating on fewer operating hours of our stores being open, social distancing standards and limited capacity constraints just due to COVID protocols. So those could be impacting some of those numbers, too. We do see recovery coming, but it's still going to take a while to get back to those pre-COVID traffic numbers, but we're really encouraged by the momentum and what we're seeing through Q1 and into Q2.

And Kecia, could we just double click on that really quickly because I got a question about this earlier. How much of that capacity commentary is related to store capacity versus salon capacity?

Yes, it's a little bit of both. Right now, we're operating all of our stores still at 75% capacity, and our salons are at 50% capacity at current state today. And as more lifts start to happen, we will continue to reassess and lift as we deem it safe for our guests and for our associates.

That's great. And Scott, I want to bring you in here and just talk a little bit about stimulus because you did call it out, I think many of your peers have called it out, too, just not knowing how much of that is durable versus what might have been truly a stimulus, a booster shot. So how should we think about the effects on kind of the transaction value versus how you're mapping the back part of the year? Are you expecting to still see some pent-up savings catering to spend? Or do you anticipate some of that to roll off?

Yes. Well, the stimulus obviously was a contributor, right, to the overperformance we saw in the first quarter. It is hard. We do attract a lot of macroeconomic metrics across a wide variety of elements of the American economy. But it's difficult to discern exactly how much comp did it help contribute in any one period of time. But obviously, it was a contributor. As we're -- just the loosening, as Kecia mentioned, the loosening of some of the COVID restrictions, people more comfortable out shopping due to some of the vaccination levels here in the U.S. And just a pent-up excitement about getting back to a more kind of normal routine, whether it be shopping for beauty or doing anything else, right, with friends and family as people are able to engage more. I feel safer out with groups of people. So we're looking at that. Again, that plays into our guidance as we look out to the rest of the year and just, I would say, taken a prudent approach to that. And thinking about sustainability of some of that pent-up demand and additional cash in consumers' pockets here. Some of the metrics that we saw coming out of the first quarter with average ticket up a lot of -- some of that has contributed to our influencing of kind of the promotional levels there, right? So kind of pulling back strategically on some of that. We think that's sustainable over a longer period of time. That's something that we've been focused on as part of our EFG efforts. Units are up because again, people have been holding back a little bit. So some of this consolidated shopping pattern, we think is going to be with us for a while, right, until we get further down the pathway here and people truly get back to feeling comfortable with being out in more crowded stores.

Got it, Scott. So you saw a little bit of benefit in price and units within ATV?

That's right. So price, part of that is driven by us, right, on pulling back on some of the promotional elements. And we think some of the increased units is just more consolidated shopping trips for people at this point in time.

Got it. That makes sense. Shelley, I want to bring you in here too, because you guys have done a lot of work on omnichannel. And frankly, standing up curbside last year was quite a feat across your fleet of stores. So I want to let you talk a little bit about some of the performance indicators you're looking at within your cohorts, within your loyalty program to give you conviction in the actions you're taking in omnichannel. And then one of the questions I wanted you to extrapolate on was just how do you make omnichannel Ulta special. Because I think what we're finding is omni is the new table stakes. So how do you really allow your brand to kind of spill out into that profit experience as well?

Great question. We want to make everything Ulta special. So we've been really focused on that throughout 2020 and certainly in 2021. Our ability to be able to do things like stand-up curbside so quickly based on the standing of BOPIS in the back half of 2019 was fantastic. And we do it in a couple of ways that are really Ulta Beauty special. One, how we communicate it in fun and friendly ways. Two, in how our store associates deliver it. And that kind of welcoming authentic experience that spills out into the BOPIS experience and the curbside experience are really, really important. Then I would say the other thing as we think about omnichannel shopping is our 5-star app. And we did a tremendous job heading into 2020 and then continue to innovate on the app and have a great pipeline of innovation, just making that such a special experience, really the hub of the Ultamate Rewards experience. As well as adding innovation like GLAMlab. And last year alone, we had 11 million usages of GLAMlab and 100 million shades tried on, and we continue to innovate there, adding more brands, adding more categories. Now you can try hair color and lashes that have all sorts of fun that was key to us being able to have testing and trial throughout 2020, and we don't think that is something that's going to go away. It's why we got it ready before all of that happened. It's a great way for people to engage with Ulta Beauty and engage with our categories and have a lot of fun doing it. The other great thing that we have innovated there is the skin adviser. So the skin adviser is both AR- and AI-powered and us being able to create recommendations that are very guest specific as well as capture data that helps us to give better recommendations and everything we do has been really, really key, key to our seamless omnichannel experience. And then the ability to deliver hyper relevant content. We were doing that headed into last year. We accelerated that even more, even launching Beauty School live, a place where guests can congregate with us and interact with our experts and our brand experts. That two-way communication is, again, key to our omnichannel experience, wherever you are. And then I touched on a little bit, but the key to our personalization road map and being able to continue to further that when we think about the recommendations that we give that create hyper relevance. And you're personalizing offers, and we continue to do that not only in e-mail, but in our print vehicles as well, and Scott kind of touched on this, our ability to pull back on some blanket offers and really target and hypersegment our guests. And you mentioned the guests a little bit. Part of what we're really focused on right now is reengagement. And we hypersegment there really understanding who are dropping trips versus who are just dropping spend or who have dropped out altogether and really focused on each of those groups specifically in giving them hyper relevant content and offers to reengage them in total or category by category. So we're excited about what we see there and our success there, and we'll be very focused on all of those things, including reengagement.

And Shelley, I want to stay with you and talk a little bit about newness because I think this is one of those things that we rely a lot on your buyers and your category experts to understand not only how much newness but is it compelling enough to create or catalyze this excitement. And clearly, we went through what was, at least in my 20-plus-year career, an unparalleled cycle of back-to-back-to-back-to-back newness in prestige makeup and it just was so overwhelming because it was so exciting. There was so much happening. It was certainly reinforced by social media and influencers and YouTube content. But how should we think about the next phase of newness? Does it look different? Is it really about that hard hitting high velocity, glam? Or is there something else that could actually be intriguing enough to reengage as you're talking about reactivate, reengage and get her back into that kind of frequency cadence that we saw happen from really 2012 all the way through 2018?

Well, the great news is that throughout 2020, the passion for all categories, including makeups stayed there. So as we track consumers throughout the year, we were really encouraged by that. As we think about the cycles kind of going back, you're right, there was a lot of stacked innovation that really excited people as we think about palettes and lashes and lots of things that were very Instagram-friendly. And then a lot of the newness and innovation for a bit of time was very focused on shade range. And so there was kind of a step away from that. Much of that needed to happen in order to rightsize our assortment, not just our assortment, but the category's assortment to be able to serve all guests. But it did take away from the innovation kind of in the more newness areas. Now a lot of our brands have gotten back to that type of a pipeline. And we saw a lot of that happening in hair care and skin care last year, but we're seeing that more and more in makeup as well. So I think case in point, not only stimulus checks and restrictions lifting, but also intersecting that in Q1 with a lot of newness. And we really focused on that in 21 Days of Beauty. And we started to see a lot of reengagement, not only with eyes kind of be above the mask, but also with foundation and lip as people are excited about color and getting back into it and getting back out and having more usage occasions. So we're excited by what we see both in prestige kind of the biggest brands like MAC, big new mascara out right now that consumers are really, really excited about, to mass brands like NYX and e.l.f and Maybelline that have had some great innovation. And we're encouraged by the pipeline that we see for the back half of this year as well, and we think that will be a great intersection with a fantastic back-to-school time period that's going to be a back-to-school like no other as well as our back half 21 Days of Beauty. And then certainly, we're excited about what's to come in holiday and people being able to be out with loved ones and parties and haven't been able to do that for a couple of years. So we're feeling good about the intersection of the two. It's still hard to say what exactly is going to happen in makeup, but we're encouraged to see that and are going to do everything we can to capture that demand and also spark it. Spark the idea of being out and about and a makeup renaissance.

That's great. I want to -- Kecia, bring you into this because discovery and trial is such an important component of the industry as we think about newness. And really, consumers buying with conviction without having to try and return. So talk a little bit about how does trial evolve? I don't know that we're going to be back anytime soon into the open sell model, which really created kind of these playgrounds environments where we could go in and spend a lot of time testing and trialing. How do you think trial evolves? And how do we do it in a way that's allowing the consumer to explore, but also conscious about excess amounts of waste and impact?

Yes. You're exactly right. Our guests, our beauty enthusiasts have a physical and emotional play when they come into the retail environment, and test and trial is such a key component of that. In 2020, we had our testers were out but they were do not touch, do not use. We're in the process right now of working in partnership with our brands on reemerging in key categories to going back into some testers. So we're still in the early phases of that, but through the back half of this year, we will be reopening testers where it makes sense. We are also partnering with our brands in regards to increased sample usage. So in key categories, which is really important to maybe try something on your face, having more samples available, and we're in the process of that right now, too. GLAMlab, as Shelley mentioned earlier, is so critical. The AI, AR technology that we have today is really quite impressive. If you go into our app and you try it. It really is a real true look and feel for what color cosmetics specifically, something that you'd like to put on your face, how it can translate into your own personal coloring. So but I would say that it's more to come, but we are going to start hedging back into trial and travel size -- not travel size but travel testers usage going forward. So stay close, stay tuned.

That's helpful. And Scott, I want to bring you in on this next question, and Kecia, maybe stick with you as well. But one of the other things is the sales mix. So as we've come off this peak in prestige cosmetics, and you've started to invest more deliberately in your skin care assortment, talk a little bit about skin care strength, hopefully, at some point this year, the recalibration of services coming back online and what that might mean to the margin equilibrium within merchandise margins as we're looking ahead?

I'll start about the sales, and maybe you can add it on the financials, Scott, if that makes sense. You're exactly right, Steph. You were talking about prepandemic, some of the category strength that we saw was around skin care and hair care. And those trends continued even during COVID. It was really focused around self-care. Skincare is a strategic initiative for us even pre-COVID, we're continuing to lean in there. Some of the new brands that we've invested in are The Ordinary, TULA, Sunday Riley, COOLA, so just to name a few. We're increasing our selling space on the sales floor. We have increased the associate training and education around skin. The skin analysis tool is critical for us to continue to lean into. So skin is here to stay. And while we are continuing to take market share, we feel like there is still incremental upside opportunity for us. In regards to hair care, we brought in some brands that are key like Briogeo, Pattern, focusing a little bit on the natural here. We have some nice Black Moon brands that have been introduced into that category mix also. Makeup, it was a little bit -- it's been challenged since 2019, but we really do look at that part of that challenge in 2019 was around lack of innovation and newness and the reemergence of people being active and going out and -- to events and participating and more glamming up in a way. We do see some resurgence coming from the makeup category, even though we remain to be a little bit more conservative on our thoughts and what that category could be. Just really quick, I'll touch on services before I hand it over to Scott. Services is a key part of our overall operating mechanism, and we feel like it's critical to the experience in our stores. And we do -- right now, we're operating at 50% capacity in our salons. We are doing no skin services or hair services, but we do see that really reemerging. And we do feel like that's going to be continued strength for us in the future. But the connectivity between people getting a service and the frequency in which they shop and also having products into their shopping trips, it's one of our key competitive advantages that we have because we have salons in every one of our stores. With that, I'll turn it over to Scott to talk around the financials.

Thanks, Kecia. Yes. So the whole margin profile storyline behind skin versus makeup. Again, historically, we said makeup was a little richer margin overall to our business. So that has fallen under the EFG efficiencies for growth initiatives that we've been talking about since 2018. And our merchant team has done a great job kind of digging in on this one. Again, part of it is assortment decisions that we make, part of it is vendor negotiations. Part of it is just process improvement, but we've gotten those. The skin category margins on parity now with makeup. So again, we're kind of in an agnostic kind of environment overall. And that's really positioned us well as we think about where the growth drivers are in the business here as we look at.

Right. Shelley, [indiscernible] because we line level, there is some competition coming in your interaction with Kiehl's and Sephora, department stores are certainly making a big push to come back online. And then also the direct-to-consumer agendas by the brands talk. Could you talk a little bit about how you're thinking about the competitive environment -- be what it looks like prepandemic?

Absolutely. I mean beauty has always been a fragmented category. We've always had competition from all sides, but we're still really well positioned. We -- nobody else does what we do when you think about all the categories, all the price points and services to Kecia's point about some of our secret sauce. We're also really well positioned with our loyalty program, which is twofold. One, our guests love it, so it gives them a reason to shop at Ulta Beauty, whether it's online or in the stores and not other places. I think the next step of that is how we deliver loyalty with the Target partnership. And our guest can -- guests and new guests can earn points there and also come back to Ulta Beauty if you use them. But on the flip side, internally, it gives us the data and we've got almost 33 million guests with the data across all of those categories and services and price points that we're able to use to personalize all of our content and offers. So that's a key competitive advantage as we think about any of those sites, whether it's mass or you mentioned department stores. You need to be able to capture demand and really continue the momentum that we saw in Q1 and be able to win with our guests and capture their share of wallet and capture market share throughout the year and beyond.

Shelley, I think you've mentioned that the plan is [indiscernible] aggressively in the back half. Maybe preserve some of that in the front half, and you'll use more of that in the back half?

That's right. We are going to be spending a little bit more when it comes to advertising in the back half. Knowing that we're still in a situation where consumers are reemerging. So we want to make sure we are able to put that full court press on in the back half. I kind of touched on back-to-school like no other. And then we have, of course, our 21 Days of Beauty, which is always a marquee event for us. But when we think about makeup renaissance and us being able to really spur that, that will be key. And then making sure that we can really capture the demand and see the competitive winner in holiday. And this holiday will be a reemergence of life, and we're going to make sure we have the marketing pressure and the hyper relevance and personalization to be able to capture it.

All right. I know we're running up on time. But Kecia, I want to give you just 1 quick minute to talk about the Target partnership. Just to clarify some misconceptions out there. So just talk a little bit about the economics, the royalty versus the phased cut? And then thinking about as those stores roll out here over the next 3 to 4 years?

Yes, absolutely. Well, listen, it's 2 powerhouse brands coming together operating from a leverage of strength and could not be more excited to have the first 100 stores rollout at the end of this summer, so late summer, definitely come in and check it out. So you want to hear about what the financials look like. It's a royalty partnership. The product is owned by the Target organization. We are negotiating with the brand. So it's the relationship that Ulta Beauty has with the brands that we're doing the front side of the negotiation, the Target on the inventory. Targets staffing it with their associates. Beauty adviser, dedicated Target associate that's going to be Ulta Beauty trained. I think I mentioned that it is a royalty agreement. So the more productive we are with the space, everyone wins along the way. And we look forward to having accelerated growth through 2023. We haven't shared exactly the numbers, but we're coming at this with the long-term play in perspective. So we're really excited the teams are cross-functionally working very closely together. And it's great to see 2 great companies that have such strong cultures coming together to disrupt the world of beauty.

Scott, I want to leave a final word with you. And this question is really about the phase. So really a period of expanding growth store sales. And now it feels like we're entering a phase of a bit more managed growth. You're talking about optimizing cost structures and controlling the growth a bit more, getting towards the tail now of the build-out cycle of new stores. So talk a little bit about what that means in terms of the comp leverage threshold that you think you need to deliver to drive the earnings growth that you've seen in the past? And then what are maybe some of the other levers that you're leaning into that you think can help propel that operating margin back up into that 11% range or even above it?

Yes. So we're very optimistic about our ability to increase margins over time. Again, over the course of the last couple of years, we've been able to pivot the business and react to some, what I'll call, the makeup disruption, which caught all of us kind of by surprise back in mid-year 2019. So since that point in time, we've taken some major actions around store unit economics. We've -- we're capturing significant cost efficiencies through vendor negotiations to manage fixed store costs. We've taken actions, implemented new capabilities like BOPIS, which is better margin delivery for us; ship-from-store capabilities, which is better margin for us. We've enhanced our personalization efforts with our consumer. Again, these are investments we've made over the last few years. Shelley mentioned it before, optimizing our promotion and discount strategies with our guests, which helps drive merchandise margins. So we still think there's a lot of room for growth there for us to optimize the overall cost structure of the business. And that's what gives us the optimism for what the future looks like for Ulta Beauty.

That's great. Shelley, have you announced 21 days, the dates yet for fall?

We have not. We got until the end.

Okay. Well, thank you all 3 of you for joining us. Always really informative, and it's a great sneak peek into what might be coming in the back half. And I tend to agree [indiscernible] to come off. Hopefully, people are comfortable getting back, enjoying beauty again. So thank you all. I really appreciate it, and thanks, everyone, in the audience for joining us today. If you have any follow-up questions for Ulta, just reach out to your Jefferies representative, and we'll get you in touch -- they've got a fantastic IR team as well. Thanks, everybody.

Thank you.

Thank you for having us. Bye.