Ulta Beauty: Quality Business And No FCF Growth Priced In

Investment Thesis - Ulta Beauty is the largest specialty beauty retailer in the US, capturing 9% of the $112 billion US beauty product market in 2023 [3] - The company has seen a deterioration in fundamentals since April 2023, with shares underperforming and trading at a rich valuation [2] - Despite challenges, the cash flow stream from 43 million Ultamate members is valued at approximately$18 billion, indicating limited downside and potential for a 30% return in the next year [2][16] Company Performance - Ulta operates nearly 1,400 stores across the US and has a digital store, with 95% of sales coming from Ulta Beauty Rewards members [3] - The company has historically delivered high sales growth, stable margins, and EPS growth, but recent performance has declined, particularly after disappointing F1Q23 earnings [4][5] - Management has indicated that consumer pressures, such as high credit card debt and inflation, have impacted demand across beauty categories [4][5] Market Dynamics - Ulta's sales growth has slowed, with a notable decline in comparable sales guidance for 2024, projecting 2-3% growth compared to a long-term target of 3-5% [12] - The competitive landscape has intensified, particularly with Sephora gaining market share through store expansions and partnerships [5][12] - The North American beauty market is expected to grow at a 6% CAGR from 2022 to 2027, providing a potential growth avenue for Ulta [12] Financial Analysis - A reverse DCF analysis suggests that market participants are pricing in near-zero growth for Ulta, with an implied FCF growth rate of 0-1% over the next 10 years [6][7] - The company has a capital-efficient business model, with Capex/Sales below 5%, and is expected to stabilize sales growth and operating margins in the second half of 2024 [11] - Management anticipates improvements in gross margins in 2H24, which could lead to positive surprises in performance [11][12] Future Outlook - The October Analyst Day is expected to provide new long-term targets for sales growth and operating margins, which could enhance investor confidence [11] - Ulta's loyalty program, with 43 million members, represents a significant asset that could support future revenue growth [9][10] - The company is positioned to potentially achieve long-term top-line growth of 5% per annum, supported by both domestic and international expansion efforts [12]