Ulta Beauty Inc (ULTA) 2013 Q2 法說會逐字稿

Greetings and welcome to the Ulta Beauty second-quarter 2013 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, Laurel Lefebvre, Vice President, Investor Relations.

Thank you.

You may begin

Thank you.

Good afternoon and thank you for joining us for Ulta Beauty's second-quarter 2013 conference call.

Hosting our call Mary Dillon, Chief Executive Officer; and Scott Settersten, Chief Financial Officer.

Also joining us today are Janet Taake, Senior Vice President of Merchandising; and Jeff Severts, Senior Vice President of Marketing.

Before we begin, I would like to remind you of the Company's 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 may make references during this call to the metric free cash flow, a non-GAAP financial measure defined as cash provided by operating activities minus purchases of property and equipment.

With that, I'll turn the call over to Mary.

Thank you, Laurel.

Good afternoon, everyone.

I'm delighted to be hosting my first earnings conference call as the CEO of Ulta Beauty.

The team delivered an excellent second quarter with strong sales and margin performance.

Our second-quarter performance highlights many of the reasons I decided to join Ulta.

We operate in an industry that's growing and important to our guests; Ulta has a differentiated format that resonates with customers; we have a solid long-term growth strategy; and a strong team that's executing that strategy very well.

Leading that team for much of the second quarter was our Interim CEO, Dennis Eck, and I would like to thank Dennis for his leadership and dedication to the success of Ulta Beauty over the past few months, and the other Board members for their support, as well.

Now, to recap the Q2 headlines.

We grew the top line 24.8%; comparable store sales increased 8.4%, including the impact of our e-commerce business, which continued its rapid growth with a 72% top-line increase.

Operating income increased 26.8% and operating margin improved 20 basis points to 12.1%.

Earnings per share increased 29.6% to $0.70 per share.

The team will provide more details on the results and the drivers for the quarter.

Before that, I'd like to make a couple of comments on my perspective on the Business after my first two months on the job.

Ulta has enjoyed tremendous success for the past several years, executing a well-defined strategy.

And that includes accelerating store growth; introducing new products, services, and brands; enhancing our loyalty program; broadening our marketing reach; and increasing our digital focus including Ulta.com.

I don't plan to make any radical changes to the strategy, but rather I plan to expand and build upon this solid foundation.

In my first couple of months, I have been in our stores, getting to know the Business and our people.

I'm incredibly excited about our potential.

The beauty category is expected to continue to grow 3% to 4% over the long term, and I believe Ulta can continue to capture market share.

I expect that share gains will come through new store growth; healthy same-store sales growth driven by new customer acquisitions; and more frequent visits of existing customers who are attracted by newness in our offering and the strength of our marketing and loyalty programs.

We'll continue our focus on introducing new products and services that drive traffic; on continuously improving our loyalty program with increased simplicity and benefits for the customer; on delivering value to the customer through our Gift with Purchase programs, discounts and special offers; and improving our CRM program to better target and refine our offerings.

In addition, I see great opportunity to test and activate new strategies to further drive growth and profitability.

These include driving greater awareness of Ulta as a brand and a retail concept and creating a stronger emotional connection to our brand; deepening our insights about our current and prospective guests, continuing to identify opportunities to best meet her beauty needs; further driving digital discovery and e-commerce; continuing to provide great value while reducing reliance on price promotion; and finally, exploring new ways to continue to create excitement for our guests.

Now with that as a backdrop, I'd like to share with you my key priorities for my first 100 days at Ulta Beauty.

First and foremost, I plan to work with the team to deliver the 2013 financial performance that we've planned.

Another top priority is supporting our store growth plan.

At the same time, I'll be focused on addressing business needs in the area of supply chain and our digital omni-channel approach.

I'll also be assessing the Organization's talent, capabilities, and culture needs, as we continue to aggressively grow the Business.

I'll also spend time getting to know key vendor partners, and of course, analysts and investors.

I'm highly energized about the opportunity ahead of us, and about how much runway the Ulta brand has.

So now I'd like to our SVP of Merchandising, Janet Taake, and our SVP of Marketing, Jeff Severts, to talk about the progress they and their teams have made with the key elements of our growth strategy.

And then our CFO, Scott Settersten, will wrap up with an update on our real estate strategy and a detailed review of the numbers.

So let's start with Janet to update you on brands, products, and services

Thanks, Mary.

The merchandising team has a [lure] a steady stream of compelling new products and brands for our guests in the first half of the year and are even more excited about the newness we're launching in the back half.

Ulta gained share in all categories during the quarter.

Our strength in the top line was, again, driven by prestige cosmetics and skin care.

To recap the highlights of the second quarter, we've launched Sarah McNamara skin care, Ulta Men's skin care, and Mally Beauty Cosmetics developed by celebrity make-up artist Mally Roncal.

Many of our premium brands launched new products including Stay Flawless 15 Hour Primer from Benefit; limited-edition spring colors from Clarisonic; Diamond Oil from Redken; and Moxie lipstick from bareMinerals.

Benefit has quite a new product launches this year and we are also making good progress on the services front.

We have about 360 Benefit Brow Bars in Ulta stores as of the end of Q2 and plan to have more than 400 by year-end, making Ulta the largest Benefit Brow provider in America.

We continued to roll out brow tinting in the Benefit Brow Bars and expect to have 100 stores offering this additional service by the end of 2013.

To update you on Clinique and Lancome, we ended the second quarter with 90 Clinique Boutiques and expect to have 100 boutiques by year-end.

We added another 5 Lancome Boutiques during the quarter with 20 more planned for the fall, for a total of 105 Lancome Boutiques by year-end.

Both Ulta and our prestige brand partners are very pleased with the results of these boutiques and our guests are delighted to find these brands in our store.

Looking ahead to the third quarter, we have a tremendous amount of newness in the assortment.

A few highlights of the new products we're excited about are Urban Decay ultra long-wear pencils and lipsticks; Smashbox Liquid Halo foundation, Tarte's Amazonian clay foundation; The New Black Innovations in Color nail kits; and the Infiniti Pro Curl Secret from Conair.

We continue to work with our vendor partners to offer our guests items sold exclusively at Ulta, including Stila's Dancing with the Stars collection; Butter London's Colour Cosmetic collection; and Living Proof Perfect Hair Day 5-in-1 Styling Treatment.

We are launching several new brands this quarter that have a strong following and unique brand personalities including It Cosmetics, Jamie Kern Lima's award-winning line of color cosmetics infused with anti-aging technology; and Meaningful Beauty's skin care system, Cindy Crawford's brand developed in partnership with Dr. Sebagh, a renowned anti-aging expert.

On the mass side, we just introduced Jane Cosmetics, a brand that was very popular and trendy in the '90s and was recently completely revamped and relaunched.

Jane Cosmetics products are available online and in 500 Ulta stores today, with further expansion planned for October.

We continue to enhance our merchandise assortment on Ulta.com, including launching new brands and products a couple of weeks in advanced of their in-store launch.

Grooming has seen a strong trend online with products like Tria, a laser hair removal device, and other personal care appliances becoming strong sellers on Ulta.com.

Turning to salon, our services business continue to see strong momentum in Q2, driven by a good balance of higher customer traffic and higher ticket.

Our efforts to improve retention of stylists and grow our team of more experience stylists are translating into higher sales in the salon business.

Coming up in the third quarter, we are launching a new collection of trend right hair color looks for fall and have rolled out chain-wide training in new color techniques.

We are also beginning to use our CRM platform for targeted offers to increase salon trial among our rewards customers.

We expect our salon business to continue to deliver growth as we improve execution and retention and test and roll out new service offerings like lash extensions.

In summary, we're building momentum by adding new products, brands and services to our overall offering to continue to fuel strong growth and market share gains and enhance our positioning as a beauty destination.

Now I'll turn it over to Jeff Severts, SVP of Marketing.

Thank you, Janet.

I'm going to start by highlighting our key promotional activities during the second quarter.

I will then update you on our loyalty program and CRM platform and then finally wrap up with an update of our e-commerce business.

The largest marketing promotion of the second quarter was our signature Love Your Hair event.

This year we expanded it to a three-week duration and executed a fully-integrated marketing campaign with a strong focus on digital tactics.

The campaign generated millions of impressions and thousands of sweepstakes entries while driving traffic to the stores.

At the end of the quarter, in late July, we launched our first digital brand-building campaign called Beauty LOLs.

As we've discussed in prior calls, we have a big opportunity to grow Ulta through increased brand awareness.

With Beauty LOLs, we are using digital and social media tactics to invite women across America to submit their own stories about the humorous beauty mishaps they've experienced.

To date, we've received thousands of submissions in form of stories, pictures, and videos and we've directly or indirectly reached a significant number of potential new customers.

While we're working to bring new customers into the top of our marketing funnel with campaigns like Beauty LOLs, we continue to drive today's performance with our bottom of the funnel initiatives.

Our loyalty program member count is now past 12 million, an increase of about 19% year-over-year.

Member sales continue to grow as a percentage of the total and our retention rate continues to improve.

Consistent with last quarter's announcement, we expect to convert the remaining 50% of the country still on our legacy certificate program to ULTAmate Rewards, our newer points-based program in Q1 of 2014.

This conversion will allow us to more effectively communicate the benefits of being a loyalty program member at Ulta.

We will also be able to better leverage our CRM platform because we will now have a universal currency for driving customer behavior.

With our CRM platform and our more robust customer analytics team, we have significantly improved our abilities to segment our customer file.

As a result, our communications now feature content that is much more relevant to the target audience.

We have been moving promotional e-mails from one-size-fits-all to a modular, more personalized approach, helping us drive increased sales and margins.

We executed 27 CRM campaigns during the second quarter and continue to experiment with different promotional offers.

Overall, sales driven by e-mail are up dramatically, while the total number of e-mails we're sending is down.

Now, turning to e-commerce.

Top-line growth in Q2 was 72% with nice improvement in the margin rate.

Growth was once again driven by prestige cosmetics and skin care categories.

We have brought new brands into our online assortment, like Perricone and Mally, and we have enjoyed continued success with our limited-time offers we've trademarked as Beauty Breaks.

Our website redesign project is on track for delivery in Q3 and we'll carefully convert customers to the new site with a phased approach to implementation.

We recently began fulfilling e-commerce orders from a second distribution center and are currently staffing up to scale that capability in time for the holiday season.

Looking forward, I would note that this quarter, we are starting to anniversary the work we did to stabilize the site last year.

So we expect our top-line growth to moderate somewhat, as we stop lapping some easier comparisons.

We also expect some conversion disruption, as customers adapt to the new website.

These two effects will make it challenging to match the e-commerce growth rate we experienced in the first two quarters.

We are making strong progress against all our marketing priorities.

We are broadening our reach through digital tactics; we are strengthening our loyalty efforts by converting to one program; and we are improving our CRM capabilities through experimentation and analytics.

In e-commerce, we are driving today's business while building capabilities to support a high-growth future.

With that, I'll now hand it over to Scott.

Thanks, Jeff.

Good afternoon, everyone.

I'll recap our real estate program and review our financials.

Our growth and development team continues to execute the plan very well, identifying high-quality sites and opening new stores on time and on budget.

In Q2, we opened 33 new stores, ending the quarter with 609 stores in 46 states, representing 25% square footage growth.

New store productivity remains strong, driven by the quality of our new locations; increasing brand awareness; a more compelling assortment of products and services; and great execution of our grand openings and marketing programs to get our stores off to a strong start.

For the back half of the year, we are on track to execute the balance of our 125-store plan.

We expect to open 53 stores in Q3 in 13 stores in the fourth quarter this year.

We're also on track to complete the seven remodels in our plan and expect to end the year with just 38 stores in older formats.

Looking ahead to next year, we have already approved 90 sites for our 2014 program.

While we have not yet settled on a firm number of openings for next year, we expect to have more remodels in our plan than we did this year, when much of our focus was on new stores.

This year's 125-store program is at the upper end of the range of what we feel we can comfortably execute from a store staffing and operational execution perspective.

As a result, on a base of 675 stores by year-end, we'd expect the absolute square footage growth next year to be more aligned with our long-term guidance of 15% to 20%.

Now turning to a detailed discussion of our financials.

Second-quarter sales were $601 million, an increase of 24.8% compared to sales of $481.7 million achieved in Q2 of 2012.

Our 8.4% comp was stronger-than-expected, and reflects 130 basis points of benefit from our e-commerce business, as well as a benefit from our salon business, which comped better than the product side of the house again this quarter.

The retail comp of 7.1% compares to 9.3% in Q2 of 2012.

Last year's retail and e-commerce combined comp was 9.7%.

Our comp was primarily driven by an increase in average ticket.

The composition of our same-store sales increase was roughly 80% ticket and 20% transactions during the quarter.

The higher average ticket reflects less discounting, as we successfully implemented strategies to be more targeted with our promotions.

It also demonstrates strong growth in our salon and e-commerce businesses, where the average ticket is higher, as well as the continued mix shift in our stores and online for higher-ticket items, such as prestige cosmetics and skin care products, which continue to drive the fastest growth in our assortment.

Gross profit margin increased 50 basis points to 35.3% from 34.8% in Q2 of last year.

Gross profit leverage came in better than we expected due to higher-than-expected sales growth, which helped us achieve stronger fixed-cost leverage than planned.

Gross profit improvement was evenly split between merchandise margin due to mix and disciplined promotions and rent and occupancy leverage on higher sales despite the large proportion of young stores in the portfolio.

SG&A expense as a percentage of sales increased 40 basis points to 22.4% compared to 22% in the second quarter of last year, driven by the expansion of prestige brand boutiques and investments in store labor to support the growth in our prestige categories.

Deleverage was less than we expected due to higher-than-expected sales and the timing of some of the investments planned for this year, with some shifting out of Q2 and into Q3.

Pre-opening expense for the quarter was $4.8 million compared to $4.1 million in Q2 of 2012, due to adding 33 new stores compared to adding 22 new stores last year.

Operating margin rate increased 20 basis points to 12.1% compared to 11.9% a year ago, with operating income up 26.8% to $72.9 million.

The tax rate was 38.4% compared to 39% in Q2 of 2012.

The decrease is primarily due to changes in our state tax liabilities.

Net income per diluted share rose 29.6% to $0.70 compared to $0.54 last year.

Turning now to the balance sheet, starting with inventory.

Inventories at the end of the second quarter were $461.2 million compared to $316.7 million at the end of Q2 of 2012.

Total inventories increased 45.6%, and average inventory per store increased 16.9% compared to the prior year.

Growth in total inventory was driven primarily by the addition of 120 net new stores opened in the past year.

Inventory per door increases versus last year are being driven in part by the addition of roughly 150 prestige brand boutiques since the end of 2Q last year.

Each boutique represents an incremental inventory investment of approximately $75,000.

It also includes a $20 million permanent investment in basic, high-turning inventory items we made in the fourth quarter of 2012, to improve store in-stock levels, as well as the continued introduction of new brands as we enhance our product offering across the store.

And to a lesser extent, but still impactful, the timing of receipts to support over 50 new store openings, as well as bringing additional e-commerce fulfillment capacity online in our Northeast DC in Q3.

While difficult to measure, we believe that these inventory investments are translating into a better guest experience and contributing to our strong sales growth.

Our inventory is healthy, with very low obsolescence risk.

As we mentioned in our last call in June, we expect that inventory per door growth will be in line with comp growth by the end of the year.

Capital expenditures were $56 million for the quarter, driven by our new store program, the addition of prestige boutiques, and systems and supply-chain investments.

Depreciation and amortization were $26 million for the quarter.

Now turning to our outlook for the rest of the year.

We are maintaining our previous earnings guidance for 2013.

We expect to deliver comparable store sales growth in a range of 5% to 7% for the year, including e-commerce.

We expect to grow square footage approximately 22% and we expect to achieve earnings per share growth at the low end of our long-term range of 25% to 30% growth, adjusted for the 53rd week in 2012.

We expect to spend about $225 million in CapEx, including approximately $125 million for new stores and $100 million for merchandise fixtures, remodels and other systems, and e-commerce capital needs.

Depreciation and amortization are expected to be approximately $105 million.

We expect to generate strong free cash flow for the year and we'll continue to evaluate, with our Board, the best use of any excess cash.

Turning now to third-quarter guidance.

We expect to achieve sales in the range of $613 million to $623 million versus $505.6 million in Q3 of 2012.

We expect comparable store sales to increase in the range of 5% to 7%, including the benefit from e-commerce sales.

We plan to open 53 new stores versus 49 last year.

We expect to achieve earnings per share in the range of $0.71 to $0.74, versus $0.59 in Q3 of 2012.

Gross profit margin is expected to increase 100 basis points at the mid-point of the range.

We expect healthy product margin expansion and modest supply-chain leverage, offset by some deleverage of fixed-store cost, driven by our accelerated store growth.

SG&A rate is expected to increase 95 basis points versus last year's 23.3% rate, driven by investments in store labor to improve the guest experience; in supply chain, as we develop our blueprint for the future; and in e-commerce, as we accelerate growth in that business and prepare to deliver a better guest experience.

Some of the upside we saw in Q2 was due to timing of investment spend shifting from Q2 into Q3.

Operating margin is expected to increase approximately 10 basis points at the mid-point of the range to 12.2%.

The tax rate is expected to be approximately 38.2% and we anticipate a fully diluted share count of approximately 64.5 million shares.

This outlook represents robust sales and earnings growth, while balancing the need to make prudent investments to ensure the long-term health and sustainability of our Business.

With that, operator, please open up the call for questions.

Thank you.

We will now be conducting a question-and-answer session.

(Operator Instructions)

Gary Balter, Credit Suisse

Thank you.

First of all, Mary, welcome to the Company.

Looking forward to meeting you.

You talked -- I was going to ask you about what you found in your first few months, but you did a really good job of walking us through that but one of the comments -- you talked about opportunities in supply chain and omni-channel.

Could you go into a bit more detail about what the opportunities are or what you see as the weaknesses now?

Sure, absolutely.

I'll start with omni-channel and then, Scott, maybe you can jump in on supply chain.

We'll do that second.

I would just say, obviously, omni-channel is something that's important to everybody in retail right now and the way I would look at it, it's about being where the guest wants to learn, wants to explore, and of course, where they want to shop.

It's about making it easy for the customer, as well as really being in the conversation, in social media as they are discovering brands.

So I think about omni-channel through many different lenses and, I would say that for us, we will always have what I would say is a very unique asset, which is our store base, which has the combination of product and service, and it's a great part of our model, but also being everywhere else our guest wants to shop is important, as well.

I'd say the investments that we're making this year, and Jeff talked about some of these in his section, are a great step forward as it relates to e-commerce.

So being easier to shop in terms of web, tablet, and mobile.

We're pleased with what that is going to do for our Business and our guest experience, as well.

Now we also have several other projects in flight from a systems perspective to help to continue to enhance the guest experience.

So whether it's selling capabilities in store or discovery as well as associate selling tools.

So all of those are either in process or we've made good progress on already.

And lastly, I would just add that certainly as we think about our longer-term supply chain solution, we're thinking through the evolving guest expectations and how we economically meet those.

And I'll pick up on the supply chain.

Again, we're in the midst, really, of a significant project designing what the future state of supply chain looks like for Ulta.

Our honest assessment is we're probably a little bit behind as far as supply chain processes and best-in-class things are concerned.

We've slowed down the project here just a little bit in recent months and that's what you'll see some of the flip in expense going from Q2 to Q3.

That's really one of the primary drivers.

As you know, Gary, these are big decisions with far-ranging financial and operational impacts on a business over a long period of time.

And so we're carefully looking at what we can do to expand current capacity and also taking into consideration what we think guest expectations are going to be in the future.

So we're still a little way away from the finish line, but as we -- those particulars are finalized we'll be sharing more details with you.

That's great.

Just one follow-up and I'll get off.

But you have Clinique and Lancome in less than 100 stores, let's say 90 approximately of the 609 that you have.

Is there a material difference in the results you get from those stores versus the other ones, driven by having these two brands in there?

We'll have, actually, by the end of this year there will be roughly 200 between both brands.

So roughly 100 of each and we do see that those brands, there's a halo effect on each of the stores that we place those brands in service and it drives customer traffic to the stores.

We've seen that demonstrated.

Could you quantify that [or you won't]?

No we wouldn't be able to break that out for you, Gary.

Okay, thank you very much.

Ike Boruchow, Sterne Agee.

Congrats on a great quarter, and Mary, welcome to the team.

So I'll focus on the top line right now, as there's clearly a lot of volatility in the retail space today, month-to-month.

Is there any way you guys could provide any color on the cadence of how the quarter played out and maybe what you've been seeing quarter-to-date from your customers and then if there's any changes that you're seeing between traffic and ticket?

Ike, we see the same stories in the financial press and the general press at large.

The same kind of things that you guys see on a day-to-day basis.

It seems like there's a divergence in customer reaction and shopping behaviors and it depends what retail category you're in.

We're not going to be able to comment really about what the cadence was within a quarter or what the current business environment is for us but the guidance that we've provided includes our best observations of what current business trends are and all the macroeconomic impacts that we look at as we get ready to discuss that with our Board and come up with our final guidance for the quarter.

Yes, and Scott, let me just add one piece, which is one of the things that is great about our business model is that we have a pretty diverse customer base and through our merchant, marketing, and CRM strategies, the ability to work across those different customer bases.

So we have some folks that are more value-oriented, some people who are about discovering newness and less concerned about value.

So that sets up well really in any economic environment.

Okay, great.

And Scott, just a quick follow-up on inventory.

You did a helpful job explaining away some of the growth that you have at the end of the quarter.

Can you maybe help us think about how inventories plan to end the year and then just how you see the Business normalizing as we get into next year from a growth rate or inventory per square foot basis?

What I tried to do in the prepared remarks is just try to remind everybody of the significant changes in the Business over the course of the last year.

So we've added a lot of prestige boutiques, which are -- represent significant inventory investments.

The new brands that Janet and her team have been able to bring aboard here, again, are skewed more towards the prestige side of the store.

They are higher price points items.

They are in high demand so we're making investments to try to stay ahead of the demand curve and try to service our customers as best we can.

We would see that continuing in the future.

That's part of our strategy.

By year-end, we would expect -- again, year-over-year comparisons that the inventory growth will be in line with the comp growth for the full year.

We would expect that to be the trend as we look out to the future.

Okay, great thanks so much.

Daniel Hofkin, William Blair.

Good afternoon.

Great quarter and I will also welcome Mary.

I look forward to working with you.

Just wanted to follow up a little bit on traffic.

If I heard correctly, you said within the product business that 7.1% comp was about 80% average ticket was that correct?

That's correct

So if the traffic was in that, let's say, 1% to 2% range, can you discuss a little bit what some of the factors maybe that caused that ebb and flow a little bit?

In the first quarter, as I recall, it was more of an even split between the two, that's my first question?

Yes, we've seen the composition of the comp transition over the last three or four quarters from being one that was basically driven by transaction growth to now more recently being more of an average ticket growth situation.

Part of that we would attributed to the macro environment.

So we've seen other retailers talk about traffic being down in centers across the US.

You've seen that reflected in a lot of comp numbers that have been announced here in the last four or six weeks.

We see that in our Business.

We're not immune to that.

We're in the centers right up next-door up to all those other high-quality big-box retailers.

So we seen non-member traffic down year-over-year.

The good news for Ulta is we've got a great loyalty program.

We've seen that be very effectively implemented.

We see our loyalty program members actually shopping more often with us.

And, we -- to top that off, we've got non-member and members actually buying higher-ticket items and driving their basket higher so that's really worked in our benefit here in--

Okay so it sounds like you would attribute most if not all of it to just the overall backdrop as opposed to changes within your specific Business?

That's correct

Okay.

And then as it relates to -- just following up on Gary's question on brand penetration -- is there -- can you talk about what you're thinking, at this point obviously not putting hard numbers on it, but do you foresee a situation where the two Lancome and Clinique could be in a significantly larger percentage of the store base over time?

Is there a subset of the stores where it wouldn't make sense for any number of reasons?

I'd just be interested in your thoughts on that?

This is Janet and thanks for the question.

We are just opening up more boutiques this year.

So with the 100 in Clinique and the 105 in Lancome, we're very pleased with the partnership we have with the brands and we're hopeful that we will add more boutiques in the future but at this point I don't have a definitive answer for that.

Okay and if I could sneak in one last one as it relates to store growth and, obviously, last quarter you had said you had about 50 in place and now 90 for next year.

Is that -- is my memory correct on that?

Yes, that's correct, Dan.

You're on target there.

Okay.

Do you think from the standpoint of your longer-term, your most recent longer-term target of 1,200 stores, how are you thinking about that itself?

And your thoughts also on the smaller format opportunity?

Well, the 1,200 stores, as we've discussed consistently in the past is a realistic target that we're all here focused on.

So that's 1,200 of the 10,000 square-foot boxes that we do so well today.

We've also talked a bit about the 125 store number in absolute terms, that's a mix of new stores and remodels.

It's at the upper end of the range where we feel like we can execute that at a very high level.

So again as you look at next year and beyond that's the absolute number that would fit into your model as you're looking at a percentage growth estimates.

The small store opportunity is one that the team here is focused on internally.

Again, we've got a couple small stores sprinkled throughout the chain right now but the team is focused on really delivering the Ulta experiment in a smaller store format, whether that be in an urban setting or more of a small town rural setting.

So that's something that we're focused on currently and we'll probably have a couple of test stores to roll out next year.

Very helpful, thanks.

Best of luck in the third quarter.

Evren Kopelman, Wells Fargo.

Thanks, good afternoon.

Mary, welcome.

I wanted to ask you, what is your impression of Ulta's brand awareness given the size of the Business and the store chain and your thoughts on potential improvements there?

And then secondly, your view about the marketing spend, both the dollars that are being spent, do you think is that appropriate and also the content of it, the different areas of spend?

Sure, okay, well thank you, Evren, for your questions.

I'd say a couple of things.

One is that our current brand awareness is a great opportunity actually for Ulta because it's not very high and at some point -- if we're doing great, we're in a great industry that's a growing, we've got a very successful business model that's working really well and the team has really built, as you can see, a very successful Business and we're focused on the right strategies.

That said, we do have the potential to really drive even more growth in the future as we think about the fact that there's millions of prospective customers that really haven't discovered Ulta yet.

And so we will figure out carefully over time how to get there but driving more top-line awareness and more customers to Ulta and driving more emotional connection are all opportunities for us.

Women, we know, love to discover new beauty products and services, and especially in a really helpful setting with great value and certainly that's very much what we have to offer.

So, as I look at our current strategies, I'm really pleased to see that we're experimenting and evolving.

I don't think anybody would ever swing a pendulum dramatically on a business without some risk so instead, what were doing is right, which is we're testing and learning.

Jeff and his team are -- the CRM improvements are -- in terms of our ability to target and segment and vary our office are very interesting to me.

Our e-commerce business is growing strongly, as you've seen, which is terrific as well.

But certainly we see that there's opportunities to continue to think about how do we shift the mix over time and drive more awareness, driving tactics, and strategies to the Business.

So we'll continue to evolve that.

And then secondly, Scott, I wanted to ask you about e-commerce profitability.

Where are we today and where can that get to and what kind of timeline, if you could talk about that relative to maybe the corporate average or the store side?

Evren, I would say, e-commerce, it's probably generally knowledge that e-commerce businesses generally do not contribute at the same rate as an installed bricks-and-mortars base of business, the environment that we operate year at Ulta.

So it contributes a lower rate currently but it is scaling up quite nicely and as we continue to scale that business up, we expect that to significantly improve over time so that's part of our long-range plan.

Neely Tamminga, Piper Jaffray.

Great, thank you.

Congratulations.

Welcome, Mary.

We're glad you're here.

So it will be fun working with you.

Just a couple questions here, if I may.

Jeff, for you, what size and scale do you think Clinique needs to be if you're not already doing it already, in terms of targeting either [version] on the print circulars or the targeted e-marketing?

I'm just wondering how much of the Clinique success that you guys have had has just been because of stumble-upon traffic versus how much you guys have actually been alerting area shoppers as to whether or not Clinique is actually in your store.

Could you talk a little bit about that?

And then I have a follow-up?

Sure, Neely.

We actually do both already.

So we version the mailers for Clinique and Lancome already for the geographies where there's enough density of stores in those areas or actually where customers live within a short enough distance of one of the boutiques and then e-mail of course gives us even more options for being very precise in our targeting to her and letting her know what the benefits of those boutiques are for her.

So, we do both already.

Okay, that's awesome.

Thanks.

And then Mary, a question for you.

As you think about the digital strategy for Ulta -- at one point we were counting up actually the SKUs online versus what is actually carried in the store and, if memory serves, there was a pretty big delta between the two there.

Is that one of the key gating factors, expanding from the digital strategy, getting the customer base inside, the website re-platforming done, et cetera?

But then also, just getting the SKUs available online?

Is there something precluding the Company from being able to scale up on that?

Yes, I'll make a comment and then I'll have somebody else from the team to add to that.

I would say that it's both.

First and foremost, I'm really excited about the redesign that we will be launching and it really will improve the overall guest experience and shopability and discoverability on the site so that's a good starting point.

In terms of having more products online, of course we're always going to look to expand that.

So I'll ask you guys to -- Jeff, you want to take--?

I won't add much to that.

We have a pretty high penetration of what you can find in the stores already online.

There's just a couple of categories where we're not where we'd like to be and pro hair is probably the biggest.

And Janet's team is always working very hard to get us up where we are in the stores online so we're making great progress there.

Great and just a follow-up here for Janet, then.

Janet, it's great to see It Cosmetics coming to the store because the great brand and completely spot on with who your customer is.

I was just thinking about it though, is this the first spring you've had maybe in a while or ever where the distribution was initially visible and this is the first retail introduction, I'm just trying to get a sense of sizing up what that opportunity might be for It Cosmetics for you guys?

Thanks.

Then I'm done.

Sure, Neely, it's not the first time but it's been many, many years.

I would go back in history on Bare because it was on DirecTV prior to really launching with us but it's been a long time so, to have a brand that's direct and then coming in brick-and-mortar it's been a new experience since I've been here.

And I can't really speak too much about it because we're just in the midst of launching It Cosmetics but we're very thrilled the partnership and we have great expectations of what the brand will do most importantly for our guest and the experience in the store with our guest.

Thank you.

Good luck to you guys.

Oliver Chen, Citigroup.

Congratulations on great results.

Regarding the performance of the salons comping better this quarter, what was the rational there and is that an opportunity in the back half?

Also, related to your merchandise margin guidance and 100 basis points on the gross margin, what's the driver behind your view of better merchandise margins this third quarter?

On the salon side of the Business, it was -- average ticket, as I mentioned, drove increase but a lot of it is going back to the retention of the stylists and with the retention of the stylists increasing goes back to the loyal guest coming back to that stylist.

The heart and soul of the salon is truly the cut-and-color, which drives the majority of the business, so all of those things have been working and we foresee that the salon will continue to be a solid business.

Oliver, as far as gross profit improvement in the third quarter being driven in large part by improvements in merchandise margin, it's really a continuation of the discussion we started earlier this year.

It's a combination of factors.

It's the business continuing to mix up more towards the prestige side of the box, which again is higher price point and less promotion and less discounting going on there and also on our side being more disciplined and smarter around the promotional environment.

So again whether it's the CRM tool, we can be more targeted with our promotions to customers or the analytics team that supports all that, which is helping us get smarter on how we do those kinds of things so those are really the primary drivers.

Thank you.

And Mary, as you engage in the journey to make the brand potentially more emotional, how should we think about the financial impact there and the timing?

And what do you foresee how that will impact the Business or the brand portfolio or traffic?

I like that question.

How to quantify emotion.

(Laughter) I'm going to figure that one out.

It's a journey.

It's really just about continuing to refine how we think about positioning Ulta and making sure that all of our communications add up and the guest experience adds up to an ideal guest experience.

I don't think we have a problem there; we have an opportunity to continue to have folks just discover us and hence have a deeper relationship.

Rely on us as really their beauty expert.

So that will play out in many different ways but it won't be something that happens overnight.

It's something you have to earn over time.

And as I mentioned earlier, I would just say it's the totality of everything we do but we're not going to swing a pendulum and all of a sudden start doing things really differently in terms of stopping all of our promotions and doing only advertising or something.

You really have to work your way to that to really find the balance of the mix.

And again, the team has done a nice job already of -- with a loyalty program that's really working well, with CRM analytics, that are helping us refine this.

So I would think about it as a journey over time that just is an opportunity for us.

Okay, thank you.

Best regards.

Brian Tunick, JPMorgan Chase.

Thanks very much and I'll welcome Mary, as well.

One question for Scott and then one for Mary, maybe.

So, on Scott, on the $0.13 of incremental investments this year, can you maybe talk about some of the pieces that could continue into next year?

Or are there potentially new initiatives as you continue to move towards that 1,200 store opportunity?

So just curious, of the $0.13, maybe what are some things that we should expect?

And maybe, Mary, if you look ahead to the planning around holiday this year, just curious as you reflect on and you look at the results of holiday last year and you see the current tough traffic environment out there, what gives you the comfort to guide essentially a 5% to 7% comp for the holiday?

And if there are any tweaks to the plans that you're making now?

I'll go first.

The investments, again the $0.13, were split roughly evenly between labor investment in stores to support prestige growth, supply chain, e-commerce investments to drive growth there, and then of course the new store program.

So, number one, Brian, on the new store program, we would think that's going to moderate a little bit, again, as you look at 2014, so the absolute number of stores is not going to grow beyond the 125, so on a percentage basis that should help or moderate a little bit as we look forward.

E-commerce, I would say again, we're going to continue to make investments there; it probably won't be at the same level generally speaking because we wouldn't expect to have a new website redesigned next year.

So we will continue to invest in the team there and some of the analytical stuff we have to do that but infrastructure-wise it shouldn't be as big a bite of the apple next year.

Supply chain, I mentioned we slowed that project down just a little bit so the expense is flowing towards the back half of 2013.

We would expect to have a final determination here some time in the fourth quarter on what the plan is going to be.

So that will go -- that will transition from being an expense item to more of a capital item as we transition into 2014.

Again, we'll be able to size that up for you a little bit more once we have our final answer there.

Store labor.

Again, we deleveraged on store labor this year significantly to try to improve the guest experience in the store and to support the prestige side of the Business, which continues to grow at a very high rate.

With Mary entering the Business here and us taking a fresh look at the strategy and how Ulta is going to evolve here over time, that one might be a little bit more TBD as I look into 2014.

Again, I wouldn't expect it to be a significant change from where we are '13 versus '12 but there could be some investments that we look at there.

It just depends.

And then on holiday, I'll just make a couple of comments, then all ask Janet to add to this, but certainly we're very focused on our holiday readiness.

I feel very confident.

I know that across the merchant teams, the store operations teams, marketing, supply chain, that everybody is really focused on making sure that we have a strong holiday season and I have confidence that the team has put together a good plan, so would you like to add some color to that?

Sure.

And we are very focused on gift-giving categories across all areas of the store.

And we feel that we have both value, as well as some exclusive items, as well as some of the things that we do traditionally every year that other people may not do to really incent some of the categories for holiday but we feel very good about our holiday assortment coming in this year.

Matthew Fassler, Goldman Sachs.

Thanks a lot, congratulations on your quarter.

I want to focus, for moment, on a couple other angles on the online business.

First of all, you spoke about online being a factor in driving traffic.

If you could just speak about the composition of the typical online transaction and what about it drives the ticket higher?

And then also if you could tell us within online what you've seen essentially in terms of traffic conversion and ticket?

So, Matt, this is Jeff.

I may have to have you repeat the second question or catch it from somebody here, I'm not sure I got that, but on the first question of how is that a factor in driving higher ticket, we have, as long as I've been here anyway, seen a higher ticket in the online channel than in the retail channel so as that becomes a stronger portion of the total mix it's just carrying average for the enterprise up.

Does that answer your question or did I miss that?

No that's good.

And the second one, the question was, to the extent that in aggregate your comp growth shifted from being traffic-driven to ticket-driven.

If you think about the big surge that you've seen in online, is that more a function of online transaction growth or online ticket growth within the online channel?

Oh, I see.

So, within the online channel, the mix has been heavily traffic versus ticket, so that's been predominately traffic-driven.

And a follow-up if I could.

You spoke about tougher compares and online for that -- as you cycle the second half of last year when it sounds like you started to make real headway.

I believe you only started giving us online contribution with this level of specificity in the first quarter of 2013, so any sense you could give us as to how the momentum of your online business change revolved as you moved through 2012?

I [wouldn't] be able to tell you.

Matt, if you look, we provide some of these details in our Q, as well, which got filed today.

So year-to-date, last year, it contributed 40 basis points to comp and this year, it's at 130 to 140 basis points of comp so that's the relative spread year-over-year.

Okay, thank you so much, guys.

Joe Altobello, Oppenheimer.

This is Christina in for Joe.

Most of my questions have been answered at this point but I just wanted to follow-up on, it sounds like you're saying that your customers aren't as focused on value as they were maybe in the last few quarters and I was wondering if you could talk about that a little bit more and if you're continuing to see that in this quarter?

Yes, we talked a little bit about in the first-quarter call, we started seen this trend continue as we exited the holiday period and got through some of the rough seas we saw early in the first quarter, that we saw this divergence in our customer profile, much like the rest of America has seen it.

There's a certain portion of our customers, our core customers, that are pursuing value and that are very focused on whatever coupon or promotional event that we're running at the time and then there's a good portion of our customers that the sense is that price is really no object; they're pursuing whatever the hottest new gadget is, or the hope-in-the-bottle or hope-in-the-technology or whatever it might be, so the good news for us is we serve a wide continuum of customers and a lot of different products available in our stores.

So that plays to our strength.

Great thank you and then just one last one about gross margin, what your expectations are for the full year?

We would expect -- we talked about quarter-to-quarter, we would expect to see the continuation of improvement in our merchandise margin as we get deeper into the year.

That will be the major driver in third quarter.

Again, if you look at it historically, that moderates somewhat as you get into the fourth quarter because of the promotional environment and the competitive environment in the fourth quarter so that will be the driver for the rest of the year, by and large.

Thanks

David Wu, Telsey Advisory Group.

Congrats on the solid quarter and welcome aboard, Mary.

First, you mentioned that the major comp driver was a higher ticket and I'm just wondering how much of the ticket increase was driven by less promotions on the mass products versus the mix shift toward prestige and do you expect ticket to remain the main driver of the comp through the back half of the year?

Well, that's what we're seeing as the most recent reality in the marketplace in our stores, so we would expect the trend to continue absent any other significant change in the macro environment.

The ticket, when we talk about the ticket, most of it was average selling price, that was the majority of the ticket increase so units were up slightly.

So, again, it's subject to assessment and analysis on our side but we tend to think that our customers are making choices too, just like -- people are choosing autos and home and home improvement versus other discretionary kinds of things; when they get into our stores, they're choosing a higher price-point prestige product and offsetting that with not buying in other categories so that's what we're seen as the current business trend right now.

We really don't foresee any significant changes there in the near-term.

Great.

And you mentioned already approving the 90 sites for next year and I was wondering how much of it will be in new markets versus backfilling existing ones?

Well, we always take a very balanced view towards our real estate strategy, so that's been our profile since day one here at Ulta and so that -- we would expect that to continue.

So it's always a balanced approach with single-store markets, major metro areas, and backfilling markets as we look at our real estate.

We're always cognizant of the sales transfer or cannibalization impact on those stores and making sure that we're making really good decisions.

Great.

And as you expand into some of the smaller markets, are you looking to opening smaller format stores?

So below your average 10,000 square-foot store size in order to maximize productivity and as you continue to do that, do you think it could potentially change the new store economics?

As far as the economic model is concerned, that's a little far out right now.

We're not -- the thought process isn't that far down the path on that one.

That would be something again, when you're talking smaller footprint, we're looking at different potential sizes so 5,000 square feet up to 7,500 square feet and just trying to figure out what works best inside each one of those footprint and of course that would be different if we're doing that in an urban setting versus some kind of rural setting.

So we do believe the small store is a good, solid opportunity for us in the long term and it's something that we hope to see again in some limited test cases in 2014.

Excellent, thank you very much.

Jill Nelson, Johnson Rice.

[Excepting] on the strength of the salon, you mentioned a trial you're going to run with customers to get them to the salon.

I was wondering, is the bulk of your salon customers under the loyalty program now?

I would assume they're pretty loyal and good customers for you to have?

Yes, our salon customers -- service customers are our best customers.

They visit our stores more often than an average loyalty person does.

So we recognize the value in those folks and we're looking -- strategies and tactics to try to drive more engagement and try to get more people to try the salon at Ulta.

So, Janet mentioned that we're going to have a CRM initiative to try to touch our loyalty members and try to get them engaged and get them to experience the salon and we figure once we get them to try that there's a good chance that they're going to continue with us and that's a great add for us as far as value is concerned in the long-term.

Okay.

And then have you ever quantified, of your total sales, the percentage that is tied to your loyalty program?

No we've consistently said it's greater than 50% of our sales and that's all we're going to share.

We all laughing and smiling here.

It's something that we think in the future that we might want to provide a little bit more granularity and color on.

So maybe stay tune in 2014 for that

All right.

And then just one last question, given you talked about some shifting of the expenses.

Is there any way you can quantify of the $0.13 of investments you're making this year, how many have -- how much of that $0.13 has already occurred in the first half?

Just asking given you mentioned a shift from second to third quarter so--?

Yes, Jill, sorry I don't really have that kind of detail handy with me.

Generally speaking, the e-commerce stuff will be by and large behind us by the time we get to the end of September.

Supply chain has pushed back into the second half of the year.

We thought that would be more evenly balanced quarter-to-quarter.

The store labor, as well, we did some experimentation with that in testing early in the year and now that's really picking up steam in the back half of the year.

So it's a little tough here to give you any more quantitative answer than that.

All right, thank you.

Mark Altschwager, Robert W. Baird.

Just a follow-up on the store growth.

Can you just talk about what learnings you've had as you've ramped to that 125 pace?

And then moving forward, as that pace slows, would you expect to see more operating leverage given the system from a training perspective is going to be less stressed?

We considered our real estate program and what we do with processes around new store to really be a core strength of Ulta.

The [keys] that we have, the experience that we have doing this and the way we've been able to accelerate the store growth plan over the last couple of years has really been outstanding.

And in the new stores again, congratulations to the team.

The sites we've identified, those stores are producing excellent results, right on target with where we want to be and that's great for Ulta.

As far as the future is concerned, we would expect again the 125 to be the absolute top end, so percentage-wise, yes, that's going to help on the leverage when you consider fixed-store cost and what that -- impact that has on the P&L so we would expect to see some benefit there next year.

Great, thanks, and then maybe to push for one more on the loyalty program.

As the new loyalty program has built momentum, any metrics you can share with us just on the customer behavior on the coupons versus the new point system?

Their timing of purchases, frequency, basket size, any metrics you have comparing the new program with the old?

Mark, this is Jeff.

We generally are pretty tight-lipped on details about the loyalty program.

We view it as central to what we do and proprietary in many ways.

So, we probably can't reveal what you'd hope to hear today.

We would say, though, that it's clear that those customers are more engaged than the [focus in the] certificate program, that they prefer that over the alternative and that we see those folks more often, they are more engaged with the program and it's going to be a big win for all of us when we move everyone on to that program next year.

Thank you.

Thank you.

There are no further questions at this time.

I would like to turn the floor back over to Mary Dillon for closing comments.

Great, thank you.

Just to wrap up, I'd like to first thank our 19,000 Ulta Beauty Associates whose hard work delivered excellent results this quarter.

In my short time as CEO, I've seen that our Associates truly love what they do and they are incredibly passionate about Ulta and our guest.

I've already developed great confidence in the team's ability to deliver another strong year of growth in sales and earnings while making wise investments to set up the Business for long-term performance.

Thanks to all of you for your interest in Ulta Beauty and I look forward to meeting you in person in the coming months.

Thank you.

This concludes today's teleconference.

You may disconnect your lines at this time and thank you for your participation.