Ulta Salon and Sally Beauty: 2 Stocks That Can Add Shine to Your Portfolio

Some companies in the beauty and personal care segment have one important characteristic -- a recession-proof nature, which is a result of everyone's desire to look beautiful and young. This brings us to Ulta Salon, Cosmetics & Fragrance and Sally Beauty Holdings . Both have performed quite well over the last few years, as shown in the chart below, even during the recession (the gray area being the recession period). Their performance stands in stark contrast to that of Regis , which has seen its top line drop continuously after peaking in 2008.

ULTA Revenue (TTM) Chart

ULTA Revenue (TTM) data by YCharts

Ulta Salon and Sally Beauty have demonstrated "recession-proof" capabilities, with Ulta Salon being the star performer with more than 224% growth in revenue compared with around 47% for Sally Beauty, shown in the chart above. Regis has been the laggard among its peers.

The U.S. prestige beauty market grew 6% during from September 2012 to August 2013 according to the NPD Group . The prestige segment continues to outperform all other segments in the beauty industry as a result of strong innovation and solid demand, particularly in skin care.

Ulta's beautiful performance
Ulta Salon has been cashing in on the segment's growth through expansions of its prestige brand boutiques for major flagship lines such as Clinique and Lancome, which have gone down well with customers. These boutiques helped drive revenue higher in Ulta's second quarter. Ulta also reported an 8.4% increase in same-store sales, which includes e-commerce sales that were up 72% versus the same period a year ago.

Ulta Salon generated second quarter revenue of $601 million, up 24.8% as compared to the same quarter a year ago, comfortably beating consensus estimates of $588.4 million. This was also more than its own guidance of $579 million to $589 million. Net income rose 28.3% to $44.9 million. Diluted earnings per share rose 29.6% versus the year-ago quarter to $0.70 per share . Ulta Salon also issued an upbeat forecast for the remainder of the year.

Ulta Salon will be launching several new brands that have strong followings and unique brand personalities. This includes IT Cosmetics, Jamie Kern Lima's award-winning line of color cosmetics infused with anti-aging technology, and Meaningful Beauty's skincare system, Cindy Crawford's brand developed in partnership with Dr. Sebagh, a renowned anti-aging expert.

Ulta Salon has also been working on expanding its customer base. In the second quarter, its loyalty program grew to 12 million active members, up 19% from a year earlier . This is good for the long run as Ulta will have more customers coming in to its stores at regular intervals.

Ulta Salon's value offerings, marketing initiatives, introduction of new products, and increasing focus on Ulta.com and brands will continue to play a key role in augmenting its overall business going forward. The company opened 33 stores in the second quarter, thus bringing its total store count to 609, and expects to have 675 stores by the year end. The company's long-term guidance is to grow its square footage by 15% to 20% a year .

Sally Beauty's efficiency
While Ulta might be the star performer when it comes to growth, Sally Beauty outshines its peers when it comes to operating efficiency. Sally Beauty leads the pack with a 14.18% operating margin for the trailing twelve months, which surpasses Ulta's 12.48%, as shown in the chart below. In addition, Sally Beauty, like Ulta, has been delivering solid top-line growth consistently.

ULTA Operating Margin (TTM) Chart

ULTA Operating Margin (TTM) data by YCharts

Sally increased its gross margin by about 530 basis points from 44.2% in 2003 to 49.5% in 2012, which is a strong indicator of its pricing power. However, Sally has a problem with lower, non-Beauty Club Card (customers not covered by its loyalty program) traffic in its U.S. stores. This resulted in a minuscule 0.7% increase in comps, as a result of which its revenue grew by a mere 2.8% year over year .

Going forward, Sally sees the potential to double the number of its non-U.S. stores to approximately 1,500. In particular, Sally considers Europe and Canada to be key growth markets. In addition, with just about 7.2 million Sally Beauty Club Card members, there's potential for improvement here if we look at Ulta's total of 12 million members and the fact that Sally was able to double its number of members in a span of four years.

Regis in trouble
The 0.7% comps growth at Sally looks better when one considers the dire straits that Regis is in. Since its top line peaked in fiscal 2008 at $2.7 billion, Regis' revenues have fallen by more than 35% to less $2 billion as shown in the first chart. Regis also incurred losses in fiscal 2011 and 2012.

Regis is trying to turn around through certain initiatives. For example, it introduced the SuperSalon point-of-sale system to gain insight into customer retention and staff productivity. Secondly, Regis is working on a visual merchandising strategy in its stores to improve the look of its salons and for that it created standardized Plan‐O‐Grams. Lastly, it adopted certain cost cutting measures like management restructuring and cutting down on unnecessary travel.

However, with a P/E ratio of close to 30 Regis is quite expensive, especially considering that the better-performing Sally Beauty has a P/E ratio of around 18. However, the best pick in this space looks to be Ulta Salon. Some might say that the company is expensive at 44 times earnings, but strong earnings growth is expected in the future. As a result, the forward P/E of Ulta comes down to 31, with analysts expecting earnings to grow at an annual rate of 23.5% for the next five years. That means Ulta Salon is the premium pick in this segment.

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The article Ulta Salon and Sally Beauty: 2 Stocks That Can Add Shine to Your Portfolio originally appeared on Fool.com.

Amal Singh has no position in any stocks mentioned. The Motley Fool recommends Ulta Salon, Cosmetics & Fragrance. The Motley Fool owns shares of Ulta Salon, Cosmetics & Fragrance. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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