Earnings Call Transcript - ULTA Q1 2023

Operator, Operator

Good afternoon, and welcome to Ulta Beauty's conference call to discuss results for the first quarter of fiscal 2023. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ms. Kiley Rawlins, Vice President of Investor Relations. Ms. Rawlins, please proceed.

Kiley Rawlins, Vice President of Investor Relations

Thank you. Good afternoon, everyone, and thank you for joining us for a discussion of Ulta Beauty's financial and operational results for the first quarter of fiscal 2023. Hosting our call today are Dave Kimbell, Chief Executive Officer; and Scott Settersten, Chief Financial Officer. Kecia Steelman, our Chief Operating Officer, will join us for the Q&A session. Before we begin, I'd 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 caution you not to place undue reliance on these forward-looking statements, which speak only as of today, May 25, 2023. We have no obligation to update or revise our forward-looking statements, except as required by law, and you should not expect us to do so. We'll begin this afternoon with prepared remarks from Dave and Scott. Following our prepared comments, we'll open up the call for questions. To allow us to accommodate as many questions as possible during the hour scheduled for this call, we respectfully ask that you limit your time to one question. If you have additional questions, please requeue. As always, the IR team will be available for any follow-up questions after the call. Now I'd like to turn the call over to Dave. Dave?

David Kimbell, CEO

Thank you, Kiley, and good afternoon, everyone. We appreciate your interest in Ulta Beauty. Fiscal 2023 is off to a good start. For the first quarter, we delivered net sales, operating margin, and diluted EPS that were consistent with our internal expectations. Net sales increased 12.3% to $2.6 billion, and comparable sales increased 9.3%. Operating margin was 16.8% of sales, and diluted EPS increased 9.2% to $6.88 per share. Our store traffic remained healthy, and member growth continued to be strong. We delivered growth across key categories, and we strengthened engagement with the Ulta Beauty brand. I want to thank our Ulta Beauty associates for their focus on creating great guest experiences while continuing to adapt to a dynamic environment and executing our transformational agenda. The operating environment continues to evolve, and consumers are exploring how best to navigate economic uncertainty. Concerns regarding inflation remain high, and consumers are spending more selectively, while also showing a continued willingness to splurge and treat themselves. Engagement with beauty remains strong, reflecting the prioritization of self-care. Category growth is healthy but moderating as we lap two years of unprecedented growth. As category growth normalizes, promotional activity is increasing. While we do not intend to lead promotional intensity, we will respond as appropriate to protect and expand our share using a variety of tools we have developed and invested in over the last several years. Using the consumer lens of how guests experience Ulta Beauty through our multiple touchpoints, including our physical stores, e-commerce business, and Ulta Beauty at Target, the Ulta Beauty experience is resonating with our guests and gaining share. As we have seen in previous quarters, sales in our mass category grew faster than in prestige categories. It is difficult to know with certainty if the robust growth of mass products is due to strong engagement with innovative mass brands such as e.l.f. and La Roche-Posay or due to increased consumer price sensitivity. Importantly, Ulta Beauty is the only beauty retailer that offers a wide variety of price points, from entry-level mass to luxury and everything in between. As such, we are uniquely positioned to capture any consumer shifts within price points in the beauty category. Skincare was our best-performing category again this quarter, with both prestige and mass delivering double-digit comp growth, driven primarily by newness, engaging social media content, and strong performance through 21 Days of Beauty and Spring Hall. Newness from innovative brands like The Ordinary, Drunk Elephant, and Hero Cosmetics, as well as new brands, including Bubble, Beautycounter, and BYOMA, contributed to growth during the quarter. In addition, social media platforms continue driving content category engagement, resulting in robust growth for dermatologist-recommended brands like La Roche-Posay and trend-forward brands like COSRX. The fragrance and bath categories delivered low double-digit percent growth this quarter, lapping two consecutive years of strong double-digit growth. Newness from Ariana Grande, Carolina Herrera, and Valentino contributed meaningfully, and our monthly Fragrance Crush program fueled strong engagement with newer brand Billie Eilish and established brands Lancome and Dior. In addition, Valentine's Day gift-giving was healthy across both men's and women's fragrances. Makeup delivered high single-digit growth for the quarter, driven by newness and guest engagement with 21 Days of Beauty and Spring Hall. Soft bronzing, glossy lips, expressive eyes, and nails are trends driving growth for the category. New brands like Dior, about-face, and NATASHA DENONA drove sales during the quarter, while new products from a wide range of brands including e.l.f., Fenty, and NYX also contributed to growth. Additionally, the expansion of MAC into more stores, combined with compelling newness, continued to drive sales. Finally, the hair category was flat for the quarter, with growth in hair care products and color offset by lower demand for tools as we lapped strong newness last year. Products focused on hair health, including bonding, scalp treatments, and hydration, as well as those focused on styling, are resonating strongly. Newer brands like Donna's Recipe, Odele, and Divi, as well as new products from masstige brands Eva Nyc, Batiste, and Andrew Fitzsimons, were notable drivers for the category. Trend-relevant products from OUIA, Redken, and Kenra resonated with guests, while engaging social media content drove healthy growth for Mielle and IGK. Our services business delivered double-digit comp growth again this quarter, driven by growth in cut and style, blowout, and makeup services. As we have expanded our service offerings and enhanced our stylist talent, more members are using services. Our Salon Backbar Takeovers, which give our stylists a unique opportunity to introduce new brands and products to guests, drove sales growth and new member acquisition for participating brands. Now similar to what other retailers have shared, we continue to see pressure from inventory shrink this quarter, and we have updated our full-year guidance to reflect the persistence of this trend. While shrink is the result of various factors, theft, specifically organized retail crime, or ORC, is an increasingly concerning challenge, especially as we've seen a rise in violence and aggression during these incidents. Our first priority is the safety and well-being of our associates and our guests. We are committed to ensuring a safe work environment and are investing in fixtures, training, support structures, and increased staffing and security to aggressively address this concerning trend. ORC impacts all of our stakeholders—guests, associates, brand partners, investors, and communities—and it will not be solved by retailers alone. Given the complexity, it will take collaboration across retail, manufacturing, law enforcement, and legislative levels to solve these problems. Now, working together, I am optimistic we can create meaningful impact and bring forward creative, sustainable solutions to restore safe shopping experiences for everyone. As we have previously discussed, beauty is not immune to macroeconomic challenges but has historically been more resilient compared to other discretionary categories due to its deep emotional connection with consumers. We believe this connection is even greater today given the importance of beauty as a form of self-care and wellness. As we navigate this dynamic operating environment, our strategic framework guides our priorities and positions us to build on our market leadership and drive long-term profitable growth. Let me give you an update on the progress we've made against this framework in the first quarter. Starting with our efforts to drive growth with an expanded definition of All Things Beauty, our strategy is to delight beauty enthusiasts with our thoughtfully curated assortment focused on inclusivity and leading trends. During the first quarter, we further enhanced our assortment with the launch of several exciting brands, including: NATASHA DENONA, a luxury artistry brand known for high-quality makeup palettes across eye, face, and cheek; Beautycounter, a clean beauty pioneer offering high-performing skincare and makeup with unmatched ingredient safety standards; and Odele, a haircare brand focused on clean, accessible products for the whole family. To drive engagement and capture additional market share this quarter, we launched Luxury at Ulta Beauty in 200 stores and on ulta.com. Driven by social platforms and strong Gen Z interest, luxury brands are fueling beauty category growth. Our vision for Luxury at Ulta Beauty is to provide guests with a uniquely modern luxury beauty experience, strategically curated to reflect what guests are engaging most in, including iconic luxury with brands like Dior and Lancome Absolue; clean luxury with brands like Hourglass and CHANEL N°1; and luxe artistry brands like NATASHA DENONA. In addition to strengthening our core assortment, we continue to expand, evolve and amplify our cross-category platforms. Let me share some first quarter highlights. We ended the quarter with 306 brands certified under at least one conscious beauty pillar, including newly certified brands Nutritious Estee Lauder, Winky Lux, and Mielle. In celebration of Earth Day, to promote sustainability and drive discovery, we launched a collectible Ulta Beauty reusable tote and a Conscious Beauty essential sample kit with hero products from 14 certified brands, including boscia, Beekman 1802, and ACURE. We continue to support black-owned and founded brands with the launch of new brands hanahana beauty and GOLDE. We created a black-owned and founded brands discovery kit featuring 11 brands, and 100% of the purchase price of this kit was donated to Big Brothers Big Sisters of America. In recognition of Black History Month, we celebrated and supported the Black community through our Ode to Black Beauty storytelling and used our digital and social platforms to highlight innovative brands like Nude Sugar, Beauty Bakerie, and Sunday II Sunday. As we meet beauty enthusiasts wherever they are on their beauty journey, all in your world, we are investing to enhance guest experiences across all of our touchpoints. This quarter, we completed the two-year phased rollout of the guest-facing element of our digital store, delivering a fresh, innovative front-end guest experience across both ulta.com and our app. Today, guests enjoy more seamless navigation and checkout experiences, can discover and browse new experiences, including buy more save more, Luxury at Ulta Beauty, and our new foundation finder, and also benefit from enhanced search and recommendation capabilities. Later this year, we will finish the transition by converting our back-end infrastructure to support enhanced checkout, order, and inventory management, and pricing and promotion capabilities. The completion of the front end of our digital store is a major milestone in our journey to enhance our omnichannel experiences. And it is worth noting our teams executed these changes while maintaining an active digital platform and delivering our e-commerce growth goals. While we experienced some minor disruption during the transition, I am proud of how our digital, IT, and guest services teams have worked together while minimizing guest impact. To support the omnichannel guest experience, we continued to expand our buy anywhere fill anywhere capabilities. This quarter, we introduced same-day delivery in six new markets, bringing the number of stores with this convenient option to 540 across 18 markets. In addition, we're making it easier for store associates to assist guests in ordering products online when not available in store through our upgraded POS system. We have refreshed store POS systems in 1,100 stores and are on track to complete this transition before the holiday season. Turning to our partnership with Target, we opened four Ulta Beauty shops in the quarter, ending with 359 locations. This touchpoint introduces new guests to Ulta Beauty and enables the reengagement of lapsed guests, and we are leveraging our CRM capabilities to ensure bounce back to Ulta Beauty. Our dedicated field team continues to support this important partnership with training and field engagement, and we are working together with our Target partners to deliver an outstanding guest experience. Beauty is a personal, emotionally connected category. To increase consideration, loyalty, and engagement, we are creating authentic connections with our guests through work that sits at the heart of the beauty community. In the first quarter, we executed impactful activations around key cultural moments, including Black History Month, prom, and Earth Day, and delivered improved brand health metrics with significant increases in awareness across Gen Z, Black, and Hispanic consumers. These trends confirm that the Ulta Beauty brand is continually becoming stronger, more relevant, and more meaningful to guests. We ended the first quarter with 41 million active members, 9% higher than the first quarter last year, driven by new member acquisition, lapsed member reactivation, and healthy retention rates. Spend per member also increased, driven primarily by trip frequency and the growth of Elite members. Increased visibility, personalized reminders, and incentives are driving the growth of Diamond and Platinum members. At the end of the first quarter, the number of members in these higher tiers increased more than 30% compared to the same period last year, which is a strong indicator of high loyalty and elevated engagement in all that Ulta Beauty has to offer. Our multifaceted go-to-market plan to drive member growth and nurture member lifecycle is delivering results. To drive new member acquisition and reactivate lapsed members, we refreshed store associate training and created new tools to help associates communicate the program's benefits. We enhanced the integration of our loyalty program across our refreshed digital experiences and introduced guest-facing signage in stores to drive awareness. And we executed targeted reactivation campaigns and tested new personalized digital communications to improve retention and contactability. Turning to UB Media, our retail media network, we are harnessing the power of our exclusive first-party data to transform the way our brands connect with beauty enthusiasts. With dedicated resources and new tools in place, this quarter we engaged with more brands, managed more digital campaigns, and expanded our product portfolio to include advertising opportunities on Ulta-owned digital properties. As UB Media continues to scale, we are confident it will add meaningful value to our company over time. Reflecting our priority to drive operational excellence and optimization, we are executing an ambitious multiyear roadmap of transformation initiatives, unlocking new capabilities and operational efficiencies to fuel our future growth. We are upgrading our enterprise resource planning platform, expanding and optimizing our supply chain with new facilities, systems and processes, transitioning our digital store to modern technology and architecture while upgrading our order management system, expanding our data management systems to enable further analytical capabilities, and upgrading POS systems in all stores. We have made good progress against our roadmap and expect to deliver major milestones over the next several months. While change of this magnitude can be disruptive, our teams have consistently moved quickly and collaboratively to limit the impact on guests and associates. Our success is enabled by our people, and we are investing purposely in our teams to protect and cultivate our world-class culture and talent. In the first quarter, we launched a refreshed and modernized Ulta Beauty competency model across the enterprise to drive further consistency in talent management processes, establish clear measures of success, and enhance culture with common language. We also launched a new service award recognition program to elevate the associate experience and reward associates in meaningful ways. And we hosted our annual field leadership meeting, bringing together our general managers, district managers, field support teams, and brand partners for several days of recognition, leadership development, and product education. I walked away from this event inspired by our talented associates and their passion for serving our guests and driving Ulta Beauty's growth. Finally, we continue to expand our environmental and social impact. This quarter, we partnered with Pact Collective to test the packaging recycling program in select locations with the goal of collecting the beauty industry's hard-to-recycle packaging so that it is diverted from landfills and put to its highest and best use. We also published our 2022 ESG report, which describes our approach to priorities in these areas and provides key updates on our ESG initiatives, their connectedness to our business, and the positive impact of beauty as a force for good. In closing, fiscal 2023 is off to a good start. Our teams are executing well against an ambitious transformational agenda while navigating a dynamic environment. While we expect the operating environment will continue to evolve, we are confident the resilience of the category, combined with the power of our proven business model and world-class team, position Ulta Beauty for continued profitable growth.

Scott Settersten, CFO

Thanks, Dave, and good afternoon, everyone. As Dave said earlier, today we reported results for the first quarter that were generally in line with our expectations. We entered 2023 anticipating that the unprecedented growth in the beauty category would moderate and that the promotional environment would increase. These trends materialized in the first quarter and are reflected in our results. Starting with the income statement, net sales for the quarter increased 12.3%, driven by 9.3% growth in comp sales and strong new store performance. In addition, other revenue increased by $19 million, primarily due to growth in both credit card income and royalty income from our Target partnership. The comp sales growth for the quarter was driven by an 11% increase in transactions, primarily due to double-digit growth in store traffic, which more than offset a 1.5% decline in average ticket. The decline in average ticket reflected lower units per transaction, which more than offset higher average selling price. We estimate that product price increases, most of which were executed last year, contributed about 400 basis points to the overall comp increase. Looking at the cadence of sales through the quarter, momentum from post-holiday tailwinds continued into February, which also benefited from lapping COVID headwinds last year. Comp sales subsequently moderated to mid-single digits as we moved through the quarter. During the quarter, we opened five new stores and closed one store. In addition, we relocated one store and remodeled two stores. For the quarter, gross margin was down 10 basis points compared to the same period last year at 40% of sales. Higher inventory shrink, lower merchandise margin, higher supply chain costs, and deleverage of salon expenses were partially offset by strong growth in other revenue and leverage of store fixed costs. As Dave shared earlier, we continue to experience a worsening trend of theft and organized retail crime. We are actively working to stabilize and mitigate these trends through investments in staffing, training, and fixtures, and we are working collaboratively with law enforcement and third-party organizations to address these challenges. In addition to greater pressure from shrink, gross margin was impacted by lower merchandise margin, primarily due to increased promotional activity and category mix shifts, which more than offset the benefit from price increases. We also incurred additional costs in the quarter related to our supply chain optimization efforts. SG&A increased 22.2% to $612 million, which was slightly better than our plan. As a percentage of sales, SG&A increased 180 basis points to 23.2% compared to 21.4% last year, primarily due to deleverage of store payroll and benefits, corporate overhead, and marketing expense, partially offset by leverage of incentive compensation and store expenses due to higher sales. Store payroll and benefits expense increased, driven primarily by higher average wage rates and increased staffing levels compared to the same period last year. Corporate overhead expense deleveraged in the quarter, primarily due to investments related to our strategic priorities, including Project SOAR, other IT capabilities, and UB Media. Marketing expense increased, reflecting investment in strategies to drive member acquisition and retention, increase brand awareness, and expand omni member penetration. Operating margin was 16.8% of sales compared to 18.7% of sales in the first quarter of 2022. As expected, the decline in operating margin primarily reflects the impact of SG&A deleverage and lapping our extraordinary results in the first quarter of fiscal 2022. Net interest income for the quarter increased to $7.3 million, driven by higher average interest rates and higher average cash balances during the quarter. The company's tax rate decreased to 22.8% compared to 24.2% in the first quarter last year. The lower effective tax rate is primarily due to greater benefit from income tax accounting for stock-based compensation. Diluted GAAP earnings per share increased 9.2% to $6.88 compared to $6.30 last year. Moving on to the balance sheet and cash flow statement, total inventory increased 11.5% to $1.8 billion compared to $1.6 billion last year. In addition to the impact of 41 net new stores, the increase reflects the impact of higher purchases to support demand, product cost increases, and inventory to support new brand launches and expansion of existing brands. Capital expenditures were $109.8 million for the quarter compared to $71.1 million last year. The increase in capital expenditures was primarily related to investments in IT and supply chain, as well as new, remodeled, and relocated stores. Depreciation decreased to $57.9 million compared to $62.8 million last year, primarily due to lower store depreciation and a shift of IT investments from capital to cloud expense. We ended the quarter with $636.4 million in cash and cash equivalents. In the first quarter, we repurchased 541,000 shares at a cost of $285.8 million. At the end of the quarter, we had $816 million remaining under our current $2 billion repurchase authorization. Turning now to our outlook, we have refined our expectations for the full year to reflect our first quarter actual performance and recent trends. We are maintaining our expectations for annual comp sales growth and diluted earnings per share but are updating our outlook for operating margin. We continue to expect comp sales growth for the year will be between 4% and 5%, with growth moderating as we move through the year. As we shared on our last call, we expect comp growth for the first half to be in the upper single-digit range and then moderate to low single-digit growth in the second half. We now expect operating margin for the full year will be between 14.5% and 14.8% of sales, primarily reflecting an updated view of gross margin. We have increased our expectations for gross margin deleverage from our original outlook to include the impact of higher shrink and a more competitive and promotional environment. We continue to expect SG&A deleverage, driven primarily by $60 million to $70 million of incremental spend to support strategic investments, as well as the impact of ongoing inflationary pressures. We have updated our assumptions for interest income to reflect the current interest rate environment and are now planning for about $17 million of interest income for the year. We have also incorporated our first quarter tax rate into our full-year forecast and now expect the effective tax rate for the year will be approximately 23.8%. These assumptions result in guidance for diluted earnings per share in the range of $24.70 to $25.40 per share. In closing, fiscal 2023 is off to a solid start. We remain optimistic about the health of the beauty category, confident in our team and our growth strategies, and steadfast in our belief that our proven business model uniquely positions us to deliver for our guests, associates, and shareholders.

Operator, Operator

Our first question is from Simeon Siegel with BMO Capital Markets.

Simeon Siegel, Analyst

Dave, I know you talked about the mass versus prestige dynamic within the Ulta offering. Do you have any view as to whether you're seeing any signs of external trade down, I guess, either customers trading into or out of Ulta from somewhere else? And then Dave or Scott, I was hoping you could speak a little bit more about the decline in ticket. Any opinions on the lower UPT despite the higher ASP and transactions? I don't know if you think this is because of purse tightening or if it's a mix dynamic or compare. Just any further color there would be helpful.

David Kimbell, CEO

Yes. Thanks, Simeon. What we are seeing, as we said in the call, is mass and our business is growing faster than prestige, and we saw that in some previous quarters. Right now, if we look underneath, across income levels, there's actually good growth across all income levels, across all income cohorts, roughly equivalent across all cohorts, although the growth rate did moderate from Q4 pretty consistently. As we said, traffic remains strong. Double-digit traffic average spend per member increased. Average ticket did decline as we have fewer units per transaction. When we look at the mass category, we have some exceptional newness going on and really high-performing brands in our mass category, brands like e.l.f., NYX, The Ordinary, and La Roche-Posay. So we know that is certainly contributing to that. So the fact that mass is growing higher than prestige, it’s difficult for us to exactly parse apart the core driver of that. But we know for sure there’s a high level of engagement in those brands because they are culturally relevant and driving great engagement. At the same time, we have strong growth and some strong newness on our prestige side of the business as well. Prestige skincare comping double digit is an example of that. We're watching closely. What we feel is the total category remains strong. Engagement is high. As we've talked in previous quarters, this is an emotionally connected category that's important, and coming out of the pandemic, even more so important in overall self-care and wellness, and we expect that to continue. However, the high level of growth that we've seen in these last two years, as we've discussed in several quarters, will moderate. We think ultimately getting back to more the high end of historical average, but we know engagement's high, and we continue to be encouraged by overall consumer engagement.

Scott Settersten, CFO

Yes. So overall, I would just remind you, Simeon, that we did state, so total units are up across the enterprise for the period year-over-year, and total spend per member is up year-over-year as well. So again, great evidence of a healthy, strong business model at play. Very strong traffic trends in both channels, but especially in our brick-and-mortar channel that we're pleased to see. When we look at the specific units per transaction, again, it was down. It's been decelerating a bit over the course of the last three or four quarters, I guess, I would say. So again, not totally surprising to us to see that. And again, we would take away from that what most people, just looking at the trends and how consumers are being a little bit more selective now than maybe they were at this time last year. But we're trying not to read too much into that at this point in time.

Operator, Operator

Our next question comes from Rupesh Parikh with Oppenheimer.

Rupesh Parikh, Analyst

So I wanted to go back to your commentary on the promotional environment. So clearly, it's gotten more competitive out there. I was just hoping to get more color in terms of what you guys are seeing. And if you look at some of the promotions out there, how is the gap compared to maybe what we've seen pre-pandemic 2019 earlier?

David Kimbell, CEO

Yes. Well, as I mentioned on the call, we anticipated and planned for it to be more promotional this year coming out of all the trends that we've talked about over the last couple of years. What we saw as the quarter progressed is that actually promotional activity did increase and was even a little bit more than we had anticipated through that quarter. So when we look at broader competitive activity, we know this is a strong category. It's an important category for all of our competitors. Our long-term approach to this has been not to lead the promotional intensity but to ensure that we are competitive and continue to gain share in the environment. That’s what's driving some of the competitive activity and the increase in promotions. As opposed to 2019, we're still below 2019, and we've planned and anticipate that this will be the case through this year. As you know well, Rupesh, 2019 and leading up to that was a highly promotional period. We're not anticipating getting back to those levels. But as we've talked about really throughout the last several quarters, we anticipated it getting more promotional, and we're certainly seeing that in the environment. As a reminder, we worked hard for the last several years and certainly through the last two years to expand our CRM capabilities to grow our loyalty program. A 9% growth in our loyalty program, 41 million members now, gives us some new tools and capabilities to be more strategic and pinpointed in our promotional activities targeted with those efforts, and we've employed those and will continue to be strategic and thoughtful as we look ahead as the year unfolds.

Operator, Operator

Our next question is from Steve Forbes with Guggenheim Securities.

Anders Myhre, Analyst

This is Anders Myhre, on for Steve Forbes. I wanted to start with services. So maybe a two-part question. One, outside of the details in the prepared remarks, can you comment further on the trends you were seeing broadly within services and possibly measured by member utilization rate? And two, can you provide an update on the percentage of consumers that make an in-store purchase after receiving a service? I believe in the past, there was approximately 50%. So I wanted to see if there's any moderation there.

Kecia Steelman, COO

Yes. Well, thank you for the question. So again, our salon service business was really strong again in the quarter. What we like that we've seen is that, as we talked about in the prepared remarks, our Backbar events; 90% of guests purchasing through those activations are new to those brands. The guest experience and services are really resonating when we get them in the chair. Hair and color is the main driver of our overall services business. The trends that we're seeing really are around hair care, specifically loss of hair treatments, and that also helps with our average ticket. Overall, our business is very strong. We hired over 950 stylists in this last quarter, so we have enough capacity, and it’s a unique proposition that we have here at Ulta Beauty.

Operator, Operator

Our next question is from Krisztina Katai with Deutsche Bank.

Krisztina Katai, Analyst

I had a question on the Ultamate Rewards program, right, which continues to set records, both with membership and spend per member. Has your share of wallet increased with your members, given some of the successful high-profile brand launches and also the luxury assortment that you're creating? And I also wanted to ask what type of return do you see on some of the more personalized or tailored promotions that you offer whenever needed as you leverage the vast amount of data that you have?

David Kimbell, CEO

Great. Well, yes, our loyalty program, Ultamate Rewards, is one of our greatest assets, and I'm really excited that the investments that we've made, the work that the team does, and the commitment that our store teams have to driving that experience continue to pay off. We're really proud of a 9% growth in members in Q1, and the spend per member has also increased. Our strategies and plans are working. Separately, we believe we continue to improve the share of wallet of our best guests. I talked about Platinum and Diamond members showing strong growth. We believe we continue to add new experiences, engage them in more touchpoints. Everything we do is really designed to increase share of wallet. If we have a store-only guest, we aim to get them to shop, use our salon, shop online, download our app, get our credit card, and shop at Target. All of these experiences collectively add to our share of wallet, and we have continued evidence that when we do that, it works.

Operator, Operator

Our next question is from Ike Boruchow with Wells Fargo.

Irwin Boruchow, Analyst

Scott, I was just wondering if you could give more color on the shrink theft component of what's impacting you guys in the P&L. And I'm just asking, it does sound like it's a fairly meaningful dynamic that's taking place. And if there's any way you can kind of quantify that so we know what the impact was in Q1 or what you're now pricing in for the remainder of the year? Anything there would just be a little bit more helpful so we understand just how impactful it is to your gross margin.

Scott Settersten, CFO

Yes. Shrink was the thing that surprised us in the quarter, and that's the driver when we think about the operating margin adjustment for the year. We knew sales were going to moderate a little bit after two spectacularly strong years. We knew the promotional environment was going to ramp up some. Maybe it's slightly richer than we were expecting, but that's not the driver; the driver is shrink, by far. We expect that trend to continue the rest of the year. Again, coming into 2023, we thought shrink trends would moderate because of some of the investments we put behind mitigation tactics. But they haven't resonated yet. Our teams are doing a great job. A lot of effort is going into this. But from a financial standpoint, we're not banking on any improvement the rest of the way. So it remains a challenge for the rest of the year.

David Kimbell, CEO

I'm glad you asked. This is a really important and critical topic. There's certainly the financial impact that Scott described, but this is impacting our associates. It's impacting our guests. Unfortunately, despite our efforts and investments, it's getting worse, not better. We’re focused on working hard within our controls, but we need support from partnerships with other retailers, local leaders, law enforcement, district attorneys, and national governmental leaders. This is a macro problem that needs a macro answer, and I’m personally heavily involved in finding solutions both for our business and hoping to contribute to some answers across retail. It’s an important topic, and I’m focused on it. Kecia, would you like to describe a few of the steps we’re taking?

Kecia Steelman, COO

Sure. Yes. We'll have 70% of the chain by the end of this year with locked fragrance cabinets, as fragrance is one of the primary target areas that we see theft occurring. We're also increasing labor in those specific locations and training and educating our associates on how best to handle these types of situations. It’s upsetting if you're shopping and see this activity happening, it's pretty shocking. I’m sure you’ve seen some of the reports that have come out there, with camera systems catching these groups coming in. We’ve invested in security guards, armed security guards in some locations, and are partnering with our landlords to see how we can help to police the parking lots and deter these thefts. It's a full court press out there, and we're keeping communication lines open with our associates when this happens. It’s very disturbing, and it requires an industry-wide course correction.

Scott Settersten, CFO

Just one final note, Ike, on that one. For quantification purposes, as a reference point, in the first quarter, the shrink deleveraged above expectations, totally offset all fixed store cost leverage.

Operator, Operator

Our next question is from Korinne Wolfmeyer with Piper Sandler.

Korinne Wolfmeyer, Analyst

I'd just like to touch on a little bit about your customer retention efforts. I know you've talked about the loyalty program and how that's been doing. But as we think about maybe consumers doing a little bit more pressure on their wallets and seeking out more, say, mass retailers or lower-cost items, how are you ensuring customers stick with Ulta and keeping that retention rate strong?

David Kimbell, CEO

Well, Korinne, this is, as you can imagine, a huge focus for our entire team. Everyone in the company participates in loyalty and retention. That fundamentally starts with delivering a great experience. We have 50,000 associates in our stores who are committed to delighting our guests every time they walk in, which is key to retention; every guest experience is a positive, uplifting, fun, and engaging experience. I'm proud that this is consistently the experience that our guests receive and what they love about us. Our retention remains strong, and that was an important driver of our 9% growth in loyalty in Q1. We have a number of activities from the in-store experience to all of our digital touchpoints, our experience and connection through Target, Ulta Beauty at Target, and all of our personalization and communication efforts to engage, excite, and delight our guests. So we are pleased with retention and feel that we have a very strong, probably best-in-class retention rate. As things shift, I talked about some of that in the script and earlier questions about shifts between mass and prestige. Again, that’s one unique aspect of Ulta Beauty. Nobody does what Ulta Beauty does. We're the only ones that offer from entry-level price, masstige to prestige to luxury, all price points, all categories. As long as we keep delighting and exciting our guests, if they choose to adjust their spending or buy different price points, they can do that within Ulta across all aspects. That has been a key part of our business, and we'll continue to lean on and leverage that moving forward.

Operator, Operator

Our next question is from Olivia Tong with Raymond James.

Olivia Tong Cheang, Analyst

I want to see if you could talk a little bit about the incremental promotions coming from either certain categories or channels that are pushing harder as they try to expand or whether it’s fairly broad-based. You said you won't lead the promotions, but of course, you have to be competitive. Can you talk about how your promo levels compare to your peers? And is there more you can do to leverage your loyalty members and the data that you have that you could potentially promote less versus previous years and still stay at the same level of competitiveness?

David Kimbell, CEO

Yes. First, I'd say the incremental promotions we see are happening. There is intense competitive activity across all parts of the beauty category, and because of our model—from mass to prestige to luxury—we are directly competing with everyone selling beauty. We're tracking and observing promotional activity across mass, prestige, and luxury. I wouldn't say it's any one part of the category that stands out. As far as exact levels, we don't have perfect insight; we don't know exactly what each competitor is doing and don’t understand all of their internal measures. But we closely watch year-to-year and observe what's happening, and we get some industry data that gives us a macro picture. For us, it is about ensuring we deliver a great experience to guests, delivering the right value at the right time. We have invested heavily in our capabilities to personalize and be more targeted. This has allowed us to reduce promotions from the levels we saw in 2018 and 2019. We believe it will be below those levels this year, in part because of the tools we now have. We now have 41 million active members, enhanced personalization capabilities, and improved CRM experiences that allow for more precise targeting. We will still do some broad-scale offers when it makes sense, but we are providing a lot more value added at a more personalized level, and that's paying off significantly.

Operator, Operator

Our next question is from Michael Lasser with UBS.

Michael Lasser, Analyst

One of the narratives from the skeptics that's going to come out of this report is that their hypothesis is coming true: trends are going to slow, promotional activity is going to increase, and that's going to put pressure on Ulta Beauty's margins, and it's probably going to feature some element of shrink as well. So if you look at where your margins are on pace to be this year, somewhere in the mid-14% range, you add the increase in shrink and the dilution that that's going to have on your margins. If promotional activity were to go back to 2019 levels, what would that mean for your margins in that scenario?

David Kimbell, CEO

Let me start, and then I’ll ask Scott to provide more detail. We are confident in our business. We guided this year to deliver 4% to 5% comp growth, and we are committed to that. We're on track to do that. We've made adjustments to our operating margins, but that reflects specific things. We remain confident in our long-term operating margin and profitability over time. We will address shrink issues, and we do not believe promos will return to historic highs, in part because of capabilities around personalization and others. I understand there may be questions about that, but we are committed to delivering on our goals. We are off to a good start in Q1: 9.3% comp growth, strong operating margins, and strong EPS growth. Our model is uniquely positioned to navigate whatever comes our way, and we have the right team and strategies in place. Scott, do you have any specific insights on Michael's question?

Scott Settersten, CFO

No, I would just add that, again, shrink and a slightly richer promotional mix are temporary headwinds. We are very ready and able to react to those types of challenges. To Dave's point, with the toolbox we have to optimize this business, we're still very confident that 14% to 15% is the right range. Initiatives like UB Media, which is just getting started, will be long-term margin-accretive elements of our business model. Project SOAR, and our digital store of the future, and other strategic initiatives underway will offer meaningful benefits for our stakeholders over a prolonged period.

Operator, Operator

Our next question is from Susan Anderson with Canaccord.

Susan Anderson, Analyst

I was wondering if you could talk about the health and wellness business and how that's been trending relative to the rest of the store? Are you seeing a pretty good response from the consumer in terms of adding that to their basket? And then also, where do you see that going longer-term?

David Kimbell, CEO

Yes, I'm glad you asked, as wellness is an important growth opportunity. Before I talk specifically about the wellness shop and the assortment we have there, I want to say that overall, the idea of wellness and self-care and the connection it has to beauty has been an important trend over the last couple of years. More consumers understand the importance of beauty as part of their overall wellness routine, which is a very strong positive. This trend is driving continued growth and engagement. We launched our wellness shop in May of 2021, and we're currently in about 800 doors, with plans to add more this year. We have a strong presence online. We have 140 brands and 700 SKUs across category focus and a great consumer experience. It’s working really well. Engaging brands like Love Wellness, Truly, Kitsch, megababe, and GOLDE are doing well. We’re excited about the growth potential of that business for the long term.

Operator, Operator

Our final question is from Simeon Gutman with Morgan Stanley.

Simeon Gutman, Analyst

Everyone, I think you had the wrong Simeon to start the call, but it's okay. My question is two parts. The first part is actually related to his earlier question, thinking about the AUR and some of the innovation that's driven some of the inflation. Whether or not the customer is reaching some resistance point and the number of items they put in the basket. And second, how to think about shrink and just what level of accrual given we're seeing it still ramping across other retailers? How much you've accrued for, and how much could weigh on you?

Scott Settersten, CFO

So when I think about the financial results overall, shrink was the thing that surprised us in the quarter, and that’s a big factor when we think about the operating margin adjustment for the year. We knew sales would moderate a little after two exceptionally strong years, and we knew the promotional environment would ramp up. Maybe it's slightly richer than we were expecting, but that's not the key driver. The driver is shrink, by far. We expect that trend to continue through the year. Coming into 2023, we thought shrink trends would moderate due to some investments in mitigation strategies. However, we haven't seen those resonate yet. We remain hopeful, and we are dedicated to working hard on this. From a financial perspective, we’re not banking on any improvements the rest of the way, so it will remain a challenge.

David Kimbell, CEO

Yes, and Simeon, it’s good to close our Q&A session with you, so we’re glad to do that. Regarding AUR and innovation driving some inflation, we are tracking both spend per member and AUR closely. There are many positive indicators about our business. While there are pressures, we also see a high level of engagement in beauty. Our focus remains on driving great engagement across all aspects, including newness and innovation to ensure a great Ulta Beauty guest experience because we know that when we do that, guests respond positively. We’ll continue to monitor these trends and report them in future earnings calls to ensure we lead the category appropriately. So let me say again, I want to thank all our Ulta Beauty associates across our stores, distribution centers, and corporate offices for delivering another strong quarter for our stakeholders. We know the environment will continue to evolve, but we're committed to our long-term growth strategies and confident in our team as we continue to build on the foundation we set here in the first quarter. We look forward to speaking to you again when we report results for the second quarter on August 24. Thanks. I hope everyone has a nice Memorial Day weekend, and we’ll talk again soon.

Operator, Operator

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.