Ulta Can Color Your Portfolio Gold

Ulta Salon, Cosmetics & Fragrance (NASDAQ: ULTA) is on an earnings tear. Its 415 hair salons in 42 states offer hair cuts, hair coloring and permanent texture. But after boffo earnings, it could also make you richer.

Ulta's second-quarter adjusted earnings of 38 cents a share were six cents ahead of estimates. Those earnigns were 82% higher than the year before on a 23% increase in sales.

And thanks to Ulta's strategy of adding male customers through new product launches and men's grooming boutiques inside most of its stores, Ulta is now forecasting higher earnings. For its third quarter, Ulta now expects to earn between 36 and 38 cents a share on revenue of between $400 million and $407 million. These estimates are higher than Thomson Reuters I/B/E/S expectations of 34 cents a share and  $396 million.

Does all this good news mean that it's time to add Ulta to your portfolio?

Here are three reasons to consider an investment:

• Great earnings reports. Ulta has been able beat analyst’s expectations in each of its past five earnings reports -- and by higher amounts in the last several quarters.
• Increasing sales and profits and cash rich balance sheet. Ulta has been increasing sales and profits. Its revenue has increased at an 18.7% annual rate from $755 million (2007) to $1.5 billion (2011) while its net income has increased at a 32.6% rate from $23 million (2007) to $71 million (2011) — yielding a slim 5% net profit margin. It has no debt and its cash rose at a 130% annual rate from $4 million (2007) to $111 million (2011).
• Out-earning its cost of capital. Ulta is earning more than its cost of capital – and it’s improving. How so? It’s producing positive EVA Momentum, which measures the change in “economic value added” (essentially, after-tax operating profit after deducting capital costs) divided by sales. In the first half of 2011, Ulta's EVA momentum was 2%, based on first six months’ annualized 2010 revenue of $1.3 billion, and EVA that fell from first six months’ 2010 annualized $31 million to first six months’ 2011 annualized $61 million, using a 8% weighted average cost of capital.

One reason against:

• Expensive stock. Ulta 's price-to-earnings-to-growth ratio of 1.83 (where a PEG of 1.0 is considered fairly priced) means its stock price is high. It currently has a P/E of 46, and its earnings per share are expected to grow 25.2% to $2.04 in fiscal year 2013.

Given how fast is growing, I would not be surprised if it could sustain its rapid earnings growth far above the forecast 25% rate. While I would probably want to wait for a market break to buy its shares at a lower price, Ulta appears to have what it takes to accelerate its earnings growth way above what I would expect in such a moribund economy.