Dive Brief:

• Gross margins were flat at Ulta for the third quarter as the beauty retailer transitioned e-commerce orders to its new Fresno, California, warehouse, company executives said on a recent earnings call. 
• The omnichannel warehouse in Fresno, which became operational in July, is now serving 173 stores and 21% of e-commerce orders.
• Attempts to lower overall inventory ahead of peak season through a clearance event also hit margins, though it allowed the chain to keep store-to-store inventory flat despite overall inventory growth of 10% — a key goal for the chain for several quarters running. 

Dive Insight:

Like so many retailers adjusting to the new pace of omnichannel retail, Ulta is finding that building the supply chain it needs to compete is going to cost them, and analysts are learning that it doesn't happen overnight. 

Back in September, CFO Scott Settersten said the company was on a "multi-year path" where "inventory optimization is going to be a significant driver of operating margin improvement in 2019 and beyond."

Indeed, Settersten told analysts that the company's relatively new inventory management system has allowed stores to stay lean without stockouts of the most important items. 

"We feel great about our inventory position," he said. Getting there, though, meant a large summer clearance event that is still having an effect on the company's margins going into the holiday.

In order to keep clearance from affecting margins overall, retailers are learning they need to keep a tighter lid on inventory. Ulta's clearance event, though somewhat detrimental in the short term, is in service of that goal and likely not to be repeated, executives said.  

"It took us longer than expected and we took deeper markdowns than expected, to sell through the discontinued inventory to clean up our back rooms, to get our stores ready for all the great new launches ahead of holiday," said Settersten. "While the clearance event did pressure marginally more than planned, we’re happy with the end results and are in great shape for Q4."  

The third quarter at Ulta was clearly about preparing for the peak season. In a matter of weeks, the company will have the chance to prove whether it can do what so many retailers are attempting as 2018 comes to a close: Keep sales and profitability on track amid major supply chain improvements.