Why Warren Buffett's Berkshire likely saw shine in Ulta's beaten-down stock

By Emily Bary

Ulta's stock soars on the news that Berkshire Hathaway bought up 690,000 shares. The investment aligns with Buffett's strategy in a number of ways, including on valuation.

The biggest surprise in Berkshire Hathaway Inc.'s quarterly disclosure of its holdings? A new position in Ulta Beauty Inc.

Shares of the beauty retailer have had a tough year, falling 32% over the course of 2024 to rank among the weakest performers in the S&P 500 SPX. But the stock has usually performed well, and Berkshire (BRK.A) (BRK.B), which owned about 690,000 shares of Ulta (ULTA) as of the end of the second quarter, is betting that the company will return to its winning ways.

Ulta shares were up 14% in after-hours trading Wednesday.

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William Blair analyst Dylan Carden can see why the stock would hold appeal to Buffett. "Particularly if you think about as a value play, you have a business that is as cheap as it's been in a long time, on a real metric like P/E," or price-to-earnings, he told MarketWatch.

For context, Ulta shares trade at a low-double-digit P/E multiple, similar to Nordstrom Inc. shares (JWN). But while Nordstrom is ceding market share and could require store closures, Ulta still has some "meat on the bone," according to Carden.

"Beaten-up, competitively advantaged businesses trading at good yields from a free-cash-flow standpoint, with a good management team that's inclined to provide some shareholder-return profile seem to be kind of the M.O. in recent years," Carden said of Berkshire's strategy.

Ulta announced a $2 billion buyback program in March and had $1.8 remaining under that as of May 4. Carden thinks the company may announce a dividend later this year.

Shares of Ulta have been under pressure this year, partly due to new competitive dynamics with rival Sephora, which has opened up about 1,000 "store within a store" concepts at Kohl's Corp. (KSS) locations. That's weighed on Ulta's market-share momentum in the prestige category, though D.A. Davidson analyst Michael Baker said the company is still picking up share in the "mass" category.

Ulta's unique position spanning "mass" cosmetics and prestige brands is one reason Baker likes the stock. He thinks the "unprecedented build" of Sephora into Kohl's stores is now mostly in the past, meaning that the incremental market-share pressure is likely behind Ulta.

"It's been a great stock over time [and] they've hit a little bit of a speed bump this year," but that looks to have been "for a relatively temporary issue."

William Blair's Carden added that he sees "very limited concentric circles" between the typical Sephora customer and typical Kohl's customer, which is why that partnership strikes him as a head-scratcher. What's more, he said Ulta is in a much better competitive position than a Sephora located within a Kohl's, since it's not clear whether a department store like Kohl's will even be around in five years.

Like Carden, D.A. Davidson's Baker could see how an Ulta investment aligns with Buffett's priorities. Ulta is in a strong market with rational competitive dynamics, and its executives have been known to be good stewards of capital, he said in an interview.

Ulta has been on D.A. Davidson's "Best-of-Breed Bison" list, which is modeled off Warren Buffett's philosophies as analysts identify companies with sustainable business models.

"It has to work well on a valuation parameter," Baker said, as both he and Buffett take valuation into account. Baker sees shine in Ulta's stock as he considers the present value of the company's discounted cash flows.

"The stock is trading at a enough of a cushion to what we think it's worth," such that Baker thinks it will appreciate over time.

Both Baker and Carden are bullish on Ulta shares, with Baker holding a buy rating and Carden carrying an outperform stance.

Buffett holds a position in Ulta that was worth $266.3 million as of the end of the second quarter, Berkshire's latest 13-F revealed.

The filing lacked some of the usual suspense this time around, as the Warren Buffett-led entity's recent earnings report revealed that the company shrank its Apple Inc. (AAPL) position sizably in the second quarter. Still, there were other interesting reveals beyond the Ulta disclosure. These included increased positions in Occidental Petroleum Corp. (OXY) and Sirius XM Holdings Inc. (SIRI), as well as a decreased stake in Chevron Corp. (CVX).

See more: Warren Buffett surprises by slashing Berkshire Hathaway's longtime Apple stake in second quarter

For Occidental, Berkshire's stake stood at 255.3 million shares as of June 30, which compares with 248.0 million shares as of the end of March. Berkshire's Sirius stake amounted to 132.9 million shares, up from 36.7 million a quarter before.

Berkshire owned 116.7 million Chevron shares at the end of the second quarter, down from 121.0 million as of the first quarter's conclusion.

Buffett previously disclosed that Berkshire exited its position in Paramount Global (PARA) during the second quarter. The filing also illustrated the scope of Berkshire's Apple (AAPL) sale, as the second quarter brought the company's position down by 50%.

Wednesday's filing also highlights the limitations of 13-Fs, which contain information about holdings through the end of the most recent quarter, but don't offer insight into the exact timing of transactions. Investors know from recent Form 4 filings that Buffett has been pruning his Bank of America Corp. (BAC) stake to about 942.4 million shares as of Aug. 1, but the 13-F still shows an older position of 1.02 billion shares.

Read: Warren Buffett sells Bank of America stock again as share price crests

-Emily Bary

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08-14-24 1840ET

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