Buffett Sold Apple and Bought 690,000 Shares of 'Ultabeauty'... Why Cosmetics Stocks?

Buffett Bought 690,000 Shares of Ultabeauty in Q2
Return on Investment (ROI) Higher Than Costco
Position Narrowed Due to Competitors' Aggressive Store Expansion

As market attention focuses on Ulta Beauty, a cosmetics stock chosen by 'investment genius' Warren Buffett, The Wall Street Journal (WSJ) highlighted the stock's appeal as a value investment destination.

On the 18th (local time), WSJ reported, "Buffett, who advised to be greedy when others are fearful, surprised the market last week by sweeping up Ulta Beauty shares," adding, "Although the influx of buying caused the stock price to soar, opportunities for bargain purchases still remain."

Warren Buffett. [Photo by AP News]

According to the 13-F filing submitted to the U.S. Securities and Exchange Commission (SEC) by Berkshire Hathaway (hereafter Berkshire), led by Buffett, Berkshire added 690,000 shares of Ulta Beauty (worth approximately $266 million) to its portfolio in the second quarter. Having halved its Apple holdings and increased cash reserves to an all-time high, Berkshire's new choice attracted intense market interest. Following the filing, Ulta Beauty's stock price rose by 15%.

WSJ identified Ulta Beauty's greatest strength as having the fundamentals desired by value investors. According to Simeon Siegel, senior analyst at BMO Capital Markets, Ulta Beauty's compound annual revenue growth rate over the past five years reached 11%, with an operating margin of 15%. This was achieved by expanding small offline stores instead of large stores and department store entries, thereby reducing rent and operating costs. During the same period, the return on invested capital (ROI) averaged over 26%, demonstrating higher investment efficiency than Costco (18%).

[Image source=Reuters Yonhap News]

Additionally, Ulta Beauty is evaluated as resilient to one-time beauty trends or economic changes due to its diverse price ranges and product lines. WSJ noted, "Ulta Beauty and its competitor Sephora, which emerged in the 1990s, changed the way consumers shop for cosmetics," explaining, "They moved away from the old method where customers had to go through store employees to examine products, to a new approach where customers can freely try samples inside the store." This is similar to why Ulta Beauty is called the 'American version of Olive Young.'

However, the future of Ulta Beauty as a long-term investment is not entirely bright. Competitors, including Sephora under LVMH (Louis Vuitton Mo?t Hennessy), have been aggressively expanding offline stores, and even Amazon has entered the premium cosmetics distribution market, threatening Ulta Beauty's market share. Sephora, which has opened about 900 stores in the three major U.S. department store chains Kohl's over the past three years, plans to increase department store locations to 1,000 by this year. In contrast, Ulta Beauty, which added about 100 stores annually in the 2010s, has recently slowed its store expansion to 30-50 stores per year.

WSJ stated, "Although Ulta Beauty has some superficial flaws, it remains an attractive stock," explaining, "Ulta Beauty's stock is currently trading at about 14 times its 12-month net earnings, which is 44% lower than the 10-year average." Oliver Chen, a stock analyst at Cowen, diagnosed, "The supply chain relationships and exclusive partnerships Ulta Beauty has built are difficult for competitors to replicate," adding, "The important fact is that Ulta Beauty has a loyal customer base."

Meanwhile, last week on the New York Stock Exchange, Ulta Beauty's stock closed at $377.23, up 3.12% from the previous session. However, it has fallen more than 22% so far this year.