Whenever Wall Street authoritative figures, such as a large institution or individual investor, decide to shift a view on a specific stock or industry, retail traders can significantly benefit from attempting to reverse engineer the reasoning behind such a decision and shift. Today, this signal comes through Warren Buffett, the legendary value investor who has been the center of attention after a few months of being relatively inactive.
The latest headlines for Buffett include his choice to sell out some consumer cyclical names as well as some of the technology sector darlings, such as Apple Inc. (NASDAQ: AAPL). However, Buffett’s latest decision to sell out of Ulta Beauty Inc. (NASDAQ: ULTA) lands on the more controversial side of the spectrum, the reason being that this holding was much shorter than the typical holding period investors usually see from Buffett, which is years if not decades.
Choosing to sell all of his Ulta Beauty stock shortly after having bought into it, in just under a year from his entry, might have spooked a few investors into thinking that there is something wrong with the company or that somehow the thesis has changed on the stock. However, when investors break down the main profitability metrics and valuations in the stock today, it becomes clear that it justifies being a potential buy if not a longer-term hold.
A Shift to Defensive Stocks Will Boost Ulta Beauty Stock
When considering the market’s sentiment between consumer cyclical stocks and their counterparts in the consumer staples sector, investors can see very clearly how price action is shifting to reflect a potential flight to safety in the broader market.
This theme can be spotted through the recent institutional buying activity in the Consumer Staples Select Sector SPDR Fund (NYSEARCA: XLP), led by those from Ameriprise Financial, who decided to boost their holdings in this exchange-traded fund (ETF) by as much as 11.6% as of February 2025, bringing their net position to a high of $320.2 million today.
More than that, there are other signs of a rotation into safer names and out of speculative ones. The iShares S&P 500 Value ETF (NYSEARCA: IVE) has outperformed the broader S&P 500 by up to 2% over the past trading week, and while this is not an established trend just yet, it is enough to turn some heads – and attention – to the fact that value names might be in play again.
This is where Ulta Beauty comes into play for investors who don’t have the burden of managing billions in capital, which allows them the flexibility to look past macro trends and focus on more granular details for their portfolios.
Ulta Beauty Stock’s Valuation, ROIC, Makes a Wealth Compounder
Shares of Ulta Beauty are now trading at only 64% of their 52-week highs, a significantly low level that gives investors a fantastic risk-to-reward ratio if they choose to enter the stock at these prices. In addition, they would tap into all of the other fundamental factors that make Ulta Beauty a wealth compounder.
Some examples include the fact that over 90% of the company’s sales come from reward membership customers, which speaks to the loyalty of the brand’s consumer base and its pricing power and market share in the broader industry.
This is also where the company's defensive nature comes in. Most people would classify makeup and skincare products as cyclical. However, no matter whether the economy is booming or busting, customers will likely still have room in their budgets for these products.
The nature of these products, combined with Ulta’s market and business setup, translates into high margins and returns on capital. The company’s financials showcase a gross margin of up to 43% today, enabling management to retain enough capital from each sale to reinvest into further growth and compounding.
Achieving a return on invested capital (ROIC) rate of up to 27.4% over the past 12 months means effective management and compounding opportunities for investors since annual stock price performance tends to match the long-term average ROIC rates over time.
Understanding the importance of these setups, investors should not be surprised to see analysts from Telsey Advisory Group reiterated an Outperform rating on the stock. On top of a valuation of up to $500 a share, this rating implies a net upside potential of as much as 36.4% from where it trades today.
Lastly, the company’s forward price-to-earnings (P/E) ratio of 15.5x today would be near the bottom of the long-term range, which averages out at roughly 28.0x, so investors could be in for a terrific bargain today, accounting for Ulta Beauty's high margins and profitability rates.
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