Warren Buffett buys shares of this company. Should you do the same?

of Warren Buffett Berkshire Hathaway (BRK.A 1.34%) (BRK.B 1.35%) recently unveiled a new position in The ultimate beauty (ULTA -0.97%). According to its latest quarterly filing, Berkshire owns 690,106 shares of the cosmetics retailer, which equates to a stake of about 1.4%. While Berkshire’s $250 million investment is modest considering its stock portfolio is currently valued at more than $313 billion, it has been known to add to previous investments over time.

So let’s examine why Berkshire might be acquiring Ulta Beauty and whether the stock is worth adding to your portfolio.

Ulta Beauty stock is struggling

Despite year-over-year revenue growth of 3.5% in the first quarter of fiscal 2024, which ended May 4, investors have shied away from Ulta Beauty in 2024. Shares of the cosmetics retailer fell nearly 24% to present, in a management capacity. it recently cut its guidance for fiscal 2024, and its margins are shrinking.

Management revised its fiscal 2024 net sales forecast down from a range of $11.7 billion to $11.8 billion to a new estimate of $11.5 billion to $11.6 billion dollars. Additionally, the company expects comparable sales, which it defines as sales from stores open at least 14 months and e-commerce, to grow just 2% to 3%, down from its previous expectation of 3% to 4 %. Comparable sales are usually indicative of a retailer’s overall health, as new store sales tend to lag behind established ones.

Meanwhile, both gross margin and operating margin in the first quarter were down year over year. Gross margin is a key metric for retailers because it demonstrates the ability to raise prices, and if it’s falling, it can be a sign that the company relies heavily on promotions or customers aren’t willing to pay higher prices. Ulta Beauty’s gross margin for the most recently reported quarter fell year-over-year from 40% to 39.2%.

At the same time, the company’s operating margin — a measure of a company’s profitability that measures retained earnings after cost of goods sold and operating expenses — fell from 16.8 percent to 14.7 percent. Management blamed higher selling, general and administrative expenses, such as higher wages and increased store expenses, for its declining margins.

Furthermore, management revised its full-year operating margin guidance from a range of 14% to 14.3% to a range of 13.7% to 14%, meaning the value is likely to worsen on short term.

ULTA PE report data by YCharts

Here’s why Berkshire invested in Ulta Beauty

Despite slowing growth and declining margin, there’s a lot to like about Ulta Beauty stock. In Buffett’s 2019 annual letter to shareholders, he wrote:

We are constantly looking to buy new businesses that meet three criteria. First, they must earn good returns on the net tangible capital required in their operation. Second, they must be led by capable and honest managers. Finally, they must be available at a reasonable price.

Using trailing 12-month earnings versus net tangible assets, Ulta Beauty earned approximately 73% pre-tax or 55% after-tax of the net tangible equity required to operate its business. Buffett wrote in the same shareholder letter that Berkshire is seeking at least 20%, meaning Ulta is beating expectations.

While it can be difficult to quantify the honesty of a company’s leadership, Ulta Beauty is led by CEO David Kimbell, who took over in 2021. Kimbell has been with Ulta Beauty since 2014 and previously served as chief marketing officer and president. Since Kimbell took over at Ulta Beauty, his stock has delivered a total return of 310%, surpassing S&P 500 by almost 40%.

Finally, turning our attention to Ulta Beauty’s valuation, the stock is currently trading at 14.6 times trailing 12-month earnings per share, which is near an all-time low. What’s more, Ulta Beauty has a five-year median P/E ratio of 21.2, so the stock is trading well below that level.

ULTA PE report data by YCharts

Is Ulta Beauty stock a buy?

Ulta Beauty certainly faces its challenges, but the company is still well positioned for growth. Its balance sheet has a net cash position of $525 million, which lends itself to the company’s plans to open 48 to 53 new stores for the remainder of fiscal 2024, adding to its total of 1,395 stores.

As Ulta Beauty investors wait for a rebound, the company continues to buy back shares, boosting shareholder ownership and earnings per share. The company has reduced its share count by 26% over the past decade and has $1.8 billion left to implement under its current share buyback program.

Buffett once wrote, “Whether it’s socks or stocks, I like to buy quality goods when they’re on sale.” Ulta Beauty fits the bill when it comes to buying a proven business at a discount, making its stock a worthy addition to any long-term investor’s portfolio.