Warren Buffett Just Trimmed His Stake in Ulta Beauty Stock. Time to Sell?

Well, that wasn't long.

Just one quarter after Warren Buffett's Berkshire Hathaway bought more than $266 million worth of Ulta Beauty (NASDAQ: ULTA) stock, the conglomerate dumped nearly all of that stake in the third quarter this year, selling more than 95% of its shares.

The move was surprising for those who follow Buffett. The Oracle of Omaha is known as a long-term investor, having said, "Our favorite holding period is forever" when the right conditions are met. He has held some stocks for decades, including Coca-Cola, American Express, and Moody's.

It's not clear why Berkshire sold most of its stake in Ulta, but let's take a closer look at the beauty retailer to see if selling the stock is the right move for you.

Image source: Getty Images.

Ulta is facing challenges

While Ulta has been a long-term winner on the stock market, the company has struggled more recently as its sales growth has slowed on weakness in consumer spending and increasing competition. The stock floundered after management slashed its guidance in the spring, and it now trades in the kind of value-stock range that likely attracted Buffett.

Currently, Ulta trades at a price-to-earnings ratio of less than 15. That's a great price for a stock that has returned more than 1,100% since its initial public offering in 2007.

Sales boomed in the aftermath of the pandemic along with the rest of the cosmetics industry as the economic reopening meant a return to activities like nightlife and working in the office that tend to correlate with spending on cosmetics.

This year, sales have slowed as the company has faced a normalization in beauty trends. Industry sales are expected to return to low to mid-single-digit growth, as was the case during the 2010s.

In its earnings report for the second quarter, which ended on Aug. 3, the company had a decline in comparable-store sales of 1.2%, and overall revenue rose just 1% to $2.55 billion.

Profits also tumbled as gross margin fell from 39.3% to 38.3%; and selling, general, and administrative expenses rose from $600.7 million to $644.8 million, increasing from 23.7% to 25.3% of revenue. As a result, operating margin in the quarter fell from 15.5% to 12.9%, and earnings per share (EPS) slipped from $6.02 to $5.30.

Should you sell Ulta stock?

Based on the numbers above, Ulta is clearly struggling, and the company has noted intensifying competition in the industry as "more than 1,000 new points of distribution [have] opened in the last three years."

However, management hosted an Investor Day conference last month and unveiled a set of long-term targets and a strategy to get there. Ulta envisions growing from slightly more than 1,400 stores today to more than 1,800 over the long term, and it expects to reach 50 million loyalty members by 2028, after finishing the second quarter with 43.9 million.

It also announced long-term financial targets for 2026 and beyond, including 4% to 6% revenue growth and low-double-digit EPS growth. In order to get there, the company aims to sharpen its leadership in product assortment, customer experience and engagement, and loyalty members.

Despite its weak recent performance, Ulta still enjoys a number of competitive advantages, including its large retail stores that function as beauty superstores, salons that drive in-store traffic, a loyalty program with more than 40 million members, and its 800 shops inside Target stores. So it seems like the company should eventually get back on its feet.

The valuation is attractive right now, especially if Ulta can get back to double-digit EPS growth as it intends to do. Despite Berkshire's move, there's no reason to sell the stock. Though I'd like to see clearer signs of recovery before calling it a buy, its quarterly numbers could very well be bottoming out right now.

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American Express is an advertising partner of Motley Fool Money. Jeremy Bowman has positions in Target. The Motley Fool has positions in and recommends Berkshire Hathaway, Moody's, Target, and Ulta Beauty. The Motley Fool has a disclosure policy.