This is a key point that investors seem to have forgotten, which is why this is such a good opportunity.
With roughly 1,400 locations, Ulta Beauty (ULTA -1.31%) is one of the largest cosmetics retailers in the world. This year, management expects the company to generate net sales of at least $11.5 billion, which is enormous.
In addition to selling products that are widely available, Ulta Beauty sells exclusive products that can only be purchased at its stores. And beyond selling cosmetic products, it also offers in-store services such as hair and nail salons. This combination of products and services differentiates it from some of its competitors and keeps customers coming in.
I’ll readily admit that I’m not a customer and can’t offer any personal anecdotes to explain Ulta Beauty’s success. That said, I can recognize something special when I see it from the sidelines. As of the first quarter of 2024, the company had over 43 million active loyalty members — that doesn’t just happen out of the blue.
To be clear, the term “loyal” isn’t just an empty label for Ulta Beauty’s members. These customers are truly loyal to the brand. In 2023, a whopping 95% of the company’s sales came from these 43 million shoppers.
In other words, anyone can drive up and shop at an Ulta Beauty store. But most of the company’s sales come from just a single source: its loyalty members. And that’s significant to an investment thesis today.
Why buy Ulta Beauty stock?
For those unaware, many investors seem scared to buy Ulta Beauty stock right now because times are tough from a competitive standpoint.
At the start of this year, Ulta Beauty’s management predicted net sales of $11.7 billion to $11.8 billion in 2024. That would have represented only about 4% to 5% top-line growth from 2023. But in Q1, management lowered its full-year guidance to $11.5 billion-$11.6 billion, which is even more modest growth.
In the cosmetics space, there’s a relatively low barrier to entry. Celebrities can (and often do) launch their own product lines, which quickly catch on with fans. And beauty products lend themselves to viral social-media marketing. Simply put, newcomers can come in and quickly steal sales away from Ulta Beauty.
On top of this threat to its market share, Ulta Beauty’s management notes that 2024 is a slow year for growth in the space overall. In short, there’s no rising tide to lift its boat, and other players are actively trying to sink it.
This contributes to investors’ hesitancy to buy Ulta Beauty stock. As a result, shares have dropped to uncharacteristically cheap levels, as the chart below shows.
ULTA PS Ratio data by YCharts
If Ulta Beauty were on the cusp of irreversibly losing market share to rising stars in the cosmetics space, then there would be good reason to avoid investing in the stock even though it’s cheap. Cheap stocks aren’t good buys when the business is in decline.
However, investors should remember that almost all of Ulta Beauty’s sales come from its loyalty members. Therefore, it’s reasonable to expect the company to at least retain most of the business that it has. If this is so, then Ulta Beauty is a cheap stock to seriously consider buying now.
For its part, Ulta Beauty’s management is quickly taking advantage of the cheap stock price. The company spent almost $300 million repurchasing shares in Q1, which was the most it had spent in a single quarter in a year. And management is authorized to spend $1.8 billion more at its discretion. Considering the stock is still cheap, I wouldn’t be surprised to see management keep moving fast.
This is great for shareholders. In his 2022 letter to Berkshire Hathaway shareholders, investing great Warren Buffett said, “When a company overpays for repurchases, the continuing shareholders lose.” There was much more to Buffett’s point here in that letter. But suffice it to say that share repurchases generally work out better when the stock is cheap, as in the case of Ulta Beauty.
Ulta Beauty’s sales are more resilient than one might think thanks to its 43 million loyalty members. Investors seem to have forgotten this point, which has dropped the stock to cheap levels. This is actually good for shareholders, since management can repurchase shares at those cheap levels. But it’s also an opportunity for retail investors to buy shares of Ulta Beauty today at attractive prices for the long haul.
Jon Quast has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Berkshire Hathaway and Ulta Beauty. The Motley Fool has a disclosure policy.