Restaurant initial public offerings got a big boost recently when airport operator OTG EXP (OTG) announced it was going public, hoping to raise as much as $585 million, the first restaurant business to do so in 2016.
Only the 13th restaurant to go public since 2013, you might be tempted to bite into its airport expansion plans. Don’t.
In fact, just buy Shake Shack Inc. (SHAK) stock instead.
What’s Happened to SHAK Stock Since Its IPO?
The poor soul who bought SHAK stock last May when it was trading at $95 either has exited the position, or is seriously licking his or her wounds, as it’s off 63% since then.
It’s a different story if you were one of the few retail investors able to secure IPO shares priced at $21. You were up more than 100% after Shake Shack’s first day of trading. And even with its recent return to earth, you’re still up 64% through Feb. 10.
So it’s a tale of two investors: the happy one who got in on the ground floor and the unhappy one who bought SHAK stock at seriously inflated prices.
The happy IPO investor is wondering whether they should sell and take profits (many of them already did in the first week of trading) or do they let it ride and hope Stake Shack’s growth story is still intact? The unhappy investor is just hoping beyond hope that they can get back to breakeven.
Do I think SHAK stock can go to $95 by the end of 2016? Absolutely not. Can it hit $95 in the next three to five years? You bet. But a lot has got to go right for that to happen.
How SHAK Stock Gets to $95
Chipotle (CMG) saw its stock price increase by more than $500 in the three-year period between October 2012 and August 2015. In that time CMG approximately doubled sales and operating profits.
Having set the bar with CMG, it’s simply a matter of determining whether Shake Shack has the growth trajectory to equal or better Chipotle’s feat.
Chipotle’s Q3 2012 earnings report delivered a 23% increase in revenue, an 11.4% increase in same-store sales, a restaurant level operating margin of 27.7% and a 40% increase in operating profits. Shake Shack’s Q3 2015 earnings report on Nov 5 saw revenues increase 67%, same-store sales increase by 17.1%, a restaurant-level operating margin of 30.4% and a 106% increase in operating profits.
SHAK has been in business for almost 12 years while in 2012 Chipotle had been around for 19 years. So, yes, Shake Shack is much earlier in the growth trajectory than CMG was back in 2012, but I think you get the picture.
If SHAK delivers like numbers on these four metrics for the next three years, I think there’s no question it’s got a shot at $95. The only thing stopping investors from taking the plunge is whether SHAK stock is still too overvalued in relation to its growth and that of its peers.
According to Morningstar, CMG’s 3-year revenue growth at the end of 2011 averaged 19.44%. In 2006, it averaged 37.7%. At that point it was 13 years old, a much better apples-to-apples comparison with Shake Shack.
Unfortunately, SHAK has a limited reporting history. However, we do know that the company grew year-over-year revenues by 45% in 2013, 44% in 2014 and is on track to report a 2015 increase of more than 60%. Those numbers more than hold their own.
On a valuation basis using price-to-sales as our metric comparison, CMG’s stock price averaged 2.3 times sales in 2006. SHAK stock currently trades at three times revenue, not outlandishly higher than CMG stock in its growth phase.
So, is SHAK the perfect stock? Not by a long shot. But it’s a heck of a lot better than buying into an operator of airport restaurants where the overheads are much higher.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.