🍱 Is Cava a buy?

Good morning Pros! In today’s issue, we’ll determine if Cava is a buy or not. Founded in 2010, the company went public on June 15 2023 with an IPO price of $22.10 and is generating a lot of buzz. Also, we’ll look at Netflix, which is our Investment of the Week.

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📊 Stock analysis: Is Cava a buy?

Cava isn’t among the top ten when investors discuss stocks, but it’s a fast growing name with a lot of potential. This fast-casual Mediterranean restaurant chain is covered by a decent number of analysts and is a mid-sized stock.

It’s different from some other restaurant businesses as Cava does not have a franchise-based chain, meaning it owns and operates all its locations except for one licensed restaurant.

The stock is up 55.88% YTD, but is there more potential? Let's find out.

The current situation:

• The stock is trading at $63.75.

• It has a 52-week-high of $71.60.

• It has a 52-week-low of $29.05.

• The stock has a P/E of 304.57.

What experts say: CAVA Group stock have an average target of $60.73, with a low estimate of $40 and a high estimate of $73. The average target predicts a decrease of -4.74% from the current stock price of $63.75.

Why has it grown so much?

In its latest reported quarter, Cava expanded to 309 locations in 24 states and the District of Columbia, marking a nearly 36% year-over-year growth. It has 72 more than the year before. Moreover, it's planning to open about 50 in 2024.

This is one of the main reasons why the stock has grown massively in the last few months.

These outlets brought in $173.8 million in revenue, a 50% increase from the previous year.

Cava experienced a significant surge in sales last year, with a 60% increase compared to the previous year.

Comparable sales also rose substantially, up by 18%. The Average-unit volume (AUV) saw a notable increase, climbing from $2.4 million in 2022 to $2.6 million in 2023.

Additionally, the restaurant-level profit margin improved, rising by 4.5 points from the previous year to reach 24.8%.

More growth is expected

Management plans to expand its locations at an annualized rate of at least 15%, aiming to double its store count within five years if successful.

One key metric for evaluating restaurant stocks is same-store sales, which tracks the growth in sales at existing stores. Cava achieved a 14% growth in same-store sales last year.

To provide context, larger fast-casual competitors such as Chipotle and Wingstop reported same-store sales growth rates of 5% and 15%, respectively. This shows Cava is growing and is expected to enjoy a larger market share.

Traffic has increased by 7.6% compared to the previous year. While Cava's fast-casual and fast-food competitors usually do not disclose traffic metrics, McDonald's management mentioned a decline in traffic in its latest reported quarter, consistent with its industry-wide observation.

Strong financials

Cava is not only experiencing increasing popularity but also boasts profitability and a debt-free status.

In its latest reported quarter, the company achieved a net income of $6.8 million, a remarkable turnaround from its $11.9 million net loss in the third quarter of 2022.

This success can be attributed, in part, to the company's robust balance sheet, which includes $340 million in cash and cash equivalents and no long-term debt as of the end of the quarter.

We must, however, mention that Cava's balance sheet is strong partly due to its IPO last year, which netted the company roughly $318 million. However, that cash will likely be drained over the coming years as Cava pays to open new locations.

But, Cava's operational performance is impressive, with the company generating $2.8 million from its operations in the most recent quarter, marking a significant 123% year-over-year increase. Across the first three quarters of 2023, Cava achieved a total net operating income of $11.2 million, reflecting a substantial 128% year-over-year growth.

Are there risks?

Cava appears to have immense potential, but since it’s a new stock to the market, we don’t have much data to base our judgment on.

Management anticipates a significant slowdown in comparable-sales growth to around 4% in 2024. They acknowledged that some of the previous growth was due to a "halo effect," where customers were drawn in by the hype surrounding the IPO.

There are some other major red flags as well, including valuation.

The stock is trading at approximately 10 times its trailing 12-month sales and 230 times forward 1-year earnings, indicating a high valuation.

While such a valuation could be warranted if Cava were expected to experience substantial growth this year, management anticipates a slowdown in 2024, with lower comparable-sales growth and margins. Moreover, no guidance was provided for net income.

As growth decelerates, the company may struggle to justify such a valuation, potentially setting the stage for a decline.

Conclusion

Cava has consistently reported positive net income every quarter. The company achieved a full-year profit of $13 million, a significant improvement from the $59 million loss in 2022.

This might sound good but the fact remains that it’s too new a company to bet on. It might be wise to wait until the fast-food chain proves itself.

Since it’s growing, it might soon go low on cash, which will also impact the company. If the restaurant proves to be a hit among consumers, the stock will easily cross the $80 mark next year.

But we think, 2024 can be challenge and it might fall a little before it goes back up.

So, for now, we’d suggest that you HOLD this stock.

📰 Investment of the Week: Netflix

Our Investment of the Week is Netflix, expected to report earnings on 04/18/2024 after market close. The report will be for the fiscal Quarter ending Mar 2024.

The company last reported earnings on Jan 23, 2024. The options prices predicted a ±8.2% post earnings move, compared to a +10.7% actual move.

The options market overestimated Netflix earnings move 46% of the time in the last 13 quarters. T

The predicted move after earnings announcement was ±8.8% on average vs an average of the actual earnings moves of +11.8%. This shows you that Netflix tended to be more volatile than the options market predicted for the earnings stock price reaction.

Netflix historically moved higher heading into earnings more often than not. On average, the stock dropped -0.8% for the 2 week period before earnings (based on the last 12 quarters of data).

Shares have moved lower in the immediate aftermath of earnings 7 out of 12 previous reports.

A positive report can send Netflix higher, and in the current situation, we see it gaining about 5% only if the report is positive. However, a negative report could cause it to lose about 10%.

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Nothing in this newsletter is financial advice. Always do your own research and think for yourself.