Just about everyone thinks Shake Shack's (NYSE:SHAK) stock price is about to drop. With more than half of its shares outstanding sold short, the stock is the third most-shorted stock on the New York Stock Exchange.
Yet even though a huge consensus has built up that you shouldn't own shares of the better burger joint, there are practical reasons behind the negativity, and they're why I will never buy Shake Shack stock.
Too much of a good thing
When everyone tries to achieve the same thing, no one stands out. While better burger restaurants have been around for years, it seems within the past few that every hamburger stand has decided that it, too, wanted to get in on the craze. Even fast-food icon McDonald's (NYSE:MCD) was smitten by the concept until it started hemorrhaging customers, and realized that maybe they were really interested in good-tasting food at a value price.
But with the rise of the fast-casual trend, so many new high-end burger shops opened. Not only do we have The Habit (NASDAQ:HABT), Five Guys, In-n-Out, and Smashburger, but there's also Burger Fi, Umami Burger, Wayback Burger, and Fat Burger. There are simply too many players on the field chasing the same ball.
Too much expansion
Not only do we have way too many burger restaurants chasing limited discretionary dollars, but the chains continue to expand. Although they may have scaled back their previously grandiose growth projections, each still thinks there's plenty of room for more of their own chains. The Habit, for example, plans to open another 31 to 33 restaurants this year, with five to seven more franchised or licensed ones added in. Wayback Burger says it will be opening two to three new restaurants a month this year, and Burger Fi will be opening a dozen more. Umami Burger and Five Guys seem to have more global expansion ambitions than domestic ones.
Shake Shack has mixed growth ambitions, with up to 24 new company-owned Shacks in the domestic market, along with 12 new licensed ones, which tend to be international. These numbers are higher than the company previously suggested.
Sales are slowing
Unlike The Habit, which posted 1% company-owned comparables growth last quarter and anticipates 2% growth for the full year (admittedly a far cry from its prior heady growth experience), Shake Shack recorded a 2.5% decline in comps and expects them to be flat, at best, for the year. Moreover, it witnessed a 4% decline in average weekly sales at domestic company-operated locations, to $86,000.
Only by opening more restaurants can the pricey burger palace hope to keep revenues growing, but store annual unit volumes (AUV) are falling, as well. It's targeting AUVs of just $3.3 million this year, a far cry from the $5 million its company-owned restaurants generated last year. Having moved out of its stronghold of New York City, where it got its launch, Shake Shack hasn't seen the same kind of support from customers as it moves into the heartland.
Its valuation is absurd
Shake Shack trades at 69 times earnings and more than three times earnings forecasted growth rate. At 61 times next year's estimates and more than 4.6 times sales, these are some pretty lofty numbers to be sporting in an industry that's not able to support all those who want to play.
Shake Shack isn't about to disappear from the restaurant scene. It's in a similar situation to McDonald's, which is having difficulty getting more customers to visit its restaurants -- and this problem isn't going away. But Shake Shack's stock is grossly overvalued for the opportunity it represents, and the risk is too great for me to invest in.