Shake Shack (SHAK 0.03%) announced fourth-quarter results last week that showed a minor improvement in operating trends paired with an aggressive store expansion pace. Following the results, CEO Randy Garutti and his executive team held a conference call with analysts to put the numbers into context and talk more about their long-term growth plans. Below are a few highlights from that discussion.
Solid growth pace
We ended the year with robust fourth-quarter momentum.
Shake Shack's 31% sales spike was mostly due to the 16 new restaurants that management opened in the period. The chain's operating trends improved only slightly. Comparable-store sales inched higher by 0.8% to mark the first time that this metric reached positive territory in the year. The surprising uptick helped Shake Shack end up with full-year revenue growth of 34%, edging past management's initial guidance.
Comps will be volatile
Our [comparable-store] sales continue to be influenced by changes from a small number of Shacks.
-- CFO Tara Comonte
Investors follow comparable-store sales growth for restaurant chains because this metric tells us whether the business is standing out in a sea of competition. McDonald's return to positive comps powered strong profit gains for the fast food titan, for example, and helped support a rally for the stock.
Shake Shack's 1% comps decrease looks weak compared to the 5% jump that McDonald's managed in 2017. Yet management isn't especially worried about this gap. Just 43 locations, predominantly in and around the core New York metropolitan market, were in this year's comp calculation, and so the metric tells a limited story about the business. Customer traffic fell by 1.5% in this store segment, but that pace marked a solid improvement over the prior quarter's 4% dive.
Profitability will keep dropping
As we open more Shacks at lower [sales volumes] and generally lower operating margins across the country we will see these percentage-based metrics continue to come down, at the same time delivering extremely healthy returns and significant absolute dollar growth on both the top and bottom line.
Profitability dropped to 26% of sales from 27% in the prior year, and investors should expect that negative trend to continue into its third year in 2018. Garutti and his team are calling for margin to tick down to between 24.5% and 25.5% of sales this year as the restaurant base diversifies away from its New York focus. The business is still aiming to deliver robust profitability that approaches the high-20% range that Chipotle was producing in its best days.
We continue to target 450 domestic company-operated Shacks and, at only 20% of that goal today, we are still very early in that journey and have a significant amount of growth ahead of us.
Executives aim to take another step toward their long-term 450-unit restaurant target by adding as many as 35 new locations to the base this year to power a 25% spike in annual revenue. More generally, management believes they can double the number of Shack Shacks, to 200, by 2020.
Investors must balance that promising growth opportunity against a few not-so-strong operating metrics, including a projected flat level of customer traffic and continuing declines in profit margins.
If either of those figures turns dramatically lower, then the company would likely have to take its foot off the pedal with respect to its expansion pace. But since demand trends improved a bit in the fourth quarter, Shake Shack's management feels emboldened to launch a record number of new locations in fiscal 2018.