You probably know someone (maybe it's you) who can't function in the morning without their cup of coffee. The need for people to get their morning fix, combined with strong branding, has made Starbucks an all-time great investment -- up more than 30,000% since its initial public offering in the early 1990s.
Another West Coast coffee chain has gone public, Dutch Bros (BROS 0.95%), and it's made a splash with its flashy product lineup and quick, drive-thru service. It's always bold to call anything "the next one," but here are three reasons why Dutch Bros has the long-term potential to be a big winner.
1. Branding to next-gen consumers
Dutch Bros follows a similar playbook to Starbucks, creating a brand that resonates with its target audience to build customer loyalty. The company targets young consumers, who likely don't have loyalty to incumbent brands yet, enticing them with products like Iced Tiger's Blood Lemonade or Iced Electric Berry Rebel -- drinks with caffeine, colorful names, and equally flashy looks.
Dutch Bros launched its mobile app in early 2021 and has already accumulated 2.3 million active accounts. Starbucks remains a long way ahead with more than 26 million members since launching its program in 2008. Still, the strong momentum is encouraging to see for a company that's ultimately trying to establish itself against one of the most powerful consumer brands in the United States.
The company's drive-thru business model has helped it perform throughout the pandemic, and same-store sales grew 7.3% year over year (YOY) in Q3 2021. Same-store sales will be an essential indicator of its brand momentum among its customer base, and investors will want to track this moving forward. Overall revenue growth should remain strong because Dutch Bros is constantly adding locations. In the third quarter, total revenue grew 50% YOY to $130 million.
2. Long-term store count growth
Dutch Bros currently has just 503 locations across a handful of Western and Southern U.S states. However, the company's long-term growth plans outline a target store count of 4,000 locations across the country, which should provide fuel for years of double-digit revenue growth ahead.
The company opened 33 new shops in Q3 and is forecasting a total opening of at least 112 in 2022. Dutch Bros has franchised and company-operated stores but is moving in a company-operated direction; it owns 30 of the 33 stores opened during Q3. Management's said that operating its own stores helps it pay back its invested capital sooner.
If investors assume that the company averages 100 new stores per year, the current growth target could see new stores driving company-wide growth for the next few decades. Store expansion may well accelerate as Dutch Bros grows and its cash flow increases.
3. Core business is already profitable
It's common for growing companies to lose money in their early years as they aggressively invest in funding growth. Dutch Bros is showing signs that its business model is profitable already. The company's net income was a negative $117 million in Q3 2021, but that was due to stock-based compensation of $124.8 million related to the company's initial public offering (IPO). Adjusted net income was $11 million and was positive in the three quarters before the IPO.
The company invests an average of $1.35 million to open each location and is recouping anywhere between 35% and 75% of its cash outlay over the store's first two years in operation, depending on the lease structure. In other words, there's a relatively quick payback period as Dutch Bros opens stores, and that could mean the company generates more cash flow over time as these additional locations turn profitable.
Is Dutch Bros a buy today?
The stock's been a hit with investors, launching at an IPO price of around $23 and closing at $53 on its first trading day. Shares have fluctuated since then, but have been pretty stubborn about giving up the company's IPO momentum.
Compared to Starbucks, the stock's valuation doesn't seem all that unreasonable. Dutch Bros carries a forward price-to-sales ratio of 4 while Starbucks trades at a multiple of 3.4. Keep in mind that Dutch Bros is much smaller and is growing revenue much faster than Starbucks.
Investors could argue that Starbucks should get a premium on its stock because of its strong and established brand and growth that's still impressive in its own right. Still, if you're a long-term investor, I think Dutch Bros is small enough that it can overcome valuation issues. The company's market cap is just over $9 billion.
With multiple growth levers like store traffic, new locations, and pricing, Dutch Bros has the ingredients to succeed if execution remains at a high level and customers keep enjoying what it offers.