Restaurant chains have been some of the top-performing stocks of the past few decades. From Domino's Pizza to Starbucks, there's no doubt it can be highly profitable to hold a quality restaurant concept for the long haul. The secret is finding a future Starbucks or Domino's while they are still small and then having the patience to hold on as management steadily grows store count.
Recent IPO Portillo's (PTLO 0.79%) is a potential candidate as the next great restaurant to take over America. The company has a unique food offering, an opportunity for steady store expansion, and highly profitable locations. Let's see if the stock is worth buying with its shares down 44% in 2022.
What is Portillo's?
Portillo's is a Chicago-based fast-casual chain that focuses on serving Chicago-style food. This includes beef and sausage sandwiches, Chicago-style hotdogs, and classic fast food like fries, burgers, and shakes. At the end of 2021, it had 69 store locations, mainly centered around the Chicago area. Management plans to expand its locations to other areas like Arizona, Texas, and Florida in the next few years.
Unlike a traditional restaurant chain, which typically has the same store layout across every location, Portillo's has different styles for each location to bring out nostalgia and a family atmosphere. Every location has multiple drive-thrus and a small menu size, which are explicit decisions to help increase order volume. In fact, Portillo's has a best-in-class average unit volume (AUV) of $8.2 million, which measures the amount of revenue each restaurant brings in. QSR Magazine had it ranked No. 1 in AUV among fast-food brands in 2020.
Financials + potential for expansion
Even though it only has 69 store locations, Portillo's is still a sizable business with such high AUVs. In 2021, revenue grew 17.5% year-over-year to $535 million, driven by a few new store locations and same-store sales growth of 10.5%. And even though the company is growing store locations, it is still generating profits with a 5.6% operating margin last year. This is down from 12.6% in 2020, but that is only because of some one-time expenses around its initial public offering (IPO) in late 2021.
Management's goal is to grow Portillo's store count by around 10% a year for the foreseeable future. With so much green space in every market besides Chicago, the company shouldn't have any problems finding new cities and towns with demand for its food concepts. If Portillo's can hit its goal of 10% store growth for the next five years, it will have 101 stores by the end of 2026. That might not seem like much compared to huge fast-food chains like McDonald's, but with Portillo's strong AUVs, that will equate to a lot of future revenue.
As of this writing, Portillo's stock trades at a market cap of $1.67 billion. Based on 2021 revenue, that puts the stock at a price-to-sales (P/S) ratio of 3.1. Assuming normalized operating margins of 12.6%, the stock has a price-to-operating income (P/OI) of 25, or right around the market average.
This might not seem too enticing, but with Portillo's clear path to 10%-plus unit growth along with consistent same-store sales expansion, this P/OI should come down rather quickly. For example, if Portillo's has 101 stores in 2026, an AUV of $10 million, and an operating margin of 14% (scale should provide some operating leverage), it will be generating $141 million in annual operating income five years from now. At the current market cap of $1.67 billion, that would give the stock a P/OI of 12.
Of course, Portillo's Chicago-style concept is not guaranteed to succeed outside of its home market. There is some risk of a fall in AUV and operating margins if other cities do not bring as much demand as the Chicago area. But with successful expansions already in Florida, Phoenix, and Los Angeles, I think there is a decent amount of evidence that all sorts of Americans want access to this type of chain restaurant -- and that Portillo's has executed well in bringing a quality customer experience.
While no stock is without risk, at today's prices, Portillo's looks like a great bet on a potentially dominant American restaurant chain.