Fast-casual restaurants have steadily grown in popularity in the United States this century. With customizable menus, a wide range of healthy options, and reasonable prices, fast-casual chains have a strong value proposition that has resonated across the country.
The most successful fast-casual chain has been Chipotle. After going public in the early 2000s, the stock has crushed the market, up 4,500% versus the S&P 500 index's total return of 379% over that time frame.
Cava (CAVA 4.89%) is an exciting new restaurant concept that is trying to become the first national chain serving healthy Mediterranean-style food, and its stock just went public earlier this month. Let's see what's under the hood at this fast-growing restaurant concept and whether the stock has the potential to crush the market just like Chipotle.
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Cava: Mediterranean for the masses?
To frame an example for people without a Cava in their area, the customer experience is very similar to Chipotle, except with Mediterranean ingredients like Falafel, Pita bread, and lamb. Customers can order ahead or through an assembly line where workers put together custom bowls/sandwiches, all with fresh healthy ingredients that give the food a higher quality than traditional quick concepts like Mcdonald's.
Items cost around $10 apiece before add-ons, which again is similar to Chipotle. Of course, prices vary depending on the cost of living in your area.
In its S-1 filing with the Securities and Exchange Commission (SEC), Cava said it can achieve 20% restaurant-level profit margins at every location by its second year. This excludes corporate overhead costs but is a good proxy for the business' unit economics. Management thinks it can hit $2.4 million in per-restaurant revenue in year two, meaning each Cava location should be generating $480k in profits per year the second year it's open.
Growth potential looks promising
At the end of 2022, there were just 237 open Cava restaurants, presenting the company with a long reinvestment runway to grow its store count over the next 10 years and beyond. By 2032, management expects to have 1,000 Cava locations open around the United States at similar or better unit economics than today.
Twenty percent restaurant-level profit margins, $2.4 million in average per-restaurant revenue, and 1,000 locations equals $480 million in annual restaurant-level earnings for Cava by 2032.
On the one hand, with steady inflation and strong same-store sales growth, it wouldn't be surprising to see Cava hit average restaurant revenue of $3 million or higher by 2032 compared to its current $2.4 million goal.
On the other hand, restaurant-level profit margins don't take into account corporate overhead costs, which are real and shouldn't be ignored. Taking both of these into consideration, I think $480 million in annual net income for Cava in 2032 is not an unreasonable estimate.
Stay patient and wait for the lock-up to end
The problem with Cava is -- at current prices -- investors are pricing in these optimistic growth assumptions and then some.
Today, Cava has a market cap of around $5 billion. Ignoring share dilution and the time value of money, Cava shares would be trading at a price-to-earnings ratio (P/E) above 10 in 2032 if it can hit its growth and margin goals.
If the stock goes up 4,000% like Chipotle, it will have a market cap of around $200 billion and a P/E north of 200. This would be an extreme scenario and is an unlikely outcome for stockholders who hold for the next 10 years. So no, Cava is not going to perform like Chipotle if you buy at these prices.
As with all IPOs, individual investors should wait for the end of Cava's lock-up period, which is typically 90 days after it starts trading. Lock-ups restrict insiders and early investors from selling shares for a certain time period, which can cause a stock to stay artificially high for a brief time period. This is likely what is happening to Cava and why its valuation is so stretched.
If you like the company, it is probably smart to keep Cava stock on your watch list but avoid buying shares at the moment.
