Cava (CAVA -3.91%) shares caught some initial excitement after they went public in June of this year. At its all-time high, the stock was up 160% from its opening price on the day of its initial public offering. This performance was supported by overall optimism among investors in the stock market.
Shareholders were certainly excited about Cava's prospects. But this bright outlook has turned more pessimistic lately. The restaurant stock is currently 41% below its peak price.
Cava has already taken investors on a bullish and a bearish ride. Along the same vein, let's look at an obvious reason to buy the stock, as well as one reason that the business is just too risky right now.
Perhaps after being exposed to both sides of the argument, investors can make a more informed decision about what to do with the stock as it relates to their own portfolios.
Growth is impressive
I think the main reason some investors are drawn to this company is because of its growth prospects. In the most recent quarter (the second quarter of 2023, ended July 9), Cava's revenue soared 62.4% on a year-over-year basis. And same-store sales, a critical metric for any retail-based business that measures revenue from locations open at least 365 days, rose 18.2%. These are very impressive numbers, especially considering the uncertain macroeconomic environment, one in which consumers continue fighting against inflationary pressures and high interest rates.
The most important part of Cava's long-term investment thesis centers on expanding the physical footprint. That's not surprising. After opening 16 net new locations in the last quarter, there are now 279 Cava restaurants nationwide. In the grand scheme of things, this is a tiny amount.
However, the management team has set an ambitious target to open stores rapidly. By 2032, executives believe there could be 1,000 locations, translating to a roughly fourfold rise in the store count from today's level. I'm sure this outlook is what the majority of bullish investors are most excited about.
I think there are some important trends that are working in Cava's favor. For starters, the fast-casual segment of the overall restaurant sector continues to rise in popularity.
Secondly, consumers these days appear to be more concerned with their health and well-being, especially following the worst days of the coronavirus pandemic. Cava focuses on providing a Mediterranean-based option, which is considered a healthier diet compared to what is typically found in the U.S.
The broader economic backdrop might also have some influence here. With worries about a recession still on people's minds, as well as higher prices across the board for essentials, maybe consumers who would usually eat out at a nicer dine-in restaurant are now turning to a fast-casual chain like Cava.
Too much competition
However, investors can't ignore just how ridiculously competitive the overall food and restaurant industry is. Outside of just the fast-casual space, consumers can eat at a quick-service chain like McDonald's, shop at a grocery store like Kroger to make food at home or eat at a fancy restaurant like One Group's STK Steakhouse.
Within the fast-casual segment, Cava has to deal with rivals dealing with a similar cuisine. Where I live, there's Naf Naf Grill and Aladdin's Eatery, to name just two.
More broadly, consumers can choose to eat at Chipotle Mexican Grill, which pioneered fast-casual dining. There's also Panera Bread, Nando's, and Sweetgreen.
Unless a business has the scale or the brand name, it's hard to find a true competitive advantage. And I don't believe Cava is at this stage just yet, simply because its store count is still extremely small. Maybe as it gets bigger, it can start to benefit from economies of scale and strong nationwide brand recognition. But we're not there yet.
Moreover, the restaurant industry is arguably the most competitive out there. According to the National Restaurant Association, an alarming 80% of new restaurants fail within the first five years of operations. Margins are usually thin, a reality that is negatively impacted by inflationary pressures. The industry is very mature. And there's always the risk that larger chains see their employees pushing for unionization efforts, like what's happening at Starbucks, a headache for management teams.
Cava's growth prospects are definitely exciting, but hitting the leadership team's goals is far from a certainty due to the competitive layout. And this makes me hesitate to buy the stock right now.