Is a bull market coming? The market has certainly made strides forward as we gallop toward the end of the year. It's well worth remembering that a bear market is always followed by a bull market -- and as that period approaches, it's a great time to buy undervalued stocks. Stocks with great fundamentals at low valuations are likely to soar in a bull market, and identifying them now gives you the opportunity to buy before they make their best gains.

Wall Street is identifying coffee chain Dutch Bros (BROS 1.43%) as an excellent candidate for a 2024 comeback. Should you follow its lead?

A different kind of coffee house

Starbucks may have an unbeatable position as the largest coffee shop chain in the world, but given its cookie-cutter model, there's an opportunity for a new coffee chain to offer a different experience and capture market share.

Enter Dutch Bros. Not everyone wants the same kind of coffee, and Dutch Bros has a unique culture with a differentiated model that's resonating with millions of fans. As of the end of the third quarter, Dutch Bros operated 794 stores, of which 510 are company operated and 284 are franchised. 

Dutch Bros envisions opening 4,000 stores, leaving it plenty of runway over the next few years. It opens about 150 new stores every year, and these new stores add tons of revenue to the total, which is why Dutch Bros has been able to generate high growth every quarter. Revenue increased 33% over last year in the third quarter.

However, the flip side of this is that same-store sales (comps) haven't been that great. They increased only 4% in the 2023 third quarter, which is a low number for a young company. Management says it's at least partially the result of its fortressing strategy, where it opens several shops in one location to increase brand awareness. That results in more revenue overall but fewer increases per store in the short run.

It's also the result of people spending less on extras, like premium coffee, when inflation makes every penny count. That's an external headwind, and it might already be beginning to ease as inflation begins to moderate. Comp sales growth of 4% is an improvement from last year, when it was 1.7%, and last quarter, at 3.8%. But it's a far cry from pre-high inflation metrics of around 10%.

Pressure is easing and momentum is building

Inflation trends in 2024 will be a big determinant in how Dutch Bros performs. The coffee chain has been increasing prices to combat the effects of inflation, and that went a long way toward improving profits in the third quarter, accounting for a large chunk of the increase in contribution margin, which rose from 26% last year to 31% this year. It also contributed to the increase in revenue and specifically in same-store sales.

Dutch Bros recently hired an outsider to take over as CEO from founder-CEO Joth Ricci, who is stepping down. That's the right move as the company expands from a small chain of coffee shops to become a real player in the industry. There are plenty of growing pains right now as the company figures out how to scale profitably in an inflationary environment. New management creates some added volatility, but choosing an experienced executive to lead the next phase of growth is definitely the right move.

How high can Dutch Bros stock go?

Dutch Bros stock has been on the lagging side of the recent S&P 500 rally and is down 4% in 2023. At this price, it trades at 1.7 times trailing-12-month sales, which is cheap for a stock with double-digit revenue growth.

But Wall Street sees a great year ahead for the stock. The average Wall Street analyst consensus is for a 20% increase over the next 12 to 18 months, and the highest target price is 78% higher than today.

Risk-tolerant investors might be interested in taking a small position following Wall Street's lead. If we enter a new bull market, investors are likely to be more enthusiastic about growth stocks, and Dutch Bros stock could jump significantly. However, most investors should take a wait-and-see approach right now.