Investors aren't sure what to make of coffee chain Dutch Bros (BROS -1.04%). Sales are soaring thanks to its rapid expansion, but there are indications it needs more time to prove itself and its business model.
Dutch Bros stock is down 13% over the past year and 9% so far in 2024. It trades at a price-to-sales ratio of 1.9, which is inexpensive for a high-growth stock. Here are three reasons to scoop up shares at this price.
1. Comps growth is starting to accelerate again
Dutch Bros has had a bit of a comparable sales (comps) problem since inflation started to balloon. Comps strip out the effect of new store openings on revenue to measure how much growth existing stores are seeing (or not seeing). Dutch Bros' revenue growth is high, but most of it comes from new locations.
Comps growth fell into a trickle and even declined in more than one quarter recently. Management said this was at least in part due to its fortressing strategy, which involves opening a blitz of new stores in one area to establish a presence. That is meant to drive higher overall revenue but lower comps in the near term.
On top of that, because the company is expanding at a fast rate, many of its stores are still new. The comps store base is small compared to the whole, so it doesn't tell a complete story about the company.
Putting these factors aside, investors want to see comps grow. Comps growth is a strong indicator that people like the product and are coming back for more. It also contributes to higher profitability since each store can spread its fixed costs over more sales.
Dutch Bros raised prices to combat the effect of inflation, and comps were up about 5% in the fourth quarter. That's still fairly modest, but it's moving in the right direction with three consecutive quarters of accelerating comps growth.
Image source: Dutch Bros.
2. It has incredible expansion opportunities
Dutch Bros operated 831 stores in 16 states as of the end of 2023, and management sees the opportunity to reach at least 4,000 stores over the next eight or so years.
Dutch Bros is popular in its current markets, and it's spreading across the U.S. to new regions and states. It exceeded its plans to add 150 stores in 2023 with 159 openings, and it plans to open up to 165 new stores in 2024.
This is a huge market opportunity that Dutch Bros is leveraging to grow its business quickly, and these new stores alone will generate higher revenue for the foreseeable future.
3. Profits have been improving
Though Dutch Bros' net loss increased from $2.8 million in Q4 2022 to $3.8 million in Q4 2023, the company reported a full-year profit of $10.0 million, reversing its $19.3 million loss the previous year.
Adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) increased 76% to $160.1 million in 2023 as the company's margin expanded over 400 basis points to 16.6%. Contribution margin also expanded from 24.6% to 28.2% last year. These improvements point to Dutch Bros's ability to generate higher profits as it grows.
The company hired a new president and CEO who took over as of Jan. 1. CEO Christine Barone is bringing in an experienced team to tame costs and help the company become more efficient as it scales.
Why are investors getting this wrong?
Dutch Bros is still young and growing, which is in itself risky. Its first franchise opened more than 30 years ago, but the company only recently decided to branch out across the U.S. It's working on bringing up its comps and becoming more profitable, but it's still in a high-growth stage, which is not without challenges.
It's also generating negative free cash flow due to heavy investments in new stores and an organizational shift to Phoenix, Arizona. That's tying up capital, and it's likely to continue as the company extends its expansion efforts.
But if you have a long time horizon, now is a great time to buy Dutch Bros on the dip and benefit from close to its lowest valuation since going public.
