The occasional disconnect between a company's share price and its thriving operations has often proved a great starting point for finding explosive returns.
Two current cases in point: speed-focused coffee chain Dutch Bros (BROS -1.04%), whose shares are down 61%, and eco-friendly furniture seller Lovesac (LOVE -0.05%), which has seen it stock slump 77%. Both may look more like broken businesses than stocks with explosive potential.
However, despite these gut-wrenching declines, each company's long-term prospects remain as bright as ever. Here's why.
IMAGE SOURCE: GETTY IMAGES.
Dutch Bros aims to nearly quintuple its shop count
Reimagining the coffee shop experience, Dutch Bros emphasizes quality, speed, and service -- particularly speed. Generating 90% of its sales from its drive-throughs, the company uses "escape lanes" to let customers get out of line before reaching the window if their drinks are ready early. Thanks partly to this high-speed experience, the company has built a devoted customer base, which helped it grow from 370 coffee shops in 2019 to 831 in 2023.
Despite this incredible growth, Dutch Bros' expansion plans may just be getting started. Management has announced its intentions to grow its shop count to 4,000 locations over the next 10 to 15 years. As extreme as these ambitions may sound, there is reason to believe the company may pull off this incredible feat.
First, of its existing locations, more than half reside in just three states: California, Texas, and Oregon, its home state. This alone highlights that Dutch Bros has barely begun scratching the surface of expanding into the other 13 states where it operates. Moreover, with no presence in the remaining 32 contiguous states, the company has ample opportunity for future growth. Proving capable of high-speed growth already, Dutch Bros reported a revenue increase of 139% since the company's initial public offering in 2021 -- all while reaching profitability in 2023.
Best yet for investors? Dutch Bros is very popular with younger demographics -- potentially making the company's long-term prospects even brighter. During the company's fourth-quarter earnings call, Chief Executive Officer Christine Barrone stated, "Dutch Bros was also the highest-scoring consumer brand among Gen Z and the only coffee brand in the top 10." This recognition among Gen Z should help the company successfully launch into new communities eager for their first Dutch Bros shop while maintaining existing customers.
Generating $140 million in cash from operations over the last year from $966 million in revenue, the company can now fund most of its capital expenditures for growth in-house, hopefully leading to less shareholder dilution in the future. Down 61% from its all-time high, Dutch Bros' price-to-sales (P/S) ratio of 1.9 remains near its lowest levels ever, even below Starbucks' mark of 2.9.
This reduced valuation, paired with the company's massive remaining growth runway, popularity among Gen Z, and burgeoning cash generation, makes Dutch Bros one of my favorite potentially explosive stocks to buy in March.
Lovesac's new customer totals keep growing larger each year
Using over 150 million plastic water bottles in its modular sectionals since 2019, Lovesac's "sactionals" are endlessly rearrangeable and a net positive to the world. Thanks to these unique attributes, Lovesac holds 74 patents, which have helped it gradually expand its market share in the affordable luxury furniture niche.
This mid-luxury pricing, paired with Lovesac's asset-light omnichannel strategy, allows the company to maintain superior gross profit margin on its furniture -- even compared with its more established peer, La-Z-Boy.
LOVE Gross Profit Margin data by YCharts
Selling in 230 showrooms, 147 pop-up-shops at Costco, and 41 shop-in-shops at Best Buy, Lovesac's business model emphasizes in-person experiences but also offers next-day shipping -- even with online purchases.
These small-footprint locations have been a hit with prospective customers over the last decade as the company has grown its new customer totals annually since 2015.
IMAGE SOURCE: LOVE JANUARY 2024 INVESTOR PRESENTATION
Generating a lifetime value (LTV) of $3,300 from each new customer in 2023 compared with a customer acquisition cost (CAC) of $630, Lovesac's LTV/CAC ratio is above 5. Traditionally, a score around 3 is considered the sweet spot, meaning that the company's customers generate so much value that spending more on marketing in the upcoming years would be wise.
An incoming boost in ad spending could considerably boost Lovesac's growth ambitions, as its unaided brand awareness currently sits below 2% nationally. Despite this lack of brand recognition because of the company's small size, it has converted this 2% awareness into a 1.2% share of the couches, seating, and chairs industry. Should Lovesac maintain this stellar conversion rate as its brand awareness grows, its 31% sales growth from 2023 could prove to be more enduring than the market thinks.
Because of the lumpiness of the company's profitability and cash generation, which were positive in 2023, it may be best to study Lovesac's valuation through its meager P/S ratio of 0.5. To give this figure context, consider that La-Z-Boy's P/S ratio is 0.8 despite analysts' expecting the company's sales to decline by 4% in 2024 -- whereas they expect 15% growth from Lovesac.
Should the company mature to reach a net profit margin similar to La-Z-Boy's 6% -- which should be achievable considering Lovesac's 11-percentage-point superior gross profit margin -- it would be trading at a mere 8 times earnings today. This deeply discounted valuation combines perfectly with Lovesac's burgeoning customer base to create an investment with truly explosive potential when looking a decade ahead.
