To say that shares of Cava (CAVA +0.63%) have been satisfying investors' hunger would be an understatement. The Mediterranean-inspired fast-casual concept restaurant has surged 105% this year alone (as of Aug. 8), outpacing the broader S&P 500 by a wide margin.
And since its initial public offering in June last year, this rising restaurant stock is a big winner. But is this business a good long-term option? Where will Cava shares be five years from now?
It's all about Cava's expansion
Investors are probably drawn to Cava because of its solid top-line performance. During the fiscal 2024 first quarter (ended April 21), the company reported revenue of $256.3 million, a huge 30.3% gain compared to the same period last fiscal year.
Perhaps the stock's monumental run-up in 2024 is also due to Cava's long-term potential. The company opened 72 net new restaurants last year, and plans to open 52 more in fiscal 2024. But the expansion story is far from over, according to executives.
The top goal is to have 1,000 Cava restaurants open by 2032. This means management is aiming to triple the store footprint over the next eight years. Revenue is sure to be much higher at this scale.
Even though Cava is investing aggressively to expand, it was still able to post an operating income of $9.3 million last quarter, which was a reversal from the $2.3 million loss from the year-ago period. The hope is that greater scale, particularly from having a higher sales base, will lead to operating leverage. More impressive is the fact that the business carries zero debt on the balance sheet.
NYSE: CAVA
Key Data Points
Getting in the way
Based on Cava's exciting store-opening target, it makes sense that growth-minded investors would be rushing to pile into the stock. But a favorable outcome is far from a sure thing. In fact, I'm not sure it will happen in the time frame the leadership team is hoping for, or at all.
The restaurant sector is arguably the most competitive industry in the world. Consumers have an unlimited number of choices at any given moment, so companies must always deliver a solid product. Any mishaps can lead to lost customers forever.
Typically, restaurant chains can build an economic moat from brand and/or scale advantages. Consumers can become loyal fans with a consistent offering that always satisfies them. And after a chain reaches a certain size, it can negotiate better terms from suppliers or other vendors, leading to strong profitability. With its tiny store base, I'm positive Cava is far from this level of success.
A premium restaurant concept like Cava might also be more sensitive to macroeconomic factors. In today's inflationary environment, we're seeing some cracks in the business model. Same-store sales were up by just 2.3% in Q1. For comparison, Chipotle, the gold standard in the industry, posted 11.1% comparable sales growth.
If inflation stays higher over the next few years, compared to what's been the case for most of the past decade, it will be that much more difficult for Cava to grow its revenue per store. Consumers vote with their dollars, and they are saying that Cava might not be providing as much value as they desire.
And after Cava's massive stock gain this year, shares don't look like a compelling buy. The current price-to-sales ratio of 10.2 is in nosebleed territory, revealing the extreme optimism the market has placed on this company.
Based on these factors, I believe investors are overhyping this fast-casual chain. Five years from now, I'm not so sure that Cava will even outperform the S&P 500.
