If you thought the days of high-flying restaurant IPO's were over, you were wrong. Yesterday, Habit Restaurants (NASDAQ:HABT) soared nearly 120% in its first trading day. The company is the first of the "better burger" chains to go public, a group that includes In-N-Out Burger, Five Guys, Shake Shack and others, and is seen as a major cause for the recent struggles of McDonald's and other traditional fast food players.
The IPO also comes on the heels of other fast casual players that have rocketed higher in their own debut such as Noodles & Company, Potbelly, and El Pollo Loco, all three of which have fallen from their initial highs. To find out if The Habit has the right stuff to buck this trend, let's take a closer look at the burger flipper.
What is The Habit all about?
Like many other fast casual chains, The Habit prides itself on high-quality food served at an affordable price. Its restaurants have many of the same touches as other fast casual purveyors such as an open kitchen and modern decor, and though best known for its burgers, The Habit also offers several other items, including a sushi-grade tuna sandwich, a grilled chicken sandwich, and salads. This summer, the chain was named "America's best-tasting burger" by Consumer Reports, and with prices starting at just $3.50 for an original Charburger with cheese, many of its items are cheaper than comparable fast casual chains. In the year up to September 30, 2014, average customer spend was just $7.56, below the $8 to $12 considered normal for the industry.
Founded in Santa Barbara, California in 1969, The Habit entered its current growth phase under the guidance of CEO Russell Bendel who joined the company in 2008. Over the last five years, its number of locations has surged from 26 to 99 restaurants, now in four states, with revenue increasing at a compound annual growth rate of 44%. Its restaurants have also seen 43 consecutive quarters of same-store sales growth, and average unit volumes have grown from $1.2 million to $1.7 million in the last five years.
What about the long-term plan?
With its #1 rating from Consumer Reports and strong reviews on Yelp -- nearly all of its restaurants receive four stars or more -- it's hard to doubt the quality of The Habit's food. But with just $5.7 million in net income last year, the burger chain is still in its infancy, and will need a solid growth plan to deliver returns for investors.
After its surge yesterday, the stock now has a market cap near $1 billion, giving it a P/E ratio close to 200 based on last year's earnings. However, its financials are improving quickly, as net income in the first nine months this year was $6.9 million, putting it on track for a full-year profit over $9 million. Revenue has also jumped 50% thus far this year as comparable sales skyrocketed 17% in the third quarter, perhaps benefiting from anticipation about the IPO.
Next year, the company plans to open 26 to 28 restaurants, expanding its store base by about 25%. Over the long run, management sees the potential for more than 2,000 restaurants, and will begin franchising next year, though the mix between franchised and company-owned restaurants is unclear. While franchised restaurants contribute more income up front, company-owned restaurants tend to be more profitable over the long run.
The Habit also recently entered the east coast, opening its first restaurant in New Jersey in August. Its success in the new region, where it plans to expand in the coming years, will determine the future prospects of the company to a considerable degree so pay attention to the response there.
So is this a habit or just a fad?
While its triple-digit P/E ratio could scare off some investors, The Habit's bottom line growth and expansion prospects justify the high multiple. The fast casual chain is on pace to increase its net income 60% this year, and the company could easily grow profits by another 40% or more next year if comparable sales continue to be solid.
As for its aspirations to open 2,000 locations, Five Guys, with the help of franchising went from double digits to over 1,000 restaurants in less than a decade, so the potential certainly exists for The Habit to do the same.
With its food winning rave reviews and a strong growth opportunity ahead of it, The Habit seems to have the right recipe to fill up investors' bellies and bank accounts. The price may look high, but with a market cap of just $1 billion, the stock is still small enough to turn into a multibagger over coming years. Don't be surprised if both customers and investors come back for seconds.