Since the company's IPO this past January, Shake Shack (SHAK +1.20%) shares have ballooned. To date, shares are trading at more than 50% above their debut prices. Compared to rivals like McDonald's (MCD 2.80%) and Burger King parent company Restaurant Brands International (QSR +0.72%), both of which are more or less flat in the same time period, Shake Shack owners are no doubt feeling quite content at the moment.
Despite the stock's performance, investors would be wise to question how Shack Shack plans to stay relevant and grow in a competitive industry, especially as traditional burger joints struggle to adjust to new trends. Even the fast-food titan McDonald's has struggled to revamp its menu and remodel stores as consumer preferences have changed.
So what makes Shack Shack so different from the rest? And is the company poised to storm the fast-food industry castle and continue its meteoric rise, or will it get lost in the ocean of hamburger joints, forever treading water only to eventually be drowned out?
Let's dig into the company's business model and growth prospects to find out.
What makes the "Shack" different?
The New York, New York-based Shake Shack is a modern take on the American burger stand. It serves up hamburgers, hot dogs, frozen custard, beer, wine, and as the name implies, shakes. As of April 1, 2015, the company owned and operated 34 Shacks in the U.S., as well as five licensed Shacks in the U.S. and another 27 licensed internationally in the Middle East, United Kingdom, Turkey, and Russia.
Source: Shake Shack
But what differentiates this burger joint is its trendy, affordable food and its a unique in-store experience. Shake Shack is focused on fresh all-natural food, specifically focusing on its antibiotic-free, grass-fed Angus beef burgers. The Shack also offers beer and wine, something you can't get at many competitors' restaurants. The company also attempts to make their Shacks a community gathering place, with energetic and modern "roadside" designs using reclaimed and recycled building materials. It's clear the company's take on classic American fare is high in demand these days, starting as just a single stand in Madison Square Garden Park in 2004 and growing to 66 locations in just a little over ten years.
What is driving growth?
Besides serving in-demand, all-natural greasy American classics in a revamped setting, investors can expect a two-pronged approach toward the company's growth, starting with new Shack openings. In press release comments last April, CEO Randy Garutti reiterated plans to open 10 new domestic company-operated Shacks and five new international licensed shacks in 2015. If these plans are executed, this would represent a more than 20% new store opening rate for fiscal year 2015. Management also plans to expand into California and Japan during 2016 and continue to release details of their new location pipeline. But keep in mind that while the last ten years demonstrate strong initial sales and support of new Shack locations in new markets, it remains to be seen whether that initial public embrace can be maintained over the long-term both domestically and internationally . In a very crowded fast-food burger joint industry, it is possible that new location and market openings will slow down going forward.
In conjunction with new store openings, the company expects to charge ahead with revenue and same-store sales growth. Noteworthy in the financial statements for the first quarter of 2015 was year-over-year quarterly revenue growth of 56.3% to $37.8 million, compared to $24.2 million for the first quarter of 2014. Same-store sales increased 11.7% in the first quarter of 2015 from a year ago. The company projects total 2015 revenue to be between $161 and $165 million, with same-store sales growth in the low- to mid-single digits. Again, while these growth numbers are impressive, it remains to be seen whether this revenue momentum can be maintained. Despite the Shack's unique take on American fare, I believe that growth will begin to taper going forward, as the fast-food industry is well-established, crowded with competition, and demand is highly price sensitive.
Do company financials support this plan?
After its recent debut as a publicly traded company, Shake Shack has nearly $61 million in cash and equivalents, $151 million in total assets, and about $42 million in total liabilities. With a strategy to aggressively grow new locations, it is important that the company has the financial wherewithal to execute that plan.
Let's take a look at a couple of financial ratios that measure a company's ability to expand operations. The current ratio is a measure of current assets divided by current liabilities. A higher number means a company has a greater number of assets at its disposal compared to liabilities. The long-term debt to equity ratio is a measure of a company's debt to the amount of money investors have given the company. A lower number signifies a low amount of debt and leverage when compared to investor capital. Here is a breakdown of these ratios for Shake Shack compared to their competitors:
|
Shake Shack |
Industry Average | |
|---|---|---|
|
Current Ratio |
4.84 |
1.26 |
|
Long-Term Debt to Equity Ratio |
0.28 |
49.69 |
Source: Reuters
Both figures suggest Shake Shack's balance sheet is healthy, especially when compared to the industry averages for ratios. Shake Shack's current ratio of 4.84 and long-term debt to equity ratio of 0.28 mean that current assets far outweigh liabilities, and long-term debt is quite low. When considering an aggressively growing business, having this sort of head room bodes well for its ability to continue to open new locations and expand into new markets in the near term.
Foolish final thoughts
The restaurant industry is highly competitive and subject to changing consumer trends, which often results in disaster for companies hoping for high growth. Despite these difficulties, Shake Shack appears well positioned for continued growth in the short- to mid-term given its trendy offerings and assets to expand. It continues to open successful new locations that demonstrate the ability to turn an operating profit, and consumers are trending more and more toward "all-natural" food offerings.
However, it would be premature to call the company an outright success. It remains to be seen whether the high rate of new location openings can be maintained, and whether consumers will continue supporting Shake Shack over a multitude of other fast-food competitors. Without any real innovation, however, I am skeptical of longer-term growth prospects, as intense competition could likely force the company to switch to a strategy of increasing marginal output through same-store sales and cost cutting. Such is the case for a new company operating in an industry with low barriers to entry into the marketplace, but a high level of competition and little product differentiation. Hamburgers are, after all, a commodity that can be purchased at nearly any restaurant in America.
