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1 Secret Ingredient to Shake Shack's Success in 2016

By Rick Munarriz - Jan 18, 2016 at 9:15AM

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The fast-growing burger chain knows that it's in a strong position to negotiate future openings.

Image source: Shake Shack.

When it comes to the IPO class of 2015, Shake Shack (SHAK -5.90%) may have been the one that flew out of the gate in a fury --- only to fizzle out once the race began. The fast-growing "better burger" chain went public at $21 in January, more than quadrupled by its springtime peak, and has since gone on to shed more than two-thirds of its May highs. 

The past few months haven't been kind to the once-euphoric Shake Shack investors. The stock hit a new low of $30 on Thursday. Yes, that's a fresh all-time low. The IPO may have been priced at $21, but the stock's first trade crossed the wires at $47 and it was mostly uphill for the first several weeks after that. 

Shake Shack's stock price has been crumbling lately, but it's not as if the fundamentals have been following suit. Shake Shack has generally exceeded market expectations in its rookie season.

  • It has topped Wall Street's profit targets with ease in its first four quarters as a public company.
  • It turned profitable quicker than analysts were forecasting.
  • Shake Shack's comps clocked in at a jaw-dropping 17.1% in its latest quarter. 
  • It opened more restaurants through 2015 than it was initially targeting. 

These are all the hallmarks of a market-thumping investment, but the stock hasn't played along. The likely culprit was Shake Shack's valuation. At its highs, Shake Shack's sky-high price-to-sales and price-to-earnings multiples scared off investors. Those multiples remain at the high-end of its industry range, but there aren't too many publicly traded eateries with this kind of clear path to expansion upside. 

There were just 41 company-owned locations at the end of September, and it expects to open at least 14 more in 2016. That's a big percentage increase, and even after this year there should be several more years of heady double-digit percentage unit growth for Shake Shack. 

Shake Shake had a presentation at the ICR investor conference last week. It detailed many of the upcoming locations. It's entering several new markets in 2016. However, the most important takeaway from the presentation came when CEO Randy Garutti discussed negotiations with potential landlords.  

"If you're a developer and you've got a mall that's being redone or you've got a site, you probably want a really good burger -- and you're probably talking to us," Garutti said. "We are in every one of those conversations right now."

Armed with the highest average unit volume in the burger industry -- and critical raves for its burgers, fries, and frozen custard treats -- it's easy to see why Shake Shack is the one that has the upper hand when it comes to negotiating the best terms for future locations. It's a case of the rich getting richer. If dozens of developers want a Shake Shack and it's only comfortable opening up 14 or so, you can be sure that it's going to go with the landlords that are willing to make the most concessions. 

As long as the Shake Shack brand is golden -- and positive comps at a time when the former fast-casual darling is reeling bear that out -- the future for Shake Shake is bright. Now investors are hoping that the stock finally starts moving in step with the improving fundamentals.

Rick Munarriz has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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