After a disappointing three months following its initial public offering in June 2023, Cava (CAVA 0.21%) is starting to whet investors’ appetite. Shares of the Mediterranean-focused restaurant chain are up 51% year to date (as of March 19). That gain exceeds the return of the S&P 500 by a wide margin.
While it wins over skeptics, some of the most bullish investors are hoping that there are even better days ahead. Can this hot new restaurant stock make you a millionaire one day? I believe it’s best to view this business with both a short- and long-term perspective before coming to a conclusion about that question.
Looking at recent trends
Cava offers healthy food choices, like build-your-own pitas and bowls, in a fast-casual setting that is really catching on with consumers. There’s no denying that the company is gaining momentum. It opened 72 net new locations in 2023, bringing the total to 309. This helped drive year-over-year sales growth of 59.8%.
And after reporting a net loss of $59 million in 2022, the company finally achieved full-year profitability, generating $13 million in net income last year. Operating expenses only rose by 16% during the course of 2023, a slower rate of growth than revenue, which explains the improved bottom-line performance.
The long-term picture
Because Cava is posting solid financial results, investors like to compare the company to Chipotle Mexican Grill. The Tex-Mex chain is opening new stores at a rapid pace while growing sales and expanding margins. And its leadership team still sees huge potential over the long term.
Getting to Chipotle’s level of dominance is the ultimate goal for Cava. Indeed, Cava’s management has explicitly stated that it aims to have 1,000 locations open by 2032. That translates into a more than threefold expansion of the store count over the next eight years.
However, I believe there is a lot of uncertainty when it comes to achieving that long-term store target. The restaurant industry is probably the most competitive there is, with almost no barriers to entry and constantly changing consumer preferences. According to the National Restaurant Association, 30% of new restaurants fail within their first year.
Cava also isn’t at a scale yet that gives it valuable competitive advantages, at least when compared to other large restaurant operators in the U.S. Consequently, the company will have to compete with deep-pocketed rivals when it comes to hiring employees, buying food products, and finding favorable real estate, all of which are subject to ongoing inflationary pressures.
Sizing up built-in expectations
Shares are up big in 2024, hitting all-time highs. It looks like the optimism surrounding Cava’s prospects is fully priced in. The stock trades at a nosebleed price-to-earnings (P/E) ratio of 681. The more proven, but still growth-focused Chipotle sells for a still expensive but less steep P/E multiple of 63.
But what are investors getting at that valuation? Cava’s management estimates 50 new store openings (at the midpoint) in 2024, a slower rate than last year. And executives forecast that same-store sales will rise between 3% and 5% this year. Again, that’s a marked slowdown from 2023. This doesn’t justify paying such a steep P/E ratio.
If everything goes right and Cava achieves its long-term objectives, then maybe the stock could make investors millionaires. Of course, the initial capital outlay and the time horizon are key factors that will play a role, as well as the change in the stock’s valuation multiple, which is undoubtedly going to come down over time.
However, based on the facts as I see them today, I don’t believe Cava shares are a smart buy right now.
Neil Patel has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Chipotle Mexican Grill. The Motley Fool recommends Cava Group. The Motley Fool has a disclosure policy.
