FIRST WATCH (FWRG) COMES PUBLIC, TOWARD THE BOTTOM OF ITS FILING RANGE, TRADES UP OVER 20%, WHAT TO DO?

First Watch sold 9.5M shares today, at $18/share, raising $170M, and valuing the Company at about $1 billion.

There are currently 423 locations, 335 Company owned (which is the growing segment) and 88 franchised. The restaurants are open for business from 7am to 2:30pm. The current 335 company owned stores are heaviest in FL (98), TX (40), OH (35), AZ (25), CO (18), VA (16, PA (15), MO (15), GA (14), TN (12), and KS (10). Most recently, 42 locations were opened in calendar 20 and 18 in the first six months of ’21. In the six years pre-Covid, ending in calendar ’19, SSS averaged 6.3% annually, traffic averaged 1.4%, AUV’s moved from $1.3M to $1.6M, and company operated restaurants averaged C/C returns of 50.8%. Same store sales increased for 28 consecutive quarters. In the most recent six months, ending June ’21, versus Q2’19, same store sales was up 16.3% with traffic growth of 1.0%.

As shown above, franchised stores have not grown. It appears that 34 franchised stores were bought by company in 2019, and 17 company stores were built in’19 as well. Growth via company locations has been steady since 2015 when there were 277 locations systemwide.

UNIT LEVEL ECONOMICS

Restaurants are 3,400-4,000 square feet, seating 120-140 indoors, some with patio seating as well as bar/counter space and to-go areas.  New and planned restaurants are 4,000-5,000 square feet. Average net build out costs are $900k. Projected sales are $1.8M in year 1, $1.9M in year 2, $2.0M in year 3. Third year restaurant level profit margin (EBITDA) is projected at 19%, generating an approximate 40% Cash on Cash return.

RESULTS FROM CALENDAR 2019 THROUGH SIX MONTHS OF ‘21

More important to understanding the state of the business today versus 2019: In the first six months of 2021 vs calendar 2019: CGS ran 170 bp better at 21.8%. Labor ran 360 bp better at 31.0%. Other Operating Expenses ran 310 bp WORSE at 16.9%. Occupancy was 80 bp better at 10.0%. Store level EBITDA, in the first six months of 2021, has been 20.2% vs 17.4% in calendar 2019. Below the store expense line, G&A ran 9.7% of sales in the first six months of ’21 vs 12.8% in calendar ’19. After deducting Depreciation of 5.6% (vs. 6.4% in ’19) and adding in franchise royalties (only 1.4% of total revenues) Income from Operations in the first six months has been a profit of $16.1M (5.7% of sales) vs. a (loss) in calendar ’19 of $37.6M (8.6% of sales).

CURRENT EBITDA RUN RATE

Adjusted EBITDA is the name of the game these days, so we will play along, though it’s never as simple as it sounds. Adjusted EBITDA in the first six months of ’21 has been $35.2M vs a loss of $11.8M in ’20 and a positive $38.1M in calendar 2019 (negative $5.7M in calendar ’20). The table shows, though, that there were material non-recurring additions in calendar ’19. We therefore consider “EBITDA” before the Adjustments to be the most relevant comparison, which is $32.2M vs a loss of $9.8M. Bottom line: the first six months of ’21 has generated $32M or so of cash flow from operations, annualizing to a current run rate of about $70M, which the Company plans to build on. This material improvement from calendar 2019 is a result of materially higher sales per location, dramatically so in Q2’21, combined with 280 bp improvement in store level profit.

THE VALUATION and our CONCLUSION

With approximately 57.6M shares outstanding, FWRG, is currently trading at $22.54 (up from the $18.00 offering price), therefore valued at about $1.3 billion, just under 20x the apparent current EBITDA run rate. We will fill in more of the operating details in the near future, but for the moment we consider FWRG fairly valued. While trading up over 20% from its IPO price, it doesn’t have the excitement of Dutch Bros (BROS), for example. This may have something to do with the fact that BROS generates almost as much revenues per store, with higher margins, in a space half the size. Also, First Watch guides to a store level EBITDA of 40%, but not until year three. This is admirable but also not as compelling as BROS. Of course, the valuation of FWRG, as a multiple of the Adjusted EBITDA run rate, is about one third that of BROS. There is sometimes a method to the market’s madness😊

Stay tuned.

Roger Lipton