CAVA will start trading soon, apparently the day after tomorrow, and Jim Cramer predicts that it will double at the opening. The investment community’s admiration of CAVA Chairman, Ron Shaich, is a good start toward a warm reception, and CAVA’s business model is promising as well. Shaich’s reputation is about as good as it gets, since he co-founded (with the late Louie Kane) Au Bon Pain, which purchased St. Louis Bread (with 20 stores) in the mid 1990’s, renamed it Panera and spearheaded the growth to over 2,000 stores today. Panera became by far the biggest winner in the restaurant space over the two decades of public ownership, helping to justify the apparent CAVA IPO valuation of just over $2B, which represents an Enterprise Value of about 30x the annualized Q1’23 “run rate” of Adjusted EBITDA.
New restaurant IPOs should be considered within this context: From mid to late ’21, five IPOs were done, all well received by the marketplace, though some observers (including ourselves) thought they were fully priced. From Krispy Kreme’s IPO in July ’21, to Dutch Bros in September ‘21, to Portillo’s and First Watch in October ‘21 to Sweetgreen in Nov ’21, all increased substantially from their IPO prices. Dutch Bros & Portillo’s & Sweetgreen each surged more than 100% at first but reality has intruded and 18-20 months later the five are now down an average of 11% from their IPO prices. Only Dutch Bros is up, by 22%, though down 60% from it’s high. Portillo’s and First Watch are almost exactly the same as they started, though down 60% and 18% from their highs. Sweetgreen takes the prize for volatility, down 80% from its high and 64% from the IPO. Our analyses, at the time of the IPOs, are available on this website, using the SEARCH function on our Home Page, and have stood the test of time pretty well.
AN ACCOUNTING “HEADS UP”
Adjusted EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization, Adjusted for non- continuing or one-time expenses) has become a popular reporting approach. GAAP Accounting is apparently “old school”.
Perhaps we have lost our youthful naivete’, but we suggest that – all kinds of recurring operating expenses that can “dress up” store level operations can easily be allocated toward “G&A” or “Pre-Opening Expenses”. Management knows well that the better the “store level economics” look, the easier it is to raise capital. Investors can’t judge the precision of G&A accounting or Pre-Opening Expenses the way they dissect store operations line by line, and modestly higher G&A or “Pre-Op” can materially help the store level appearance. In essence, show as attractive a store level return as possible, and explain away the long term “investment” in G&A or Pre-Op training.
OUR APPROACH
We continue to have an intense interest in store level economics, even as reported. However, we then deduct the G&A burden as a percent of Revenues, as well as Pre-Op, both of which will be continuing, and growing as a chain expands. The results and especially the comparisons between companies can be dramatic.
For example, Sweetgreen (SG), the biggest disappointment among the last crop of IPOs, has sales of $2.5-3.0M per location and talks about a 15% store level EBITDA margin, but G&A and Pre-Op have been an additional 42% of Revenues and that is why Sweetgreen is still showing negative Adjusted EBITDA.
Less dramatic is Dutch Bros (BROS) which suggest a 40% cash on cash store level return in year two, but G&A and Pre-0p is running almost 25% of Revenues. Dutch Bros, by the way, sells at almost 50x TTM Adjusted EBITDA.
More reasonably valued among the recent IPOs is First Watch (FWRG), which has been beating its targeted 35% cash on cash return in year three and their better controlled G&A and Pre-op combined has been running a little over 12%. FWRG is trading at about 14x TTM Adjusted EBITDA.
Chipotle, a huge winner the last five years. ran a store level EBITDA margin of 23.9%, on $2.7M average sales, in calendar ’22, while G&A, Pre-Op, and Impairment and Closure costs were a total of about 7%. This is why Chipotle has no debt, but last year was able to add over 200 stores/year (7.5%), while buying back almost $1B of stock.
WHAT ABOUT CAVA?
As indicated above, the stock is apparently going to rise materially from the IPO price of about $21/share, at which the Company is valued at about 30x the $68M run rate of Adjusted EBITDA reported in the first quarter of ’23. The appeal, not necessarily in this order revolves around (1) the stores seem busy and well run and the menu is in tune with more healthful eating trends (2) store level economics, as described, are attractive, with a stated 35% cash on cash return in year two (3) Chairman, Ron Shaich, who built Panera, is very well respected by the investment community.
There are lots of questions we could ask, and will likely do so in the future, as to the sustainability, timing, and economics of growth from thIs point forward. For the moment, we just reflect upon our suggestion above that G&A and Pre-Opening Expenses should be considered when evaluating the prospect for an emerging concept. The G&A/Pre-Op at CAVA, combined, was 17.2% in Q1’23 vs. 15.7% in Q1’22. For calendar ’22 it was 15.7% vs. 14.6% in calendar ’21.
In terms of comparable valuations, we’ve already referenced Chipotle (CMG), with far better economics, selling at about 35x TTM EBITDA. Among the ’21 IPOs described above, we consider First Watch (FWRG), growing a little slower than CAVA’s contemplated rate, with comparable store level economics and better controlled G&A/Pre-Op, to be about the best fundamental “comp”. FWRG is selling at about 14x TTM Adjusted EBITDA.
We are not aware of earnings or EBITDA projections that have been made by the Company or their underwriters, so we use the Q1’23 “run rate” of $68M annualized Adjusted EBITDA. It is worth noting that Adjusted EBITDA in calendar ’22 was only $12.6M, down from $14.6M. The valuation at the IPO price, just above $2B will based on Q1’23, at about 30x. If the stock goes up 50-100% when it starts trading, the valuation will obviously be 45-60x.
You will not be surprised to learn that we will take our time to learn more about the sustaining economics of the CAVA growth plan. Even Panera provided its share of volatility over the years and provided alert investors with better timing opportunities than about to be presented by CAVA.
Roger Lipton
P.S. For comparisons sake, review our writeups on Fogo de Chao’, also in registration, growing units at 10-15% annually, with unit level cash on cash returns well over 40%, and G&A/Pre-Op of 7.4% combined. Valuation at IPO offering yet to be determined