Analysis

Cava Group Just Hit a New High: Should You Buy the Stock Today?

The fast-casual Mediterranean food chain has an eye on becoming the next Chipotle.

Cava Group (CAVA 2.73%) is finishing up a terrific first year on the stock market. The fast-casual restaurant chain, which serves Mediterranean fare, has soared in value by more than 100% since it went public in June 2023, and recently set a new all-time high after reporting first-quarter earnings. It is adding locations at a rapid pace and just achieved profitability.

Many investors think Cava could be the next Chipotle Mexican Grill. Should you buy the stock now?

Mediterranean fast-casual at scale

Cava runs its restaurants on a simple model similar to Chipotle’s, with custom-made sandwiches, salads, and bowls, but with Mediterranean food instead of Mexican. This means pitas instead of tortillas, feta cheese instead of queso, and hummus instead of guacamole. Because there are no other large-scale chains offering that particular cuisine, Cava has found a nice niche within the restaurant space.

It currently has 323 locations and is growing its brand. Traffic across stores that have remained open has grown by 17% cumulatively over the last two years. That rising traffic, combined with price increases, has allowed Cava to deliver solid same-store sales growth. Last quarter, it posted 2.3% comparable sales growth, but it achieved 28% in the prior-year quarter, adding up to strong two-year growth.

Overall, this concept is resonating with consumers looking for quick and healthy Mediterranean food. Now, management plans to scale it around the country.

Growing quickly and already generating profits

This year, Cava expects to open 50 to 54 new locations. That’s a rapid growth rate for a restaurant chain, and should lead to durable revenue growth for the next five to 10 years. Given that some other fast-casual chains have thousands of U.S. stores, it’s easy to conclude that Cava has plenty of room to expand from its current count. Plus, with inflation and traffic growth, the company can still achieve more growth by increasing its revenues from its existing restaurant locations.

Though it has been spending heavily on its growth efforts, Cava Group is already profitable. Last quarter, it posted $9.2 million in operating income for a margin of 3.5%. Its margins should increase as the business matures, too. It has a cash balance of $329 million, and more important, is cash-flow positive, which will make it easier for the company to self-fund its future growth efforts. It is hard to find any flaws with Cava’s operations. It seems to be firing on all cylinders at the moment.

But does that make the stock a buy?

CAVA PS Ratio data by YCharts.

What is the stock worth today?

The market has baked some high expectations for growth into Cava’s share price. The company has a market cap of $10 billion, which is more than 10 times its trailing revenues. For a restaurant chain with a low gross margin, that price-to-sales ratio is expensive compared to most other players in the space.

Examining a few hypotheticals helps reveal what this means. In 10 years, it is reasonable to expect that Cava will have more than tripled its U.S. location count to 1,000. An average Cava restaurant does $2.6 million in annual revenue, and I think the company could grow that figure to $3.5 million in 10 years — especially if you factor in inflation. Under those assumptions, it would have $3.5 billion in revenue 10 years from now. Assuming a 15% profit margin (not unreasonable for a restaurant concept), that equates to $525 million in earnings.

If its market cap in a decade is the same $10 billion it is today, Cava stock would at that point be trading at a price-to-earnings ratio of 19. That’s barely under the current average P/E ratio for the S&P 500, which indicates that most of the growth to 1,000 locations is already priced into the stock.

As such, even though Cava is a great business, it looks like an overvalued stock at the moment.

Brett Schafer 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.

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