The positive press Shake Shack's IPO generated has pushed sales higher, but management sees it difficult to keep the buzz going. Image source: Mike Mozart.
It certainly looks like Shake Shack had another decent quarter, reporting a 70% jump in revenues with comparable sales 17% higher.
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As one of the flashier IPOs to hit the market this year that's caused rivals like McDonald's to upgrade its menu to better compete, investors might be trying to figure out why it's stock has failed to live up to the hype.
After doubling its offering price of $21 a share on its first day of trading back in January, then soaring to a high of $97 a stub a few months later, Shake Shack's stock has since lost half its value. Even after the latest earnings report pointed to a blowout quarter, the "better" burger shop is having trouble shaking the notion it's already fully valued -- and there's good reason for concern.
Where's the beef?Total revenue increased 67% in the quarter to $53.3 million as new store openings poured more money into the company's coffers, helping profits hit $0.12 per share, both easily outpacing analyst estimates of $47 million and $0.07, respectively. Shake Shack opened four new stores in the quarter bringing to 12 the number it has opened this year and giving it a total of 75 restaurants in operation. Their performance helped Shake Shack boost its full-year guidance to as much as $190 million this year, well above its previous guidance of $174 million and outpacing Wall Street's forecast of $180 million.
But looking a little deeper into Shake Shack's numbers shows why the market may not be so enthusiastic for the burger chain.
Not all things are equalComparable-store sales are an important retail metric because they show growth that's been stripped of store expansion, giving a more organic look at how well a business is doing. So Shake Shack's 17% increase suggests it's getting a lot of impressive repeat business and is doing well, but there's more to it than that.
Higher priced specials, like the Roadside Shack Burger and frozen custard, helped Shake Shack post higher comps, numbers that even management says likely won't be repeated. Image source: Shake Shack.
That's because comps also take into account pricing. A business that's raising prices faster than it's losing customers could post higher same-store sales, but it's still a business in decline. While traffic isn't falling at Shake Shack, it has benefited from price increases on its burgers ,and that's why its numbers seem to blow away analyst expectations of just a 10% increase in same-Shack sales.
Price hikes actually accounted for 9% of the total increase in comps: It raised prices 3% in September of last year and then 3% again in January. Only 8% of the reported gains actually came from increased traffic.
That's not bad considering McDonald's was cheering a 0.7% rise in comps this quarter, but it's less impressive than what the headline numbers say. Management also admits it's a performance that won't be repeated in the fourth quarter and it forecasts only low single-digit growth next year.
Pricing pressure will growThat's actually the kind of outlook more in line with what's being seen elsewhere in the industry.The Habit Restaurants reported last week its quarterly comps rose about 3% in the third quarter,and unlike Shake Shack, it has been reluctant to increase prices, even in the face of rising costs.In the past seven years, The Habit has only raised prices four times, thoughminimum-wage hikes in states like California may force its hand going forward.
In that regard, McDonald's is actually a little ahead of the curve, having increased the pay of employees at its company-owned stores to $9 an hour earlier this year. Although that still means the vast majority of employees didn't get a raise (most of them work at franchisee-owned stores), it indicated the fast-food chain saw the writing on the wall. (Shake Shack did raise the starting wage at its four Washington, D.C., restaurants to $12 an hourin July).
While Shake Shacklooks like it's seeing fairly positive results across the board, it was also going up against some pretty weak comparisons. Same-Shack sales have slowed appreciably over time for the chain, rising 7.1% in 2012 but slowing to 5.9% in 2013, and then to 4.1% last year.In last year's third quarter, they were up only 1.2%, so beating those numbers was hard. Now it's looking for them to spike to around 11% to 12% this year before plunging to just 2.5% to 3% in 2016.
A flash in the pan?Shake Shack's results this year are likely an anomaly, driven by its IPO that generated a lot of buzz. Even management admits it was responsible for most of the company's gains, but next year the results will be harder to repeat as it laps these inflated numbers. That means the "better" burger joint, which is at best fairly valued at the moment, will be seen as overvalued then, leading to a devaluation of its stock. That's why you won't find me buying Shake Shack shares anytime soon.
The article The 1 Reason I Still Won't Invest in Shake Shack Inc originally appeared on Fool.com.
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