Investors have been going wild over Cava Group (CAVA -2.41%) stock since it debuted on the market in 2023. I mean that almost literally — it’s up 174% over the past year, and its valuation is through the roof.
Although Cava has a lot going for it, some investors may be waiting on the sidelines for a better entry point. Is it finally here? Cava stock is down 25% over the past month. Let’s see why that’s happening, and whether or not this is the attractive entry point you’ve been waiting to see.
Why the market is going for Cava
Cava is being touted as the next Chipotle Mexican Grill. Investors who missed out on Chipotle’s massive gains are trying their luck with Cava instead. It has a very similar concept: fresh, healthy, premium ingredients that can be customized into all sorts of salads, bowls, and entrees. Cava serves Mediterranean food in a fast-casual setting, and its model of having all the ingredients prepared and ready for customization, instead of being cooked fresh for each customer’s order, lends itself to quick meal prep. That in turn leads to satisfied customers, higher sales, and expanding margins.
Indeed, that’s how it’s been playing out. Sales increased 39% year over year in the third quarter, and net income increased from $6.8 million to $18 million. It’s also benefiting from high comparable sales (comps), which were up 18.1% over last year in the quarter. That’s a great sign of customer loyalty, and it implies that Cava can replicate its success with new restaurants over many years.
Cava has only 352 restaurants right now, but each one is bringing in a lot of sales, and average unit volume increased from $2.7 million in the second quarter to $2.8 million in the third quarter. As comps increase, each store’s fixed costs cover more sales and push the restaurant-level operating margin higher. Restaurant-level operating profit was up 42% in the quarter, and restaurant-level operating margin was 25.6%, up from 25.1% last year.
Cava is growing at a fairly slow but steady rate, with 43 stores opened in the first nine months of 2024. Since each of its stores generates strong sales, it can amply increase its total revenue at this rate of store openings, and it has a long runway of future growth ahead.
The valuation isn’t holding
Those are the good points. Now, get ready for the flip side.
Cava is young and faces a good amount of competition. Not only is it up against Chipotle, but there have been many chains entering this space, including Sweetgreen, and Brassica, a small chain Chipotle is investing in that competes directly with Cava in Mediterranean fast-casual food. 352 is a small restaurant count, and there could be many challenges in growing that number into a real restaurant chain contender.
It’s already a very expensive stock, with a price-to-earnings (P/E) ratio of 245. That means a lot of the future growth could already be built into the price.
CAVA PE Ratio data by YCharts. PS = price-to-sales.
However, note that the forward price/earnings-to-growth (PEG) ratio is 0.8. A PEG ratio of under 1 could suggest that the price is still cheap relative to its future earnings growth, which is why the market still sees potential for Cava stock to keep climbing.
Wall Street is mixed on this stock. Only 44% of analysts are calling this a buy, though, which doesn’t speak of great confidence. The median price target is $150, which is 33% higher than it is today, although that might be skewed by one analyst’s $195 price target.
The drop in price seems to have started after a spate of insider selling,which could indicate that management itself sees this as a high. But it’s not that simple, since Sweetgreen and Chipotle stocks have been falling over the same time. Restaurant stocks often move together, like any industry. However, it makes sense that Cava’s price is starting to fall. It’s hard for any stock, even a young growth stock, to carry this kind of premium.
So where does this leave investors? Cava’s doing a good job at scaling profitably, and the market may not let it get too low before investors spot an opportunity and send it back up. It’s too expensive for my taste to buy it even at this price, but risk-tolerant investors with a long-term horizon could make a reasonable case for buying it on the dip.
Jennifer Saibil 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 and Sweetgreen and recommends the following options: short December 2024 $54 puts on Chipotle Mexican Grill. The Motley Fool has a disclosure policy.
