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Shake Shack (NYSE: SHAK) reported first-quarter earnings after the closing bell Wednesday, and the market rewarded it, sending the stock up 4% before the report and 9% in after-hours trading.
Yet when one examines the Shake Shack earnings numbers, the impression is that the market has put a valuation on the company that is wholly ridiculous.
Shake Shack revenue was up 55% to $38 million. Total sales jumped 60% to $36.2 million. Same-store sales increased 12%, versus 4% last year. Operating profit at store level moved up a whopping 79% to $9.4 million. Adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) soared 94% to $6.9 million.
You’d think this was all great news, except the company reported a mere half million bucks in net profit.
Now comes the ridiculous valuation. The company is being valued by the market at about $2.69 billion. This valuation is based on its entire store base, which is only 66 Shake Shack locations.
Suppose Shake Shack increases its earnings 90% each year over the next four years. At a $500,000 profit for one quarter, that would mean about $2 million in earnings for all of 2015. So in 2019, the company would enjoy $32 million of profit, or $2.60 per share. At the after-hours price of $75, investors are paying almost 30 times earnings for the year 2019.
Now, let me give you a sense of how out of whack this valuation is.
Chipotle Mexican Grill (NYSE: CMG) is a true growth story, pushing earnings along at more than 20% per year via organic growth. Its 1,790 locations are valued at almost $20 billion, or just under $10.98 million per restaurant.
Now, let’s look at some classic burger chains. McDonald’s (NYSE: MCD) has 36,258 restaurants and is valued at $92.7 billion, or $2.57 million per location.
Burger King and Tim Horton’s, which are consolidated under the Restaurant Brands International (NYSE: QSR) name, has a value of $19.14 billion with 19,043 locations that clock in at almost exactly $1 million each.
The Wendy’s Company (NASDAQ: WEN), is valued by the market at $4.09 billion, meaning its 6,515 locations carry a value of $631,000 each.
Hold on to your hat, because a single Shake Shack restaurant is currently valued at $42 million.
What is going on and should you even get involved?
First of all, this is clearly a bubble in the IPO market. Second, I don’t like that Shake Shack went to the equity markets to raise money for restaurants that aren’t making any money. A $500,000 profit on 66 locations means each nets less than $8,000 per quarter or $32,000 per year. My cousins in the McDonald’s franchise business net eight times that amount.
Third, you are dealing with a low float stock with just under 6 million shares being traded. That makes the stock highly volatile when buying momentum kicks in.
All the short sellers are getting killed and have to cover their short position. About 40% of all Shake Shack shares are being shorted, and that’s just not tenable. This momentum is going to carry the stock even higher.
So my advice is that if you don’t hold the stock, don’t buy it. If you hold it, sell it now, or set a trailing stop loss. I wouldn’t short Shake Shack stock yet because it is out of control.
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