There are various multiples available, but we’ll use the EV-to-sales (enterprise-value-to-sales) ratio since Shake Shack (SHAK) is still in the growth phase of its life cycle. During a growth phase, operating costs are typically higher, and EPS (earnings per share) can’t be considered in the valuation.
The forward EV-to-sales ratio is calculated by dividing a company’s current enterprise value by forecast sales for the next 12 months. Estimated future sales give more visibility to a company’s growth prospects.
SHAK’s valuation multiple
After posting better-than-expected 3Q16 revenue, SHAK’s management raised revenue expectations for 2016. For 2017, the company is expecting revenue to rise 23.9%–35.1%. Higher revenue guidance and SHAK’s initiative to improve same-store sales growth appear to have increased investor confidence. Those factors led to a rise in SHAK stock and a higher PE (price-to-earnings) multiple.
As of February 21, 2017, SHAK was trading at an EV-to-sales multiple of 3.8x compared to 3.7x in 3Q16.
Since the company is still in the growth phase of its life cycle and given its huge potential for expansion, SHAK is trading at a higher valuation multiple than its peers. Chipotle Mexican Grill (CMG) and Panera Bread (PNRA) are trading at valuation multiples of 2.6x and 1.9x, respectively.
Analysts are expecting SHAK’s revenue to rise 34.7% in the next four quarters. Its current share price might have already factored in the revenue growth. If the company’s results are lower, the stock could face selling pressure and bring the valuation multiple down.
You can mitigate company-specific risks by investing in the Consumer Discretionary Select Sector SPDR ETF (XLY). XLY has 9.8% of its investments in travel and restaurant companies.
In the next and final part of this series, we’ll look at analysts’ recommendations for Shake Shack (SHAK).