Investors should look at valuation multiples when deciding whether to buy or sell a stock. Valuation multiples are driven by perceived growth, risks and uncertainties, and investors’ willingness to pay for a stock.
There are various multiples used to evaluate a stock. In this part, we’ll use the PE (price-to-earnings) multiple due to its high visibility in fast casual restaurants’ earnings. The forward PE multiple is calculated by dividing the current share price by the forecasted EPS (earnings per share) for the next 12 months.
The better-than-expected 4Q16 earnings and strong 2017 outlook for Panera Bread (PNRA) appears to have increased investor confidence, leading to a rise in its stock price and its PE multiple. As of March 21, 2017, PNRA was trading at a PE multiple of 30.4x compared to a PE multiple of 27.4x before the announcement of its 4Q16 earnings on February 7, 2017.
In comparison, Chipotle Mexican Grill’s (CMG) PE multiple fell from 47.2x before its 4Q16 earnings announcement to 45.2x. The lower-than-expected 4Q16 earnings due to the rise in marketing and promotional expenditures made investors skeptical about Chipotle’s future earnings, leading to a fall in its stock price and its PE multiple.
As of March 21, 2017, Shake Shack (SHAK) was trading at a PE multiple of 60.5x compared to 63.6x before the announcement of SHAK’s 4Q16 earnings on March 1, 2017. The lower-than-expected same-store sales growth and contraction in margins appear to have led to a decline in SHAK’s stock price and its PE multiple.
In 2017, analysts are expecting CMG, PNRA, and SHAK to post EPS growth of 897.5%, 13.9%, and 10.9%, respectively. These EPS growth projections might have already been factored into their respective stock prices. If the companies’ results come in lower, then the stocks could face selling pressure, which could bring the PE multiples of CMG, SHAK, and PNRA down.
You can mitigate these company-specific risks by investing in the iShares US Consumer Services ETF (IYC), which invests 11.6% of its holdings in restaurants and travel companies.
In the next and final part of this series, we’ll look at what analysts are expecting from the three fast casual restaurants.