Shake Shack Earnings Are Great, But Don’t Support Valuation

Shake-Shack-earningsI am mystified as to why investors bid up certain stocks to the point of insane valuation. That’s the case with Shake Shack (NYSE: SHAK) which, despite delivering great second-quarter earnings, is valued at levels that defy belief.
More on that in a moment. First, however, let’s look at the very impressive Shake Shack earnings numbers.
Shake Shack’s total revenue, which is 96% food sales and 4% licensing revenue, exploded 75% to $49 million, up from $28 million a year earlier.

Soaring Same-Store Sales

Now, we have to be careful not to get too excited about a 75% increase, because a lot of that increase came from new store openings. That’s why we focus on same-store sales, or as the company calls them, “Same-Shack sales.” Most restaurants are thrilled to have mid-single-digit increases. Shake Shack delivered a 12.9% increase, which is simply phenomenal. Moreoever, that was almost triple the 4.5% growth from last year.
This came on a 7.4% increase in average weekly sales, which rose to $102,000 from $95,000.
Even more impressive is that in a business where overhead and commodity prices can kill a company, Shake Shack expanded gross margins by 470 basis points to 30.3%.
There was even more good news. General and administrative expenses only increased to $6.1 million from $3.6 million in the same quarter last year. Because the increase was so modest, it led to a lower ratio of G&A expense to revenue – 12.5% versus 13.1% last year.
I don’t like to look at “net income attributable to Shake Shack” because there’s some complicated accounting that shuffles much of the net income off to non-controlling interests. Instead, I look at the net income and operating cash flow, which were $5.14 million and $6.244 million for the second quarter, respectively. Net income was up about 160% with operating cash flow almost tripling.

Size Matters

So all of this is really great news, along with the company’s $65 million in cash. However, investors need to understand that Shake Shack is a minuscule operation. It only has 63 stores, of which 31 are domestically operated, five are domestically licensed, and the rest are internationally licensed.
This is nothing. McDonald’s (NYSE: MCD) has 36,000 stores across the globe. Everyone is freaking out about what is really just another burger n’ fries joint. I don’t even like to talk about price-earnings ratios here because we’d be talking about a number in the hundreds.
Instead, I like to make a comparison regarding the value of a Shake Shack store compared to other burger chains.

Insane Overvaluation

McDonald’s has 36,000 stores and is valued at $94.7 billion, or $2.6 million per store.
Burger King and Tim Horton’s, which now operate under the Restaurant Brands International (NYSE: QSR) ticker, is valued at $19.9 billion with 19,000 restaurants, or about $1 million per store.
Wendy’s (NASDAQ: WEN), which has been really struggling, has its 6,500 stores valued at $2.8 billion, or $420,000 per store.
Shake Shack, with its 63 stores, is valued at $2.5 billion or … $39.7 million per store!
You read that correctly. The market thinks a single Shake Shack is worth 15 times more than a McDonald’s restaurant. That’s insane, and that’s why the company is insanely overvalued. I wouldn’t go near the stock at these levels, and neither should you.

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