Shake Shack Shares Too Pricey to Bite Into

 | Sep 26, 2016 | 12:00 PM EDT
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My son and I wandered into "enemy territory" Friday night to take in the Mets-Phillies game at Citi Field and see the Mets beat up our team. This was our first trip to Citi, and it was well worth the two train rides it took to get there. The stadium is absolutely beautiful, and the food is fantastic.

Wandering around pre-game gave me an opportunity to witness firsthand the Shake Shack (SHAK) phenomenon, as the burger chain has a prominent location at the stadium. As early as it was, there was quite a line forming pre-game for the $7.50 burgers (doubles were $9.50). While that seemed like a hefty price, it's par for the course at major sporting events. As much as I wanted to see for myself how a SHAK burger compared to other favorites such as Five Guys, In-N-Out Burger and Fuddruckers (LUB) , the line was too long.

That's been SHAK's reputation, and part of what has driven interest in the stock. It has been somewhat reminiscent of other cult stocks, such as Krispy Kreme (KKD) , although I am not suggesting that SHAK will suffer an implosion as Krispy Kreme did a few years after going public. That company expanded way too quickly and had other issues, which SHAK is unlikely to repeat.

However, it does appear to still be an expensive stock in an overvalued sector, and that's not a good place to be. That's the case even though the shares are down about 10% year to date and 33% over the past year. Valuations are better than they were, but the stock still trades at 63x next year's consensus earnings estimates, and 3.79x next year's consensus revenue estimate.

Viewing valuations from another perspective, there are currently about 100 locations, and SHAK's enterprise value (market cap plus debt minus cash) is $1.2 billion. That puts the enterprise value per store at $12 million, and because it includes both company-owned and international-franchised locations, is understated. By comparison (although not perfect comparisons), Chipotle Mexican Grill's (CMG) enterprise value (EV) per store is about $6 million, and that's still a big number. In terms of newer chains, Zoe's Kitchen's  (ZOES) EV per store is $2.6 million. (From feast to famine, struggling Ruby Tuesday's (RT) EV per store is less than $500,000.)

I've seen other comparisons of SHAK to Chipotle, but in my view there's one major difference between the chains: SHAK operates in the already-saturated burger arena, while CMG arguably has less competition in its specialty.

This is not to say that SHAK won't continue to grow. Interestingly, it currently has a presence in just 16 states, with a heavy concentration in New York (21 locations). Nearly 40% of stores are international, including 27 locations in the Middle East. There's clearly room for growth, but the stock is still ahead of itself and priced for near-perfection in a sector that itself is overvalued.

This is another example of a potentially great company but not a great stock, at this point, anyway.

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