Scott Barnett & Associates Blog
Restaurant IPOs:
What's Ultra Hype and
What's the Real Deal?

August 21, 2023
Restaurant public offerings have a notorious reputation. Some go well - Shake Shack and Chipotle come to mind. But many others are like an earth-bound meteor flashing across the sky so it can crash and burn in spectacular fashion - Boston Market, the first Krispy Kreme IPO and many others are examples.
The latest ultra-hyped IPO is CAVA, a Mediterranean concept that went public a few weeks ago. In this case, the hype may be deserved for many reasons that I will discuss. On the other hand, like many of its industry forerunners, it could go down spectacularly.

I once listened to the CEO of a very well-known upscale restaurant chain at the Restaurant Finance Conference. He said that no restaurant company should be public except for QSR brands of sufficient size.
He added that the "How good were your last quarterly results" mentality made smart strategic decisions impossible.
Did I forget to mention that the organization he was running was actually a public company? He was not there six months later.

The allure is undeniable - massive ego satisfaction, tons of money, etc. but I am reminded of the old adage, "Things that seem too good to be true usually are."
CAVA's Strengths
CAVA is an interesting case. Their food quality is really quite good. The mix of their real estate leans heavily toward suburban locations, which was timely given the decline and fall of the urban U.S. that accelerated during Covid. In the past couple of years they have invested heavily in technology in virtually every part of their business - from ordering to real estate to marketing, they are decidedly cutting edge.

The concept is deceptively simple in almost every way. While the menu appears wide, it is really confined to certain key ingredients. The buildout is lean and functional. I am not sure that I agree with their assertion in the prospectus that it is "warm and inviting" but to its target audience, maybe so.

The largely Mediterranean style food is very high quality and forward looking- healthy and, despite its simplicity, craveable.
CAVA's Potential Audience Problem
The target audience - herein lies the conundrum. In their material they describe the market as geographically diverse. It's not. It's 82% suburban and their presence in the west (predictably California) is minimal. Additionally, it is highly focused on Gen X and Millennials. They make up almost 70% of the customer base. The income level is relatively high as well with more than 60% at $100K or more.

Finally, they skew female at 55%. This can change but, as of now, their total addressable market (TAM) is somewhat limited demographically. Basically, it is the Chipotle crowd for Mediterranean.

But is that a bad thing? Probably not.

Once Chipotle became properly managed and dealt with the systemic issues related to proper health standards, it resumed its role as America's quality Mexican QSR/Fast Casual favorite. There is no reason CAVA cannot follow suit.
CAVA's Growth Outlook
The real question is growth. In 2018, the relatively small CAVA raised some significant capital and acquired the larger Zoe's Kitchen. They began converting them to CAVAs and accelerated that in 2020. The lift in "number of CAVA restaurants" was significant, largely as a result of a well-executed conversion strategy. More importantly, their average unit volumes (AUVs) rose to ~$2.5M. In the fast casual world, that's a profitable enterprise worthy of being called paydirt.

Those conversions will be completed by the end of this year. Consequently, it now boils down to two things:

1. Do they have the people to grow at the pace Wall Street will demand and have imputed into the share price?

2. What kind of real estate pipeline do they have and can they go to war with competitors to achieve that growth?

I would not bet against them. With the involvement of Ron Shaich as Chairman, the company has guidance from someone with deep pockets and who has "done it before."

Finally, they are extending the brand in a very intelligent way. The consumer packaged goods space is difficult to say the least. But CAVA is expanding into it steadily by leveraging their in-store reputation as one that consumers can recreate at-home via goods offered at blue chip actors with aligned, high-quality branding like Whole Foods. It is a strong growth possibility in elevating the entire profile of the brand.
Growing a restaurant company is one of the most difficult things one can do in business. It requires so many moving parts and is vulnerable to a host of exogenous variables. Nevertheless, my money is on this group.

As an aside, deals within the industry have started to move. It is not just CAVA's IPO. The recent announcement of Bain Capital's acquisition of Fogo de Chao leads me to believe that the market could be heating up. I would keep an eye out for more.
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