3 Reasons CAVA is Risky and 1 Stock to Buy Instead

CAVA has been on fire lately. In the past six months alone, the company’s stock price has rocketed 61.3%, reaching $79.45 per share. This was partly due to its solid quarterly results, and the run-up might have investors contemplating their next move.

Is there a buying opportunity in CAVA, or does it present a risk to your portfolio? See what our analysts have to say in our full research report, it’s free.

Why Is CAVA Not Exciting?

We’re happy investors have made money, but we're sitting this one out for now. Here are three reasons you should be careful with CAVA and a stock we'd rather own.

1. Weak Operating Margin Could Cause Trouble

Operating margin is an important measure of profitability for restaurants as it accounts for all expenses keeping the business in motion, including food costs, wages, rent, advertising, and other administrative costs.

CAVA’s operating margin has generally stayed the same over the last 12 months, averaging 4.6% over the last two years. This profitability was lousy for a restaurant business and caused by its suboptimal cost structure.

2. EPS Trending Down

Analyzing the change in earnings per share (EPS) shows whether a company's incremental sales were profitable – for example, revenue could be inflated through excessive spending on advertising and promotions.

CAVA’s full-year EPS dropped 27.2%, or 12.8% annually, over the last two years. We tend to steer our readers away from companies with falling EPS, especially restaurants, which are arguably some of the hardest businesses to manage because of constantly changing consumer tastes, input costs, and labor dynamics. If the tide turns unexpectedly, CAVA’s low margin of safety could leave its stock price susceptible to large downswings.

3. Previous Growth Initiatives Have Lost Money

Growth gives us insight into a company’s long-term potential, but how capital-efficient was that growth? Enter ROIC, a metric showing how much operating profit a company generates relative to the money it has raised (debt and equity).

CAVA’s five-year average ROIC was negative 12%, meaning management lost money while trying to expand the business. Its returns were among the worst in the restaurant sector.

Final Judgment

CAVA isn’t a terrible business, but it doesn’t pass our bar. Following the recent rally, the stock trades at 159.4× forward P/E (or $79.45 per share). This valuation tells us it’s a bit of a market darling with a lot of good news priced in - you can find more timely opportunities elsewhere. Let us point you toward the most dominant software business in the world.

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