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Robert Stephens, CFA
Robert Stephens, CFA
Articles (358) 

Why Shake Shack Has Improving Return Prospects

The company could reverse its recent stock decline

March 23, 2020 | About:

Shake Shack Inc. (NYSE:SHAK) has recovery potential after its 37% decline over the past year.

The quick-service restaurant is launching new products, expanding its restaurant base and is aiming to reduce its costs to catalyze its financial performance.

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Restaurant investment

The company opened 73 new restaurants globally in fiscal 2019. Some of them were in existing markets, but many of them were in areas where the business did not previously have a presence. This could increase the size of Shake Shack’s potential customer base and may reduce its reliance on a limited geographical area to lower its overall risk.

Shake Shack is testing different layouts to determine which one resonate most effectively with its customers. For example, it is testing restaurants with fewer seats and a larger collection area that makes it easier for customers to pick up their online orders.

In addition, Shake Shack plans to expand its presence in Asia in fiscal 2020 by opening roughly 25 restaurants. It opened its Asia head office in Hong Kong in 2019. This could make it easier for the restaurant chain to co-ordinate its expansion in the region and may improve its potential to win market share from its competitors.

Menu innovation

The company is aiming to adapt its menu to changing consumer tastes. For example, it is currently testing new plant-based burgers at several locations. Shake Shack’s gradual release of its plant-based burger across more of its restaurants could increase the company’s appeal to a wider range of consumers.

The business plans to increase the number of new products on its menu in 2020 compared to 2019. For example, it will release new beverage flavors abd expects to test out smaller sizes of its milkshakes to appeal to consumers who are becoming increasingly health conscious.

Additionally, Shake Shack is seeking to introduce a larger number of complementary products that its customers will purchase alongside their existing orders. For example, the launch of its “chick’n bites” (chicken nuggets) in 2019 led to an increase in the average order value. Therefore, the release of other complementary products could boost its sales prospects.

Potential challenges

The restaurant chain recently closed the dining areas of all of its U.S. restaurants in response to the spread of the Covid-19 virus. Its restaurants will continue to operate their takeout and delivery functions, but are likely to report a decline in sales due to reduced customer traffic. If stores remain closed for a prolonged period, it could cause investor sentiment toward Shake Shack’s stock to further weaken.

The business could overcome the short-term challenges caused by the coronavirus outbreak through reducing its costs. For example, in 2019, it invested in new technology to organize its staff scheduling more effectively. It also reduced administrative tasks for its staff, enabling them to become more productive. This could help offset the negative pressure on the company’s sales over the next several quarters.

Financially, Shake Shack is in a strong position to overcome the short-term challenges presented by the coronavirus. For example, its interest coverage ratio was 62.3 last year, while its debt-to-equity ratio of 1.14 is lower than 61% of its sector peers.

Additionally, the restaurant chain is expanding its delivery service to new regions through its partnership with Grubhub (NYSE:GRUB). This could expand its reach to a larger range of consumers and also enable it to meet heightened customer demand for its products during the coronavirus outbreak.

Future prospects

Market analysts predict the company will post a 17% increase in its earnings per share in fiscal 2021. Its forward price-earnings ratio of 61 is high, but Shake Shack’s long-term growth potential suggests it offers turnaround potential.

Disclosure: The author has no position in any stocks mentioned.

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