1 Stock I Wouldn’t Touch With a 10-Foot Pole — and Here’s Why

There’s a lot to like about Cava Group (NYSE: CAVA). The Mediterranean-style restaurant chain is growing like a wildfire while generating positive bottom-line profits. I understand why many investors are excited about this thrilling growth story, sending Cava’s stock price 152% higher in the last 52 weeks.

But I’m not going anywhere near the “buy” button for Cava stock in the foreseeable future. This soaring stock is flying too close to the sun and looks overdue for a sharp price correction.

That’s life in the risky and competitive restaurant industry.

Why investors love Cava’s growth story

Again, I get it. Cava opened 62 net new restaurants over the last year, including 18 in the recently reported second quarter. Menu prices are up by 4.9% in the same span in order to tamp down inflation-based increases in ingredient costs, and foot traffic per store rose by 9.5%.

The company generated $19.7 million of net income and $22.7 million in free cash flows in the second quarter. Investors get thrilling growth and an 8% net profit margin in a single package — where do I sign up?

That’s why Cava’s shares are soaring since entering the public stock market in June 2023. Unfortunately, I don’t think the business can support these lofty stock prices.

Cava’s high valuation ratios are concerning

That brings me to the uncomfortable bit.

Cava’s stock is trading at unreasonably high valuation ratios. Yes, it’s great to see that the company is profitable but it shouldn’t be worth 15 times trailing sales, 308 times earnings, or 1,155 times free cash flows.

Those are soaring ratios in any industry, and especially in the ultra-competitive restaurant sector. True giants like McDonald’s (NYSE: MCD) and Yum! Brands (NYSE: YUM) come with single-digit price to sales ratios and profit-based valuation multiples in the 20x to 30x range. Even the fast-growing Chipotle Mexican Grill (NYSE: CMG) chain nearly fits that modest valuation profile.