Like many upstart restaurant chains, the COVID-19 pandemic has put a wrench in Shake Shack's (NYSE:SHAK) growth trajectory. Once a stock market darling for its rapid expansion and sales growth, the share price has been cut in half since climbing to a September 2019 peak above $105.
Investors have grown increasingly concerned that the company may never return to its pre-pandemic growth rates amid a highly uncertain economic backdrop and shifting consumer eating patterns.
Yet the stock has held up well in 2020 all things considered, down 16% year-to-date. Some have linked the stock with optimism towards a strong second half rebound in the U.S., while others say the business model is now broken.
Its hard to say whether the bulls or bears will win this battle, but what's more certain is that Shake Shack will need to go back to the drawing board to reinvent itself for success in the post-pandemic economy.
Let's take a look at how the company has fared during the crisis and the how its growth strategy has been impacted.
How Has Shake Shack Performed During the Pandemic?
As you may have suspected the recent financial results haven't been good. Revenue declined 40% to $91.8 million and "same-Shack sales" were down 49% in the second quarter. Urban locations which rely on office workers and tourist traffic have lagged and been slow to recover. Manhattan, where sales were down 69% in Q2, has had a major impact.
The licensed Shake Shack locations have also weighed on performance. These tend to be in airports, stadiums, and travel plazas that have remained closed or are operating at minimal capacity. Over 80% of licensed Shacks have reopened but many are now at risk of closing again or scaling back channels amid surges in new coronavirus cases.
The lower sales and heightened expenses tied to the pandemic led to an $8.8 million adjusted EBITDA loss in Q2. The company incurred costs related to safety measures, benefits for furloughed workers, and wage increases that will extend into the third quarter. Incremental payroll costs were $2.4 million last quarter.
Shake Shack did manage to eke out a $1.9 million operating profit, but this represented just 2.2% of sales. Consistent with the pattern we've seen at other quick-service restaurant operators, digital sales accounted for three-fourths of total sales.
Prior to this year, the Shake Shack experience has been built around a social atmosphere where diners relax outside or in a modern dining area. This new environment we're in has investors wondering if this model can still work.
Where will Shake Shack get Growth From?
While most competitors have placed expansion on hold amid the challenging economic backdrop, Shake Shack added five domestic locations in the recent quarter. This brought it to 20 new company-operated and licensed locations this year.
The brand has built a loyal, almost cult-like following over the last few years. In the process, its restaurant count has nearly doubled since 2017 to 292 locations. And it doesn't appear to be slowing down.
Since reopening traffic has been strong. Pent-up demand for burgers and shakes helped average weekly sales more than double in July.
Given its strong customer base and ability to attract new eaters in high traffic areas, the continued expansion of the Shake Shack footprint is likely to accelerate as economic conditions normalize. The potential for brick-and-mortar growth may be underappreciated by the market.
But Shake Shack will also have to adjust to increased consumer appetite for mobile ordering, pickup, and delivery. Its website and app sales tripled in the three-month period ended June 27th. From early March to late July, over 800,000 people made their first purchase on the Shake Shack app.
While these numbers largely stem from existing customers being restricted from the dine-in option, the increased awareness and adoption of the app should have staying power. As in-Shack sales have returned in recent months, over 90% of digital sales have been retained.
Shake Shack's digital platform will need to be a primary growth driver to keep pace with where the industry is headed. The company has ramped its digital investments since the start of the pandemic. A pilot program for curbside pickup at 10 locations has been well received despite a lack of promotion. The company is aiming to extend this experiment to about 50 Shacks by the end of the current quarter.
Meanwhile, the "Shack Track" initiative will be launched later this year. The enhanced digital order and pickup solution lets customers order online and pickup at a drive-up or walk-up window, curbside, or from in-store pickup shelves.
Shake Shack is also developing app enhancements that are scheduled to go live in the next 6 to 12 months. These include delivery service and added pickup and payment functionality. Investments in marketing technology intended to provide more targeted guest communication should also drive incremental sales growth.
Is it a Good Time to Buy Shake Shack?
Shake Shack was growing its top line at a 30.5% annual pace heading into 2020. Although there have been some encouraging developments since reopening, below normal traffic at urban locations remains a concern. This is because Urban Shacks accounted for around 60% of sales prior to COVID-19.
Shake Shack's urban exposure puts it at the mercy of the pace of economic recovery. Therefore, its short-term stock price movement will largely be tied to data around new COVID-19 cases, regional closures, and the return of city office workers and tourists.
As the economy normalizes, however, the company should be in as strong a position as any QSR business to resume pre-pandemic growth. So, should investors place an order for Shake Shack now, or wait for signs of sustained economic recovery?
Well, the restaurant landscape has likely changed forever. Customers of the future will place safety and convenience at the top of the priority list. Shake Shack is getting ahead of this future and that's why investing sooner rather than later may be the forward thinking move here.
The near-term may indeed be rocky as the company spends to reconfigure and adjust to rapidly evolving consumer habits. We may never see Shake Shake return to the 30-plus percent growth form of its early days.
But in the post-pandemic world, Shake Shack will rise to the top and outperform its peers. Innovative digital offerings along with continued global expansion will lead to sizzling long-term growth for patient investors.
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