Dutch Bros reported -0.6% comps (-7% decline in traffic from -3% in 3Q22) with ~11% pricing, and it was clear from their earnings call that this management team was not ready to be called up to the big leagues. We are adding Dutch Bros (BROS) as a Hedgeye Restaurants Best Idea Short. We see ~50% downside from here. The relentless focus on excessive unit growth and not balancing that with profitability can create long-term issues for the company (i.e., SHAK). We don't see the company generating enough OCF to cover capital spending until FY2026 (and that might be a generous assumption).
EVENT DETAILS:
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Last night, Dutch Bros reported 4Q23 Revenue of $201.8M vs. FactSet's $196.4M and (A)EBITDA of $29.8M vs. FactSet's $28.7M and Comps were as reported (0.6%). The FY23 is symbolic of the company that does not have control over its costs with Revenue $950M-1B vs FactSet $981.1M (A)EBITDA $125M vs FactSet $142.1M with Comps up low single digits vs FactSet 2.0%. Given a significant decline in traffic, BROS cant take price and has said, "at this point, BROS has no plans to take additional menu pricing in 2023; expects low-single digits growth from pricing to roll over into 2023 from menu pricing taken in 2022. In 2023, capital expenditures will grow significantly to $225-250M in 2023 are expected to be at least 150, of which at least 130 shops will be company-operated spending, Including ~$15M to $20M for a new roasting facility projected to open in 2024.
Dutch bros (bros) SHORT THESIS:
- GROWING PAINS: Out of the gate, BROS was a hot IPO that was not ready for prime time and needed time to mature as a public company. BROS hit the public market in September 2021, priced at $23 a share, and instantly found a cult following, rallying to a peak of $81.40 by early November 2021. Since then, shares have fallen dramatically but remain well above their IPO mark and down 22% over the past year. After handily beating numbers at the tail end of 2021, in early 2022, the company missed guidance, putting the company in the penalty box. Until the 4Q22 numbers were reported, management started recovering street credibility, but all that was lost with the recent quarterly performance and 2023 outlook.
- NOT READY FOR PRIME TIME: Our initial read of S1 reads like the company would take the restaurant world by storm. The story was company-operated shop contribution margin, % in the high 20's, and a long-term algorithm of shop growth in the mid-teens, low-single-digit same-store sales growth, delivering revenue growth of 20%, and EBITDA growth greater than 20%. The 1Q22 contribution margin declined to 18% and has recovered, but the pace of same-store sales growth remains under pressure from self-inflicted fortressing headwinds and some economic stress. Traffic decelerated meaningfully in 4Q22 and will be under pressure in 1H23. The company's inability to grow same-store sales will be a lingering problem for the foreseeable future.
- GROWING TOO FAST: A significant contributor to several of the company's problems can be attributed to the doubling of the shop counts since 2019, especially given they have entered many new markets where the consumer usage of the concept is different. This excessive growth leads to a significant slowdown in LTM AUV'S in 4Q22. BROS's decision to fortress existing markets with a well-known strategy that is not going away contributes to this decline. Why is the company growing so fast, risking future profitability? Over the last three years tapped its line of credit for $217MM and will need another $230MM over the next two years. An optimistic scenario has them funding growth from OCF in 2025, but it's likely 2026.
