Shorting the White Space Opportunity

We were struck by the blatant overuse of the phrase "white space" at this year's ICR XChange Conference. 


As a metaphor, white space is both ubiquitous and ambiguous.  A restaurant company may have the “white space” opportunity to open hundreds of stores, but every concept wants A+ locations and no site comes without a well-funded competitor.  There’s also no guarantee that a particular concept will work in any given area.  In fact, consumers often fail to adopt and use the concept similarly across different geographies.  And then of course, there is the chance that the location is simply a poor site.


For all its ambiguity though, white space is an appropriate metaphor for opportunity.  Our issue with it is that it doesn’t guarantee success.  In fact, it tends to do quite the opposite.  Most companies aggressively attack the white space opportunity and invariably fall prey to meeting Wall Street expectations and, ultimately, destroying shareholder value.


We wonder if restaurant real estate selection models have been adjusted for the new shopping paradigm that Howard Schultz spoke about at the December analyst meeting.  To be frank, we doubt it.  It’s rare in this industry to find a concept that can fill-in its white space while simultaneously creating significant value, and generating robust returns, for shareholders.  This could be a coincidence but, after combing through three years of CMG earnings call transcripts, we didn’t find the phrase white space used once.


As we searched through public transcripts for the phrase “white space,” we were unsurprised to see many of our potential shorts often using the phrase.


Companies that have recently used the word white space in a public forum include: PBPB, BJRI, DFRG, NDLS, ZOES, BBRG, JACK, SONC, KONA, FRSH, CHUY, and DNKN.


Two of these names, JACK and SONC, are well-run companies that are benefitting from the demise of MCD


ZOES has been on the long bench for quite some time, but we’ve been unable to pull the trigger until we dig deeper into the unit growth story.  The performance of ZOES moving forward will be dependent on its new unit economics.


BJRI is a little different from the others, given the activist involvement in the name.  The cost cutting will only take it so far.  We suspect the ROIIC on its new units isn't so strong.


The remaining tickers in this screen are some of the best shorts in the restaurant industry.


Potential Shorts

Potbelly (PBPB)

“I believe our entry into these new markets coupled with the growth in our legacy markets, as well as a significant amount of white space that will remain untapped, sets us up to deliver our long-term financial goals, and more importantly, achieve our stated, at least 10% new unit growth, for a long period of time.”


Hedgeye: PBPB is up 16% over the past month and is currently trading at 57x FY15 EPS estimates.  The short interest is high at 25% of the float and only half the sell-side has a buy on the stock.  Same-store sales are estimated to grow 2.6% in 4Q14 and to accelerate to 3.8% in 1Q15.  We suspect these numbers will be difficult to achieve.



BJ’s Restaurants (BJRI)

“So, we remain very bullish around the opportunity to grow the concept from just a white space geographic expansion perspective. We're going to continue to be careful about doing that. We've been very disciplined historically around not doing a capital-cities approach and picking best spot.”


Hedgeye: After being up 60% over the past 12 months, BJRI is starting to sputter.  The street is expecting a rock star 4Q14 with EPS up 250% on a 1.1% same-store sales gain.  Trading at 38.8x FY15 EPS, there is a significant amount of good news baked into the story here.



Del Frisco’s Restaurant Group (DFRG)

“The market could support more than 170 restaurants across the country. This is in line with our internal projections. Having achieved less than 10% of that potential, we clearly have a lot of white space available for us to cover over the coming years and we will approach that opportunity in a disciplined manner by choosing only A+ sites.”


Hedgeye: This is one of the best shorts in the restaurant space.  The company has structural growth issues that will not be resolved in 2015.  Importantly, it will not come close to earnings $1.04 in FY15.  The stock is down 15% so far this year and could go significantly lower.  It looks cheap, trading at 19x FY15 estimates – but these estimates are far too aggressive.



Noodles & Company (NDLS)

“As such, we will remain diligently focused on restaurant operations and our teams, as well as earning the loyalty of our guests, while thoughtfully expanding the brand to capture the white space ahead of us. As we deliver on these expectations and generate our long-term earnings growth of 25% annually, we believe Noodles & Company remains one of the most compelling, high-growth restaurants.”


Hedgeye: At 52x FY14 estimates, NDLS is overvalued.  While it laps easy comparisons in 1H15, the business model is still a challenged one.  A concept that is positioned like NDLS claims to be should be posting significantly higher same-store sales.  The stock has rallied 19% over the past three months on the back of an improving industry environment.  The street has 3%+ same-store sales growth baked in for the first two quarters of 2015, after what looks to be a sluggish 4Q14.



Zoe’s Kitchen (ZOES)

“I want to summarize the significant long term opportunities to grow our business and enhance our brand. First, we have significant white space development opportunity with an estimated long term total restaurant potentially in the United States in excess of 1,600 locations.”


Hedgeye: We are digging deeper into ZOES.  We like the concept and want to believe it has a strong growth story, but we're not there yet.



Bravo Brio Restaurant Group (BBRG)

“So when we look at the U.S. map, we see ourselves have substantial amount of white space to grow, and we look at that as a huge opportunity.”


Hedgeye: This stock is a short, except it just might get bought.  We have no clue why this is a publicly traded company.



Chuy’s Holdings (CHUY)

“With 56 Chuy's restaurants as of today, we continue to have a tremendous amount of white space development ahead of us.”


Hedgeye: Chuy’s is an unproven concept outside of the state of Texas.  The 16% run-up this month is helping it shape up as a good short once again.



Dunkin’ Brands (DNKN)

“It's a great story with a brand with 60 years of brand heritage and significant white space in the U.S. for many years to come. So today 7,800 restaurants with an opportunity to grow to about 17,000 over the long term.”


Hedgeye: The importance of the unit growth story here has risen as Dunkin’s comps have slowed.  The probability the company misses on its 2015 unit opening guidance is strong.

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