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The Ratings Game: Shake Shack’s problem could be that the excitement fades after a couple of burgers

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Shake Shack Inc. draws long lines of diners willing to wait for the company’s burgers and fries, but one analyst says those lengthy queues aren’t adding up to a stellar financial performance for a number of reasons.

“There is a mismatch between the strength of the Shake Shack brand and the
company’s results,” wrote John Zolidis, president of Quo Vadis Capital, who notes that stores often lose customers after a period.

Real estate, execution and menu are some of the proposed explanations.

“Our hypothesis is that the brand has fad-like characteristics, and it loses novelty after a few trials or when outside of very high-profile locations (waiting in line at a shopping mall in Columbus, Ohio is not like being in Times Square),” Zolidis said.

Quo Vadis rates Shake Shack stock sell.

See: Shake Shack to invest more than $10 million in workers, with some high-level salaries reaching $115,000

Shake Shack
SHAK,
-2.55%

reported second-quarter earnings after hours on Thursday. Net income totaled $1.9 million, or 5 cents per share, after a loss of $16.2 million, or 43 cents per share last year. Revenue was $187.5 million, up from $91.8 million last year. The FactSet consensus was for a loss of 7 cents per share and revenue $181.0 million.

Same-store sales jumped 52.7%, just ahead of the FactSet consensus for 52.6% growth.

On the earnings call, Shake Shack Chief Executive Randall Garutti talked up the recovery after a COVID year in which sales plunged.

“We’re encouraged by the double-digit year-on-year growth of our digital sales even as our in-Shack sales improved over 300% year-on-year in the second quarter,” he said, according to a FactSet transcript.

“While in-Shack sales have started to come back, our digital retention stayed strong at approximately 80% in fiscal June versus fiscal January 2021 when digital had its peak.”

Store-level margins have improved and new locations are averaging $81,000 in weekly sales year-to-date.

As for the menu, Garutti says the Hot Honey Chicken Sandwich has been well received, and the Avocado Bacon sandwich was so popular avocado will stick around a while longer.

“Following the response of our Avocado Bacon sandwich offering, which was on one in every five of every transaction, we’ve temporarily extended the availability of the freshly sliced avocado as an add-on to our core menu sandwiches,” he said.

Still, analysts are cautious.

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“We reiterate our underperform rating on Shake Shack following the company’s 2Q results that were ahead of expectations (margins), but continue to reflect significant weight from its urban footprint and relative underperformance in suburban markets,” wrote Raymond James.

And MKM Partners says the company is showing signs of strengths but also some weaknesses.

“The volatility and underlying challenges, within some of Shake Shack’s more important urban markets, are still helping to pressure the overall results,” wrote Brett Levy.

“Shake Shack’s results continue to balance positive internal factors and pressure points, with the macro challenges impacting most across the landscape.”

MKM rates Shake Shack stock neutral with a $103 fair-value estimate, down from $105.

Wedbush analysts rate Shake Shack stock outperform, highlighting the “compelling” opportunity in the domestic market.

“We continue to believe Shake Shack’s addressable market will expand from management’s pre-COVID target of 450 domestic company units,” analysts said.

Wedbush has a $118 price target on Shake Shack shares.

Shake Shack stock dropped 10.1% last week so far, but has gained 6.6% for the year to date.

The benchmark S&P 500 index
SPX,
+0.17%

has rallied 18.1% for 2021 to date.

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