Description
PTLO is a <$1.3B-market cap owner of limited-service restaurants serving Chicago street food across 71 units in 9 states. It IPO'ed at $20/share in Oct. 2021 and was quickly overbought given its growth story: persistent unit and same-store sales (SSS) growth; this story helped PTLO achieve forward revenue and EBITDA multiples of >8x and >45x, respectively, when it peaked near $58/share. PTLO has precipitously declined this year and now trades at <3x and ~19x at its current share price of ~$17. Despite this decline, I think investors' long-dated cash flow models assuming less-than-conservative out-year growth and margins pose significant downside risk, especially true given PTLO is relatively levered at >3.5x despite significantly de-levering with IPO proceeds.
On SSS, investors assume persistent low-to-mid single digit growth. As recently as 2 years ago, PTLO saw double-digit SSS declines. While 2020 was somewhat an anomaly given COVID, SSS growth inflection downward in any given year could be precarious for shares as retail sector investors often treat this metric as a monolith, trading exclusively on beats/misses to expectations. SSS growth of 10.5% on the easy comp year in 2021 has turned into ~5.7% for 2022E, and the trend is estimated to continue downward — not a favorable recipe for public market consumption.
As for unit growth, consider the following business risks:
> PTLO has only grown store count by 2 this year while targeting 6-7. Management has attributed the delays to permitting issues, and I can imagine this will not be the only time we hear about delays. While several may open in 4Q22, the rockiness in year 1 of their 10%+ annual unit growth target, especially on their way to their 600+ total store count target (9x current count) does not inspire confidence. Ultimately, both targets may prove quite aspirational.
> PTLO anticipates each new unit will achieve non-Chicagoland AUV/store levels ($6M). Units will be built mostly outside of its core market of Chicagoland (nearly 60% of stores) + the broader Illinois and neighboring state area (where all but 9 stores exist). These units have been in operation for years, many for decades. While they have had success among these mature stores, the concept is unproven elsewhere and benchmarking expected new unit AUV off of existing non-Chicagoland units might itself be aggressive. This is especially true in the face of a trend toward healthier food options.
> PTLO stores are inordinately large and typically sit on a 2-acre plot. When adjusting AUV for square-footage, PTLO units outside of Chicago average less in sales than Chipotle, for example, which is significantly more scaled/established yet is currently valued equal to PTLO on a 2023E Adj. EBITDA basis.
> Building these large stores is expensive, with each costing $5-7M -- doing so at the expected 10% annual unit growth rate will leave very little FCF as PTLO only has $47M in cash, most of which can be presumed as minimum cash, and $70M in run-rate OCF (coming off of 'the great reopening').
> PTLO's expected 25% cash-on-cash returns by year 3 is not particularly impressive.
Other secular/macro considerations:
> PTLO, fast casual, and adjacent segments of the restaurant market have benefited from reduced competition during the pandemic; as the pandemic becomes endemic, competition will intensify and pressure AUV / SSS growth.
> Store-level margins have expanded through the pandemic given decreased staffing required for fewer dine-in customers. As COVID waned, dine-in has and will continue to comprise a higher share of customer count / sales, PTLO has and will face increased labor pressure, and margins will decrease further.
> PTLO's menu and large format + highly-staffed stores (i.e. 20-30/shift; 80-120 total) are relatively exposed to food and labor inflation pressures, which have been in focus in recent quarters.
These factors, combined with PTLO's leverage, warrant a significant risk discount (especially compared to Chipotle -- see valuation comment above). Ultimately, PTLO and its investors will have to come off of their rosy targets or eventually face a strained cash flow situation and/or some combination of additional/restructured leverage and dilution. I think 15x forward EBITDA is generous, and substantial risk exists for share to reach single-digits in the near-term.
I hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.
Catalyst
> Earning misses via new store performance, labor issues, etc.
> Slower- or more-expensive-than-expected unit growth
> Capital contraints