For example, both McDonald’s Corporation (NYSE:MCD) and Chipotle enjoy a high profit margin of 30% and 20%, respectively. Such a high profit margin is a great indication of having a sustainable economic moat. In all other cases, such high profit margins aren’t supposed to exist in a truly competitive environment. Panera, for example, lags in that aspect — it’s only able to show an operating margin of 13%, which means that some of its rivals are slowly biting into its bottom line. What economic moat Noodles will have still remains to be seen.
Valuation matters
In the most recent quarter, Chipotle reported earnings of $2.45 per share. Earnings grew almost 24.4% from the prior-year quarter, driven by higher revenues, lower taxes and share count. This commands a price-to-earnings of 40x for the company. Definitely not a low one, but it could be a lot worse. At a current price-to-earnings of 40x, Chipotle trades at a little more than twice the average S&P of 18 times earnings. It’s high, yes … but it also grows at four times the rate of an average S&P company. Whereas McDonald’s, for example, increases its earnings by 1% year-over-year, Chipotle is able to show a magnificent 14% increase in earnings. Panera, though, trades at a more acceptable price-to-earnings of 30x.
But the valuation of Noodles & Co (NASDAQ:NDLS) is currently sky high. Noodles saw a $5 million net profit on nearly $300 million in sales in its most recent year. This commands a price-to-earnings of 105x on the share price at the open. But shares have already doubled since then. This means that at a current share price of $36, the company’s P/E is a staggering 210x. That’s out of this world expensive.
Management
Most people probably don’t remember this, but Chipotle was spun off from McDonald’s. The people running it are some of the world’s best in the quick-service restaurant industry. And they’re also shareholder oriented — in the first quarter of 2013, Chipotle bought back 164,000 shares worth $51 million. During February, the company announced the addition of $100 million to the existing share repurchase program. It is of great comfort for me to see that executives at the helm of Noodles & Co (NASDAQ:NDLS) have all worked for major brands including Chipotle and McDonald’s (NYSE:MCD).
The Fool looks ahead
It remains to be seen whether Noodles & Co (NASDAQ:NDLS) will live up to its expectations. If it does, the return on investment will be fabulous. But if it doesn’t, the crash will be hard, especially considering the top-dollar that investors have been paying for its shares.
Shmulik Karpf has no position in any stocks mentioned. The Motley Fool recommends Chipotle Mexican (NYSE:CMG) Grill, McDonald’s, and Panera Bread. The Motley Fool owns shares of Chipotle Mexican Grill, McDonald’s, and Panera Bread.
The article It’s Showtime for This Fast Food Chain! originally appeared on Fool.com.
Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.
