Food is undergoing something of a renaissance in America. After decades of processed, high-sodium, low-quality food dominating the national scene, there’s a new consciousness arising about food. People are thinking a lot more about what they eat, which in turn is changing a lot about the marketplace. Restaurant and grocery employees are finding that consumers are willing to pay more for better food – while consumers are finding that often, they don’t have to.
Along with this shift, we’ve seen the positively rocket-ship rise of stocks like Chipotle (CMG) and Shake Shack (SHAK) , with individual and institutional investors alike ready to shell out massive multiples on earnings to get in on massive growth stories.
But this also leaves the small-cap investor in a bit of an artisanal organic dill pickle. On the one hand, the current trend towards higher quality food and eating is far from over. The trend looks to continue on for quite some time, so any investor looking to book large gains should definitely be looking for opportunities in the industry. On the other hand, though, this rapid expansion for certain food companies has meant that a lot of the most attractive stocks in the industry are already priced well above what any enterprising growth hound should be ready to buy into.
Looking Beyond the Burrito
I love Chipotle – both as a stock and a restaurant – but it’s pretty clear that ship has already sailed. If I wanted to invest in Chipotle, I needed to have gotten in years ago. Fast casual dining stocks are huge – as are grocery stores – and it makes it unclear precisely what the best way to play this trend is for investors.
However, one option is to go small. If the changing food culture in the United States really is a rising tide that will raise all ships, seeking out the smaller players that have yet to have their day in the sun would potentially be a solid play. By jumping on the small- and micro-cap companies in the industry, the eateries, restaurants, and grocery stores that haven’t gotten the sort of attention from investors yet, but could in the near future, small-cap investors can still find a way to grab big returns.
Here are just a few companies working to capitalize on the new lifestyle trend that have yet to hit the big time. In the event that they do become success stories, buying in now is the best way to grab the biggest returns.
Natural Grocers by Vitamin Cottage (NGVC)
The story here is an interesting one. The chain was actually founded in Colorado in 1955, so it’s hardly new to the scene. However, its years of commitment to the natural foods segment appears to be paying off. The company now boasts some 90 locations across 13 states and employs over 2,000 people. The company has long maintained a commitment to consumer education, employing a nutritionist at each store and helping its customers make healthy decisions.
Natural Grocers may remain small when compared to mid-cap competitor Whole Foods Market (WFM) , but a look at its balance sheet shows that the company’s showing a lot of promise, particularly since its IPO in late 2012. The company has seen steady growth in revenue, margins, and net profit since 2010, and it’s currently sporting a P/S ratio under one.
Zoe’s Kitchen (ZOES)
When you think Mediterranean cuisine, you usually think Alabama…right? Well, maybe not, but Alabama-based Zoe’s Kitchen has still garnered a reputation for offering an alternative to the steak houses and soul food that are better known in the region.
It might not be easy to keep track of the myriad entries into the fast casual space at this point, but suffice to say, the meteoric success of Chipotle has led to an army of imitators. Not in the form of other burrito joints, but in the form of places where people can get an affordable lunch that tastes good and has some actual nutrition.
In many ways, Zoe’s is just another entry into that crowded arena. Like most other fast casual stocks, it’s experiencing rapid growth in revenue as it expands into new locations across the country. However, there’s plenty of opinions out there suggesting that Zoe’s is currently getting passed over by a lot of the market enthusiasm for fast casual restaurants.
The stock experienced a big breakout in early June, gaining over 25% since that point, so a lot of the argument that the stock was overlooked is likely less true today than it was then. That said, Zoe’s remains a small-cap stock and one that continues to produce impressive growth. So if you’re looking for a growth stock that doesn’t look quite so overbought, Zoe’s may still have a lot of room left before the stock hits its ceiling.
Habit Restaurants (HABT)
Habit Restaurants is hardly flying under the radar. Since its IPO, it’s made big waves by winning national taste tests and growing both its stock and revenue explosively. However, I’m including it here for a few reasons, most of which are just my personal observations.
1. The general connection between improving the quality of food and its nutritional value is all well and good, but I think there’s a reason why burger joints are some of the biggest success stories for the fast casual revolution. Why? Because at the end of the day, unhealthy food just tastes better and this is America, damn it. We love burgers. The combined size of the market share for McDonalds (MCD) and Burger King (BKW) – despite their wildly inferior product – would seem to indicate, to me that there’s still a ton of room for growth.
2. A huge portion of the enthusiasm about the burger market has focused on Shake Shack, which IPOed earlier this year. That stock has cooled significantly of late, but it’s still up over 25% since its IPO – and at a market cap in excess of $2 billion. Habit, meanwhile, is currently sitting on a valuation that’s about a third of that. This is despite the fact that Habit has produced about triple the revenue of Shake Shack in the last three quarters, and has almost twice as many locations over a wider geographic footprint. I get that people are paying for growth with Shake Shack, but this still strikes me as a little absurd. If you’re getting twice the locations and triple the revenue for a third of the price with the Habit, you would need a positively mind-boggling growth rate to justify paying that much more for Shake Shack’s stock.
3. This might be crazy, but I genuinely think that there’s a bicoastal bias at play here. I live in Los Angeles, and I can tell you that this is a fiercely competitive burger market. That’s arguably a lot less true about New York, where Shake Shack wasn’t dealing with an In-N-Out and Fatburger location on every corner to entice away burger enthusiasts. I think there’s at least a chance that the fact that New York-based Shake Shack is the burger of choice for a lot of traders, investors, and institutional buyers, and that could be artificially inflating the stock.
So, Habit’s not exactly a value play at this point, but given the wild success of Shake Shack’s stock despite it having a much smaller footprint in terms of actual burger sales, I’ll hold that anyone interested in investing in the burger boom could be better served by Habit in the long run.
Castle Brands (ROX)
Fixating on quality extends to beverages as well as food as America is in a full-blown revolution in terms of our alcohol. Craft beer is currently the name of the game, as the rice beer swill created by Miller ($SBMRY) and Anheuser Busch (BUD) slowly start to see its market share erode. The difference being, though, that beer companies have executed a much better strategy to embrace this future than their fast food counterparts. Major breweries have simply absorbed many of their smaller competitors, leveraging respected, micro-brewed brands sold through macro-brewed levels of infrastructure and distribution.
All this means that finding small-cap companies to play changes in the beverage market is a lot harder, with multi-brand conglomerates and privately-owned minor players tending to make up the landscape with little in between.
There are at least some options, though. Options like Castle Brands Inc., for instance. Spirits are also getting a longer, closer look from consumers than they once did, and Castle Brands has several premium and super-premium entrants to the market.
The company has its fair share of problems, most notably a lot of debt, but it can boast stellar sales growth going back a few years. If the trend towards fancy cocktails and premium spirits continues, that upswing could very well be what carries Castle into profitability.
If that’s the case, now might be the time to buy. The stock’s down about 30% on the year with investors reacting negatively to continued losses and mounting debt.
DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer