Chuy’s Holdings (CHUY) is a company that serves authentic Tex-Mex-style foods within 101 restaurants across the country. The company believes that each restaurant has “an upbeat, funky, electric somewhat irreverent atmosphere while still maintaining a family-friendly environment (Chuy’s 10-Q, 2020).” As of September 27, 2020, nine Chuy’s restaurants are still closed, and the company plans to open three new restaurants in fiscal year 2021. The stock is only down 6% on the year, and the company currently does not pay a dividend.

(Source: Chuy’s – Seeking Alpha Market Chart, 2020)

We possess a bearish sentiment at the moment, as many consumers may be hesitant with dining in at restaurants at the current moment, which is concerning because dining atmosphere is a large part of Chuy’s strategy. Moreover, competition in the take-out space is infinite, and Chuy’s sales growth in the past few years has been slow.

Growth in the past few years has been mediocre at best, partly because Mexican food is a saturated space

(Source: Chuy’s Investor Presentation, 2020)

Within the last 5 years, yearly comparable restaurant sales growth has been under 1% 3 times, and growth within the last 2 years has been very slow. Even before COVID-19, Chuy’s may have had a hard time attracting new customers due to a number of factors. Firstly, the company boasts that it provides “exceptional dining value”, with an average check coming to $15.74. Therefore, since the price is not an issue for potential customers relative to other restaurants, factors such as competition and consumer preferences are important to examine.

(Source: Chuy’s Investor Presentation, 2020)

Although Chipotle is a fast-casual dining company, Chuy’s compares itself to the large chain in its investor presentation. Both provide similar foods in burritos and chips & salsa, yet Chuy’s still seems to provide better value price-wise, as consumers who dine at its restaurants get unlimited chips & salsa. Chuy’s also has a much higher alcohol mix, which could incentivize more visits from those who enjoy light drinks. However, at the end of the day, Chipotle’s abundance of locations, ease of ordering, and status as a takeout food staple are strong advantages compared to Chuy’s. Chuy’s did not mention other main competitors, such as Taco Bell (YUM), Moe’s Southwest Grill, Qdoba (JACK), and Del Taco (TACO); there is definitely no shortage of competition in the Mexican food space in the United States. Some of these competitors offer cheaper price points, such as fast food chains, yet other rivals offer similar quality foods. Therefore, Chuy’s is stuck in between being a cost leader and benefit leader, when examining just the food.

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We believe that the growth of the Chuy’s brand will be heavily dependent on consumers’ valuing of a unique dine-in experience. This notion is evidently hurt by the pandemic, as fewer people are willing to dine in, and the long-term effects of COVID-19 on dine-in demand are yet to be seen. The ultimate conclusion seems to be that there are not enough individuals and families willing to dine in on such a frequent basis that yearly comparable sales growth would skyrocket to double digits in the future.

Cost of sales and adjusted EBITDA figures have little upside

(Source: Chuy’s Investor Presentation, 2020)

Since Chuy’s operates in the restaurant industry, the company relies heavily on commodities, in which prices are subject to fluctuation at any time. However, within the last 5-6 years, management has done a tremendous job of controlling these costs, as cost of sales has hovered around 25%. However, consistency in cost of sales is the best possible situation for Chuy’s. It is unlikely that we will see a significant drop in commodity prices for beef, groceries, and chicken. Since Chuy’s main strategy is “value” food, prices will need to be kept low in order to bring customers through the door.

(Source: Chuy’s Investor Presentation, 2020)

Operating profit margins have been trending downwards slowly over the past 10 years, and we expect this trend to continue, given potential new minimum wage laws, commodity price fluctuations, and other uncontrollable factors.

(Source: Chuy’s Investor Presentation, 2020)

Chuy’s adjusted EBITDA figure has also been stagnant for the most recent 5 years before COVID-19. COVID-19 has obviously further worsened the earnings situation, and it might be a few years before the company returns to 2019 adjusted EBITDA figures.

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Earnings estimates are pricing in a very strong recovery amidst COVID-19 pandemonium

(Source: Koyfin, 2020)

Analysts are predicting an EPS figure of $0.73 for the 2020 fiscal year, which should be pretty accurate considering there’s one period left in the quarter. This leaves Chuy’s stock with a forward P/E ratio of 33.03x. We are a bit skeptical that Chuy’s can reach an EPS estimate of 1.03 in the 2021 fiscal year, because new restaurant openings are already delayed and will not add significantly to earnings. Coronavirus impact could continue well into next year, and everything will have to go right if the company wants to reach a 1.03 EPS figure.

There are also some other risk factors that we believe should be highlighted. Firstly, “many of our current leases are non-cancelable leases (Chuy’s 10-K, 2020).” Coronavirus may have had a permanent impact on specific locations, but Chuy’s must continue to pay lease expenses if a restaurant is closed. Another interesting aspect is that with the growing demand for off-premise or delivery sales, this could “cannibalize dine-in sales (Chuy’s 10-K, 2020).” The first consequence is that new consumers do not get to experience a Chuy’s branded dining experience, which results in less of a competitive advantage for the company. The second consequence is that Chuy’s will earn lower margins, as “delivery from our restaurants is through third-party delivery companies (Chuy’s 10-K, 2020).” These companies, such as UberEats (UBER) and DoorDash (DASH), take a large cut of every order.

In summation, Chuy’s will most likely continue to experience slow growth, and the pandemic will continue to affect the company’s dine-in experience. We believe that we will maintain a bearish sentiment for the foreseeable future.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.