Zoe's Kitchen IPO shines amid market turmoil

The stock rockets higher in its first day of trading. Everyone wants to find the next Chipotle.

By MSN Money Partner Apr 11, 2014 6:44PM
Image: Zoёs Kitchen restaurant in Savannah, Ga. (© Zoёs Kitchen via Facebook, http://tinyurl.com/zoeipo)By Steve Schaefer, Forbes

If you're a restaurant adding stores and piling up profits, the last two years have been a great time to go public. 

Even with the broader market reeling and the demand for IPOs showing a few cracks, Zoe's Kitchen (ZOES) proved Friday that the hunt for growth stories is still on in some corners.

The small company raised $87.5 million, selling 5.8 million shares at $15 apiece, and the stock rocketed 73 percent higher in its debut, closing Friday at $24.72. Zoe's, which initially intended to sell shares for between $11 and $13 apiece, upped its price tag by two bucks earlier in the week and landed at the top of that range, indicating demand.

The Texas-based fast-casual chain serves up Mediterranean-style food ranging from pitas and hummus to kebabs and rice pilaf, and its offering is just one of several hot starts in the space over the last few years, including the likes of Noodles & Co (NDLS), PotBelly (PBPB) and fellow Texas chain Chuy's Holdings (CHUY).

One trigger that teed up the hunt for restaurant growth stories has been the stunning success of Chipotle Mexican Grill (CMG), with a stock that has gained almost 1,200 percent since its 2006 debut and grown profits rapidly despite a nasty recession early in its public life.

Craig Hodges, chief investment officer at Dallas-based Hodges Capital, says his firm's mutual funds have owned a number of restaurant stocks in recent years, and the ones that are aggressively growing their footprint have proven appealing.

"People are drawn to the ones with big upside in growth," says Hodges, and Zoe's is certainly promising that possibility with plans to double its store count -- currently 111 -- over the next four years. That store growth pace is impossible for bigger, more mature industry competition to replicate, given the massive footprints already established for companies like McDonald's (MCD) or Wendy's (WEN). Not to mention that Zoe's same-store sales were up 7% percent in 2013 and more than 10 percent in each of the prior three years.

The popularity of Zoe's out of the gate gives Hodges pause though. Last week, his fellow portfolio manager Eric Marshall noted that the restaurant chain was the most talked-about company at a recent dinner he attended with other Dallas-area investors.

"It seems like every hedge fund manager in town is clamoring [to get a piece of it]," Marshall said, accurately predicting that the deal would garner strong demand and lead the firm to pass on its initial look.

Hodges isn't in a rush to buy for a few reasons. For one thing, he warns that high-multiple stocks have been falling out of favor during the recent slide in the broader market. At its IPO price, Zoe's fetched 25 times fiscal 2013 adjusted earnings before interest, tax, depreciation and amortization, and more than two times last year's sales. Those valuation figures were rapidly rising along with the stock price Friday morning.

The team at Hodges is rarely in a rush to buy hot IPOs in general and Zoe's falls into that category. "We think you may have a chance to get it cheaper," notes Craig Hodges, and a look at how some of the hottest IPO debuts over the last six months have performed subsequently illustrates the point.

The table below from Renaissance Capital shows how a number of stocks that rose more than 50 percent on their first day of trading -- including the likes of Twitter (TWTR), The Container Store (TCS) and Castlight Health (CSLT) -- have scuffled in the weeks and months since.

Demand for IPOs is always subject to the action in the broader market, and the recent slate of companies going public has shown the trend. Ally Financial (ALLY) priced at the bottom of its expected range, Candy Crush Saga maker King Digital (KING) was a dud on its debut day and a few deals that were set to price Thursday actually postponed their offerings.

Zoe's is shining through the cracks in the IPO market though, proving that investors are still willing to pony up for growth at rich valuations in the face of market turmoil, at least for now.

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