Is Competition Coming for Cava From Chipotle Mexican Grill?

Up over 200% in 2024, restaurant company Cava Group (NYSE: CAVA) is one of the hottest stocks on the entire stock market, and for good reason. Its revenue was up a stunning 35% year over year in the second quarter of 2024, and its net profit soared 200% to $20 million. Moreover, with only 341 locations at the end of the quarter, this little restaurant company could have many more years of profitable growth ahead. No wonder investors are thrilled.

Cava is a restaurant chain specializing in Mediterranean cuisine. Instead of french fries, the company serves up pita chips. Other chains use cheddar cheese, and Cava has feta. And instead of meatballs made of ground beef, this chain uses lamb. All of this gives Cava a differentiated corner of the restaurant market.

Cava appears to have little competition when it comes to Mediterranean food and, consequently, a clear path for growth. Almost nobody knows about an Ohio restaurant chain called Brassica. The ingredients on Brassica's menu have a lot of overlap with Cava. However, considering it only has six restaurants, investors could be forgiven for ignoring it.

Unfortunately for Cava's shareholders, Brassica is suddenly in the spotlight. One of the top restaurant companies in the world is Chipotle Mexican Grill (NYSE: CMG), and it just invested in this small Cava rival. Here's what it means and doesn't mean for investors.

What's Chipotle doing?

In 2022, Chipotle launched a venture capital fund. The fund had a $50 million pool for investing in start-up companies. Since launching, the company has made multiple investments and doubled its investment pool to $100 million in February.

According to the press releases, Chipotle's fund seeks to invest in "supply chain, agriculture, restaurant innovation, automation, and other areas that support Chipotle's mission." And that's exactly what the company has done. For example, it previously invested in Local Line, a start-up helping source food locally. It also invested in Hyphen, a start-up bringing robotics and automation to commercial kitchens.

Chipotle's investment in Brassica doesn't seem to fit within its express objectives.

Brassica isn't the first restaurant chain that Chipotle has ever invested in. In 2013, the company invested in a pizza chain called Pizzeria Locale (now closed down). It's tried building multiple other restaurant concepts through the years. However, this is the first investment in a restaurant chain from its venture capital fund.

When it comes to things such as restaurant automation or supply chain, it's easy to see how those investments could directly benefit Chipotle Mexican Grill. Perhaps by funding a robotics company, for example, there will be a food-prep robot breakthrough. Eventually, Chipotle could become a customer and use robots in its kitchens (which, incidentally, it is).

However, regarding its investment in a restaurant company such as Brassica through its venture fund, the benefit to Chipotle is less clear.

What this does and doesn't mean

On the surface, it looks like Chipotle is funding a competitor in the Mediterranean food space, which would seem bad for Cava. But not so fast. Investors would be remiss not to remember a lesson from history.

Over the years, there have been countless headlines explaining how chains such as Qdoba, Taco Bell, Moe's Southwest Grill, and others would steal sales away from Chipotle. But competition didn't prevent Chipotle from growing its sales year in and year out. Therefore, even if more competition arises for Mediterranean cuisine, this won't necessarily impact Cava.

Moreover, it's possible that Chipotle genuinely wants to see Brassica succeed because of its desire to serve organic food that's sourced locally -- in line with Chipotle's mission. Some assume that Chipotle wants to eventually take over Brassica and expand it into a formidable Cava competitor. But maybe it has no such intention.

Regardless of what happens with Chipotle and Brassica, I think this story is a reminder that Cava will need to defend itself against upstart rivals as it grows. Success and size invite competition.

In that regard, Cava is in a great position to defend itself. Not only is popularity soaring, as evidenced by its Q2 same-store-sales growth of 14%, but it also has nearly $350 million in cash and cash equivalents and zero debt. That's a good place to be.

Still, with Cava stock trading at its highest valuation ever at nearly 19 times sales -- one of the priciest restaurant stocks out there -- investors should ask how big the risks are for this company and whether the potential reward is high enough to justify the risk. After all, at this valuation, a lot of good things are already priced in for those who buy today.

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Jon Quast has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Chipotle Mexican Grill. The Motley Fool recommends Cava Group and recommends the following options: short December 2024 $54 puts on Chipotle Mexican Grill. The Motley Fool has a disclosure policy.