Fogo De Chao Stock Price as of Publication: $14 per share.

Just last week, Fogo De Chao, a Brazilian steakhouse operator, announced its preliminary Q1 results which showed its revenues climbing 10% year-over-year. Yet, the stock of the Dallas-based company is trading at 7.2x TTM cash-from-operations while having a 10% growth rate and a high-single-digit profit margin that should reach ~10% after new tax laws kick in. 

We used cash-from-operations as the main metric to value FOGO for two reasons: first, the company’s high Capex is mostly (more than 80%) related to growth and not maintenance Capex, and the return on these projects is very attractive (payback period is on average 3 years) which makes valuing FOGO on FCF over the medium term misleading. 

We believe that FOGO is undervalued on two fronts; when compared to Roark Capital’s acquisition of Buffalo Wild Wings and also when compared to FOGO’s own future cash flows. 

Roark Capital Buying Buffalo Wild Wings

Two months ago, Roark Capital made an offer to buy Buffalo Wild Wings for $2.5 billion which valued the EV of the casual dining restaurant at 11x TTM EBITDA.  

Well, we believe that FOGO, which is currently trading at 9.2x EBITDA, deserves to trade at more than BWLD’s buyout multiple taking the superiority of FOGO’s results into account. For instance, the steakhouse chain is expected to have a much higher growth rate over the coming years while having double the profit margins (6.8% vs 3.1%) even during FOGO’s worst year which was severely affected by two major hurricanes, unrest in Brazil ( 10 of the 50 company-owned restaurants are in Brazil), and a lot of newly opened US restaurants which tend to perform poorly (relatively speaking) during the first year of opening. 

All in all, on a comparison basis, we believe that FOGO’s EV should be worth nearly 12x 2017 EBITDA which gives a value of $17.8 per FOGO share, a 30% upside from current levels. 

What our DCF analysis shows

Fogo De Chao is committed to increasing its US restaurant count by 10% annually over the next 5 years. According to a study made by the company, there is a potential to open 100+ FOGO restaurants in the US alone, if that happens, it’s a 150% increase from the current base of 40. What we like here is that all of these openings will be financed by internal cash flow while paying down the company’s debt. 

Each restaurant costs $4.5 million after including management’s assumed tenant allowance of nearly $1 million, which we are skeptic about since we don’t believe that this amount of tenant allowance is permanent. Thus, we assumed a $5.5 million cost to open each restaurant in our model. We also assumed a decrease of 50 percentage points (from a current 16.5% to 16%) in the company’s CFO margin (CFO/Sales) over the next five years due to the opening of new restaurants. In addition, we assumed a $30,000 maintenance cost for each restaurant vs management’s $20,000 assumption and one restaurant closed every 2.5 years. Last but not least, we assumed that the company will remodel 10% of its owned restaurants every year at a cost of $650,000 per restaurant. 

Based on our assumptions, and using a 10% discount rate, we believe that FOGO stock has an intrinsic value of $16.6/share which offers a 21% upside from current levels. 

Closing thoughts: We believe that the market is underestimating FOGO’s ability to generate a significant amount of free cash flows, which is being temporarily depressed due to the company’s huge bets on growth. Once the growth story cools down, which will happen in 2023-2024, the company should generate a significant amount of FCF annually. We estimate that in 2024, FOGO will generate $68 million in FCF, 17.5% of the company’s current market cap. 

Based on the average of the two valuation methods, we believe that FOGO stock is worth around $17/share, offering a 25% upside from current levels.