Is Guzman y Gomez stock too expensive?

Should you stay clear of this hot IPO?

| More on:
A man casually dressed looks to the side in a pensive, thoughtful manner with one hand under his chin, holding a mobile phone in his hand while thinking about something.

Image source: Getty Images

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

It won't be long until we see Guzman y Gomez stock trading on the ASX boards.

As we covered here earlier this week, the company is preparing for an initial public offering (IPO).

The quick service restaurant (QSR) operator is aiming to raise around $242.5 million by offering 11.1 million shares priced at $22.00 each. This will ultimately give the company a $2.2 billion valuation at listing.

But is this excessive? Does it make Guzman y Gomez stock too expensive? Let's find out.

Is Guzman y Gomez stock too expensive?

Tamim, an Australian Share Fund managed by Ron Shamgar, has been running the rule over the IPO.

The fund manager highlights that the company has taken its lead from popular Mexican QSRs like Chipotle (NYSE: CMG) in the United States, but attempts to differentiate itself by using fresh ingredients and its diverse range of restaurant formats and ordering channels.

However, Tamim has called the company's proposed $2.2 billion valuation as "eye-watering" and notes the significant premium that Guzman y Gomez stock will trade at compared to Collins Foods Ltd (ASX: CKF) and Domino's Pizza Enterprises Ltd (ASX: DMP). It commented:

The IPO values GYG at an enterprise value to operating earnings multiple of 32.5 times, significantly higher than Domino's Pizza at around 18 times and Collins Foods Limited at just over 14 times. This rich valuation has raised concerns, especially when compared to the global fast-casual Mexican chain Chipotle, which trades at a multiple of 45 times despite its stronger growth and brand recognition.

But there's more to this valuation than meets the eye, highlights Tamim. This relates to how Guzman y Gomez treats its lease liabilities. It adds:

However, a controversy has emerged around GYG's treatment of lease liabilities in its valuation. Critics argue that by excluding $210 million in lease costs from its operating earnings calculation, GYG can present a much higher estimate of 2025 operating earnings in an attempt to justify a richer valuation multiple. Properly accounting for leases could result in GYG being valued significantly higher on an earnings before interest and tax (EBIT) or a price to earnings ratio.

Should you invest?

In light of the above, the fund manager appears to believe investors should keep their powder dry and wait for a better entry point once the IPO excitement dies down. It concludes:

While GYG's growth ambitions are impressive, investors would be wise to approach this IPO with caution. The rich valuation in comparison to other QSR players raises questions about whether the hype surrounding the offering is justified. The controversy around GYG's treatment of lease liabilities, which could significantly understate its true leverage if properly accounted for, adds further uncertainty.

History has shown that many high-profile IPOs struggle to live up to their lofty expectations once the initial excitement fades. Rather than getting caught up in the frenzy, prudent investors may be better served by waiting on the sidelines to see how GYG's growth story unfolds as a public company. Only then can the true merits of the business be evaluated without the distortions of IPO pricing and promotions. A cautious "wait-and-see" approach could pay dividends for those seeking to invest in GYG for the long haul.

Motley Fool contributor James Mickleboro has positions in Collins Foods and Domino's Pizza Enterprises. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has positions in and has recommended Chipotle Mexican Grill and Domino's Pizza Enterprises. The Motley Fool Australia has recommended Chipotle Mexican Grill, Collins Foods, and Domino's Pizza Enterprises. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

More on IPOs

IPO written in dark blue with a yellow background.
Financial Shares

ASX fintech stock backed by Mastercard slumps 9% on debut

Meet the ASX's newest fintech company.

Read more »

IPO written in purple on blocks on top of each other in the air.
IPOs

ASX rare earths IPO stock crashes 42% on trading debut

This IPO has been a rough ride for investors...

Read more »

Modern accountant woman in a light business suit in modern green office with documents and laptop.
IPOs

What percentage of GYG shares are owned by the company founders?

Guzman's founders have done well from the company's IPO...

Read more »

Two happy excited friends in euphoria mood after winning in a bet with a smartphone in hand.
IPOs

How rich are the Guzman Y Gomez founders following the company's IPO?

Guzman's IPO has netted its co-founders millions...

Read more »

Investor covering eyes in front of laptop
IPOs

Guzman y Gomez share price implodes 10% on ASX trading day 2

The Guzman Y Gomez share price is tumbling on Friday. But why?

Read more »

A happy investor sits at his desk in front of his laptop and does the mexican wave with his arms to celebrate the returns from his ASX dividend shares
IPOs

Who owns Guzman y Gomez shares?

Holy Guacamole! These investors have a lot of money in Guzman y Gomez shares.

Read more »

A bearded man holds both arms up diagonally and points with his index fingers to the sky with a thrilled look on his face over these rising Tassal share price
IPOs

Guzman y Gomez shares rocket 36% on IPO day

The quick service restaurant operator is having a stunning first day on the ASX boards.

Read more »

Two children and a dog get set to launch their friend rocketing high into the sky.
IPOs

It's only a day until ASX investors can buy Guzman y Gomez shares

We're only one sleep away from the fast food company's ASX debut.

Read more »