Seeking Alpha
Long/short equity, micro-cap, portfolio strategy, options
Profile| Send Message|
( followers)  

As a customer and shareholder of Kona Grill, Inc. (NASDAQ:KONA) I have seen it grow and expand ever since its $10.00 price per share. It currently fully owns and operates 24 restaurants across 17 states, mainly in the Midwest. Each of these restaurants offers an upscale casual experience with a mix of American favorites and International delights such as its extensive sushi bar. Kona strives (and succeeds) by providing an affordable yet high end dining experience for its customers.

"Top Chef" Amongst its Peers

Kona is currently trading at a price per share of about $16.70, and is valued at $143.7mm. When compared to its peers, Kona's profitability margins remain strong quarter after quarter. Kona has a gross margin of 39.15%, compared to its peer average of only 16.23%. Granted, as a relatively small company it is difficult to put its peer comparison into perspective, but its gross margin is higher than the industry average of 38.13% as well. Kona's main peers are privately held such as P.F. Chang's and the Hillstone Restaurant Group, but Kona competes with these privately held companies as well as some of the larger public companies such as Darden Restaurants (NYSE:DRI) and Brinker International (NYSE:EAT). Kona does this by offering a high class dining experience for a much lower price. In the 10-Q report for Q3 of 2013 it states its average meal ticket per person is about $25.00. This is where Kona sets itself apart from its competitors in the long run, as it allows its guests to return time after time. Kona also offers a "Happy Hour" promotion for food and beverages during the week and on weekends, allowing its guests to enjoy its upscale dining experience for an even lower cost. They are able to do this while maintaining its sales and turnover ratios. With Kona's growth this could demonstrate its ability to become a direct competitor with larger national food servicing companies. When Kona expands closer to that point it could further increase its operating and net profit margins as well, bringing it closer to the industry averages as displayed below.

Organic Growth & Expansion

In terms of Kona's expansion, it already has new restaurants planned for 2014 and even 2015. Along with the new Boise location built in October of 2013, The Woodlands, TX location was opened in the fourth quarter of 2013. This being said, Kona incurred a significant amount of expense during Q3 and Q4 of 2013 due to development activities for its new restaurants. Its Q3 2013 earnings were reported as $0.12 per share, a drop from its EPS of $0.19 in Q2 of 2013. Estimates for Q4 of 2013 are currently a loss of $0.07 per share, but this drop in EPS should not scare investors away from a growth opportunity like this. Management explains in its 10-Q for Q3 of 2013 that it plans on opening up four new restaurants in 2014 alone, and it already has signed two leases for restaurants opening in 2015. Kona estimates a 15% compounded annual growth rate due to both its organic restaurant growth and expectations for its sales to double within the next five years. Despite expecting a net loss on the 2013 restaurant opening for the first few quarters of 2014, the 15% compounded growth rate is derived from its increasing restaurant sales growth and an increase is same-store sales due to returning guests. Historically Kona states that its preopening expenses for new location approximate to about $0.50mm. Granted with the two new locations and four planned locations for 2014 this preopening expense would be an estimated $3.0mm for Kona. However, with a reported $9.0mm in cash and cash equivalents available as of Q3 of 2013 I do not see this holding back Kona in terms of growth. As I will explain later, Kona has a debt to equity ratio of 0.0 meaning they will be able to issue new debt if it does run into trouble in terms of paying off the estimated $3.0mm in preopening expenses throughout the 2014 FY. Investors should look to open a position in the coming weeks after its 10-K is released this week.

Guests Continue to Return

With Kona's expansion this growth is more than attainable at its current levels, but the macroeconomic state of the restaurant industry will need to cooperate. The consumer confidence and sentiment is currently cautious and uncertain due to a modest 1.6% increase in guest traffic for Q3 of 2013. Looking at the future, consumer confidence and spending will only assist in driving Kona's organic growth year to year, but this does present a risk in Kona as a long-term growth play. However, a same-store sales growth rate of 2.6% should give investors more hope in the future, as consumers and consumer spending will continue to grow with this.

Growing Into the Restaurant Industry

The ratios displayed below are comparing Kona to the industry average. Taking into consideration that Kona's market capitalization is significantly less than the industry average, it still can compete with the industry in terms of its relative valuation. With a debt to equity ratio of 0.00 Kona will be able to take on and issue new debt once it begins to open up the four restaurants it plans on opening in 2014 as well as the two restaurants, which already have signed leases for 2015. This could bring its return on assets and return on equity up to par with the industry averages despite still being valued at only about $143mm. From the technical perspective of a trader as opposed to an investor, the short float of less than one percent can demonstrate long-term upside.

P/E

P/S

P/B

Current Ratio

Debt:Equity

ROA

ROE

Sales

Short Float

KONA

29.0

1.5

6.4

1.1

0.00

9.99%

19.94%

6.67%

0.87%

Ind Avg

21.1

2.5

15.4

1.1

1.0

13.8%

26.48%

5.95%

8.99%

Earnings Report and Long-Term Future Outlook

Regardless of how Kona does in the short term, I stand by my original thesis that it is a buy in the long term. A drop after its earnings report will present more of a buying opportunity for investors and traders, and an increase in price after its earnings report (possibly due to future guidance) will reiterate my investment thesis. Between the amount of new restaurants being built by Kona and the overall fundamental outlook on the company based on the next one to five years, I plan on adding to my position regardless of the earnings report on the 13th. For what it's worth I generally do not invest in equities that do not have options, such as Kona, but I have been long since the $10.00 range. As a growth play, it is difficult to pass up this opportunity.

Source: Kona Grill, Inc. Lays Its Organic Growth And Expansion On The Table