Inside Guzman y Gomez

Guzman y Gomez (ASX: GYG ) is one of Australia’s fastest growing fast-food businesses, having compounded network sales at nearly 30% for the past decade. The group has 210 restaurants globally with 70% operated by franchisees while 30% are run as corporate stores.

GYG has the rare combination of strong unit economics, a large growth opportunity, an impressive founder-led management team, and a fortress balance sheet.

We initiated a new position in GYG as part of a private funding round ahead of its successful listing during the quarter. We outline our thinking below.

Figure 1: GYG is one of Australia’s fastest growing fast-food businesses

Franchise business models are amongst the best you will find

It doesn’t come much better than the franchise business model - collecting a royalty on someone else’s investment.

We believe successful franchises depend on three factors:

1. Strong unit economics

2. A significant whitespace opportunity for growth

3. Happy and profitable franchisees

When done right, franchise businesses are a recipe for strong growth, high returns on capital and a tonne of free cash flow. On each of these three measures, we believe GYG screens favourably.

1. GYG restaurant economics are world-class

A typical GYG drive-thru turns over ~$6 million annually with a restaurant profit margin of approximately 22%. These figures are amongst the best of any restaurant concept in Australia, second only to McDonalds.

With an average build cost of $2 million, a new corporate GYG store generates an approximately 60% return on investment and pays itself off in just over 18 months.

Figure 2: A typical GYG drive-thru turns over ~$6 million annually with a restaurant profit margin of approximately 22%

We expect restaurant performance to continue to improve over time as ongoing same-store-sales growth drives operating leverage on a relatively fixed cost base.

2. Australia alone provides 20 years’ worth of growth runway

GYG has less than 200 stores in Australia today but sees an opportunity to have more than 1,000 over time. With a plan to rollout 30-40 stores each year, this implies 20 years of growth runway in Australia before considering other markets.

Figure 3: GYG has less than 200 stores in Australia today but sees an opportunity to have more than 1,000 over time

We believe the investment thesis is underpinned by the Australian opportunity alone. However, management have global ambitions.

The company has a small presence in Singapore and Japan today. Both markets could be materially larger over time.

Additionally, GYG has opened 4 restaurants in the USA and intends to open an additional 3-5 each year to prove out the brand appeal and unit economics. The prize is large, but it is early days.

2. A healthy and profitable franchisee network

Happy franchisees create an incentive to open new stores, which drives higher royalty income for GYG.

Unlike many franchise businesses, every GYG franchisee is profitable. The median franchisee makes a 50% return on their investment, underpinned by a simple and transparent royalty model which ensures franchisees are treated fairly.

Unsurprisingly, the waitlist to become a franchisee is long.

Figure 4: GYG is one of Australia’s fastest growing fast-food businesses