Should you buy the dip on Guzman y Gomez shares?

This Mexican food restaurant is serving up some spicy growth.

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The Guzman Y Gomez Ltd (ASX: GYG) share price has dipped from its all-time high. And as I always like looking at growing businesses when their valuations drop, this is a good time to have a look at the quick-service Mexican restaurant company.

Created with Highcharts 11.4.3Guzman Y Gomez PriceZoom1M3M6MYTD1Y5Y10YALL20 Jun 202410 Oct 2024Zoom ▾1 Jul15 Jul29 Jul12 Aug26 Aug9 Sep23 Sep7 OctJul '24Jul '24Aug '24Aug '24Sep '24Sep '24Oct '24Oct '24www.fool.com.au

As the chart above shows, the GYG share price has dropped over 4% since 1 October 2024 and almost 8% since 11 September 2024.

In the grand scheme of things, the company hasn't fallen much. But, it has hung onto its gains since the initial public offering (IPO) – it's up 76% from the IPO price. Thankfully, its FY25 first-quarter trading update didn't cause a sell-off.

Sometimes, a share can rise too quickly if investors become too optimistic about its future, and then a subsequent business update can lead to the market negatively reassessing its value. That didn't happen for Guzman y Gomez shares.

Let's remind ourselves what the company reported in that FY25 first quarter ASX announcement.

Revenue recap

The Mexican food business reported that from 1 July 2024 to 30 September 2024, it experienced network sales growth of 20.7% to $278.8 million. This included 21% sales growth in Australia to $260.2 million, 19.3% growth in Singapore to $13.6 million, and 25% growth in Japan to $2.5 million. These three countries saw comparable sales growth of 8.7%.

However, US sales fell slightly to $2.6 million.

The total number of Australian restaurants increased by 19 year over year to 199 at the end of September 2024. It now has 18 Singapore restaurants, five Japan restaurants and four US restaurants.

Is the Guzman y Gomez share price attractive?

Those growth numbers were certainly strong, with comparable sales growth in Australia and Asia being "above expectations", according to GYG, thanks to strong delivery performance, successful advertising, and elevated guest demand for value menu items.

GYG said it expects to meet its prospectus forecasts for FY25, including the opening of 31 new restaurants.

As a reminder, the company forecast for FY25 that it will achieve $428.2 million of revenue, $59.9 million of earnings before interest, tax, depreciation and amortisation (EBITDA), $19.7 million of earnings before interest and tax (EBIT) and $6 million of net profit after tax (NPAT).

The current market capitalisation is close to $4 billion at the current Guzman y Gomez share price, so the forecast net profit of $6 million for FY25 makes today's valuation seem extremely expensive.

But, in my opinion, the more important factor is how large and profitable the business may be in five years or ten years.

I think the business will need to simultaneously open lots of new restaurants each year while also achieving strong comparable sales growth. Greater scale should enable rising profit margins. A winning combination like that for many years could help justify the current GYG valuation (and more).

But the current Guzman y Gomez share price does seem expensive to me, even if the company is on its way to reaching 1,000 Australian locations in the ultra-long term.

I bought a few GYG shares at around $25 in early July, but I'm not looking to add to my position at this level. I'm hoping for a much better entry price before buying any more. Considering the company is still forecasting what was predicted for FY25 in the IPO prospectus, I'd currently only be interested in purchasing a few more shares in the mid-$20s range.

Motley Fool contributor Tristan Harrison has positions in Guzman Y Gomez. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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