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Why I like Kona Grill

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6:43 pm UTC
July 23, 2011

rboling9

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Take a look at Kona Grill's 2011 first quater results:

http://www.sec.gov/Archives/ed…..033111.htm

I'm especially intrigued by the company's increase in same store sales (7.6% this quarter compared to -2.5% for the first quarter in 2010), sales per square foot (135 compared to 129 for the quarter last year), and free cash flow (2.9% of revenue compared to .09% for Q-1 last year). The company has kept its costs in line (cost of sales as a percentage of revenue rose to 28% this quarter compared to 26% last quarter, a fairly steady increase), and it appears as if the company has halted expansion. The last new store opened was in the first quarter of 2010. The company can now focus entirely on expanding the same store sales of its restaurants without taking on the debt needed for expansion (the company financed its expansion with proceeds from its IPO and has negligible debt).

Even more exciting is the arrival of a new CEO, Michael Nahkunst, a restaurant veteran who first started as an executive of Brinker International, the parent company of Chili's in 1977. Leaving in 1997, Nahkunst laid the foundation for an eventual 500% appreciation in stock price for Brinker (from 1995 to 2011). Furthermore, he served as the CEO of Cheesecake Factory from 1997-1999, and in the years during and after his service the stock soared over 600% (1997-2011). When he was the CEO of BJ’s Restaurants, the stock soared over 300% during his tenure (from 2002-2007).
I’m confident that with Kona’s new management, strong same store sales growth, and excellent free cash flow growth, Kona growth will be a restaurant superstar. The stock has hovered around $6.00 a share, but with stronger free cash flow growth and with the continued excellence of management I wouldn’t be surprised if the price were to soar much higher. While the stock is trading at around 12 times EV/EBITDA, making it slightly expensive for a company with “losses” last quarter (the losses only came after factoring out depreciation/amortization), I don’t mind the price considering the excellent free cash flow growth compared to Q-1 2010 and the experience of the new management. I would like a correction, but I would be happy going in now.

Rob Boling

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3:20 pm UTC
July 24, 2011

ConnorHaley

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Rob,

Nice post on KONA. I tend to have the same thinking on this one, but have a few things I just don't quite know yet that are necessary before I'd consider investing.

1) I don't really understand their competitive advantage. It's true that restaurants in general tend to have "concepts" and some are hit or miss and therefore don't necessarily have a traditional sense of "competitive advantage."

So, does the KONA concept work? It seems like they are really trying to have a large menu (they offer sushi) and a big bar/ hangout scene. Drinks make up a big percentage of their revenue. Offering a large menu (Cheesecake factory style) can work, but offering sushi is not easy. It's difficult to source it, prepare it, etc.

2) The SA article about the CEO makes him sound like a genius. He has definitely been at some good places. However, I don't know exactly how instrumental he was in the success of those companies.. what were his initiatives? How will he apply them to KONA? Furthermore, he is only interim CEO (at least that's what they have said for now). How long does he plan to stay? How much stock does he own (ill need to check on that).

3) They only have like 25 stores and are not planning to open anymore this year (but will the next year). They just came off great comps– I'm just wondering how, in the near-term, shareholders WIN on this. Is the CEO going to slash costs? Implement better management? Etc. Or, is it just a wait and see game with the remodeling efforts and hopefully comps improve.

I think it has potential and is probably a strong long-term bet, but there is a lot of uncertainty– too much still– that I don't feel comfortable with to invest yet.

Connor Haley
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3:28 pm UTC
July 24, 2011

ConnorHaley

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Nice post Rob– I have similar thinking. However, some important questions still to be answered:

1) The new CEO is "interim CEO." Do we know how long he plans to stay? What are his initiatives for improving operations?

2) How much stock does he own?

3) They aren't opening any new stores this year and just had great comps.. before investing, I'd want to know how tough their comps stack up the next few qtrs..

Connor Haley
CSP Staff

11:31 am UTC
July 25, 2011

CSPSeiji

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I do believe that Nahkunst has been instrumental in the exploding success of some of the aforementioned companies such as Cheesecake Factory, BJ's, Chili's etc. Just how much, like Connor said is questionable and up in the air.
The key thing for KONA that we have to view is how they are going to move forward with this temporary leadership Michael is supposedly bringing in. The company itself is 46% owned by insiders. While institutions carry 44%. Im not sure how that translates. Connor could you help clarify some benefits or cons of high insider ownership?
I do like that the company has a pretty good amount of cash on its balance sheet with a small amount of debt.

What I did notice was that KONA broke the $6 resistance it had been around for awhile. It reached up to 7.69 before falling back to its current level around 6.90s. With technical analysis, this breakout should point towards a strong signal of a temporary bullish uptrend. But again, its a bit uncertain as well with fundamental factors. Like Connor pointed out, they aren't expanding so it will be interesting to see their growth and potential in the coming year.

9:46 pm UTC
July 25, 2011

rboling9

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Personally, I love the strong insider ownership. The insiders' compensation is tied to the performance of the stock, benefiting the shareholders in the long run. However, I would like to see the package Nahkunst gets. I'd prefer a stock heavy one. I also would like to see how insiders react if Nahkunst is named full-time CEO. I'd prefer strong buying if anything.

Rob Boling

CSP Staff

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