Chris Comparato, Toast CEO
If there is one thing I have learned about investing over the years, it is this: nobody can predict the future. What distinguishes the best companies — and makes their shares a good investment — is their ability to act quickly and effectively when the unexpected happens.
Usually private investors lack compelling evidence that a company can adapt to such seismic change. An exception to that rule is Boston restaurant-tech purveyor Toast which on August 27 filed for an IPO. I see three reasons to buy shares in Toast:
- It’s growing fast in a large market
- It adapted with agility to the pandemic
- Its management team and culture bode well for future growth
(I have no financial interest in the securities mentioned in this post).
Toast’s Business And IPO Filing
Toast — which, according to the Boston Globe, sells “payment-processing tablets and handheld devices and cloud-based software for restaurants to manage orders, payroll, and marketing” — was founded in 2011.
Toast aims to make life easier for a restaurant’s stakeholders. As co-founders Aman Narang, Steve Fredette, and Jonathan Grimm wrote in its S-1 filing, “Running a restaurant is tough. We started Toast to make restaurant work a little easier.”
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How so? Toast says its software is “easy for restaurant workers to use and lets diners order online, in-person or over their phones. Restaurants can also use the guest data it captures to craft loyalty and marketing programs,” noted Bloomberg.
Toast has not reported how much capital it wants to raise. Its prospectus includes a $100 million “placeholder amount” which is likely to change. This February, the Wall Street Journal estimated that it would seek a $20 billion IPO valuation. Toast declined to comment when I wrote about Toast’s possible IPO in February 2021.
It’s Growing Fast in a Huge Market
Toast is taking share in a large markets. Grand View Research forecasts that the restaurant point of sale (POS) terminal market will grow from $15.5 billion in 2020 at a 6.4% compound annual rate over the next seven years. By 2028, Grand View estimates, the restaurant POS software market will increase from $9.3 billion in 2020 at 9.5% average annual rate.
Since Toast’s revenue is growing faster than these markets, logic suggests that it is taking market share. How much faster? According to its prospectus, for the first half of 2021, revenue rose 105% to $704 million.
Toast’s financial condition has improved in 2021. Although its net loss nearly doubled to $235 million in the first half of 2021, its free cash flow during that period was nearly $39 million — a big improvement from the negative $129 million in free cash flow it consumed in the first half of 2020.
Toast has many restaurant customers. As of June 30, Toast was used in about 48,000 restaurants and processed $38 billion in gross payments — averaging 5.5 million guest orders per day — in the year ending this June.
Its customer count has grown very rapidly over the last three and a half years — at a compound annual rate of about 79% from 6,000 restaurants in 2017 to 47,912 this June, according to the S-1.
Why is it growing so fast? Toast offers restaurants a better value proposition than do rival products. As I wrote in February 2019, Snappy Pattys, a Medford, Mass. burger restaurant, previously used Clover — which was later acquired by First Data
The restaurant replaced Clover because “We couldn’t get in touch with them. Sometimes, we’d have to wait several days before they got back to us,” said owner Nick Dowling.
Dowling replaced Clover with Toast. Toast enabled the restaurant to track what was selling well and what was not. Toast also saved money for Snappy Pattys — Clover cost $30,000 a year, according to Dowling. “[Toast] exceeds at all areas at a fraction of the cost of other POS systems,” he said.
With a mere 6% of the 860,000 restaurants in the U.S. on its platform, Toast sees significant growth potential.
It Adapted With Agility to the Pandemic
Toast’s leadership team adapted effectively to the pandemic. When the pandemic shuttered restaurants, Toast cut costs and retooled its services to help restaurants adapt by letting customer order online and either pickup at the restaurant or take delivery to their homes.
Sadly for Toast, the pandemic struck shortly after it raised a big round of capital. In February 2020, the company raised $400 million at a valuation of $4.9 billion.
Two months later, the pandemic shuttered many restaurants — sending Toast’s revenue down over 80%. In April, Toast cut 50% of its staff, reduced executive pay, froze hiring, halted bonuses and pulled back job offers.
By the middle of 2020, business had bounced back. What was behind Toast’s recovery? Its software helped restaurants shift rapidly from in-house dining — which the pandemic radically curtailed — to picking up meals to-go at the restaurant and selling gift cards.
By November 2020, Toast’s business had came roaring back — boosting its valuation to $8 billion.
When I asked Toast this February about the Journal report of its $20 billion IPO, the company told me, “Toast does not comment on any speculated financial transactions. We remain laser-focused on supporting the restaurant industry as it moves toward recovery from the COVID-19 health crisis and furthering our mission to empower the restaurant community to delight guests, do what they love, and thrive.”
Its Management Team and Culture Will Drive Continued Growth
How was Toast able to make the right moves? Why is it well-positioned to adapt to whatever unexpected threats and opportunities might arise in the future? In a nutshell, the answers are Toast’s management and culture.
Toast was founded in 2011 by Aman Narang, Jon Grimm and Steve Fredette who had worked together at a Cambridge, Mass.-based software company, Endeca — which Oracle acquired for $1.1 billion in October 2011. Toast raised its initial $500,000 seed round from the founder of Endeca
Toast did not achieve success with its first product but did enjoy a surge in demand after building a new one. In a 2019 interview, Fredette (who I first interviewed for an October 2017 column in the Worcester Telegram & Gazette), Narang and Grimm, told me that Toast’s initial product — a restaurant paycheck app — struggled.
However, their pivot to a POS app was so popular that Toast could not keep up with the demand. They uncovered specific values that drove their early growth. As Narang said, “In the early days, our success was due to being close to the customers and caring about making our customers successful.”
Grimm, who was raised in a small Kansas farm town, said “We had the confidence to ignore people telling us that we’d fail because we were in a crowded market.” Ironically, that sense of confidence came from what Grimm called “a culture of no ego — doing right by the customer — rather than flashy, self-promotion.”
Fredette — who tried to compete with Facebook when Mark Zuckerberg was a Harvard student and turned down an offer to be one of its first employees — emphasized the importance of “learning what made our initial strategy work and leading by example rather than articulating values.”
Rather than define the culture when the company started, the cofounders tried to understand what values contributed to its success.
They identified employees who “carried the culture” and asked them what values drove Toast. As Narang said, “When we reached 80 to 100 employees we identified 10 to 30 of our employees who were best aligned with our core values. We focus-grouped the company’s six core values by asking ‘What does it mean to be successful here?'”
They also used the culture to keep out potential employees who did not fit its culture. As Fredette told me, he was interviewing a candidate for an engineering position and asked him, “‘What do you think of our team?’ The candidate replied, ‘Just OK.'” Fredette thought to himself, “He did well on the technical questions but why would you say that? If we hire someone toxic, it will spread.”
Toast saw itself applying that culture to a huge, untapped market. As CEO Chris Comparato — who joined Toast as CEO in February 2015 — told me in an April 2019 interview, “I have a customer success obsession. Our platform is giving restaurants a boost in same store sales and operating efficiency. It provides data analysis and empowers employees to delight guests.”
If Toast can maintain this culture as a public company, I expect it to continue growing rapidly.
Is Toast Worth $20 Billion or $67 Billion?
How much is Toast worth? We will have to wait until it goes public to find out.
While the $20 billion valuation seems popular in the financial media, I came up with what is probably a wildly optimistic value by looking at a comparable publicly-traded company.
Olo, a Manhattan-based food-ordering software provider, went public in March 2021 and its stock has risen 29% since to a market capitalization of $6.9 billion.
For the first six months of 2021, Olo’s revenues totaled $72 million (up 80%) — valuing Olo at 96 times its first half sales. Applying that high multiple might be inappropriately low since Toast is growing much faster — 105% — than Olo.
However, to be conservative, I multiplied Olo’s market cap/first half sales ratio by Toast’s $706 million in first half sales — yielding an estimate of $67.2 billion for Toast’s value.
If my estimate is anywhere in the ball park, February’s $20 billion IPO valuation for Toast would leave lots of money on the table.
