First Watch's Quarter Shows Growth Strains Amid Margin Squeeze

First Watch Restaurant Group (NASDAQ: FWRG) delivered mixed results in its Q1 2025 earnings, highlighting the tension between top-line growth and profit pressures. The company reported revenue of $282.2 million, narrowly missing the FactSet consensus of $283.3 million, while posting a net loss of $(0.8) million, a stark contrast to the $7.2 million net income in the prior-year period. The results underscore the challenges facing the breakfast and brunch chain as it navigates rising costs and shifting consumer demand.

Revenue Growth, But at a Cost

First Watch’s revenue rose 16.4% year-over-year, driven by 13 new system-wide locations and a total of 584 restaurants (up from 571). However, profitability metrics faltered:
- Adjusted EBITDA fell 19.9% to $22.8 million, missing estimates of $25.8 million.
- Operating margins collapsed to 0.4%, down from 5.1% in Q1 2024, as labor, occupancy, and food costs surged.
- Same-restaurant sales grew just 0.7%, while traffic declined 0.7%, signaling reliance on price hikes rather than customer volume.

The CEO, Chris Tomasso, emphasized the “long-term value” of new locations, citing a robust development pipeline. Yet investors appeared unconvinced: the stock dropped 5.3% post-earnings, closing at $17.60 on May 6.

Margin Pressures and Strategic Costs

The earnings miss stemmed from a combination of factors:
1. Labor and Supply Chain Challenges: Labor expenses rose 22% year-over-year, reflecting tight labor markets and rising wages.
2. Acquisition-Driven Growth: 4% of revenue growth and $7 million of EBITDA came from recent acquisitions, raising questions about integration costs.
3. Tax Headwinds: A projected 45-50% tax rate for 2025 adds further pressure on net income.

The company’s updated guidance for $114–119 million in Adjusted EBITDA (vs. consensus of $125 million) reflects these challenges. Management also acknowledged macroeconomic risks, including supply chain volatility and consumer spending shifts, which could prolong margin struggles.

Stock Price and Investor Sentiment

The market’s reaction highlights skepticism about First Watch’s ability to balance growth and profitability.

• Pre-Earnings Dip: The stock fell 2.7% premarket to $18.10, reflecting investor caution.
• Post-Earnings Drop: Shares closed at $17.60, a 5.3% decline, as traders penalized the EBITDA miss and margin contraction.

Analysts noted that while revenue growth is impressive, the “earnings quality” is deteriorating. The stock’s year-to-date gain of 15% has been erased in recent trading, leaving it down 22% year-over-year.

The Long Game: Expansion vs. Profitability

First Watch’s strategy hinges on aggressive expansion:
- 59–64 new restaurants are planned for 2025, with $150–160 million in capital expenditures.
- Franchise sales, which totaled $323 million system-wide, now account for 14% of revenue, up from 13% in 2024.

The CEO argued that “new units are performing well”, with franchisee development exceeding expectations. However, the 0.4% operating margin suggests that scale alone may not resolve cost issues.

Conclusion: Growth Isn’t Enough

First Watch’s Q1 results reveal a company caught between two imperatives: expanding aggressively to capitalize on demand for casual dining and controlling costs to sustain profitability. While the franchise pipeline and brand loyalty (e.g., Yelp’s “Most Loved” designation) offer long-term potential, the near-term outlook is clouded by margin erosion and macroeconomic risks.

Investors will likely demand clearer evidence that new locations can deliver sustainable profit improvement—not just revenue. With Adjusted EBITDA guidance down 7% from consensus, and the stock trading at just 6.8x forward EBITDA, the market is pricing in significant uncertainty.

For now, First Watch remains a high-risk, high-reward bet. The path to success hinges on whether management can tame costs, reverse traffic declines, and prove that expansion doesn’t come at the expense of profitability. Until then, the market’s patience may be thin.