In our last article we took a look at which fast food giant among McDonald's and Yum! Brands deserves your attention. Today let's take a look at which new age quick service restaurant player is worthy of a position in your portfolio. The top two names in this section that comes to my mind are Chipotle Mexican Grill (CMG, Financial) and Panera Bread (PNRA, Financial). Let's quickly jump into the number pool and get a better insight about the stocks.
What makes the two players worth considering?
Consumers around the world are growing conscious of what they are consuming and because of this the popularity of the quick service restaurants are growing. Consumers feel empowered when they get to decide what goes in their food and in their bodies. Banking on this point, both Chipotle and Panera are doing good business with great upside potential. Automatically it becomes relevant for an investor to judge the two and decide where to put in the hard earned money and be a part of the growth story.
Stacking up against each other
The following table summarizes certain metrics that are crucial to comparing the two. Compared to Panera Bread, Chipotle is a much bigger company with market capitalization worth $21.1 billion and 2014 net income of $445 million on revenues of $4.1 billion. Panera on the other hand has a market capitalization of $4.3 billion only and in 2014 its net income came to $179 million on revenues of $2.5 billion. Chipotle even scores on the net margin figure.
Moving on to ROA, ROE and ROIC, the figures clearly suggest Chipotle is a much more efficient company, returning greater value to its shareholders and utilizing its assets in better, efficient and effective ways. Panera's ROA is significantly lower compared with Chipotle's. However, it catches up in ROE and ROIC. So, for the equity holders, both the company are almost at the same level. Moving on to debt-equity, Chipotle is a zero debt company, while Panera has low amount of debt. While many believe it’s good to have at least some amount of debt in the Balance Sheet, several others like zero debt since that leaves more for the equity holders. This can be seen even when looking at free cash flow per share. Free cash flow means whatever is left after meeting operating expenses and capital expenditures. Chipotle's free cash per share is more than 3 times of that of Panera's.
All this comes together to explain why Chipotle has such a high P/E ratio, double of Panera’s, and even the Price/Sales and Price/Book ratios are many times more than Panera’s. But, while Chipotle manages its assets better and has better free cash, the stock is trading at much higher multiples, and this makes Panera’s stocks cheaper. Both function in the same industry and are likely to benefit from similar opportunities. So, based on these facts, if someone wants to become a part of the growth story of this industry, Panera is a cheaper and affordable option. However, looking at ratios isn’t enough and one must consider the value and the price of the stock also.
Valuation
For this purpose I have used Guru Focus’ DCF valuation calculator. According to Guru Focus, in the coming 10 years Chipotle’s earnings is expected to grow at an average annual rate of 20% and the business predictability for the company is 4.5 stars. Against this, Panera’s earnings are expected to grow at an average annual rate of 19.8% over 10 years, but business predictability for the company is 5 stars, the highest that’s possible. With these inputs, the outcome of the DCF calculation are as follows.
Source: Guru Focus
Chipotle’s fair value or intrinsic value comes to $486.21 and as of this writing the stock is trading at $686.65 a share. Thus, the margin of safety, i.e. the difference between fair value and market price expressed as a percentage of fair value, is coming to a negative 41%. In contrast to this, Panera stock is trading at $161.67 and the fair value is $225.73, suggesting a positive margin of safety of 28%. This implies that Panera’s shares are undervalued and are available at a discount of 28%, where as one will have to pay a premium to buy overvalued Chipotle shares.
Bottom line
Chipotle surely offers better ROA, ROE and ROIC, has no debt, has a better net margin also. But the stock is highly overvalued, both in comparison to Panera and in isolation. So, for some, who is looking to invest in a quick service restaurant, it’s better to go with Panera Bread.
