Chipotle Mexican Grill (CMG, Financial) has moved largely sideways in YTD15 with the stock returning 5% for the year. This article discusses whether Chipotle is trading at expensive valuations or the company’s growth trajectory justifies current valuations.
The first point that I want to mention is that Chipotle EPS surged by 27.1% for 2Q15 and the company’s EPS growth has been 35.8% for the first six months of FY15. Therefore, the company is on a high growth trajectory and valuations are likely to be rich if this growth sustains. I wanted to mention this at the onset as investors should not consider the PE alone as valuation criteria. The growth trajectory has to be considered.
Coming to the estimates, Chipotle is likely to witness earnings growth of 22.7% for FY15. For FY14, the company reported EPS of $14.1 and the earnings growth implies EPS of $17.3 for FY15. Therefore, Chipotle is trading at FY15 estimated PE of 41.5. In addition, analyst estimates suggest that Chipotle is likely to exhibit earnings growth of 18.4% for FY16. This would imply FY16 EPS of $20.5 and the stock is trading at FY15 PE of 35.0.
In my view, the valuations are slightly at a premium, but the stock has still moved higher by 5.0% in YTD15 and the reasons for the stock remaining resilient are as follows –
- For the first half of 2015, Chipotle opened 97 new restaurants, and the company expects to open approximately 100 new restaurants in the second half of 2015. Therefore, the organic growth (other than same restaurant sales growth) is robust and will translate into higher revenue.
- Comparable restaurant sales increased by 7.1% for the first half of 2015, and I expect comparable restaurant sales to increase by 4% to 6% in the second half of 2015. This comes at a time when an established restaurant chain like McDonald's (MCD, Financial) is struggling to boost comparable restaurant sales. I therefore believe that Chipotle deserves premium valuation.
- For FY16, I expect Chipotle’s new restaurant openings to remain robust and this will set the stage for strong growth. Even for comparable restaurant sales, I expect the growth to remain around 5%. Chipotle is the first national restaurant company to use non-GMO ingredients and initiatives towards healthy food is the primary reason for same restaurant sales growth to sustain.
Considering these positive factors, I see Chipotle remaining an attractive investment option. There are speculations on rate hike when the fed meets on Sept. 17. I would wait for the meeting outcome before considering exposure to any stock as a rate hike can trigger negative sentiments for the broad market.
Coming back to the valuation perspective, I must add here that Chipotle analyst estimates peg EPS growth at nearly 23% for FY15 and this implies a PEG ratio of 1.8. On a standalone basis, this can be considered expensive, but when the industry growth is compared with Chipotle, the valuations remain attractive.
However, small exposure to the stock should be considered at these levels; if Chipotle does correct by 10% to 15% on a broad market correction, further positions can be initiated.
