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The Science of Hitting
The Science of Hitting
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Chipotle: Positive Comps and Results in 2020

A look at the company's 4th quarter financial results

February 05, 2021 | About:

On Tuesday, Chipotle (NYSE:CMG) reported results for the fourth quarter and full year of fiscal 2020.

Revenues in the quarter increased 12% to $1.4 billion, attributable to 6% growth in units (ending the year with 2,768 locations) and a 6% increase in comparable store sales (comps).

Considering that the company's operations are still being materially impacted by the pandemic, with 40% of dining rooms closed (and the others only offering limited seating), that's an impressive result. Comp store sales in the fourth quarter benefited from an increase in average ticket due to customer adoption of premium offerings like carne asada and cauliflower rice, a higher digital business mix (higher average check than in-store orders) and a delivery menu price increase.

For the entirety of 2020, comps increased 2%, with meaningful headwinds during the heart of the pandemic (second quarter comps -10%) masking an otherwise positive year. Importantly, as shown below, the company's two-year stacked comps held in the 20% range in the fourth quarter despite a resurgence in Covid-19 cases.

For the year, Chipotle's revenues increased 7% to $6.0 billion due to the aforementioned low-single digit comps and a mid-single digit increase in the number of stores. As shown below, Chipotle's unit count has increased by ~155% over the past decade (~10% CAGR), a meaningful contribution to the cumulative ~225% increase in annual revenues over the same period.

In the past few years, particularly since the pandemic began, non-traditional orders have been a meaningful driver of growth for Chipotle. For the year, digital sales increased by more than 170% to $2.8 billion, accounting for nearly 50% of Chipotle's business. To put that in context, digital orders totaled $250 million in 2016 – less than one-tenth of the level reached in 2020.

As CEO Brian Nicol noted on the call, management is not resting on their laurels; they are looking for new ways to further improve the guest experience, as well as Chipotle's long-term growth opportunities:

"We will not allow complacency to set in; rather, we will continue to look for ways to further enhance our digital ecosystem. For example, we just announced a car side pickup pilot in San Jose as an additional access point for our guests. In addition, we are opening up more and more Chipotlanes and are in the early stages of testing alternative formats like our first ever digital only restaurant outside of West Point. This new prototype allows us to enter more trade areas that wouldn't support a full-size restaurant and allows for greater flexibility with future locations. It's early days, but this location has outperformed our expectations thus far."

Speaking of Chipotlanes (Chipotle's name for its fast food drive-thru lanes, with the twist that orders must be placed online), the company added 161 of these format stores in 2020, at the high end of the range for the year (150 – 165 units). As noted on the call, of the roughly 200 stores that the company plans on opening in 2021, more than 70% are expected to have a Chipotlane.

Despite the low-single digit increase in same store sales, restaurant-level operating margins contracted 310 basis points for the year to 17.4%. As a result, non-GAAP earnings per share (EPS) declined by more than 20% to $10.70 per share.

Considering that the stock trades for more than $1,400 per share, or 140 times trailing earnings, surely there's something else going on. The answer seems to be that the bulls expect meaningful operating leverage as the business reports higher comps and unit volumes, as well as a tailwind from a rising digital mix.

As management has told investors many times, and reiterated on the fourth quarter call, they believe that the business can generate 25% restaurant level operating margins (or better) when average unit volumes (AUV's) increase to $2.5 million – implying nearly 800 basis points of margin expansion over the next few years (for context, AUV's were roughly $2.2 million over the trailing twelve months).

Valuation

All-in, 2020 was a strong year for Chipotle. While management did not provide 2021 guidance, I'm personally confident that this year will be another step in the right direction for Chipotle (as management noted, they're off to a solid start, with January comps +11%).

I believe that the company's digital business puts them in a position of strength relative to restaurant peers (supported by the rewards program, which has more than doubled in size over the past year to 19.5 million members).

However, as I've argued in the past, much of this is accounted for in today's stock price. By my math, assuming mid-single digit annual comps, mid-single digit unit growth, meaningful margin expansion (reaching 17% operating margins in the terminal period) and $500 million to $1 billion a year of repurchases, 2025 earnings could come in at1 $55 to $60 per share. Said differently, the stock is trading at roughly 25 times earnings five years out – and that assumes things go well over that period (as we saw a few years back, that is far from assured).

At that point, the company would have nearly 4,000 locations, or roughly 70% of their market opportunity in the United States. As Mr. Niccol noted in his opening remarks, the company now believes that there is room for at least 6,000 Chipotle locations in the U.S. over the long run.

That's a long way of saying that I continue to believe there's a fair amount of optimism embedded in today's valuation. Personally, I think the price I'm being asked to pay is still too high. For that reason, I'm not currently interested in investing in Chipotle.

Disclosure: None

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About the author:

The Science of Hitting
High-quality businesses for the long-term.

In the words of Charlie Munger, my approach is \"patience followed by pretty aggressive conduct.\" I run a concentrated portfolio, with the top five positions accounting for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

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