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The Science of Hitting
The Science of Hitting
Articles (482) 

A Quick Look at Chipotle

A look at the fast-casual leader after 2nd-quarter results

July 27, 2017 | About:

Chipotle Mexican Grill Inc. (NYSE:CMG) went public in January 2006. Over the next decade, the company was firing on all cylinders: from 2005 to 2015, Chipotle reported average comp store sales growth in the high single digits. Average unit volumes (AUV) increased from $1.4 million to $2.4 million. The combination of attractive AUV growth and a four times increase in the store count (from 481 to 2,010) resulted in a decade of 20%-plus annualized revenue growth (from $630 million in 2005 to $4.5 billion in 2015).

With higher AUVs and a growing store base came operating efficiencies; corporate EBIT margins roughly doubled, with diluted EPS increasing more than 10 times in the decade to 2015. Even with limited financial leverage, return on equity was around 25%. In August 2015, the high watermark for Chipotle, the stock traded at $750 – a price-earnings (P/E) multiple of 50 times (on 2015 EPS of approximately $15 per share).

And then the bottom fell out.

After the company’s widely publicized food safety issues in October and November of 2015, customers fled. The business results reached their nadir in the first quarter of 2016, when comps fell 30%. Despite spending significant amounts of money on promotions and advertising to try and entice customers to return to its restaurants, full-year comps still declined 20% in 2016. As AUVs fell, deleveraging followed. The result was a black eye for the profits and losses: diluted EPS fell by 95% in 2016.

I think it is safe to say 2016 was all about crisis management (stop the bleeding). With the damage largely behind it, 2017 has been about getting the train moving in the right direction again. Personally, I think the Chipotle story is compelling. The unit economics are attractive, the balance sheet gives it some flexibility and there’s room for continued unit growth (even if you assume none of its other concepts will work). In addition, the board has incentivized management with highly challenging LTI plan targets that may suggest some internal optimism on how this might play out over the next few years (three-year performance period).

Those positive attributes are offset by recent results. The most notable example in my mind is the 8.1% increase in comps Chipotle just reported in the second quarter. While that sounds like a pretty good number on the surface, this result is lapping a -23.6% comp in the year-ago period.

The cumulative result since 2015 (the two-year stack) has been a 17% decline in same-store sales. Importantly, that result was practically dead-on with the first-quarter result. To me, this suggests the recovery may be losing some steam. The stores may have permanently reset at an AUV base well below where they were back in 2015. If that is accurate, and the current trend holds, comps in the fourth quarter (when the comparison gets a lot tougher) will be down 10% or so.

This concern was exacerbated by this comment on the conference call:

“We concluded that we need new news... To win new customers, attract lapsed customers and increase the frequency of our existing customers, we need to evolve the Chipotle experience and create more compelling reasons for customers to visit.”

Some customers that left because of the food safety issues have not returned – and they do not intend to do so unless Chipotle gives them a good reason (apparently all the promotions they have offered over the past year and a half do not qualify as a good enough reason).

The primary reason these lapsed customers have not returned is “boredom,” according to internal research. It sounds like these customers think the menu is stale. Management thinks adding queso and dessert may be the answer they are looking for. Time will tell.


From $750 in August 2015, Chipotle stock is now down more than 50% (to $340 per share).

The model I have built for Chipotle suggests a price in the low to mid-$300s per share makes sense with some pretty reasonable assumptions (at least, they are reasonable to me).

While I am tempted to buy some Chipotle shares, I have not (yet). Even if I did, it would be a relatively small position (to account for the fact it is unlikely I would ever make the stock a large holding in my portfolio). If the market is kind enough to keep pushing the stock lower, it will make my decision easier (fingers crossed). For now, I think I will stay on the sidelines.

Disclosure: None.

About the author:

The Science of Hitting
I'm a value investor with a long-term focus. As it relates to portfolio construction, my goal is to make a small number of meaningful decisions a year. In the words of Charlie Munger, my preferred approach to investing is "patience followed by pretty aggressive conduct." I run a concentrated portfolio, with a handful of equities accounting for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

Rating: 4.5/5 (8 votes)



Michael23 - 11 months ago    Report SPAM

Thanks for the good article. (you write many good articles)

I think CMG is not yet in the strike zone. There was a setback in the food safty issue (in Virginia, I read).

But this week I visted first time a Chipotle (I am German, and in Germany exists only one, so there alone would be many room for more stores. Mc Donald´s has 1487 and Burger King 701).

There was a people queue although there are many alternatives in this shopping center. I liked the food, only the Cola was not according to my taste (a German alternative brand, I prefer Coca-Cola).

Anyway, I fear value investors must continue to put patience to the test. Mr Market don´t offer bargains now.

The Science of Hitting
The Science of Hitting - 11 months ago    Report SPAM

Largely agree Michael. Thanks for sharing your thoughts!

Vgm - 11 months ago    Report SPAM
Thanks for the stimulating article, Science. I guess I was surprised to read of your interest in CMG, which seems to be a company that, by their own admission, needs turning around. Being devil's advocate, if I may, your intention to make it only a small position even if the price were to drop into your strike zone, would seem to suggest a lack of real conviction, and would not qualify as "pretty aggressive conduct". Do you think CMG has a sustainable moat, or could it be susceptible to competitive threat?

For what it's worth, at the DJ meeting a few months ago, Charlie Munger (Trades, Portfolio) was asked about Chipotle. He replied: "If you run a business where people have to trust your food, you just can't afford to have a scandal." It's not one of Charlie's more profound utterances, but it's perhaps a case of what he didn't say (ie, something positive) that's important here.

Thanks again!

The Science of Hitting
The Science of Hitting - 11 months ago    Report SPAM

Vgm - I think that's fair. The moat isn't as wide as I'd like - and subject to change IMO. As I noted in the article, some of the commentary on the Q2 call didn't help either. It sounds like they may have "permanently" lost a certain subset of customers (which supports your Munger quote).

Does it make sense to bother with a small position in a company that I'm probably not willing to make 15% - 25% of my portfolio (like CMG)? Maybe not. Or it could be that this is part of the tool kit that I'm still working on. I don't have a definitive answer for you.

Your comment has me thinking back to this article from Geoff Gannon:


I'll have to think more about this. Thanks for the comment!

Please leave your comment:

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