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Robert Stephens, CFA
Robert Stephens, CFA
Articles (230) 

Why Chipotle Has Upside

The company’s innovative strategy could boost its stock price

July 26, 2019 | About:

Chipotle Mexican Grill Inc.'s (NYSE:CMG) financial prospects could be enhanced by its investments in digital growth opportunities. The quick-service restaurant is seeking to improve the customer experience through its increasing focus on innovation, while aligning itself with changing consumer tastes.

Although the company’s stock has climbed 64% versus a gain of 7% in the last year for the S&P 500, it offers further upside.

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Innovative strategy

Chipotle’s investments in its loyalty program could catalyze its sales performance. The program has 5 million members following its launch in the first quarter of 2019, with early results showing members are increasing their dining frequency after they join the rewards program. The company is seeking to harvest a greater amount of data on customer purchasing habits from the program, which it will use to personalize offers. This could increase customer engagement and lead to greater repeat business from loyalty program members.

The restaurant chain's increasing focus on innovation may strengthen its competitive position. For example, it is investing in new ovens that are improving the quality and taste of  menu items. Its new ovens may also become the platform for new menu items, such as desserts and nachos. In addition, its Lifestyle Bowls, which were launched in the first quarter, are resonating with customers as they appeal to health-conscious consumers.

Digital opportunities

The company continues to expand the availability of its delivery service. Delivery is now available from over 95% of its restaurants, with Chipotle having digital production lines in almost 2,000 of its restaurants.

The business is also investing in enhanced capabilities in its app and website as it seeks to maintain digital sales growth of 99% in the most recent quarter. For example, it will leverage social media campaigns that offer promotions such as free delivery to make its brand more visible in the delivery space. In addition, it is seeking to improve the functionality of its pre-ordering facility in order to increase speed and convenience for customers. This could lead to a better guest experience, differentiating its restaurants from those of sector peers.

Threats

Chipotle’s financial performance could be negatively impacted by a labor shortage. This has been prompted by a fall in the U.S. unemployment rate to a 50-year low of 3.6% in the second quarter. A shortage of labor means that staff costs across the restaurant industry are rising rapidly. For example, in the first quarter, the restaurant industry’s average labor cost as a percentage of sales increased 50 basis points to 32%. A number of jurisdictions in the U.S. plan to further increase the minimum wage. This could put additional pressure on the company’s overall cost base.

In response, Chipotle is seeking to reduce employee turnover through offering bonuses to its staff. It will award bonuses at the end of each quarter to employees working in stores that meet their sales goals. The bonuses will amount to one week’s pay and are available to workers who have been employed for the full quarter. While staff bonuses will further increase the company’s labor costs, they are expected to improve food preparation consistency and overall efficiency.

Chipotle is also expanding its employee tuition assistance program along with a number of other worker benefits. This could lead to improved morale among its staff, as well as higher levels of customer service.

Outlook

Chipotle is forecasted to post a 29% increase in earnings per share in the next fiscal year. This helps to justify its forward price-earnings ratio of 58, with its growth strategy having the potential to catalyze its profitability in the long run.

Even though the stock has outperformed the S&P 500 in the last year, it offers further capital growth potential.

Disclosure: The author does not have any positions in any companies mentioned.

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