Stock Touches All-Time High, As Chipotle Fills In The Gaps

Chipotle Mexican Grill (NYSE:CMG) continues to impress investors with yet another strong quarter, as the company reported a net revenue growth of 14.1% year-over-year (y-o-y) to $1.2 billion in the second quarter of fiscal 2015. In Q2 2015, the comparable store sales growth for the company was just 4.3%, massively down from 17.3% in second quarter last year. Moreover, the company’s net income for the quarter rose 27.1% y-o-y to $140.2 million, which is an impressive figure given the tough comparison with last year’s Q2. ^[1] However, soon after the release of the report, the company’s stock price reached its all-time high, with an approximate 8% jump to $724, despite the slowness in the comparable store sales growth.

After the Q2 report, we have a $708 price estimate for Chipotle, which is less than 3% below the current market price.

See Our Complete Analysis For Chipotle Mexican Grill

Unique Food Culture & Additional Pork Supplier Improves Customer Sentiments

One of the major factors for Chipotle’s success in the recent past is its unique food culture and the use of organic food ingredients, to cater to the current hygiene concerns of the customers. With its innovative and delicious food items, Chipotle’s ‘food with integrity’ campaign has been its primary driver for attracting more customers. The company has always made their decisions keeping the customers’ preference in mind, and has never compromised on the quality of the food products. During the second quarter, the company completed its transition to the use of only non-GMO (genetically modified organisms) ingredients for the production of all the food items. This transition has received positive response from a majority of the customers.

Moreover, during the first quarter, the company suspended one of its pork suppliers in the U.S. after a recent audit, on claims of below standard animal welfare protocols. This affected the supply of Carnitas to about one-third of the company’s outlets. However, the decision of the company to not shift to pork from conventionally raised pigs went down well among the customers. The company managed to counter the shortage with the addition of a new pork supplier, Karro Food Group of the U.K., which has already started serving pork to the company’s restaurants in Florida. This has certainly brought some relief to the company, who was struggling with a shortage of pork to be used in its Carnitas. ^[2] The effect of a new pork supplier will be visible in the next few quarters, and we can expect improvement in the customer traffic and comparable sales growth.

Price Hikes On Concerns Over Increasing Beef Prices & Minimum Wage Hikes

USDA estimates beef production to decline in 2015, with less than 23.7 billion pounds of expected beef production. ^[3] Chipotle mentioned that the price increase taken in Q2 2014 got offset due to commodity inflation in the last 12 months. As a result, the company decided to increase the prices of steak and barbacoa, with beef prices increasing by 14.4% overall, whereas beef costs added roughly 100 basis points to the company’s food costs. The hike might seem reasonable to some customers, given the fact that beef prices are expected to increase further in 2015.

Furthermore, a minimum wage hike in the San Francisco region forced the company to raise prices by 10% in 10 of its San Francisco restaurants, and by 7% in 74 restaurants outside San Francisco region. Chipotle’s restaurants in other cities such as Chicago and Orlando also witnessed moderate (0.5% on average) price hikes. ^[4] Consequently, in Q2 2015, restaurants level margins increased 70 basis points to 28%.

Focus On New Store Development

Chipotle Mexican Grill opened a total of 48 net new restaurants in the second quarter, which means a total of 97 net new restaurants so far for the year, bringing the total company store count to 1,878. Chipotle is in-line with its development guidance of 190-205 net new restaurants this year. However, after the end of Q2, the company opened a new restaurant in London, aimed at strengthening the customer base in the area. The London restaurant is already a success, as the company’s UK throughput improves to 229 transactions during the peak lunch hour. On the other hand, Chipotle’s restaurants in Canada have been performing at par with the company’s expectations for a long time now. As a result, the company has finally decided to accelerate the pace of development in Canada.

With massive improvement in these two high growth markets, the company can now plan its expansion strategy in other potential high growth markets. Trefis currently estimates the number of restaurants to reach close to 2,160 by the end of 2016.

Chipotle kept most of the full year’s guidance unchanged, with new restaurants openings on the higher end of the 190-205 range, and low-to-mid single digit comparable sales growth. Moreover, with a new pork supplier, and possibilities of Carnitas back in all stores by the end of the year, we can expect robust growth in the second half of the year.

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1. Chipotle Mexican Grill, earnings call transcript [↩]
2. Chipotle adds British pork supplier to ease Carnitas shortage [↩]
3. World Agriculture Supply and Demand Estimates, USDA July 2015 [↩]
4. Chipotle’s S.F. price jump mirrors minimum-wage hike [↩]