A year ago it would have been difficult to imagine a restaurant stock having a solid 2020. Yet judging by results released early last month, Chipotle (CMG) appears to have managed just that. The Mexican-themed chain posted annual sales of around $6b last year, a 7% rise on 2019 levels. Comparable restaurant sales (“CRS”), which strip out the contribution of new restaurants that are less than a year old, increased 1.8%. These figures are all the more impressive given they include the horror show that was Q2 2020. Fourth quarter sales of $1.6b were up over 11.5% on the 2019 period, with fourth quarter CRS rising 5.7%. Chipotle stock is up over 160% in the past 12 months.
A few things have driven that sales growth despite the negative hit from COVID to indoor dining. Firstly, digital sales exploded. They were up over 170% versus 2019 levels and constituted $2.8b of the firm’s total 2020 sales. Almost half of sales in the fourth quarter were digital – either for delivery or folks opting to pick up from a restaurant. Secondly, Chipotle still opened new outlets last year, albeit at a slower pace than before COVID. The firm added 161 outlets in 2020, 146 net, an increase of around 6% versus 2019. Just over 60 of those opened in the fourth quarter. Thirdly, the firm raised menu prices for delivery orders later in the year in order to offset delivery costs. Finally, increased demand associated with limited-offering Carne Asada.
One of the major talking points here is whether Chipotle can ever realize the profit margins it enjoyed prior to a foodborne illness outbreak that rocked the firm a few years ago. Back then, California-based Chipotle posted store-level margins in high-20s area. It then suffered a brutal reversal in operating cost leverage as rapidly tanking sales still had to be spread over its fixed cost base. In the space of a year Chipotle was looking at around $10k per week in terms of lost revenue per store. It also took on extra costs associated with food safety, plus higher advertising in order to support its brand.
Obviously COVID threw another spanner in the works last year. Its restaurant level operating margin came in at 17.4% for the year, down from 20.5% in 2019. The company took on extra costs directly associated with the pandemic – like paying employees exposed to the virus to stay at home – as well as indirect costs such as product mix as folks ordered fewer higher margin beverages. Then there is delivery, which now makes up around 25% of Chipotle’s business. Chipotle has to pay third-party delivery providers like Grubhub a slice of each ticket they deliver. The company raised delivery menu prices to offset this in dollar terms, though that still means lower margins overall.
Whether the store-level margin eventually recovers to its 2015 peak as dining rooms reopen post-COVID remains to be seen, though management is confident it will get close assuming sales per store hit the $2.5m mark. Obviously there are a lot of moving parts – digital and delivery possibly shifting back indoors, labor costs and minimum wage hikes, and so on. Still, margins in the 20% range stack up well versus peers.
At the risk of stating the obvious, there is clearly a lot to like here. The company’s store count has increased from circa 1,000 to over 2,700 over the past decade, while the average take per store has increased from $1.8m to $2.2m over the same period. Prior to its food safety issues in 2015, the average Chipotle store brought in just shy of $2.5m each year. Management have floated the figure of 6,000 restaurants in terms of future growth potential.
Aside from more outlets, the firm also has a few levers to pull in terms of comparable store sales growth. That includes the aforementioned digital and delivery, plus things like the “Chipotlane” drive-thru. Chipotlanes allow customers to order ahead and then pick up from their cars. They cost around $70-$100k to build, but currently add around $200k in incremental per-store sales. New menu items like quesadillas and cauliflower rice are also boosting growth right now. Daypart expansion might eventually play a part, though that is perhaps a more complex endeavor. Management recently stated that January CRS growth was in the 11% range.
On top of that, Chipotle operates a very clean balance sheet. Free cash flow amounted to around $290m last year, and with no dividend most of that simply accrued to its net cash position. Buybacks have been deployed in the past though not in recent quarters for obvious reasons. Chipotle ended last year with zero financial debt and around $1b in cash and short-term investments. Lease liabilities amount to around $3.1b.
The valuation is where it all gets a bit tricky. Chipotle stock currently changes hands around the $1,475 mark. 2020 adjusted net income clocked in at $305m, or circa $10.73 per share, albeit again heavily impacted by the pandemic. Fourth quarter net profit increased to $99m, or $3.48 per share, from $81m in the 2019 period. Management refrained from providing guidance but consensus estimates point to 2021 EPS of circa $23 and 2022 EPS of circa $30. Quick math suggests Chipotle stock trades at a lofty looking 50x next year’s earnings.
Chipotle’s estate is entirely company-operated, so its 6,000 store goal will take a while to reach. The firm plans to open around 200 new outlets this year, which is roughly in line with its pre-COVID rate. That suggests a 10-15 year period in terms of reaching its 6,000 store target, which is a long time in a fiercely competitive industry that doesn’t lend itself easily to sustained competitive advantages. The company obviously has hit on a winning formula and store-level numbers look good. It is a solid business. But it trades as though 6,000 outlets bringing in $2.5m-plus each at pre-2015 margins is a foregone conclusion.
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