CMG: SIMPLY INCREDIBLE

CMG continues to be one of our core longs.

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Comps: CMG delivered +17.3% comp growth in the quarter, beating estimates of +10.2%, led by traffic and, to a lesser extent, a +5% increase in average check (+2.5% price; +2.5% benefit from catering/side orders).  Management upped its FY14 comp guidance once again, from high-single digit growth to mid-teens growth.  Revenues of $1,050 billion (+29% YoY growth) beat consensus estimates by 6.10%.

Margins: Despite an accelerating topline trend, cost of sales inflation (beef, avocado, cheese) squeezed profits in the quarter – albeit to a much lesser extent than expected.  Management was able to leverage other lines, including labor and other restaurant expenses, in order to offset some of this pressure.  All told, Chipotle absolutely blew away expectations and the margin structure of the company moving forward looks quite rosy, particularly with a full price impact hitting in 2H14.

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Earnings: Adjusted EPS of $3.50 (+24% YoY growth) beat expectations of $3.09 by 13.34%.

Brief Analysis: As the title says, this was simply an incredible quarter.  Coming into the print, we were slightly cautious regarding food cost inflation and the one-month effect of a price increase.  We didn’t know CMG was going to deliver +17.3% comp growth, but neither did anyone else.  Declining margins are no longer a concern, because this will end next quarter.

Chipotle has rolled out a 6.25-6.50% price increase system-wide, which should, by our calculation more than offset any food cost inflation.  In fact, management indicated this price increase could lead to 30%+ restaurant level margins in a best case scenario.  This hinges on several assumptions: 1) consumers continue to be receptive to price increases 2) food costs don’t increase from here and 3) consumers don’t trade down any more than they already have.  Regardless, if Chipotle can run their restaurants anywhere close to 30% margins, we’ll consider it a major feat.  We’ve always preached that Chipotle has pricing power, but finally confirmed it with today’s release of our Hedgeye Consumer Survey.  What struck us most about the results is that younger consumers, Chipotle’s core target market, are least resistant to price increases.

Chipotle’s unique marketing message and ability to connect with consumers isn’t the only thing driving traffic.  They also continually deliver faster throughput, increasing peak hour transactions at lunch and dinner by eight customers a piece.  Catering comprised 1.6% of sales in the quarter and reached 2% of sales in established markets.  We continue to believe this can be a meaningful driver to sales and average check over the longer-term.

On Friday, we also reiterated our view that Street estimates for 2H14 were too low.  With that being said, and considering management’s new SSS guidance, we expect estimates to be revised up drastically over the next several weeks. 

What We Liked:

  • +17.3% same-store sales growth; +11.5% two-year average
  • Management upped its FY14 comp guidance once again, from high-single digit growth to mid-teens growth
  • Revenues of $1,050 billion (+29% YoY growth) beat consensus estimates by 6.10%
  • Adjusted EPS of $3.50 (+24% YoY growth) beat expectations of $3.09 by 13.34%
  • Performance speaks to the strength of leadership teams and operating crews
  • Unparalleled food culture
  • Have begun sourcing grass fed beef from Australia in order to uphold integrity
  • Marketing efforts are really resonating; establishing emotional connections with consumers
  • Throughput continues to improve; this quarter by 8 transactions at peak hour lunch and 8 transactions at peak hour dinner
  • AUVs for restaurants in the comparable base have surpassed $2.3 million for the first time
  • Catering hit 2% of sales in established markets
  • Expect opening sales volumes in the $1.7-1.8 million range; up from prior $1.6-1.7 million
  • Underlying economic earnings growth is stronger than implied
  • Repurchased over $37 million of stock in the quarter
  • Have $140 million remaining on current share buyback program
  • Saw frequency improve in the teen market across all different economic backgrounds
  • Considering building out smaller box units with much less seating (2/3 of customers takeout)

What We Didn’t Like:

  • Expect steak inflation to be considerable for the foreseeable future
  • Have seen some customers trade down from steak to chicken

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Call with questions.

Howard Penney

Managing Director

Fred Masotta

Analyst