CMG reported better than expected 4Q09 earnings of $0.99 per share relative to my $0.84 per share estimate and the street at $0.81 per share.  The reported 2.0% same-store sales growth also beat the street’s 1.4% estimate, but fell 30 bps shy of my estimate as traffic, though positive in the quarter (+0.6%), did not improve to the magnitude I was expecting on a 2-year average basis. 


CMG margins improved much more than I anticipated in the quarter, enabling the company to post record level margins in 2009.  In the Q&A, management stated that current margins were sustainable, which was surprising given that its earlier comments signaled there would be increased pressure on margins in 2010.  Specifically, management maintained its guidance for flat same-store sales, saying that it does not currently have plans to take any pricing in 2010; though management did make a point of saying that it does have pricing power.  Additionally, when outlining its outlook for 2010, management said that it expects labor leverage to end or de-lever slightly.  It does not anticipate occupancy leverage as the majority of new restaurants will continue to open in more expensive areas with higher rents. Marketing expense as a percentage of sales should increase to 1.75% from 1.4% in 2009 and the company does not anticipate any G&A leverage.  To maintain margins in 2010, based on these expectations, would imply a lot of leverage on the food cost line, but management stated that it expects food costs to be relatively flat. 


When questioned directly about its statement about maintaining margins, management said that “when we talk about largely sustainable we are talking at more of a strategic level…. And so we think that largely these margins, we can sustain them.  Now it doesn’t mean we’ll sustain them each and every quarter, doesn’t necessarily that means that we’ll sustain it for the full year of 2010, but strategically these margins are things that our business model would allow us to hold on to.”  This response left me less surprised as I don’t see the company being able to sustain these peak margins in 2010, largely as a result of the cost pressures outlined by management, combined with the fall off in pricing. 


As I said earlier, management did say that CMG has plenty of pricing power and although no price increases are planned right now, if the company experienced food or wage inflation creeping in, it could take pricing.  These comments leave me thinking that CMG will take pricing in 2010 because wage inflation is likely and the company will be lapping the labor initiatives from 2009.  And, if traffic does not come back quickly, management will take pricing to offset any higher costs.  Despite management’s confidence in its pricing power relative to its competitors, increasing prices will only be a detriment to transaction growth.  That being said, even if management can take pricing in 2010, it cannot afford another 6% price increase to support margins.


Other interesting takeaways:


-Regarding early trends in 1Q10, management said, “We ran slightly positive transactions [in January] and then we hit the severe snowstorms in February and so it’s not possible for us to tell what the sustaining underlying trend would be. We have to let the weather clear and then see what happens.”


-Management also talked enthusiastically about its new marketing campaign, which it is set to launch in 2Q10.  According to management, the campaign will “speak more directly to Food With Integrity and our food culture but in a tone that our customers will recognize as Chipotle. This campaign will appear in print, outdoor, on radio and online in markets around the country beginning in the second quarter.”  I am less enthused about the prospects of this campaign as brand-specific messaging typically has little impact, but rather, advertising specific price points is necessary to really drive traffic.  The company is also developing a loyalty program, which is more interesting; though management did not provide too many details.





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