Chipotle Mexican Grill: Good Food, Great Service, Even Better Stock

Source: Thinkstock

Source: Thinkstock

Chipotle Mexican Grill (NYSE:CMG) is one of my favorite places for lunch. It is also a stock that I wish I had owned. I know what people are thinking. At 60-70 times earnings, this stock is way overpriced. Yeah, I heard the same arguments with Amazon (NASDAQ:AMZN). And yet, despite trading at hundreds times earnings, Amazon’s run continued and is still disgustingly overvalued. Why not for Chipotle? Well I think Chipotle will follow the Amazon model. I see its valuation stretching further as the operator of over 1,600 Mexican style fresh quality restaurants on the back of another amazing quarter.

Just how good are talking? Fantastic actually. Revenue for the quarter skyrocketed to $1.05 billion, up 28.6 percent from the second quarter of 2013. Where did the growth come from? Well it was primarily driven by a 17.3 percent increase in comparable restaurant sales and from the opening of new restaurants as well. In fact, the company opened 45 new stores during the quarter, bringing the exact total to 1,681. Comparable restaurant sales growth was driven primarily by increased traffic and to a lesser extent from an increase in average check size, which includes the benefit of the nationwide menu price increases that were fully rolled out by the end of the quarter in addition to larger orders.

There were some small concerns, but nothing to worry about in my opinion. For example, food costs were 34.6 percent of revenue, an increase of 150 basis points, driven by increased prices for beef, avocados, and dairy, partially offset by the menu price increase and lower tomatillo prices. This led in part to restaurant level operating margin coming in at 27.3 percent in the quarter, a decrease of 30 basis points from the second quarter of 2013. Administrative costs also rose. They rose to 7.1 percent of revenue, an increase of 90 basis points due to higher stock compensation and bonus expenses, partially offset by favorable sales leverage.

At the end of the day, despite slightly higher costs, Chipotle killed it. Net income for the second quarter of 2014 was $110.3 million, or $3.50 per diluted share, compared to $87.9 million, or $2.82 per diluted share, in the second quarter of 2013.

Steve Ells, Founder, Chairman and co-CEO of Chipotle, stated, “We’re pleased that we continued to drive excellent results in the second quarter, including one of our strongest sales comps as a public company. These extraordinary results are made possible by our special food culture, innovative people culture, and strong business model that are not only creating significant shareholder value, but also helping us realize our vision to change the way people think about and eat fast food.”

Looking ahead, Chipotle serves good food, with great service, but the stock is even better. I believe it may follow the Amazon path of ridiculous valuations based on expectations. Chipotle is growing at a healthy clip. For 2014, management expects 180 to 195 new restaurant openings and seeing comparable restaurant sales increases in the mid-teens. While Chipotle has had rough quarters in the past and costs are rising, these will be offset by growth, operational efficiencies and investor sentiment as it relates to the stock. As such I am upping my prior price target which has been blown away, from $630 to $700.

Disclosure: Christopher F. Davis holds no position in any stocks mentioned and has no plans to initiate a position in the next 72 hours. He has buy rating on Chipotle and a $700 price target.

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