Chipotle Could Cut Costs by Rewarding Its Customers With Burritos

The rise of Chipotle (NYSE: CMG  )  has been driven by the vision of its management, which includes environmental sustainability. So Chipotle issued a challenge to technology industry teams at the Food + Tech Connect event Hack // Dining NYC.

The challenge description included a wide variety of areas in which restaurants could improve that included more use of natural light, the reduction of food packaging, and operational throughput. Throughput has been an issue for Chipotle's competitor Panera Bread  (NASDAQ: PNRA  ) , which is why Panera has rolled out upgraded and customized ordering through a mobile app with its Panera 2.0 initiative.

Big burritos
One team, Just Right, discovered that most of Chipotle's customers don't eat their entire burritos. This makes sense, because these burritos are very large and that's been one of the chain's selling points in the past. Specifically, the team learned that 57% of the customers in their survey didn't finish their burritos. While Chipotle could just shrink the size of its burritos in response to this, it needs a way to ensure that customers still feel like they're getting a good deal.

Just Right came up with a suggestion for an app that would reward Chipotle customers for ordering burritos that contained fewer ingredients. A customer who cut back would receive loyalty points, which the team called peppers. In the proposal, the team suggested rewarding a customer with a free burrito for 50 peppers. Chipotle liked this proposal so much that the Just Right team won the contest and received a reward from the burrito maker.

Financial impact
The team performed a financial calculation at the end of its presentation that showed that implementing this project could have a very large impact on Chipotle's financials. Specifically, using Chipotle's 2013 numbers, the chain would cut costs by $107 million on $3.21 billion in sales, or 10% of its food, beverage, and packaging costs. Chipotle reported $327 million in total income that year, so if this project had been in place then and the projection came true, Chipotle would have reported 33% more income for the year.

Chipotle hasn't said anything about whether it actually plans to implement this project yet. However, its margins did come into focus with its last earnings report. Food, beverage, and packaging costs came in at 34.5% versus 33% in the first quarter of 2013, and as a result operating margin dropped from 16.5% in the prior quarter to 15%. The stock sold off after Chipotle announced that it would raise prices in response to this, but its stock price recovered later and is now over $600 versus $552 on the day before the release.

The competition
Panera Bread has also seen higher costs recently. Food and paper costs rose from 26% of sales in the first quarter of 2013 to 26.3% of sales in the first quarter of 2014. Panera is investing in its Panera 2.0 project so its margins should see continued pressure over the short term; however, the Panera 2.0 upgrades should pay off over the long run in more efficient restaurants. Panera also adjusted its menu to offer greater portion control by allowing customers to order half-sized portions.

In addition to price competitiveness, the chain thinks that portion size flexibility could also bring in customers for snacks as well. Bringing in customers outside of the lunch hour can help any fast-casual restaurant, but it's especially important for Panera because of its throughput issues. If Chipotle decides to roll out smaller burritos, that might bring in customers for snacks at other times of the day as well, although anecdotally Chipotle restaurants have customers in line at any time of day.

Looking ahead
The results that came out last quarter showed that Chipotle had to either increase its prices or cut its costs to defend its margins. At the time, Chipotle seemed like it had selected price hikes, and after a temporary panic investors seem to be OK with that now.

However, that doesn't mean that Chipotle can't cut costs as well. The chain now has a way to cut costs without sacrificing food quality that might even allow it to reward its customers, and thus increase their loyalty, at the same time.

While there's no evidence that Chipotle will put this plan into effect thus far, if it does happen it could lead to a massive EPS boost for Chipotle that would provide more justification for its high valuation.

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Read/Post Comments (13) | Recommend This Article (11)

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  • Report this Comment On July 13, 2014, at 11:07 AM, jimatmad wrote:

    How about a smaller burrito?

    Drop the ingredients value by 20%-25%, and drop the price by 15%. Or something similar.

    I like all of the stuff I get in my Chipotle or I wouldn't order it, but, even though I'm not a small eater, I don't always finish.

  • Report this Comment On July 13, 2014, at 12:12 PM, jay1386 wrote:

    Here is what you find interesting. Chipotle was warned with these ideas years ago. They refused to listen and now are raising prices. Your idea is good but our Finance team another one that was brought to Chipotle to save the stock prices and profit.

    Our idea was what we found in research. We asked Chipotle to simply use "measured spoons" as we found the burrito construction was being overrun with up to $1.00 of ingredients per burrito. Had they implemented that, they would have saved or gained over 100 million per year. It's a shame so many great ideas have come and they have refused or remained stubborn.

  • Report this Comment On July 13, 2014, at 1:22 PM, GeaugaTruck wrote:

    It was always my opinion that Chipotle's burritos were chintzy on ingredients (not nearly enough meat & veggies and too much rice & beans) to suit me.

    Qdoba and other local burrito stores offer better ratios of premium to lesser costly ingredients.

  • Report this Comment On July 13, 2014, at 1:32 PM, GeaugaTruck wrote:

    I'll have to remember that when I want a "measured" ingredient burrito. For nearly the same price I can order a fajita elsewhere and assemble it MY WAY.

    When I order a "steak" burrito, I expect that steak will be the predominant ingredient. Not so at Chipotle, they toss in a few pieces of steak and load it up with "filler" ingredients.

    The "bean counters" have to get their noses out of Burrito construction.

  • Report this Comment On July 13, 2014, at 1:35 PM, ETFsRule wrote:

    Just finish your burritos, people!

  • Report this Comment On July 13, 2014, at 2:55 PM, PeoplePerson wrote:

    "Chipotle Could Cut Costs by Rewarding Its Customers With Burritos" Nice try! Next make an article about "Ford Could Cut Costs by Rewarding its Customers With Trucks" and see if they'll give those away.

  • Report this Comment On July 13, 2014, at 4:20 PM, sheerblather wrote:

    I would love it if they would stop over-stuffing the burritos in the first place. I only ask for barbacoa, rice, black beans, some hot salsa and a little sour cream, and my local Chipotle burrito makers insist on stuffing it to the point that the sour cream comes gushing out of the folded edge. It has become so unappetizing to me that I now usually order the burrito bowl instead (which still has too much food in it, but at least it is not so sloppy.)

    Of course, they could also handle the over-stuffing issue if they would use larger tortillas and steam them first, as well as steam them again after preparing the burrito - just as the classic California Mission burrito is prepared at the best burrito shops in the Bay Area. But now I am just getting picky.

  • Report this Comment On July 13, 2014, at 4:27 PM, jay1386 wrote:

    @GeaugaTruck If you think twice you'll be the genius in your family.

    That's precisely the point. If it was measured you wouldn't get "jipped" on steak. Some people get 1 ounce of steak on their burrito, and others get more. If the ingredients were measured you would get so much filler.

    Happier Customers, and Increased Profit. It's impossible to refute.

  • Report this Comment On July 13, 2014, at 5:21 PM, johnnya2 wrote:

    @jay,

    Measuring is a HORRRIBLE idea. It was a fad in the bar business several years ago. Customers HATED it. They wanted to see the free pour. It is that same concept at Chipottle. If the guests sees it being made they do not want to see it being measured. They want to think they are getting a huge VALUE. When it is measured there is no value proposition. Training employees to portion correctly is the answer, just the same as it was in the bar business. I would say that if they had followed that suggestion, Qdoba, Moes or some other burrito chain would over take Chipotle.

  • Report this Comment On July 13, 2014, at 5:39 PM, rdchili96 wrote:

    Mexican Grill being next to Chipotle is moronic, it's not Mexican food they serve.

    Taco Bell also is NOT Mexican food.

    People have no clue what Mexican food really is.

    A Burrito is NOT Mexican food.

    People in this country have no clue what "Mexican food" really is.

  • Report this Comment On July 13, 2014, at 9:18 PM, bnrusso wrote:

    Sorry but the only time I ever ate at Chipotle was when they handed out free lunch when they first opened. TOO EXPENSIVE!! That goes for ChickfilA too. I'll also never eat at FiveGuys either. For $7 or more I'll stick with Golden Corral or anywhere you get more value in my book.

  • Report this Comment On July 13, 2014, at 9:34 PM, rattyroddy wrote:

    Maybe customers like myself just stopped going because of their idiotic anti gun campaign

  • Report this Comment On July 14, 2014, at 10:01 AM, Jacjac wrote:

    The last few times I've spent in Chipotle I noticed my portions were smaller and the cost had increased. The company should see their profits increase or at least break close to even from this. I think they should pacify customers with rewards cards. After purchasing so many burritos you get one free. This rewards loyalty as well as cause customers to feel they're not getting totally shafted.

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