One Number Explains Why Chipotle Is a Buy

Given the premium valuation placed on shares of Chipotle Mexican Grill (NYSE: CMG  ) , investors are constantly assessing the Chipotle growth story for cracks. Many headlines focus on store openings, while others focus on "the next Chipotle," whether it be Chipotle-owned concepts like ShopHouse Asian Kitchen and Pizzeria Locale or rapidly expanding companies like Zoe's Kitchen (NYSE: ZOES) or Noodles and Company (NASDAQ: NDLS). In each case,  the focus is on store count and hints as to whether Chipotle can exceed 3,000 locations in the United States and add meaningful growth internationally or whether there is a more promising growth story within its peer group.

For clarity, expanding store count is a key to the investment thesis of most restaurants including Chipotle. However, there is another metric that sets Chipotle apart: same store sales (SSS)  growth. SSS growth demonstrates a number of critical factors that differentiate Chipotle from its peers in the growing genre of fast casual by providing tangible evidence that the concept is growing in popularity even after the initial buzz of a new location inevitably fades. In contrast to competitors such as Panera Bread (NASDAQ: PNRA  ) and Potbelly (NASDAQ: PBPB  ) that have struggled to generate reliable SSS growth, Chipotle has excelled over the past year.

Tremendous SSS growth

Source: chipotle.com

During the most recent quarter, Chipotle increased SSS by a staggering 13.4%. This was the highest quarterly increase since 2006 and was achieved through traffic increases. With Chipotle's first price increase in three years not beginning until the second quarter, catering comprising just 1% of sales, and average check prices increasing just 2%, this double digit increase represents more customers walking in the door than ever before. It is hard to find a more clear validation of the company's "food with integrity" mantra and its value proposition to customers.

13.4% growth in SSS is tremendous considering this is the same quarter when many restaurants have cited weather as an excuse for poor performance during fourth quarter earnings calls; apparently burritos are not as susceptible to the cold as sandwiches from Panera and Potbelly. Chipotle's strong SSS growth is a continuation of a long-standing trend that had a brief hiccup at the beginning of 2013 but appears to be back on track: 

  Q1 2013 Q2 2013 Q3 2013 Q4 2013 Q1 2014
Chipotle 1% 5.5% 6.2% 9.3% 13.4%
Panera 3.3%  3.7%  1.3%  1.1%  N/A 
Potbelly (0.3%)  3%  2.5%  0.7%  N/A 
Noodles 2.2%  4.4%  2.1%  3.9%  N/A 
Zoe's 10.4%  5.5%  7.7%  3.8%  N/A 

Source: Company earnings releases
N/A-Company has not released Q1 2014 results 

 

While none of Chipotle's fast casual peers have reported results for the first quarter, guidance drives an expectation that the trends noted above will continue; for example, Panera expects SSS growth in 2014 to be in the 2-4% range.Meanwhile, Chipotle's continued expansion of catering and mid-single digit price increases are going to drive SSS growth in addition to the consumer traffic patterns that have generated strong growth in the past.  The result is guidance from Chipotle's management of SSS growth in the high single digits excluding the impact of price increases (translation: low double-digit SSS growth including the impact of price increases). 

Of the group listed above, only Zoe's SSS growth stands out as a rival to Chipotle. It is certainly worth keeping an eye on the growth opportunity Zoe's presents with its current store count of just 111 and plans for rapid expansion. However, as the smallest and least-proven concept of the group, there is certainly elevated risk to an investment in Zoe's that investors should understand. 

Best of the best
Chipotle continues to demonstrate why it is at the head of the class among fast casual companies. Strong SSS growth discussed above combined with store openings is a powerful combination that led to revenue growth of over 24% in the first quarter. With 44 locations opened in the first quarter and guidance that a total of 180-195 new locations will be opened during 2014, Chipotle is expected to continue to grow the top line at a rapid rate.

Unlike Zoe's and Potbelly, Chipotle is consistently profitable. Chipotle has also demonstrated a consistent pattern of earnings growth at a faster rate than Panera, which puts the company in the sweet spot within this peer group. Despite having a market capitalization that is significantly higher than any of these pure play fast casual brands, Chipotle is still delivering growth and has the potential for plenty more with the ability to double its store count in the United States, expand internationally, and roll out ShopHouse and Pizzeria Locale.

The first quarter's strong growth justifies Chipotle's premium valuation of just under 32 times 2014 earnings. The stock may not seem "cheap" by conventional metrics, but the growth story is as strong as ever and the stock has recently pulled back over 20% from its high just a month ago. The combination of a reinforced investment thesis and more reasonable valuation make Chipotle an interesting investment idea as shares hover near $500.

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