With the rapid spread of coronavirus causing many diners to avoid restaurant food, it should be no surprise that Chipotle Mexican Grill's (CMG 6.12%) sales trends abruptly turned negative last month. Furthermore, to counter the sharp slowdown in restaurant traffic, the chain has been offering free delivery for orders over $10, weighing on its profitability.
That said, the fast-casual pioneer's first-quarter earnings report showed that Chipotle was continuing to gain momentum before the COVID-19 pandemic spiraled out of control in the United States. Furthermore, the chain continues to do an adequate amount of business to minimize short-term cash burn. These are promising signs that Chipotle can survive the coronavirus downturn without making debilitating cuts -- and that it will emerge even stronger on the other side.
Another excellent quarter, pre-coronavirus
Chipotle has reported steadily accelerating growth ever since Taco Bell veteran Brian Niccol took over as CEO in early 2018: a testament to the success of his strategy for revitalizing the brand.
At the time Niccol took the helm, Chipotle's comp sales growth was stuck in low-single-digit territory and the average Chipotle was doing less than $2 million in annual sales, down from a peak of more than $2.5 million several years earlier. By the fourth quarter of 2019, comp sales growth had accelerated to 13.4%. For 2019 as a whole, comp sales surged 11.1% and average unit volumes rebounded to $2.2 million, enabling Chipotle's profitability to begin recovering in earnest.
Chipotle has been on a roll ever since Brian Niccol became CEO. Image source: Chipotle Mexican Grill.
This momentum continued for most of last quarter. Excluding the impact of the leap day, comparable sales rose 12.3% year over year in the January-February period. Chipotle saw a similar level of growth in the first week of March. Restaurant-level margins were close to 22% during this period: up by about 1 percentage point year over year. In short, as of March 8, Chipotle was on pace to continue its recent streak of rapid revenue growth and steady margin expansion.
Chipotle can withstand the coronavirus damage
Chipotle's sales trends quickly deteriorated beginning in the second week of March, culminating in a 35% comp sales decline for the week ending March 29. As a result, comp sales for the full quarter increased just 3.3%, while total revenue rose 7.8%. Restaurant-level margin fell to 17.6% from 21% a year earlier, but adjusted earnings per share declined less than 10% to $3.08, helped by tax benefits related to management stock-option exercises.
Fortunately -- and somewhat surprisingly -- sales trends have already recovered somewhat, even though stay-at-home orders remain in effect for the vast majority of the U.S. Adjusting for the timing of Easter, comp sales declines had moderated to the high teens by mid-April.
If sales trends were to remain near that level, Chipotle would expect to burn through roughly $30 million to $40 million of cash on a monthly basis, with roughly breakeven cash from operations and $30 million to $35 million of monthly capex.
Chipotle could trim some of that capex if necessary, but it wants to continue many of its high-priority projects. With $909 million of cash on the balance sheet and no debt as of March 31, it certainly seems unlikely that Chipotle will face a cash crunch, even if it maintains its current spending plans.
Short-term pain but long-term gain
While Chipotle's 2020 financial results will suffer due to coronavirus, the current crisis could actually benefit the company in the long run.
As my Foolish colleague Jeremy Bowman recently discussed, Chipotle will have better access to quality real estate in the years ahead and will face less competition as weaker restaurants are forced to close. The current situation has also given a huge boost to its ongoing digital growth initiatives. In the first few weeks of April, in-store ordering declined by 75% but delivery and order-ahead sales both more than doubled compared to the prior-year period. This boosted the digital sales mix to nearly 70%, compared to an average of 18% in 2019.
Customers who hadn't previously taken advantage of Chipotle's digital ordering options may continue to order through the app even after the pandemic ends. In theory, this could be a double-edged sword, insofar as delivery orders typically carry lower margins. However, there's a good chance that once Chipotle ends its free delivery promotion, the digital order mix will tilt back toward order-ahead for pickup at a store (or a Chipotlane drive-thru lane). These are Chipotle's most profitable transactions. And if the convenience of delivery leads customers to order from Chipotle more frequently, the lower margin structure of those orders would be an acceptable price to pay.
Thus, there are good reasons to expect Chipotle's sales to bounce back quickly once customers return to their normal habits. And if anything, the chain's growth potential for the next five years or so has increased. While Chipotle stock trades for more than 60 times the company's 2019 earnings, it still has plenty of long-term upside because of its substantial potential for sales growth and margin expansion in the years ahead.
