Chipotle (NYSE:CMG) is taking its investors on a ride this week as the company grapples with several major announcements. From the end of the CDC investigation to the release of its fourth quarter 2015 results and a companywide meeting that will briefly close all 2,000 of the the company's restaurants, management is hoping to focus the market on the future.
Meanwhile, Michael Kors (NYSE:CPRI) shares are up nearly 30% since the company released its fiscal third quarter results. Like its rival Coach, the company was able to avoid the malaise affecting much of the retail industry thanks to strength in e-commerce and international markets.
Sean O'Reilly and Vincent Shen discuss these stories and more on this episode of Consumer Goods Industry Focus.
A full transcript follows the video.
This podcast was recorded on Feb. 2, 2016.
Sean O'Reilly: Punxsutawney Phil predicts an early spring for 2016. Can he be trusted? All that and more on this Consumer Goods edition of Industry Focus.
Greetings, Fools! Sean O'Reilly here at Fool headquarters in Alexandria, Virginia. It is Tuesday, February 2nd, 2016. Joining me to chat burrito bowls, designer bags, and groundhogs is the irreplaceable Vincent Shen. What's up, man?
Vincent Shen: How are you, Sean?
O'Reilly: Not too bad. Punxsutawney Phil, he saw his shadow or didn't see a shadow? How's it work?
Shen: He did not see his shadow. Was not scared off.
O'Reilly: Did not see his shadow? Okay.
Shen: They came out indicating what should be an early spring, which would be nice considering the two feet of snow we got last week.
O'Reilly: Yeah. Has anybody ever done a statistical analysis of how accurate these rodents are?
Shen: I actually wish I had look it up now because I'm sure somebody has done it and ...
O'Reilly: Tune in next week when we actually tell you if this guy should be trusted. Actually, we're really going to be talking about two big consumer goods stories of the day. First up is Chipotle. Obviously have been beaten up a little bit, but are they finally moving past this whole cilantro poisoning thing?
Shen: Cilantro poisoning. The reason why we talk about it is few reasons. First of all, CDC officially has said that they believe -- they announced this on Monday -- that they believe the E. coli outbreaks at Chipotle appear to be over.
O'Reilly: I can breathe a sigh of relief.
Shen: The stock bounced up a little bit. I think it was up a little over 4% yesterday as a result of that announcement. Pretty fitting because they're actually reporting their earnings after the close today. They also have another big event coming which is next Monday. They have that companywide meeting, which you have mentioned previously on another episode.
O'Reilly: Yeah, for listeners that don't know what he's are talking about, they're actually closing all the stores and having this meeting about safety and food prep and just talking about this thing, right?
Shen: Yeah, exactly. They are closing all the stores for the lunch service. They are reopening at 3:00pm. During that intermission, call it, they're going to be broadcasting the meeting out of Denver to hundreds of locations.
O'Reilly: The symbolism of this alone is awesome.
O'Reilly: I like it a lot.
Shen: Let's take this one at a time. First of all, the CDC announcement, they basically said that their investigation, excuse me, indicated that some Chipotle ingredient or meal was probably the source of the contamination but they couldn't actually identify the specific ingredient or whatever that caused it. The stock bounced up 4%. It closed at $473 on the positive development. Keep in mind they've been dealing with these food safety issues since last August. They had salmonella cases in Minnesota in August 2015 with about 60 people affected. Then they had all those E. coli cases which I think were the brunt of the PR hit where that was in the Pacific Northwest, spread to other states, again about 60 people and then I think it was in December where they had the Norovirus cases in California and Boston that effected hundreds of people.
O'Reilly: This has been a cascade of bad news.
Shen: Exactly. It's really interesting when you look at some of the 8K's they filed as updates on these situations how the news of the Norovirus cases for example in December really hit their comps week by week. You can see how it swaying. Things look like they're setting and then they completely just plummet as a result of the headlines.
O'Reilly: The CDC announcement couldn't come at a better time because they're about to report earnings that are probably going to be bad.
Shen: Yeah, exactly.
O'Reilly: They can just point and be like, "Listen, it's over."
Shen: I think everyone will acknowledge the fact that they've had these challenges, that they're dealing with the best they can. Going forward, they're obviously looking to a brighter future. That's for sure.
O'Reilly: What kind of results can we probably expect with these likely abysmal same-store sales results for the fourth quarter and last year?
Shen: Sure, sure. Just for a quick recap. The company initially expected to be hit for their comp restaurant sales down 8 to 11% for the 4th quarter.
O'Reilly: That's how they used to grow every quarter.
Shen: Exactly. They thought that restaurant level operating margins would be about 22 to 24%. Earnings per share between about $2.45 and $2.85. Then, the company issued an update early last month that kind of basically said, "Things are worse then we thought." Fourth quarter, comp restaurant sales those are actually down 15%, operating margins were down to 20 to 21%, earnings per share of just $1.70 to $1.90. On all three of those metrics, they pretty much downgraded significantly.
Shen: Just to give you a little bit of context, for the year ago quarter restaurant level operating margin was 26.6%, earnings per share was $3.84, and comp restaurant sales were up 16% over year-over-year. That's like a 30% swing.
Now for the month of December, specifically, I think with some of the additional news, how everything cascaded together, they saw their comp restaurant sales down 30%.
Shen: Specifically for that month. That's what people are expecting for the 4th quarter full year obviously ...
O'Reilly: Makes for shorter lines doesn't it?
Shen: Yes. Exactly. That is obviously is going to have a really negative impact on their full year as well. We've talked about next Monday that meeting. To be specific, the company mentioned is a press release that the point of the meeting is one to thank everyone who is part of the organization who has worked really hard in the past couple of months to institute new stricter safety standards, make sure things are operating well, that there's no more of these cases breaking out. Second, to announce some of their new initiatives which they hope will guarantee that there won't be another outbreak like this in the future.
O'Reilly: Right. Did they mention anything along the lines of the ... Is it going to make them less profitable to have all these new safety standards? That is my question. Have you caught anything like that?
Shen: The thing is, the meeting is next week. I'd be curious to hear about details with that in the earnings call today and also in the meeting. I'm sure, I know for a fact that they've reported increased costs as a result of these incidents. It was like $16 to $18 million dollars, I think.
O'Reilly: We just don't know what they are.
Shen: Specifically, where they're going to, how it's going to impact some of the margins, we'll be yet to see that.
O'Reilly: Cool. Okay. Very cool.
Shen: Another thing you mentioned that you brought up is their 2016 forecast. Basically, they've acknowledge that any previous forecast that we provided for this year--
O'Reilly: Throw them out the window.
Shen: Throw them out the window entirely because they're no way we can know based on this climate. From Wall Street at least, analysts are expecting revenue earnings to decline 15% to 20% each. I think for this company, long-term, they are really going to need to execute well on these food safety plans because even the slightest hiccup is going to crush them. It's going to crush them.
O'Reilly: It's going to be bad.
Shen: Otherwise, you know, in my personal view I'm pretty confident that they'll recover this as time passes assuming there aren't any headline worthy incidents. The thing is, other restaurants have run into issues like this, even worse ones, and they've managed to recover let alone Chipotle being arguably the leader in the whole fast casual movement. I think they're in a strong position.
O'Reilly: It definitely seems like Chipotle's got the heart and soul of what you want in an organization doing this sort of thing.
Shen: Yeah, their leadership has embraced everything. They've been very, very forthcoming with information. Working as much as they can with the various regulatory agencies that have been involved looking into this. I think that they're in a good place and people should be looking to the future a bit now.
O'Reilly: Cool. Before I move on, I want to point out listeners to a newly redesigned focus.fool.com. There you will discover a special offer to join the Motley Fool Stock Advisor newsletter to start your new year off Foolishly. All loyal IF listeners have access to a special iscount on Stock Advisor that works out to $129 for a full two-year subscription. Just go to focus.fool.com to take advantage of this offer. Once again, that's focus.fool.com. Moving on from Chipotle to Michael Kors. This is a nice little follow-up to our Coach show where we talked about Coach's great results. They had their first growth-based quarter in like eight, ten quarters.
Shen: Yeah, something close to that.
O'Reilly: Michael Kors, too, has been getting beat up. Nobody wants designer handbags I guess. They just reported and it was pretty good.
Shen: There are some very clear similarities here between the areas where Coach saw success, that we talked about, and where Michael Kors has seen success with them releasing their results before the open today. First of all, this is for their fiscal 2016 3rd quarter. Their revenue was up about 6.3% to $1.4 billion. Up almost 10% in constant currency. They have their international segment and obviously, like many companies, it's been hit by unfavorable currency exchange. Their retail net sales were up 11.1% year-over-year. They had double-digit growth in e-commerce, really big. Also, a lot of new store openings. While their comps were down about 0.9% in constant currency, retail net sales were actually up almost 16% and comps were up actually 2% when you exclude the currency effects. Keep in mind with that really positive revenue growth that the company has increased its retail store count by about 20% in the past year.
O'Reilly: Where was all that, because that's a big number?
Shen: They had ... There's about a hundred locations, about a hundred locations being kept at 20% and I think it was ... They have different locations with their outlets and then their retail stores and they also have licensing store in a store with department stores. In terms of geographic segments, I think it was mostly in the U.S. Obviously, they're focused on their international expansion which we'll get to. I'm not ...
O'Reilly: Cool. That's fine. How are they doing with operating margins?
Shen: Sure. Their other parts of business, their wholesale net sales and their licensing revenue were also up for the quarter. Their operating margin shrunk about 2.5 percentage points.
O'Reilly: Is that because they kept opening more outlet stores and stuff?
Shen: I think that's a lot of it. I think it has to do with also a bit of an investment in terms of what they're putting into their e-commerce initiatives for example. Earnings per share $1.59, up 7% year-over-year even though there was a negative currency impact about 6 cents per share. They're showing some really positive ... This by the way I should note, all of this really surprised at least with the analyst estimates were beat them pretty handily. Their stock was up 22% before we came down.
Shen: Another thing I wanted to mention too from their report was they've been pretty active with their share repurchases for the past few quarters so for this one, the repurchase is about 4.7 million shares. Previously 9.4 and the other quarters, the three quarters before that ...
O'Reilly: This is turning out to be a really good move.
Shen: Exactly. In all, in the past four quarters the company's repurchased about 20 million shares. They reduced their shares outstanding by about 10%. During this tougher climate for them, they've been focused on making sure that they're kind of maximizing where possible those returns to their shareholders. Very positive.
Specifically, for their business, some of their offerings. Their shoes and accessories did really well. Their e-commerce, like I mentioned, double-digit growth. Their international markets, especially with Asia, again doing very well. That's actually very similar to what Coach reported. They had that acquisition. Their shoes were doing really well. Some of their other accessories did very well. Their e-commerce efforts in Asia markets were big for them so it mirrors very closely. You can see that.
It's really interesting during the earnings call, CEO John Idol, brought up a really cool point where from where their e-commerce efforts, they noticed how in mobile and online their offerings have expanded but customers were flocking a lot of footwear. Having data like that has made them realize that that's become a really popular category for us and now they're thinking about how that can apply to their actual physical retail stores as well and hopefully benefit some of that data they get from those online efforts.
Shen: In terms of near term catalysts, they have their major spring collection planned. Big picture we see that despite overall lower retail foot traffic during the holiday season, I think retail metrics had it down about 6% or over 6%. Not all companies have been losers. Macy's and some of those other companies have been struggling but we know that JC Penney, for example, Coach, Michael Kors they're kind of taking share away and obviously it's not like across the entire sector everybody has been struggling with some of these issues in terms of the unseasonably warm weather or the currency fluctuations hurting tourist spending for example. Even though the stock's up 22% for the day, it's still trading at just 11 times trailing twelve month's earnings.
O'Reilly: The market's twenty.
Shen: I should add that Coach, coincidentally, is up about 23% since it reported January 26th. Again, really similar.
Shen: If management can really continue to execute with these popular offerings. They have an attractive e-commerce online shopping model as well. Their footprint expansion, they opened up ... They increased 20% in store count. That's going to continue hopefully. They're seriously worth consideration in terms of a nice value play.
O'Reilly: Cool. All right. Thanks for your thoughts, Vince.
Shen: Thanks, Sean.
O'Reilly: Have a good one. If you're a loyal listener and have questions or comments, we'd love to hear from you. Just email us at firstname.lastname@example.org. Again, that is email@example.com. As always, people on this program may have interest in the stocks they talk about and the Motley Fool may have formal recommendations for or against those stocks so don't buy or sell anything based solely on what you hear on this program. For Vincent Shen, I'm Sean O'Reilly. Thanks for listening and Fool on!