Shares of Chipotle Mexican Grill (NYSE:CMG) fell on Wednesday, reacting to the fast-casual darling's uninspiring quarterly report.
Some bulls will scoff at someone calling Chipotle's performance uninspiring. After all, revenue soared 20% year over year, fueled nearly equally by expansion and a 10.4% in year over year comparable-restaurant sales. Margins improved, largely as a result of a spring 2014 menu price hike, and the end result is that net income soared 48% year over year.
Chipotle opened 49 new restaurants during the first three months of the year, and now has 1,831 outlets. If this is a bad quarter, one can only imagine what the "food with integrity" champ would have to achieve to score a good one. Right? Well, no. There are some pretty good reasons for Mr. Market spitting out this freshly rolled quarter. Let's dive right in.
1. 10.4% in year-over-year comps growth isn't as great as it seems
You won't find too many eateries posting double-digit growth in comparable-restaurant sales this earnings season, but this is a bit of a letdown at Chipotle for a couple reasons. For starters, let's size up how the past several quarters have played out.
Chipotle's comps accelerated through 2013 and most of 2014. That trend reversed itself during last year's holiday quarter, and the deceleration intensified this past quarter. As impressive as it is for a typical store to ring up 10.4% more than it did during the same three months a year earlier, the inescapable truth is that you have to go back to 2013 to find the last time comps grew at a slower rate than they did in the latest quarter.
Making matters worse, Chipotle initiated its first major menu price increase in three years last May. This means the four past quarters benefited from higher burrito prices. Its latest quarter was the weakest of the four given the favorable tailwind of higher prices. Chipotle mentioned during its earnings call that higher prices accounted for 610 of the 1040 basis points of improvement in that 10.4% comps figure.
2. Comparisons will get tricky from here
One of the big shockers from Chipotle's last three quarterly reports is that it has forecast that comps through 2015 will grow in the low- to mid-single-digits. Sure, it's surprising to see a company on a double-digit comps tear aiming so low for 2015, but the real shock is that the outlook hasn't budged.
Chipotle used to routinely bump its outlook higher as the quarters strolled by, but that's not happening this time. To frame this correctly, consider that a year ago Chipotle went from forecasting 2014 comps growth in the low single-digits during the first of the three quarters in this period to the high single-digits by the third quarter. It's merely walking in place this time around.
Keep in mind that Chipotle already scored a 10.4% uptick during the first quarter, so the next nine months aren't expected to be pretty.
Sure, we knew 2015 -- particularly the latter half of the year -- would be challenging. We'll be rolling off of the big menu hikes next month, taking some air out of the comps balloon during the last few weeks of the second quarter and all of the third and fourth quarters. The third-quarter comparison in particular will be challenging since that's when the chain's performance peaked last year, and it's easy to see why some investors might not want to be holding the stock as we head into the next few months of mortality.
3. Lofty valuations require lofty results
Shares of Chipotle aren't cheap. They closed Tuesday at 40 times this year's projected earnings, and with decelerating growth on the horizon, that's not an easy multiple to justify.
This doesn't mean Chipotle will continue to head lower. You don't want to bet against Chipotle over the long haul. Everything from the improving economy to low gas prices should keep the assembly lines long and moving at your local Chipotle. It also has a pair of restaurant concepts ready to make waves if and when Chipotle saturates the market. However, the sharply lower opening on Wednesday in response to the report was warranted. In a world of relative performance, the market expects better out of Chipotle.