Recently, with the gorgeous Rocky Mountains as a backdrop, two of my Foolish colleagues discussed on video whether Chipotle Mexican Grill (NYSE:CMG) (NYSE:CMG-B) was a buy, sell, or hold. I don't know whether recent trading action provides us a definitive answer on that question, but I am pretty sure that if you sold this stock anytime over the past month, you are scrambling for the "do-over" button on your discount broker's website.
The latest numbers were terrific across the board, with net revenues, comparable same-store sales, and diluted earnings per share up 33.9%, 11.6%, and 81.8%, respectively. That's a crazy amount of burritos!
Each quarterly earnings conference call, Chipotle's management team takes time with investors to reveal a little more of the company's recipe for success. For instance, last November, much of the call was centered on its efforts to improve management hiring and training. In the latest call, executives addressed the progress of the restaurant's management practices, but it raised other important topics as well, including the status of its "Food With Integrity" efforts as well as improvements being made to the restaurants.
Restaurant-level efficiency
Every great athlete continually works to improve his or her game. Peyton Manning had a great 2006 campaign, capped off by a Super Bowl victory. Yet here he is back in training camp, along with the rest of his teammates. Why? Because there's always more work to be done. You get that same work-to-win attitude from Chipotle's management team when you tune in to the company's calls.
One area Chipotle has been working on is improving the operating efficiency of its restaurants. For example, it is employing a new tortilla press that heats tortillas more evenly and more quickly. This change may not sound like much, but we can look at Papa John's (NASDAQ:PZZA) and the success it has enjoyed with new Middleby (NASDAQ:MIDD) ovens to see the importance of efficient cooking equipment. Papa John's and Chipotle make these kinds of investments because it's those small details that can add up to a competitive advantage over the competition.
Another change under way is a redesign of serving lines to fill orders more quickly. And the company also continues to evaluate restaurant designs to identify areas that can make each location simultaneously more cost-effective, functional, and appealing. Speaking of restaurant development, the company has opened 50 new locations to date this year, bringing the total of openings to 640. It plans to open an additional 60 to 70 sites through the remainder of the year.
During the second quarter, restaurant operating margins improved 150 basis points to 23.2% from the same period a year ago. For the remainder of the year, management is forecasting those margins to increase 110 basis points to 22.1%. There are several reasons behind the increased profitability, including labor efficiencies and menu price increases. And another major catalyst is what management calls "improved restaurant-level controls," to which the prior examples speak.
Quality ingredients
The average wait in line at Chipotle is five minutes or less. Customers appreciate that efficiency. But what many admire even more than the fast, friendly service or the tasty burritos is the quality and integrity of the food behind the burrito. Chipotle is on a mission to have all of the animals that supply its meats "naturally raised" -- something the company defines as "humanely raised, fed an all-vegetarian diet, and not given antibiotics or growth hormones."
In his prepared remarks, CEO Steve Ells provided a progress report on this initiative. Currently, 100% of its pork meets this protocol, as does 73% of its chicken and 46% of its beef. Some of the new markets to benefit were Colorado, which saw all 64 of its restaurants receive naturally raised chicken, and the Dallas market. The Omaha and Wichita markets were introduced to both naturally raised chicken and beef products.
Earlier, we highlighted menu price increases as one of the reasons behind the improved profitability. Well, the transition to naturally raised meat is driving these increases. In the Q&A session of the call, we learned that through the second quarter, there was a 2% menu price increase to account for the introduction of naturally raised meat products in certain markets, including Colorado and Wichita.
The Dallas market didn't receive naturally raised chicken until late in the quarter, so now the projection is for menu prices to increase there from the current level of 2% up to a new range of 2.5% to 2.6% -- an increase expected to stick around through the year. "As soon as we have opportunity to roll out additional Food With Integrity meats, we will of course increase prices at that time," Ells stated in response to one analyst's query on restaurant operating margins.
Continual improvement
The number that really jumps out at me this quarter is Chipotle's 11.6% comps increase. Chipotle's recipe for success here is simple: Serve up a quality product, and do it efficiently. Even as something as simple as the new tortilla presses are helping: During the peak hour of noon to 1, comparable store transactions have increased from about 107 to around 118. In mid-2005, this metric sat at roughly 90. That's continuous improvement!
These efficiencies and the introduction of quality food products are two of the reasons why customers keep coming back ... and why Chipotle's stock keeps knocking out homers for shareholders.
Chipotle's "B" shares and Middleby have been recommended to Motley Fool Hidden Gems subscribers, while Chipotle's "A" shares are a Rule Breakers recommendation. Take a free 30-day trial of any of our newsletter services today.
Fool contributor Jeremy MacNealy has no financial interest in any company mentioned. The Motley Fool has a disclosure policy.
