Chipotle Stock: Valuation Leaves Little Room for Error

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The company owns and operates 2,724 Chipotle (NYSE:CMG) restaurants in the United States, 40 international Chipotle restaurants, and four non-Chipotle restaurants. 

In Q2, sales grew 31.2% and margins improved as well. Although the future of the company looks bright, we remain neutral on CMG. (See Chipotle stock charts on TipRanks) 

Industry Analysis, Growth Catalysts 

Pre-pandemic, the global fast food and quick service restaurant market size was valued at $257.19 billion, and was forecasted to grow at a compounded annual growth rate (CAGR) of 5.1% from 2020 to 2027. 

The expected market growth is due to an increasing global preference for fast food among Generations X, Y, and Z, an increase in the number of fast-food restaurants, and technology advancements.

Of course, the pandemic disrupted things in 2020, but the underlying trend remains intact. Advancements, and the increasing adaptation of technology, have made it easier for people to get the meals they want. 

Think of apps like Uber (NYSE:UBER) Eats or SkipTheDishes, or curbside pickup options. People value convenience, and will pay for it by eating at restaurants such as Chipotle. 

Speaking of convenience, Chipotle is investing in it through opening more “Chipotlanes,” which are essentially drive-thrus. The good thing about Chipotlanes is that their unit economics are better than regular restaurants. 

Here is what Chipotle’s CFO, Jack Hartung, had to say about Chipotlanes in the most recent earnings call: 

“New Chipotlanes are opening with about 20% higher sales compared to the non-Chipotlanes opened during the same time period. Over the trailing 12 months, Chipotlanes restaurant continues to drive about a 15% higher overall digital sales mix compared to non-Chipotlanes, and it’s skewed heavily towards order ahead, our highest margin transaction.” 

Chipotle anticipates that adding Chipotlanes will improve the company’s returns on capital. This makes sense because as mentioned in the quote above, Chipotlanes generate higher margin revenue, which should give a boost to overall margins going forward. Management also expects margins to increase in the long-term. 

Besides Chipotlanes, Chipotle opened a digital kitchen location in 2020 that offers only pickup and delivery. If CMG finds that it is worth it to add more of these locations, then it can be another growth catalyst going forward. 

With the opening of new locations and an expected increase in average unit volume (from $2.41M to $3M), CMG’s revenue is forecasted by analysts to increase by 25.7% in 2021, and 13.9% in 2022. 

Main Risks 

CMG’s stock is currently near all-time highs. It’s up 42.8% year-to-date and 58.2% in the past year, versus 17.8% year-to-date and 27.8% in the past year for the S&P 500.

A lot of optimism could currently be priced into the stock, as one might be able to tell from the stock’s runup, 71.4x EV/FCF multiple, and 8.2x EV/Sales multiple, which is the highest this multiple has ever been with data going back to 2006. 

The high optimism leaves little room for error, and makes the stock vulnerable to large price drops on any disappointing news. 

As well, particularly from 2015-18, CMG had been involved in many food illness outbreaks which hurt the company’s reputation and financial performance.

If you are a Chipotle investor, keep in mind that another outbreak can happen at any time, and if it gathers lots of media attention, then it will certainly hurt the stock price. Nonetheless, this doesn’t seem to be a problem for now.  

Wall Street’s Take 

Turning to Wall Street, 23 analysts offered 12-month price targets for Chipotle in the last three months. Chipotle has a Moderate Buy consensus rating, based on 16 Buys and seven Holds. 

The average CMG price target is $1,913.45, with a high forecast of $2,600 and a low forecast of $1,600. The average price target represents 1% upside from current levels.

Final Thoughts 

Chipotle can continue to execute going forward, but the risk/reward is not great, as the stock is near all-time highs, and has an extended valuation.  

Disclosure: At the time of publication, Stock Bros Research did not have a position in any of the securities mentioned in this article.

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