CHIPOTLE MEXICAN GRILL, Inc. (CMG-B)

I wrote this on the A shares, but thought it'd be useful here.

Chipotle operates as a fast-casual, Mexican-theme restaurant. The ordering process is similar to Subway, you have someone walk you through a variety of ingredients (beans, meats, sour cream, salsa, etc.) and you choose what you want on your burrito, tacos, and such. The food is fresh, natural, and the quality is consistent throughout Chipotle's 530+ locations in 26 states. They were founded in 1993 by Steven Ells. CMG just went public on January 27, 2006: http://tinyurl.com/2crl7b

On a recent Friday I went to Chipotle for the first time. It was around 8:00 PM and the place was approximately 3/4 full. The service was excellent, they told us the ordering process and helped us all the way through. The ordering process didn't take more than two minutes for three of us. The restaurant was clean, and the food was terrific. It actually tasted like Mexican food, it was spicy and everything.

I like Chipotle's niche. Their serving style is like Subway's, and that's a style that hasn't been used too much in a national chain, at least out here in California. It's a great style, and Chipotle can serve a ton of customers in a very short time, so the line keeps moving. They've got a business style that is efficient and quick, which is key with restaurants, and it seems to work because from what I hear the quality is very consistent.

The P/E above 50 may scare some people away. At first, it made me question whether this was a stock I'd be interested in. But, high P/E's are often there for a reason. Chipotle was recently let go from McDonald's support (http://tinyurl.com/2wp23g), they're now on their own and aren't receiving benefits from McDonald's. They've got a nice foundation of restaurants, but they still have a lot of room to grow.

Management plans to open 95-105 new restaurants in full-year 2007, approximately 10% of which will be in new markets. On the topic of earnings growth:

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http://tinyurl.com/365jwf

Chipotle has a lot of opportunity to expand here in the U.S. They've been able to expand nicely on the east coast, which has a smaller Mexican-food market than the west coast, which says a lot about their brand. Considering the amount that they are opening new restaurants at (they opened 30 restaurants in the 3Q 2006), it seems very possible to me that they can operate well more than 2,000 stores in the U.S.

For the coming 4Q 2006, analysts expect CMG to report an EPS of $0.28, which would represent good growth from the 4Q 2005 EPS of $0.16. Something interesting to note is that in every one of the past four quarters, CMG has beat analysts' estimates:

----------------Dec-05-------Mar-06------Jun-06------Sep-06
EPS Est............0.11.............0.12............0.25...........0.27
EPS Actual.......0.16.............0.26............0.33...........0.36
Difference........0.05.............0.14............0.08...........0.09
Surprise %......45.5%..........116.7%.......32.0%........33.3%

This obviously doesn't mean that they will continue to beat estimates, but it shows that people, or at least analysts, have been underestimating their growth and growth potential.

The balance sheet is very strong with $157.56 million in cash and only $700K in debt. That will definitely make it easier for future expansion, if and the company does run into some problems, they'll be able to handle them.

The business is producing strong cash flow and is non-reliant on the bank, with operating activities producing $28.42 million. Cash flow has been rising nicely every year for the past four fiscal years (as far back as the data I have goes), and it's on track to bump again this year. With the healthy balance sheet and strong producing business, expansion be relatively easy to handle.

Founder and CEO/chairman Steven Ells owns 909,850 shares, making him the largest inside owner. I'm glad he's the one in charge, he's done a great job running and expanding the business thus far and knows the industry well. The next largest holder is president and COO Montgomery Moran, who owns 268,333 shares.

I think management's expectation of 25% annual earnings growth for the long-term (they're probably estimating this for a period of 5 years or so) is a reasonable one. Chipotle is expanding at a quick rate without hurting earnings or the business at all, and they're starting to become more nationally known. They're great concept makes me think this could really become a chain with a lot of restaurants. The high P/E probably won't get much lower right away, because the stock will trade at a premium as long as the company is expanding as quickly as it is and as long as there is still a lot of opportunity. Starbucks has a P/E above 50 and has had a premium on it ever since going public in the early '90's. I'm really tempted to open a position as long as CMG is under $60, because this is already a great growth story, but there is a lot of potential left. The food is excellent and they have a niche concept.

3Q 2006 Highlights

** 30 new restaurants opened
** Revenue increased 28.3% YOY to $211.3 million from $164.7 million
** restaurant sales increased 11.6%
** Income increased 87.9% YOY to $17.9 million
** EPS $0.36 from $0.19 in 3Q 2005
** Profit margin 5.59%
** Operating margin 8.45%
** ROA 8.54%
** ROE 10.71%
** Cash flow from operating activities $28.42 million
** CapEx -$25.49 million (CapEx has always made up all investing activities)
** Cash flow from financing activities $12.60 million
** Cash $157.56 million
** Debt $700K
** Diluted shares outstanding 32,885,000 from 26,344,000 in 3Q 2005
** Employees 13,000
http://tinyurl.com/3c369f

Margins are in good shape, but as Chipotle gets more mature and expansion slows, margins should start to rise up. Currently, expansion hasn't had much of an impact on margins, and I don't think it will as long as management keeps the growth at a reasonable pace as they have been. I think CMG will beat estimates this quarter, because analysts are assuming earnings will drop off, but I believe Chipotle is still growing faster than they assume. Analysts are expecting an EPS of $1.54 for fiscal 2007, and that just seems too much of a drop-off in growth if they open approximately 100 restaurants as management plans to. And management has lived by its word at least in this area. CMG will meet 2006 restaurant opening expectations for 2006 with this coming 4Q. Management was aiming for 80-90 restaurants in 2006, in three quarters they've opened 69. So, when management says they are aiming for 95-105 restaurants, I see it happening.

Chipotle has expanded its menu and rolled out new products, but the ordering process is still quick and simple, and since the food quality is so high for a fast-food chain, I like Chipotle's future. The management team seems experienced (several of the directors have had many years of experience working with McDonald's before joining Chipotle, so they have seen and worked with a chain grow to a huge national level) with both Chipotle and the restaurant industry overall. They have the resources to expand, the management to expand intelligently, and a product many people love.

Web site
http://www.chipotle.com

Press releases
http://phx.corporate-ir.net/phoenix.zhtml?c=194775&p=irol-news

Management
http://phx.corporate-ir.net/phoenix.zhtml?c=194775&p=irol-govmanage

Board of directors
http://phx.corporate-ir.net/phoenix.zhtml?c=194775&p=irol-govboard

SEC filings
http://phx.corporate-ir.net/phoenix.zhtml?c=194775&p=irol-sec

Analyst estimates
http://finance.yahoo.com/q/ae?s=CMG

There is one Chipotle close by to where my house. I have never seen the place fill up and most of the time 60% empty. For me, the food was not that good. The management said no store has been closed. I think for now they just trying to keep the stat looking good.

$900,000 in capital cost for each new store that gets repaid in three years. Superb.

150M + in cash and no debt enough for 150 + new restaurants tomorrow if need be without taking on any debt!

The Mann’s projections of 3000 stores from 540+ presently with 100 next year. He also believes at these prices the business is 60% undervalued!

Experience passed on from Mac Ds as to how not cannibalize your existing stores.

Some margin of safety as prices are 6% lower for class B shares that are superior!

Not much of a moat, but the subway like service is currently different to how the current competition works.

People like having that choice, been able to see where their food is coming from and that it is coming from a clean environments! The also like to get their food quickly. They get all of this at Chipotle and well as food that has a good taste (as I can a test to) and is not the usual bland fast food crapola.

People are trying to eat healthier food and I’m sure their ‘food with integrity’ will attract a lot of people.

Margin of over 20% - that is a double over their 2002 margins and a management that believe there is room to grow prices

10% of their year highs.

Don’t want them to take on too much debt for funding new stores, but a little will be ok. Competition is the other is I see as something to keep an eye on.

This is a long term holding. 5 years + to see if their story plays out.

Mgm't seems to be doing a good job of managing the growth of new locations; the balance sheet is very strong with almost no debt; low costs associated with opening new stores leads to quick payback.

Bruiser

Arbitrage: short A, buy B long. Or just buy B since it will perform superiorly regardless of discount at which its currently trading.

The short answer is that this is
irrational pricing but it is difficult to arbitrage away. A similar
situation historically was the Palm/3com carveout, where 3Com sold
only some of Palm in an IPO. After the IPO, 3com had a lower market
cap than the value of its shares of Palm. This was not arbitrageable,
however, because there were too few shares of Palm to short them (the
arbitrage would have been to short Palm and buy 3Com).

The exchange offer to get CMG.B shares in exchange for McDonald's
shares gave shareholders 10% more value of CMG.B shares than the value
of their McD shares. This means that it made sense to tender McD
shares for B shares and then sell them, which probably depressed the
price.

While the tender offer ended in October, the short interest in CMG.A
is over 30%, meaning that it is hard to short the A shares to pull off
the pure A-B arbitrage. This means that while the price difference is
irrational, it is not easily arbitrageable. However, I was able to
short a round lot of CMG and am attempting the arbitrage--my estimated
profits assuming complete convergence are $380 (including commission)
minus any margin interest costs. Technically, the B should be worth a
little more than the A because of more voting rights, although this
should be modest--for comparison, Dorel Industries multiple-voting
stock sells at less than a 1% premium to the common stock (DII.B vs.
DII.MV, Toronto Stock Exchange).

I've been traveling in the heartland and chipotle is still selling the hell out of their food. I mean the freaking lines are around the corner during the work week.. It's INSANE. I think the expectation that people will bag on low-cost food like this is overblown. For better or worse, Americans will bust $7 on lunch at least several times a week even in a recession, perhaps even more so, as it's a psychological comfort in bad times to eat food you really like and are comfortable with. Now, coffee, SBUX, especially, is another story. Anyway, I'm a fan of cheap, ahem, I mean value-oriented, fast-food chains trading at solid valuations. I think we could see CMG drop to $40 but I think the overall market will be down more and I'll add CMG proper to my recs if it hits that level.. A little Foolish CAPS cost-averaging. Steak-n-Shake is looking good as well.

I love the burritos at Chipotle’s. There are several locations in Dallas and I did not know that it was a national chain until Bill Mann chose this as his pick (Fed 2007). I like the fact that the concept is very simple and it cost about $900,000 per restaurant. In addition, Chipotle’s has no debt and 157 million in cash (Fed 2007). It’s is a great pick and I want to thank Bill for this. Now let’s go to Chipotle’s and get a burrito!

Smith

The current economic climate is forcing a series of changes in the spending habits of today's shoppers (like, duh!).

Casual dining, fast food, and restaurant dining are all going to suffer. People can't afford to put down $10+ per person for food, and even the $5+ for eating at fast-food places is stretching it. Why? because you have to add the cost of gas to that. Plus you have to take into account that while $10 is not that big a deal, normally, if you can buy the same stuff at the grocery and fix the meal yourself for less than $10, you are ahead of the game.

For the next 6 - 12 months, I expect that that kind of reasoning is going to have profound affect on the eating-out habits of Americans. And when you add to the whole mixture the fact that food prices are skyrocketing as a result of several factors, people are busy looking for ways to cut back on what they eat at home, let alone what they're going to pay in order to eat somewhere else.

Starbuck's closing 600 locations is nothing compared to the general cutting that eateries across the board are going to have to do to survive in today's market. CMG-B and anyone else is going to have to bite the bullet for a while.

Has ~700 stores currently, so plenty of room to grow. The business model is outstanding -- very fast, very simple, tastes great. Yes, it's only a burrito, but it'll become a mainstay of the new model for fast-food. Profit growth is excellent -- 72% annual growth since Q3 '06, and 288% for the 7 quarters since Q4 '05. More than justifies the current PE of 60.

For those of you still concerned about PE, take a look at SBUX in the late '90s -- PE hovered around 50-60 from '95-'02, while the stock grew 5x (including the massive market slide in '01). SBUX's store growth is also a good yardstick -- they had ~700 stores in '95, with 15,000+ today. Still think Chipotle is overvalued?

BTW, on the issue of CMG vs. CMG-B, this is an excellent measure of smart-money vs. dumb-money. For this purpose, say that smart-money = you did some research, meaning you're certainly aware of CMG-B. On the other hand, if you haven't done much research, and are buying on the basis of your lunch habits and perhaps some press articles and the like (which generally only cite CMG), then you're dumb-money. Assume that the additional voting rights of CMG-B are of minimal value (unless you're planning a hostile takeover...), then the value of CMG = CMG-B + dumb-money (+ speculators who play off dumb-money). So long as there's some dumb-money in the market (always true), CMG will be > CMG-B. Only exception I can imagine is an extremely short-term non-fundamentals-driven selloff, with arbitrageurs quickly stepping in and buying CMG (while shorting CMG-B -- a true risk-free trade), thus bidding it back up to CMG-B levels. Seeing that CMG is currently at 20% over CMG-B, I'd say a pretty large contingent of current Chipotle stock buyers are either dumb-money or speculators banking on dumb-money...

OK, damn it. I missed the dip AGAIN on CMG in my real portfolio up 11% on earnings today. I was even saying to myself I have to buy before the next earnings because they are going to blow out again. Did I listen, no, idiot.

I have followed this company since the begining when I was eating at the original store in Denver. Lines out the door from the begining. There are few competitors in this market with the cost structure, loyal customer base and real brand with legs. Hard to see the Buffalo Wild Wings brand not feeling so 2007 in a couple of years but the understated image of Chipotle will seem reasonable in 10 and even 20 years.

Wait for the dip and BUY this one.

Oh yeah, I am not sure I would listen to all the CMG vs CMG-B discussion, I am guessing the gap in market value will live on forever making the difference irrelevant.

CMG is most-likely going to out-perform the market simply because it is still young and growing. The class B shares with 10x voting rights of the A shares (CMG) should appreciate more rapidly.

Will it? Wow, I don't know, but it sure seems like it should.

The Class B shares have 10 times the voting power as the class A, and currently trade at a lower P/E because of the recent spinoff from McDonalds. I think there is room for definate price appreciation, and that these shares, because of their voting strength will trade at a premium to the Class A shares.

Also, Chipotle is moving into nationwide expansion mode, so i definately believe there is significant upside on this stock in the future.

Just discovered that class B shares were available! and the kicker is they are undervalued compared to the class A shares which ive been long here in CAPS-land for 3/4 months. Dont see any reason CMG cant expand to 2,000-3,000 locations in the next 5-7 years..

Right now (early '07), this is still trading below CMG. The B shares are the McD spinoff, which are identical to A shares, but with 10 x the A shares voting rights. Shorts and options already in play on A shares are propping that price up right now, but the B shares are superior, and the market will eventually correct that inefficiency. If you believe in CMG as a long-term growth story, the B shares are the ones to have as long as they're trading below A.

This is the one stock I own that I have the most confidence in its long term outlook. The stock may appear to be a bit on the expensive side right now but CMG has a ton of growth ahead of it. The restaurants will be a hit all across the country and I think eventually internationally. Buy and hold and enjoy some tasty burritos!

Too far to fast. P/E over 30.

A great stock just way overbought.

Short margin growing.

It was a fast riser and made me a chunk of money, but I think it's actually over-priced now. They aren't doing anything new or different anymore to warrant the wild earnings growth. Once it settles out, they'll ride just below the S&P rail.

Great management, great food, great customer experience, effecient, lots of cash little debt, expansion, expansion, expansion, and on top of all this the B shares are trading under the A shares and have 10times the voting rights. I expect great things from this company plus jim cramer, fast money and hidden gems all like it IT a strong buy or as cramer would say BUY BUY BUY

Fresh! Healthy! Marginally exotic! Pizza has reigned supreme for far too long as the convenience food of choice for the East Coast. As an East-to-West transplant myself, I can tell you that the burrito has usurped the slices' throne and I am happy for it. I don't think I am so weird. I think there are millions of East Coasters who do not yet know how deeply they wish to embrace the burrito and it's endless variations. As to the competition: Chipotle provides a more welcoming experience than say, the clean-to-the-point-of-hospitally-sterility Baja Fresh. Chipotle is cozier and more inviting. Full disclosure: I'm a girl-- so this sort of thing counts.