Chipotle Mexican Grill recovering from E.Coli virus scandal
During the first week of November 2015, Chipotle temporarily closed 43 of its restaurants around the Seattle and Portland regions of the U.S., under threats of an E.coli outbreak. According to the Centers for Disease Control and Prevention, around 22 people fell victim to E.coli, the most common bacteria in food-borne outbreaks. According to the official statements made by the company, it has received notice from health officials regarding the contaminated food. This is the third time in the last 4 months that the food chain has been accused of food contamination, where the earlier cases involved the outbreak of salmonella and norovirus.
On November 10, 2015, after numerous sample tests and inspections, Chipotle announced the reopening of those 43 stores, with a promise that the affected locations will come up with a fresh supply of all the ingredients. Moreover, the company added that it is constantly working on improving the food handling operations and inspections of all its nationwide locations. A week later, a few more cases were reported in six different states, most of them linked to Chipotle stores. This aggravated the situation for the company and instilled fear among the investors.
However, the company has been adopting different strategies to recover from this downfall. Various promotional offers to entice the customers back to restaurants has improved the comparable store sales since January. Moreover, the company has taken numerous food safety protocols and steps to ensure hygienic food. With recovering customer traffic and improving comparable sales, the company is confident of getting back to normal by the end of 2016.
Below are key drivers of Chipotle's value that present opportunities for upside or downside to the current Trefis price estimate for Chipotle:
Company Operated Restaurants
- Average Spend per Visit : The Average Spend per Visit, historically, has been continuously increasing at a steady pace driven by increases in the menu prices. In 2009, it increased at a slow pace compared to 2008 due to the deteriorating economic conditions. However, the figure continued to grow steadily and stood at $11.60 in 2013. The average check improved significantly in 2014 to $13, due to an increase in menu prices. In 2015, the E.coli scandal led to decline in customer traffic, forcing the company to provide promotional offers and discounts to customers, leading to 2% decline in the average spend per visit.
Trefis expects the Average Spend per Visit to decrease by 7% in 2016 and thereafter increase moderately over the forecast period. The commodity prices are on the rise, and in case the average check crosses $14 by 2022, there could be an upside of 17% to the Trefis price estimate for Chipotle stock. However, due to intense competition, Chipotle could consider decreasing prices in the future and this would consequently affect the Average Spend per Visit. There could be a downside of 10.5% to the Trefis price estimate for Chipotle's stock if the Average Spend per Visit manages to rise to just $11 by the end of the Trefis forecast period.
- Average Number of Visits per Restaurant per Year: The Average Number of Visits per Restaurant per Year witnessed a decline in 2008 and 2009 due to the deteriorating economic environment, and due to the fact that consumers had not reacted positively to Chipotle's menu price hikes in these tough times. However, since 2010, the number has risen steadily and stood at nearly 186,000 in 2014. The E.coli scandal in 2015 led to a drastic decrease in customer traffic, with 0.5% decline in average annual visits per restaurant.
Trefis expects the figure to further decrease in 2016 and increase moderately to 183,000 by the end of our forecast period. Increasing brand awareness and customer loyalty, increasing popularity of the fast casual segment, as well as a focus on increasing service time (some Chipotle restaurants are able to service 300 customers per hour) are the key drivers that could affect Average Number of Visits per Restaurant per Year. In case this figure increases to 200,000 by the end of the forecast period, there could be an upside of approximately 10% to the Trefis price estimate for Chipotle's stock. If, however, it fails to rise beyond the current levels and stays at 170,000, there could be a 8% downside to the Trefis price estimate.
For additional details, select a driver above or select a division from the interactive Trefis split for Chipotle at the top of the page.
Chipotle Mexican Grill is a chain of restaurants operating in the casual dining segment, which specializes in serving Mexican cuisine. As of March 31, 2016, the company operated 2,066 restaurants, almost all of which are located within the U.S. All the restaurants are company-operated with no franchises. In October 2011, the company opened a restaurant named ShopHouse South-East Asian Kitchen in Washington DC, its first experiment with Asian cuisine. The company operates 14 net ShopHouse restaurants as of March 2016. Moreover, in 2013, the company also invested in an entity that owns and operates the brand "Pizzeria Locale," a fast casual pizza brand. Chipotle Mexican Grill expects to open around 220 to 235 more restaurants in 2016, including a small number of ShopHouse and/or Pizzeria Locale restaurants.
Chipotle's menu comprises a Mexican fare with a few things that can be mixed and matched with various sauces and ingredients such as salsa, guacamole, cheese, and lettuce, to make up one's own dishes. The menu essentially consists of Tacos, Burritos, Salads, and Burrito Bowls (Burrito without the Tortilla).
Chipotle operates on the "Food with Integrity" principle, wherein it offers naturally raised pork, chicken, and beef. Naturally raised implies that the animals are raised in open pastures and are fed on a pure vegetarian diet, without any added hormones or antibiotics.
Chipotle's objective is to give a fine dining experience in quick time and provide quality food and ambiance without having the customer wait too long. Some Chipotle restaurants can serve up to 300 customers an hour.
Chipotle competes with restaurants in the casual dining segment such as Applebee's, Qdoba, Taco Bells, Chili's, among others. It also competes with fast food restaurants such as McDonald's, Burger King, Subway, and KFC.
Chipotle's business is fully dependent on company-operated restaurants which explains the significance of this division to its stock.
Higher average spend per customer than competitors
Chipotle enjoys higher average spend per customer than most of its competitors. For example, in McDonald's, the average spend per customer was around $3.93 in 2015, whereas the corresponding figure in Chipotle was around $12.76. The company has successfully marketed itself as a restaurant serving natural, hygienic, and organic food in an upscaled ambiance, for which the consumers are often ready to pay a slight premium.
Another reason why the company enjoys a higher average spend per customer is because it has restaurants only in developed countries, where the average spend is usually higher than developing countries. Most of the fast food restaurant chains have a mix of restaurants in developed and developing countries, which has a lowering effect on the overall spend per customer.
Company operated restaurants generate lower profit margins than franchised restaurants
Company-operated restaurants are low margin businesses in comparison to franchises. Chipotle's EBITDA margins for 2015 were around 25% versus 90% for McDonald's franchised restaurants. Since all of Chipotle's restaurants are company operated, its overall margins are also lower. While in McDonald's case, the high franchised restaurant margins compensates for its lower margins from company-operated restaurants.
"A Model" restaurants have lower investment costs
"A Model" restaurants, which are smaller concept restaurants, are constructed in secondary trade areas with attractive demographics, and hence the occupancy costs are low. Also, most of the Chipotle's restaurants are located in well established markets and have high brand awareness. These restaurants also enjoy lower investment costs. The average development costs for new restaurants has decreased from $916,000 in 2008 to $800,300 in 2013. However, it increased to $843,000 in 2014, before declining back to $805,000 in 2015. Lower investment costs have facilitated a higher rate of expansion.
Organic and healthier food gaining importance in the U.S.
Consumers have become more health conscious and there is an increase in demand for natural and healthier food. Using its 'Food with Integrity' campaign, Chipotle has aggressively marketed itself as a restaurant using only naturally raised meat. Taking cues from Chipotle, an increasing number of restaurant chains are adding all-natural products to their menu. Wendy's started offering upscaled items on its menu last year. Moreover, its restaurant remodeling initiative is inspired by Chipotle. Similarly, McDonald's commercial campaign launched in December 2011 boasted the use of quality ingredients in its supply chain. The company is also renovating its kitchen by equipping all stores in the U.S. with high quality kitchen preparation tables, allowing faster preparation. Furthermore, McDonald's can be expected to offer more hygienic ingredients such as fresh fruits and vegetables, sustainable fish, and cage-free eggs in order to drive customer traffic. An increasing number of restaurants now tout the quality and the freshness of their ingredients in order to portray a healthy image of themselves.
Growth in number of stores and expansion into European markets
The company has seen significant growth in its number of stores which has increased from around 956 in 2009 to 2,010 in 2015. Currently it operates 2,066 stores, as of March 31, 2016. Chipotle also opened its first European restaurant in London in 2010. Since then, it has added another 25 restaurants outside the U.S. in highly developed markets such as Canada, Germany, France, and the United Kingdom. There are a lot of growth opportunities for the company in international markets, especially in high GDP countries.
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