Chipotle Mexican Grill, Inc. (NYSE:CMG) Q4 2023 Earnings Call Transcript

Chipotle Mexican Grill, Inc. (NYSE:CMG) Q4 2023 Earnings Call Transcript February 6, 2024

Chipotle Mexican Grill, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good afternoon, and welcome to the Chipotle Fourth Quarter and Fiscal Year End 2023 Earnings Conference. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Cindy Olsen, Head of Investor Relations and Strategy. Please go ahead.

Cindy Olsen: Hello, everyone, and welcome to our fourth quarter and fiscal year end 2024 earnings call. By now, you should have access to our earnings press release. If not, it may be found on our Investor Relations Web site at ir.chipotle.com. I will begin by reminding you that certain statements and projections made in this presentation about our future business and financial results constitute forward-looking statements. These statements are based on management’s current business and market expectations, and our actual results could differ materially from those projections in the forward-looking statements. Please see the risk factors contained in our Annual Report on Form 10-K and in our Form 10-Q for a discussion of risks that may cause our actual results to vary from these forward-looking statements.

Our discussion today will include non-GAAP financial measures. A reconciliation to GAAP measures can be found via the link included on the presentation page within the Investor Relations section of our website. We will start today’s call with prepared remarks from Brian Niccol, Chairman and Chief Executive Officer; and Jack Hartung, Chief Financial and Administrative Officer, after which we will take your questions. Our entire Executive leadership team is available during the Q&A session. And with that, I’ll turn the call over to Brian.

Brian Niccol: Thanks, Cindy, and good afternoon, everyone. We delivered outstanding results this year, driven by our focus on exceptional people, exceptional food and exceptional throughput. This is driving a much better experience for our teams and our guests and resulted in accelerating transaction growth throughout 2023. For the year, sales grew 14% to reach $9.9 billion driven by a 7.9% comp. Digital sales represented 37% of sales. Restaurant level margin was 26.2%, an increase of 230 basis points year-over-year. Adjusted diluted EPS was $44.86 representing 37% growth over last year and we opened a record 271 new restaurants including 238 Chipotlanes. We also ended the year with a lot of momentum as demonstrated by our fourth quarter results.

Our restaurant teams are making terrific progress in building a strong foundation around throughput and the return of Carne Asada as a limited time offer outperformed our expectations. For the quarter, sales grew 15% to $2.5 billion driven by 8.4% comp. Digital sales represented 36% of sales. Restaurant level margin was 25.4%, an increase of 140 basis points year-over-year. Adjusted diluted EPS was $10.36, representing 25% growth over last year. And we opened a record 121 new restaurants, including 110 Chipotlanes. As a reminder, we are returning to our pre-pandemic practice of only providing annual comp guidance. While January was impacted by weather throughout much of the country, as weather has normalized, our sales trends have strengthened.

For the full year, we anticipate comps in the mid-single digit range, as we continue to focus on the same five key strategies that help us to win today while we grow our future. Now let me provide an update on each of these strategies, which include, number one, sustaining world-class people leadership by developing and retaining diverse talent at every level. Number two, running successful restaurants with a people-accountable culture that provides great food with integrity, while delivering exceptional in-restaurant and digital experiences. Number three, making the brand visible, relevant and loved to improve overall guest engagement. Number four, amplifying technology and innovation to drive growth and productivity of our restaurants, support centers, and in our supply chain.

And number five, expanding access and convenience by accelerating new restaurant openings in North America and internationally. Starting with our world class people, I’m excited to share that Ilene Eskenazi joined my executive leadership team in November as our Chief Human Resources Officer, with over 25 years of experience in leading human resources and legal functions across a wide range of industries. I am confident Ilene will be instrumental in helping Chipotle develop and retain talent at every level of the organization and enhance the support we provide to our people, both in our restaurants and at our support centers. Strengthening Chipotle as a best-in-class employer. As I’ve said in the past, we want to attract and retain the best people that we can develop and grow.

Part of this includes listening to their needs and investing in ways that will help our employees thrive both professionally and personally. This is why we recently added new benefits to our industry-leading benefits platform, like enhanced mental health care, a student loan retirement match, and additional financial wellness tools for our workforce. In addition to our benefits, our long-term growth opportunity and promote from within culture provides a path for team members to advance quickly within Chipotle. In fact, in 2023, we promoted over 24, 000 people, and over 90% of all restaurant management roles were internal promotions. This includes 87% of field leader positions, which is one of the biggest jumps for our teams, going from running one restaurant to an average of eight restaurants.

The ability to achieve this rate of internal promotions is a result of our strong restaurant leaders, many of whom started as crew members and who are committed to training and developing our future leaders. A great example is one of our field leaders in New York who has been with Chipotle for over 16 years. He helped to develop and promote over 40 team members who have grown within Chipotle and have gone on to become some of our best general managers, field leaders, team directors, and even one of our regional vice presidents. This is the type of person who will help us to deliver on our goals of running great restaurants, delivering industry leading economics, and expanding to 7, 000 restaurants in North America longer term. Great people executing great culinary and throughput results in a terrific guest experience and drives performance.

And this brings me to our operations. Strong leadership is the key to running successful restaurants with fast throughput. So it is no surprise that the restaurants with the most tenured general managers are executing the best. The good news is our GM turnover is at some of the lowest levels that I have seen since I joined Chipotle. And over the last couple quarters, we have put the building blocks in place to deliver great throughput. As we mentioned last quarter, we have adjusted the cadence of orders on the digital make line to achieve a better balance of labor between the two lines. Additionally, we began collecting data on the execution of the four pillars of throughput in our restaurants and providing feedback and coaching on a weekly basis.

This is allowing our restaurant teams to see progress, which is energizing and motivating as the experience of winning catches momentum. And finally, our teams now have real time access to their Max 15 throughput results in the moment. So our GMs can coach and recognize great throughput while it is happening. Since we put these coaching tools in place in the third quarter, we have seen the number of restaurants with at least four crew members on the front line during peak periods improve from 30% to around 50%. This is driving an acceleration in our throughput performance as the number of entrees in our peak 15 minutes improved by a full point in the fourth quarter compared to last year. I am thrilled to see the progress we are beginning to make and continuing this momentum is critical as we approach our peak burrito season in mid-March.

We will also further strengthen our industry leading value proposition, which consists of delicious culinary, made with real ingredients, that is customizable, convenient, serve quickly, and an accessible price point. When we were executing on all parts of our value proposition, we were providing a great customer experience that would help all other drivers of sales perform better, such as menu and innovation. And last year, Chicken al Pastor and Carne Asada, both surpassed our expectations in drove incremental transactions. This is a testament to the cross-functional effort by our marketing, culinary, supply chain, and restaurant teams that do an outstanding job innovating, as well as bringing back past favorites that are more delicious each time and are executed seamlessly.

2024 will be another exciting year for menu innovation, including one to two limited time offers and rolling out creative ways to shine a spotlight on our core menu throughout the year. As part of highlighting the core, we recently launched our latest lineup of lifestyle bowls, which shows how the customization of our real ingredients allows Chipotle to embrace all interpretations of wellness, whether it be plant-based, high protein, keto, paleo, and more. In connection with the launch, we announced a partnership with Strava, the leading digital community for active people with more than 120 million athletes, to encourage and reward healthy habits with a chance to earn free lifestyle goals. This is giving our fans the right tools to sustain healthy habits in 2024 and beyond.

In addition to menu innovation, our marketing team continues to do a fantastic job of making the Chipotle brand more visible, more relevant, and more loved to drive difference, culture, and drive a purchase. Our Behind the Foil campaign is a great example as it highlights key differentiators of Chipotle. This includes our restaurant teams preparing our real ingredients, made fresh every day using classic culinary techniques, such as dicing onions and jalapenos, hand-mashing our signature guac, and grilling our adobo chicken, steak, and fajita veggies on the Plancha. We will continue to evolve the Behind the Foil campaign in 2024, and it’s really exciting to see that our best performing ads are an authentic, behind the scenes look into a day in the life of a Chipotle team member.

This certainly demonstrates one of our core values, which is authenticity was here. Our food is real, and so are we. Shifting to amplifying technology innovation, we have made a lot of progress this year on improving the digital experience. We made several enhancements to our app functionality, including order readiness messaging, wrong location detection, reminders to scan for points to check out, prior order history and more. This has helped to reduce friction points and improve the overall experience for guests. We also launched Freepotle for our rewards members, which was successful in driving engagement and enrolling new members as we were able to surprise and delight our guests with free rewards such as guac, a beverage, or double meat.

From the Freepotle drops, we were able to learn more about our rewards members to improve our ability to deliver relevant experiences in the future. Finally, we recently rolled out suggestive upsell on our app at checkout, based on data we have on our rewards members including prior order history. Going forward, I believe we are on a multiyear path to commercializing our customer data and insights into more targeted marketing campaigns and improving the overall digital experience that will drive increased frequency and spend over time. I also wanted to spend a few minutes providing an update on our Cultivate Next Fund which launched two years ago with an objective of making early-stage investments into strategically aligned companies that further our mission to cultivate a better world and accelerate our strategic priorities.

Since launching this fund, the amount of innovation that we have seen across the food tech landscape has surpassed our expectations and encompasses everything from farming to supply chain to alternative proteins and oils to in-restaurant automation and more. We have reviewed hundreds of innovative companies and have made seven investments of which there are many opportunities for commercial engagements. This includes Hyphen, which we are partnering with to develop our automated digital make line and Vebu which we are partnering with to develop Autocado that cuts cores and scoops avocados. Both Hyphen and Autocado could help to improve the overall experience for our teams by removing less favorable tasks and for our guests by providing on time accurate and delicious food.

We continue to work on iterations of each technology at our Cultivate Center. And the good news is that we plan to pilot the automated digital make line and Autocado in a restaurant in 2024 as part of our stage gate process. Last month, we announced two more investments in Greenfield Robotics and Nitricity. Greenfield Robotics provides regenerative agriculture solutions without chemicals using fleets of autonomous robots to weed fields. And Nitricity uses technology to tackle greenhouse gas emissions by creating natural fertilizer products that are better for fields, farmers, and the environment. We believe both Greenfield Robotics and Nitricity could play an important role in ensuring a more sustainable future for farms within our supply chain.

Our suppliers are a key enabler of Chipotle’s growth and help us to further our purpose of cultivating a better world. We will continue to find innovative ways to support their ability to grow, harvest, and supply the high quality, sustainably raised real ingredients that Chipotle serves. Our final strategic pillar is expanding access and our development team has done an incredible job of meeting our development targets despite the timeline challenges we continue to see. In the fourth quarter, we opened 121 new restaurants and for the full year, we opened 271 new restaurants, which is the highest number of openings in the company’s history in a single quarter and in a single year. We have now surpassed 800 Chipotlanes and continue to see very strong results with Chipotlanes driving higher new restaurant productivity, margins, and returns.

Additionally, this year, we had some fantastic openings in new markets with our first restaurant in Calgary breaking an opening day record and sustaining very high volumes post opening day. When we serve delicious food with exceptional operations and execute great local marketing, our brand gains traction quickly, and Canada is a testament to this. We will continue to accelerate our growth in Canada in 2024, with 10 to 14 new restaurant openings planned, representing 25% to 35% growth for the country, and in total we continue to target 285 to 315 new restaurant openings in 2024, mostly in North America, with over 80% including at Chipotlane. So, to conclude, I want to thank our 115, 000 employees for their hard work which drove strong results in 2023.

We hit some big milestones, including surpassing 3, 400 restaurants, 800 Chipotlanes, $3 million in AUVs, and forming our first international partnership. As I look forward, I see the opportunity longer term to more than double our restaurants in North America, increase our penetration of Chipotlanes, surpass $4 million in AUVs, expand our industry leading margins and returns and further our purpose of cultivating a better world globally. As I mentioned in the beginning, this ambitious plan will require exceptional people, exceptional food, and exceptional throughput. The good news is that I am certainly at the right people and the right strategy to achieve it. So with that, I will turn it over to Jack.

Jack Hartung: Thanks, Brian, and good afternoon, everyone. Sales in the fourth quarter grew 15% year-over-year to reach $2.5 billion as comp sales grew 8.4% driven by over 7% transaction growth. Restaurant level margin of 25.4% increased about 140 basis points compared to last year, and earnings per share adjusted for unusual items was $10.36 representing 25% year-over-year growth. The fourth quarter had unusual expenses related to elevated depreciation and changes to illegal contingency. Looking at fiscal 2024, we anticipate comps in the mid-single digit range for the full year. As a reminder, we were impacted by unusually cold weather throughout the country in January. As the weather has normalized, our underlying sales trends remain strong and they support our full year guidance range.

Additionally, Q1 will include the benefit of an extra day due to leap year, but this will be offset by Easter shifting into Q1 this year compared to Q2 of last year. I’ll now go through the key P&L line items beginning with cost of sales. Cost of sales in the quarter were 29.7%, an increase of about 40 basis points from last year. A larger mixed shift to beef due to the success of Carne Asada as well as elevated cost across the board most notably beef produce and queso was partially offset by the benefit of menu price increases and lower paper costs. For Q1, we expect our cost of sales to be in the low 29% range as the benefit of the mixed shift out of Carne Asada will be partially offset by higher costs across several line items, most notably avocados and tortillas.

We anticipate cost of sales inflation to be in the low to mid-single digit range for the full year. Labor costs for the fourth quarter were 25%, a decrease of about 60 basis points. points from last year. The benefit of sales leverage and better labor execution more than offset wage inflation and higher performance-based compensation. For Q1, we expect our labor costs to be in the low 25% range with wage inflation and the low to mid-single digit range. And we anticipate wage inflation will tick up to the mid-single digit range as California wages go up around 20% in April this year. Other operating costs for the quarter were 14.7%, a decrease of about 100 basis points from last year. The decrease was driven by sales leverage as well as lower marketing and promo cost which were 3.1% of sales in Q4, a decrease of about 30 basis points from last year.

In Q1, we expect marketing costs to be in the low 3% range with full year to come in right around 3%. In Q1, other operating costs are expected to be in the high 14% range. G&A for the quarter was $169 million on a GAAP basis or $170 million on a non -GAAP basis, excluding about $1 million change in illegal contingency. G&A also include $122 million in underlying G&A, $36 million related to non-cash stock compensation, $10 million related to higher bonus accruals and payroll taxes on equity investing and exercises, and $2 million related to our upcoming All Manager Conference, which is scheduled for Q1 of this year. We expect our underlying G&A to be around $127 million in Q1 and step up each quarter as we make investments in people and technology to support our ongoing growth.

We anticipate stock comp will be around $32 million in Q1, although this amount could move up or down based on our actual performance and is subject to the final 2024 grants which are issued in Q1. We also expect to recognize around $7 million related to employer taxes associated with shares divest during the quarter and $21 million for costs associated with our bi annual All Manager Conference in March, bringing our anticipated total G&A in Q1 to around $187 million. Adjusted depreciation for the quarter was $79 million or 3.1% of sales, and for 2024 we expect it to remain right around this level as a percent of sales. Our effective tax rate for Q4 was 26.2% for both GAAP and non-GAAP and for 2024 we continue to estimate our underlying effective tax rate will be in the 25% to 27% range, though it may vary based on discrete items.

Our balance sheet remains strong as we enter the quarter with $1.9 billion in cash, restricting the cash and investments with no debt, and during the fourth quarter, we repurchased $144 million of our stock at an average price of $1, 936. For the full year, we repurchased a total of $590 million at an average price of $1, 827, and going forward we’ll continue to opportunistically repurchase our stock. During the quarter, our Board authorized an additional $200 million for our share authorization program, and at the end of the quarter we had $424 million remaining. We opened a record 121 new restaurants in the fourth quarter, of which 110 had a Chipotlane, and as we mentioned last quarter, we anticipate opening between 285 and 315 new restaurants in 2024, with over 80% having a Chipotlane.

We continue to see developers delaying projects due to macro pressures and high interest rates, along with permitting, inspection, and utility installation delays. The midpoint of our guidance range assumes these challenges persist, and we remain on track to move towards the high end of the 8% to 10% range by 2025, assuming conditions do not worsen. In closing, Chipotle is a purpose-driven company that has been able to scale over the last 30 years into one of the largest restaurant brands in the world. An exciting part is that we still have a long growth runway in front of us. Our strong economic model gives us a high degree of confidence that our ambitious growth objectives are achievable, if not beatable. And as we continue to protect and strengthen our economic model, our long-term growth opportunity will only expand just as it has over the last 30 years.

So thank you to all of our employees for their hard work and their dedication to Chipotle, and let’s keep the momentum going in 2024. With that, we’ll open the lines for your questions.

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Q&A Session

Operator: [Operator Instructions] The first question comes from Andrew Charles with TD Cowan.

Andrew Charles: Great, thanks. Brian, I appreciate the ambitions that you talk about the $4 million AUVs and I think the same drivers that were used to reach the $3 million level are still the largest drivers to get to the $4 million level which includes operations, marketing, loyalty to Chipotlane and many innovations. But if you look back from several years from now and you get to that $4 million fast and expected, what driver do you work better than it has in recent years or maybe you think about it differently, are there new drivers that will help you get to the $4 million level such as catering, breakfast or automation and then Jack, I have a follow-up?

Brian Niccol: Yes, thanks for the question. Look, I do believe at the end of the day the thing that will get us to $4 million and probably beyond that is going to be great execution in the restaurant meaning focusing on great culinary, great people and great throughput. I think we’re very fortunate that it doesn’t require another day part, it doesn’t require something that we aren’t currently doing today to achieve that result. I do think things like automation like Hyphen and Autocado and continuing to do things with our rewards program, the menu innovation, the marketing will obviously be things that push us further and further but one thing I think that we demonstrated this last quarter is when we perform better on the operation front all those things I just listed off, have a, I would call it almost like a multiplying effect.

So the good news is we still have a lot of headroom to go on operational execution, and I think we’ve got the right things in place for the long term to get us to that $4 million and beyond.

Andrew Charles: Helpful. And then, Jack, my questions are on the mechanics to get to that $4 million level. I mean, do you expect staying within, with the same store sales to get there, or do you think the law of large numbers kicks in at some point in the out years that low single digits the right rate of same store sales growth? And similarly, what kind of margins do you think the business can support at $4 million volumes assuming normalized commodity and labor inflation?

Jack Hartung: Yes, Andrew, it’s really hard to predict over a long period of time into the future what comps are going to do. I think for the foreseeable future, our guidance next year in the mid-single digit I think makes sense. But if you look at our history, we have a history of having outsized comps when the economy is going well, I think makes sense. But if you look at our history, we have a history of having outsized comps when the economy is going well, when our operations are going well. I would argue even the acceleration we saw in the fourth quarter was we had a great combination of demand being created by Carne Asada, what’s become a favorite of our customers, and throughput allowing those sales to flow through. Those are the — and I would expect those things to happen in the future that are very hard to predict how and when they’re going to happen, Andrew.

But those are the things that Chipotle has seen in the past, and I think that will likely happen in the future as well. So the $4 million while it’s in a mid-single -digit is something we think we definitely will get there. From the margins, I would expect margins to continue to expand. We still expect to see a pass-through every time we grow our transaction, grow our sales through additional customers. About a 40% flow-through, as that 40% gets averaged in against the 26% we delivered last year, I would expect the margins to go up. And as we get up to $4 million, I would expect we’d be in the high 20%, maybe even in a 30% range. Again, you’re talking about predicting something over a very long period of time, but our margins will definitely get stronger over time, which means our returns will get stronger as well as we move from $3 million to $4 million.

Operator: The next question comes from David Tarantino with Baird.

David Tarantino: Hi. Good afternoon. And congratulations on a great 2023. My question is really about the unit growth, and I’ve got two parts to that. I think you’ve been talking about 7, 000 restaurants in North America for a while, and as you build more and more Chipotlanes and see the returns you’re getting, I’m just wondering if that number could prove low in your mind. Is there upside to the 7, 000 over time? And then I guess the second part of the question is I know you want to grow faster and Jack, you mentioned getting to 10% unit growth next year is a goal. I’m just wondering what line of sight you have to that at this point that you can share with us. Thanks.

Brian Niccol: Yes, why don’t I go ahead and get started, David, and then I’ll let Jack fill in. Look, the way we’ve come to the 7, 000 number is we’ve looked at, what our penetration levels are. And in some of the places where we had the most penetration, we continue to build restaurants with success, which then gives us the confidence to do the exercise to say, okay, well, if you just apply that math to the rest of the country, we quickly add up to 7, 000. So we think it’s a very practical goal. Some might say conservative, but we definitely think it’s a practical goal. And, probably as we get closer, I think Jack’s talked about this in the past. At one point we were talking about having 3, 000 Chipotlane then we said 4, 000 and we said 5, 000. Here we are at 7, 000. I hope it does prove to be conservative. I think the brand’s got a lot of upsides in it, but that’s how we get to the 7, 000.

Jack Hartung: Yes, then David, on how do you get to 10 %? Our visibility is quite good. Our inventory building that the teams have been doing is really, really strong. In fact, the team has had to build more inventory than we normally would need to basically offset these timelines. These timelines have really delayed everything so that you’re talking about instead of 15, 16 months, from when you get a deal to open. It’s not more like 21, 22 months or so. But each year the team builds a stronger inventory. The result of the new openings has been outstanding. So the quality has been very, very high. So the inventory itself looks really, really good. And if we get any break in terms of timelines with the quality has been very, very high.

So the inventory itself looks really, really good. And if we get any break in terms of timelines with developers moving a little bit faster with local authorities in terms of utilities, in terms of permitting, if that was a little bit faster, we actually can get to that clip even a little sooner. But we built in the exact same extended timeline that we’re seeing today with the current very robust inventory. And that will get us, if not all the way, very close to that 10% figure.

David Tarantino: And just a quick follow-up, Jack. Are you seeing any signs at all that the timelines could be getting a little bit shorter? Any signs of life there?

Jack Hartung: Not anything sustained, David. So, I mean, our teams are working really, really hard at it. The most recent challenges been developers with high interest rates. They’re pausing a little bit. I do think if interest rates improve this year, I do think that will help. But nothing that I would bank on right now. We’re certainly working hard at it, though.

Operator: The next question comes from Lauren Silberman with Deutsche Bank.

Lauren Silberman: Thank you. So, I wanted to ask too, one on throughput, clearly a big area focus driver of traffic this year. Can you talk about how you see the potential traffic opportunity in ‘24 driven by throughput and just the priorities to get there to further unlock that opportunity?