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Chipotle Mexican Grill (CMG)

Recommendation: BUY
Current Price: $660
Present Value est.: $800
Upside: 21%
1-year Price Target: $865
Upside: 31%

Billy Duberstein
March 12, 2015

This report is published for informational purposes only by students of the Michael Price Student Investment Fund, a
student-run organization the Leonard N. Stern School of Business at New York University.

A Video

Back to the Start

A Quotation

In addition, though marginal businesses purchased at cheap prices may be


attractive as short-term investments, they are the wrong foundation on which
to build a large and enduring enterprise. Selecting a marriage partner clearly
requires more demanding criteria than does dating. From my perspective,
though, Charlies most important architectural feat was the design of todays
Berkshire. The blueprint he gave me was simple: Forget what you know
about buying fair businesses at wonderful prices; instead, buy
wonderful businesses at fair prices.
-- Warren Buffett, 50th annual shareholder letter

Chipotle Mexican Grill - Business Description

Fast Casual QSR Mexican Restaurant


1,783 Restaurants
Includes 17 International Chipotles
(Canada, London, Paris, Frankfurt)
9 Shophouse Asian Kitchens (Washington
D.C. and LA)
2 Pizzeria Locales (Denver)
Catering ~ 1.3% sales
Found in 1993 in Denver Colorado

3/10/2015
Ticker
NYSE: CMG
Price
$660.77
Market Cap
20.3 B
P/E (ttm)
46.34
Forward P/E
31.74
EBIT Margin
17.47%
Net margin
10.84%
Cash + Inv.
1.25 B
$0
Debt
Revenue (ttm)
$4.1 B
Net income
$445 M
FCF(est.)
400 M
Short % Float
2.80%
52 week
472.41range
727.97

Investment Thesis

Highest-Quality Name in Secular Tailwind


Food with Integrity brand is food becoming a credence good?
Unique Business Model*
Industry-leading growth rates AND margins, no debt

Enormous TAM

Greatly increase store count


Further room for store outperformance

Intangibles
Management Team plus board
Unique employee culture

Good Entry Point


Current pessimism sets up for surprises
History of guiding conservatively, embarrassing prominent naysayers

Business Model

Do very few things and do them well.


Invest and Spend in higher-quality food than other fast food and QSR chains
- Antibiotic-free, hormone-free dairy and meat, Organic and Non-GMO when practical
- Humanely raised unconfined animals with exposure to outdoors and space
- Sustainably raised, local farms
- Use classic cooking techniques in open kitchens, braising and slow-cooking meats

Keep costs down by


- Never changing menu limits advertising spend, simplifies process
- Employee advancement incentivizes low-end workers, limits turnover, improves service
- Sparse dcor
- Throughput through assembly-line serves people quickly/ efficiently

Food With Integrity brand being established

Other Aspirational Consumer Brands have done well

Food With Integrity brand Fits with Secular Tailwind


According to Whole Foods, the organic food sector has grown by 20%
CAGR over the past 10 years Kroger claims it is 12%. Either way,
the entry of giants like Kroger, Walmart, and General Mills into organic
prove this is not a fad.
A recent FDA survey found that for the first time, more than half of US
consumers read the labels on their food.
Is food becoming a credence good?
87% of fast casual diners say they prefer to eat foods that are grown
locally up from 70% in 2011.
86% ingredients raised or grown in a more responsible way taste
better, up from 76% in 2011.
73% feels it's important to buy organic for certain food items up from
61% in 2011.
69% try to eat meat that has been raised responsibly and thats up
53% in 2011.
Evidence: Most recent Quarter: MCD comps - 4.0%

CMG + 16.1%

vs.

Food With Integrity Chipotle over Rivals

According to Brand Keys, a consultancy


measuring customer loyalty and engagement,
rated Chipotle the #1 restaurant brand in the
casual/ fast dining category

Industry study shows that Chipotle is 3rd-most


popular overall brand among teens, up from #8
in 2013
Millennials 75% more likely to choose Chipotle
over other brands (Q4 conference call)
The upshot: Chipotle is extremely popular
with a young generation that are likely to
become lifelong customers.

Food With Integrity Unconventional marketing

Sponsored satirical show on Hulu

Cultivate Music Festivals

Viral Videos , Long-form


Commercials

Food With Integrity Unique Employee Culture


Emphasizes hiring entrepreneurial top-performers
-

Seeks out employees passionate about food

Hands on training in classic cooking techniques

Internal Promotions: 90% of salaried management and about 98%


of hourly management coming from internal promotions

Restauranteurs
-

Best general managers who improve teams promoted to


Restauranteur get stock options

Restauranteurs train other restaurants. Once they have improved 4

restaurants, they can be promoted to field leadership

Food With Integrity Growth Seeds


Shophouse Southeast Asian Kitchen 9 Restaurants (Washington D.C, LA)

Pizzeria Locale - 2 Restaurants (Denver, CO)

Total Addressable Market


Restaurants
McDonald's
36,258
Yum Brands
40,000
Domino's
11,600
Wendy's
6,515
Starbucks
21,656
Panera
1,880
Jack in the Box
2,800
Dunkin
11,310
Red Robin
514
Chipotle

1,783

Mission:
Our mission is to change the way
people think about and eat fast food.

Management
Founder and Co-CEO Steve Ells

- Former Chef
- Studied at Culinary Institute of America in Hyde Park, NY
- Sous chef under Jeremiah Tower at Stars restaurant in
San Francisco

- Started Chipotle in 1993 in Denver, CO.


Co-CEO - Montgomery Moran
- Chief Executive Officer of the Denver law firm Messner &
Reeves, LLC
- With Chipotle since 1996
Board of Directors
- Includes 2 former McDonalds executives
- Kimball Musk (brother to Elon)

Recent Numbers Steadily Improving


Key Financials
For the Fiscal Period Ending
Currency
Total Revenue
Growth Over Prior Year

12 months 12 months
Dec-31Dec-31USD
USD

12 12 months
12 months
months
Dec-31- Dec-31-2014A
USD
USD
USD

1,835.9
20.9%

2,269.5
23.6%

2,731.2
20.3%

3,214.6
17.7%

4,108.3
27.8%

Gross Profit
Margin %

692.3
37.7%

840.4
37.0%

1,027.0
37.6%

1,202.2
37.4%

1,552.0
37.8%

EBITDA
Margin %

363.0
19.8%

431.3
19.0%

545.0
20.0%

635.5
19.8%

828.3
20.2%

EBIT
Margin %

294.1
16.0%

356.4
15.7%

460.9
16.9%

539.5
16.8%

717.8
17.5%

Earnings from Cont. Ops.


Margin %

179.0
9.7%

214.9
9.5%

278.0
10.2%

327.4
10.2%

445.4
10.8%

Net Income
Margin %

179.0
9.7%

214.9
9.5%

278.0
10.2%

327.4
10.2%

445.4
10.8%

5.64
42.8%

6.76
19.9%

8.75
29.4%

10.47
19.7%

14.13
35.0%

Diluted EPS Excl. Extra Items


Growth Over Prior Year

Source: Capital IQ

More Recent Numbers Restaurant Stats

Restaurant Level Margins 2014: 27.2%


- Up 0.6% from prior year
** Pricing Power**
- CMG raised prices ~ 6.5% mid-year with no letup in
traffic. Price raise affected comps by 3.8% this year

Valuation Comps
19 US- Based Fast-Food Companies
Industry Classifications
Fast-Food Restaurants
(Primary)

2 Year Beta

P/LTM TEV/LTM EBITDA

[Latest] Diluted EPS


Total
Average
Minimum
Median
Maximum
Standard Deviation
Market Cap. Weighted Avg.

8.11
0.58
0.0
0.5
1.05
0.3
0.61

Chipotle Mexican Grill,


Inc. (NYSE:CMG)

0.487

432.0
30.9
1.27
34.15
48.9
12.4
28.0
46.7

[Latest] (x)
485.0
28.5
10.3
15.9
141.3
33.7
20.6
23.8

Net Income

Revenues, 1 Yr

Cash And

Margin % [LTM] Growth % [LTM] (%) Total Debt Equivalents Capitalization


243.0
12.8
( 7.18)
7.92
75.8
19.7
13.6

193.2
11.4
( 17.1)
11.8
47.9
14.2
3.1

32,888.3
1,731.0
0
109.9
14,997.2
4,008.8
9,247.2

10.8

27.8

Debt/E
Median Beta
CMG levered

0.5
0.43

Market

5,289.6
278.4
0.12
13.1
2,077.9
609.2
1,381.5
419.5

Unlevered
0.18
0.45

184,673.9
9,719.7
227.9
636.3
92,546.1
22,021.1
N/A
20,311.3

Valuation Trailing P/E This year

Valuation 15-Year DCF Base Case Assumptions


5Year Top-Line: 16%

Terminal Year Top-line: 3%


Grows from 4.B to 20 B in revenues in 15 years
$20B 15 years from now is ~ $14.8B in todays dollars assuming 2% inflation, or about the
the size of McDonalds (on a revenue basis).
Assuming $2.5M/ restaurant (todays number) that = 5900 restaurants = 270/ year with no

improvement in revenues/ restaurant, which is doable because CMG is opening a greater


number of restaurants every year and they have higher volumes than they used to.
Operating margin expansion:17.5% to 19%. Current restaurant-level margins: 27.2%

WACC: 7.12% moving to 8% in year 10


**Beta used 0.85 going to 1 in year 10 (* actual estimate is 0.43 and sector median is 0.5!!!)

Valuation 15-year DCF


Base
Growth in Revenue
Growth in Deprec'n
Revenues

10

11

12

13

14

15

16.00%

16.00%

16.00%

16.00%

16.00%

14.70%

13.40%

12.10%

10.80%

9.50%

8.20%

6.90%

5.60%

4.30%

3.00%

12.00%
$ 4,108,269

4,765,592

12.00%

12.00%

5,528,087

12.00%

6,412,581

12.00%

7,438,594

8,628,769

11.10%
$

9,897,197

10.20%

9.30%

8.40%

$ 11,223,422

$ 12,581,456

$ 13,940,253

7.50%
$

15,264,577

6.60%

5.70%

4.80%

$ 16,516,273

$ 17,655,895

$ 18,644,626

3.90%
$

19,446,345

3.00%
$ 20,029,735

COGS
% of Revenues

82.70%

82.56%

82.42%

82.28%

82.14%

82.00%

81.80%

81.60%

81.40%

81.20%

81.00%

- $ COGS

$ 3,397,469

3,934,408

4,556,193

5,276,228

6,110,036

7,075,590

8,095,908

9,158,312

$ 10,241,305

$ 11,319,486

12,364,308

EBIT

831,184

971,894

1,136,353

1,328,558

1,553,178

1,801,290

2,065,110

$ 2,620,768

2,900,270

Tax Rate

710,800
38.00%

38.00%

38.00%

38.00%

38.00%

38.00%

38.00%

38.00%

2,340,151
38.00%

38.00%

81.00%

81.00%

81.00%

81.00%

81.00%

$ 13,378,181

$ 14,301,275

$ 15,102,147

15,751,539

$ 16,224,085

$ 3,354,620

3,694,805

$ 3,805,650

38.00%

3,138,092
38.00%

38.00%

3,542,479
38.00%

38.00%

38.00%

EBIT (1-t)

440,696

515,334

602,574

704,539

823,706

962,971

1,116,800

1,280,368

1,450,894

$ 1,624,876

1,798,167

1,945,617

$ 2,079,864

2,196,337

2,290,779

+ Depreciation

110,000

123,200

137,984

154,542

173,087

193,858

215,376

237,344

259,417

281,208

302,299

322,250

340,619

356,968

370,890

382,017

- Capital Expenditures $

225,000

252,000

282,240

316,109

354,042

396,527

380,704

364,882

349,059

333,236

317,414

338,363

357,650

374,817

389,435

401,118

- Change in WC

160,000

86,767

100,649

116,753

135,434

157,103

167,433

175,062

179,260

179,361

174,811

165,224

150,430

130,512

105,827

77,008

= FCFF

165,696

299,767

357,669

426,219

507,318

603,198

784,039

977,769

1,181,991

$ 1,393,486

1,608,241

1,764,281

$ 1,912,403

2,047,976

2,166,408

Terminal Value (in '05)

$ 2,359,503

$ 2,263,394
$ 46,625,925

COSTS OF EQUITY AND CAPITAL


1
Cost of Equity

10

11

12

13

14

15

7.12%

7.12%

7.12%

7.12%

7.12%

7.29%

7.47%

7.65%

7.82%

8.00%

8.00%

8.00%

8.00%

8.00%

8.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

After-tax Cost of Debt

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

3.41%

Proportion of Debt

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

0.00%

Cost of Capital

7.12%

7.12%

7.12%

7.12%

7.12%

7.29%

7.47%

7.65%

7.82%

8.00%

8.00%

8.00%

8.00%

8.00%

8.00%

107.12%

114.74%

122.90%

131.64%

141.01%

151.29%

162.59%

175.02%

188.72%

203.81%

220.12%

237.73%

256.75%

277.29%

299.47%

Proportion of Equity

Cumulative WACC

Present Value

279,856

Value of Firm

$ 24,584,075

+ Cash and marketable securities =

- Value of Debt

Value of Equity

$ 25,809,075

311,731

346,802

385,371

427,768

518,225

601,360

675,327

738,400

789,071

38,308,135

FIRM VALUATION

- Value of Equity options issued by firm


$

1,225,000
-

595,000

Value of Equity per Share

800.14

Value of firm by year

$ 24,584,075

$ Value of Debt

2014

Value of Shares

2015

2016

26,033,465
-

865.02

$
$

2017

27,528,077
-

912.45

$
$

2018

29,060,481
-

961.08

$
$

30,620,817
-

1,010.59

2019

2020

2021

2022

$ 32,196,290

$ 33,760,005

$ 35,303,771

$ 36,821,106

1,060.59

1,110.21

1,159.20

2023

1,207.35

1,254.54

801,510

804,446

797,661

781,286

$ 16,325,261

Valuation 15-Year DCF Present Value Sensitivity


$

800.14
2.0%
2.5%
3.0%
3.5%
4.0%

$800.1
17.0%
18.0%
19.0%
20.0%
21.0%

High growth vs. Terminal Growth


14.0%
15.0%
$599.80
$645.29
$640.54
$689.62
$689.38
$742.77
$749.00
$807.66
$823.47
$888.70

16.0%
$694.13
$742.35
$800.14
$870.71
$958.85

17.0%
$746.56
$798.96
$861.77
$938.47
$1,034.27

18.0%
$802.82
$859.73
$927.95
$1,011.25
$1,115.30

High growth vs. mature Operating Margin with 3% terminal


14.0%
15.0%
16.0%
17.0%
18.0%
$624.10
$671.89
$723.23
$778.36
$837.53
$656.74
$707.33
$761.69
$820.06
$882.74
$689.38
$742.77
$800.14
$861.77
$927.95
$722.01
$778.21
$838.60
$903.48
$973.16
$754.65
$813.64
$877.05
$945.19
$1,018.37

Valuation 15-Year DCF 1-Year Price Target


865.02
2.0%
2.5%
3.0%
3.5%
4.0%

High growth vs. Terminal Growth


14.0%
15.0%
$650.36
$699.12
$694.00
$746.61
$746.31
$803.53
$810.18
$873.04
$889.95
$959.85

865.02
17.0%
18.0%
19.0%
20.0%
21.0%

16.0%
$751.47
$803.11
$865.02
$940.61
$1,035.02

17.0%
$807.66
$863.78
$931.06
$1,013.22
$1,115.83

18.0%
$867.95
$928.90
$1,001.98
$1,091.21
$1,202.66

High growth vs. mature Operating Margin with 3% terminal


14.0%
15.0%
16.0%
17.0%
18.0%
$676.39
$727.61
$782.63
$841.72
$905.13
$711.35
$765.57
$823.83
$886.39
$953.56
$746.31
$803.53
$865.02
$931.06
$1,001.98
$781.27
$841.49
$906.21
$975.74
$1,050.41
$816.23
$879.45
$947.40
$1,020.41
$1,098.83

Some More Quotations


"Taco Bell has started to eat Chipotle's lunch"
David Einhorn, 10/2/12
- since then CMG + 130%

I think its a great time to short it though. Im actually looking at a $380 price. It
might get there today, I dont know, but it hasnt gotten there recently. Thats
like the perfect price to short it at, and at that price I think Ill come in and do it.
-- Jeff Gundlach, 5/20/2013
-- since then CMG + 77%

Current Pessimism
Can they Top Last Years Performance?
- record comps tough to beat

Food Inflation
- High beef, dairy, and avocado inflation lead to food costs at ~ 35%
of costs, up from 33%
Looks Expensive

Optimistic Surprises?
History of Conservative Guidance
Investments in people to pay off?
- More Field Leaders per restaurant now than ever
before even better performance?
Despite insane comps, room for improvement?
- currently the top-performing CMGs are 3 times
faster at peak times than the average store.
If food inflation moderates:
- margins could expand with no price increase
US Economic Tailwinds - Lower gas prices,
improving economy, no ill-effect from strong $

Chipotle Mexican Grill (CMG)


Recommendation: BUY
Current Price: $660
Present Value est.: $800
Upside: 21%
1-year Price Target: $865
Upside: 31%

Billy Duberstein
March 12, 2015

This report is published for informational purposes only by students of the Michael Price Student Investment Fund, a
student-run organization the Leonard N. Stern School of Business at New York University.