Shares of Chipotle Mexican Grill (NYSE: CMG) pulled back following its third-quarter earnings report, reversing the recent momentum the stock had seen this autumn. The drop in price stemmed from its sales coming up just short of analysts' expectations.
The popular Mexican restaurant chain is currently in the midst of a transitional period after its CEO left to take the helm of Starbucks. The company is also dealing with the fallout of having to retrain about 10% of its locations to offer correct, larger portion sizes after viral videos and analyst research showed some restaurants skimping on portion sizes.
Let's examine Chipotle's recent earnings to see if investors should buy the dip.
Sales come up just short
By all accounts Chipotle put up solid results, but its sales were just a tad below expectations. For the quarter, its revenue rose 13% to $2.78 billion, which was just shy of the $2.82 billion analyst consensus. Comparable restaurant sales climbed by 6%, which was below the 6.4% increase analysts were anticipating.
Transactions grew by 3.3%, while the average check rose 2.7%. For the fourth quarter, the company noted that it is only expecting a 1% increase in check, as it rolled off a price increase in October. However, it has also been seeing traffic pick up in recent months. It said it saw same-store sales in the mid-7% range in September, with about 4% of that coming from increased transactions. That transaction growth continued into October as well.
Adjusted earnings per share (EPS) climbed 17.4% to $0.27, topping analyst estimates of $0.25. Cost of sales for the quarter was 30.6%, up from 29.7%. The company said higher menu prices were offset by increased avocado prices, larger portions, and the higher costs of its brisket LTO (limited time offering). It said its cost of sales would be above 31% in Q4 due to smoked brisket being on its menu for the full quarter.
Labor costs as a percentage of sales were 24.9%, the same as last year. For Q4, this metric is expected to increase to the low 25% range due to seasonally lower sales.
Meanwhile, its restaurant-level profit margin was 25.5%, down from 26.3% a year ago and 28.9% in the second quarter. The company warned last quarter that this metric, which measures individual level restaurant profitability, would be affected by increasing portions at locations that were underserving customers. It continues to look to improve this metric through efficiencies and innovation in the coming quarters.
The company opened 86 new locations in the quarter, and it expects to open between 285 to 315 new company-owned locations this year and between 315 to 345 next year.
Chipotle ramped up its buybacks in the quarter, repurchasing $488.1 million worth of shares at an average price of $54.55. It bought back $25 million in stock in the first quarter and $151.4 million in Q2.
Image source: Getty Images.
Should investors buy the dip?
There was nothing in Chipotle's Q3 results that alters the long-term path of the stock. While sales were a tad below expectations, traffic improved as the quarter went on and into October, showing the continued strength of the brand. And while larger portion sizes did eat into restaurant level margins as expected, correcting this issue and making portions more uniform across its locations should go a long way in improving the customer experience, which over the long term is a positive.
The company's expansion story, meanwhile, remains on track, and it will be adding more locations in 2025 than in 2024. The company said it feels comfortable increasing its restaurant base by between 8% to 10% a year moving forward. It is beginning to look toward expanding more internationally, with it viewing Europe as a big opportunity. It will also open another restaurant in the Middle East in partnership with Alshaya Group in early 2025, and it sees the opportunity to grow in the region.
While former CEO Brian Niccol has left, it doesn't mean the company is done innovating to improve efficiencies. This includes introducing a dual-sided plancha and produce slicer to help improve prep time and the cooking processes, as well as a new AI-powered hiring platform to help improve staffing.
From a valuation standpoint, the stock trades at a forward price-to-earnings (P/E) multiple of under 43 based on 2025 estimates. Historically, the company has traded at a trailing P/E of 50 or more.
CMG PE Ratio (Forward 1y) data by YCharts.
Despite Chipotle stock's recent pullback, the company's recipe for success remains intact, and the shares are trading within their historical range. The company still has a long runway of growth, opening new locations both in the U.S. and internationally. Meanwhile, patrons continue to love its food, as shown by the continued increases in traffic it sees. I think the stock will continue to be a long-term winner in the restaurant space.
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Geoffrey Seiler has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Chipotle Mexican Grill and Starbucks. The Motley Fool recommends the following options: short December 2024 $54 puts on Chipotle Mexican Grill. The Motley Fool has a disclosure policy.
