Earnings Could Catapult Chipotle Stock to Fresh All-Time Highs

Chipotle Mexican Grill NYSE: CMG is set to report its first-quarter earnings on Wednesday after the bell. The burrito maker’s shares have been rangebound for much of 2021, but are within striking distance of all-time highs. A strong report could easily send shares off to the races. Is it reasonable to expect a strong report?

To answer that question, let’s start by looking at one of the keys to Chipotle’s success.

Chipotle’s Digital Business is Thriving

For 2020 full-year, Chipotle grew sales by 7.1% yoy to $6 billion. That was less than half of its 14.8% growth rate in 2019, but impressive when you look at all of the restaurants that struggled mightily in 2020. With dine-in sales heavily impacted by the pandemic, Chipotle turned to its digital business to pick up the slack.

Full-year digital sales were up 174% yoy to $2.8 billion, working out to 46% of Chipotle’s total sales. The burrito maker’s fast-growing loyalty program was responsible for the surge in digital sales. At the end of Q1 2020, the program had 11.5 million members, but daily sign-ups nearly quadrupled in the last month before the earnings release. At the time, many investors figured it was a one-time jump and new member growth would fall off. Those fears were unfounded, however, as Chipotle has gone on to add nearly 8 million more members in the three quarters since then.

Chipotle’s digital business actually peaked in the second quarter, as sales increased 216% yoy to account for 61% of overall revenue. The growth rate slowed down over each of the last two quarters, with digital sales growing 177% yoy in the fourth quarter. The digital sales as a percentage of overall revenue came in at 49% in both the third and fourth quarters. On the Q4 earnings call, management noted that the digital mix has remained in “the low 50% range” in January.

The fast-casual chain’s digital sales are likely to account for around half of overall sales until life returns to normal. But there is no reason for concern because dine-in sales have increased by more than digital sales have decreased. In the second quarter, at the digital peak, Chipotle’s overall revenue dipped 4.8% yoy. In the fourth quarter, on the other hand, overall revenue went up 11.6% yoy.

Even though digital sales have been a godsend for Chipotle during the pandemic, the chain actually prefers that customers dine in person. Digital sales are lower margin than dine-in sales for two reasons:

1. There are delivery costs.
2. People don’t order beverages as much as they buy them in person. Beverages, as you may have heard, are a very high margin item for restaurants.

But it turns out that Chipotle’s margins aren’t under pressure right now. Far from it.

Chipotle’s Restaurant Level Margins Increased in Q4

In the fourth quarter, Chipotle’s restaurant-level margins of 19.5% were 30 basis points higher than in the same period a year ago. A continued shift to dine-in sales is just one reason to expect margins to get better as more people get vaccinated.

Another (smaller) reason for optimism is the introduction of cauliflower rice to Chipotle’s menus. The rice costs an extra $2 for customers, but it is widely popular. After years of shrugging off extra charges for guacamole, Chipotle’s customers are likely to pony up for the rice without issue.

Consensus Estimates May be Too Conservative

Chipotle has a rosy outlook, but what’s really relevant for investors is the built-in expectations.

Earlier this month, Wedbush Securities Analyst Nick Setyan reiterated his Outperform rating and $1,800 price target on Chipotle – which is more than 17% higher than Friday’s closing price. Setyan sees 18% yoy same-store sales growth in the first quarter, above consensus estimates of 16.8%. He believes earnings per share will come in at $4.98, higher than the $4.80 average on Wall Street.

Setyan pointed to Chipotle’s menu innovation and growing customer base as reasons he expects Chipotle to beat the Street. Based on recent trends, it’s hard to argue with him.

How Should You Play Chipotle?

Chipotle is currently forming the “handle” of a 2+ month “cup and handle” pattern. A break above $1,580 would be a bullish indicator, with shares potentially heading towards Setyan’s $1,800 target if that happens.

 

There is an argument to wait for CMG to breakout before purchasing shares. But that could mean getting in at a high price if shares gap-up on earnings.

Investors seem to have more to gain than to lose by getting in ahead of Wednesday’s release.