Should You Leave Room for Chipotle in Your Portfolio?

Chipotle Mexican Grille released fourth-quarter and full-year earnings this week and, by most accounts, the numbers were solid.

During the 2012 period, the fast-casual restaurant operator reported revenue of $2.73 billion, up 20.3% from 2011. For the quarter, revenue rose 17.2% year over year to $699.2 million.

On a more worrisome note, while restaurant-level operating margin for the year increased 110 basis points to 27.1% on higher overall restaurant sales, fourth-quarter operating margin fell 150 basis points from the year-ago period to 24.6%, thanks largely to higher food costs. As a result, while Chipotle's 2012 net earnings per share grew nearly 30% from 2011 to $8.75, year-over-year net income for the fourth quarter rose a still decent (but much less impressive) 7.7% to $1.95 per share.  


Furthermore, same-store sales rose only 3.8% for the quarter, down from the previous quarter's comparable-store increase of 4.8%. As fellow Fool contributor Demitrios Kalogeropoulos pointed out on Tuesday, that also barely bested Taco Bell operator Yum! Brands' domestic comparable-store sales of 3% but remained a far cry from Panera Bread's solid 5.1%. As such, many investors are frustrated the company has so far avoided price increases to make up the difference.  

The customer's always right
What's the problem with this thinking? By not raising prices in today's difficult economic climate, Chipotle is wisely building priceless customer loyalty. While they've made clear they're open to eventually increasing prices as the economy continues to improve, in the meantime they've opted instead to focus on increasing foot traffic and building transaction momentum.  When Chipotle does finally choose to raise prices, then, its current margin issues will disappear faster than one of its burritos.

In addition, Chipotle still generates plenty of cash and boasts high current returns on invested capital of 23.06%.  As a result, many investors have continued to remain critical of Chipotle's reluctance to increase its rate of location expansion. Instead, Chipotle has continued to use its cash to intelligently avoid leverage while maintaining a sustainable rate of location expansion. By the end of 2012, the company managed to increase its restaurant count 14.9% by opening 183 new locations, including 60 restaurants in the fourth quarter alone, bringing its total number of locations to 1,410.  

While that may sound impressive, note that Yum! Brands managed to maintain its breakneck pace of expansion to open 949 new units in the last year alone.  What's more, Yum! Brands management has stated they intend to open an even higher number in 2013, and if their recent Taco Bell commercials featuring celebrity chef Lorena Garcia are any indication, you can bet the fast-food behemoth has every intention of stealing customers from Chipotle by dispelling the lower-quality stigma surrounding its food.

As it stands, however, the biggest threat to Chipotle's business likely lies in other fast-casual competitors like Panera, whose food quality and price points are much more similar to Chipotle's. Even still, the threat is likely minimal since few consumers are willing to eat the same food every day. In the end, there's no reason similar high-quality restaurants like Chipotle and Panera can't peacefully coexist.

Continued buybacks
If opening 60 locations in the fourth quarter wasn't enough, Chipotle management still had excess cash on its hands and has also continued reducing the company's number of outstanding shares through buybacks. All told, as of the end of 2012, Chipotle had spent more than $520 million in the last four years to repurchase stock at an average share price of $135 and still had $80 million left for additional purchases.  Additionally, with the stock still trading nearly 28% below its 52-week-high set last April, the company's board has already authorized another $100 million for buybacks going forward.

Even so, considering its shares have run up more than 20% over the last three months and currently trade at nearly 37 times trailing earnings, you can't help but wonder whether Chipotle would be wise to put the brakes on its buyback program for the time being.

Bottom line
Shares of Chipotle may currently look expensive, but long-term investors should rest easy knowing the company still has plenty of room to grow and continues to rightly place its attention on its customers. By methodically choosing patience and efficiency to build its already-strong brand, Chipotle will have no trouble continuing to create shareholder value by Foolishly growing its business with a long-term focus in mind.

If you'd like to dig even deeper into Chipotle, check out Fool analyst Jason Moser's new premium research report, which analyzes the burrito maker's situation and answers the question investors are asking: Can Chipotle still grow? If you own or are considering owning shares in Chipotle, click here now and get started! 

The article Should You Leave Room for Chipotle in Your Portfolio? originally appeared on Fool.com.

Fool contributor Steve Symington has no position in any stocks mentioned. The Motley Fool recommends Chipotle Mexican Grill and Panera Bread. The Motley Fool owns shares of Chipotle Mexican Grill and Panera Bread. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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