The turnaround in Chipotle Mexican Grill, Inc. (NYSE:CMG) has arrived.
The company got a new CEO, one who Wall Street applauded because he was the mastermind behind Taco Bell’s turnaround. CMG also reported strong first quarter numbers that had positive comparable sales growth, margin expansion and improved profitability.
Now, Chipotle is experiencing super-charged growth in its delivery business thanks to a national partnership with DoorDash.
All together, CMG stock has run from a low of $250 in February to $430 today. That is a 70% gain in just three months.
It is. Even with a new and improved CEO, positive comparable sales growth, super-charged delivery results, and a turnaround that is well underway, CMG stock isn’t worth $430 today.
At best, this stock is worth around $390 to $400. Thus, Chipotle stock seems destined for choppy trading in the near future.
Here’s a deeper look.
Delivery Is Chipotle’s Latest Tailwind
CMG stock has benefited from a confluence of tailwinds over the past several months, the most recent of which is the company’s expanded delivery capabilities.
On the Q1 conference call, management implied that the delivery business would expand thanks to strong demand. An expansion of the delivery business also aligns with new CEO Brian Niccol’s goal of making Chipotle relevant again among young consumers. After all, who are the consumers that use food-delivery apps like Uber Eats and DoorDash the most? Young, tech-savvy consumers.
Shortly thereafter, Chipotle announced a big national delivery partnership with DoorDash. As a part of that partnership, delivery capability would be rolled out to more than 1,500 Chipotle restaurants across the U.S.
The early results are in from that partnership, and they are quite good. Weekly delivery orders are up 667% since the DoorDash partnership. This robust growth underscores that there is huge demand for Chipotle product in the delivery world.
This huge demand means that this is yet another big revenue driver for the company going forward. Because delivery is still in its relative infancy (only 5% of applicable sales, versus a 10% share for e-commerce), this revenue driver could be quite big for several years.
But this comes with a caveat. Delivery is a lower-margin business for restaurants because the delivery company takes a cut. As one restaurant owner describes it: “We know for a fact that as delivery increases, our profitability decreases.”
Thus, while delivery may be a huge revenue driver for CMG over the next several years, it will actually detract from the company’s profitability.
Chipotle Stock Is Already Priced for Perfection
In a best-case scenario, CMG manages to benefit from super-charged delivery revenue growth while offsetting margin compression with cost savings and operating leverage.
Even in this best-case scenario, though, Chipotle stock still isn’t worth $430.
Before the delivery tailwind, I thought Chipotle was a 7-9% revenue growth company over the next five years. Factoring in higher growth from delivery, I think that the revenue growth rate can trend toward 10%. Assuming no impact on profitability, and operating margins still trend toward my long-term target of 15%, I think Chipotle can do about $29 in earnings per share in five years.
A market-average growth multiple of 20-times forward earnings on $29 implies a four-year forward price target of $580. Discounted back by 10% per year, that equates to a present value on Chipotle stock of between $390 and $400. That represents around 7% downside risk from today’s price tag.
Bottom Line on CMG Stock
The CMG turnaround has arrived. But the stock’s 70% rally over the past three months appropriately reflects that reality.
As such, further upside in a near-term window will be hard to come by. In all likelihood, turnaround euphoria fades in the near term, and the stock trades down to a more fundamentally supported price tag below $400.
That selloff could be a buying opportunity. But here and now, it is best to wait on the sidelines.
As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.