Chipotle (CMG) Strong On Digital Innovation, Costs High

Chipotle Mexican Grill, Inc. (NYSE:CMG) relies on strong brand position and other sales-building initiatives. The company’s e-commerce platform is gaining momentum, driving traffic and sales. However, high costs and intense competition in the restaurant industry have been headwinds.

Notably, the company faced considerable flak throughout 2016 due to an issue of food-borne illnesses. As a safety measure, the company was forced to close several outlets. Ever since then, this fast-casual Mexican chain has been undertaking aggressive efforts to restore its economic model as well as regain customer trust. Backed by such brand reviving efforts, Chipotle’s shares have gained 51.6% in the past year, outperforming the industry’s rally of 6.7%.

Sales-Building Initiatives Strong

Chipotle’s robust marketing activities, including a combination of brand-building efforts as well as transaction-driving promotions and advertising, are resulting in a steady inflow of new customers. The company implemented a menu price increase in the fourth quarter of 2017 at an additional 900 restaurants, which helped in traffic and thereby, boosted comps. Also, management is designing a beverage program, which includes a complete redesigning of beverages and how they are merchandised to customers. Moreover, increased focus on delivery services might continue to augment the top line.

Chipotle is prioritizing its e-commerce program to gain customer confidence as part of its digital innovation. In this regard, the company has redesigned and simplified its online ordering site, enabled online payment for catering, online meal customizations and collaborated with several well-known third-party providers for delivery.

In the third quarter, the company created new records as digital sales were 11.2% of sales and grew 48% year over year. Also, since the rollout of its “Smarter Pickup Times” technology, there has been a significant increase in digital orders and higher guest satisfaction. In 2018, the company plans to accelerate the rollout of the second make-lines, which will enable a faster, more accurate experience for digital customers and allow restaurant crew to support higher sales volumes. So far, the company has progressed with digitizing second make-lines in roughly 7500 restaurants. It is aiming to make it available in all restaurants by the end of 2018. The digital pick-up shelves are currently in 350 restaurants, and the company expects all of its restaurants to have pick-up shelves by mid-2019.

Concerns

While Chipotle’s continued efforts to retrieve customer trust and loyalty call for appreciation, high marketing and promo expenses related to such initiatives have been hurting profitability. Moreover, costs to support the company’s newly-designed food safety program can weigh on margins. Also, implementation of food safety practices has increased the amount of labor required to prepare and serve food, resulting in higher labor costs which may continue to keep profits under pressure. In the third quarter, general and administrative expenses were 8.9% of total revenues, reflecting an increase of 10 bps year over year.

Also, the fast-casual restaurant space is highly competitive. Chipotle is facing intense competition from the likes of McDonald’s (NYSE:MCD) , El Pollo Loco (NASDAQ:LOCO) and BJ’s Restaurants (NASDAQ:BJRI) . Unless the company makes pragmatic use of advanced technologies to innovate across value chains, it has high chances of fading out like many other restaurant retailers.

Chipotle currently carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

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