Chipotle Mexican Grill’s Stock Split: What Does It Mean For Shareholders? (NYSE:CMG)

Today’s article zooms in on Chipotle Mexican Grill, Inc. (NYSE:CMG), a North American consumer staples company that recently announced an intended stock split.

We covered Chipotle in September 2022, assigning a bullish rating on its prospects after critiquing Bill Ackman’s then-long position.

Our call on Chipotle’s stock worked out well as it surged by more than 85% ever since. However, the time has come to revisit Chipotle’s prospects.

Herewith are a few of our latest findings on Chipotle Mexican Grill’s stock.

Chipotle’s Stock Split Assessed

Chipotle announced a 50-1 stock split earlier this month. The split is subject to shareholder approval of an amendment, anticipated to close by June 6. Should the amendment be approved, Chipotle’s existing investors will receive 49 additional shares upon market close on June 25.

The question now becomes: Will the amendment be approved, and what would approval mean for Chipotle’s stock?

We believe the amendment will be approved as the benefits from the stock split are asymmetrical (which shareholders are probably aware of). Although the split will not influence shareholders’ economic value, a split will make Chipotle’s stock more investable to smaller market participants. As such, higher volumes will likely occur, leading to upside in Chipotle’s stock price (subject to aligned fundamentals, of course).

In essence, Chipotle stock trades above $2900 a pop, and although it’s held by ETFs (who don’t necessarily care about a lower unitary price), we think a split would benefit shareholders.

Revisiting Chipotle Mexican Grill’s Fundamentals

Chipotle’s consumer staples status and robust market representation mean it possesses little cyclicality. Therefore, we decided to do a bottom-up analysis of its stock instead of basing systematic risk factors.

Revisiting Chipotle’s financial statements shows the company achieved additional growth in 2023 as its broad-based revenue surged by 14.3%, which is well above broad-based inflation, illustrating real growth. Furthermore, comparable sales increased to provide Chipotle with assurance regarding expansion plans. In fact, the chain added around 250 restaurants to its portfolio in the past year, increasing its capacity even further. We think additional capacity could enhance the company’s topline throughout 2024, given the evidence that Chipotle’s product sales are non-cyclical.

The following diagram shows Chipotle’s consolidated income statement. Drifting down the statement shows that total operating expenses increased by 11.23% year-over-year. Moreover, Chipotle’s operating profit margin expanded to 15.78% from a previous 13.44%, meaning its enhanced capacity and pricing power outweighed resilient input costs to widen its profit margins. We anticipate sales momentum to sustain given Chipotle’s noteworthy market share of 9.88% and customer loyalty (expanded upon later). In addition, we think labor costs will lag behind product price increases for the remainder of 2024 as a harder labor market has surfaced.

As visible in the following diagram, Chipotle isn’t stacked up with liabilities, which is a good thing in today’s uncertain interest rate environment. Most of its liabilities are leases and unearned revenue. The latter is driven by reward point redemptions, which doesn’t signal anything structural, while the prior is part of doing business for Chipotle as it requires a physical presence. However, I refer back to the fact that apart from a $500 million revolving credit facility, the company’s shareholders have little to worry about regarding debt levels.

Chipotle is fundamentally strong, but commerce-related factors must be considered. Let’s discuss a few.

A Few Anecdotes Worth Considering

We discussed Chipotle’s product-based strengths in our previous article. We reiterate our view that Chipotle has a stellar product suitable for takeaway, eat-in, or delivery customers. Sure, Chipotle is expensive compared to numerous other market participants (especially smaller vendors), but its quality cannot be called into question.

The company’s natural expansion into other jurisdictions presents menu challenges as different subsets of our population may not enjoy the same ingredients. However, the flip side is that it presents an opportunity for Chipotle as geographic menu differentiation adds to in-house synergies that can be implemented in other jurisdictions.

A factor that we’d like to see improve is Chipotle’s cost structure. Sourcing fresh ingredients at a reasonable price is difficult, but the company’s growth can surely lead to power over its suppliers and subsequent product price decreases. The firm’s topline earnings show that pricing isn’t slowing down sales, but Chipotle operates in a low-barriers-to-entry market. Therefore, we think lower prices will lock in unparalleled market share, concurrently raising the industry’s barriers to entry.

CMG Stock Valuation

I used Seeking Alpha’s sample data and Chipotle’s five-year average forward P/E to formulate a P/E expansion valuation, which led me to a price target of $4,304. The target seems high, but consider that this is a stock trading about 18% below its normalized P/E and about 22% below its EV/EBIT.

I’m not saying that these metrics alone are enough to suggest that Chipotle is significantly undervalued, but they certainly provide preliminary feasibility.

Risks

Let’s briefly discuss a few of Chipotle’s risks to balance out the argument.

Firstly, as mentioned before, Chipotle operates in a low-barriers-to-entry business. Moreover, the food industry is trend like, meaning consumer cycles are tough to predict, lending the argument that perpetual profitability is improbable.

Furthermore, Bill Ackman’s Pershing Square recently 13.5% of its exposure to Chipotle, suggesting the stock’s year-over-year rally might have come to an end. Although valuation metrics show that Chipotle remains undervalued, technical analysis metrics suggest otherwise. For instance, Chipotle’s relative strength index of 82.29 is above the commonly agreed-upon overbought threshold of 70. As such, Ackman’s disposition makes sense in a way.

Lastly, Chipotle stock’s value-at-risk is elevated compared to the S&P 500. This suggests it possesses plenty of tail risk, which could hurt an investor’s portfolio in severe market drawdowns.

• Aside: A 15.16% Monthly VAR of 5% means Chipotle’s stock has lost 15.16% or more in 5% of its traded months.

Final Word

We believe Chipotle remains a strong buy. The stock has surged since our latest coverage, subsequently breaching key technical levels. However, the company’s fundamentals suggest its profitability will continue to improve. Furthermore, a price multiple-based valuation shows the stock is theoretically undervalued.

Lastly, let’s not forget that Chipotle’s 50-1 stock split can lead to enhanced engagement from smaller investors, potentially leading to additional price support.