With legendary investor Warren Buffett and his company Berkshire Hathaway previously owning Restaurant Brands International, the Oracle of Omaha is no doubt familiar with the restaurant industry. However, there’s one related business he hasn’t owned directly that certainly fits the criteria he seeks out in investments.
Here are three reasons why Warren Buffett would love Chipotle Mexican Grill (NYSE: CMG), and one major red flag that would turn him away.
A strong brand
It goes without saying that one of Chipotle’s key strengths is its powerful brand recognition. The business currently has 3,187 stores in its physical footprint, with plans to open 255 to 285 in 2023. In fact, the leadership team, led by CEO Brian Niccol, believes there can be 7,000 locations in North America one day. This type of growth potential is unheard of in the cutthroat restaurant industry.
Chipotle’s dominance, represented by its 2022 revenue of $8.6 billion, has been spurred by the company’s introduction of the fast-casual concept. And it has cemented itself so strongly in consumers’ minds that similar concepts are often called “the Chipotle of [name a cuisine].”
According to Piper Sandler‘s fall 2022 Taking Stock With Teens survey, Chipotle ranked as the third most popular restaurant brand behind Chick-fil-A and Starbucks. Innovating in an otherwise boring industry has boosted Chipotle’s brand.
Look through Berkshire’s portfolio holdings, and there will be no shortage of businesses that have this same quality.
Taking care of the customer
The brand is bolstered by the simple fact that Chipotle focuses relentlessly on the customer’s experience. By providing real ingredients, a simple menu, a fast ordering process, and affordability, Chipotle has become a top choice for hungry consumers. Same-store sales have increased at an average rate of 8.8% between 2018 and 2022.
With the launch of Chipotle’s rewards program in March 2019, management has shown that it wants to increase accessibility and convenience for customers. In less than four years, the loyalty program has amassed 31.6 million members who can earn points for ordering via the mobile app or company website. Plus, with the introduction of Chipotlanes, the company’s drive-thru option (202 were opened in 2022), it’s even easier for customers to get their favorite menu items.
“Don’t just satisfy your customers, delight them,” Buffett once said. I think he would certainly agree that Chipotle does exactly that.
When it comes to inflation, Chipotle has proven that it can successfully handle rising costs. The company dealt with higher expenses for key inputs like avocados, beef, and chicken last year — factors that would usually crush margins for the business — by raising menu prices multiple times. “We really have not seen any meaningful resistance to our pricing,” Niccol mentioned on the Q4 2022 earnings call.
Moreover, Chipotle’s profitability has actually improved. The company’s operating margin went from 10.7% in 2021 to 13.4% in 2022, thanks primarily to these price increases. And customer foot traffic was positive in January versus the year-ago period. It’s good to know that Chipotle can pull the pricing lever when it needs to.
Buffett believes pricing power is the most important trait to look for when determining if an enterprise is of high quality. Chipotle has demonstrated that it firmly belongs in this category.
An unfavorable characteristic
Despite the three positive attributes that Buffett would find attractive in Chipotle’s operations, there is one huge red flag that would quickly make him sour on the stock — the valuation. As of this writing, Chipotle shares trade at a price-to-earnings ratio of 50, which is more expensive than other popular restaurant stocks like Starbucks, Domino’s Pizza, and McDonald’s.
To be fair, Chipotle’s growth has exceeded these other names in recent years. And the business performed incredibly well in 2022 in the face of macroeconomic headwinds. What’s more, Chipotle’s prospects still call for tremendous gains in the years ahead, according to management. But if there’s one thing Buffett requires, it’s a margin of safety. And Chipotle just doesn’t provide that at its current share price.
Nonetheless, by understanding the characteristics that some of the world’s best investors look for in potential stocks to buy, readers can apply that same thinking when looking at their own portfolios.
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Neil Patel has positions in Berkshire Hathaway. The Motley Fool has positions in and recommends Berkshire Hathaway, Chipotle Mexican Grill, Domino’s Pizza, and Starbucks. The Motley Fool recommends Restaurant Brands International and recommends the following options: short April 2023 $100 calls on Starbucks. The Motley Fool has a disclosure policy.