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On October 18, 2012, Steven Ells, the founder, chairman of the board, and co-chief executive officer (CEO) of the Denver, Colorado-based restaurant chain, Chipotle Mexican Grill (CMG), completed the conference call fol- lowing the release of the company’s third quarter 2012 results. While the reported results were positive, analysts picked on the slowing down of same-stores sales (a key metric for restaurant chains), the competition from Yum Brands’ Taco Bell and their recent launch of the Cantina Bell menu and CMG’s announcement that food costs were expected to increase in the near future. Following the announcement of third quarter results, CMG’s stock went down by nearly 12 percent in intra-day trading to finally stabilize at a 4 percent drop over the previous day’s price. At the end of trading on October 18, CMG’s stock price was at $285.93, a significant decline from a 52-week high of $442.40.1 CMG had been the darling of both Wall Street and its customer base ever since the company’s founding in 1993 and its 2006 initial public offering (IPO). Investors were attracted to CMG for its fast growth and sizeable profit margins, while customers responded favorably to its “Food with Integrity” mission of serving good quality food with inputs sourced using sustainable farming practices. Both Ells and his co-CEO, Montgomery F. Moran, had to respond to the challenges confronting the company.
The U.S. Restaurant Industry2
Profile For the year 2012, the National Restaurant Association projected total U.S. restaurant sales of $631.8 billion (compared to $379 billion in 2000 and $239.3 in 1990), which represented nearly 4 percent of the gross domestic product. There were 970,000 restaurant locations, and the industry employed 12.9 million people (10 percent of the total workforce). The restaurant industry’s share of the food dollar was 48 percent in 2012 compared to 25 percent in 1955.3
The restaurant industry consisted of a number of seg- ments such as eating places, bars and taverns and lodging place restaurants. The three largest segments were full ser- vice, quick service and fast casual. Full service restaurants offered table ordering, and the average check (revenue per customer) was the highest of the three segments. While national chains such as Darden Restaurants (operator of Red Lobster, Olive Garden and Longhorn Steakhouse) and Dine Equity (IHOP and Applebee’s) existed in this segment, the majority of operators were individuals, families or limited partnerships. This segment accounted for 31.7 percent of industry revenues in 2011.
The quick service segment (previously referred to as “fast food”) consisted of restaurants that offered fast
CASE 8
Chipotle: Mexican Grill, Inc.: Food with Integrityi
i. This case has been written on the basis of published sources only. Consequently, the interpretation and perspectives presented in this case are not necessarily those of Chipotle Mexican Grill or any of its employees.
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Ram Subramanian wrote this case solely to provide material for class discussion. The author does not intend to illustrate either effective or ineffective handling of a managerial situation. The author may have disguised certain names and other identifying information to protect confidentiality.
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counter service and meals to eat in or take out. This seg- ment was further broken down into outlets that special- ized in selected menu items such as hamburgers, pizza, sandwiches and chicken. Because of this segment’s focus on quick service and price (the average check was the lowest of the three segments), large chains tended to dominate. Accounting for about $168.5 billion in rev- enues in 2011, this segment held a 28 percent share of the restaurant market.
The fast casual segment was the smallest of the three, accounting for about 4 percent in market share and $24 billion in 2011 revenues. Operators in this seg- ment offered portable convenient food and focused on fresh healthful ingredients and customizable made-to- order dishes. The average check in this segment ranged between $7 and $10, price points typically lower than the full service segment and higher than the quick service segment. Fast casual was the fastest growing of the three segments, with an 11 percent growth rate between 2007 and 2011. The NPD Group, an industry research firm, indicated that as this segment was in its growth phase, it faced intense competition from both the quick service and the full service segments. Buoyed by the growth in fast casual restaurants, several full service operators had recently entered this segment. For example, P.F. Chang’s opened its Pei Wei locations, and Ruby Tuesday planned to increase the number of its Lime Fresh eateries to 200 locations by the end of 2012. Panera Bread, CMG, Five Guys Burgers and Qdoba (owned by Jack in the Box) were the leading fast casual players.
Industry Economics Restaurant running costs varied by segment. In addition, costs were a function of size and location. Upscale formats (typically full service restaurants and some fast casual chains) made higher investments in interior design and also incurred higher input costs. Many chain restaurants typically chose locations with high population density or a large geographic draw. Food and beverage, labor and real estate costs were the three largest expense catego- ries for restaurants. Typically, both food and beverage and labor costs accounted for around 30 percent each of revenues, while real estate costs were around 5 percent. Marketing and general administrative overhead were the significant non-operating expense categories. The National Restaurant Association reported that in 2010 the average income before income taxes of a restaurant operator ranged between 3 and 6 percent of revenues.
To control the cost of inputs, many large national and regional chains negotiated directly with their suppliers (to benefit both company-owned and franchisee-owned
restaurants) to ensure competitive prices. Many chains also engaged in forward pricing to ensure stability in input costs. The National Restaurant Association reported that beef prices hit record levels in 2011 and were expected to be even higher when the prices for 2012 were finally tallied. Beef prices rose 53 percent in 2012 above 2009 levels as the three largest exporters of beef to the United States — Australia, Canada and New Zealand — all reduced their shipments due to a variety of global factors. While the price of various dairy items (milk, butter, cheese) had remained fairly stable over the last few years, the price of grains such as wheat and corn had fluctuated due to changes in supply and demand as well as weather-related factors. The price of a bushel of wheat went up from $6.48 in 2007 to $7.30 in 2011, after falling to $4.87 in 2009. Similarly, while the average price of a bushel of corn was $4.20 in 2007, it rose to $6.20 in 2011 after falling to $3.55 in 2009.4
Key Competitors A former CEO of Taco Bell, the Mexican food chain owned by Yum Brands, captured the competition in the restaurant industry in the following observation: “We are all competing for a share of the customer’s stomach.”5
Players in the restaurant industry competed not only with their segment’s players but also with those of other segments. In addition, they competed with meals prepared at home as well as frozen or packaged food items available in supermarkets. While restaurants accounted for about 48 percent of the dollar amount spent on food in 2012, the economy played a major role in this. In a 2011 National Household Survey reported in Standard & Poor’s Industry Surveys, 21 percent of those surveyed indicated that they would increase their eating out spending in 2012, while 42 percent would decrease it slightly and 37 percent would reduce it significantly.
CMG faced two major competitors in the Mexican food category of the restaurant industry. While Taco Bell was a player in the quick service segment, Qdoba com- peted, like CMG, in the fast casual segment.
Qdoba. Qdoba was a wholly owned subsidiary of the San Diego, California-based Jack in the Box chain and in 2012 had 600 restaurants in 42 U.S. states and the District of Columbia. Qdoba was founded in Boulder, Colorado in 1995 and grew nationally by featuring Mission-style burritos (made famous first in San Francisco). After Jack in the Box acquired Qdoba in 2003, it expanded the brand rapidly. Of the 600 restaurants in the chain in 2012, around 350 were franchisee-owned and the rest
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were company-owned. A franchisee spoke about his rationale for launching a Qdoba restaurant:
What attracted us to the chain was quality. What brought us to this is that everything is handcrafted and made daily. We consider ourselves to be an artisan fast food chain. We come in every morning about three hours prior to open- ing and start cooking our meals. We start our slowroasted pork and shredded beef that cooks for 6 to 8 hours. Our chicken is marinated in adobo spices for 24 hours before we serve it. We have an artisan table where we make our pico de gallo salsa, mix our cilantro with rice and prepare our guacamole as customers watch. What makes us stand out is the quality of the ingredients we use and our signa- ture flavors. I believe being fast, friendly and fresh is what makes us successful in business.7
The company reported an average check of $9.74 in fis- cal 2011 for company-operated restaurants. The average yearly revenue per restaurant was $961,000 in 2011, an increase of 5.3 percent over 2010. Jack in the Box had rev- enues of $2.17 billion and net income of $67.83 million in 2011. The company stated that there was long-term potential to open 1,600 to 2,000 units across the United States.8
Taco Bell. Taco Bell was part of Yum Brands, Inc., which also owned the KFC and Pizza Hut chains. Yum Brands was the world’s largest restaurant company in terms of units, with nearly 38,000 restaurants in 120 countries. In fiscal 2011, Yum Brands reported revenues of $12.626 billion and a net income of $1.319 billion. At the end of fiscal 2011, there were 5,670 Taco Bell res- taurants in the United States, of which 27 percent were company-owned. Taco Bell reported a 50 percent market share in the U.S. Mexican quick service segment. For fis- cal 2011, the average annual revenues per restaurant were $1.284 million.9
In March 2012, Taco Bell began testing a new menu called “Cantina Bell” in 75 U.S. restaurants. It worked with a Miami-based chef and television per- sonality, Lorena Garcia, to create a new line of upscale menu items including CMG staples such as black beans, cilantro rice and corn salsa. Greg Creed, Taco Bell’s president, talked about the motivation behind Cantina Bell:
Chipotle is an opportunity because what it’s done has expanded the trial and usage of Mexican food. It’s got people to believe they can pay $8 for a bowl or a burrito. Taco Bell can make food every bit as good as Chipotle and instead charge less than $5.10
Taco Bell’s target market was an 18- to 24-year-old value- conscious male. Creed saw Cantina Bell as helping Taco Bell appeal to an older and less value-conscious group of customers. The Cantina Bell launch (and subsequent expansion nationwide in July 2012) was cited as one of the reasons for Taco Bell’s same-store sales growth of 7 percent for third quarter 2012 (compared to the simi- lar period in 2011).11 Exhibit 1 presents the summary of a Zagat comparison survey of Cantina Bell and CMG in New York City.
Chipotle Mexican Grill’s History and Profile Origin and Early Growth In 1990, after graduating from the Culinary Institute of America in New York City, Colorado-born Steven Ells moved to San Francisco to work as a sous chef at a restaurant. In 1993, he opened a taqueria (a Spanish word meaning “taco shop”) in Denver, Colorado, using $85,000 as capital obtained from his father. His goal was to reinvent Mexican food. He reflected on the origins of his first restaurant:
I wanted layers of bold flavors that had nuance and depth, not just hot, not just spicy: cumin, cilantro, cloves, fresh oregano, lemon, and lime. It looked, smelled, and tasted different from traditional fast food. And it didn’t take long before there was a line of people waiting to get in. So I thought, maybe I’ll open one more. I was always quite rebellious and did things my own way. Friends said Mexican food is cheap — you can’t charge $5 for a bur- rito. But I said this is real food, the highest-quality food. Friends said you can’t have an open kitchen, but I wanted the restaurant to be like a dinner party, where everyone’s in the kitchen watching what’s going on. They said people have to order their meal by number. But I said no, you
Exhibit 1 Zagat Comparison of Cantina Bell and CMG in New York City
Price
Item Cantina Bell CMG
Burrito bowl with chicken $5.99 $ 9.88
Steak burrito $5.99 $10.34
Overall assessment: For practically half the price, the Cantina Bell menu is a definite value, but you get what you pay for, and the overall quality and taste of Chipotle still has an edge over Taco Bell.
Source: http://blog.zagat.com/2012/07/taco-bell-vs-chipotle-taste-testing.html., accessed October 19, 2012
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have to go through the line and select your ingredients. And everyone gave me grief over the name: Nobody will be able to pronounce it.12
Ells opened a second restaurant using the profits from the first and a third (all in Denver, Colorado) with a loan from the Small Business Administration. When he had opened 16 restaurants by 1998, McDonald’s Corporation (the global leader in fast food in terms of revenue) made an initial investment to help fund the company’s growth. The company quickly grew to more than 500 units in 2005 (primarily using McDonald’s $360 million capi- tal infusion) and on January 26, 2006 made its IPO. In October 2006, McDonald’s fully divested its holdings in CMG for a value of $1.5 billion. Ells talked about CMG and McDonald’s: “They funded our growth which allowed us to open 535 restaurants. We learned from each other, but we use different kinds of food, and we aim for a different kind of experience and culture alto- gether. So we ended up going our separate ways.”13
The Push to Sustainable Sourcing Ells happened to read an article by Edward Behr that told the story of an Iowa farmer who raised pigs with- out using antibiotics or confining them. Behr went on to add that the meat tasted much better than the mass mar- ket meat that was served in most restaurants. The Behr article led Ells to learn about concentrated animal feed- ing operations (CAFOs).14 In many developed countries, the dominant method of raising livestock for commer- cial purposes was through CAFOs, starting with poul- try in the 1950s and extending to cattle and pork by the 1970s. A CAFO enabled raising livestock by using limited space. The U.S. Environmental Protection Agency (EPA) defined a CAFO as “an animal feeding operation that confines animals for more than 45 days during the grow- ing season in an area that does not produce vegetation and meets certain size thresholds.”15
CAFO confined large number of animals in a limited space and substituted man-made structures (for feed- ing, temperature and manure control) for natural ones. A study 16 reported that while it took one million farms in 1966 to house 57 million pigs, through CAFO it took only 80,000 farms in 2001 to house the same number of pigs. CAFOs had a negative impact on water and air quality and hence were regulated by the EPA. In addi- tion, many commercial CAFOs established agricultural water treatment plants to control manure, which had a negative impact on the environment.17 After Ells visited several CAFOs, he decided to source from open-range pork suppliers starting in 2000, naturally raised chicken
from 2002 and naturally raised beef soon after. The company formalized its sourcing policy in 2001 when it launched its “Food with Integrity” mission statement:
Food with integrity is our commitment to finding the very best ingredients raised with respect for the animals, the environment and the farmers. It means serving the very best sustainably raised food possible with an eye to great taste, great nutrition and great value.18
CMG owned and operated 1,316 restaurants in June 2012, of which four were in Canada, three in the United Kingdom, one in France, and the rest in the United States. It reported revenues of $2.270 billion and a net income of $215 million in fiscal 2011. It employed 28,370 hourly workers and 2,570 salaried employees. Ells was CMG’s CEO till January 1, 2009, when Montgomery F. Moran (who had been the company’s chief operating officer since March 2005) was appointed co-CEO along with Ells. Ells, however, retained his title as chairman of the board.19
Business Operations Restaurant Operations All of CMG’s restaurants were company-owned. They were either end-caps (at the end of a line of retail out- lets), in-lines (in a line of retail outlets) or free-standing. A typical restaurant ranged in size between 1,000 and 2,800 square feet depending on the market and cost $850,000 to open. The smaller restaurants were called “A Model” restaurants, the first of which was opened in 2010 to serve less densely trafficked areas. Restaurants served a limited menu of burritos, tacos, burrito bowls (a burrito without the tortilla) and salads, all prepared with fresh ingredients. Customers placed their order (burrito or taco) at the beginning of a line and added ingredients of their choice as they moved along the line. None of the restaurants had freezers, microwave ovens or can openers.20
Given their higher than average food costs, CMG focused on operational efficiency at the restaurant level. The restaurant size was typically smaller than those of its peers, and it economized on labor by keeping its menu options limited and by using an assembly line system for food preparation. Chris Arnold, CMG’s communication director, spoke about the company’s efficiency focus:
We are big believers in what author Jim Collins calls ‘the genius of and.’21 You can serve great food made with ingre- dients from more sustainable sources and do it at a reason- able price. You can have higher food costs than your peers
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and still have strong margins. It just takes the discipline to figure it out.22
In 2009, the company entered into a partnership with a company to install solar panels in its restaurants. CMG aimed to be the largest direct producer of solar energy in the restaurant industry in the next five years. Ells talked about this:
Our effort to change the way people think about and eat fast food began with our commitment to serving food made with ingredients from more sustainable sources, and that same kind of thinking now influences all areas of our business. Today, we’re following a similar path in the way we design and build restaurants, looking for more envi- ronmentally friendly building materials and systems that make our restaurants more efficient.23
CMG’s rationale for using solar panels was to reduce the restaurant’s traditional energy consumption dur- ing the peak period of 11:00 a.m. to 7:00 p.m. Solar panels also reduced the company’s carbon footprint. Starting with a restaurant in Illinois, CMG began to obtain LEED certification (Leadership in Energy and Environmental Design, a certification program of dif- ferent levels) by using on-site wind turbines and cis- terns for rainwater harvesting. It was the first restau- rant to obtain the highest level (platinum) of LEED certification.24 By 2012, three of its restaurants were LEED certified.
Supply Chain CMG’s supply chain was closely tied to the company’s “Food with Integrity” mission. The company’s 22 inde- pendently owned and operated distribution centers served restaurants in a specific geographic area. These centers sourced inputs from suppliers who were evalu- ated on quality and understanding of the company’s mis- sion. Key ingredients included various meats; vegetables such as lettuce, cilantro and tomatoes; and dairy items such as sour cream and cheese.
In 2008, the company embarked on a program to increase local (grown within 350 miles of the restau- rant) sourcing to 35 percent of at least one bulk produce item. The seasonal produce program was meant to cut down on fossil fuels used to transport produce, give local family farms a boost, and improve the taste of the food served to customers by using ingredients during their peak season. CMG created a network of 25 local farms to supply some of its romaine lettuce, green bell peppers, jalapeno peppers, red onions, and oregano to area restaurants.25 The local sourcing program resulted
in five million pounds of produce in 2009 and 10 million pounds by 2012.26
In 2012, 100 percent of CMG’s pork, 80 percent of its chicken and 50 percent of its beef were classified as “naturally raised” meat — defined as open-range, antibi- otic free and fed with a vegetarian diet. Forty percent of CMG’s beans were organically grown, while all of its sour cream and cheese were made from milk that came from cows that were not given rBGH (recombinant bovine growth hormone). In addition, a substantial percentage of the milk for sour cream and cheese was sourced from dairies that provided pasture access for their cows.27
Organic agriculture28 was still in its infancy in the United States in 2012. Less than 1 percent of the total agricultural area was managed organically. Of that, the percentage was highest for produce, followed by livestock and then poultry. Starting in the 1990s, the demand for organic food drove the conversion of traditional farms to organic at a rapid rate (for example, 14 percent in 2007– 2008). The U.S. Department of Agriculture (USDA) reported that the average annual profitability of organic farms in 2011 was $45,697 versus $25,448 for traditional farms. However, the downturn in the economy that started in 2008 slowed down the conversion to organic farming to 6 percent between 2009 and 2011.29 Retail chains such as Whole Foods and Trader Joe’s competed with full ser- vice restaurants and other restaurant chains for organic inputs, often driving up the prices well above those for conventional inputs. Ells commented on the pricing chal- lenges and continuing availability of organic inputs: “The supply chain has yet to catch up, organic ingredients are still pricey, and supply is limited. What we are doing is an ‘incremental revolution.’ If we went all-organic and natu- ral now, a burrito would be like $17 or $18.”30
Marketing CMG’s marketing budget was $32 million in 2011 ver- sus $26 million in 2010 and $21 million in 2009. The company had reduced its advertising spending more than three years from $7.9 million in 2009 to $7.5 mil- lion in 2010 and $5.8 million in 2011.31 It stated its policy on advertising in its annual report: “Our marketing has always been based on the belief that the best and most recognizable brands aren’t built through advertising or promotional campaigns alone, but rather through all of the ways people experience the brand. Our main method of promotion is word-of-mouth publicity.”32
When CMG hired Mark Crumpacker as its first chief marketing officer in 2009, the first decision that he made was to bring the company’s advertising in-house rather than use the services of an outside agency. He also made
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the decision not to advertise in traditional media such as TV and instead rely on various loyalty programs. He gave his rationale for it:
The alternative is to switch to the type of marketing that every other fast-food company uses with these new menu items and big ad campaigns to promote them. I think once you get on that model, I think it’s very, very hard to get off. I want to try to do this [loyalty programs] as long as I can.33
One loyalty program was called “Farm Team.” This was an invitation-only online program that quizzed users on sustainability, organic farming and humane food sourc- ing and rewarded them when they shared the knowl- edge with others via social media. Arnold talked about the program: “This is a passion program. Through Farm Team, we are looking to identify our most loyal and pas- sionate customers, and giving them tools to share their passion for Chipotle. It’s much more about building evangelism than it is about rewarding frequency.”34
In August 2011, CMG released an online commer- cial titled “Back to the Start,” that featured Willie Nelson singing a reworded version of Coldplay’s “The Scientist.” The commercial told the story (in animated form) of a farmer who moved from inhumane industrial farming that used confined spaces to a more humane sustain- able farming method. The popularity of this commercial led to CMG releasing it first in 5,700 movie theatres in September 2011 and running it once on television during the 2012 Grammy Awards show.35
A one-day festival called “Cultivate” held in Chicago in October 2011 brought together farmers, chefs and music bands. The goal of the festival was to promote sus- tainable family farms. Other promotional items included iPhone games and local print advertising to accompany store openings.36 A marketing expert assessed CMG’s non-traditional marketing strategy:
Chipotle has found a “sweet spot” with millennials by solid- ifying its reputation for freshness and offering a healthier fare than its competitors. The brand also gains reputation by shying away from traditional media, because younger audiences feel like it’s more authentic, down-to-earth and easy to connect with. Millennials view the lack of TV as more authentic. Millennials are likely to dismiss a lot of claims. They are responding to everything the brand does and says.37
Finances Exhibit 2 gives a cost comparison of key expenses for CMG and its competitors, Exhibit 3 presents CMG’s
Exhibit 2 Selected Cost Comparison — Key Competitors (Costs as Percentage of Revenues)
2011 2010 2009
YUM Brands1
Food & packaging 30.57 29.09 28.62
Labor 30.40 29.63 29.99
Occupancy & other restaurant operat- ing costs
26.97 27.06 27.50
Qdoba
Food & packaging 29.00 28.30 29.80
Labor 28.00 27.70 28.30
Occupancy & other restaurant operat- ing costs
29.40 30.00 28.90
CMG
Food & packaging 32.55 30.56 30.69
Labor 23.93 24.71 25.36
Occupancy & other restaurant operat- ing costs
17.56 18.10 19.20
1 YUM Brands does not break down data for each of its three chains (KFC, Pizza Hut, and Taco Bell).
Source: Company 10-K’s.
Exhibit 3 CMG Consolidated Statement of Income (for Year Ending December 31 in $ Thousands)
2011 2010 2009
Revenue 2,269,548 1,835,922 1,518,417
Restaurant operating costs
Food, beverage and packaging
738,720 561,107 466,027
Labor 543,119 453,573 385,072
Occupancy 147,274 128,933 114,218
Other operating costs (marketing, credit card, etc.)
251,208 202,904 174,581
General and admin- istrative expenses
149,426 118,590 99,149
Depreciation and amortization
74,938 68,921 61,308
Pre-opening costs 8,495 7,767 8,401
Loss on disposal of assets
5,806 6,296 5,956
Income from operations
350,562 287,831 203,705
Net income (after interest and taxes)
214, 945 178,981 126,845
(Continued)
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financial statements, while Exhibit 4 gives a list of the company’s stock on specific dates. Third quarter 2012 results showed a revenue increase of 18.4 percent over the same period in 2011 and a net income increase of 19.6 percent. Same-store sales increased by 4.8 percent in the quarter compared to 11.3 percent in third quarter 2011. Revenue growth was attributed to both new restau- rant openings and menu price increases. The company launched a system-wide menu price increase in 2011 whose implementation was completed in third quarter 2012.38
The “Einhorn Effect” On October 2, 2012, Jeff Einhorn, who headed a hedge fund, made a presentation at the Value Investors Conference in New York City. In his presentation, Einhorn said that CMG was an attractive stock for short sellers because the company faced significant compe- tition, principally from Taco Bell’s Cantina Bell menu, and increased food costs, both due to its sustainable sourcing practices and a global increase in food com- modity prices. He said that a survey conducted by his firm found that 75 percent of self-identified Chipotle customers also frequented Taco Bell and that Taco
Exhibit 4 CMG Selected Stock Price Data (in $ At Close of Day)
Date Stock Price
January 26, 2006 (IPO) 45.00
January 3, 2007 59.42
January 2, 2008 120.38
January 2, 2009 47.76
January 4, 2010 96.46
January 3, 2011 218.92
January 3, 2012 367.29
April 2, 2012 414.15
April 13, 2012 442.40
May 1, 2012 413.07
June 1, 2012 379.95
July 2, 2012 292.33
August 1, 2012 288.64
October 1, 2012 316.33
October 2, 2012 (Einhorn) 302.96
Source: Compiled from Yahoo Finance, www.finance.yahoo.come/charts?s=CMG +Interactive#symbol=cmg;range=5y;compare=;indicator=volume;charttype=are a;crosshair=on;ohlcvalues=0;logscale=off;source=undefined;, accessed October 19, 2012.
Exhibit 3 (Continued) Consolidated Balance Sheet (condensed for December 31 in $ thousands)
2011 2010
Assets:
Current assets:
Cash and cash equivalents 401,243 224,838
Accounts receivable (net) 8,389 5,658
Inventory 8,913 7,098
Current deferred tax asset 6,238 4,317
Prepaid expenses and other cur- rent assets
21,404 16,016
Income tax receivable 23,528
Investments 55,005 124,766
Leasehold improvements, property and equipment, net
751,951 676,881
Long-term investments 128,241
Other assets 21,985 16,564
Goodwill 21,939 21,939
Total assets 1,425,308 1,121,605
Liabilities and shareholders’ equity
Current liabilities:
Accounts payable 46,382 33,705
Accrued payroll and benefits 60,241 50,336
Accrued liabilities 46,456 38,892
Current portion of deemed land- lord financing
133 121
Income tax payable 4,241
Deferred rent 143,284 123,667
Deemed landlord financing 3,529 3,661
Deferred income tax liability 64,381 50,525
Other liabilities 12,435 9,825
Total liabilities 381,082 310,732
Total shareholders’ equity 1,044,226 810,873
Total liabilities and sharehold- ers’ equity
1,425,308 1,121,605
Summary Consolidated Statement of Cash Flows1 (for year ended December 31, in $ thousands)
2011 2010 2009
Net cash provided by operating activities
411,096 289,191 260,673
Net cash used in investing activities
(210,208) (189,881) (67,208)
Net cash used in financing activities
(24,268) (94,522) (61,943)
1 The company made an adjustment for exchange rates to reconcile opening and closing cash balances.
Source: Chipotle Mexican Grill, Inc. 2011 10-K.
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Bell came out on top on both price and convenience. Einhorn stated:
Twenty three percent of Chipotle customers had already tried Taco Bell’s Cantina Bell menu — which features bur- ritos and burrito bowls made with fresh ingredients — and two-thirds of those customers indicated they would return. What’s more, the customers most likely to return to Taco Bell were also those most likely to eat at Chipotle, a dynamic that indicates to me that Chipotle is most at risk of losing its frequent customers.39
Within hours of Einhorn’s presentation, CMG’s stock began to fall. It fell by more than 4 percent by the end of the day, and stock analysts stated that CMG had been “Einhorned.”40
CMG’s Challenges In his conference call with analysts on October 18, 2012, Ells indirectly compared Cantina Bell with CMG (with- out actually naming his competitor):
The way Chipotle does its business is not an easy thing to copy, and though a competitor could offer a similar item, it’s probably only on the surface. Take a company that sells grilled chicken, for instance. Yet that company does not have a grill, nor do they have knives or cutting boards. So how do they make real chicken and cut it up? And in the end the customers realize the difference. Be careful of those who have a lower cost opportunity. The customer’s not eas- ily fooled. Our interactive format — the burrito assembly line that every customer runs through — is an important part of what Chipotle does.41
He also indicated that CMG would consider raising its menu prices in 2013 to make up for expected higher food costs. As he conferred with co-CEO Moran following the
call, both men listened in on Chief Financial Officer Jack Hartung talking to a reporter:
The company will be patient with its pricing decisions, so as not to deter customers. We could move quickly, but we’re going to choose not to be in too much of a hurry. We don’t want to be the first ones out of the box with price increases. We’d rather see what happens with the economy, see what happens with consumer spending, see what other competitors do and how consumers respond.42
CMG faced a host of challenges. While the depressed economy favored quick service and fast casual restaurants over full service restaurants because of lower check prices, consumer sentiment indicated that the majority of them would either curtail their spending on eating or at best maintain it at current levels. In addition, Taco Bell was proving to be a formidable competitor with its 5,670 U.S. restaurants pushing the higher margin Cantina Bell menu through aggressive and large-scale advertising. Finally, the expected increase in food costs was bound to affect CMG both in its margins and in its quest to increase its usage of sustainable inputs. Both men recalled a state- ment made by Arnold to an interviewer a few years ago:
Chipotle is a good example of what can happen when you buck conventional wisdom. We’ve built a chain of fast food restaurants shirking many of the things the industry was built on — we spend more on food, not less; we own our restaurants rather than franchising; and we don’t market using lots of price promotions and other gimmicks. Going that route, we’ve built one of the most successful restaurant companies in years.43
Were sustainability and the “Food with Integrity” cam- paign luxuries that CMG could ill afford in these diffi- cult economic times? Could CMG continue to use qual- ity and sustainably sourced inputs as differentiators to justify a higher priced menu?
N O T E S . Yahoo Finance, accessed October , . . Unless otherwise indicated, the information
in this section is based on Standard & Poor’s Industry Surveys: Restaurants, June , .
. National Restaurant Association, “Restaurants by the Numbers,” www. restaurant.org, accessed October , .
. John T. Barone, “Commodity Outlook ,” National Restaurant Association, www. restaurant.org, accessed October , .
. Thomas O. Jones and W. Earl Sasser, Jr., “Why Satisfied Customers Defect,” Harvard
Business Review, November–December , pp. –.
. Jack in the Box, -K. . Paul Sebert, “Good Eats: San Francisco Style
Hits Huntington with Qdoba,” www.herald- dispatch.com/entertainment/x/ San-Francisco-style-hits-Huntington-with- Qdoba?i=, accessed October , .
. Jack in the Box, -K. . Yum Brands, Inc. -K. . “Taco Bell Takes on Chipotle with
New Menu,” www.brandchannel. com/home/post////
Taco-Bell-vs-Chipotle-.aspx, accessed October , .
. Yum Brands, Inc. Press Release., October ,
. Margaret Heffernan, “Dreamers: Chipotle Founder Steve Ells,” www.rd.com/advice/ work-career/dreamers-chipotlefounder- steve-ells/, accessed October , .
. Ibid. . Chipotle website, “About Us,” www.chipotle.
com/en-us/company/about_us.aspx, accessed October , .
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. www.epa.gov/region/water/cafo/, accessed October , .
. Polly Walker, Pamela Rhubart-Berg, Shawn McKenzie, Kristin Kelling, and Robert S. Lawrence, “Public Health Implications of Meat Production and Consumption,” Public Health Nutrition, (): -, , www.jhsph.edu/sebin/y/h/PHN_meat_ consumption.pdf, accessed October , .
. Ibid. . Chipotle -K . Ibid. . Thomson Reuters, Chipotle Mexican Grill,
Inc. Stock Report, research.scottrade.com/ qnr/Stocks/GetPDF?docKey=-AB- CJHBERHCRPILMOA, accessed October , .
. Jim Collins was the author of two popular business books: Good to Great (Harper Business, New York, ) and Great by Choice (Harper Business, New York, ). In the former book, Collins introduced the notion that most companies are ruled by the tyranny of “or” where they choose between options rather than attempting to do both, the “and.”
. “Chipotle’s Unique Take on Sustainable Sourcing,” www.cokesolutions.com/ BusinessSolutions/Pages/Site% Pages/DetailedPage.aspx?ArticleURL=/ BusinessSolutions/Pages/Articles/ ChipotlesUniqueTakeonSustainable Sourcing.aspx&smallImage=yes&Left Nav=Customer+Spotlight+, accessed October , .
. “Chipotle Plans Major Solar Power Initiative,” Business Wire, October , , www.thefreelibrary.com/Chipotle+Plans +Major+Solar+Power+Initiative. -a, accessed October , .
. Ibid. . “Chipotle Expands Locally Grown Produce
Program,” Food Business Week, June , . . Chipotle Press Release, July , . . Chipotle, Third Quarter -Q. . While the terms “organic” and “sustainable”
are used interchangeably, the two are different. Organic products can be unsustainably produced on large industrial farms, and farms that are not certified organic can produce food using methods that can sustain the farm’s productivity for a long time. The term “organic” is used to mean products produced or grown at a facility that is certified as such, while “sustainable” is more a philosophy or way of life. Since organic farming generally falls within the accepted definition of sustainable agriculture and since data is collected on organic rather than sustainable agriculture, most observers believed that organic was a good proxy for sustainable.
. United States Department of Agriculture, Alternative Farming Systems Information Center, afsic.nal.usda.gov/organic- production, accessed October , .
. Sarah Rose, “A Fast Organic Nation?” Plenty, October/November , pp. —.
. Jim Edwards, “How Chipotle’s Business Model Depends on Never Running TV Ads,” Business Insider, March , , http:// articles.businessinsider.com/--/ news/__chipotle-advertising- marketing, accessed October , .
. Chipotle -K. . Edwards, “How Chipotle’s Business Model
Depends on Never Running TV Ads.” . “Building Evangelism: Chipotle’s Farm
Team,” www.reasonedpr.com/blog/ building-evangelism-chipotles-farm-team/, accessed October , .
. Chipotle Press Release, February , . . “Chipotle’s Bold New Marketing Plan,”
www.monkeydish.com/ideas/articles/ chipotle%E%%s-bold-new- marketingplan, accessed October , .
. Edwards, “How Chipotle’s Business Model Depends on Never Running TV Ads.”
. Chipotle Press Release, October , . . Chris Barth, “Hold the Guacamole, Einhorn’s
Shorting Chipotle,” Forbes, http://www. forbes.com/sites/chrisbarth//// hold-the-guacamole-einhorns-shorting- chipotle/?partner=yahootix, accessed October , .
. Kate Kelly, “GM, Chipotle Get “Einhorned” by Comments,” http:// finance.yahoo.com/news/gm-chipotle- einhornedcomments-.html, accessed October , .
. Kim Bhasin, “Chipotle CEO Shreds Unnamed Competitor for Not Having Grills, Knives or Cutting Boards,” Business Insider, www.businessinsider.com/chipotle-ceo- taco-bell--, accessed October , .
. Annie Gasparro, “Chipotle Shares Sink on Outlook,” http://online.wsj.com/article/SB .html, accessed October , .
. “Chipotle’s Unique Take on Sustainable Sourcing,” www.cokesolutions.com/ BusinessSolutions/Pages/Site% Pages/DetailedPage.aspx?ArticleURL=/ BusinessSolutions/Pages/Articles/ ChipotlesUniqueTakeonSustainable Sourcing.aspx&smallImage=yes&Left Nav=Customer+Spotlight+, accessed October , .
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