Chipotle Mexican Grill (CMG) at Sanford C Bernstein Strategic Decisions Conference (Transcript)

| About: Chipotle Mexican (CMG)

Chipotle Mexican Grill Inc. (NYSE:CMG)

Sanford C Bernstein Strategic Decisions Conference

May 28, 2014, 10:00 AM ET


Steve Ells - Chairman and Co-Chief Executive Officer

Monty Moran - Co-Chief Executive Officer

Jack Hartung - Chief Financial Officer


Sara Senatore - Sanford Bernstein

Sara Senatore - Sanford Bernstein

I'm Sara Senatore, the restaurant analyst here. We're very pleased to welcome Chipotle to the SDC.

It's my pleasure to have up here with me Steve Ells, Chairman of the Board and Co-CEO, Monty Moran, Co-CEO, and also Jack Hartung, CFO and Principal Accounting Officer.

Steve founded Chipotle in 1993 and is currently obviously the CEO. He has served as Director since 1996, appointed Chairman of the Board in 2005. Prior to founding Chipotle, he worked at Stars restaurant in San Francisco for two years.

[Monty] (ph), correct me if I'm wrong. Monty was appointed Co-CEO in 2009 after serving as President and COO. And he was general counselor for Chipotle, also CEO at the law firm Messner & Reeves before that.

And finally Jack became the CFO of Chipotle in 2002 after spending 18 years at McDonald's, where he was Vice President and CFO of the Partner Brands.

So as a largest fast casual restaurant, Chipotle serves Mexican food with the focus on using fresh ingredients, meat from animals that are raised without the use of antibiotics or hormones and more recently GMO-free food. In 2013 Chipotle had 1600 stores generating over $3 billion in sales.

There are also two new concepts I'm sure we'll hear a lot about, ShopHouse and Pizzeria Locale and we have seen a feeding of growth in international markets as well.

So we're going to devote our time to Q&A. We do want to get a lot of audience participation on this front. So please do write in the cards on your seats and pass them along out to the aisle. As we are starting to collect those questions, I will take the opportunity to ask some of my own.

Question-and-Answer Session

Sara Senatore - Sanford Bernstein

So let me start with -- maybe a softball. I think the first quarter comps were nothing short of remarkable. So we had weather, headwinds, we had a lot of companies talking about how difficult the environment was and then you came out and posted 13.4% virtually old traffic.

Could you just talk about what the drivers are and how sustainable they are in terms of next couple of quarter's, longer terms, just help us decompose, because its really rare that you see a company put up those kinds of numbers, certainly 20 plus years into it, it's lifecycle?

Monty Moran

Yeah, we are really proud of the comp. We think that there is a whole bunch of things that led to it, first of all we'd say something like 11 of it is actually traffic because the couple of points of it came from mix and so forth.

But the single biggest thing that drives our comp is just doing a better job than what we do. And so, the single biggest driver we think is having - our concept itself, our great food culture and are also our great people culture where more and more of our folks are becoming restaurateurs and having these teams of top performers who are empowered to achieve high standards.

So, but there is a lot of other things that drove our comp in particular, I mean we had, the introduction of catering which is about 1% of our comp at this point. And then we've had some advertising that's gone very, very well.

Our overall marketing platform has been, I think really, really excellent and has a bunch of different things that you've seen, such as - and I should say, Steve will talk about this more, but there is the - our cultivated better world, our marketing platform which has to do with the Scarecrow video you might have seen and the Farmed and Dangerous TV series and Back to the Start.

And so, we've had a lot of these sort of deep dive sort of brand communications which have gotten, which has put us on the map.

We've also had some advertising, we had some billboards and so forth and that were more gear towards photographs of food and our Skillfully Made campaign we just talked about having a lot of -- which gave a lot of photos of [food sort of Burrito] (ph) now we actually show that Skillfully Made campaign where we demonstrated more to folks what our food look like in a way that was compelling. So that drove maybe more than a percent of more of our comp.

Now we also had - we introduced Sofritas and what we can say that Sofritas is driving directly comp. We think it's a huge addition to our menu, as it helps us with food integrity and local store marketing which is the other state of our marketing which is really - has changed because for a number of years we had, I'm sorry, I'm getting very light headed, I'm going to handover.

Jack Hartung

So, the other things, yeah, local store marketing has always been a big part at Chipotle and the reason it's been the big part of Chipotle is, advertising is been okay for Chipotle. But the most important advertising that we can do, is to invite people into our restaurant and so local store are marketing does that.

And so local store marketing has the effect of bringing people in there that have never tried Chipotle. And we do a lot of this local store marketing through things like fund raisers, where you might be supporting a local cause, it could be a local soccer club, it could be a local sporting event or league club or what have you, they're trying to raise money and the way they'll raise money is they'll invite people into Chipotle will split half those proceeds with the foundation, which any other company that will do any kind of a charity, sharing like that, they might get 20% or 15% or so.

So, it's a compelling sharing that's going on. But more importantly we're reaching or casting a very wide net because we're not necessarily attracting Chipotle customers, we're attracting people that happened to be supporting that cause. They come into Chipotle, they like the experience, many people say, well, I don't eat fast food but this isn't fast food, it's way better in terms of quality, in terms of experience, in terms of the decor, and so we think that's been pretty compelling to invite customers there.

So I think all the things that Monty mentioned and along with more, reintegrating local store marketing, while we've always done it, we're kind of strayed away a little bit and we're doing more market wide events and we've moved back to individual store, bringing people into the restaurant and we think that's contributed to the comp as well.

Sara Senatore - Sanford Bernstein

Okay. Very helpful. When we think about the progressively going forward, these things that we should expect to build and so obviously not holding you to committing to 13.5% comp every quarter from now, but can you just talk a little bit about to the extent that we have more of these store unit to comp?

Jack Hartung

Yeah, the question really you're asking about sustainability, what's sustainable about it. I think the beauty of Chipotle is that what we do is not temporary.

So, it's not like we have a limited time offer, it's not like we have a new menu item, and people are going to come in and try it and so the sales spike and then they level-off.

That's why we had 10 years of double-digits comps year-after-year-after-year without new menu items, without any kind of jazzy advertising, it was a lot of just allowing people to discover Chipotle, liking it and coming back.

That was only interrupted by the recession for couple of years and it will return to several quarters of double-digit comps. And then we leveled-off a bit last year and the year before and now we're pleased to report the highest comp 13.4% since 2006.

And so for a company that's 1600 restaurants doing $2.2 million volume to see a 13.4% comp like that, we are very pleased.

So, there's nothing temporary about it, so the only caution I would give is there is a couple kind of trading day things, you know Monty alluded to, one is we pick up an extra day in the quarter, we'll lose that extra day in the second quarter.

And then we have tougher comparisons. The last year, we had a 1% comp in the first quarter, if you adjust your trading day, I call that an underlying tree, we had a 5.5% comp in the second quarter, just for a trading day that's 4.5% and then we had a 6% and a 9%.

So, we started this momentum last year, so it grew from a 3% to 4.5% to 6% to 9% and then to 13%. And so as we're comparing now back to instead of a 3% you've got to comparative 4.5% and 6%, the comparisons will get tougher but when we look at these sales and the transaction levels, as we move from the first to the second quarter, the transaction levels and sales levels are holding up really well.

And so we believe, - we believe it's sustainable but just be careful that when you're preparing to tougher numbers you're not going to keep getting a 13.4% comp.

Sara Senatore - Sanford Bernstein

Understood. And then let me transition from that in such impressive traffic. Obviously we know that you're taking a little bit more price, you didn’t have any last year, I think it's for three years. Can you just talk about what are you seeing, - how you think about elasticity prior to envision with 11.5% traffic that you have a lot of elasticity, but just trying to gauge that?

Jack Hartung

We believe that our customers love their experiences at Chipotle. When we'd taken menu price increases in the past, we generally not seen a reaction, we've not seen resistance. The only exception that we can tell for sure, whether we saw resistance, we raised prices at the beginning of the recession. Our transactions were already on a downward decline and so we don't know if raising prices that time continued the decline, whether the decline would have leveled-off.

We think it's likely that even then, we didn't see resistance, we just saw continuing pull-back by consumers just because of the recession, lack of consumer confidence. And so our experience here has been that we don't typically see resistance from the customers, it's early, we've raised prices in about 500 to 600 restaurants so far, it's only been a matter of weeks.

Anecdotally so far, we're not hearing anything that concerns us whatsoever. Because we haven't raised prices in three years, what's happened is, other restaurant companies that don’t have the same quality of food that we offer. Don't have the same quality of experience that we offer.

They are charging higher prices than we are. That shouldn't happen. Our customers believe that's shouldn't happen as well. And so, when we raise prices like these after such a long period of time, typically the customer response is, okay, well we figured it was coming and so we don't hear anything that tells us that there will be any meaningful resistance.

Sara Senatore - Sanford Bernstein

Okay. And just to coming a little further. In New York I think some of us are seeing, I think you gave a range of 4% to 6%, which seems to be - think or seeing maybe a little bit higher on some items. Should we think about this as the high-end. Is it 6%, its New York exceptional, kind of how do we?

Jack Hartung

Yeah, we're not giving new guidance, but I will tell you that we did change our guidance from 3% to 5% to 4% to 6%, okay. And I think what's important about that. We did that after seeing a sudden spike in the cost of our steak and barbacoa.

Steak and barbacoa increased about 25% from the fourth quarter for us into April, okay. And so, that increase really wasn't reflected in our food cost in the first quarter, but we did see a spike up in April.

And so, we did - it was important for us to give ourselves more room, so we can move up from 3% to 5% up to 4% to 6%. So it shouldn't be surprising if you're seeing increases that are more towards the high end of that range.

You won't necessarily see that same kind of range marked by markets here. New York is a very high cost market. We also have rounded pricing here meaning anytime you pay cash you're change is always going to be in quarters, you'll see a nickel, dime or penny, because we kind of back into what the prices will be and there are very uneven prices that when you add the tax in, everything rounds to a quarter.

And so sometime you're kind of stuck between an increased. You have to raise it up a quarter or down a quarter. So -- but New York is a great market for very current transaction, very high cost market for us. And so, it's shouldn't be surprising that you'll see individual market that might be a little bit higher than that average.

But overall we -- it wouldn't be surprising if when we talk about this in July that will end up at the high end of the range that we've quoted.

Sara Senatore - Sanford Bernstein

Okay. And just the final kind of question on that -- on that topic, obviously you said a big spike in these costs. Is there anything that we see more recently that would suggest maybe taken by surprise again or things kind of playing out as you expected?

Jack Hartung

Well, that's a whole major surprises. So, there is nothing that we know it right now, if anything in the industry in general, you're saying that spike in price not just for our beef but for beef in general throughout the U.S. Beef price are hitting record. There seems to be maybe a little bit of adjacent in demand and maybe a little bit of pull back in cost, which is kind of expected when something spike that significantly.

You would expect people maybe to pull back a little bit. And in fact, what we've done with our pricing, the other thing you might have noticed is that we’ve raised steak a lot more than we have some of other menu item.

And our concept there, our principle there is, there has been a very narrow gap between what we charge for chicken and steak. It’s only been about a $0.30 or $0.40 gap. Our cost is a lot higher than that. And so, every time we sell steak instead of chicken, we’re losing money.

So we widen that gap to more like $0.70 or $0.80, but the idea that if the customer really has the hearts on steak, they understand steak just cost more nowadays. They will be the pay the extra amount. If they don't, they can trade down to chicken.

They will spend less, but chicken for us is a higher margin and higher penny profit. So we want to put the choice in our customer’s hands. And the early returns so far here -- so we’re not seeing any evidence that people are visiting less. We are seeing that people are moving slightly away from steak and into some of our other items principally chicken.

So that kind of shift that we thought might happen by widening of gap is happening just a little bit. But that’s fine. It’s good for the customer and it’s good for Chipotle as well.

Sara Senatore - Sanford Bernstein

Great. And then couple of follow-up questions on the topline. Can you talk about your new stores, those cohorts, how they are doing? How they compared to the stores you might have opened few years ago? I know the AUVs keep going up, but obviously, they were always trying to figure out. What the newer markets look like first is that more established market. And then I have a few more follow-up.

Jack Hartung

Yeah, listen, our new stores continue to form exceptionally well. Our new restaurants due open up at a lower volume than our average or average volumes were about 2.2. Our new restaurant opening range is about 1.6 million to 1.7 million and we’ve been able to open up consistently at our higher levels than that.

What that allows us to do when we have a comp like we have today in the first quarter at 13%. Our newest restaurants typically comp at a higher level than that. So they’re comping at a level higher than 13%. No matter what our overall company comp is, those newest restaurants are going to be at a higher level than that.

And so when you open in this above $1.7 million, it only takes a couple of years for those restaurants to approach or to get up to this average volume of $2.2 million. At that level we expect to generate mid 20% margin. And at that level it cost us a little over 800,000 open up for restaurants.

We expect to generate returns within a few years of 50%, 60%, 70%. So our new restaurant openings are super healthy. We expect to open it between 180 to 195, which would be the most we’ve ever open as a company. And so we’re really pleased with the trends.

You mentioned new market. New markets use to start out really, really slow for us. It’s harder and harder for us to find a new market where we opened as well. And so, we open up in Albuquerque a few years. We opened up in Boise and places that there is not a Chipotle for hundreds and hundreds of miles and yet it seems like they were waiting for us.

We open up the doors and the lines were at the door. And so we don’t have that old track record where we open up slow and we have to allow people discover. So it seems like the awareness of being the national brand aware today is helping with this new market. So we’re really pleased with the trend.

Sara Senatore - Sanford Bernstein

And so then, you have this high quality problem of having such good volumes. How do you get throughput even higher and so, we talked it lot about the four pillars, but is there another step change, is it the opportunity there?

Steve Ells

The opportunity with throughput is still very, very large, in fact I want to speak to the production capability, the restaurants -- the questions has always been when do you sort of hit a point when you can’t cook any more food or serve any more people. And we just continue to breakthrough record sales volumes and record throughputs.

Our highest throughput restaurants are 350 transactions per hour at launch and so the average throughput overall is something less than half of that. So we still have a long way to go. As you heard us talk about before, we communicate to our teams to have what we call the four pillars of great throughput in place.

Really good, what we call Mise en place the French term for having everything prepared, everything in its place, all the prep work done, all the utensils and tools that are very important to have this done. To have our best team members in key position, we call these aces in their places. And its making sure that the manager knows his team really, really well.

Sitting down with them, understanding the strength and making sure that he deploys or she deploys those folks appropriately. And then, also having two key positions, the linebacker and expeditor, the linebacker is someone who is in the background behind the service folk on the service line. And they are replenishing the food and making sure that the area is clean and organized and its really allows our servers to continue with great eye contact, great communication with the customers and making sure they are going through smoothly.

And the last key position is the expeditor, expeditor is by the cash register station making sure that all the orders are assembled and drink and chips and size and things all bundled so that the POS person can quickly ring up orders, which tense to be the bottleneck a lot.

But there is a ton of opportunity to improve and there’s been a heighten awareness among all of our field leaders through some extensive audit to make sure that all of these four pillars are in place. And we continue to see progress with that.

But again there is still a lot of opportunity here. So, it’s something that I think that we’ll always be talking about. We’ll always be paying attention to. Things -- there are things that we’ve been talking about since the very beginning sort of the quality of the food is the Chicken Chad perfectly, does the guacamole have the right amount of citrus and salt balance, does the cilantro chopped so it's just the right size and not starting to wills and things like that.

I mean, there are so many details that we go over and over and over with our folks that, and throughput is just one of it. But let me say though, that the key to any of these initiatives like throughput, are really having an extraordinary team in place. And we think that we have a very, very unique culture at Chipotle, whereby we have top performers who are empowered to deliver high standards and at the heart of this is the restaurant tour program that really has I think transformed, how people think about that food by really elevating the service.

But what it's also done is it's also given us an opportunity to go beyond Chipotle and think about what other kinds of cuisines might fit into this very unique model that we created, this very unique fast food model that we created and I'm really proud that we have the teams now who will be able to power these new concept ShopHouse and Pizzeria Locale.

So, it's really, the heart of it is the people culture that makes things like throughput possible and makes everything that we do possible.

Sara Senatore - Sanford Bernstein

So can we, I mean, as a couple of more follow-up questions, that since you bought ShopHouse and Pizzeria Locale, could we talk about those then. And this idea that you have this really impressive and frankly in a revolutionary model in terms of the culture.

How do you think about the growth there, how does it compare to where Chipotle was in the equal part of the lifecycle. Could each one be bigger than Chipotle, I guess kind of dream the dream but then maybe we can pullback to where we stand now.

Steve Ells

Sure. I mean could it be as big as Chipotle, we don't know how big Chipotle can be. So, I think it's fair to say that there's plenty of growth opportunity with all three concepts.

I think they're both very exciting concepts and while they seem to be very different from Chipotle and from each other, one South East Asian in ShopHouse, the other pizza in Pizzeria Locale. They share a lot of similarities with Chipotle and that's by design.

The thinking was a number of years ago, that Chipotle wasn't successful because we serve burritos and tacos. But instead because we source sustainably raised food and we cook that food according to classic cooking techniques and in open kitchen and served in this interactive format. So people get exactly what they want, not only for taste but for dietary preference.

And again, all wrapped up in this, with this people culture with really, really exceptional folks. Folks who are certainly top performers but crew members who are, who can see themselves in leadership positions and we encourage them to do that and that's the special part of this.

But specifically about Pizzeria Locale and ShopHouse, the similarities are in the operating system. If you think about size of restaurants, square footage, rent structure, investment costs, number or employees to staff, throughput potential, menu pricing, all these kinds of things are very similar.

So, these new concepts can tap into all of the infrastructure that we've built. This very unique infrastructure that's unique in the world of fast food that we've built over the last 20 years.

The difference is only in the cuisine. And I think the cuisines are both very, very different from the typical Asian offerings or pizza offerings that you see out there. In fact I would argue that they're as different, - Pizzeria Locale is different, as different from all the big brands that you see today as Chipotle was 20 years ago from the fast Mexican food.

It's a different approach starting with the dough, it's a long fermentation, a long rise, a 24 hour rise, and it's done right in sight of the customers, the first thing the customer sees, beautiful ingredients, we use the same Niman Ranch Pork, the same rBGH-free dairy, the food with integrity emphasis is there and customers are going to the service line in exactly the same way that they do at Chipotle.

The pizza takes two minutes to bake and when they finish assembling their pizza, it goes right into the oven, the customer then continues down the line and might get some prosciutto, sliced prosciutto on our cheese slicer, some meat balls, that can make a salad, there is a variety of different salads and wines and then by the time they are at the register, and finish paying, their pizza is ready. So it's a really new way to think about pizza and people are very, very excited about it.

I would say the difference between now on the ShopHouse the difference between typical fast food Asian that we think of in the United States and ShopHouse is extraordinary.

The flavors here at ShopHouse are bold and bright, a lot of emphasis on vegetables, real meats, roasted meat balls, a beautiful braised tofu and then finish it off with our green papaya salad, or pickled vegetables, fresh herb topping.

I mean it's just, it's really exciting food and the way people are approaching it now, the way customers are approaching it, really reminds me of the way people approached Chipotle 20 years ago. It was very new and very different. So, we think we can both have extraordinary potential.

Sara Senatore - Sanford Bernstein

Right, spicy.

Steve Ells

ShopHouse can be spicy but it doesn't have to be.

Sara Senatore - Sanford Bernstein

Okay. As you talked about the customer reaction, so does it feel like to you, it sounds like from a consumer responsiveness like what you saw, Chipotle couple of decades ago, does it, if you think about, - you mentioned all this infrastructure you have in place, can you grow faster than with these two concepts than you might have been able to?

Steve Ells

Well, we're certainly growing these concepts faster than Chipotle initially grew. So that might not mean much to you without considering how many Chipotle's we had over a year.

But Pizzeria Locale opened a year ago and we're under construction with our second restaurant and looking for the third. But we are going to grow the concept as we create demand and also we're going to grow the concept as we develop the future leaders for each brand from within the ranks, from within the crew and that development is happening very, very nicely.

We're seeing nice sales volume growth at Pizzeria Locale and at ShopHouse also. And we're very proud of our teams. So, as we continue with building the sales and continue building the teams we will continue to add more restaurants and perhaps go into new markets also.

Sara Senatore - Sanford Bernstein

Okay, good. And then I have a couple of questions here on margins in the context of last quarter I think we saw service step up in labor and just to ensure that that service quality was there that you could actually provide -- provide the service where come to expect with the kind of volumes you're doing.

Can you talk about that sort of, - has the nature of the margin structure changed, is it sort of a step change and then we get to lever from here. How do we think about the balancing the service with the people you need to provide it?

Jack Hartung

In the first quarter I don't remember the exact specifics, but we had about 40 basis points, 50 basis points, something like that in labor leverage, it might have even in 60.

Normally we need, we both breakeven on labor if we have a mid-single digit comp if it's transaction driven. So we deliver a comp as large as a 13% comp and really on that one, you have to bring it down to like a 12% comp, because the extra day, you don't get any leverage by adding an extra day.

We still should see pretty significant leverage with that kind of 10%, 11%, 12% comp. When we back into what we should have gotten, we should have gotten maybe 40 basis points more.

So if we're at 50%, we should have gotten something like 90%. The reason - I believe the reason we didn't get as much leverage is, we have better staffing than we've ever had before. So we have more crew on the roster. So it gives the manager a lot more flexibility and a lot more ability to schedule the right people at the right time when Steve talked about having all these people in place at the peak hours, it's harder to do that when you're short three or four or five people or when you have some of your best people just happened to turn over if you don't have people in the ball pin or in the index circle ready to step up.

So we have way better staffing than ever before, we have better manager ratios than ever before. So we have more salaried and hourly measures in our restaurants before. And because of this, Steve was talking about the four pillars, we're doing a much better job making sure that all four of those pillars are really addressed and that we got the right staffing at the right time.

So, we have more staffing today than we've ever had before and it makes it sound like we invested in throughput and that would be, I think getting us too much credit that we actually invested more hours.

We don't need to invest more hours. So, I would say that we're getting the four pillars, we're executing the four pillars and we have better than we ever have before, it's contributing to better throughout during a low seasonal period than we've ever had before.

So we're little bit inefficient at it. But we're not going to be in a hurry to go get that 40 basis points. In fact that would - our teams are doing a much better job with better teams, with better throughput and better execution of four pillars than ever before. We're not going to be in a hurry to disrupt any of those items to go get 40 basis points.

So, we followed away, we know this is possible, we have the tools in place in the field so that our folks know that there is 40 basis points or so of additional leverage to get, but we're not going to be in a hurry to go after that. It would be foolish to try to go get that and then interrupt throughput.

So, we do think there is more leverage available to us. But I wouldn't count on going and capturing that in the next quarter or two or three, it might be something that we focus on in 2015.

Having said that, with the fact that we haven’t taken a price increase in three years and so inflation has affected our margins. When we recover the margins from the inflation that’s happen with this price increase, we think we have the ability to get back to record margins which for Chipotle is really saying something, because we’ve had some of its not the highest margins in the industry. So we think our margin story both currently and for the future is very, very healthy.

Sara Senatore - Sanford Bernstein

Very good. So we talk a little bit about ShopHouse and Pizzeria Locale, when you talk about the international markets, how you think about the stores that are operating there. They are long-term potential. And then maybe if you could only think about sort of the pricing in Europe versus what we might see in menu boards here. I was just in Europe, its look like its little bit higher than what we might see in the U.S. but maybe that was a miss reading on it. So just talk about the market and then the opportunity?

Steve Ells

Sure. Well, the market -- the restaurants in Europe are doing very, very well. So we have seven in London now, three in Paris and one in Frankfurt, Germany. And I think about these as a much the same the way I think about our early development in new markets in the United States. They are performing much in the same way.

It’s interesting especially in London and in Paris. Initially when we opened the restaurants, it was a lot of X path, very, very heavy x path population in the customer base. And that -- there are still there, but the increased in sales have come from locals now.

And it’s really exciting to see locals taking to it and using Chipotle in much the same way they do in the United States. It’s really good. I’m very, very proud of the teams. We seeded all three when we started the first restaurant in Paris and first restaurant in London and first in Frankfurt. We seeded them with restaurant tours from the United States.

And they built their teams from scratch and all of the subsequent restaurants that have opened there have come from through members that were part of the original teams. So we’re very, very proud of people culture they’re building.

On the sourcing side, we’ve been able to find extraordinary Food with Integrity ingredient. We were very, very proud of the ingredients. They are very similar to the ingredients in the United States. So, there isn’t really a taste difference, I mean, some say that maybe the chicken is a little bit different. They raised chickens differently there.

Some say that pork has a different kind of a flavor. The pork is raised differently. But there are again exceptional protocols that we’re very, very proud of. Couple of ingredients, aren’t very available. Things like tomatoes are not widely used in Europe and so we’re having some farmers grow tomatoes for us in green houses.

But as all these things together as they come together, as the sales continue to increase, and we are very happy with the way that’s happening. And as the teams continue to gel and our future leaders emerge and as we continue to assure supply of our ingredients, we’ll continue to open more restaurants.

But again, we’re thinking about it in much the same way as we did -- as we do in United States where it is a developing market and not in the accelerated expansion at this time. And I’ll let Jack to address some of the pricing issues.

Jack Hartung

Yes. Price are higher there fore sure. In London it cost about ₤6 or so or little over for Burritos it cost about €9 in Frankfurt and in Paris. But if you look at the gap between what we charge and what like typical fast-food charge or if you look at other fast-casuals, it’s very, very comparable. So everything more expensive there, rental more expensive, construction more expensive, there are labors more expensive, so its kind of everything takes a step up, and so, we think we’re appropriately price there.

The one thing we’re looking at in Germany is -- Germany, the consumers are much more value conscious we thought. We’re in a brand new Mall that has still has lot of construction around it. And what we’re finding is that there is a lot of fast-food and there’s a lot full service restaurants.

There’s not much in Chipotle category, and so, that might a little misunderstood. And so, we’re getting some feedback that suggest, because you walk up to a counter and order food, that we should be price like McDonald's and like Taco Bell.

So, we’re trying to figure out how do we need to just educate customers? How much do we maybe need to instead of €9 across the board, maybe we can take our chicken burrito for example and maybe lower that to $8 to allow people or to encourage people to try our food in Frankfurt.

We’ve only been open there a matter of a few months. We opened up in September, I think it was and so, there still the discovery process going on there. But in general we think our pricing over there is in relative terms, relative to the cost there and relative to what other restaurants are charging. We think its right about where it should be.

Sara Senatore - Sanford Bernstein

All right. Yeah, the Frankfurt -- the world over I talked to restaurant companies and German consumers they are nutritiously price sensitive. So I think this is something that we hear about from a lot of companies. I just have a -- I wanted to go back to some of the conversations around costs side. Although actually -- let me just into -- Jack here. Have you ever thought about Franchising internationally to accelerate growth?

Steve Ells

Well, part of the special culture that we have at Chipotle is that the future leaders of the company come from within. And one franchises I think for basically one or two reasons, either for capital or for people. And we certainly don’t need external people. In fact the notion of bringing someone in and putting them to a training program is completely the opposite from this restaurant tour culture that we’re building where the opportunity comes from it within.

And we’ve had -- our two Operations officers now Gretchen and Mike Duffy started with me maybe 18 years ago and 17 years ago and we’re working in the restaurants together and they walked the way up. And there is countless examples of people who started in the field are at crew level and they walked their way up into field manager, field leader position.

And that story and that success is continuing to attract people who are looking for an opportunity to the crew level. And that’s why we’re seeing the applicants at the crew level been much stronger than they have been in the past.

So it’s a culture that is continuing to gain strength and will ultimately result in better tasting food, better overall customer experience, better return for shareholders. I mean, it just everything about building this people culture pays off. And so franchising I think would be a slap in the face to them.

Jack Hartung

Just add to that because the question was around to grow faster. We kind of will never to anything to grow faster, because part of that question is some kind of compromise and Steve mentioned a compromise with our people culture, with our food culture. We really care about this brand deeply.

We really the brand Chipotle, ShopHouse and Pizzeria Locale enormous potential and turning that over somebody else to grow faster, would just be not in our DNA. And so I think you could put, would you do XYZ and you could fill in the bank to grow faster and I think generally you can find the answer is no.

Sara Senatore - Sanford Bernstein

Okay. Understood. And then let me now go back to the margin question that been asked, can you just talk about minimum wage, ACA, what these implications are, obviously Chipotle is always been a great place for people work and my sense is its feel as much about to your point that promotion opportunities, but how do you think about that in terms of attracting the best talents?

Jack Hartung

Yeah. Well, so there are number of angles to go down. So, I’m going to go through a couple we could spend probably a couple of hours doing this here but I’ll try to keep this brief. We don’t pay minimum wage right now, our average wage is over $9. We don’t start people at minimum wage either. And so, any kind of rise in minimum wage, normal rise in minimum wage is not likely to have an impact on us.

There are some extreme minimum wage increases out there. I think Seattle talk about $15 rise to $15 over some period of time. We’re not paying $15 on average and so that would have an impact. But it would have an impact on others and probably to a greater degree than it would on us. And so, we’ll deal with that as it comes. We’re still sorting through depending on the size that minimum wage is going to phase in over time.

California is going to increase to $9. We been hiring everybody at $9 since the beginning of the year, so that will have no impact in 2016, it will rise to $10. And so there’s all kinds of states out there and local governments that are considering increases. And as long as there in kind of they quote normal it will have a minimal impact on us.

When it breaks through to $10, $11, $12, $13, it will have more of an impact. But again it will have less of impact on us than others. We think it will put lot more stress in other people’s business models than it will on our. And so we’ll wait and see how that plays out.

But in terms of the opportunity, I think this is really the important story about minimum wage. We believe that the folks who have minimum wages are on focus. We think the idea of taking. We think the idea of taking the lowest paid person in the company or in the state or in the country and just move them up half a notch is the wrong dialog to have completely.

What we believe is, we should be talking about opportunity. And opportunity at Chipotle is very, very different. And so while we start people off today, at let's say $8.50. Last year we promoted 3500 kitchen mangers.

Kitchen managers made it to - made it from crew to kitchen manager in about 13 months, their average pay is $10.50.

So you could talk about just taking somebody from $8.50 to $9, to $9.50 to $10. Or you could teach people how to be a kitchen manager. You can teach them how to run a kitchen, you can teach them how to order food, you could teach them how to hire and lead others and then they sore $10.50 an hour.

We promoted 2500 service managers last year. The average time to get from kitchen manager to service manager is four months. At that point they're making $11 50 an hour.

So we're teaching people skills such that we're not just taking the bottom wrong and leaving them there but moving up a half notch, we're moving them to the next run, and then next run and the next one.

And whether they stay with Chipotle to further their career and become extraordinary leaders with Chipotle, they've a bright future or if they decide to go somewhere else they have skills that they wouldn't get if they just stayed at that bottom run and just got a higher minimum wage.

And so, we think we have a compelling story at Chipotle and it continues to apprentice, to GM, to restaurateur, and a restaurateur makes six figures. And restaurateurs on average make it to restaurateur from crew in 2.5 to 3 years something like that, they get company car, they get stock options, they get bonuses, they get people bonuses and so.

We think that our dialogue about why you should come to Chipotle, is not about minimum wage, it's about opportunity. Frankly we wish that same dialogue would happen on a national basis because we think it's unfair to the people who are at that bottom run, to just move them up a half notch and not give them the skills that they can continue their career.

Sara Senatore - Sanford Bernstein

So this idea then is - if minimum wage was up you don't think about maintaining a gap to minimum wage to maintain the attractiveness of working in Chipotle, it's the opportunity.

Jack Hartung

We'll do what we need to do and so Sara if we need to any market, if the minimum wage moves to $9, if we need to hire at $9.50 or $10, we'll do what we need to do. We are committed to hiring only top performers only people with the certain characteristics.

We will do, we have to do that to be competitive and we just know that's going to pay-off for us and we know it impacts our margins in a short term, it will pay-off in the long term. And we believe again, it's going to hurt others a lot, lot, lot worse.

We also believe that when more and more people are discovering the opportunity story and the skill transfer that you get at Chipotle and that's much more compelling than the start impact.

Sara Senatore - Sanford Bernstein

Understood. Couple of questions here. Can you comment on say-on-pay?

Jack Hartung

The say-on-pay, these guys pay, I guess - yeah, again that could be another two hours. We were kind of surprised by the say-on-pay.

Let me share our philosophy with say-on-pay because we think it's largely misunderstood. The problem with say-on-pay is they are very complicated chart with a lot of calculation and at the end of the chart is a number.

And that number is compared to the same number for other company's of similar size or larger or smaller. The problem is the makeup of our numbers is very, very, very, very different. The salaries that we pay to Monty, Steve and myself, to others throughout the company, is a very normal salary, right within the range of normal.

The bonus percentages that we pay, are right in the range of normal. And if we perform well, that's a one year bonus, we get a higher bonus because that's well within the range of normal.

The vast majority of the pay especially this calculation on the comp table is stock options. They are actually [flow charts] (ph) okay, but they behave just like stock options.

Most companies have moved away from stock options and into full value shares. Okay, and so when you see that number for another company, and if the $10 million number usually that number had a lot of full value chains.

Now the problem with full value shares is if the stock does not go back you still get lots of value. With stock options, so as ours, if stock does not go up, okay, the shareholder doesn't get value but neither do we. We get zero value with those.

And so our comp is every single year we have a three year performance share load but ignoring that every three year, every year 100% of the equity that we get at stock options.

What's happened is, we've gotten the same number of options or for five years the only reason that number in the far right hand side of the chart is higher because the stock prices gone up. It's gone up from five years ago with $50 it's gone up to $100, $200, $300 and the latest plan was at $540. So the calculation has gone up solely because the stock has gone up.

The last plan was at $540. So if we can't increase shareholders value meaning, if the stock price does not go past $540, those options [source] (ph) are worth zero and we've always believed that aligning our interest such that, if we don't create value for you, we don't get value.

It's different in other companies, most other companies, you take average in our peer group, their equity component is only 40% options, the rest of them are full value shares. We don't think it's the right thing to do to take full value shares meaning we would get value even if you don't get value.

That's our - in a nutshell that's how we got to where we're at. Our comp committee understands the role, they are considering what to do, we don't know what is going to happen out of that Sara and certainly if you have any advise we certainly be willing to listen to it.

But we think our philosophy has been aligned with shareholders and we think the calculation is maybe a little bit misunderstood and we think the more people dig in and understand options versus full value shares then what you appreciate, how our comp has been executed over the years.

Sara Senatore - Sanford Bernstein

I'm sure there is not shortage of opinion. So I'll allow everybody afterwards, but let me finish this with some of the bigger picture question which is, can you talk about where you think the industry is going in the U.S. in particular health and wellness changes in eating patterns and how Chipotle plays to that overtime.

Steve Ells

Well I think I have alluded to some of that already but in a nutshell I think that the old fast food model the one that requires cheap ingredients because you have to have low menu prices. And that you have to have lots of processed foods and lots of mechanization to keep things consistent because you don't have top performers. And you have traffic driving based on limited time offers, gimmicks, all types of marketing - typical marketing things.

I think that's the old model. I think people are not interested anymore. They know what that tastes like. They know what that does to the bodies. And they want something more. And I think the system that allows you to buy great quality and sustainability raised ingredients.

Really the kinds of ingredients that were once only available to the elite at high-end markets or fancy restaurants or perhaps up skilled farmers markets. Those kinds of ingredients we think should be available to everybody. And to be able to teach top performing employees how to cook.

I mean look into the kitchen at Chipotle and you see something really revolutionary, you see cutting boards and knives, pots and pans and go into a typical fast food restaurants and you see none of those things.

It's really dramatic when you walk into the back of the house as typical fast food restaurant versus Chipotle.

So we're making really cooking available with really great ingredients in a setting that's pleasing and ultimately through a service format that lets people get exactly what they want. Everything is customizable not only at Chipotle but ShopHouse and Pizzeria Locale.

So I think this is the new fast food. It is the new fast food model that tastes great to customers and it's relevant to customer and it takes into account a health and nutrition just beyond flavor of course.

And guess what, it has a better economic model than fast food, our margins are better and our return to shareholders is better too. So, I guess in a nutshell this is the new fast food.

Sara Senatore - Sanford Bernstein

Great. Well, Steve, Monty and Jack, thank you very much for your time and for you insight. It's very, very helpful. Thank you Steve, thank you so much.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to All other use is prohibited.


If you have any additional questions about our online transcripts, please contact us at: Thank you!