# Chipotle At \$400: A Free Cash Flow Analysis

Chipotle's over \$400! That was my first thought yesterday when I was looking for stocks that have doubled in the last two years. Chipotle has grown from low \$120's back in mid 2010, to a high of \$443 in April 13, 2012.

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Considering the fact that CMG is a burrito fast food chain, its growth is very surprising. With a P/E ratio of over 50 it is one of the highest, if not the highest in its peer class.

 Company P/E Chipotle (NYSE:CMG) 57.2 Domino's Pizza (NYSE:DPZ) 20.3 Panera (NASDAQ:PNRA) 16.3 Brinker Intl (NYSE:EAT) 17.4 Cheesecake Factory (NASDAQ:CAKE) 18.3
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Using only P/E ratio, we can think that the stock is overvalued, but I prefer to use one more valuation technique before arriving at that conclusion. I decided to do a Free Cash Flow analysis on CMG to see if it's Free Cash Flow confirms its stock price. It's a very simple analysis that is often used to see if a stock is correctly valued or not.

Step 1: Compute growth rate (G)

For this we are going to use a two-stage growth. A 5 year short term growth rate and then we assume the company will decline to a long term 5% growth rate.

Because CMG doesn't have a dividend, I'm going to use it's average ROE as a proxy for the next 5 years growth.

 2009 2010 2011 ROE 18.03% 22.07% 20.58%
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Average = 20%

Step 2: Computer Required Rate of Return ((NYSE:R)

For this I'll use the popular Capital Asset Pricing Model (CAPM).

R = Risk free rate + Beta*Market Risk Premium.
Risk free rate = 3.5% (a bit higher than the 10 year Treasury Notes rate)
Beta = 1.02
Market Risk Premium = 6.2% (obtained from Aswath Damodaran's website)

R = .035 + 1.02*.062 = 9.82%

Step 3: Calculate Free Cash Flows

We'll be calculating now the Free Cash Flow to the Firm for the year 2011. After that we multiply it by the growth rates to get the next 5 years cash flows and the terminal value.

 CFO \$411,096 - Fixed Capital Investment 151,147 + Interest after tax 2,120 FCFF \$ 262,070
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Cash Flows

 2012 2013 2014 2015 2016 2017 FCFF (\$) 314,483 377,380 452,856 543,427 652,113 684,718 PV of FCFF (\$) 286,352 312,885 341,876 373,553 408,165 14,193,992*
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*This value is called the terminal value, the value assuming the company will grow at the same rate forever. It is calculated as : 684,718 / r - g, were r = 9.82% and g = 5%.

Step 4: Value of equity

When we add all the Present Value of FCFF we get the value of the firm = \$15,916,823.
We subtract the 2011 liabilities to get the value of the equity.

Value of firm: \$15,916,823
- liabilities: \$1,044,226
= Value of equity: \$14,872,597

Step 5: Value of shares

Chipotle has around 31.7 millions shares outstanding. We divide the value of equity by the number of shares and we get the value of each share.

= \$14,872,597 / \$31,700,000 = \$ 469.17 x share

Conclusion

The free cash flow valuation is a great tool for valuating companies. Cash flow is harder to manipulate than earnings, and for this reason I prefer to use this analysis instead of other comparative techniques that use earnings and other values.

We can conclude based on Free Cash Flow that Chipotle is undervalued. Using today's price (4/25) of \$410, Chipotle is 14.40% undervalued.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.