奇波雷墨西哥燒烤 (CMG) 2012 Q2 法說會逐字稿

Good afternoon and welcome to the Chipotle Mexican Grill second-quarter 2012 earnings call.

(Operator Instructions).

As a reminder, this conference is being recorded.

I would now like to introduce Chipotle's Director of Investor Relations, Alex Spong.

You may now begin your conference.

Hello, everyone, and welcome to our call today.

By now, you should have access to our earnings announcement released this afternoon for the second quarter of 2012.

It may be also found on our website at Chipotle.com in the Investor Relations section.

Before we begin our presentation, I will remind everyone that parts of our discussion today will include forward-looking statements as defined in the securities laws.

These forward-looking statements will include projections of the number of restaurants we intend to open, comp restaurant sales increases, the impact of menu price increases, trend in food costs and other expense items, effective tax rates and our unit economics and shareholder returns, as well as other statements of our expectations and plans.

These statements are based on information available to us today, and we are not assuming any obligation to update them.

Forward-looking statements are subject to risk and uncertainties that could cause our actual results to differ materially from the forward-looking statements.

We refer you to the risk factors in our annual report on Form 10-K as updated in our subsequent Form 10-Qs for a discussion of these risks.

I would like to remind everyone that we have adopted a self-imposed quiet period restricting communications with investors during that period.

The quiet period begins in the first day of the last month of each fiscal quarter and continues until the next earnings conference call.

For the third quarter, it will begin September 1 and continue through our third-quarter release in October.

On the call with us today are Steve Ells, our Chairman and co-Chief Executive Officer; Monty Moran, co-Chief Executive Officer; and Jack Hartung, Chief Financial Officer.

With that, I will turn the call over to Steve.

Thanks, Alex.

We are pleased with our results for the second quarter of the first -- excuse me, we are pleased with the results for the second quarter and the first half of 2012, particularly in light of the continued uncertainty about the overall strength of the US economy.

During the quarter, we posted comp sales of 8% on revenue of $690.9 million, an increase of 20.9% compared with the second quarter of 2011, adding up to a diluted earnings per share of $2.56 for the quarter.

But I'm most pleased that Chipotle's success continues to be driven by our relentless pursuit of improving the strength of our food and people cultures.

These unique attributes of our business continued to be the core drivers of our performance and our success.

During the quarter, we reached another important milestone in our quest to serve Food With Integrity with 100% of our sour cream now coming from milk from pasture-raised dairy cattle.

Under our protocol, these animals have daily access to pasture, are never given antibiotics or added hormones and are fed an all-vegetarian diet.

We have opted for this protocol for our dairy because we believe it is better for the animals and environment and produces better tasting and more wholesome milk.

In most large-scale dairy farms, cows have little or no access to pasture, in spite of how those operations are portrayed on packaging or in other marketing materials.

In addition to all of our sour cream being made from milk from pasture-raised cattle, about 65% of all of our cheese also meets the pasture-raised protocol, and we are working to get to 100% pasture-raised dairy here, too.

With summer upon us, our local produce program is now in full swing, and we are serving a number of produce items in our restaurants from local farms.

Through this program, most of our restaurants are serving some local produce, which could include romaine lettuce, green belt peppers, jalapenos, red onions and oregano from local farms.

In markets where they are available, we are also using locally grown tomatoes, limes and avocados in our restaurants.

All of our locally grown produce comes from forms that are not more than 350 miles from our restaurants and in some cases from farms as near as 50 miles.

This stands in sharp contrast with most produce served in America, which travels on average some 1500 miles from where it is grown to where it is served.

In all, we expect to use more than 10 million pounds of produce from local farms this season.

We are also making progress with the rollout of sunflower oil to replace the oil that we have been using to fry our chips and taco shells.

Right now we are using the sunflower oil in more than 200 restaurants, and we intend to serve it in all of our restaurants.

We have been testing sunflower oil because it makes our chips and crispy taco shells taste better and is a lighter oil that allows more of the corn flavor to come through.

Sunflower oil also offers other benefits.

It does not break down as quickly, it is high in mono un-saturated fat like avocados, naturally contains zero trans-fat and is not from genetically modified plants.

We have been pleased with the sunflower oil in the first batch of restaurants, and we will continue to provide updates as we move forward with the broader rollout.

Moving on to marketing, we continue to focus more than ever on telling the Chipotle story to our customers in engaging and memorable ways.

In addition to taking top honors for advertising at the ANDY Awards, the CLIO Awards and the Cannes Film Festival, our Back to the Start short film has resonated with our customers.

We have seen an improvement in the perception of the Chipotle brand.

And, therefore, we plan to continue our marketing efforts to communicate our commitment to serving the very best ingredients raised with respect for the farmers, the animals and the environment.

We are now in the process of developing new creative concepts to follow-up on our Back to the Start short film and recently completed a redesign of our local marketing program.

In the past, we focused on individual restaurants, but we have changed that focus to local markets with dedicated marketing strategists now managing 24 of our best markets.

While sharing our story with customers has always been effective for us, we believe this shift to implementing national programs in local markets will make our message more cohesive and help us better establish the Chipotle brand.

These local marketing programs will include a variety of activities, including partnerships, sponsorships, events and advertising.

We have also continued the use of direct marketing in recent months.

Our direct-mail pieces, which include two offers, a buy one get one free and free chips and guacamole, have proven effective at driving trial and have had very high redemption rates.

So we plan to continue our direct marketing efforts in the coming months.

Finally, we have two Cultivate Festivals coming soon with one in Denver and one in Chicago.

These programs, along with a variety of others, including games, educational content and a new branded content are all designed to engage our customers in conversation and create an emotional connection that will last much longer than any limited time offer possibly could.

I think this is absolutely the right direction for our marketing and believe it is very consistent with our brand.

We have built Chipotle in a way that is different than traditional fast food, so it should be no surprise that the marketing that works best for us does not follow the traditional fast food model.

During the quarter, we opened our first restaurant in Paris and our third in London with two more openings expected by the end of the year.

For now our restaurants in Europe represent a good growth opportunity for us in the future, with our near-term efforts directed at establishing the Chipotle brand, building networks of like-minded suppliers and developing the future leaders from within the ranks of our crews so we have the right leaders in place as we look to open new restaurants in new markets.

To that end, we promoted three new restaurateurs in London.

So now all of our London restaurants are run by these elite managers, all of whom come from our original crews in that market.

Our commitments to improving our food culture and our people culture have never been stronger, and our business results demonstrate the benefits of our unwavering focus in these critical areas.

This focus will not only allow us to achieve our vision to change the way people think about eating fast food, but it will also allow us to deliver stronger results to our shareholders.

I will now turn the call over to Monty.

Thanks, Steve.

Like Steve, I'm pleased with our results for the second quarter, and I'm very proud of our terrific restaurant teams whose hard work and dedication are driving our performance and our success.

Our people culture continues to be a key driver of our business, and I'm delighted with how we have developed such an extraordinary and powerful culture so quickly.

As we plan to open more restaurants this year than ever before, the need and opportunity for our top performers has never been greater.

In fact, our ability to develop people will increasingly be one of the keys to allowing us to grow effectively.

Last quarter we talked about how much the pace of our people development is increasing.

In just a few years, we have gone from having a significant majority of our managers coming from outside the Company to having virtually all of them, 98%, coming from within the ranks of our crews.

We are also developing restaurateurs faster and seeing more and more that our general managers, when they understand the vision of our restaurateur culture, can become restaurateurs very, very quickly.

Since the first of the year, we have already named 89 new restaurateurs with 84% of the potential restaurateurs we have interviewed being accepted into the program.

Looking out over the rest of the year, we have identified many potential and promising restaurateur candidates, and we believe this will allow us to promote over 150 general managers to the elite position of restaurateur during 2012.

Of course, one of the most important things that our restaurateurs do, other than create great restaurant experiences, is to develop hourly employees into our future general managers.

As you know, when restaurateurs develop new managers and crew, they earn a People Development Bonus of $10,000 for each GM that is promoted.

What is encouraging is that we are now paying more in development bonuses as restaurateurs are developing their managers faster all the time.

So last year, in all of 2011, we paid $1.5 million in development bonuses to our restaurateurs for that year.

So far this year we have already paid $1.1 million in development bonuses, a clear indication of how much more rapidly our restaurateurs are developing crew into managers.

Our restaurateurs are now having a more significant impact on our leadership than ever before.

When you look at this group of leaders, including those who have moved into broader field leadership positions here, two-thirds of our restaurants are now overseen by these extraordinary leaders.

While we are pleased with how this remarkable people culture is taking hold in a relatively short time, we know that we're going to have to continue to improve our people development so that we have the future leaders that we need to continue our growth.

Years ago our field leaders use to oversee an average of less than six restaurants each.

Now they are overseeing nearly 16 restaurants each.

In the last few years, almost all of our field leaders have come from restaurateur positions, and while these internally developed leaders are effective in creating restaurateur cultures, we have got to be careful not to expand the scope of these newly developed leaders too quickly.

This would put pressure on our regional directors and team directors to develop leaders internally quick enough to support our growth, but not give too many restaurants to these new leaders such as would cause them to not be as effective as they could be.

To ease this pressure in the short term, we are going to plan to hire some area managers from outside the Company to allow our internally developed leaders to reach their full potential at the right pace.

One of the best tools we have for communicating our vision for Chipotle and the extraordinary opportunities that exists for our people is our biennial All Managers' Conference, which we will hold later this quarter.

This Managers' Conference is a great opportunity to get together with our general managers who are the most important leaders in our Company, to discuss our mission and how to create empowered teams of top performers.

It is these teams who can best ensure that we are as effective as possible in reaching our goal of changing food culture.

While the conference is great for our managers, it is also very inspiring for our entire executive team as it reminds us of the incredible strengths of our general managers and leaders and demonstrates how passion, capable and eager they are to be the ones who make Chipotle the best it can possibly be.

Of course, one of the primary benefits of having a team of empowered top performers is the great customer experience that they provide.

This impacts everything we do from having delicious food, clean restaurants, great throughput and exceptional customer service.

In terms of throughput, we are very proud that our restaurant teams continued making significant progress in this area in the second quarter of this year.

Our throughput increased by an average of six transactions per hour during our peak lunch hour of 12 to 1 PM in the second quarter compared to last year.

As you know, the second quarter typically contains our busiest months, and we are very proud that our teams have answered the challenge and delivered our fastest throughput ever.

Our improved number of transactions per peak hour has allowed us to provide a better customer experience during the busiest hours of the day when our lines are the longest.

These improvements are an indication of the strength of our restaurant teams and their ability to master the four key elements of throughput.

In fact, we believe that our throughput performance would have been even better had we not seen some falloff in transactions during the quarter, which we believe is due to the sluggishness in the overall economy and a slowing in consumer spending.

Over time we are confident that better throughput and the corresponding improvements to service that go along with better throughput will continue to help us attract and serve more customers.

In case there are some listeners on this call who are unaware, I would like to remind everyone that the Justice Department, along with the Securities and Exchange Commission, are conducting ongoing civil and criminality investigations of Chipotle's employee work authorization requirement practices, as well as Chipotle's disclosures regarding these practices.

In this regard, we continue to cooperate with the government's ongoing investigations and requests for information.

We have recently been informed that there has been a change in the team heading up the US Attorney's investigation.

Specifically there is a new Assistant US Attorney leading the investigation.

We are not aware of the reason for the change or of any significance that it might have; however, it is reasonable to expect that it will take some time for the new lead attorney to get up to speed, and therefore, the investigation may still have quite a ways to go.

Finally, I want to update you on our development progress.

During the quarter, we opened 55 new restaurants, bringing our total for the year to 87 and our total number of restaurants in operation to 1316.

Based on our performance year-to-date and what we see in our development pipeline, we are in a good position relative to our guidance of opening between 155 and 165 new restaurants in 2012.

Our new restaurants continue to perform well, and they are opening at or above the high end of our $1.5 million to $1.6 million sales range.

While the overall economy seems uncertain at the moment, we remain very confident that the strength of our food culture and our people culture and our vision to change the way people think about and eat fast food positions us very well to continue to grow our business and to produce strong results for our shareholders.

I would now like to turn the call over to Jack Hartung.

Thanks, Monty.

We are pleased to report another quarter of very strong operating results.

Our continued focus on building a special food culture, a unique people culture and a strong unit economic model has allowed us to deliver another quarter of industry-leading financial results.

Our operational and financial success demonstrates what is possible when teams of top performers are empowered to deliver high standards and provide an exceptional dining experience to all of our customers.

Our same-store sales were up 8% in the second quarter, and our average sales volume for restaurants that have been open for at least 12 months increased to a record high of $2.1 million.

Overall sales for the quarter increased 20.9% to $690.9 million, driven by new restaurant openings and the comp of 8%.

Year-to-date sales were at $1.3 billion, an increase of 23.2%.

The quarter comp was primarily driven by higher menu prices, which added 4.6% to the comp, along with an increase in customer traffic.

Year-to-date comps were 10.2%, primarily driven by increased traffic, while menu price increases accounted for about 4.7% of the increase.

Even though our teams are delivering better throughput than ever before, our sales trends slowed during the second quarter we believe as a result of a general slowing of the economy and reduced consumer spending.

To walk you through the trends as we see them, you will recall that we reported a 12.7% comp in Q1, which included a benefit of up to 200 basis points due to unseasonably mild winter weather and about 100 basis point benefit due to the Leap Day.

So the normalized Q1 comp was in about the 10% range or so.

We continue to see comps in that range through most of April, but it began to slow in very late April and continued at that lower comp level into May and June.

In addition to a general slowdown in consumer spending, the comparisons were tougher in Q2 as we compared against a two-year comp of 18.7% in Q2 versus a two-year comp comparison of 16.7% in Q1.

You don't normally hear us talk about comparisons to a two-year trend, but we think it helps explain some of the trend we are seeing as our comps began the recovery trend we are seeing today precisely in the first quarter two years ago.

So far in July, we are seeing comp transaction trends when you take out the impact of price at about the same level overall as in Q2.

And, as we mentioned on our last call, we will lose about 330 basis points in the sales comp in Q3 as we lap last year's menu price increase.

Combined with a tougher three-year comparison in the fourth quarter, unless consumer spending rebounds, we would expect our sales comps to be in the low to the mid-single digits for the remainder of this year.

Overall for the year, we are maintaining our sales comp guidance of mid-single digits for the full year.

As I mentioned, we had about 4.6% of menu price benefit in the second quarter, but as we lap last year's summer price increase, we expect the benefit associated with the menu price increase to drop in the back half of this year to around 1.3% in Q3 and about 1% in Q4.

The 1% remaining in Q4 relates to the price increases we took in the Pacific region in March, and we have no plans for any further increases this year.

We open 55 new restaurants in the quarter and 87 for the year so far, which brings our total Companywide restaurants to 1316 at the end of Q2.

We continue to expect to open between 155 and 165 restaurants for the full year, and we are pleased that we are more than halfway there already as our development teams have worked hard to build inventory more evenly throughout the year so we can staff and open new restaurants on a more level loaded basis.

Our new restaurants continue to perform very well and are opening at or above the high end of our $1.5 million to $1.6 million sales range.

Restaurant level margins for the quarter were our highest ever at 29.2%, an increase of 340 basis points over last year, and year-to-date margins were 28.3%, an increase of 280 basis points.

Favorable sales leverage, including the impact of the menu price increase, drove most of the increase, along with lower marketing costs in the quarter.

Our food costs in the second quarter were about the same as in Q1, but were lower compared to Q2 last year due to higher menu prices, and while our costs in the quarter were lower than last year for avocados, tomato, salsa and cheese, that benefit was offset by continued food inflation in chicken, beef and rice.

Year-to-date our food costs were 32.2%, which was down 30 basis points from last year.

In terms of full-year inflation, while costs have been relatively stable overall so far this year, the recent extreme weather will likely put pressure on our food costs later in the year and into 2013.

Overall we expect inflation for the rest of the year will stay within the range of low- to mid-single digits on top of the 32.1% food costs in Q2.

In addition to the higher expected cost of avocados and beef we discussed on our last call, there will likely be additional pressure on dairy and chicken.

Labor costs were 23.1% of sales, a decrease of 100 basis points from last year as a result of favorable sales leverage, and year-to-date labor costs were down 90 basis points from last year at 23.4% of sales.

We anticipate higher relative labor costs in the back half of the year as comps moderate and as Q2 usually has the highest average daily sales due to seasonality.

(technical difficulty) -- costs for the quarter declined 30 basis points from last year due to favorable sales leverage.

Other operating costs were down 130 basis points from last year as marketing was just 0.7% of sales in the quarter compared to about 1.7% last year and due to lower utility costs.

We expect marketing to be about 1.6% overall for 2012 as we expect more planned marketing activities and events around our Cultivate marketing platform in the third and fourth quarters of this year, including the Cultivate Festivals in Denver and Chicago.

As Steve talked about, our marketing programs are designed to engage our customers in conversations and create an emotional connection with Chipotle.

As a result, we expect marketing expense in Q3 to be around 2% to 2.5% and in Q4 around 1.5% to 2% of sales.

In the quarter G&A was lower than last year by 120 basis points due to better sales leverage on roughly the same G&A dollars in both years.

We spent about the same as last year as higher non-cash stock comp expenses were offset by lower bonus accruals, lower legal costs and lower employer payroll taxes related to stock option exercises.

We expect total non-cash stock-based compensation will be about $69 million for the full-year 2012, an increase of about $26 million over 2011.

The significant increase in the non-cash charge is primarily attributable to granting about the same number of options at a much higher stock price.

Looking ahead, the third quarter will include our biennial All Managers' Conference event, which will cost over $5 million.

Our estimated annual effective tax rate for the second quarter was 39.1%, and for the full year, we expect the rate to remain at 39%.

This is 50 basis points higher than 2011 as a result of the Hire Act not continuing and the Work Opportunity Tax Credit and the R&D Tax Credit, which have not been renewed by Congress.

Diluted EPS for the quarter was $2.56, an increase of 61% from last year, even though our sales increased by only 20.9% in the quarter, which highlights our strong unit economic model and our ability to leverage sales effectively.

Updating the status of our $100 million stock repurchase plan that was authorized by our Board of Directors in February, through today we purchased about $25 million worth of stock at an average price of $400 per share.

Over the last four years, we have invested $325 million to purchase over 3.1 million shares at an overall average price of $104 per share.

We finished the second quarter with nearly $700 million in cash and cash equivalents and short- and long-term interest-bearing investments and no debt on our balance sheet.

We continued to believe that the best use of our cash is to invest in our high returning restaurants, which we expect in the future will include growth in our international business, as well as investing in ShopHouse.

In the meantime, we will continue to opportunistically repurchase our stock to enhance shareholder value.

Thanks for your time today.

At this time, we would be happy to answer any questions you might have.

Operator, please open the lines.

(Operator Instructions).

John Ivankoe, JPMorgan.

Great.

Thank you.

The question is on new unit volumes, and obviously you guys don't really report it, and you talked about it qualitatively.

But it does look like at least to our estimates that for the units that were open in the last 12 months in the second quarter, they have been trending at a lower percentage of the average volume, even lower than the units open in the second quarter last year.

Could you comment a little bit more specifically in terms of what you are seeing in terms of the unit volumes?

In other words, has the economy perhaps affected the unit volumes more than it has?

Is it the mix day models, is it perhaps the mix of markets, or it is just kind of noise that can happen in the numbers in a given quarter?

I think, to be honest, it is kind of all of the above.

We look at our openings over a very long time.

We continue to open up above our range of $1.5 million to $1.6 million.

Opening up at those volumes gives us the opportunity to expect very strong returns out-of-the-box, and then these restaurants typically comp stronger than our -- the rest of our restaurant base.

And so they quickly catch up with the overall average volume for our stores open more than 12 months.

Those returns on our average restaurants open more than 12 months are in that 60% range.

And so opening up at above $1.5 million to $1.6 million, which we have been opening at that level for a couple of years now, gives us confidence that we can achieve those kinds of returns.

What you will see from quarter to quarter is there is going to be a mix of we are opening up in different markets.

If we open up in the Northeast for example we expect higher average volumes.

If we open up in some other parts of the country, we might open up at lower volumes.

And so looking at quarter by quarter is not necessarily a good indication of whether our new store openings whether it is a new trend in terms of them opening up higher or lower.

When we look back over the last several quarters, we are very pleased with the openings.

We think the quality is very, very high, and we expect the openings to continue to open up at volumes in this similar kind of range above the $1.5 million to $1.6 million range.

In 2011, if we look at it right, Jack, I mean it looks like it opened even over $1.7 million.

So is it like the $1.5 million, $1.6 million is what we should be thinking going forward?

Is 2011 -- again, maybe there is a geographic mix that tilted that number high?

Yeah, I mean I would not talk you out of that.

We are opening more restaurants this year.

And so when you open up more restaurants, we are opening up more in developing markets.

Last year we did open up a slightly higher concentration in our proven markets.

This year we are opening up -- with the incremental restaurants we are opening up, there are more in some of our developing, some of our new markets.

Those typically do start out-of-the-box a little bit lower.

Again, there were some quarters last year where we had some openings that happened to be concentrated in some of our highest volume markets that happen to generate higher average openings.

But I would not see that as a meaningful trend change.

It is more just the way that individual quarters or individual batches of openings depending on what markets, what types of markets you are going to open in, you are going to get different sales results.

Thank you very much.

Joe Buckley, Bank of America/Merrill Lynch.

Thank you.

Could you talk about the marketing?

It seemed like the marketing was a little bit light this quarter.

And I know you don't see the type of marketing or some of the marketing you do is not to get an immediate response.

I guess the direct marketing is.

Do your plans change a little bit with the slowing of the traffic?

I think it is a timing issue really.

And last year second quarter we were still convinced that a message that connects with our customers on a more emotional level was the right way to do it, but we were doing it through more traditional venues like billboards and radios and things like this.

I think with the success of Back to the Start, we realized that our new way of speaking with customers and connecting with them is very successful.

But we have to use methods like we used with Back to the Start, and we have a lot of exciting things that are in production.

So while you see that maybe our spend was a little bit less in the second quarter this year, that should not be no indication that we are lightening up on the message in general.

In fact, as things finish production, we will start to ramp up those efforts, and you will be seeing them later in the year.

And then just a question, again, on the sales volumes, are the stores facing capacity issues?

I know you are continuing to work on the speed of service, but are the peak hours approaching capacity issues that would somewhat limit the traffic growth going forward or transaction growth going forward?

No, Joe, they are not at all.

And, in fact, some really neat news surrounding the throughput for the second quarter, as well as the first quarter of this year, is that we were able to successfully drive a greater comp during the peak lunch, that is to say 12 to 1 PM hour and the peak dinner, that is to say 6 to 7 PM hour.

Those hours we actually had a higher comp during those hours than we did during the rest of the day.

And so what that is showing you is that our teams in the field, our teams in the restaurant, are capably putting through more restaurants -- more customers to our restaurants during those peak hours such that those hours actually contribute more than their fair share of our comp compared to the shoulder hours or the slower hours of the day.

Now that is not to suggest that that immediately translates into an incremental increase in comp sales, but it does translate right away into a better customer experience into shorter lines, in shorter wait times during those peak hours.

So a statistic like that shows you, Joe, that even at a time when we got more transactions than ever coming through our restaurants and even during the busiest time of year, our field teams have been able to step on the accelerator, so to speak, and put people through more quickly even during the time of day where it is most difficult to do so, that is to say our peak hours.

So we are not experiencing any roadblocks of being able to satisfy our customers, even during our peak hours, much less during the rest of the day.

And even in our busiest restaurants, we are not having a problem grilling enough meat, we are not having a problem cooking enough food or getting people through the lines.

So not at all an issue so far and not even in our busiest stores and not even in our smallest stores, not even in our A-model stores.

So we are pleased to report that the flexibility and the health of each of our restaurants to be able to continue to grow business is as strong as it has ever been.

Maybe just one more if I could, the decision to hire area managers from the outside or field supervisors from the outside surprises me given the strength of the culture.

So can you talk a little bit about that and the type of person you try to recruit for that job and where you recruit from?

Yes, Joe.

It is a great question, and you are right.

I think you are right to be surprised by it, and it shows that you know us pretty well, to be honest.

It is by far our preference just to continue to developing people from within.

And you will recall that we did not have this real focus of developing all of our managers from within our crew until about six or seven years ago, and back then it was an sort of maybe one in four or one in five of our crewmembers -- or excuse me, of our managers came from crew.

Now it is five out of five managers come from crew.

So obviously we have had a tremendous amount of success getting our managers from crew level.

Now, too -- and then again, getting managers, general managers to restaurateur level.

We have had a lot of success at that lately.

And we are proud we have had a lot of success seeing a lot of our restaurateurs rise up to become leaders over two, three, four or even up to in some cases over 50 restaurants.

And so that is tremendous, and we are very, very pleased with it and proud of that.

The issue becomes that sometimes we are seeing some one become, for instance, an apprentice team leader who has -- who goes from four to eight restaurants overnight, immediately develops or very quickly develops four restaurateurs such that they are able to become a team leader, and at that team leader level, all of a sudden sometimes we have a tendency to want them to oversee 20 or 30 or more restaurants.

And what we are seeing is that sometimes that can tend to cause these very skilled team leaders to start being a little bit more reactive in their approach to running their restaurants and start to act a little bit more like a traditional fast food mid-management leader, which we don't want.

We don't want our mid-management leaders to approach their job essentially by putting out fires or chasing symptoms.

Instead what we want them to do is build individual special cultures restaurant by restaurant that are sustainable, and that will last even in the absence of constant supervision by that field leader.

And what that means is that we don't want to overstretch field leaders to where they have too many restaurants such that they are not doing the wonderful culture building that made them successful.

So in order to avoid that, in certain areas where our growth has been very fast and where the growth of mid-management leaders has not quite kept pace with the unit growth, we are going to hire some area managers to take a little bit of that pressure off so that these superstars rising up through the ranks remain superstars, and we don't push them to a point where they are not as successful as they could be.

Does that make sense?

I'm not sure.

Where do we recruit from?

What kind of people will you have join?

Well, we are going to cast a very, very wide net nationwide for a very, very few people, and we plan to interview a whole lot of people in order to get just a few candidates.

But what we are going to do in order to interview them is we are having a broad team of people interview them, including at least three regional directors will interview each candidate.

Plus Jack and Steve and myself will be involved in personally interviewing the candidates.

So it is something that we are approaching very carefully.

It is not something -- we don't need to hire them immediately or anything like that, but there are a few places where we think that it's going to be helpful to have some help for the short-term until some of these quickly developing apprentice team leaders get up to the point where we can responsibly get them more restaurants to oversee.

So it is going to be a very careful process.

We are going to hire a few people after interviewing a whole lot of candidates, and we are going to get those candidates from word-of-mouth from our existing leadership from and from recruiting messages that we send out into the country as well.

Okay.

Thank you.

Nicole Miller Regan, Piper Jaffray.

This is [Josh] on for Nicole.

I wanted to see if you could provide an update on some of the interesting and exciting tools you are doing on the recruiting side, and maybe follow up on Joe's question, is there an opportunity to use this not only at the hourly or restaurant level team member but also on some of these field teams or area manager positions?

I just missed the first part of what you said, so I'm not sure what the question is.

Can you repeat it, please?

Sure, Monty.

It seems like over the last couple of quarters, we have been talking about the new recruiting tools and how you go to market to recruit talent.

It is a little bit different and very different from your peers, leveraging online, social media and just how you engage those high performance and you seek them out.

I wanted to see if we could get an update on that and maybe how that has played out into some of those markets where you had a large turnover, maybe here in Minneapolis or maybe in the DC area.

Just any learnings you had seen on being able to put that into practice.

Yes, well, we have put into place those recruiting methods, but really those recruiting methods were more geared towards getting crewmembers, hourly members into our restaurants.

So those recruiting strategies were geared towards crew, not towards mid-management leadership.

So those methods have worked well, and we have been able to get a very diverse, very powerful group of crew coming into our restaurants.

The teams that we are seeing in our restaurants, especially new restaurant openings, are really some of the best teams I have ever seen.

In fact, I feel like lately a lot of our restaurateurs are coming from new restaurant openings that have only been opened for several months where these managers are able to recruit new teams, hire very, very carefully, and those folks are able to achieve restaurateur status really, really quickly.

So I'm really pleased with that.

So the other thing I had mentioned to you earlier is that we are going to over time look -- take a look at where -- look at the people we are hiring, where they are coming from, and which type of recruitment source is having more and less success in giving us great people, and I think that is what you are referring to.

I don't really have an update on that yet because, frankly, it is just too early for us to have done the analysis over which methods have been most effective in bringing us the greatest people.

So what we are going to do is over a time when we assess turnover and we look at who left and who stayed and who is great and who is not, we will look where we found those people and try to use more of those methods that gave us the superstars and less of those methods that did not.

But that backend analysis has not been done yet and will not be done for a little while until we get a little more experience in the field.

Thank you.

Sara Senatore, Sanford Bernstein.

Thank you.

I just had a couple of questions about pricing and the promotions.

The buy one get one, I wanted to get a sense of how that did.

I think I remember when you did something similar, it had an unexpected impact in terms of the margin sales trade-off, and I wanted to see if you felt like you had done maybe a little bit more precise of a job on that now.

And then the other piece was about I was interested to hear that even though pricing is off a little less pricing and your traffic is about the same, the difference is not that big sequentially, but do you see any change in the price, the traffic trade-off we would think of as elasticity?

Okay.

On the first question with the buy one get one, I think you are referring to over a year ago we had an online offer, and it was way oversubscribed.

It did have an impact on our comps, had an impact on our margin.

We had more promo costs in that quarter, I think it was in the first quarter last year, may be spilled into the second quarter.

And we had more promo costs then than we had in a long, long time.

And we were not really happy with that promotion at all because we felt like rather than inviting a lot of customers either new customers or customers that had not been in a while, we felt like people were just re-printing the offer.

We did not really have it controlled well.

And so there is a re-printing, and people were over subscribing and coming back over and over and over again.

That is, I think, the promotion that you are referring to that we did not like that.

We have always done and we have always liked direct-mail where we can target who we are sending to.

We can take an individual restaurant, we can draw a ring around it, and we can send out direct-mail, and the direct-mail offer that Steve mentioned would be a buy one, get one.

We like buy one, get one because, first of all, our Chipotle customers are excited to get a deal like that, and they are going to be anxious to come in.

In fact, our redemptions are very, very high.

They are in the high teens to 20% range, which is much higher than what the industry average would be.

But better than that, they get to bring somebody.

So we hope that they are going to bring somebody that has never been or has not been in a while, and that is the idea.

We want to re-invite or reignite folks' excitement about Chipotle by inviting them in.

So far we have done a direct mailer in Pacific, and that the redemption was very strong, as I mentioned like in the high teens in Pacific.

And we are about to in the third quarter, we are going to take several more markets and do some additional direct-mail.

We don't do these that often.

We don't want it to be kind of a regular thing.

We don't want it to become like an expected discount.

We do it kind of once maybe a year in a market or in some markets, again just to reignite people's excitement about Chipotle.

I would not expect any noticeable impact on margins.

The buy one, get one is a very effective way to do this, and as long as we control it where it does not get oversubscribed like the one that happened last year, we are not really concerned about the impact on the margins at all.

And then you mentioned the pricing coming off and the impact on traffic.

I'm not sure exactly what you meant.

I will mention my comments were intended to say that as we move from the second quarter to the third quarter, we are a few weeks into July right now, and we are seeing transaction trends that are similar to what we saw in the previous quarter.

I think the thing to keep in mind, though, we are going to lose 330 basis points a pricing.

So I would expect a pretty significant falloff in the sales comps, even though we are seeing similar transaction trends.

Did that address your question, or did you have another question related to that?

No, the latter was that, which is basically I guess I was surprised that even with much less price on the menu, you did not see a commensurate increase in the traffic.

As we usually think about elasticity, less price should translate into more traffic.

So it sounds like you are just saying that maybe the consumer spending environment is such that overall demand is a little softer?

Yes.

The other thing I would clarify is that when a lot of restaurants get resistant when they increase prices, they either see resistance and people spending less on each visit or they visit last.

We don't usually see that.

So last year when we raised prices, we did not see any kind of decline in transactions.

We did not see any kind of decline in average check.

When we go comp against that, we don't see a positive benefit either.

So that's why it is not unusual at all to not see a rebound as we are lapping that.

We are seeing a slowdown.

There is no other way around it.

We were humming along nicely in the first quarter, we were humming along nicely in April, and then we saw a slowdown.

Now part of the slowdown we do think is a tough comparison.

We are a -- when you add the 8% in the second quarter, we are up since the recession when you add in three years' worth of comps, about 25% since the recession.

But the comparison in the second quarter was a tougher comparison.

We were comparing against 18% versus a 16% or 18.17% versus 16.7%.

So we think that was part of it, but we are seeing a flattening and then a slight slowing of our comps.

We think it is related to just general consumer spending.

We are not seeing anything that is specific to markets.

It seems like it is pretty broad-based.

It is not a significant slowdown, but it is a slowdown.

Okay.

Great.

Thank you.

David Tarantino, Robert W. Baird.

Good afternoon.

Maybe just following up on the last point you just made Jack, I think in the past you have talked about Chipotle being more resilient to consumer slowing patterns.

I'm just wondering what your thoughts are on why you think the brand is seeing it this time around and how you are drawing the conclusion as to the broader macro environment and not something that might be related to the comparison or something internally at Chipotle?

You know, David, I wish I had a better answer for you.

You are right.

We always expect that we are not a very good leading indicator of the economy slowing.

When we look back to the recession, the very significant recession, we were very late in seeing any kind of slowing down of our comps back then, and then when the recession started to end and the recovery started, we were very early in the recovery process.

And so we felt like we would -- when there would be a slowdown, that we would see it later and that we would recover sooner.

And so we don't really have a great answer at this point.

We do think part of it is comparison.

We do think that the fact that we are comparing to a high teens, a two-year high teens is part of it.

And other than that, we are not really sure.

We do sense that there has been a pickup in advertising with some other restaurant companies.

I don't know how broad-based that is.

It is possible that maybe the advertising that often happens with other restaurants, it is transaction building.

There is on offer involved whether it is a new menu item or something like that.

It is possible that maybe that is causing people to visit other restaurants.

But we just don't know.

It is a fairly sudden trend, and it is still a trend that we are trying to figure out and so.

But we are still studying and trying to figure out what the trends mean.

Okay.

That is helpful.

And then maybe just one more.

As you think about the 87 openings year-to-date, it seems like that's on a faster pace than for the annualized number you are targeting.

I am just curious to knew your thoughts on whether that type of pace is something that you might think about looking forward, and is there opportunity to step up the unit growth, I guess, is the question?

Yes, David, we have always said that we are going to grow as fast as we can find great real estate and great managers.

It has never been our goal to chase a certain number.

It has never been our goal to grow as fast as possible.

It has always been our goal to grow our brand in order to meet an increased demand for what we are doing in the markets where we are serving customers and in new markets, and that is what we are doing.

We are very pleased with the pipeline of real estate that we are seeing.

We think that we are at least in very, very good locations, and we are opening to very healthy volumes.

And so for that reason, we have increased the guidance we have given, the $155 million to $165 million, which is the fastest we have ever grown, and we feel like the pipeline for future growth looks really good, too.

And then in speaking with our field teams, we are feeling really bullish about the number of restaurateurs we are developing.

Like I said, we are predicting it will be something like 150 restaurateurs developed this year versus only 102 last year.

And so restaurateurs being the foundation of our people culture and the foundation of our future leadership group, that gives us confidence that we are going to continue to have great leadership to open restaurants.

So for that reason, we are very bullish that we are going to be able to continue to grow at a brisk pace.

But it is not our goal to hit redline or push the gas pedal all the way down on growth because we don't want to have anything not be as good as it can be with regard to -- if we try to grow too fast, it could impact real estate, it could impact our people, and we don't want to do either of those things.

But we think we are growing quite quickly.

We are pleased, like I say, with our growth, with our EPS growth, and with the health of the business.

And we want to grow quickly but responsibly such that we can continue to feel really good about the health of our business.

Right.

Thank you.

Sharon Zackfia, William Blair.

Good afternoon.

Hey, Jack, I wanted to talk a little bit more on the slowdown that you have seen.

I'm just curious if you are seeing it at lunch and dinner and weekdays, weekends, anything more granular if you are seeing it across the country or anything specific you could give us.

Yes, there is nothing in particular.

There is nothing really by market that stands out.

If anything, our highest comps, we can look at our comps by hour of the day, and our peak hours at lunch and at dinner are the highest throughout the day.

Those are the two highest hours.

We think that is because of the focus on throughput.

So we are not losing really at dinner.

We are not losing at lunch.

I can tell you that the one thing that is interesting -- it does not explain the slowdown -- the significant percentage of our increase is takeout.

And so we do have more people coming in and leaving.

I don't know what that means.

It does mean that we are selling a few less drinks.

I would not say that the few less drinks that we are selling are significant in the overall scheme of our sales comps.

But that is the only thing that we have seen, and again, I don't think that explains the slowdown.

But there is nothing in terms of by market, by day of the week, anything like that.

It seems like just kind of a general leveling off and a general slight slowdown across the markets, across the days and across the hours.

I just want to be clear.

I think if you impute the math from, like, a 10% comp in April, you are probably running 7% in May and June, which would be kind of similar to the traffic level you are running in July.

So do you feel like things really have leveled off, or is it choppy day to day or week to week?

I think the answer, the April, while we were running 10%, we actually got a more negative trading day than we expected.

So April ended up net of the trading day close to the other months.

So that benefit that we had running through most of April we lost, and part of it was just literally trading day that we traded to week or days for two strong days last year.

But we went back to the two days we lost last year, which I think were a Friday and a Saturday or Thursday, Friday, two of our best days, they were kick-ass days, and they were really, really strong individual days last year.

And so April ended up being close to the other months, even though the underlying weekly trends were strong.

So I do feel like we have leveled off, or at least from what we have seen so far moving from April to May and June and then into July, the transaction trends we are seeing are similar to what we saw overall on average during the second quarter.

Okay.

And then one last question.

If your comps do kind of steady in the low to mid-single digit range and it is primarily transaction, do you still feel comfortable with the pricing power of Chipotle if grains prove to be an issue for your proteins going into next year?

I mean how do you think about that going forward?

Well, we do, Sharon, we feel like we have got, again, as much if not more pricing power than other restaurant companies.

When we talk to our customers and survey our customers, they feel great about the value that we offer at Chipotle.

They feel great about the quality of the food.

They trust where the food comes from.

With our marketing message, they are increasingly understanding the care that we take to go buy the finest ingredients we can.

They like the idea that we are sourcing ingredients that are sourced with respect for the environment, the animals, the farmers.

And so the more people discover about Chipotle, the better they feel about the experience.

And so we think we still have very, very strong value scores.

Now considering that our transactions have slowed, it just reinforces our conviction that we are not in a hurry to raise prices.

We are not going to raise prices to boost up our comp.

We have really strong margins, really strong returns, and so we will sit tight on the prices.

But there is nothing in any of the research or any of the trends that we are seeing that suggests that we don't still have very strong value and as strong a pricing power as we have ever had.

And, in fact, there was a recent study that across the board in terms of the quality of the food and Chipotle in terms of being the top choice, there were a number of different attributes that we used, and this was not a study that we did, that we were across the board the number two restaurant.

I will let you guys figure out what the number one restaurant was.

And that is the thing that we consistently see in our research or in outside research, and we continue to see that customers feel very good about the Chipotle experience.

So that has not changed our mind about our pricing power.

Great.

Thank you.

Michael Kelter, Goldman Sachs.

I wanted to ask, since you guys are attributing the slowdown mostly to the macro, I guess that implies that you don't plan to do anything Company-specific to try to re-accelerate your own trends and take it in your own hands?

I don't mean deep discounting or anything like that, but is there something you should be doing that makes sense for Chipotle?

Jack Hartung Well, our initial reaction, Michael, would be, if we were to do something, that would be a reaction.

And we're not going -- I will tell you what we are not going to do.

We are not going to do things that a traditional QSR might do.

So we are not going to do discounting, and you already mentioned that.

We are not going to rush out and come up with the next new menu item.

And so our formula for focusing on our food culture, making sure that the ingredients we buy, the way we prepare and cook the ingredients and serve those ingredients, the people that we hire to make sure that the experience that every single customer is an extraordinary experience, the way we design our restaurants to make sure it is a pleasant experience, those things have worked really, really well for us.

And so we are not about to, because of a slowdown in monthly or quarterly comps, we are not about to change that formula.

We are still going to study this, okay?

And so to the extent that we find something that perhaps we are not connecting with customers, not getting the message across, to the extent that we are in any way in a restaurant can do something better.

I mean throughput is one thing we are focused on because we think that is going to help our customers have a better experience.

When we find things that we can do to improve the dining experience of our customers, we will do those things.

In terms of short-term gimmicky things that other restaurants have done, I would not expect us to resort to those.

And then on the recent spike in commodities, what does that mean for you given your focus on sustainable sources?

Have prices in the last month for sustainable ingredients gone up more or less than traditional food inputs?

How do we think about that?

They have remained relatively stable.

We have not seen any spike per se.

The increases that we are expecting in the near term are the same increases that we have talked about for a few quarters now.

So we expect some continued inflation in beef.

We expect some continued inflation, although it is more seasonal with our avocados in the next quarter.

We think it is probably out a couple of quarters in the fourth quarter and maybe into next year that the extreme weather and the drought that we think will have an impact on the feed and then could have an impact on, we think, primarily our meats and our dairy.

But we have not seen -- we have not felt with the ingredients that we buy anything immediate, any kind of recent spike in what we are buying.

And then lastly on -- I just wanted to ask about breakfast.

You guys are no longer serving -- if I understand it right, you are no longer serving eggs at the Dulles Airport location and selling lunch, dinner, food before 11 AM.

I'm curious what you have learned in doing that, and whether there is any potential for you to open earlier across the system, even with the existing menu?

Sure, Michael.

Well, I will tell you we really changed the breakfast menu because of customer demand.

We had a lot of customers who were asking for the regular menu, the menu we serve at lunch and dinner, and really wanting that the first thing in the morning.

It would be very difficult in our existing format to serve both, to serve both the regular lunch/dinner menu and a separate breakfast menu.

So we switched over to the regular menu all day long and have continued to build on our breakfast business, and people seem to enjoy that very much.

I think your question, whether or not that might be something that we would want to do in other restaurants, is a good one.

In fact, we have asked the same question of ourselves and have looked for a restaurant or two where we might be able to test that and (multiple speakers) are in this process of doing that.

Thanks.

That does conclude our question-and-answer session.

I will now turn the call back over to the speakers for any additional or closing remarks.

Thanks, everyone, for joining us, and we look forward to speaking with you next quarter.

Thanks, everyone.

Thanks, everyone.

Thank you.

That does conclude our conference.

You may now disconnect.