Chipotle - Earnings Call - Q1 2012
April 19, 2012
Transcript
Speaker 5
Good afternoon. Welcome to the Chipotle Mexican Grill's first quarter 2012 conference call. All participants are now in a listen-only mode. After the speaker remarks, there will be a question and answer session. At that time, if you'd like to ask a question, please press star and then the number one on your telephone keypad. Should anyone need assistance at any time during the conference, please press star zero and an operator will assist you. As a reminder, this call is being recorded. Thank you. I'd now like to introduce the Chipotle Director of Investor Relations, Alex Spong. You may begin.
Speaker 1
Hello, everyone, and welcome to our conference today. By now, you should have access to our earnings announcement released this afternoon for the first quarter 2012. It may also be 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, trends 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 risks 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 discussion of these risks. Our discussion today will also include non-GAAP financial measures, a reconciliation of which can be found on the presentations page of the Investor Relations section of our website. I'd like to remind everyone that we've adopted a self-imposed quiet period, restricting communications with investors during that period. This quiet period begins on the first day of the last month of each fiscal quarter and continues until the next earnings conference call. For the second quarter, it will begin on June 1 and continue through our second quarter release in July.
On the call with us today are Steve Ells, our Chairman and Co-Chief Executive Officer, Montgomery Moran, Co-Chief Executive Officer, and Jack Hartung, Chief Financial Officer. With that, I will now turn the call over to Steve.
Speaker 3
Thank you, Alex. We're pleased to see our momentum from 2011 carry into the first quarter of 2012. Coming out of the recession, we have now seen seven consecutive quarters of double-digit same-store sales growth, posting a comp sales increase of 12.7% in the first quarter on revenue of $640.6 million, an increase of 25.8% from the first quarter of 2011, adding up to earnings per share of $1.97 for the quarter. More importantly, I'm pleased that we continue to perform well by remaining focused on only those things that are the major drivers of our business: our unique food culture and our unique people culture.
During the quarter, we made another significant leap in educating our customers about our commitment to serving great food made with better ingredients from more sustainable sources when we ran our two-minute animated short film "Back to the Start," as a commercial during the Grammy Awards. Buying such a large block of time during the Grammys reached a significant number of people with this important message and sparked some very public dialogue about food issues that continued for several days in social media and mainstream media outlets. This year's Grammys telecast surpassed the expected 29 million viewers, with 40 million people tuning in. The spot had a much farther-reaching impact than that. Immediately after it aired, the spot prompted 22,000 tweets and significant reach in social media, where it produced more than 33 million impressions on Twitter in the days that followed the Grammys.
According to the popular sharing platform AddThis, which tracks the frequency with which people are looking at or sharing things in social media, our commercial was unique in that as soon as people saw it, they felt like seeing it again and wanted to share it with their friends. Running the spot on the Grammys also provided another significant PR opportunity for us. In all, press coverage surrounding the spot generated another 150 million media impressions, giving us the kind of media attention that is often associated with Super Bowl ads. With our Grammy spot, all of that coverage was focused only on Chipotle instead of being shared among numerous Super Bowl advertisers. The "Back to the Start" film is just one part of our Cultivate Marketing platform, which is designed to invite people on our journey to a more sustainable world.
While most other fast food companies use advertising to tout the latest discount or the newest menu item, we believe that we're creating a more loyal, frequent customer by connecting with them rather than advertising at them. Since we have such a great story to tell, our challenge is to tell it in the most compelling way possible. We have found that less traditional forms of advertising work better. The "Back to the Start" short film and other films of similar nature that are in production now are a great example. Just as we did with the "Back to the Start" film, we'll start small with these projects and figure out the best way to use the films based on the opportunities we think they provide as they come together.
Our day-long Cultivate Festival series planned for Chicago and Denver this year is another way we're making use of non-traditional marketing, as is our farm team program that rewards knowledge about the Chipotle story. These programs, along with a variety of others, including games, educational content, and a refined approach to local marketing, are all designed to engage our customers in conversations 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's very consistent with our brand. We've built Chipotle in a way that's different than traditional fast food, so it should be no surprise that marketing works best for us that doesn't follow a traditional fast food model.
Of course, marketing efforts like this would ring hollow if we weren't so deeply committed to doing the kinds of things our marketing portrays. Our commitment has never been stronger to finding better, more sustainable sources for all of the ingredients that we use and identifying ways to improve the taste of our food by finding better ways to prepare it. For example, we're improving our flour tortillas to make them taste better and be more nutritious with twice as much whole wheat as our current tortilla and free of preservatives. We're already serving this new tortilla, which is very similar to the tortilla we're using in our London restaurants, in our restaurants in Colorado, Utah, and Wyoming. Not only is this a better-tasting and more nutritious tortilla, but removing preservatives and increasing its nutritional content also brings it more within our philosophy of serving food with integrity.
We're also working to improve our soft corn tortillas. We have developed an improved recipe for more consistent corn tortillas made from a combination of white and yellow corn masa flour. These new tortillas not only taste better, but have a better texture and improved eating quality. We've begun testing these tortillas in Portland and our Chelsea restaurant in New York, and if successful, we'll roll these new soft corn tortillas out before the end of the year. We're also working to improve our beans. We're experimenting with a new process and equipment which will allow us to better hydrate the dried beans fully and consistently before they're cooked. The result will be that all of our beans, regardless of the time of year, will always be cooked exactly the same.
This will allow us to make better and more consistent beans throughout the year and ensure that the viscosity and the texture are always at their optimum. These changes are some of the examples of our ongoing commitment to finding ways to improve the quality and taste of the food we serve, whether that means finding better ingredients from more sustainable sources, new recipes to make our food more nutritious and better-tasting, or new cooking processes that help us serve the best food possible. We continue to make progress with our expansion in Europe, not just in terms of opening new restaurants, but also in terms of developing teams of top performers to provide us with the future leaders we'll need as we continue to grow. Currently, we have two restaurants open in the UK with plans to open three more between now and the end of the year.
Our first Paris restaurant is slated to open this spring, and we plan to open a couple more restaurants in Canada as well. Of course, development of Chipotle Mexican Grill restaurants in the United States will remain the focus of our growth for the foreseeable future. As we work in Europe, I can't help but notice the tremendous benefits of starting from scratch in these new markets, but built upon a solid restaurateur culture with teams of top performers who have high standards. Our initial teams in London are extraordinary, and our managers are taking great care to hire only top performers who can be developed into our future managers and future leaders for us in Europe.
As we work to open our third restaurant in London on Water Street, we have already appointed a manager who has been with us since day one at our first London restaurant on Charing Cross Road, and we've screened hundreds of applicants to hire only 15. The team in London tells me that they expect to screen hundreds more to get the 25 or 30 employees they'll need to open. That strong commitment to finding and hiring only top performers for positions will help us accommodate growth in the future. Finally, as we continue our efforts to reemphasize throughput in our U.S. restaurants, which Monty is going to discuss a little bit later, we're just beginning to emphasize this concept in our restaurants in London.
Already, we are seeing the impact of these efforts there, seeing better transaction volumes and better customer service as our managers and crews are beginning to emphasize the same throughput practices we've been teaching in the restaurants in the United States. 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 and eat fast food, but it will also allow us to deliver strong results to our shareholders. I'll now turn the call over to Monty.
Speaker 2
Thanks, Steve. Like Steve, I'm pleased with our results for the first quarter, and I'm very proud of our terrific restaurant teams whose hard work and dedication has led to this 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 a reminder, before we created the restaurateur program, the vast majority of our managers came from the outside, and our crew people were seldom promoted to salaried management positions. The crew had little reason to be optimistic about their future, which meant that they were not as happy, energized, or excited as they could have been, and they had less of a sense of ownership over the guest experience. Today, the opposite is true.
98% of our managers come from crew, so our crew members know that they are the future leaders of the company. For this reason, they have a huge sense of ownership, and they're excited, driven, optimistic, and happy. The best of them quickly move into manager positions where they lead their teams to understand and take part in our special culture. Because of this, Chipotle Mexican Grill is able to attract and hire much stronger crew than ever before, and they are fast becoming managers and ultimately restaurateurs. These top performers know how to hire the very best crew. They know how to lead these people to become a strong team, and they know that doing this is the surest way to create an amazing dining experience for our guests. The powerful effect of these excellent leaders does not stop at the restaurant.
These great leaders are quickly moving into field leadership positions as well. More of our field leaders now come from restaurateur positions than ever before, and the awareness of what a restaurateur culture looks like is better than ever. This makes the process of developing and selecting restaurateurs faster and more efficient than ever, since a higher percentage of candidates that we interview for this position are accepted into the restaurateur program. Last year, only 74% of the candidates were being accepted to restaurateur, but this year that percentage has increased to about 87%. Year to date, we interviewed 42 potential restaurateurs and accepted 36 into the program, bringing our total number of restaurateurs to 295 when you include the apprentice team leaders, all of whom are restaurateur. In all, more than 60% of our restaurants are now overseen by these extraordinary leaders.
There is another exciting trend that gives us optimism that we will be able to sustain the influence of our special people culture even as our pace of expansion quickens. Specifically, we are noticing that more and more of our new general managers are able to create the restaurateur culture in only a few months after being promoted to the GM role. Additionally, these people coming up through our ranks are some of the best leaders in our company. Currently, we have 30 apprentice team leaders, all of whom work their way up from hourly positions in our restaurants. As a reminder, the only way to become an apprentice team leader is to first become a restaurateur and then demonstrate the ability to build excellent teams in four restaurants and promote at least one restaurateur from among these.
The ATL position came into existence in 2008 when we realized that some of our best restaurateurs had the desire and ability to create restaurateur cultures in more than just their own restaurants, and we wanted to create a position that would allow these leaders and the company to see the greatest benefit from their leadership abilities. In the first two years after developing this new position, only one person was able to reach this elite level. Happily, during the following two years after that, from January 1, 2010 to January 1, 2012, we had 19 more make it to this position. What's most impressive is that we have promoted 10 more ATLs in just the last three months. In other words, a full third of all of the apprentice team leaders promoted during the four years the program has existed have been promoted since the first of this year.
These ATLs not only understand and can teach the restaurateur culture, they're also having a big impact on the business. They quickly identify issues, diagnose the root cause of problems, and have a clear vision for how they will develop and promote their crew to positions of greater leadership. Despite their short tenure, they know the people in their restaurants, and they know how to quickly establish a restaurateur culture. They literally know of no other way than to identify top performers and empower them to achieve Chipotle's very high standards. These new apprentice team leaders are truly showing us what's possible when you examine the restaurants that they oversee and mentor. For example, when you look at the 10 newly appointed apprentice team leaders, fully 73% of the restaurants that they were mentoring at the time of their promotion to ATL were already promoted to restaurateur.
When you take into account that only 21% of our restaurants system-wide are run by a restaurateur, that means that these leaders are quickly establishing patches of remarkably well-run restaurants with exceptional experiences for both our guests and the employees who join their teams. What's more is that they are developing their people at a pace you have never seen before. We are seeing that as this newest generation of field leaders takes on new restaurants, they immediately have a clear vision and plan by which they will lead each of these new restaurants to become a restaurateur restaurant. We are also noticing a higher caliber of future leaders when we visit our restaurants and talk to our managers and crew.
In spending time with Perla Lara, who is a restaurateur who recently became an apprentice team leader in California, I was struck by the quiet confidence she had in her team and her ability to develop future leaders quickly. In asking her whether she was prepared for the added responsibility of taking on a number of new restaurants, she seemed confused by my question. In short, she told me that she had no real concern because they would soon all be restaurateurs, and restaurateurs take very little time and oversight from a field leader. She told me her job was easy, so I told her that it was going to get much tougher for her as she took on more and more restaurants. She respectfully disagreed with me. She told me that it's not really very hard as long as you have a strong base of restaurateurs to help you.
Of course, she is exactly right. People like Perla do not know any other way. They are the product of a culture where everyone is committed to developing the people around them, and they simply do not see obstacles to developing restaurateurs very quickly. In fact, I'm optimistic that Perla will soon be a team leader in the near future. In another case, after promoting two new apprentice team leaders named Carlos and Lorena in Chicago, we were discussing the eight additional restaurants that they were now going to be asked to lead in their new positions. We asked them how many of these eight restaurants would be restaurateurs by the end of the year, and they looked at us as though we were a bit naive. Of course, all of them are going to be restaurateurs, they said.
These new high expectations are wonderful for us to hear about, but even more wonderful is the fact that our people are achieving these very high expectations. As we build more new restaurants, our managers need a reliable supply of top-performing new crew in order to develop teams in the restaurants. For this reason, we are giving our managers better tools to improve their ability to recruit, hire, and bring on new people. Last quarter, I spoke about our plans to roll out a new recruiting and processing tool called Taleo. We are now using Taleo in all of our Mid-Atlantic and Rocky Mountain region restaurants, and we'll be using it in all of our restaurants nationwide by the end of May. Using Taleo in our restaurants simplifies the entire hiring process.
It uses a centralized database so that managers can review applications from multiple candidates quickly and easily without sorting through individual paperwork for each applicant. Also, candidates complete all of their forms online, and the system ensures that all their information is entered correctly. This information is automatically integrated into our HR systems, which eliminates the need for additional data entry. Collectively, these benefits will save our managers a lot of time, allowing them to spend more time developing their teams. The early feedback regarding this tool from our managers has been very positive, and they tell us that they're seeing more high-caliber applicants as a result of this. This tool will also allow us to better track information about the number and source of our applicants, and it also allows many managers to view the same application simultaneously, so an applicant only needs to apply at one location.
In the last few quarters, I've spoken to you about our renewed emphasis on throughput, and I wanted to give you an update on that as well today. Once again, we continue to see promising results on this important initiative. During our peak weekday lunch and dinner hours, we are seeing solid increases compared to last year. Additionally, we have been able to move the needle on our throughput during our busiest 15-minute periods as well. Before we began this renewed emphasis on throughput, 2007 was our benchmark year for peak hour transactions. From these highs, our peak hour transactions dipped during the recession, and we've been working diligently to restore or surpass those records. Since we renewed this effort in November of 2011, we've managed to exceed our 2007 peak hour transactions for the first quarter.
Put another way, our teams are now the fastest that they have ever been for this time of year. We are also encouraged by how our peak hour transactions are making a larger relative contribution to our overall sales comp than they have in the past. Throughout 2011, our overall daily comp consistently outpaced the comp seen during the noon-to-1 hour. However, we have reversed this trend more recently with our emphasis on throughput. Since December, we have seen our noon-to-1 comp actually grow faster than the rest of the day, which tells us that we are on the right path and that this initiative is gaining traction.
These throughput improvements come at the right time, as we're now into some of our busiest months, April and May, and we are now hoping to see our average transaction count increase even more throughout the day, and especially during our peak lunch and dinner hours. Great throughput really improves the experience we provide our customers in every way. In addition to the obvious benefit of not waiting as long for their food, great throughput is accompanied by better communication and engagement with each guest, more eye contact, hotter, fresher food, and overall a more energized crew serving each customer. Over time, it's our belief that our continued efforts in this area will lead our customers to come more often as they grow more confident in our ability to keep our lines shorter, allowing them to spend more time enjoying their meal.
Finally, I want to update you on our development progress. We are very optimistic that we will succeed in our commitment to open the 155 to 165 restaurants that we guided earlier this year, and we think that approximately 30% of these new restaurants will be A-model locations. We also are optimistic about real estate trends in the coming years. We are predicting a slight increase in the amount of new construction, which we believe will lead to a slightly larger portion of our restaurants being new construction instead of remodels. Specifically, we're seeing a slight increase in landlord-built centers and pad locations, which seem to be recovering a bit more quickly than large-scale shopping centers.
At the low in 2010, about 30% of our deals were new construction projects, and we expect that that number will increase to about 36% of our new restaurants in 2012, with perhaps more significant increases by 2014 and 2015. With stronger food and people cultures than ever before, better tools to help our managers work more efficiently, and continued emphasis on improving things that contribute most to the restaurant experience, as well as the continued strengthening of our unit economic model, we believe that we are well-positioned to provide consistently strong results for our shareholders. With that, I will now turn the call over to Jack Hartung.
Speaker 3
Thanks, Monty. We're very proud of the results we achieved in the first quarter, and while the quarter provides an encouraging snapshot of our recent financial trends, what's more important is what's driving these results: the continued strengthening of our food culture, our people culture, and our business model. Our top-performing crews and managers are delighting our customers by providing great customer service while serving great-tasting food made from premium ingredients, leading to customers wanting to visit Chipotle more often. It's encouraging to see these efforts lead to attractive financial results in the quarter, and it gives us even greater optimism about what lies ahead. We're pleased to report the seventh consecutive quarter of double-digit sales comps since the economy began to recover, with a comp of 12.7%. These strong comps, along with new restaurant openings, drove a sales increase of 25.8% to $640.6 million in the quarter.
The comp was driven mostly from increased traffic, while higher menu prices added about 4.9%. In March, we raised prices in our Pacific region by about 4.5% to reflect the higher cost of doing business in the region and to help narrow the pricing gap with other U.S. markets. This price increase was completed in March, and because it lapsed a similar increase in the Pacific region at about the same time last year, it will have no additive effect to our comps going forward. While we continue to believe we have pricing power, we do not have plans for any additional menu price increases during 2012 to offset expected food inflation. Our business model is strong, and we're not compelled to take short-term price increases to drive quarterly results, and instead, we're focused on driving greater customer loyalty and strong transaction trends.
Our comps held up well in the first quarter despite the toughest quarterly comparison in 2011 of 12.4%. Unseasonably mild weather through much of the quarter helped transaction trends remain strong, and in addition, we benefited from the leap day in February, which added about 1% to the comp. Our sales comps continue to benefit from the menu price increases taken during the second and third quarters of 2011. At the current menu price increase run rate of 4.9%, we will lose 3.9% of the benefit over the next two quarters as we lap the price increases from last year, with about 30 basis points dropping off in Q2 and about 360 basis points dropping off in Q3.
We also faced tough sales comparisons in the back half of 2012, as beginning in the third quarter, we will comp against two full years of double-digit comps for the first time since before the recession. Taking all this into account, we reaffirm our full-year comp guidance of mid-single digits. Restaurant-level margins increased by 220 basis points to 27.4%, just 30 basis points shy of our highest quarterly restaurant-level margins set back in Q3 of 2010. The higher margins were driven by sales leverage, including the benefit of the menu price increase, and from lower promo costs due to the large promotion in Q1 of 2011. Operating margins increased by 130 basis points, lower than the restaurant-level margin expansion because of increases in non-cash stock comps, which I'll talk about in more detail shortly. Diluted EPS for the quarter was $1.97, an increase of 34.9%.
Food costs were 32.2% in the quarter, up 20 basis points from the first quarter of last year, and sequentially were flat from Q4. We were pleased to see that food inflation was moderate in the first quarter, as lower prices for avocados, produce, and dairy costs helped offset the increases in beef and chicken. We continue to expect food inflation in the mid-single-digit range over the next few quarters, due primarily to rising costs of beef, dairy, and avocados. Contributing to these higher costs is the expectation that all of our sour cream will come from cows that are pasture-raised beginning in the second quarter and from seasonally higher avocado costs as we return to buying avocados from California this summer. Labor costs were 23.7% of sales in the quarter, a decrease of 90 basis points from last year.
Labor leverage was driven by higher sales volumes, including the benefit from higher menu prices. Occupancy costs in the quarter declined 60 basis points due to leverage from the higher average restaurant sales. Other operating costs were 10.3% in the quarter, down 100 basis points compared to last year, driven by lower promo and utility costs. Promo costs were down from last year when we ran a large buy-one-get-one promotion related to the restaurant TV show we sponsored. Marketing was 1.3% in the quarter, the same as in Q1 of last year, with the largest part of our marketing invested in airing our "Back to the Start" films during the Grammys, which had an audience of over 40 million TV viewers and helped introduce Chipotle to millions of potential new customers.
While "Back to the Start" was not created as a TV ad, the Grammys provided an opportunistic way to share our message with a larger audience about what makes Chipotle special. We feel confident that our marketing approach, which is different than the traditional approach other restaurants have taken, is connecting with customers and prospective customers in an emotional and authentic way. Overall, for 2012, we still expect our marketing expense to be right around 1.75% of sales. G&A was 7.7% in the quarter, up 140 basis points from last year, due primarily to higher non-cash, non-economic stock compensation expense and higher payroll tax expense related to the exercise of options during the quarter. The non-cash, non-economic stock comp expense was about $20.5 million in the quarter, or $11.5 million higher than last year.
About half of the increase, or $5.6 million, was due to a one-fifth adjustment for performance shares issued during 2010. These performance shares have a three-year vesting schedule ending in October 2013, and the amount of the award can increase or decrease depending on our financial performance during the three years. Now that we are halfway through the measurement period, based on our strong performance during the past six quarters, it appears likely that we will earn the maximum award, so the $5.6 million represents the incremental expense to catch up for the last six quarters for earning the max. For the rest of the performance period, the remaining charge will be amortized by about $1 million for each of the remaining six quarters, at which time the shares will vest.
We expect non-cash stock comp to total about $69 million for the full year, which includes this incremental charge for hitting the max on the performance shares. G&A also includes additional employee taxes of about $3 million related to the exercise of stock options during the quarter. Without the charge related to the performance shares and the higher employee taxes on option exercises, underlying G&A was 6.3% of sales, or about the same as last year. In the quarter, we also saw our average restaurant volumes increase to a record high of $2.07 million, and we're confident that our strong unit economics can get even better as even more customers discover and choose to visit Chipotle. Our new restaurants continue to perform very well, reflecting the success of our real estate development strategy and the growing awareness of the Chipotle brand across all U.S. markets.
Our new restaurants are opening at or above our $1.5 million to $1.6 million communicated range, and A-models continue to perform well with sales just below traditional sites, but they generate higher returns. During the quarter, we opened 32 new restaurants, including one in Toronto. We expect to open between 155 and 165 restaurants in 2012, with about 30% of these being A-models. We also expect to open one in Paris, three more in London, and a couple more in Canada. As we mentioned on our last call, we plan to open our second shophouse in Washington, DC, sometime later this year.
Our effective tax rate was 39% for the quarter, and for the full year, we expect the rate to remain at 39% or 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 expired and have not been renewed by Congress. Our already strong balance sheet continues to strengthen and has allowed us to open new restaurants with expectations of superior returns funded by operating cash flow, while we continue to opportunistically pursue our $100 million share buyback. Though our tax provision for the quarter reflects an expense of just under $40 million, we actually have a tax receivable on the balance sheet of $35 million. This is a direct result of an excess tax benefit, which totals $68 million related to stock option exercises.
Though the $68 million is a real economic benefit and it will enhance our cash flow over the next few quarters, this benefit is not reflected in our GAAP EPS. During the quarter, we purchased around $16 million under a stock repurchase program at an average price per share of $376. While we believe that investing in high-returning restaurants remains the best use of our cash, we'll continue to opportunistically and carefully repurchase our stock to enhance shareholder value. Thanks for your time today, and at this time, we'd be happy to answer any questions you may have. Operator, please open the line.
Speaker 2
Thank you. Once again, please press star one on your touch-tone telephone if you wish to ask a question. If you're using a speaker phone, please make sure that your mute function is off to allow your signal to reach our equipment. We'll proceed in the order that you signal us, and we'll take as many questions as time permits. We'll now take our first question from David Palmer with UBS.
Speaker 0
Congratulations on a great quarter. I wanted to ask a question about throughput. Would you mind just discussing a little bit about what you are communicating down the line in terms of getting the focus on throughput and what specific changes might be being made in prep, ordering, and the payments, sort of the tricks of the trade that might be going on that are helping you with the throughput? Thanks.
Speaker 2
Yeah, thanks, David. Really what we've done is tried to focus only on those things which tend to have the greatest impact on throughput, and those are the four things that I've mentioned a number of times before, which are the mise en place, or having everything in its place before the shift begins or before the peak hour begins, having what we call aces in their places. In other words, making sure that absolutely everyone in every position is ready to serve the guest and that we have the best person in each position during peak hour so that we're not training folks during that time, and also having an expediter in place during all times at peak hour. That's the person who stands between the person who rolls the burrito and the person who cashes the cashier.
That person is the one who takes care of all the little requests, like is it for here to go, puts it in a bag, gets a drink, or takes care of any other requests of the customer so that the cashier, which is typically the slowest part of our throughput, can focus completely on the task of cashing someone out.
Finally, we want to always have a linebacker position in place during peak hours, and that's usually the General Manager or a Service Manager or an Apprentice, but that person is someone who stands behind the line and makes sure that all of the pans are full of food, that all the food looks perfect, that the line is clean, and that all of the people working on the line have all the tools and implements that they need to do their job perfectly without looking away from the guest. A big part of the focus has been focusing on those four things.
In addition to that, we've tried to give as many tools to our teams as we think will be helpful, and recently we rolled out a throughput video that really put in a very descriptive way, kind of demonstrated the four things that I mentioned to you and how they should be done properly, but also gave a live view of what a terrifically well-run team looks like when they're executing very, very high throughput. The throughput video was taken on location at one of our very busy downtown Chicago locations that has a near constant line throughout lunch of people who are used to very, very fast service demanding a very, very fast service, and it's a place where the team provides over 320 transactions per hour consistently and has hit numbers of over 350 transactions in a single hour of business.
Having all of our teams around the country be able to see that with the commentary from one of our Regional Directors talking about what they are seeing was a real nice sort of picture worth a thousand words, if you will, to help them understand and be able to really visualize what's possible in a really well-run Chipotle. Part of that lesson is how achievable these very high throughput numbers are, how it is not a frenetic or spastic or disorganized looking thing when we go very quickly, and in fact, it's just the opposite. If you looked at this throughput video, you'd think that it didn't look that bad because everyone is so efficient. There are no wasted movements. There are very few mistakes made, and if there are mistakes made, they're caught and corrected very quickly.
The crew is very calm, very competent, and really having a lot of fun, so the customers feel that and enjoy that fun as well. Finally, I would say that one of the important things to teach our teams that we always emphasize is that throughput is not, you know, speed is not the first goal of throughput. The first goal of throughput is to provide the very, very best customer service: great eye contact, great communication, a polite but efficient way with customers, and all of those things, when done well, tend to lead to very, very fast service because the guest goes through understanding exactly what they want, getting what they want, and being very satisfied with that quickly. That gives you, I guess, an idea of some of what we're doing to increase the throughput, and it's working very, very well.
Speaker 3
One quick follow-up is that in this last quarter, do you have a sort of rough estimate as to how much throughput might have helped your sales directly? Do you have a sense of literally how many more orders per hour you push through such that you help the comp? As you get into the peak months coming up, it looks like your sales go up 10%, 12% versus the type of months that you have in the March quarter. In the coming quarters, is it going to be even a bigger lift, or how should we think about that?
Speaker 2
I'll answer them backwards because the second answer is quicker than the first. Yes, the first quarter is seasonally our slowest quarter from a sales standpoint. We do believe that in the next quarter, the second quarter, and in fact, the third quarter as well, throughput is even more important then than it is now. To answer your first question, I'd like to caution you not to too closely link an increase in comps, you know, an increase of comp sales with an increase in throughput. Seasonally, the first quarter is one of our slowest in sales, and so typically during our peak lunch hour in the first quarter, we average about 100 transactions. For the first quarter this year, we were about five transactions faster than we were last year during that peak hour, and we're very proud of that.
We don't see a particular effect on short-term comps from the throughput initiative yet, but we believe it is an important part of great customer experience and that over time it will encourage more visits as customers have more confidence that they can visit a Chipotle, get through the line more quickly, and have more time to enjoy their meal. Again, in these next several months, the speed of service will be more and more important, but we can't tell you that when we increase the speed of service that automatically it yields an increase in comp sales. That's something that we believe over time will improve as a result of great throughput, but it's not an immediate reaction.
If people want to come to Chipotle more often, we want to do all we can to reward that decision with an incredible guest experience, and a large part of that incredible guest experience is great throughput. We believe that over time it will lead to an increased comp, but that's not something that we can tell you that we've seen just yet.
Speaker 3
Thank you very much.
Speaker 2
Thank you.
Speaker 4
will now go to Matthew DeFrisco with Lazard.
Speaker 0
Hi, guys. This is Juan Liam for Matt DeFrisco. I just had a quick question about the gap between the growth in average weekly sales and the comp. It seems to be widening a little bit this quarter compared to the past few quarters, and I understand that the new stores are doing just as well as they had in the past. I'm just wondering what the discrepancy is there. If you can provide a little color, I'd appreciate that.
Speaker 3
I'm not sure what your calculation is for that. We're not seeing anything that's disturbing in our trends. You know, what you've got is you've got two opposing forces. You've got comps that are driving our average volumes up, and then you've got all the new stores that are coming that shift from non-comp into the comp base. Frankly, looking at about a $50,000 or so increase from quarter to quarter, while we're adding new restaurants into the comp base, we think we're getting exactly the right increase in our average unit volume than we should. We're not seeing anything underlying that's not supporting that. Both our new stores are opening up strong. They come into the base, and they have a dilutive effect, but that's always happened, but it's being more than offset by the comp. Nothing I can tell you that's disturbing in the underlying trends.
Speaker 0
OK, great. I jumped on the call a little bit late, so I'm not sure if you touched on pricing at all. I know on your last call you had mentioned that you don't anticipate to take as much pricing in 2011 as you do this year.
Speaker 3
Yeah, we did mention it on the call. We don't have any plans for any further menu price increases. We did take a localized increase just in the Pacific region, and that's more a function of that's a very high-priced market for us, high-cost market to do business. The menu prices there have been lagging, you know, kind of really they've been lower than they should be forever, and so we did raise prices last month. That's not going to have a continuing positive effect on the comp because it came on. That price increase happened about the same time that we took an increase last year, so they kind of offset each other. We don't have any plans for any future menu price increases in 2012 right now.
Speaker 0
OK, great. Thank you very much.
Speaker 3
Thanks.
Speaker 4
We will now go to Alvin Concepcion with Citigroup Inc.
Speaker 0
Hi. Congrats on a quarter as well. Just wanted to see if you could give us a sense of the weather benefit to comps, if there was one.
Speaker 3
Yeah, there definitely was one. January and February were terrific from a weather standpoint. Lots of people decided they wanted to come out and visit Chipotle. Hard to get a really firm handle, but to the best that we can tell, it probably added somewhere between 100 to perhaps as much as 200 basis points to the comp during the quarter.
Speaker 0
OK, have you seen a change in the underlying sales trends in April?
Speaker 3
What I would say is if you factor out weather and factor out the leap day, what we're seeing in April so far is kind of a continuing of the underlying sales trends. To the best of our ability, factor out weather, factor out the leap day, and then it seems like April is just picking up where the underlying trends in the first quarter left off.
Speaker 0
Great. Just to follow up on food costs, you maintain your outlook on the inflation. Is it fair to say you're still seeing food costs will be up 150 to 160 basis points throughout the year? Is that still the case?
Speaker 3
Yeah, that's fair math. I mean, right now we think that over the next two quarters, it's going to be mid-single-digit inflation. We think that if things go as planned, the fourth quarter will level off a little bit. I think when you take that mid-single-digit inflation and convert that into impact on food costs, you are looking at somewhere between 100 to 150 basis points of higher food costs over the next couple of quarters.
Speaker 0
All right, thanks a lot.
Speaker 3
OK, thanks.
Speaker 4
We will now go to Karen Holthouse with Credit Suisse.
Speaker 0
Hi. Congratulations on a great quarter. I'm just going to have a quick question. With the move in development to maybe some more new construction units, is there anything we should be thinking about when modeling that in terms of differences in square footages or build costs or average unit volumes in the new units?
Speaker 2
I think that you'll see that those are largely consistent. The square footage of units is largely driven by that which we find in the field because we're releasing our space. Generally, we'll continue to do what we've done over the last many years, which is favor smaller restaurants when we can find them, but always just look at what we think will make for a great Chipotle restaurant. No particular change there.
Speaker 4
Great. One quick housekeeping question. Did you give a number for food inflation in the quarter on the call?
Speaker 3
Yeah, we just reiterated we think it's going to be still in that mid-single-digit range.
Speaker 4
Oh, for the first quarter.
Speaker 3
During the first quarter, sort of. I mean, what we talked about is we did a comparison to last year, but more importantly, from the fourth quarter to the first quarter, we had the same food costs. We didn't see any net effects of food inflation so far in 2012, and that's, I think, the most reflective. I think the best way, I think, to look at it is kind of sequentially from the fourth quarter. If you look at the fact that we've got a run rate of about a 5% menu price increase and our food costs went up by 20 basis points, you could just back into the fact that we had like, you know, call it a 6% or 7% in that kind of ballpark inflation year over year. More importantly, looking at it sequentially, didn't get hit in the first quarter.
We do think that the mid-single-digit inflation going forward will kick in, and we think it'll hit over the next two quarters.
Speaker 0
OK, great. Thank you.
Speaker 3
OK, thanks.
Speaker 4
We will now take Michael Kelter with Goldman Sachs.
Speaker 0
Hey, guys. I wanted to ask about the two incremental potential growth opportunities, you know, one question on Europe and one on Shophouse. Maybe I'll first touch on the Europe question. You mentioned you were implementing the throughput initiatives that you'd been running through in the U.S. in the UK, and I guess I didn't realize that they would be necessary, that your store volumes were so good that it was relevant to do that. Maybe you could talk about what the sales demand or AUVs are at the two current UK locations, and if the demand is that strong. I understand three more for the rest of the year, but how quickly might that ramp up once you get past 2012?
Speaker 3
Let me speak to the necessity of throughput and why now is a good time to emphasize that. It's interesting to watch a lot of new customers in a brand new market of a brand new country try Chipotle for the first time. There is a learning curve, and to emphasize throughput at a time when people don't really understand the menu and understand the service format, I think, makes it very confusing. We deliberately want to allow people to go at their own pace, within reason, of course. As we see more and more regular customers in our London restaurants and as people are starting to understand the system and become very comfortable with it, we started to talk about throughput with our crews, and our managers have done a very, very good job at slowly building up the speed. This is something that the customers really appreciate.
They understand that Chipotle is more convenient now and that they have time to sit down and actually enjoy their meal because the service part of it is faster. One of the benefits that we see from doing that is an increase in sales. It's interesting that we've noticed the exact same thing at Shophouse in Washington, DC, deliberately not emphasizing throughput when we opened up because it's, again, completely different menu offerings. A lot of our customers recognize the service format. They recognize that it's very similar to Chipotle, but since there's a difference in ingredients and a lot of questions about the different flavors and different spice levels and things like this, it was slower. We've noticed more and more regular customers and have started to emphasize this idea of throughput and how to provide service to the customers, and we've seen increased sales in that restaurant also.
Speaker 0
In those UK restaurants, what are the rough AUVs, and what might the growth trajectory, unit growth trajectory, look like past 2012?
Speaker 3
Yeah, Michael, just on the voluntary, I'll turn it back over to Steve. We haven't communicated what those are, but just to give you a rough idea, in terms of transactions, they're similar to what new restaurants would be in the U.S., perhaps a touch higher in terms of transactions. Keep in mind, I think your original question was kind of, you know, why throughput? Are their volumes really that high? Throughput isn't just about flying as many people through the line as you can. Better throughput means our teams work better together, the food is better, and the customer experience is better. When you have five people in line and when our teams are ready to deliver great throughput, those five people are going to get terrific customer service, and it's just as important, we believe, if there's five people in line versus if there's 40 people in line.
That's why we wanted to get this kind of into the DNA in Europe early, but that'll give you an idea, at least from a transaction standpoint, where we are in the UK. We've not communicated actual volumes yet. I'll let Steve. What was your other question that you wanted on London?
Speaker 0
Generally, about the pace of growth in the future in Europe, what the unit growth trajectory would look like. I would imagine that even though we're early in 2012, you've already got some real estate in your mind for 2013. What's the pace of growth that you plan to pursue?
Speaker 3
I wouldn't even call it a pace yet, Michael. You know, it's still allowing people in London to discover Chipotle, making sure our team continues to grow. We're going to have a few restaurants here and there, but I wouldn't really call it a pace yet. There are still lots and lots and lots of people within the trade areas we're already in that just don't even know that we're there or don't really know what Chipotle is all about. We want to be patient and let that happen. It's going to be a similar just kind of a restaurant here, restaurant there approach for a while.
Speaker 0
Lastly, I just wanted to follow up. As I mentioned, I had a question on Shophouse. You were excited enough about it to announce further builds last time you had a quarterly call. Maybe you could talk about how the sales at the initial location have progressed now that the initial opening halo's worn off?
Speaker 3
Sales have continued to grow, and I think that it's fair to say that the sales are very similar to the Chipotle that's across the street. In fact, I would say that the unit economic model in general is substantially similar to that of Chipotle in general. That gives us enough confidence to say that we want to open one more, and there's a lot of excitement, you know, about the concept. There's a lot of excitement about the food, and we'll be opening the second restaurant in a contiguous trade area in the late fall, early winter.
Speaker 0
Thank you very much.
Speaker 3
Thanks, Michael.
Speaker 4
We will now go to Sharon Zackfia with William Blair.
Speaker 0
Hi. Good afternoon. I wanted to talk a bit about employee turnover and just get an update on where you are on that. I know you had some issues last year when the investigations were in full swing. Are you back to more normalized turnover? If you could just talk about employee recruitment, if you're back to kind of a normal cadence and ease in terms of getting new employees.
Speaker 2
What was the last part, Sharon?
Speaker 0
Recruitment.
Speaker 2
Recruitment of team members, if it's back to as easy as it was before ICE. In terms of turnover, our General Manager turnover is stabilized and at a level that we find quite reasonable. The crew turnover, which was in sort of that 100% range a couple of years ago at the low and spiked up to sort of the mid-100s, has now moderated such that it's not down to 100% yet, but it's better than it was for a while. Crew turnover is OK. It's not down to the lows that we saw a couple of years ago before the entire immigration hiccup happened. That sent a little bit of a sort of a shudder through the system that I think had an effect for a while. Now, we are with our recruitment efforts, they're going really, really well. I would say there's a few things going on.
When we first implemented e-Verify nationwide, we were concerned that it was going to diminish the amount of applicants at our restaurants, and that happened in some places. Overall, our managers and crews around the country have expressed to me that they have found throughout the entire time that they've still been, by and large, they've still been able to find really, really great candidates. In some cases, they've had to look at more people to get the top performers that they're looking for. Only part of that is externally imposed. A lot of that is internally imposed in the sense that we have had a greater and greater focus on hiring only top performers, and we've also had a greater and greater focus on trying to define what a top performer is, and our teams in the field are getting really masterful at knowing what that looks like.
They've become pickier than ever. That being said, our recruitment efforts are working really, really well, and the managers are telling me that they're getting better applicants, but not just because of our recruitment efforts, but because, slowly but surely, the word is getting out there that Chipotle Mexican Grill is the very best place in terms of opportunity for an entry-level person to come for an hourly position at a restaurant and have an awesome opportunity to become a manager and perhaps a restaurateur and perhaps a field leader in very short order if they're willing to work hard and if they're a top performer. We get a lot more top performers than ever who are understanding the opportunity that Chipotle Mexican Grill represents to them and are coming our way.
Simultaneously, we've gotten loads, thousands of people who are being promoted into higher and higher positions who are, of course, telling their friends and recommending Chipotle as a place to come work. We also increased the amount; we created a little bit of a reference bonus for people who bring in new people to Chipotle amongst our team, and a lot of them are taking advantage of that. On a lot of different fronts, we're seeing that the recruitment, I would say, is now better than it has ever been in terms of the quality of the candidates we're seeing and in terms of our ability to staff really, really well throughout the country. We're super, super pleased by the people who are now in our restaurants.
Speaker 4
That's great. Thank you.
Speaker 2
Thank you, Sharon.
Speaker 4
We will now go to Bart Glynn with D.A. Davidson.
Speaker 0
Thank you. Just had one quick question as it relates to Shophouse. I was just curious, what are going to be the primary constraints to ramping up the pace of unit growth if it gets to the point where you are ready to do so? Thank you.
Speaker 3
By design, Shophouse operates in a very similar way to Chipotle. It's got the same make line. It's got the same sized kitchen. It's got the same, you know, amounts of offerings. They're very, very similar. We would look at real estate, I think, the same way. We would look at building size the same way. We think of building costs the same way. We think of staffing the same way, a similar crew size. We think of purchasing and distribution in a very similar way. There's a lot of ability to leverage a system that's already in place. What kinds of little things here and there that might pop up, I can't really imagine are going to be huge impediments, but it really was designed to be kind of the same thing as Chipotle.
In fact, when thinking about the reason to do a different kind of cuisine, it's that, you know, you look at what has made Chipotle successful, and we think it's really our focus on the kinds of ingredients that we source, classic cooking techniques, an interactive service model, and these are the things that make us successful, not necessarily burritos and tacos. Any kind of cuisine can fit into this model. I think we're very bullish that when and if the time comes that we want to accelerate this, we can do that.
Speaker 2
Thanks.
Speaker 4
will now go to Jeffrey Bernstein with Barclays.
Speaker 0
Great. Thank you very much. Just two questions. First, kind of follow up on the unit growth side of things, at least at the core Chipotle U.S. business. I'm just wondering, it sounds like you said that the pipeline is looking better from a real estate perspective, which is a net positive. I'm just wondering now, as you think about growth this year, I think you said you could do the 160, and you're fairly comfortable with that. I know in the past you've talked about that the team could do, your existing team could do north of 200. I'm just wondering, similar to that prior question in terms of impediments, is it kind of managers and leadership, or is it just finding the right locations or getting them up to your specs or whatnot?
I'm just wondering if the pipeline is stronger, might we see, or could we see an acceleration in not only the absolute numbers, but perhaps the percentage or whether, if you could just talk about penetration, I don't know whether you have a rule of thumb where certain markets are already saturated or some key metrics to support the penetration, kind of the cadence of potential acceleration and growth.
Speaker 2
Yeah. You know, we've said for a long time that we decide to grow when we have excellent leadership, you know, and great General Managers to open new restaurants and when we can find great real estate. I mentioned in my opening comments that it looks like there's a slight shift, you know, and a slight increase in the amount of sort of new developments that we might be able to lease and build restaurants in over the coming years, and that's a nice thing. It's a good thing. You know, we aren't ready to talk about how many restaurants we plan to build over the next couple of years.
I can tell you that we feel very optimistic that, you know, given my conversation today about the amount of restaurateurs and apprentice team leaders that we have growing in the field and their influence and their ability to recruit great people in at the crew level and turn them into our future leaders, we feel like that people culture is going to be able to really effectively deliver us a lot of great leadership for our restaurants. Hopefully that will be, you know, less of an impediment than it would otherwise be. With regard to real estate, you know, we've seen, as you've seen from our results over the last year or two, some really high-quality real estate.
We've been able to broaden our portfolio by using the A-model strategy, which has allowed us to effectively take advantage of a lot of remodel opportunities, a lot of off-the-beaten-path locations during a recessionary time. That A-model strategy is something that not only has been very effective during a recession, but there's no reason why that will not continue to be very effective as we emerge from the recession and as the economy strengthens. When we see that the amount of new restaurant or new developments begins to increase, and again, what we've seen now is only very slight, if that should increase, you know, I think that there's a chance that we'll be able to find more real estate. You know, we don't look to grow at a percentage. We don't look to seek a certain degree of penetration.
What we do is we look at our markets around the country. We look at what the demand is for Chipotle. We look at how high is the quality of the experience that we're offering in our Chipotle restaurants. When we're in a marketplace where the quality of the experience is very, very high, where there's a lot of people who are moving up through the ranks as employees at Chipotle and ready for management positions, and our unit economic model is great, and we have very high sales in these restaurants, and when we can find great real estate nearby, it behooves us to take advantage of those opportunities to lease that additional real estate, build additional restaurants, and satisfy both the customer's demand for additional Chipotles as well as the demand for our employees to give them additional opportunities to serve guests in new restaurants.
We really look at it as sort of, we do everything we can in this company to create a huge demand for what we do, and that starts with great ingredients and food with integrity and better tasting food, through to better cooking techniques, better training techniques, better people in our restaurant. We try to do all of those things better, and when we do all those things better that we focused on in our opening comment, we believe that it's a much more compelling restaurant experience. When we have a more compelling restaurant experience, there's a higher demand for it both from the crew standpoint and customer standpoint, and we are eager to fill that demand by responsibly building restaurants in markets throughout the country, and of course, taking advantage, just beginning to plant seeds overseas and with shop and so forth too.
We think it's going very, very well, and I don't think there's any reason to be anything but optimistic about the future, but we're not ready to decide how many restaurants that's going to yield in 2013 and so forth right now.
Speaker 0
Understood. Jack, just one clarification. I think oftentimes it's confusing when we talk about commodity inflation, but I think I understand you're saying the commodity basket's going to be up mid-single digits. That's still kind of the forecast for this year. I'm assuming that's year over year, and the pricing we know in the first quarter was 5%, and it seems like that's going to ease down to perhaps 1% or so by the fourth quarter. I'm just having trouble packaging it all together in terms of how we think about year over year the food cost line. You mentioned it was up 30 bps this quarter with five points of price and a little bit more than that of inflation. On a year-over-year basis, how would you think about the next couple of quarters in terms of as a percentage of sales? You threw out 100 to 150 bps.
I wasn't sure if that was specific to year over year on that line or whether you were talking sequentially.
Speaker 3
Yeah, Jeff, most of my comments, really all of them, were designed, we're talking about sequential. Because I think when you go year over year, lots and lots and lots of things have happened between this year and last year. To simplify it, what I'd rather do is talk about where were we in the fourth quarter, where were we in the first quarter, and we had somewhat of stability there. Now what I'd like to do is what do we expect in the summer, and we expect higher costs as we move into the second quarter and the third quarter. It's coming from three principal places. We continue to see inflation in beef costs. We will see seasonally higher prices, even though avocados year over year will be lower.
As you get into the second and third quarters, they're going to be higher than they are in the first quarter because we're going to start buying from California. They will be more expensive. That's why I think it's more relevant to talk about what's it going to cost, what are avocados going to cost in the second quarter and third quarter compared to what we're paying today, and that's going to be higher. The third thing is we're doing things like sour cream is going to be more expensive beginning in the second quarter because we're going to move towards getting our dairy to make the sour cream from pasture-raised dairy, and that's going to add some expenses. Those three things combined as you move from the first quarter to the second and the third are going to result in about that mid-single-digit higher cost.
When you compare the last.
Speaker 5
You're talking about seasonality of avocados, you're talking about the freeze with the produce last year, you're talking about the menu price, which starts factoring out. I think it gets much, much, much more complicated. I hope that makes sense. When we talk about, you know, this mid-single-digit inflation, it's from where we are today.
Speaker 1
Versus 32.2% in the fourth quarter of 2011. You're saying it could go up to the high 33% range by the end of this year.
Speaker 5
That's right. Because we're talking about the fourth quarter of last year and the first quarter of this year, which had the price increase fully loaded, that price increase is in there. You don't have to adjust for price increases as you move to the second quarter and third quarter because we don't plan on a price increase. What we can talk about now is just commodity inflation. We talk about food with integrity and those things, principally those three things: beef, seasonal, effective avocados, and our dairy, we think are going to add somewhere in that mid-single-digit range to our food costs.
Speaker 1
Understood. Thank you.
Speaker 5
Okay. All right. Thanks, Jeff.
Speaker 1
All right. Thanks, everyone, for joining us. We've passed over our time. We appreciate you joining us today, and we look forward to speaking with you next quarter.
Speaker 5
Thanks, everyone.
Speaker 3
Ladies and gentlemen, this does conclude today's conference call. Thank you for your participation.
