Chipotle (NYSE: CMG) is a Buy Ahead of Earnings

Chipotle NYSE: CMG is set to report its Q3 earnings on Wednesday. Wall Street is expecting comps to grow 7.2%; based on what we know, I think that’s too conservative.

Granted, that alone doesn’t mean to run and buy Chipotle shares as fast as you’d, well, run and buy a Chipotle burrito if you were starving. Chipotle beats around 70% of the time on the top line, so a beat is likely already priced in.

But I see Chipotle exceeding its whisper numbers, and increasing post-earnings.

It Starts with Digital

In Q2, digital sales increased 216% yoy to 61% of sales, after increasing 80% yoy to 26.3% of revenue in Q1.

Chipotle’s loyalty program, a major driving force for its digital sales, had 15 million members at the end of Q2, up from 11.5 million at the end of Q1.

Now, digital sales are not going to see a similar acceleration from Q2 to Q3 as they saw from Q1 to Q2. But they don’t have to. Even a moderate increase would go a long way off of Chipotle’s end-of-Q2 base.

It’s important to note that dine-in gains have not been met with equivalent losses in digital. Additional digital growth is likely to give comps a nice boost.

Carne Asada is Back

Last month, Chipotle brought back its carne asada option.

I like carne asada’s potential to bring in revenue, but I also liked how Chipotle rolled it out: It was first offered as a digital-only option for about a week, before being added to the in-store menu.

Chipotle understands exclusivity; by doing it this way, Chipotle likely attracted a lot of new members who don’t want to wait for the next new menu option.

Higher Cases and Winter Weather Aren’t Big Threats to Chipotle

Coronavirus cases are now moving towards (yet another) peak. At the same time, winter is approaching; all of the restaurants that relied on outdoor dining to increase capacity are going to have to pivot – again.

But I don’t think Chipotle is sweating. Its digital business is immune from COVID-19, and Chipotle has already shown that it doesn’t need full capacity to post good numbers.

Furthermore, even if in-store ordering takes a bit of a hit at Chipotle, its digital business should pick up the slack. And Chipotle may be able to take market share from struggling competitors – of which there are many – if digital becomes even more prevalent in the winter.

Margins Are Looking Up

On the Q2 earnings call, Chipotle noted that margins were negatively impacted in the second quarter by “the spike in beef prices” but said that prices have “eased somewhat since the peak in May.” Beef prices are currently much lower than in May, so Chipotle’s gross margins should be higher in Q3.

Additionally, marketing and promo costs put pressure on Chipotle’s margins in Q2, accounting for “5% of sales due to free delivery.” But Chipotle expects “marketing spend to normalize during the second half of 2020 toward our typical target of 3%.”

Shares Are in Solid Up-Trend

While many of its competitors – and their share prices – have languished since the onset of the pandemic, Chipotle shares continue to climb to new heights.

After tripling off the March lows, Chipotle shares have taken a much-needed breather over the past six weeks. But last week, Chipotle’s shares showed signs of life, closing the week 4.5% higher.

A strong report on Wednesday could easily send shares above the highs of six weeks ago – which are also all-time highs.

The Final Word

Chipotle’s numbers have only improved since the onset of the pandemic, and I expect that trend to have continued into Q3.

In April, comps were down 24% yoy, but May was down 7% yoy, and then June increased 2% yoy. At the time of the Q2 call, July comps were up 6.4% month-to-date compared to the same period a year ago.

That powerful trend makes me like Chipotle’s chances of a beat even more.

And it’s why now – before earnings – is a great time to get into a company that is well-positioned for post-pandemic prosperity.