Earnings Call: Q2 2014

Jul 21, 2014

day, everyone, and welcome to the Chipotle Mexican Grill Second Quarter 2014 Earnings Conference Call. All participants are now in a listen only mode. After the speakers' remarks, there will be a question and answer session. As a reminder, today's conference is being recorded. I would now like to introduce Chipotle's Director of Investor Relations, Alex Pong. You may begin your conference. Thank you. Hello, everyone, and welcome to our call today. By now, you should have access to our earnings announcement released this afternoon for the Q2 2014. 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, marketing spend and other expense items, effective tax rates, stock purchases 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 these forward looking statements. We refer you to the risk factors in our Annual Report on Form 10 ks as updated in our subsequent Form 10 Qs for a discussion of these Our discussion today will also include non GAAP financial measures, a reconciliation of which can be found on the presentation 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. The quiet period begins on the 1st day of the last month of each fiscal quarter and continues until the next earnings conference call. For the Q3, it will begin September 1 and continues through our Q3 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'll now turn the call over to Steve. Thanks, Alex. Well, I'm extremely proud of the performance our teams delivered during the Q2. Not only were we able to continue the momentum we saw in the Q1 and late in 2013, we actually accelerated our momentum based in the second momentum in the Q2. Our revenue for the quarter grew to $1,050,000,000 an increase of 28.6 percent and was driven by same store sales increase of 17.3 percent and the opening of 45 new restaurants. This produced diluted earnings per share of $3.50 for the quarter, an increase of 24.1%. Our ability to generate such strong sales growth is the direct result of our restaurant managers and crews providing an exceptional dining experience, which keeps our customers coming back and allows us to build such a strong customer loyalty. Ultimately, our performance comes down to our continued focus on strengthening our unique food culture and our special people culture. Our food culture starts by finding the very best ingredients we can with an eye to sustainability and great taste and continues by teaching our teams how to turn these high quality ingredients into delicious food using classic cooking techniques. We're constantly elevating and challenging ourselves to find even better ingredients, the better cooking and better cooking techniques so that the food we serve in the years to come is even better than it is today. Through our people culture, we are developing the future leaders we will need to achieve our vision to change the way people think about and eat fast food. This starts by hiring teams of all top performers and empowering them to achieve high standards. The strength of our people culture is what allows us to provide such extraordinary customer service and maintain such strong unit economics. During the quarter, we took some important steps to strengthen our food culture and improve the quality of the ingredients we use in our restaurants. For many months now, we have struggled to get all of the beef we need from cattle raised without the use of antibiotics or added hormones, which is the cornerstone of our meat and dairy protocols. When we have not been able to get enough beef that meets our high standards, we have temporarily filled that gap with conventionally raised beef and posted notices in our restaurants so customers are aware of the change. With the nation's beef supply at a 60 year low and our demand continuing to rise, it looks as if this challenge is going to continue and we want to find a better solution, one that allows us to source as much beef as possible that meets our high standards. We believe we found that solution by sourcing some grass fed beef from Australia, a country that is ideally suited to raising beef cattle entirely on grass. We started doing this in recent months to help build the gap between needed to meet our growing demand. The meat produced by these ranchers is grass fed in the truest sense of the term. The cattle spend their entire lives grazing on pastures or rangelands, eating only grass and forages. All of this beef meets or exceeds the protocols we apply to our domestically responsibly raised beef, including that the animals are raised entirely without antibiotics, added hormones or other growth promotions and by ranchers whose practices are aligned with our standards for humane animal husbandry. While our loyalty to American ranchers remains strong and a significant majority of the beef reviews continues to come from American ranchers, sourcing some grass fed beef from outside the U. S. Is an important step in Chipotle's never ending food with integrity journey. In the short run, the grass fed beef we are using from Australia will supplement the responsibly raised beef we have been purchasing from around the U. S. Over time, we hope that our demand for grass fed beef will help provide an opportunity for more American ranchers to adopt grass fed program and help turn grass fed beef into a more mainstream product in the United States. We look forward to working with our supplier partners to meet this challenge. During the quarter, we also saw the beginning of the summer growing season around the country and with it the start of our local produce program. This year, our goal is to use at least £20,000,000 of produce from farms that are within 3 50 miles of our restaurants. Restaurants throughout the country may serve ingredients such as romaine lettuce, bell peppers, red onions, jalapeno peppers or oregano from local farms. We're also able to serve locally grown avocados, citrus or cilantro in some parts of the country where it's possible to grow these ingredients. Our commitment to serving locally grown produce is ultimately about serving the best tasting food we can. Quite simply, produce from local farms can arrive closer to the time it is harvested and results in fresher produce. But there are other benefits as well, including a reduction in food miles and economic impact to rural communities throughout the country. We're also making progress with the rollout of Sofritas, our vegan menu item made with braised organic tofu. As of now, Sofritas is available in about 1,000 restaurants. When we introduced Sofritas, our aim was to create a dish that would appeal to not just vegan and vegetarian customers, but all of our customers. And that is very much what we're seeing right now. So now, sofritos accounts for about 3.5% of our entrees in the restaurants where it's available. And what's exciting is that we're finding Sofritos' being ordered by people who normally eat meat. Barring any supply limitations, we expect to have Sofritos in all of our restaurants by the end of the year. While our food culture is one of the key drivers of our business, many customers, including a number of our own many consumers, including a number of our own customers, do not fully understand the issues of the food system that so heavily influences the decisions we make. One facet of our overall marketing program is aimed at encouraging people to be more curious about their food and where it comes from. We believe that the more people understand these issues, the more they will make better choices about the food they eat. Through our day long food and music cultivate festivals and through programs like our recent online satire series, Farmed and Dangerous, or short films such as last year's Scarecrow, we look to draw people into the conversation about food and where it comes from in a way that makes them more curious about the food they eat. We just held the first of 3 Cultivate Festivals planned for this year in San Francisco, with the remaining events scheduled for Minneapolis and Dallas, and the response was great. Our research shows that attendees love the overall experience, including the music, delivery chef demonstrations, the artisan food and brewer halls and the attractions designed to educate people about issues around food and that an overwhelming majority of them would attend the event again. 2 of our most recent content marketing programs, Farm and Dangerous and Scarecrow, were just awarded 12 Lion Awards between them at the Cannes Lions, the world's largest competition for creativity and communications. While we don't produce these programs to win awards, the awards demonstrate the breakthrough nature of these programs and the response customers have to them. These programs have been very effective tools for us to engage with people in way that is 1st and foremost entertaining, but that also makes them more curious about the food they eat. A part of our larger marketing program, which also includes traditional advertising and local market programs, this approach is helping us build our brand in a more unusual way than traditional fast food formula, which relies heavily on price promotions, limited time offers and other gimmicks to bring customers in. We believe that our approach to marketing helps us build a deeper relationship with relationships and loyalty with our customers rather than just driving transactions in the short term. To keep our restaurants top of mind, we continue our traditional advertising through the quarter. Currently, we have national and local advertising focused on communicating the use of better quality, responsibly raised ingredients that are prepared with care. Response to our advertising is encouraging, with most of the recent research showing the increase in ad awareness and purchase intent during the campaign. This advertising will continue to run through much of the summer and into the fall. The progress we are making on our journey to change the way people think about and eat fast food is defining Chipotle in terms that are unique within the industry and allowing us to provide exceptional returns for our shareholders. I'll now turn the call over to Monty. Thank you, Steve. I have to admit that it makes me proud to see our restaurant teams deliver these spectacular results in the quarter at a time when our customers have more dining choices than ever before. Yet more and more customers are choosing to eat Chipotle because our top performing managers and their crews provide an exceptional experience that keeps our customers coming back and leads them to tell others about their fondness for what we're doing at Chipotle. We have an amazing people culture and the foundation of that is a group of terrific people who all believe in the same guiding principle that each of us will be rewarded based on our ability to make the people around us better. Our people are committed to our mission to change the way people think about and eat fast food and they understand that the only way we will accomplish this is to have a special culture, a culture of top performers who are empowered to achieve high standards. This is the restauranteur culture. It is the focus of every person in this company, enabling us to create a terrific dining experience and produce outstanding results. The strength of our culture allows us to have exceptional customer service, delicious food and an inviting atmosphere in our restaurants, all of which leads a strong unit economic model, while also setting us up for continued success because these top performers quickly rise into broader leadership positions within the company. Throughout the quarter, we continued to promote new restauranteurs, the elite managers who best demonstrate what our culture is all about. If you include field leaders who have come through the restauranteur program, those who have been promoted to apprentice team leader or team leader or even team director positions, We have more than 525 of these extraordinary leaders now, overseeing about 70% of all of our Chipotle restaurants. During the quarter, we also saw some significant progress with restauranteurs moving into field leadership positions. We promoted 5 field leaders to team director positions: Jason Oakes, Karen Grayhall, Ben Castillo, Peter Gargaroglio and Lili Arvadares. In addition to these team director promotions, we also promoted 9 leaders into apprentice team leader positions. To help us continue to build and strengthen our people culture, we're going to host our All Manager Conference in September, an event we host every 2 years to help educate and inspire our restaurant managers and field leadership teams. This year's All Managers Conference will include all of our GMs, restauranteurs, field leaders and many people from our support departments as well as some key suppliers and partners. In all, around 2,500 people will attend the conference to support our commitment to building a culture of empowered top performers. The conference provides one of the best opportunities for our teams to learn more about how we plan to achieve our mission to change the way people think about and eat fast food and how they can rise up to be the leaders that are going to take us there. This year's conference will feature members of our leadership team discussing our vision, the importance of our people culture and our unit economic model. We will also help our managers develop and strengthen their culinary capabilities, teach them to create restaurant tour cultures, teach them to recruit, hire and welcome only top performers and teach them more about why food integrity is so unique and important. We will also introduce them to the Shophouse and Pizzarillo Calle restaurants. Finally, we've also added an award ceremony this year to celebrate some of our team members who have made outstanding contributions to Chipotle's culture. These people continuously rated the bar on our performance, and we are excited to allow their stories to be inspiration to the rest of the audience of aspiring restauranteurs. If past conferences are any indication, I'm certain that this one will leave our managers more passionate about our vision, more knowledgeable about our business, more committed to developing the people around them and strengthening the culture in their own restaurant and with a stronger belief in what we can all accomplish as a team. Over the years, I believe the All Managers Conference has been one of our best tools to educate and inspire our managers and to send all of our teams away with a renewed sense of purpose. While we continue to build better and stronger cultures in our restaurants, we are very encouraged by our teams are rising to meet challenges. One of the key operational advantages that we constantly seek to improve is our throughput. Good throughput is one way of providing great customer service, it's also a bellwether of teams of top performers empowered to achieve high standards. So it's a great sign that we were once again able to make substantial gains on this important measure of great customer service during the quarter. This quarter, we posted an increase of 8 transactions during the peak lunch hour and 8 additional transactions also during the peak dinner hour compared to last year. What's truly impressive is that even though we have long lines at both lunch and dinner, were able to drive a 9.4% transaction comp during our peak lunch hour and a 13.3% transaction comp at our peak dinner hour through better throughput. These are customers who might easily walk away from our long lines to dine elsewhere, except that they know that our excellent teams are geared up and ready to serve them a delicious meal quickly. Overall, we would not be able to achieve such phenomenal same store sales without these dramatic improvements in throughput. We believe the improvements we're seeing in our throughput are the results of just a few key things. First, having more top performing managers and teams. We know from experience that top performers get more done less time than low performers and hold themselves to a higher standard. 2nd, by focusing on the 4 pillars of great throughput, using a linebacker during peak hours, proper mise en place, having aces in their places and using a dedicated expeditor during peak times and third, by auditing and reporting to our field leaders how well their teams are executing the 4 pillars and how they can improve. Of course, great throughput does more than move people to our restaurants. It also translates to better customer service since the same things that lead to great throughput also create the very best customer service and make our customers happy. Our performance for the quarter also benefited from growth of our catering business. For the quarter, catering sales were 1.6% of revenue compared with about 0.3% a year ago, same quarter. And catering sales benefited by around 50 basis points in the 2nd quarter from the seasonal nature of the stronger sales we have in May June for special events like graduation parties. In markets where catering has been offered for at least a year, sales continue to build and average about 2% in the second quarter. We're encouraged to see catering continue to grow and that we're building a greater customer awareness and customer loyalty over time. Finally, I'd like to provide a quick update on our development plans. We remain very much on track to deliver within our guidance to open 180 to 195 new restaurants this year, and we have a very solid pipeline of potential sites going forward. We expect that about 70% of our restaurants this year will be in proven markets, with about 15% in developing or established markets and another 15% in new markets, including locations in Duluth, Texarkana, Mobile and Charleston, West Virginia. Looking forward, we have a strong pipeline of potential sites going into next year and beyond. Overall, we're very pleased with the quarter and our performance year to date and believe that we have the pieces in place, both in terms of our food culture and our people to continue to deliver an exceptional dining experience for our customers and strong results for our shareholders. And I'll now turn the call over to Jack. Thanks, Mani. We're pleased to report another quarter of very strong financial results. In fact, our 2nd quarter results represent one of our strongest sales comps as a public company, 2nd only to the Q1 of 2006, our very first quarter as a public company. Back then, we had under 500 restaurants, averaging about $1,500,000 in sales. And while the 19.7% comp back then was impressive, we're even more proud of the 17.3% comp this quarter, considering we now have nearly 1700 restaurants averaging $2,300,000 in sales. In fact, on an annualized basis, a 17.3% comp would result in adding an incremental sales layer that is nearly equal to our entire company sales back in 2,005, the year before our IPO. But more importantly than the comp itself is that we achieved this result by continuing to focus on building a special food and people culture and a strong business model, which results in providing exceptional dining experience to our guests and creates shareholder value for our investors. Our comp of 17.3% in 2nd quarter helped elevate our average sales volumes for restaurants open for at least 12 months past $2,300,000 for the first time. And the comp also helped push our sales above $1,000,000,000 in a quarter for the very first time. Overall sales for the quarter increased 28.6 percent to $1,050,000,000 driven by the comp and from new restaurant openings. Year to date sales were $1,950,000,000 an increase of 26.6 percent, including a comp for the year so far of 15.5%. The quarter comp was primarily driven by an increase in customer traffic, along with an increase in our average check, which includes a 2.5% benefit from our menu price increase rolled out during the quarter. Average check-in the quarter was up about 5% from last year, with half of this increase coming from the menu price increase and the rest of the check increase coming from catering, an increase in the group size per transaction, along with additional sides such as chips and guac. Our total online catering and fax orders reached an all time high of 6% of sales in the quarter, with catering adding about 1.6% of sales. Seasonally, the Q2 has been our strongest for catering orders as Chipotle has been a big hit at the graduation parties this time of year. So while we are pleased to see catering rise to 1 0.6% in the quarter, it's likely that it will taper off in the next few quarters. Our objective in raising prices was to pass along some of the inflation we have absorbed over the past 3 years, while continuing to charge fair prices in order to remain accessible or affordable to our loyal customers. Market by market and item by item basis, compared ourselves to local competitors in each market and consider the amount of actual and expected inflation for each of our ingredients and other factors such as the cost of doing business in each market. Because we rolled the price increase throughout the quarter, starting in late April and finishing in late June, the effective price increase of 2.5% in the quarter reflects only a partial impact. The actual average increase was about 6.25% to 6.5% based on the assumption of little or no trade down or resistance. Though the average increase was 6.25% to 6.5%, the increase varied by market and by menu item. So for example, because of the significant recent inflation in beef and the expectation that beef prices will remain elevated for the foreseeable future, steak prices were raised by about 9% on average, while chicken prices were only raised about 5%. We expected some customers would trade down from steak to chicken as a result of the higher steak premium, and we have in fact seen some customers shift from steak to chicken. Aside from the slight shift from steak to chicken, our customers have generally responded well so far, but it is early and we'll continue to watch for resistance in terms of fewer customer visits as well as customers trading down. We're pleased to see our strong underlying sales momentum continue into July. The comparisons are tougher in the second half of the year as we compare to comps of 6.2% and 9.3% for the 3rd and 4th quarters respectively. So we expect our underlying transaction comps to be lower in the 3rd quarter and Q4 because of these tougher comparisons. But assuming we experience little or no price resistance, we still expect comps well into the teens for the rest of this year. As a result, we're raising our comp guidance and now expect our sales comp to be in the mid teens for the full year. We opened 45 new restaurants in the quarter and 89 for the year so far, which brings our total company wide restaurants to 1681 at the end of Q2. We still expect to open between 180195 restaurants for the full year, as our development pipeline continues to look very solid. And we continue to see an uptick in new construction with about 54% of our mix being in new construction in 2014 versus just 43% last year in 2013. And that's helping our real estate team find attractive new locations. Our new restaurants continue to perform very well and as a result, we now expect opening sales volumes in the $1,700,000 to $1,800,000 range, which is up from our previous range of $1,600,000 to $1,700,000 These new restaurants opening volumes along with our current comp trends and strong margins allow us to strengthen our already industry leading unit economics and returns. Restaurant level margins for the quarter were 27.3% or a decrease of 30 basis points from last year and year to date margins were 26.7 percent, which also decreased by 30 basis points. Higher food costs and higher marketing costs more than offset favorable sales leverage in labor and occupancy lines for both the quarter and for the year. Our food costs in the second quarter were up 10 basis points sequentially from Q1 as the menu price increase had the effect of reducing our food costs by about 80 basis points in the quarter. Despite the menu price increase, our food costs were 150 basis points higher than Q2 of last year due to higher costs for our beef, avocados and dairy. Steak prices leveled off a bit after peaking in April May, they remain at an elevated level compared to last year or 20% higher due to limited supply from some of the smallest herd sizes in over 60 years, while demand for beef remains high. So we expect elevated steak and barbacoa prices to continue for the foreseeable future. Year to date food costs were 34.5%, which is up and 50 basis points from last year. We expect underlying food costs before the benefit of the menu price increase to remain pretty stable over the next two quarters. But since the next two quarters will benefit from the entire menu price increase, food costs should be about 100 to 130 basis points lower than in Q2, depending on the effect of any product mix shifts. Labor costs were 21.8% of sales in the quarter, a decrease of 90 basis points from last year. And year to date labor costs were down 80 basis points. Labor leverage was driven by higher sales volumes, partially offset by stronger management and crew staffing ratios, which contributed to some labor efficiencies along with normal wage inflation. Occupancy costs declined 50 basis points from last year for both the quarter and the year due to favorable sales leverage. Other operating costs increased 40 basis points from last year from higher marketing promo and fundraiser costs. Marketing costs increased to 2% of sales in the quarter compared to about 1.5% last year and combined promo and fundraiser costs were up about 20 basis points. We expect marketing to be about 1.6% overall for 2014 and will remain elevated in the Q3 as we continue our BETTER INGREDIENTS advertising campaign across the country in over 30 markets and 1,000 restaurants. The campaign will wrap up in most markets by October and will help customers understand that the use of sustainably raised, high quality gradients, which are prepared with care, results in a more wholesome and better tasting meal. Other marketing events will also include our Cultivate Festivals that will be held in Minneapolis August and Dallas in October. In the quarter, G and A was 7.1% of revenue, higher than last year by 90 basis points. The increase was primarily due to higher non cash, non economic stock based compensation expense and to a lesser extent from higher bonus costs. Stock comp was about $34,000,000 which is up $15,000,000 from last year, a small portion of which is in the labor line. The increase over last year is due mostly from higher stock price, along with more of the senior management team qualifying for retirement, which accelerates the expense recognition. The 2nd quarter also includes a catch up for long term incentive performance shares of about $1,600,000 These performance shares, which were issued in 2013, are now expected to be fully realized during the earn out period based upon our strong financial performance to date and where we project to finish at the end of the 3 year measurement period. A perspective, our underlying G and A without the stock comp was relatively flat at 4.1% in Q2 of this year compared to 4% last year. G and A costs for the 1st 6 months of 2014 were 7.3% of revenue, an increase of 110 basis points, and again was primarily due to the higher non cash non economic stock based compensation expense and to a lesser extent from higher bonus costs. Year to date non cash stock comp was about $62,000,000 which is up $27,000,000 from last year. And again, the increase over last year is mostly due to a higher stock price and more of the senior management team qualifying for retirement. Stock comp is still expected to be around $98,000,000 for the full year, which means it will decline significantly over the next two quarters. As a result, although G and A year to date is 7.3%, we expect to finish the full year under 7% of sales. The Q3 will include our biennial All Manager Conference event, which will cost about $9,000,000 and will include 2,500 Chipotle employees, including all of our GMs and all of our restaurant tours. Our effective tax rate for the 2nd quarter was 39.1%. For the full year, we expect the rate to also be around 39.1% and that compares to the 38.7% rate in 2013. This rate increase is the result of the expiration of the work opportunity tax credit and the RD credit that benefited us in 2013 and is partially offset by a lower estimated state tax rate. Diluted EPS for the quarter was $3.50 an increase of 24.1 percent from last year, But our underlying economic earnings growth is stronger than implied in the EPS growth as our net cash provided from operating activities grew by 35%. And of course, our earnings growth potential is even greater considering we have absorbed 3 years of food cost inflation, while less than half of the recent menu price increase has flowed through in the current quarter. So we're pleased that our business model is stronger than it's ever been and we continue to have the ability to add significant additional shareholder value in the future. During the quarter, we repurchased over $37,000,000 of our stock or over 72,000 shares at an average share price of $517 This is more than triple the number of shares purchased in the Q1 as we were opportunistic when the share price declined early in the quarter. At the end of the second quarter, we had nearly $140,000,000 left in our share buyback program previously approved by our Board. And over the past 5 years, we've invested over $660,000,000 to purchase over 4,100,000 shares at an overall average price of about $159 a share. We finished the 2nd quarter with over $1,100,000,000 in cash cash equivalents along with short and long term interest bearing investments and no debt on our balance sheet. We continue to believe that the best use of our cash is to invest in our high returning restaurants And we'll continue to develop additional growth options by planting seeds, including Shoppe House, Vitoria Locale and Chipotle outside the U. S. And we expect each of these growth seeds will provide attractive value enhancing growth investments in the future. In the meantime, we'll continue to opportunistically 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 lines. Absolutely. We will take our first question from Joseph Buckley with Bank of America Merrill Lynch. Thank you. I'd like to ask a question, I guess hello. I'd like to ask a question about the transaction count increase being so strong. I know a couple of quarters ago, you talked about Monty, you talked mostly about a new diagnostic tool to help the multiunit supervisors analyze restaurants and help the managers become restaurant tours faster. Is that kicking in, in a significant way? Or are there other factors that you point to when you look at the tremendous transaction growth? Yes. Thanks, Joe. I'd say it is kicking in the sense that if you look at my opening comments, I talked about how a number of things are moving throughput. And I would always say that the most powerful thing we're doing to move throughput along is just having more restaurant tour teams and more teams of really top performing teams who are super, super empowered. And so that's kind of number 1. I would say that the restaurant tour diagnostic tool that we rolled out is one of the very powerful tools that's helping our field leaders connect in a very direct way with managers and helping those managers understand very clearly what they need to do in order to develop those teams of top performers who are very, very empowered. So I think the teams in our restaurants are getting stronger as a result of that tool and are much more aware of what the opportunities are for them. And as they build stronger teams, that's the number one thing that adds horsepower to our ability to generate great throughput. But on top of that, we continue also, Joe, to measure the incidents by which we're achieving the 4 pillars of throughput in our restaurants. So we have reports that go out to our field leadership that let them know how their batch of restaurants are doing in terms of achieving the 4 pillars. And that continued measurement and awareness on the part of our field leadership has really helped them to continue to move the needle on transactions. So I would say those two things are the things that have helped us the most in continuing to improve and speed up in terms of our that very important aspect of our customer service. Is your peak hour throughput at all time market levels now? Yes, it is. We are the fastest we've ever been at lunchtime and at dinner time. And but the averages throughout the entire day are speeding up as well. So we always talk about lunch and dinner because that's the time that it's hardest to speed up. But the reality is the percentage comp that we're getting at the other times a day that aren't peak lunch and aren't peak dinner are actually better. So during the shoulder hours, after lunch and so forth, we're actually getting a better comp than our average comp during those periods of time. But we're very pleased that during lunch and dinner, we're still moving along at a clip that's very near our overall comp. Thank you. Thanks, Joe. We'll take our next question from John Ivankoe from JPMorgan. Hi, great. Thank you so much. The question was on advertising and promotion. And firstly, if you think you have the optimal spend or it might be potential for you to spend more money in the future, it's hard to imagine, but to get an even bigger sales lift than what you're currently getting. And I ask that question not just in terms of the awareness of what makes Chipotle special differentiated to your existing customer, but how big of an addressable customer market do you see out there that currently maybe hasn't experienced Chipotle, which presumably might do so under the influence of marketing? And John, we have our Chief Marketing and Development Officer, Mark Krumpacker here today, who can answer that question directly. Sure, John. With regard to the marketing spend, I think it's pretty well optimized. Our marketing doesn't rely on typical promotions and new menu items like most fast food restaurants do. So the type of advertising that we do is just top of mind awareness, which we do in about 34 of our main markets around the country, and that's done through billboards and radio ads. And there's really only so much of that type of advertising that's needed to raise the awareness to the level that we want. But the real heart of our advertising lies in the other activities, which are our local marketing program, which are getting people into the restaurants through fundraisers and our Cultivate A Better World marketing, which is where we're really connecting with people on a more emotional level that really creates long term brand value. So we really like the balance that we have between those things with regard to the spend. To answer the second part of your question, yes, we think there's a big market of people that have not either been to Chipotle or don't come to Chipotle regularly. When we do our research, we find and it always surprises us because we the brand enjoys really high general awareness. We're always surprised at how few people really are regular customers. So there's a tremendous amount of upside for us. But as I mentioned earlier, our strongest marketing is the type that connects with people emotionally. And so we're going to continue to invest in the type that we think is going to create word-of-mouth, so that one customer tells their friends and so on and so forth. And that we really think is the best approach. Thank you. We'll go next to Jeff Farmer from Wells Fargo. So just following up on that theme there, I was curious if you guys could share with us how your demographic has changed over the last several years across age, income, any other relevant metric? And just along the same lines, getting to John's question, I'm just curious, if you guys have an accurate read on your frequency trends from some of these core guests, are they doubling down on their visitation? How should we think about, again, some of the heart of that traffic increase over the last couple of quarters? Well, with regard to our demographic, we haven't seen a large shift. At Chipotle, of course, we have a very, very wide range of folks that come into the restaurant. One thing that I have noticed in the research lately is that we've had an improvement in the teen market across all different economic backgrounds. So we've strengthened and are actually according to a Piper Jaffray survey, the most popular brand with male teens, which is up from the same quarter a year ago. So we're of course, we're really happy about that because those young kids become lifelong customers and they bring their kids and their parents or their friends and their parents into the restaurants as well. What was the second part of your question? I'm sorry, read on frequency in terms of your core customer, what that's looked like over the last several years if you've seen that number increase pretty materially? Actually, we haven't seen a huge increase in frequency of our core customer. What we have seen is increase in the types of customers that are coming in. As I mentioned earlier, we're doing better with the teen market. And we think what's happening is we're actually just expanding our customer base overall. I can't attribute it to a significant increase in frequency from a core We'll take our next question from Jeffrey Bernstein from Barclays. Great. Thank you very much. Just a question as we think about the new units, you talked about a strong pipeline in 2014. I think you said 70% of those units are going to be in improving markets. Just wondering as you think out now that we're more than halfway through 2014 as you look to 2015, I mean it sounds like that pipeline continues. I'm wondering whether as you look at it, what the limitation might be or if there is none at all? I mean, obviously, you want to maintain a steady pace. But I'm just wondering whether it's people or real estate that would be the gating factor, especially as you consider just the strong acceleration in traffic trends that we've seen? Well, yes, those are both the gating factors. And we actually talk about it more than you'd imagine in terms of which might be the gating factor. And I think that we feel really good about the type of real estate we're seeing out there. We like Jack said, we were saying that 53% or 54% of our restaurants are now in new construction and that number has been picking up over the last, I would say, probably 8 to 12 quarters. And that enables us to find more real estate. And that being said, there is more competition for some of those new sites that are coming out. And so that's something that we're always watching. But I think another thing that we keep finding is and we found this through our new model strategy, but we find it now as well, is that Chipotle has welcomed more places in more different locations than we ever would have thought before. And so we are able to take a little bit more risk in going into some trade areas that are a little bit off the beaten path. And so the when we look in the outer years, I think we're at a higher confidence level than we've ever been in terms of Chipotle's ability to be successful in all of the markets throughout the country and beyond, even places where they just weren't on our radar screen a few years ago, some of which I mentioned in my opening comments, as some of our new markets for next year or excuse me, for this year and for next year. So we are able to go further and further field. And of course, that brings up the issue about how we're doing on the people pipeline. And right now, our ratios of field leaders to restaurants is lower than it's been before. And what I mean is that each field leader has fewer restaurants they're overseeing. I think for a while, our field leaders got stretched a little thin and now we've reversed that trend by promoting a lot of people from within and also hiring some others onto that team. And so that's been, I think, a good move, which is helping get more attention to the development of managers from crew positions who will be able to help carry us forward. So it's a constant struggle to make sure that we're pushing forward responsibly on the development of leadership, which we're always doing as best we can. And also sort of pushing to find the very best real estate we can, but not pushing so hard that we would compromise our standards in terms of the type of restaurants we like to open. But I think given the new unit volumes that Jack referenced in his opening comments, those new store opening volumes are very, very impressive, higher than they've ever been. And that gives us that along with the kind of teams we're seeing in our restaurants gives us confidence that we're developing Chipotle and opening new restaurants at a very responsible pace. So while we won't say what we're going to do in outer years we feel very optimistic about our chances of continuing to be able to grow in a very strong way. Understood. Thank you. Thank you, Jim. We'll take our next question from Sara Senatore from Sanford. Thank you very much. I just a couple of follow ups. The first is on sort of thinking through the comps. I mean you talked about some of the marketing and clearly the I think the catering and also obviously throughput, so people are coming because the lines are shorter. But one of the things that I think we heard from Jack is this idea that compares get tougher, so momentum adjusted for that, we wouldn't expect transaction comps to be the same. I think we've kind of heard something similar in many of the recent quarters. And I'm just trying to understand if it's kind of natural conservatism or if we should be thinking about a driver that is somehow different in the coming quarters versus what we've seen really accelerate traffic in recent quarters, be it marketing or maybe the ability to improve throughput, maybe it gets somewhat diminished. So just trying to understand if you could drill down a little bit more into the transactions and how to think about them? Yes. Let me just start by I'll start with the last part of your question where you said where you sort of made this assumption that the gains and throughput might diminish over time. I tell you, I don't accept that as being something that's going to be true in the near or even medium term, perhaps not even in the long term. We've been able to continue to improve throughput now consistently. And I think that as I said earlier in response to your question, I mean, the things that drive throughput the most are more restauranteur teams and better teams in the restaurants and also really measuring and teaching our field leadership about which aspects of the 4 pillars of throughput they might be missing out on. So I think there's a lot of room to drive that. And one thing that gives me confidence about that is when we measure our 15 minute transaction counts that which we can achieve in our restaurant during a 15 minute period rather than a whole hour that number is such it's higher. If you multiply that times 4 to cover a whole hour, it's much higher than our average throughput number is, which shows that every restaurant basically has a skill to deliver throughput at a much higher level than they're currently doing. And so the fact that our restaurants have that skill, the fact that we continue to see those numbers increase makes me confident that throughput is something we can improve on for a long, long, long time. But that's only one aspect of what makes up our comp, certainly an important one. But you mentioned other things, catering and marketing. Maybe Jack can talk about the rest of your question. Yes. So, sorry, I think the essence of your question is, is our comp forecast too conservative because we're saying that we would expect the underlying transaction to decline as we go up against tougher comparisons in the next two quarters. The challenge with predicting what our sales are going to be, what our transactions are going to do in the future is as Mark mentioned, we don't have things like limited time only. We don't have special promotions. We don't have new products. So we don't have anything that we say, okay, in the Q3 and Q4, we're going to do something, some kind of a gimmick or some kind of marketing emphasis to try to get people in. So we would tell you that we'll continue the momentum. And we don't spend a ton of time, I will tell you, trying to predict what sales are going to be. We spend most of our time trying to engage with our customers, trying to build the strongest teams we can to create empowered cultures in our restaurants, so that when marketing encourages people to come into the restaurant, when a friend says, hey, you ought to try Chipotle, and when new customers show up at Chipotle, that they have an extraordinary experience. And that happens, they're more likely to come back. Now, I hope that we end up talking a quarter or 2 from now, and we look back and say, yes, it turns out it was conservative. But for us to say that we'll continue momentum on top of the 6.2% in the 3rd quarter and the 9 point something percent in the 4th quarter would be difficult to do at this time. But it's more of a math challenge because of the way we do our business than anything. Okay. Thank you. And just if I could throw in one question about Shophouse and MP3 Locale. Does the fact that your core Chipotle business is so strong and you're working so hard to get the right people in place, does that have any impact on your ability to grow those? Or they can all be of grown at the appropriate pace at the same time? Yes. It really doesn't impact our ability to grow the teams at those restaurants. I mean, when we opened the 1st shop house and subsequent shop houses, I mean, we did initially feed them with some of our very talented restaurant tours and crew from Chipotle, but really most of those people were hired as brand new employees to Shophouse, other than a few of the top management people. The same is true with Pizzeria Locale. It's a group of people who for the most part have never worked at Chipotle. And so these concepts like Chipotle Europe as well, are all seeded initially with a few Chipotle people, but really are growing completely in an organic fashion, all striving towards that restauranteur culture and all trying to hire performers who they believe can be the future of their restaurants. So you can look at it that every single restaurant we open. I mean each and every one is a potential sort of people pump to create leadership for the rest of the organization. And so growing more restaurants really doesn't diminish the amount of leaders we have, but gives you yet another opportunity to increase the amount of leadership we can choose from. Thank you. Thank you, Sarah. We'll take our next question from Brian Bittner from Oppenheimer and Company. Thank you very much. Jeff, you talked about the opportunity to accelerate EPS growth as the pricing the full size of the price increase rolls in starting in Q3. You got a bit less than half of the benefit from your pricing rollout this quarter, obviously, starting the full benefit starting in the Q3. And you talked a little bit about the food margin dynamic. I think you said 100 basis points or more benefit in the Q3 versus Q2. But can you just walk us through the other line items within the four walls? And as we think about the 27 percent restaurant margin you put up this quarter, maybe you can help us kind of craft and understand how that changes as the full effect takes place starting this quarter? Yes. It depends, Brian, on if we see any resistance. If we see any resistance in fewer customers coming or if we see customers trade down where they're not buying as many sides, not buying as many drinks, not buying chips and guac. So far, we're pleased with what we've seen. We haven't seen much trade down. In my prepared comments, I talked about the fact that we're seeing some a slight shift from steak to chicken. But if that continues, we still have another I guess, it's between 3.75% and 4% additional effects of the menu pricing increase. So if there is no more trade down and let's say it's at that 3.75 percent, you could see another 2 50 basis points, maybe 2 75 basis points in additional margin. So if you take all the rest of the line items, you could see some significant additional margin. I mentioned just the food alone, but the rest of the P and L is leverageable as well as the rest of the menu price increase flows through. So not to be overly bullish here, but I mean you do see an opportunity in the path to get 30% restaurant margins sometime in the second half possibly by 2015? If all goes well, I mean, if we right now, our projection is that we're not going to see much more food inflation, that we're not going to see much more in terms of trade down, either lost transactions or trade down because of the price increase. And so if we don't see anything unusual that happens over the next few quarters, yes, just the pure math of allowing us that price increase to flow through is going to push us up close to if not at 30%. That's definitely a distinct possibility. Great. Thank you. Congratulations on a great quarter. Thanks, Brian. We'll take our next question from David Tarantino from Robert W. Baird. Hi, good afternoon and congratulations on great results. My question is really about some of the commentary you made earlier on the unit growth. And Monty, I think you mentioned that you're finding new places that you never considered going in the past that are working now. So I was wondering if you've given any recent thought to what the long term unit opportunity for the Chipotle in the U. S. Is? I know you'd stated some goals around the time of the IPO, but it sounds like you might be thinking something higher than that at this stage. Yes, David, I mean, afraid to bore you with my answer because you've heard it before and it really hasn't changed much. And that is that given the numbers we came up with just extrapolating from how we view the top 150 metropolitan statistical areas even at the time of the IPO, those numbers get pretty quickly up in that sort of 30,000,000, 1000000, 4000 sort of restaurants. And we do believe that we can build a lot of restaurants in markets that weren't on that 150, a top 100 and 50 metropolitan statistical areas and we started to do so. But we don't spend a lot of time modeling exactly how many there could be because that number of 4,000 or plus restaurants is at the number we guided towards this year of 180 to 195, that's sort of 15 or 20 years out. So obviously, there's a lot of room for growing at that pace before we'd ever get near that number. But I would tell you that I have a level of confidence without having gone out and done a study as to whether that number is another 500 or another 1,000 more than we used to think it was. I think that we all have a lot of confidence that as we approach as we get closer and closer to that number, I mean, that will be a moving target because the acceptance of Chipotle's brand has exceeded all of our expectations. And I would say that in terms of some if you look at some of the markets that we used to call developing markets and in fact, markets that we even thought were failing markets, to be quite honest, like California some years ago. California went from a developing market to a never mind we won't build in California market. And then overnight became a proven market. And then now is the state in which we have more stores than any other far more stores than any other state. And it's kind of feels like shooting fish in a barrel. We seem not to be able to miss in California. So that surprise was wonderful. But we've seen that same thing happen in a lot of other markets throughout the country that used to be relatively weak for us, markets like Indianapolis and some markets in Ohio that are now on fire that we used to think were mediocre. And in Indianapolis, where we now have better than average unit volume, restaurants, which was something that we used to think was not really working for us because among other things, Qdoba has gotten there many years before us and had quite a few restaurants before we put our first in. So it's just every market that we've been concerned about historically has with the passage of some time and often not much time, become a market that not only aren't we concerned about, but becomes a market that huge development market for us. And obviously, California being the most powerful example, but there are dozens of others. So rather than model exactly how many restaurants that can be, we derive huge confidence in going into these markets that used to be developing markets and just hitting the ball out of the park and having great volumes. Markets like Philadelphia, I'm just thinking, where we went in and sort of a little nervous at first and now doing really, really, really well. So yes, we feel good about where we're going, and we don't feel like there's anything in our way in terms of being able to grow at a sensible, but also speedy pace over these next years and we're excited about what we can accomplish. Great. Thank you. Thanks, David. We'll take our next question from Nicole Miller from Piper Jaffray. Thank you. Good afternoon. I was hoping you could touch on the new formats or formats that you have, the opportunity to open, some equipment improvements you're making, lead certifications, things of that nature. I'm trying to understand if you view those as defensive maintenance like investments or if potentially there's a consumer facing nature to those investments and maybe that's also helping drive traffic. Can you help us think about that please? Nicole, this is Jack. So when you say new formats, can you clarify what you mean by that? Well, I don't know. I just and for a while now you could have a smaller format, different configurations, upgrades, things of that nature. You mean like A Model? Yeah. Yes. I mean, we're giving a lot of thought to that. And I think one thing that's generated some of those thoughts is some of the higher occupancy costs that we see in Europe and how it may be prudent for us to try to take some much smaller pieces of real estate in France or England, where the occupancy costs are super, super high. And we're looking at some sites right now in United States as well where these stores would be really, really, really small and where we would have very, very little seating. And I think that there's a number of reasons why we think that, that is a good idea. One of which is that whereas we used to be mostly a dine in restaurant 14 years ago, and I'd say about 8 years ago, we're dine in and takeout. Now we're about 2 thirds takeout. So I think that the seating component of what we do has become a little less important as more people know who we are. And also we're more comfortable with it now that the brand has been more established. So we aren't as worried about I mean, we aren't as concerned about someone coming in and not getting the full Chipotle dining experience of being part of the restaurant atmosphere. So we feel good about the idea of going out and building some really, really small scrappy restaurants, and we will continue to experiment with that in the future and see how those might give us yet another way to grow sensibly and quickly in some of our markets where other real estate proves difficult to find. And then just kind of as a follow-up or a Part B, maybe just to clarify the other part of my question is, do you get credit, for example, having a LEED certification? I'm just picking out one thing. But much like food with integrity, do you see building with integrity, I don't as something that's influencing customers that you could point to and say, we see this as something that they care about and helping us drive trend? Is it something that shows up yet? Not really. I mean, I think that we do a lot of these things. I mean, from food with integrity to the way we think about the way we build our buildings and to the way we think about just doing the right thing by way of our people culture and by way of the way we select our leaders for our company. I mean, all of these things are things we do because we know that they're the right thing to do. Fluid of Integrity was something we put a lot of effort, a lot of investment, a lot of passion into way before there was any evidence that anyone cared about it, I mean, or that a majority of people cared about it. And I think that to the extent we have research back from our marketing team, it still shows that there are a whole bunch of people, probably the majority of people who come to Chipotle who, while they might think it's nice to have, it's not central to their decision to eat with us. But this is why our marketing team has worked so hard, I think, to just start to celebrate some of these points of differentiation and start to generate more and more conversations about where Chipotle is going and what we're doing differently than other companies. And so while we don't get credit on any given I don't think on any given day for all of a sudden, hey, they're doing something great with LEED certification or building the buildings more carefully or even food of integrity. We think it's the right thing to do and we think as people get to know us in a deeper and deeper way our marketing team is doing a great job of accomplishing that, it will be something that either causes more word-of-mouth about marketing more word-of-mouth about Chipotle, which will lead to additional visits or we'll just delight some of the people who have already loved Chipotle because it tastes good and they think it's a good deal. They might find out as they find out that we're doing things that are really special, it will just engender even more loyalty from them and even more excitement when they talk to other people who maybe haven't tried Chipotle before. So I would say we don't do any of those things because we it drives immediate benefit to us in terms of sales. I think we do them because of the right thing to do and I think we're getting better and better at having Chipotle and our core values understood more broadly. And as that happens, I think that we will see more and more people coming to us for that reason. Thank you so much. Thanks, Nicole. And we will take our final question from Jason West with Deutsche Bank. Yes. Thanks guys and congrats on a great quarter. Just a couple of cost related questions. First, with the some of the shifting of the beef supply overseas, can you talk about how that may affect your cost structure on the food side and if there's more products that you're looking at to move to international markets? And then secondly, on the outlook for incentive comp, if we should be planning for that to be somewhat different next year in the way that's structured and maybe a lot lower costs? Or is it too early to say on that? Thanks. No. I think what we're really doing on the beef side of things is trying to get the right beef into our restaurants that we feel good about from a food integrity standpoint. And the move that Steve discussed during his opening remarks with regard to getting an amount of Australian grass fed beef is a move towards sustaining and increasing our ability to have beef that we're very, very proud of in light of not being able to get enough of that meets our protocols domestically. So it is not going to cost more at this point. There's no increased cost from that. So we would not suspect that that'd be something that would would give us pressure. And Jason, on the comp for next year, our comp that's in the hands of our comp committee. They've been meeting to consider the vote from last year and what they would like to do with that. So that's in their hands, so nothing to report at this Okay. Thank you. Thanks, Jason. All right. Thanks, everyone. We've exceeded our time for the call, but we appreciate and thank you for joining us and we look forward to speaking with you next quarter. Thanks very much. This does conclude today's conference. We thank you for your participation.