- Chipotle filed a patent for "Better Burger."
- I see the rationale and reasons why Chipotle's new concept might work.
- But the timing and approach to "Better Burger" might not be Chipotle's best strategy.
The Better Burger Concept
Beleaguered burrito company Chipotle Mexican Grill (NYSE:CMG) applied for a patent with the U.S. Patent and Trademark Office on March 11 in an effort to launch a new chain of hamburger restaurants. Chipotle filed a patent for "Better Burger." The company wants to open a new chain of restaurants focused on hamburgers but the application has not yet been accepted.
“It’s a growth seed idea we are exploring,” Chipotle representative Chris Arnold told Fortune in an e-mail. “We have two non-Chipotle growth seeds open now —ShopHouse and Pizzeria Locale — and have noted before that the Chipotle model could be applied to a wide variety of foods.” He was referring to two non-burrito chains Chipotle has already invested in.
The concept was already in the works before the burrito chain was hit with the E.Coli outbreak. The hamburger restaurant concept could add toChipotle's group of small restaurant chains such as ShopHouseSoutheast Asian Kitchen and Pizzeria Locale.
The Concept Rationale
There are a few ideas that might explain the slow surge in Chipotle's stock price after the announcement of the restaurant chain concept.
The new small restaurant concept creates assets that the company can either spinoff or develop into fully functioning restaurant concepts. Chipotle's current TTM P/E ratio is 30.87 and that is ~20%higher than the industry average of 24.80. This higher PE is due to the market perception that Chipotle will grow faster than its peers.
But Chipotle's growth rate might not be as high as expected. After the outbreaks late last year, the company lost part of its customer base. Chipotle has been doing a lot of damage control, such as giving away free burritos. In February of 2016, 5.3 million people downloaded the company's app but only 2.5 million of the 5.3 million customers redeemed them. These limitations caused the company to report its first ever quarterly net loss due to the E. Coli virus outbreak.
Consequently, new restaurant concepts allow the company to seek strategies to diversify their revenues. Although these small concepts might not drive as much traffic as the core business, they could help grow Chipotle's topline.
Why It Will Work
There are many reasons that are attributed to Chipotle's rapid growth rate. But what I think were the key differentiator's was the company's ability to reduce the time people spend waiting for food and to give customers the option to choose ingredients.
This is why I do think the fast-casual model can be applied to a hamburger chain. Burgers have become mainstream with a lot of restaurant chains, small and big, focusing on the concept. Simple ideas such as reducing the time people would have to wait in lines and giving people the ability to visually choose what should and should not go on their burgers is something that can be extrapolated to other industries.
Moreover, Chipotle can carve a niche market by selling itself as a fresh ingredients, health concept that gives customers the ability to personalize their orders. Although the E.Coli outbreak makes the concepts of "health" a contradictory statement at the moment, it could work if the new chain is separated from the core business.
Furthermore, Chipotle is focused on organic produce and naturally raised meat. This resonates with a society that is trying to be health conscious.
Why It Could Be A Bad Idea?
There are reasons why this concept is worrisome. First, the E-Coli scare might hurt the perceived brand image of "Better Burger" even before it starts. There is always the risk that either Chipotle or any other firm might have an E.Coli case and since Chipotle did not figure out the source of the problem, the chance that the outbreak might happen again is still there.
Second, Chipotle is getting into a market which contradicts part of its core concept. Using the concept of fresh ingredients on burgers does not carry the same health connotations as using it on burritos does.
Third, they should just buy another brand and avoid doing it in-house. An acquisition would be cheaper, faster and more efficient than starting yet another burger chain in an ocean of burger chain restaurants. Chipotle has $663.20 million in total cash with zero debt and TTM EBITDA of $907.15 million. This means that it has the cash and the ability to leverage its balance sheet to make such acquisitions. Higher-end fast-food burger joints like Shake Shack and Five Guys Burgers and Fries already have a strong market presence and a loyal customer base. Here, an acquisition could be more lucrative to shareholders down the line.
Chipotle has been spending a lot of money giving free burritos, revamping its stores and doing in-house investigations to mitigate the negative headline risks that had befallen the company. The "Better Burger" concept could be just another cost. The timing for the concept is bad. Lastly, an acquisition in this low-rate environment would be more ideal.