Despite losing its CEO to its rival, Chipotle stock looks like the better bet.
Brian Niccol, the CEO of Chipotle Mexican Grill (CMG 0.49%), leaving to take the same position at Starbucks (SBUX 1.72%) created waves in the market, with Starbucks stock soaring and Chipotle stock sinking. The immediate reaction was understandable. Starbucks had been in a rut and in need of a jolt, and Niccol had a very successful run at Chipotle.
However, now that the dust has settled, I predict Chipotle’s stock will outperform Starbucks’ over the next five years in the restaurant space. Let’s look at why I believe this will be the case.
Starbucks’ problems won’t be solved overnight
Niccol will have two big problems to try to solve when he takes over at Starbucks: Lagging U.S. sales and a weak Chinese market.
The former problem stems from a few issues. The first is that customers seem to have begun pushing back against the high prices for Starbucks’ drinks. At the same time, they have become frustrated with long wait times, which has been caused in part by a lack of staffing.
Prior to Niccol’s arrival, Starbucks has tried to lower wait times through technology and other streamlining efforts, although in doing so it has lost some of the human touch of the Starbucks experience. While the obvious answer might be to add more baristas to its understaffed stores, that will come with added costs.
However, China is a bigger issue for the company. The country is expected to be its biggest expansion growth driver, but its existing stores have struggled due to fierce competition and a lackluster Chinese consumer. Luckin Coffee surpassed Starbucks as the largest coffee shop in China last year, while a number of newer coffee shops, such as Cotti Coffee, have also sprung up. The competition has also greatly been undercutting Starbucks in price.
Niccol doesn’t have much experience dealing with the Chinese market. He could spin the Chinese business off, as Yum! Brands did with Yum China, but that is more pushing the issue aside rather than fixing it.
Image source: Getty Images.
Chipotle has better pricing power and expansion opportunities
One of the big differences between Chipotle and Starbucks lately is that Chipotle customers appear to see much more value in its offering and are much more willing to take price increases in stride. This can be seen in the two companies’ same-store sales.
In its second quarter, Chipotle saw an 11.1% increase in same-store sales. Its prices were 3.3% higher compared to a year ago, but its traffic nonetheless increased by 8.7%. For those doing the math, mix, which is the change in different items ordered, was down about 1%.
Chipotle pretty consistently takes between a 2% to 3% price increase each year. However, it has made some larger menu price hikes coming out of COVID-19, as well as recently in California due to new minimum wage laws. Nonetheless, the company has continued to see strong traffic at its restaurant locations, despite the menu price increases.
Starbucks, on the other hand, has seen its U.S. comparable-store sales struggle recently as customers have pushed back on high prices. For its fiscal Q3, U.S. same-store sales declined by 2%, with traffic down 6%. It was similar the quarter before, with U.S. same-store sales down 3% with a 7% decline of traffic. For many people, Starbucks is a small luxury, and they are indulging less due to the increased cost.
Chipotle also has many more expansion opportunities in front of it compared to Starbucks. The coffee chain already has nearly 39,500 global locations, including over 18,000 in North America. It’s pretty saturated in the U.S., while it has been mainly looking toward a difficult Chinese market for new store growth.
In comparison, Chipotle only had just over 3,500 store locations. It plans to open between 285 to 315 new restaurants this year, so it is still seeing nice, high single-digit new location growth each year. The company has also just barely scratched the surface when it comes to international market opportunities. Overall, it just has a much longer runway for new store opening growth compared to the bigger Starbucks.
Valuations
From a forward price-to-earnings (P/E) perspective, Starbucks is the cheaper stock. However, Chipotle has been growing its earnings at a much faster clip this year, and the expansion opportunities in front of it are much larger.
CMG PE Ratio (Forward 1y) data by YCharts.
While I think both stocks can be winners over the next five years, my bet is on the company with the better expansion and same-store sales growth opportunities. Right now, that is clearly Chipotle, and losing its CEO to Starbucks does not change that.
Geoffrey Seiler has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Chipotle Mexican Grill, Luckin Coffee, and Starbucks. The Motley Fool recommends the following options: short September 2024 $52 puts on Chipotle Mexican Grill. The Motley Fool has a disclosure policy.