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Chipotle’s Valuation Multiple Rose on Investor Optimism

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Valuation multiple

A valuation multiple helps investors make investment decisions. Valuation multiples are driven by perceived growth, risk and uncertainties, and investors’ willingness to pay for a stock.

Of the various available valuation multiples, we’ve opted for the forward PE (price-to-earnings) multiple due to the high visibility of Chipotle Mexican Grill’s (CMG) earnings. The forward PE ratio is calculated by dividing the current share price by the forecast EPS (earnings per share) for the next 12 months.

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Chipotle’s PE multiple

As of April 13, 2017, Chipotle was trading at a PE multiple of 50.9x compared to 47.2x before its 4Q16 earnings announcement. The measures adopted by Chipotle and the MScience report, which stated that Chipotle would outperform analysts’ sales estimates in 1Q17, appear to have increased investor confidence. This led to a rise in Chipotle’s valuation multiple.

Comparatively, on April 13, 2017, Chipotle’s peers Panera Bread (PNRA) and Shake Shack (SHAK) were trading at PE multiples of 39.0x and 61.5x, respectively.

Growth prospects

To enhance customer experience, Chipotle installed smart pickup times at all its restaurants and launched a new ordering site, order.chipotle.com. The company also removed all artificial ingredients from its menu items. It plans to launch an advertising campaign in April 2017, which has been called the largest in Chipotle’s history. If all these initiatives fail to generate expected sales, the increased expenses from these initiatives could put pressure on Chipotle’s margins, thus lowering its EPS.

For the next four quarters, analysts are expecting Chipotle to post EPS growth of 507.6%. If the results come in lower, the stock could face selling pressure, which could lower its PE ratio.

You can mitigate these company-specific risks by investing in the iShares US Consumer Services (IYC), which has invested 11.6% off its holdings in restaurants and travel companies.

Next, we’ll look at analysts’ recommendations ahead of Chipotle’s 1Q17 earnings.

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