Chipotle: The birth of the fast-casual concept

Since its IPO in January 2006, Chipotle has experienced tremendous growth, going from 480 stores to around 1,900 stores, multiplying revenues almost ten-fold, from $469M in 2004 to $4,108M in 2014 and increasing share price even more than ten times, from $42/share to over $550/share. Such an impressive growth story was made possible largely due to a great business model that was well supported by cohesive operating practices.

 

Chipotle was founded in 1993 to bridge the gap between fast-food chains and more casual sit-down restaurants, giving birth to the now-famous fast-casual restaurant concept. Its original idea, preserved to this day, was to offer freshly prepared food with quality ingredients while keeping the “fast” part of fast-food. It caters to a public that values speed during busy times, but is more conscious about quality and willing to pay a bit more for that. To deliver such value, Chipotle relies on four main operating pillars: Processes, People, Location and Food.

 

Processes

First and foremost, the company is obsessed with throughput. The more customers it serves per hour, the higher are its revenues and utilization of resources, lowering relative costs.

The restaurants employ an assembly line like process, with each employee responsible for a very small portion of the process and that allows Chipotle to reduce cycle time and increase throughput rate. In peak hours, a Chipotle store can serve up to 300 people/hour, equivalent to a cycle time of only 12 seconds per employee. Also contributing to increase throughput there are: (i) dedicated expeditors to get drinks, sides and bag to-go orders, (ii) dedicated linebackers, making sure ingredients are available at all times, (iii) clear rules for portion sizes and (iv) processes for having the best employees in each station during peak hours.

Besides, Chipotle’s menu also adds to the efficiency. It only has four types of dishes and five types of protein, but allows consumers to add a number of extras, taking the total number of combinations up to 65,000 different options. That means that employees only have to learn to deal with a few types of ingredients, while clients have a seemingly enormous amount of choice.

 

 

People

In such a system, having the right people is crucial for maintaining consistency and speed of output. Though hourly wages are only slightly higher than most fast food chains, Chipotle differentiates itself from competition providing growth opportunities for employees. Around 95% of hourly managers were promoted from inside, as were 85% of restaurateurs, who are responsible for several stores and usually make 6-figure salaries.

Because of Chipotle’s scale and growth rate, employees know that new manager positions are being constantly created and are then more motivated to excel at the job and stay at the company.

With industry standard hourly wages, a very efficient process and, higher than average tickets (closer to $9 vs. $5-6 at fast food chains) Chipotle manages to keep low labor costs while also focusing on employee retention.

 

Location

Starting in 2010, Chipotle decided to change its operating model in terms of real estate and developed its new store model, called the A Model, designed to be simpler and cheaper to build while keeping the overall look of the brand. That meant lower CAPEX and pre-operational costs and, therefore, more potential for expansion.

Also, now targeting recurring operational costs, Chipotle gradually reduced store size and started to look for second tier locations with high concentration of target customers to open new stores, leveraging its large database of customer insight. Both initiatives, combined with increased revenues per store, allowed Chipotle to reduce occupation costs while maintaining user experience.

 

Food

The last, and arguably most important, piece of the equation is the food itself. Serving unprocessed, freshly prepared food, sourced from local farmers, has always been a strongly advertised commitment of the firm. To keep this promise, Chipotle maintains longstanding relationships with farmers based on mutually beneficial price agreements, which are a major long-term competitive advantage for the company among restaurants with similar value propositions.

To get this food to stores, Chipotle uses more than 20 regional distribution centers. Deliveries are frequent and stores are not equipped with freezers to avoid any possibility of stockpiling. To increase both the taste and quality perception of the meals, most food is also prepared locally, in front of customers, with standard cooking methods.

Chipotle’s willingness to invest a larger portion of its revenues in the food itself every year is one sign of the company’s commitment to maintaining its standards in terms of food quality.

 

Conclusion

By focusing on operational efficiency, Chipotle is able to reduce labor and rent costs, allowing the company to focus most of its resources on the food portion of the business. That is what allows Chipotle to deliver quality food quickly to its customers at a reasonable price. The table below highlights Chipotle’s operating choices comparing its cost structure with publicly traded competitors (% of revenue, 2013).

 

 

However, such business model does not come without its challenges. Recently, Chipotle’s decision to offer customers fresh food has turned against the company as E. Coli and Norovirus bacterial outbreaks were tied back to its restaurants. As the company scales its operations, it becomes harder to keep food consistency and standardized procedures to ensure keep stores free from contamination. That raises the question of whether Chipotle’s operating model, responsible for taking the company this far, is actually the right one to support the next wave of growth. It remains to be seen whether Chipotle will be able to adapt to survive this crisis, but the lessons from its spectacular growth are nonetheless worth learning.

 

Sources

[1] Chipotle IPO Prospectus, https://www2.morganstanley.com/wealth/Markets/IPOCenter/Prospectus/?DocID=p_CHIPO, accessed December 4th, 2015

[2] Chipotle SEC form 10-Q for period ending in September 30th, 2015, http://ir.chipotle.com/phoenix.zhtml?c=194775&p=irol-SECText&TEXT=aHR0cDovL2FwaS50ZW5rd2l6YXJkLmNvbS9maWxpbmcueG1sP2lwYWdlPTEwNTMyNTQ4JkRTRVE9MCZTRVE9MCZTUURFU0M9U0VDVElPTl9FTlRJUkUmc3Vic2lkPTU3, accessed December 4th, 2015

[3) Chipotle 2014 Annual Report, http://phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9Mjc3NjI5fENoaWxkSUQ9LTF8VHlwZT0z&t=1, accessed December 4th, 2015

[4] Google Finance, CMG Stock information, https://www.google.com/finance?q=NYSE:CMG, accessed December 9th, 2015

[5] Chipotle website: Food with Integrity, https://www.chipotle.com/food-with-integrity, acessed December 4th, 2015

[6] Fortune, Chipotle’s growth machine, http://fortune.com/2011/09/12/chipotles-growth-machine/, accessed December 5th, 2015

[7] Wall Street Journal, Inside Chipotle: The Precision of the Burrito Line, https://www.youtube.com/watch?v=8I0DelOj7u4, accessed December 9th, 2015

[8] QSR Magazine, The Gold Standard, https://www.qsrmagazine.com/fast-casual/gold-standard, accessed December 4th, 2015

[9] Chipotle website: Food with Integrity, long-term partnerships, https://www.chipotle.com/food-with-integrity#long-term-partnerships, accessed December 5th

[10] The Motley Fool, Chipotle’s recipe for success, http://www.fool.com/investing/general/2014/04/21/chipotles-recipe-for-success.aspx, accessed December 6th

[11] CNBC, Chipotle grilled for E. Coli, Norovirus crisis response, http://www.cnbc.com/2015/12/09/chipotle-e-coli-norovirus-crisis-response-gets-grilled.html, accessed December 9th