Motley Fool Hidden Gems Investing - Split Your Burrito and Your Stock

Episode Date: March 20, 2024

Chipotle’s epic run makes it the latest big name to split its stock, we talk about why its good for the options market and why Chipotlanes and breakfast are still huge levers for CMG.    (00:13) Tim Beyers and Dylan Lewis discuss: - Chipotle’s historic 50-for-1 stock split and why the burrito-maker still has plenty of growth ahead of it. - Apple and Google-parent Alphabet’s talks to bring Gemini into the iPhone, and why it’s a no-brainer for both businesses.  (13:48) Motley Fool Money’s Mary Long caught up with Lauren Sherman, a fashion correspondent at Puck to talk about Abercrombie and Fitch’s turnaround and epic 2023. Companies discussed: CMG, AAPL, GOOG, GOOGL, ANF Host: Dylan Lewis Guests: Tim Beyers, Mary Long, Lauren Sherman Engineers: Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

Dylan Lewis I'm Dylan Lewis, and I'm joined over the airwaves by Motley Fool analyst Tim Beyers. Tim, where are we at on the caffeine meter? Tim Beyers Fully caffeinated, ready to go, really, really hungry for a burrito. Dylan Lewis You're going to have to make it through this episode. I think it's going to be a little hard. We are talking splits in the food business, including a zoom-in on Chipotle's stock split, the next generation of famous tech partnerships, perhaps, and an apparel brand that is sneakily one of the best stocks of 2023.

We're going to start with the burrito talk, though. We'll get your hunger pangs over with early here, Tim. For the first time in the company's history, Chipotle will be splitting its stock. This week, the company announced a 50-for-1 stock split. I don't know if that number caught your eye, Tim, but I think that is one of the largest stock splits I have ever seen announced. I've never seen one bigger than that. I've seen in the teens, but I've never seen one bigger than that. I've seen 10 for one before, 50 for one. No, I've never seen that. It provides a huge

amount of liquidity to the market for Chipotle shares when this completes. You'll be injecting way more shares into the daily average volume, which our colleague and friend Jim Mueller will tell you is very good for making an options market in Chipotle shares. So, stay tuned to hear Jim talk about that, probably on the discussion boards. But I think this is very interesting. It just creates a more liquid market for Chipotle. Certainly, if you're a longtime Chipotle shareholder, you're going to suddenly look at your brokerage statement in a few weeks and see a whole heck of a lot more shares. Nothing's really happened. But I think it is an acknowledgment that the demand for ownership in Chipotle is probably higher than it's been in a long time.

And that's because it's a good business. It's a good business. Yeah, few companies could have a 50-for-1 stock split even make sense with their share price. And we know, yeah, it's kind of an academic thing. It's a matter of pizza, right? Do you want two pieces of a pizza cut into eighths or one piece that's been cut into quarters when it comes to stock split outside of the options market? I think for us, Tim, it provides an awesome opportunity to just reflect on how amazing the company performance has been, particularly over the last decade. Revenue doubled since 2015. Net income basically tripled since 2015. And along the way, they have basically been able to become one of the best in class in

terms of mobile, one of the best in class in terms of a rewards program. They've weathered consumer food issues. It doesn't seem like there's been anything that's been able to stunt the growth of this business. And they continue to be really the industry standard and fast casual. I would agree with that. I mean, the only other that I would say competes with them in terms of restaurant-level economics would be like a Chick-fil-A. Chick-fil-A is absolutely outstanding. But I would say those two are really one and two, and pick who you like better between those two. The interesting thing with Chipotle is they still have room to grow. There are still ways that Chipotle can expand its business.

We're still very early, for example, Dylan, in the rollout of what we call Chipotle-nes. So that's the drive-up. I mean, Chipotle has done all this amazing growth by being a business with locations that you walk into and you assemble your burrito or your bowl or whatever it is that you are ordering. And that's been driving the business for years, for years. And now, Chipotle's are starting to take off here as we grow the total restaurant footprint. So, we could probably still double the number of Chipotle's here in the United States. But what we could do beyond that is take existing Chipotle's and put more Chipotle's on them. So, I think the growth story here, Dylan, would be that the volume of business per location that Chipotle can do is still on the low end of what we have seen.

So, think about that. If you have a Chipotle and your restaurant-level activity can maybe, I'll make up a number here, could be up by 50%. That has dramatic network-wide effects for a system of company-owned stores that isn't fully optimized. That is bonkers. And this has been such a high-performing stock. To think about that, the only question is, how much of that is priced in? I would say, probably some of it, because it's a premium-priced stock, but also probably not all of it, probably nowhere close to all of it. You anticipated one of my questions there.

We are looking at this now at an $80 billion company, and yet, most recent quarter, comps grew 8%. Despite the incredible footprint and how mature a lot of their restaurant footprint is, they are still performing. It seems like you still see growth ahead on the volume side. I have underestimated this business and its future growth to my own detriment. I sold roughly a 10-bagger ago back in 2017, missed out on a ton of gains. I'm curious, is there anything that you see emerging as a risk or something that could go wrong in the Chipotle growth story? Well, there's no question. I mean, it's an increasingly digital business. So,

if you ruin things on the digital side of the business, if you somehow figure out a way to screw up digital ordering, or the app gets hacked, or you just have bad experiences that make you want to order somewhere else, like, that's it, I don't want it, you know, that could really harm things. You could have another health scare. That's certainly something to watch out for. And you could also play really poor games with the balance sheet. You could decide you expand irresponsibly. You take on unsustainable levels of debt, for example, and then you build out in all of the wrong ways, and then you have to retrace, maybe sell locations. So there's a lot of things that could go wrong here. But I think what we've seen from Chipotle, at least more recently, is that they are responsible in how they figure out growth. As long as they stick with – here would be the signal to me, Dylan.

If they're going to continue to do incremental things that have asymmetrical benefit, I think we're fine here. So, something that fits that category of something where it's an incremental change that can provide asymmetrical benefit is something we've all been waiting for. Where's the breakfast burrito, Chipotle? Where is it? We want the breakfast burrito. Where is the breakfast burrito? Because you've got the Chipotle-ans, that is the perfect place to make an incremental menu change that could dramatically increase volume if done right. But Chipotle has a history of not rushing into these things, which I think is right.

That's a very conservative use of capital in order to be able to grow responsibly. So, as long as they keep on that path, Dylan, I think we're fine. They can make incremental changes that give you asymmetrical benefit. If instead, you see a lot of all-in bets, maybe let's pump the brakes a bit. I love that you answered my risks question with basically, By the way, they still have breakfast burritos in their back pocket as a growth lever, just in case you forgot. Tim, our final story in our News Roundup segment for today, Apple and Google Parent Alphabet

have a deal in place when it comes to search defaults on the iPhone. Why wouldn't they explore something similar in AI? We have reports out that they are in talks to use Google's Gemini to provide generative AI and other capabilities in Apple's iPhone. My immediate reaction to this, Tim, is, are you surprised Apple isn't trying to home-grow any of this? No. They almost never do that. I mean, they will do some home-grown things, but generally what they'll do, if they're going to make a tuck-in piece of technology, they'll do an aqua hire.

They'll buy a small company that has some really interesting technology. They'll buy them out. they'll bring in the people, and then they'll build it into their ecosystem. But they do partnerships all the time. They've done it for years. And in this particular case, they have a long-standing partnership with Google. But here's the hot take I have for this. It would be surprising if Apple didn't do this, because here's what you get. This has nothing to do with Gemini's technology, honestly. I think it has 0% to do with Gemini's technology.

The answer to what this has to do with is money. This is what happens when you are a company with a massive, massive balance sheet. In this particular case, I'm talking about Alphabet. Alphabet can absolutely afford to pay Apple whatever Apple wants to make Gemini the default AI on iPhones. They are buying distribution, which gives them time and data to improve Gemini using one of the largest data-gathering networks in existence on the planet today, which is the iPhone network, which is amazing. So, I think this is an incredible deal for Google. They've got the money to pay for it. They have the existing relationship. And for Apple,

it's just more money in their pocket. What do they care? They know that it's early in the AI development. You don't have to have a perfect AI. No one's expecting that. And here's the thing. For open AI, which has a lot of bargaining power, they are exerting some of that. It is more expensive to use GPT-4 now than was to use GPT-3.5. You think GPT-5 is going to be any cheaper? No, it is not. And you think Apple wants to be subject to whatever terms that Microsoft, which has leverage over OpenAI, wants to impose on Apple for getting GPT onto that phone? You think Apple wants any piece of that? I think the answer to that, Dylan, is no. So this is a no-brainer. Anyone that's surprised by this, I think, isn't paying close enough attention.

To your point on the dollars there, we've seen through filings that Google reportedly paid somewhere in the neighborhood of like $18 billion to be the search default on the iPhone. I think that was back in 2019. So we can only imagine that sticker price for that has gone up and being the default when it comes to generative AI will also go up. I look at this news and I think about how on this very show we have talked about some of the missteps with Gemini. And they've been very public. They've gotten a lot of scrutiny for that. And I almost think, you know what? This lets Google pave right over those if they want to.

A million percent. And let's remember, Gemini is – Google is getting hammered more than any other company that has a beta would get hammered because we expect more of Google. Like, we've become so dependent on the Google machine and we expect it to be good that if Gemini was from another company and it was labeled as a beta, we wouldn't give that company nearly as much stick as Google has been getting for Gemini. Because we'd say, yeah, it's a beta. It stinks right now. It's going to get better. But Google doesn't get that grace because it's Google. Now, having said that, it has been bad. It is the definition of a bad beta. But yes,

this is what happens, Dylan. When you can write massive checks that allow you to fix problems, look what happens. You write big checks, and you get distribution. And I will tell you, that distribution and the amount of data that Google gets access to by virtue of that distribution is going to help Gemini evolve in a big, big way. I cannot predict that it's going to be as good as the GPT model, but this is a good step in the right direction for Alphabet. And they got the money to do it. So, and Apple, they know that they've got the leverage here.

So, you can bet that Tim Cook has just got Apple and Apple shareholders got paid. They got paid. Tim, always love getting your take on tech. I'll set you loose so you can go get that burrito. Thanks for joining me today. Thanks, Dylan. You just found out that your sales team is at risk of missing quota. Don't panic.

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Lauren, I want to start with the story of Abercrombie & Fitch. In the investing world, and honestly, maybe outside of it too, the name on everyone's lips has been NVIDIA, NVIDIA, NVIDIA. So it might be surprising to know that in the past year, Abercrombie, of all companies, has outperformed this chipmaker. It's crazy. So I'll give numbers to back it up in case there's anyone doubting me, but the retailer stock is up 373% compared to a year ago. NVIDIA is up about 270%. My question for you, what's been happening over at Abercrombie? So as I'm sure you know, and we all know, retail is very cyclical. And so a retail stock can be

doing really well for five years and then doing really poorly for 10 years because the consumer is just not into the pair of pants that a brand is selling. But a couple of years ago, Abercrombie totally changed its strategy. It was always sort of relying on heritage to be cool with teens. So the idea was, let's make it really preppy. And in the 90s and 2000s, when Mike Jeffries, the then CEO, sort of turned it around, he made the preppy cool heritage into something that was also sort of sexy, which is kind of creepy when you're thinking about teenagers, but it was very like the Bruce Weber black and white photos. And it became iconic, really popular among preppy teens, doubling up polos, things like that.

And then in the 2010s, as the consumer world changed and there were just more brands, more direct to consumer brands. There was just way more competition. Teenagers backed away from Abercrombie. They were shopping at places like American Eagle, one of Abercrombie's biggest competitors, but also fast fashion, Zara, H&M, as well as places like Brandy Melville. Teenagers had way more options and they just didn't care about this sort of idea of preppy heritage done in a modern way. And so at some point, Abercrombie board hired this woman named Fran Horowitz, who is longtime retail executive, grew up at L Brands, which was like the big company that owned Victoria's Secret. And at one point also owned Abercrombie, but Abercrombie was

spun out in the 1990s. He hired this woman, Fran Horowitz, has a very good reputation for merchandising. She fired a bunch of people and she decided, I'm really going to focus on product that is, you know, I'm not, she knew she wasn't going to beat out the fast fashion players with speed to market. So she decided, what are the things that an Abercrombie should be doing really well from a product perspective? And let's forget about the hair preppy heritage stuff. So Abercrombie made jeans, they made plaid shirts, they made all of polo shirts, all this stuff that was sort of known and they did it through this preppy heritage lens. She threw that all out the door and just made really cool jeans, really cool plaid shirts, really cool sweatshirts and stuff

that actually the TikTok generation really loves. So I actually walked into an Abercrombie probably six months ago, an Abercrombie in Southern California and in the suburbs of Los Angeles, eastern suburbs of los angeles and you you look on a rack and there were all these sort of blazers in pastels which were very trendy a few months ago and it said in a printout paper on the rack it said as seen on tiktok so she just really went in and forgot about the heritage forgot about the brand it's sort of the opposite of what brand building 101 would teach you she just forgot about that stuff and decided to make really good product that people would love. And the jeans in particular, which are super cheap also have just become so popular among teenagers. Yes. But also

up in people up into their forties are into these jeans. They fit really well. They look good. They're modern style. And more than anything, she just got the product right. And it is it, even with all that, I am still amazed at how well the stock has done and also how, how well the business itself has done, because it's not easy to maintain that kind of momentum in retail, especially now, as I said, with so much competition in the space. Yeah. I mean, you mentioned the jeans. What got me interested in this story was that truly every time I complimented one of my friend's jeans, they would go with a look of kind of, can you believe it on their face? They would say they're Abercrombie and scoff a little

Because, you know, and you make this point that that can you believe it face came from the fact that in my memory, Abercrombie was this preppy heritage brand. And what Fran's gotten right is that shift in style, as you mentioned. But I think what's also impressive to note is not just like addressing a change in taste over time, but also like Abercrombie not that long ago was kind of hated and was going through a lot of PR trouble. In 2016, they had the honor of being designated America's most hated retail brand by the American Customer Satisfaction Index. In 2022, I think, Netflix released this white hot documentary that highlighted the very exclusionary marketing and hiring practices of the company. How low was the low point in terms of like brand perception for Abercrombie? Well, I think one thing to remember is that Americans love a redemption story. So going that low and coming back so high, I'm not totally shocked. The Americans love to bring someone back from the brink. But, you know, I would say with consumers, it was really, really disliked. And with a lot of these mall brands that were really big in the 80s, 90s, 2000s, most of them just kind of sort of lost touch with reality. And I would say Abercrombie and Victoria's Secret, which used to both be owned by retail magnate Les Wexner, they both in the mid 2000s, they had marketed themselves through the male gaze. So the idea of what was sexy, what was interesting, what was attractive was, you know, could, could verge on, on a level of misogynistic. And so, especially with, with Abercrombie and, and the CEO, Mike Jeffries, there were

just a lot of things he said. At one point he made a comment that like, they just weren't going to ever do extended sizing because it was supposed to be an aspirational brand, Victoria's secret, same thing, no extended sizing. And in the mid-2000s, in sort of the height of the Me Too movement, that just no longer flew with consumers. And so I think people were just generally disgusted by Abercrombie. All that being said, the way consumers talk and the way that they consume are different

things. Like I've been covering this industry for 20 years and people rarely vote with their dollars. We, we think they will and they say they will, but they actually don't. And so what it comes down to, it's a price value equation. Always. If there is a product that is really, really good and you are able to find that product and you think it's good for the amount of money that it is sold for, then you will buy it. So they were pretty hated, but I would say that what it comes down to is that can flip so quickly that if you're making something good that people like, they will easily forget about all the bad stuff that happened. So how do you, if you're an executive at Abercrombie or another retailer, how do you keep, not just keep a pulse on what the consumer currently wants, but also get a sense of what is coming around the corner so that you're not left behind when trends and styles do change? Well, it's next to impossible. And if you talk to a retail executive now, they'll say they use predictive analytics and AI, et cetera, et cetera. I got to say, it's not that different from 1985 when the retail CEO would call a store at the end of the day and say, how many units of such and such item do we sell? And you have to kind of have a sense, the AI and the analytics can give you, the algorithms can

give you a sense of what's going to happen next, but you really don't know. And what you need to do is get your business in a place with the right amount of inventory, the right amount of product that if you have an off season, which they all, you are going to have an off season, then you'll be okay. What ends up happening a lot is if a retailer has a really big hit, they'll buy too much of it and then they get left over with it when it's not cool anymore. So what I think Fran Horowitz has done is she's just been very thoughtful about watching the market and what people want. You think about this jean that has done so well at Abercrombie, It's not a skinny jean. And you hear all the other retailers talk about their jeans,

even up until a couple of years ago, they were like, we're going to stick with skinny jeans because they're selling really well. But the reality was people were looking for something a little bit more relaxed and with a wider leg opening. So Abercrombie got on that very early. I bet the first couple of seasons of that jean that everybody's wearing, it didn't sell super well, but they, but they realized that that's where it was moving. And I think the, the, the challenge and the goal is to sort of be a little bit ahead and an understanding of where the consumer is moving while maintaining the hero products and making sure that your inventory on the stuff that's selling really well is not crazy

Because then next season when a new product is popular, you can really ramp that up and go wild on that. And, you know, she's just done a really, really good job. There are not that many great merchants working in retail now. It does require right brain, left brain, and a lot of instinct. And that is scary to people who are trading on the public markets. Like you're, you're, you live and die by the quarterly report and doing something on your gut that's risky is not something that you want to communicate to shareholders. So she's, she's, I mean, it's, it's wildly impressive. And every, every quarter I'm just like, why? Wow. because the whole idea has always been maintain your brand ethos and your brand DNA, and that'll see you through. But what we're finding is that in this current reality, that may not be true.

Abercrombie reported Q4 earnings in early March. And on that call, Fran Horowitz mentioned building out a new segment for wedding guests, kind of a more formal line. She also said, quote, there is no finish line and we see tremendous growth ahead. finish line. There is no finish line. That's what's interesting to me. Apart from this step into formal attire, what are you hearing about Abercrombie's next steps? So the whole thing, I'd say the chatter among retail executives is how long, how long can this last? So no finish line. I mean, good for her, but so I think that it's interesting because she's positioning it as more formal formal wear for weddings and things but what i would say and look at any retailer

trying to get into the wedding space and never works they always end up backing out of it but what i will say is there is this sort of pseudo return to dressing up vanessa friedman just wrote about this in the new york times i was just at all the fashion shows in europe and everything is very polished they're the return of the dress like a dress it's so funny to talk about you know items that we have millions of in our closets. But think about how, when was the last time you wore a dress? I barely wear dresses anymore. I used to wear them constantly. It feels like it's time for people to wear dresses again. The mini skirt was really big for a few years and now feels like it's coming back to like dress era. And so it's, it's interesting because

I think what she's saying is people are going to start dressing up a little bit more. by no means do I think people are going to stop wearing jeans, that people aren't going to wear leggings every other day. That stuff, the casualization of our culture is here. But I would say that we will see occasionally people making an effort to dress up a little bit because we're really out of the pandemic lockdowns now. It's been four years since the pandemic. We've had spikes of people buying stuff and stopping and starting and stopping and the economy up and down, say now it's going to sort of go back to normal of how people dress up and what they wear. And so I'd say that there probably is an interest in buying stuff that's a bit more

formal. We saw it first with the return of the blazer and blazers with jeans, but now I would say that it's going to be dresses. And so she's positioning it as like a formal wear thing. I'd say it's probably more just women are going to want to wear or people are going to want to wear dresses more. And so she, I mean, she's, she's one of the few great, great retail executives working today. And it's, it really is remarkable what they've done. As always, people on the program may own stocks mentioned and The Motley Fool may have formal recommendations for or against, so don't buy or sell anything based solely on what you hear. I'm Dylan Lewis. Thanks for listening. We'll be back tomorrow.