Chipotle Mexican Grill, Inc. (CMG) Q3 2007 Earnings Report, Transcript and Summary

Please standby, we are about to begin. Good afternoon everyone and welcome to the Chipotle Third Quarter 2007 Earnings conference call. All participants are now in a listen-only mode. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. As a reminder this conference is being recorded. I would now like to introduce Chipotle’s Investor Relations Manager, Ms Sandra Curlander. Please go ahead.

Thanks Stella. Hello everyone and welcome to our call today. By now, you should have access to our earnings announcement released this afternoon for the third quarter ended September 30th, 2007. It may also be found on our website at www.chipotle.com in the investor relations section. Before we begin our presentation, I will remind everyone that parts of our discussion today will include forward-looking statements within the meaning of the securities laws. These forward-looking statements will include projections of restaurant comp sales trends, the number of restaurants we intend to open, earnings per share, certain expense items, and other statements of our expectations and plans. These forward-looking statements are based on information available to us today and we are not assuming any obligation to update them. Forward-looking statements are subject to risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements. We refer you to the risk factors in our Annual Report on Form 10-K for 2006 as updated by the 10-Q, which we expect to file this week for a discussion of the risks that could impact our future operating results and financial condition. I want to remind everyone that we have adopted a self imposed quiet period restricting communications with investors during sensitive periods. This quiet period begins on the first day of the last month of each fiscal quarter and continues until the next earnings conference call. For the fourth quarter, it will begin December 1st and continue until our fourth quarter release in mid February. On the call with us today are Steve Ells, our Founder, Chairman, and Chief Executive Officer; Monty Moran, our President and Chief Operating Officer; and Jack Hartung, our Chief Finance and Development Officer. After their comments, we will open the call for questions. With that out of the way, I would like to turn the call over to Steve.

Thanks Sandra. Once again, I’m pleased to report another quarter of strong performance for Chipotle. We generated same-store sale of 12.4% for the third quarter, which brings our year-to-date restaurant comp sales growth to 10.9%. On the strength of these numbers, we are now positioned to reach our 10th consecutive year of double digit cost, which is certainly an extraordinary achievement. We believe that these results are evidence that people appreciate our continued focus on improving the customer experience in our restaurants. Our unit economic model strengthened during the quarter as well, with both average restaurant sale and restaurant level margins increasing. Even while higher commodity costs are pressuring margins, our managers are improving the customer experience while effectively managing the business and they are doing this during a difficult restaurant operating environment. I am really proud of what our managers are able to accomplish. And we continue to grow as we open 20 new restaurants in this quarter and 88 year-to-date. More and more of these new restaurants are staffed with managers that we developed from within and the sales to these new restaurants continued to keep pace with their existing restaurants such that the new opening still attract at 85% of the volume of our mature restaurants, which continue to increase each quarter. A better customer experience, double digit comps, higher margins, and more new restaurants, it all adds up to EPS increasing 72% for the quarter over last year. For years, you have heard me say that we want to change the way the world thinks about and eats fast food. To accomplish this mission, we obviously plan to continue serving great tasty food, using high quality ingredients and classic cooking methods, but we also need to continue to evolve in every aspect that we do. This evolution has continued over the last 14 years. We have continued to refine what we do, and by doing so, have been able to further strengthen the unit economic model, which is at the core of our success. So, we view these latest operating results as a national consequence of our continued effort in these regards. We are very proud of what we have accomplished so far to change the landscape of fast food in this country. We believe Chipotle is the only national restaurants chain committed to making better tasting, socially responsible gourmet food available and affordable, so that everybody can eat better. We feel that this sets us apart from all other restaurants, but our ambitions stretch far beyond what we have accomplished so far. We know that we can operate our restaurants more efficiently. We know that we can find even better ingredients from which to make our food. We know that we can find better equipments and design better restaurants, which will allow our crews and managers to cook even better food and provide a better customer experience. We know that we can create better training tools which allow our employees to take on more responsibility more quickly. And by doing all these things, we are confident that we can continue to improve the experience we offer so that we will be an experience of increasing relevance to our customers. Clearly, a key part of this ongoing effort is our Food With Integrity philosophy. Again, this term describes our ongoing efforts to find better quality, better tasting raw ingredients from which to make our food. You have heard me talk about this and it began with our switch to 100% naturally raised pork and naturally raised meat comes from humanely treated animals, which are never given growth hormones or antibiotics and which are raised on a 100% vegetarian feed rather than being fed… feed that contains animal by products. I am pleased to say that the amount of meat that we serve, which follow these protocol have continued to grow. We recently completed the rollout of naturally raised chicken into our entire Texas market. So, that about 80% of our restaurants nationwide serve chicken, which is naturally raised. Additionally, nearly half of our restaurants serve naturally raised beef. This has allowed us to continue to serve better and better tasting food. Important improvements in our diary supply are also contributing to an improvement to the taste of our food. Although, our sour cream is now made from milk from cows that are never treated with the growth hormone rBGH, as is nearly all of our cheese. But there is another exciting development which we expect to make soon to our diary and that is a switch using diary from pasture raised cows. Commodity cows are usually raised in confinement with little or no access to suitable grazing land and given hormones to stimulate milk production and antibiotics to stave off illness. By contrast, pasture raised cows are raised in an open pasture. They don’t need to be given antibiotics to remain healthy and are comfortable and well treated and enjoy a much longer life span. The result is not only a much more sustainable agricultural system, but better tasting milk which makes delicious sour cream and cheese for our restaurants. Beyond our food, we are testing a number of technological and equipment improvements in our restaurants. These improvements are at the very early stages, but are aimed at creating more operational efficiencies in our restaurants. One example of this is the handheld POS terminal which we are testing in some of our Denver and Chicago restaurants. This device allows us to take orders from customers who are using credit cards, while they wait in line. These customers still get the full experience of customers ordering their food, but by the time they receive their order, they have already paid for their food, which helps alleviate the bottleneck of the cash register at the end of our serving counter. Not only is this faster and more respectful of our customer’s time, but it’s also a chance to give great, personalized, customer service. In other developments, we are now at the very early stages of plans to add restaurants in Toronto, Canada. We think Toronto is a logical geographic extension for Chipotle given its demographics and proximity to some of our strong U.S. markets. We believe customers in Canada will appreciate our great tasting food, made of high quality raw ingredients. We believe that we will be able to open a restaurant in Toronto by the end of 2008, once we determine a suitable location and a proper staffing for the market. So, we still have a lot of work to do ahead including a lot of HR requirements and supply logistics associated with sourcing our high quality ingredients. But we're excited about entering the Toronto market. I am confident that the foundation we built will continue to serve us well through our mission of Food With Integrity, together with our disciplined approach to our unit economic model. With that I will turn it over to Monty.

Thank you, Steve. As you good Steve discussed today, our strong performance this quarter is due to our continued focus on things like Food With Integrity, and our culture of empowering managers and crews to reach top performance. So, when things are going well, as they are now, it’s okay to think about what can limit our growth in the future. We've always said that there are two things that could limit our growth in particular. One is our ability to find great real estate and the other is our ability to find and develop great managers to run our restaurants. In a few minutes Jack will talk more about our specific real estate plans. But for now, I’d like to say that we are very optimistic about our ability to find and develop new restaurant locations. In fact, we expect to open more restaurants than we had in any prior year. Of course, to effectively open these restaurants we require even more great managers and crews. Fortunately, our previous efforts to improve to improve the quality of our managers will give us a head start in accomplishing this. Specifically our acknowledgement that the restaurant manager is the most important position, our Restaurateur Program, our new staffing structure, our promote from within philosophy, and the great opportunity that we provide our crews are all examples of steps that we've already taken to ready us for this faster growth. The Restaurateur Program is our foundation to develop better managers. Not only does the program reward our most elite managers, but it also clearly defines the roll of every manager. As you recall, the focus of every manager is simply to develop their best crews into managers as well as building sales by running great restaurants. The Restaurateur Program continues to gain momentum and deliver better results. While about 10% of our managers today are restaurateur virtually every manager aspires to be one and is working to become one. Right now, we have we have almost 40 candidates ready to be interviewed, Steve and I planed to interview nearly all of these candidates over the next few months, while we visit their restaurants around the country. Additionally, our field leaders have identified another 80 managers who they believe will be ready to become restaurateurs over the next six to 12 months. Steve and I really enjoy these interviews and it’s inspiring to see that more and more of the candidates that we meet have the energy passion skill and desire to become restaurateurs. As a result of these efforts now have stronger managers who deliver better customer service than ever before. Even while increasing the pace of new restaurants growth, we continue to promote the majority of our managers from within. Also our management turnover continues to decline from last year and remains well below the industry average. I’m also encouraged that our focus on people is resulting in better applicants. As we travel around the country, we keep hearing about how our improved brand recognition, our marker presence, visibility and career opportunities, all together are helping to attract stronger applicants. It’s very encouraging for us to hear, especially in an environment where there is so much competition for good employees. But with all this growth we need to do more than just have great managers and crew. We also need to ensure that we have an effective and efficient fuel support system for our restaurant managers. To that end, we our working to ensure that we have strong field leaders, who are in clearly defined roles. Just as we previously worked to better define the roles of the various positions in the restaurant, we are now working to ensure that the roles and responsibilities of every field staff position are equally well defined. Quite simply we expect that every staff position be structured in such a way that it supports our efforts to identify people with potential, develop crew into managers, ensure high standards in our operations, and remove any obstacles that may be in the way of our managers being successful. It is our objective to develop our best people and let them achieve their highest potential and to remove the weak performer. Not coincidently, our best mid management staff has learnt to work well by empowering those whom they supervise. We are trying to elevate these individuals by making certain that they are in positions where they can have the greatest positive impact on as many restaurant managers as possible. The good news is that as we clearly define each role and develop stronger performer in each position, not only do we get better results, but we also gain efficiency. For example, our area managers now oversee about 7.6 restaurants each. That ratio is over 40% higher than it was just five years ago, and we expect the ratio to further expand as we develop even stronger area managers and more restaurateurs in the left over sight. We also are working with our restaurateurs to expand the scope of their leadership to help adjacent restaurants with opportunity for improvement. By doing this, we will allow the natural leadership of our restaurateurs to impact more restaurants, while further expanding the number of restaurants and area managers oversea. We are also working with our training department to create the necessary tools to assist our crews and field leadership with their development. Our focus on identifying high potential people and making them better will help ensure this success of our future fast paced growth. All these efforts of finding and developing better people whether it’s staff, management, or crew leads to a better experience for our customers. We see the results every day with crew who go out of the way to learn the names of the regular customers and even the usual orders for these customers. We see it every day with managers who spot new customers in line and take the initiative to walk them through the ordering process and introduce them to the “Food With Integrity”. We see it every day with stronger sales and a stronger brand. I’ll now turn it over to Jack.

Thanks Monty. We are really pleased that we are able to deliver these strong third quarter results and what many would describe as a difficult restaurant operating environment both in terms of customers visits as well as operating margins. These results are evidence that customers appreciate better tasting food. As a result of our investment in these higher quality ingredients, but also mean that our empowered managers and crew are providing a special dining experience for customers while effectively managing the business. As a result our comps sales increased 12.4% for the quarter on top of the 11.6% last year. This 12.4% comp was mostly driven by increased customer visits as menu price increases related to the roll of naturally raised meat contributed about 2.6%. While we expect to finish 2007 with a full year comp in a low double-digit range for 10th consecutive year of double-digit comps we do see a slight fall off of the comps starting in mid September, continuing into October. The comps have remained in double-digits. We remain confident, full year comps will be 10% or greater, although, fourth quarter comps may slip into the high single-digit range. Total revenues increased by 35.6% to $286.4 million in the third quarter as a result of new restaurant opening including 28 in the quarter along with the 12.4% increase in comps. For the nine months ended September 30th, comps were in the 10.9% and total revenues increased 32.1%. Our new economic model continues to strengthen with average restaurant volumes now over 1.7 million to the 540 restaurants that have been open at least 12 months. This is up from under 1.6 million at this time last year and just over 1.4 million two years ago. With 28 new restaurants opened during the quarter and 88 year-to-date, our total restaurants count at the end of September now total 668, all company operated restaurants. We have opened restaurants in three new markets through September including Salt Lake City, Birmingham and Iowa City and we just opened our first restaurants in Philly this month with first week sales of $46,000. We expect opening for the full year to be at the high-end of the guidance range of a 110 to 120 new restaurant openings. We continue to be pleased for the strong inventory development teams have delivered allowing us to open new restaurants evenly throughout the year and we are pleased with how our pipeline in building for 2008 so far. As a result of this very disciplined and effective approach to build inventory we now expect to open between 130 and 140 new restaurants next year. Restaurant operating margins improved by 150 basis points to 23% compared to 21.5% last year despite an increase in food costs to 110 basis points. Our restaurant level margins benefited from labor efficiencies and menu price increases associated with the introduction of naturally raised meat in certain markets. Food beverage and packaging expenses were 32.1% of restaurant sales or 110 basis points higher than last year and 20 basis points worse than last quarter and this is due to continued cost pressures associate with avocado as a result of a freeze in California earlier this year and recent freezes in Chile. Also contributing to our increased food cost are elevated levels of demand for corn, which impacts the cost of our chicken and our beef. We continue to seek mighty pressure on these items as we are looking at the fourth quarter and into 2008 and we will begin to experience pressure on cheese when our pricing protocol with our supplier ends December 31st. Labor improved a190 basis points to 26.3% versus 28.2% last year. We continue to benefit from our national labor metric along with higher average annual sales… average restaurant sales, which strolled about 150 basis points of improvement but the balance is driven by lower than expected insurance cost to now being self insured. We implemented the labor metric about this time last year so we expect to see diminishing leverage on the labor line as we move into the fourth quarter and into 2008. Occupancy cost were 6.9% of sales or 20 basis points better than last year due to efficiencies from higher sales and other operating cost decreased 60 basis points, to 11.6% as a result of inefficiencies from higher sales along with lower promotional marketing cost for the quarter. SG&A as a percent of total revenue was 6.7% for the quarter compared to 7.4% last year, primarily due to efficiencies from higher sales. A year-to-date our SG&A is at 6.8% of sales and we expect fourth quarter SG&A will be right around at 6.8% to 7% level due to the effect of seasonality. We expect G&A is percent of revenue to be slightly higher in 2008 in the low 7% range. Our 2008 G&A will be impacted by higher stock based compensation expense as the non cash accounting charge for each share or option granted will be much higher in 2008 based on a higher stock price. Equity branch are typically a true of our comp meeting in the first quarter of each year so while now we are not able to object the accounting cost the stock based compensation until the first quarter, we do expect the total non cash cost for stock based comp to be significantly higher in 2008, excluding the effect of stock based comp we do expect to see modest G&A leverage next year. To a lesser extent, 2008 G&A will also be impacted as we begin to invest in sub coding our development of the Chipotle brand outside of the U.S. which ramps the targeted as their first international market. It’s been our discipline approach and managing G&A which has allowed us to reach our state of 2008 goal as a low 7% range the full year earlier in 2007 and in fact we pushed below that original target and below 7% for the year so far. We’ll continue to use the disciplined approach in managing our G&A as we continually invest in people development and a field structure which will best support our future growth. Grilled comp for $2.4 million compared to $2.1 million last year, we opened 28 restaurants this quarter compared to 30 during the same quarter last year, the pre opening expenses are higher this year as we have a greater number new restaurants under construction. While on disposal of assets increased 10 basis points year-over-year, most of due to write-off associated with the upgrading our security system along with the normal ongoing maintenance of our restaurant. Income from operations increased 76% to $31.4 million compared to $17.9 million last year and operating margin improved 250 basis points to 11%. Year-to-date our operating margin increased 240 basis points to 10.1%. We ended the third quarter with a cash balance of just over $167 million and interest net interest income was down compared to last year, these were greater investment in tax exempt security. Effective tax rate was 37.4% for the quarter as we continue to benefit from the taxes and security and our slightly lower state taxes. For the full year 2007 we expect our effective tax rates to be right around 37.7%. And income for the quarter increased by over 74% to $20.6 million from about a $11.8 million last year and diluted EPS were $0.62 this quarter, 72% higher than the $0.36 from last year. For the nine months ended in September, net income increased 73%. Operating cash flow for the first nine months of the year totaled a $105.6 million compared to $73.5 million last year. That resulted in a strong comp sales year-to-date, we are increasing our comp guidance to the total double-digit earnings for the full year 2007. Also for 2007, we expect to open a new restaurant for the high end of our new restaurant opening range of a 110 to 120 and expect development cost to be slightly under $900,000 for restaurant. For 2008 we are introducing comp guidance in the low to mid single digit range. We expect to open between 130 and 140 new restaurants in 2008 mostly in existing markets that include markets we will enter by the end of 2007 and we continue to believe we can grow diluted EPS and average annual rate of at least 25% over the long-term. Thank for your time today. Now we would be happy to answer any questions, you might have. Operator, please open the line. Question and Answer

Thank you sir. Today’s question-and-answer will be conducted electronically. [Operator Instructions]. And we will go first to Paul Westra of Cowen And Company.

Hi, thanks. Good afternoon

Hi Paul.

Hi Paul.

Question for each of you individually, Mike if you can just talk a little bit more about I guess some of the human resources efforts, you mentioned management turn over can you give us those numbers and comment little bit more about the restaurant 12 program, what percentage of GM’s would you like to eventually get to and a question obvious you would seem to add some I guess responsibility to maybe help other restaurants in the adjacent areas. With the restaurateur we source of field management down the roads, so how much internal churn would you like to ultimately settle down at?

Yes, great question Paul. Number one, on turnover we have continued to see our turnover fall and its now in the sort of the mid 20% percent range, which is the lowest its been. As an interesting side note on turnover as a doors has been our internally promoted folks, see a lower level of turnover and then externally promoted people but actually that gap is narrowed which is such that are people we hire from the outside you have a turnover in the low 30% range and we see that as a great result because of since we are having to hire less people from outside we are able to really focus more carefully on who we hire. So that’s the need. Turnover among our crew has remained in that sort of 100%, about 106% grown. In terms of restaurateurs becoming more taking on more field management, yes it is our goal to try to leverage our restaurateurs more as a way of allowing our area managers to handle more restaurants. but we also have a twin goal of making sure that the restaurateurs remain in the restaurants where they can do the most good, actually impacting customers experiences everyday. So, what we intend to do is start associating some of our restaurateurs with new restaurants which are having less lot with certain aspects of operations and make sure that we leverage the skills of those restaurateurs into some neighboring restaurants. By doing that we will allow our area managers to handle more restaurants and so now we are going through with our regional directors and identifying throughout the country which location these restaurants first going to effect and which area managers can take on more responsibility as a result of that. So, we really taking a look at our field management make sure that each of these restaurant tour area manager or operation director, all are created and defined in such a way that maximum and possible benefit to the most people possible.

And what percentage would you like to get on 10% now of restaurateurs, would you like to get the system up to 40 or 50 or--?

We kind of… ideally we would like to have the more the better in terms of restaurateurs. If all of our managers are restaurateurs, that would be a perfect situation for us. So, our goal is as high as 100%. But we don't really chase a number in particular. What we are looking for is to make sure that when Steve and I interviewed our restaurateurs that we can continue to see greater and greater level of confidence among the first we are interviewing and that we continue to keep the bar pretty high to entry into this sort of elite class of managers. That being said, we are about to go interview almost 40 of them in the next couple of months. We are seeing in larger and larger percentage of those to whom that we are presented with being excepted into the program. So, we believe that over that 40, certainly, better than half if history is any guide will become restaurateurs and so we will increase our percentage quite a bit, just in the next couple of months. But even more exciting is the fact that there is 80 more kind of waiting in the wings in the next six to 12 months. That will be ready for interviews. And so, we are very excited to meet with them as well. And as that happens as we see more and more of these restaurateurs ready to be interviewed, it’s… that's just a function of the fact that all of our managers know what it takes to become a restaurateurs are being given more clear direction as to how to get there, more specific training as to the areas of their weakness and we thing that that will continue to increase in the amount of managers applying of the role.

Okay. That's helpful. Steve, just kind of little bit more you mentioned this new equipment test with handheld POS, what’s the goal, I guess, what’s the extensional investment and rewards of the test?

That’s very, very early, Paul. I think one of the things that we really want to do for customers is to give them through faster especially during the busy lunch period. As you know, there are so many people who want to eat at Chipotle and certainly in the busy dense areas that we usually have very, very long lines. Most of the people in those lines know exactly what they are going to order and they also have a credit card. And so, we take care of that problem before they ever start the ordering process. And so, once they get to the line, they order just as they normally would picking and choosing among all our ingredients, and then, once they finish doing that and their breed… or order is ready, then they are just free to go have a seat and they eliminate that 18 to 22 seconds POS experience, which is really not adding anything beneficial to the overall dinning experience. So, we think it’s really going to provide a lot better customer experience, especially during that busy crunch hour… hours during lunch.

So, about 20 seconds, what is the total line time currently?

I haven’t added it up, but just to sort of help you put it in perspective, the tortilla station is probably eight to 10, putting cheese and sour cream and wrapping it up, about another eight seconds or so. The expedite is pretty quick, single digits and then you tack on the POS and that’s all the way up into the high double digits, 18 to 22 seconds. So, a significant amount of time that you can save if you have allowed the guests to prepay.

What’s unique about Chipotle though is that you just need to know chicken burrito and then you can still go through and have all the choices. So, it is not a cumbersome ordering process in the line, it’s just simply the chicken burrito or steak burrito or something like that.

Great. And just two quick questions for Jack, the tax rate you got at 37.7%. You still expect that to come down over time?

Yes, Paul, we said next year to expect to stay at 37.7%. But we think we have some opportunities in state taxes. And as though opportunities materialize, we will tell you about them. They are gaining relatively small, we were at this time last year, we were about 40% so we brought it down quite a bit and now under 48% and we are going to continue to work to bring it down. But there is going to be a limit to how much we can get it down, it is going to be 10 basis points, kind of as we see those opportunities actually materialize, we will let you know through the releases.

Great. Thank you.

Thanks, Paul.

And we will take our next question from Nicole Miller of Piper Jaffray.

Thanks. Good afternoon.

Hi, Nicole.

Hi, Nicole.

Hi. Can you talk to us about… it looks like you have removed the hormone from your cheese in the quarter and did you have an opportunity for pricing because of that?

Could you repeat that question? Nicole Miller – Piper Jaffray: Sure. If… was there an opportunity for pricing in the quarter, I think you… it looks like you went hormone free on the cheese. Is that correct?

Yes, the cheese didn’t… asking that suppliers removed are only source of milk from cows that were not treated with rBGH, did not cost us more money.

Okay. One other last price increase and what are you looking for--?

No, we did not take a price increase associated with that.

Yes, we didn’t… it was… there wasn’t really an opportunity and the messaging around that would be tough, Nicole. So, most of our price increases have really been around natural meats and we do marketing and education with our customers around natural chicken and natural beef. We are running, Nicole, about 2.6% for the third quarter. We are actually right now… the pay for our right now through the fourth quarter is up to 3%. And as you know, that menu price increase is now in across the Board type menu price. It’s really just market-by-market as we've had the Food With Integrity opportunities.

That’s very helpful. Thank you. And then, have any commodities been contracted for next year?

No. We would normally contract cheese or agree on a price with our supplier for cheese, and we did that and we benefited from that for all of 2007. We have not yet done that for cheese. We’ll probably do something before the end of the year. But we're kind of watching what the… what the market would look like. So, right now, we have nothing really contracted for the next year, Nicole.

And then when we look into the development for next year, on a quarterly basis, should it be in your image of this year or is there anything that would shift that?

I really hope so, Nicole. I mean we're really proud that our inventory building was so strong this year that we almost perfectly level loaded with 30 restaurants, 30 restaurants and now 28. I would not necessarily promise you that we’ll be that perfect in terms of level loading, but inventory is nice and strong, and so, it should, for sure not be back loaded the way that we attended store clearly in a way both restaurants, so, it will be relatively even throughout the year.

And then on a labor line, was there… there was a labor system implemented last year. Where are you at in terms of seeing that in the margins?

Yes. We implemented that Nicole and it was our national labor matrix and we implemented that really at the end of the third quarter and into the fourth quarter. And so, what you’ll see is that if you go back to last year in the fourth quarter, we started to see labor leverage. We got about 30 basis points of labor leverage in fourth quarter of last year. We got zero labor leverage or virtually zero in the second and third quarters before we implemented this national labor matrix. And so, we're starting to go comp up against that, in the fourth quarter and then for sure into 2008, Nicole, so you will see much less labor leverage going forward than we've seen in the last few quarters.

Okay. And then just one kind of big picture question. The margin… obviously the margin results obviously very impressive. And on a corporate level, could you talk to us about the best performing margin unit? So, are they in classes by in terms of when they open or by region? What do those peak margins look like, and then what would either allow or prevent the corporate to have those margins over time?

Well, Nicole, the very highest margin restaurant rather than by fast food store would be based on the sale and there is an occupancy. And so, for example, we have restaurants that are doing $3 million and they are in Middle America and paying very modest occupancy costs both restaurants can easily do margins in the 30% range or higher. Your next question is what’s preventing really us achieving those types of margins across the country. Well, if we could do $3 million of volume and pay the kind of occupancy costs so we can pay Middle America, we could do that. The reality is we are not going to do $ 3 million every restaurant and we are in New York and we are in now in Philadelphia [ph] and the occupancy costs are much, much higher. So, we don't know… I think the real answer is we have not seen a limit yet to what our volume can be either by market to that individual markets that are averaging 2.5 million across the whole market. I mentioned we got individual restaurants that are well over 3 million. And so, we haven’t seen a limit to really what we can do in terms of sales volumes and we know that our new economic model and our managers focused on strengthening that model we can continue to deliver these very, very nice margins. Now the challenge ahead of us, Nicole, is that we are going comp against international labor matrix and so that's going to see to be though to see more of that labor leverage and commodity cost there’s still pressure there. We don't see really any meaningful relief in the near future and so it’s going to be tough for us to continue to deliver these margins, but our new economic model continues to be strong.

Thanks so much for your time this afternoon and congrats on a nice quarter.

Thanks Nicole.

Thank you.

And we will go next to David Tarantino with Robert W. Baird.

Hi, good afternoon. And congratulations on a great quarter.

Hi David thanks.

Jack, just a follow-up to the margin question. As you look out into 2008 with the pressure you are seeing on commodities maybe less benefit from the labor matrix, what type of same-store sales number would you need to hold restaurant level margins flat next year.

A good question, David. We don't see any worsening of commodities let’s take that off the table so commodities kind of stay where they’re at. Just normal inflation creeping all the line items. Typically need about a mid single digit comp in order for us to hold our margin,

Okay. So, with that implied you are expecting then with your guidance from margin compression next year.

Well, if food cost stay the same and if we can do something I think if we were at the high-end of that range, we could probably hold our margin if we hit the low end of our guidance range in the lower single digits, yes, I would expect to see margins degradation and the way to accept that would be for menu price increase which you have seen over the last couple of years we’re been running kind of it is in the 2% to 3% range. If we could do a couple of percent comp in transactions and a couple 3% comp in margins that in menu price that would be another way to at least keep the restaurant level margins. There’s a lot of different ways to get there, David, but if we don't do a mid single digit comp and we don't have price increases normal inflation would begin to eat away at the margin.

Okay. That's helpful. And then just a broader question about next year’s earnings growth I know you didn't give a specific target for next year, but you said you are committed to 25% plus EPS growth over the long-term. Is that what you might expect for next year and if so whether the components that get you there next year if you are just holding restaurant level margins, flat?

Yes, they would never have broken out given as you know given specific details guidance so we felt comfortable over the long term with that 25% rate, so into next year, I mean we are not going to give a specific whether it is 25% or something different than that but it is going to be more new store openings, I mean based on our current guidance, we are finishing this year with double digit. Our comp guidance, we have been low to mid single digits so that means we have to rely more on the new store openings. Now the good news is, our new store openings continue to perform at exceptional level so even though we are now over $1.7 million with our restaurants open more than 12 months, our new restaurants continue to open up at 85% of that level and so they are… they open up within striking distance, with just a year, couple of years of comp to that $1.7 million, that $1.7 million range. We also look at our restaurant… new restaurant openings as a cash… a cash flow positive within the first 12 months. And within… by the end of the first full 12 months they are not all the way up into what our average margins are today but they… they are way up there and so they are much stronger today than they have ever been before and so relying on new store openings based on a higher number of 130, 140 and based on the better quality , the quality that gets better and better every year, we feel that will be the main driver of our… of our EPS growth for next year.

Great. That’s helpful and then a broader question. What are your thoughts on expanding the brand and to international markets beyond Canada at this stage?

Well, I’ll say the same kind of thing that I said last time that I certainly think going into the big markets in Europe, U.K., France, Germany are no brainers for us. I think the concept is going to do really, really well. The whole idea of super, high quality ingredients, prepared in front of the customer served in an interactive format is something that’s going to do well. If there is one thing that we have learnt over the past 40 years is that… is that we come out of the blocks really, really strong when we have a great team in place and we pick great real estate and so that’s our plan for our International expansion. But we are not in any hurry to get there… I mean we still have thousands of restaurants that we can build in the United States so that’s where you should expect to see a lot of the short and mid term growth for us. International is a long term opportunity and we are confident that we are going to do it right, we have got the experience and we have got… we have picked out great areas to go into that we are confident are going to be real, real strong countries and cities for us. So again it looks really good but think of it as long-term expansion.

Okay. Great. Thanks a lot.

Thanks, David.

And we’ll take our next question from Stephen Rees of JP Morgan

Hi, thanks. I just wanted to ask about the need and voluntary which do sound like they’re strengthening and growing even closer to the system average. Is this a trend that we should expect to continue into next year or is there anything, I know you mentioned you are going to demote existing markets next year. Should we expect that gap to widen at all?

Well, it’s a good question Steven. First of all let me clarify. Our new store openings have grown every single year. But they haven’t closed the gap. What happened is our average for the restaurants opened 12 months or more has risen pretty dramatically over the last three, four years, really over the last five years. but what’s happened is our new restaurants over the last three years at least, has cut pace at this 85% and so, it’s grown every year at the same pace that a restaurant opens 12 months or more at the same gross rate so in terms of what's in set for next year nothing Steven that we are doing differently in terms of building our pipe line. That would cause us to believe that next year’s numbers would be higher or lower than this 85% range. We're still looking for a high quality real estate. Most of the openings are going to be in markets that we're already in. I mean we did just open up Philadelphia and you never know how restaurant two, three or four is going to be in a new market. But we're not doing anything fundamentally different that would expect that trend would change either way.

Okay. and then just for Steve. You mentioned fast food in your comments but, as you look at your consumer research on some of your more developed and mature markets like a Denver or Dallas. How is your customer using the concept today versus when it was more in it’s earlier stages. Are you still growing traffic in these units and who do you think is the right competition for you at this point is it fast food or is it increasingly casual dining?

It is an ongoing debate that we have here internally and we've even been working with some consultants, some branding consultants and we have that argument with them also. Are we fast food… are we fast casual, are we more toward casual dining but fast. I guess I can't answer that question and everybody should be excited that I can't answer that question. The answer really is that we draw from so many different places. Chipotle was built on my experiences from fine dining. I didn’t know anything else. I didn’t know the fast food rules. So Chipotle was built on fine dining classical cooking methods but done in the format that allows us to serve it fast so if you want to call it fast food go ahead, but realize that the kinds of ingredients that we use are like fine dinning ingredients and so I guess I would summarize by saying our demographics is very, very broad and we draw from all different places, from fast food, from health conscious people, from casual dinning, and certainly, not dive in the middle of where people a lot of people put us in this fast casual. But I think that's good news. I think it’s just drawing primarily from one area that's kind of limiter. So, we are excited that this is a hard thing to define.

Okay. Great. Thank you very much.

And we’ll take our next question from Mark Wiltamuth with Morgan Stanley.

Hi, congratulations on a great quarter.

Hi, Mark. Thank you.

I would like to ask a little bit about your cash levels, what are your plans for your cash and maybe a thought on CapEx and free cash flow generation moving forward?

Yes, Mark, we don't really plan to do anything different with our cash balance frankly there are limits without getting into it there are limits of what we can do in terms of buyback or dividends of any thing like that because of the separation we had with McDonalds. But we plan to we have invested it in highly liquid highly safe high quality instruments. We are doing things like… we are taking a small step into Canada. We feel like we are very privileged to have this very strong balance sheet such that if we decide that Canada opens very well and we have got a very strong team there and we want to dialed it up, we’ve got the capital to o that. I think that here in the U.S., we… the inventory building is going well our development of our people is going very well. So, we can step up our openings from this range of 130 to 140. And so, we feel privileged to be able to do that without have to go to a bank or without having to raise more money. So, we don't plan to really change our balance sheet in any kind of fundamental way. Going forward, Mark, I would expect that we’ll continue to invest the vast majority of our cash flow that generates from the business in the new restaurant and in maintaining our existing restaurants. We might takeaway from that cash balance a little bit, we might add to it a little bit, but I wouldn’t see any really dramatic change in that cash balance either way as we move forward.

Okay. And when is the restriction on the McDonalds over, so you could start doing share purchase or other activities.

Well, there really isn’t an over. There are some dates where it's a really hard and fast cant do anything and that's a couple of years October of 2008. But even beyond that, it then, Mark, boils down to facts and circumstances that we would not want to do ant thing we would be very thoughtful and careful not to do any thing that might affect the tax free nature of split up that McDonalds entered into back a year ago.

Okay. Thank you very much.

Thank you, Mark.

And we’ll take our next question from Glen Petraglia of Citigroup.

Hi, this is Jeff actually talking on behalf of Glen. How are you?

Hi Jeff.

Question for you, mention before about commodity costs and your expectation of they not going to get worse from here. If you given any thought as to maybe doing some purchase or spot purchases on cheese, for instance, for next year? Have you ever done that in the past, or is it typically all contracted?

First of all, Jeff, I don't think I said that they should not get worse. I think I said I don't see them getting better. If anything we see continued pressure and all the key commodities that have caused pressure for this year so far what we have actually… we have brought into cheese like for example this year we are not seeing any of the degradation of our margin due to cheese at all like other restaurant companies are because we did lock into with our supplier a fixed price for the entire year. We have the ability to do that again for next year. Normally, we would have done it by now. We just have kind of been waiting because the market has been so volatile. We expect that we will probably lock into a price for some maybe all of the cheese for next year so we have taken advantage of that in the past.

Okay. And then are there any pockets of consumer weakness that you maybe seeing from a regional prospective i.e. certain states not performing as well as maybe the Company average.

It's a great question and we seen that other restaurant companies have reported pretty severe weakness in a number of markets I can tell you we have not see what I would call severe weakness the way other restaurant companies are defining it. In markets like California and Florida and those hyper markets where there is a housing bubble has happened one market that we have seen some softening that other markets have as well is in Arizona in Phoenix. We’ve got about 25 restaurants there and we did see our sales are still well in the kind of mid single digits range in terms of comps, but earlier this year they were in low double digits and so we have seen impact there, but that's really the only one our sales in California continue to impress our sales in California so very, very strong. And so, we have not seen what I think you have been reading about with other restaurant companies.

And has there been any price increases in Arizona at all--?

No, there’s not although. We are hoping in the near future we can introduce nature meats to Arizona and so we think there is an opportunity to really talk to our customers and talk to them about the high quality ingredients… about nature meat. So we hope that might happen by the end of this year.

Okay. Then one last one for you. I thought you had mentioned about a potential same-store sales fall off in this coming December. Is that correct?

Well, no what I wanted to tell you is… is we did see a fall out in the second half of September.

Okay.

Ends up trouble so far, so double digits but we didn’t want anyone to expect that our comps will sequentially increase in the third quarter because that’s what a comp has done each quarter, they kind of climb from the first quarter to the second, from the second to the third. So far we have seen, it’s just a slight fall out so double digits still very strong but not as high in terms of the third quarter.

Okay. Thanks a lot.

Thanks Jeff.

And we do have time for one final question. We will go to Rachel Rothman of Merrill Lynch. Rachel Rothman – Merrill Lynch: Hey guys.

Hi Rachel. Rachel Rothman – Merrill Lynch: Same store sales first got it. I guess if you go back 58 to this time last year and the guidance that you gave out for ’07 was low to mid single digit. Can you maybe talk about what surprised you the most in terms of the comp stores this year, what drove the upside surprise and how we should think about the conservative… the conservatism of next year’s guidance in that context.

Okay. Tough question. I will give it a shot, Rachel. We were going up again when we were at the same time last year, we were looking ahead to the first quarter where we were going up against the 19.7% comp and that was very scary. We are going up again, the awareness building from the IPO which we know was significant. We are going up again, kind of an initial surge that we saw in our comps due to Cooper because we kind of had the increased awareness about food poisoning and we are much more aggressive in communicating what works for food poison and really holding out our fastest stores and telling all the restaurant managers how the stores are performing at the level that they are performing and so it was scary at the time last year to be going up again so outlook was very, very strong trying to… at this time this year, it’s still very, very difficult to predict. We now are a restaurant company that has relative 500 restaurants that are averaging over $1.7 million and so and looking ahead into next year, following on our tenth consecutive year of double digit comp we did don’t know what to expect for next year. We are not going to change what our strategies are, we are going to continue to focus on running great restaurants, so that we have great managers, developing great food and focus on “Food and Integrity”, focus on serving the very best food that we can and we hope that we both end better comps than what the guidance says but we don’t know what the comps are going to be and so we feel like it’s the appropriate guidance to give at this time. Rachel Rothman – Merrill Lynch: And then should I… sure you guys comment just a little nature contributed 150 bits of those 190 and if that is correct, does that mean that the insurance was the incremental 40. How should we think about that rolling through? Is that going to continue for the next three quarters as you now occurred a lower rate or was that a one time reversal of some prior…?

No, what… for the… you are talking about the insurance? Rachel Rothman – Merrill Lynch: Yes.

Yes, that’s a recurring number but we are going to go comp against that in the middle of next year, okay? So you will see the benefit for another quarter For the… you are talking about the insurance? Rachel Rothman – Merrill Lynch: Yes,

Yes. That’s a recurring number but we are going to go comp against that in the middle of next year. Okay, so you will see this benefit for another quarter or two and then you will going comp against them you won’t see that benefit any more. Rachel Rothman – Merrill Lynch: Okay. And then one last one, on the incentive comp or restricted shares and options, I know you talked about it being higher dollar impacts in next year G&A. Can you just talk about that given it I mean is it based on a fixed number of shares, or is it a fixed dollar amount of compensation that given that your share prices doubled, you would just be allocated fewer shares?

Well, it’s hard to perfectly answer that. Rachel Rothman – Merrill Lynch: Well I am not phrasing it well but.

And I get your question and I’ll answer to it the best I can. We don’t know what the grants are going to be and we really need to let our comp committee do that and they will look at a number of different factors that you can imagine and notice what your perfect comp rate would be but to give you an example what happens is you are layering on whatever the grants are in terms of stock and in terms of stock options whatever the grants are they are going to be at the higher price than they were last year based on stock price today. What’s removed from our stock option expense is options that were granted back in 2004 which were at a much, much lower rate and so, for example if we issue the same number of options and the same number of shares exactly as last year, and we should have done it last year price which is less than a half what we are at today, we would see a 50% increase in our stock comp from kind of $8 million to $8.5 million this year to a 50% higher number like a $12 million to $13 million number. If we issued the same number of shares as last year, at this much, much, much higher price, our stock comp would more than double. So it’s a dramatic increase. It’s going to be increasing no matter what, we don’t know exactly what the numbers are going to be, we need our comp committee to do that but we wanted to let you know that this is ahead of us and no matter how we slice it and no matter what matter we go through, its going to have a meaningful impact on our G&A next year. Rachel Rothman – Merrill Lynch: Should we think about it as a number of shares or based on the out performance that you guys have been giving this year, I guess is there any way let’s imagine?

Numbers, it’s non-cash and so last year we issued 275,000 options and a 120,000 restricted shares. And so, we don’t know what numbers are going to be issued for next year but the accounting expense that contacting our G&A it’s a non cash expense and so, I would leave it up to you in terms of how you want to deal with that non cash expense. First of the dilutive effect that will happen in the future, when a restrictions lifted and these options are exercised. Rachel Rothman – Merrill Lynch: Okay, thank you.

Thank you, Rachel.

And there are no further questions at this time. Ms. Sandra I’ll turn the call back over to you for any additional or closing remarks.

Thank you everyone for joining us. We certainly appreciate your time today.

Thanks everyone.

Thanks Dana.

Thank you. And that does conclude today’s conference call, you may disconnect at this time.