Notes to Condensed Consolidated Financial Statements
(unaudited)
(dollar and share amounts in thousands, unless otherwise specified)
1. Basis of Presentation
In this quarterly report on Form 10-Q, Chipotle Mexican Grill, Inc., a Delaware corporation, together with its subsidiaries, is collectively referred to as “Chipotle,” “we,” “us,” or “our.”
We develop and operate restaurants that serve a focused menu of burritos, tacos, burrito bowls, and salads, made using fresh, high-quality ingredients. As of June 30, 2018, we operated 2,427 Chipotle restaurants throughout the United States as well as 38 international Chipotle restaurants. We are also an investor in a consolidated entity that owns and operates two Pizzeria Locale restaurants, a fast-casual pizza concept. We managed our operations based on nine regions during the second quarter of 2018 and have aggregated our operations to one reportable segment.
We have prepared the accompanying unaudited condensed consolidated financial statements in accordance with U.S. generally accepted accounting principles for interim financial statements and pursuant to the rules and regulations of the Securities and Exchange Commission. In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments consisting of normal recurring adjustments necessary for a fair presentation of our financial position and results of operations. Interim results of operations are not necessarily indicative of the results that may be achieved for the full year. The financial statements and related notes do not include all information and footnotes required by U.S. generally accepted accounting principles for annual reports. This quarterly report should be read in conjunction with the consolidated financial statements included in our annual report on Form 10-K for the year ended December 31, 2017.
2. Recent Accounting Standards
Recently Issued Accounting Standards
In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, “Leases (Topic 842).” The pronouncement requires lessees to recognize a liability for lease obligations, which represent the discounted obligation to make future minimum lease payments, and a corresponding right-of-use asset on the balance sheet. The guidance requires disclosures of key information about leasing arrangements that is intended to give financial statement users the ability to assess the amount, timing, and potential uncertainty of cash flows related to leases. We will adopt the requirements of the new lease standard effective January 1, 2019, and the pronouncement requires a modified retrospective adoption method. We plan to elect the transition package of three practical expedients permitted within the standard, which among other things, allows the carryforward of historical lease classifications, and we are further evaluating other optional practical expedients and policy elections. We are assessing the impact of the standard to our accounting policies, processes, disclosures, and internal control over financial reporting and we are implementing necessary upgrades to our existing lease system. The adoption of ASU 2016-02 will have a significant impact on our consolidated balance sheet because we will record material assets and obligations for current operating leases. We are still assessing the expected impact on our consolidated statements of income and cash flows.
We reviewed all other recently issued accounting pronouncements and concluded that they were either not applicable or not expected to have a significant impact on the consolidated financial statements.
Recently Adopted Accounting Standards
During the first quarter of 2018, we retrospectively adopted ASU 2014-09 “Revenue from Contracts with Customers (Topic 606),” which requires an entity to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The adoption did not have an impact on the condensed consolidated balance sheet, statements of income, or cash flows. The primary impact of adoption was the enhancement of our disclosures related to gift cards and certain promotional activity included in Note 4. “Revenue Recognition.”
During the first quarter of 2018,
we retrospectively adopted ASU 2016-18,
“Statement of Cash Flows (Topic 230): Restricted Cash,”
which requires restricted cash to be classified with cash and cash equivalents when reconciling the beginning of period and end of period total amounts on the statement of cash flows. Accordingly, we reclassified $28,536 of restricted cash into cash, cash equivalents, and restricted cash as of June 30, 2017, for a total balance of $203,673, which resulted in a $46 increase in net cash provided by operating activities in the condensed consolidated statement of cash flows for the six months ended June 30, 2017.
The adoption of the guidance also requires us to reconcile the cash balance presented on the condensed consolidated statement of cash flows to the cash balance presented on the condensed consolidated balance sheet, as well as make disclosures about the nature of restricted cash balances. See Note 3. “Restricted Cash” for these disclosures.
3. Restricted Cash
Restricted cash assets are primarily insurance-related restricted trust assets and are included in other assets on the condensed consolidated balance sheet. The table below reconciles the cash and cash equivalents balance on the condensed consolidated balance sheet and the restricted cash balance to the amount of cash reported on the condensed consolidated statement of cash flows:
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|
|
|
|
|
|
|
|
June 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Cash and cash equivalents
|
$
|
225,658
|
|
$
|
184,569
|
Restricted cash
|
|
29,560
|
|
|
29,601
|
Total cash, cash equivalents and restricted cash
|
$
|
255,218
|
|
$
|
214,170
|
4.
Revenue Rec
ognition
We recognize revenue, net of discounts and incentives, when payment is tendered at the point of sale. We report revenue net of sales-related taxes collected from customers and remitted to governmental taxing authorities. We recognize a liability for offers of free food by estimating the cost to satisfy the offer based on company-specific historical redemption patterns for similar promotions. These costs are recognized in other operating costs on the condensed consolidated statement of income and in accrued liabilities on the condensed consolidated balance sheet.
We sell gift cards which do not have expiration dates and we do not deduct non-usage fees from outstanding gift card balances. We recognize revenue from gift cards when: (i) the gift card is redeemed by the customer; or (ii) we determine the likelihood of the gift card being redeemed by the customer is remote (gift card breakage) and there is not a legal obligation to remit the unredeemed gift cards to the relevant jurisdiction.
Gift card breakage is recognized in revenue as the gift cards are used on a pro rata basis over an eight-month period beginning at the date of the gift card sale and is included in revenue on the condensed consolidated statement of income. We have determined that 4% of gift card sales will not be redeemed and will be retained by us.
Gift card liability balances are typically highest at the end of each calendar year following increased gift card sales during the holiday season; accordingly, revenue recognized from gift card liability balances is highest in the first quarter of each calendar year.
The gift card liability included in accrued liabilities on the condensed consolidated balance sheet is as follows:
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|
|
|
|
|
June 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Gift card liability
|
$
|
45,129
|
|
$
|
63,645
|
Revenue recognized on the condensed consolidated statement of income for the redemption of gift cards that were included in accrued liabilities at the beginning of the year is as follows:
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|
|
|
|
|
|
|
|
|
|
|
|
Three months ended June 30,
|
|
Six months ended June 30,
|
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Revenue recognized from gift card liability balance at the beginning of the year
|
|
$
|
6,289
|
|
$
|
6,524
|
|
$
|
30,529
|
|
$
|
31,570
|
We offered a limited-time frequency program called Chiptopia Summer Rewards during the third quarter of 2016, which allowed customers to redeem certain rewards earned through the first quarter of 2017. We deferred revenue reflecting the portion of the original rewards that were earned by program participants and not redeemed by September 30, 2016, and we recorded a corresponding liability on the condensed consolidated balance sheet. The portion of revenue allocated to the rewards was based on the estimated value of the award earned and took into consideration company-specific historical redemption patterns for similar promotions. Revenue was recognized as an award was redeemed, or upon expiration. Revenue recognized from the deferred liability for the loyalty rewards balance as of December 31, 2016 was $5,489 for the six months ended June 30, 2017. No other amounts related to loyalty rewards have been recognized in revenue for any periods presented.
5. Fair Value of Financial Instruments
The carrying
value of our cash and cash equivalents, accounts receivable and accounts payable approximate fair value because of their short-term nature. Investments are carried at fair value and are classified as available-for-sale. Investments consist of U.S. treasury notes with maturities of approximately one year. Fair value of investments is measured using Level 1 inputs (quoted prices for identical assets in active markets).
The following is a summary of available-for-sale securities:
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|
|
|
|
|
June 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Amortized cost
|
$
|
348,712
|
|
$
|
324,875
|
Unrealized gains (losses)
|
|
(443)
|
|
|
(493)
|
Fair value
|
$
|
348,269
|
|
$
|
324,382
|
The following is a summary of unrealized gains (losses) on available-for-sale securities recorded in other comprehensive income (loss) on the condensed consolidated statement of comprehensive income:
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|
|
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended June 30,
|
|
Six months ended June 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Unrealized gains (losses) on available-for-sale securities
|
$
|
108
|
|
$
|
(95)
|
|
$
|
49
|
|
$
|
(371)
|
Unrealized gains (losses) on available-for-sale securities, net of tax
|
$
|
82
|
|
$
|
(58)
|
|
$
|
(19)
|
|
$
|
(240)
|
Realized gains and losses on available-for-sale securities are recorded in interest and other income, net on the condensed consolidated statement of income. We had no realized gains or losses for the three and six months ended June 30, 2018 and 2017.
We also maintain a rabbi trust to fund obligations under a deferred compensation plan. Amounts in the rabbi trust are invested in mutual funds, which are designated as trading securities and carried at fair value, and are included in other assets on the condensed consolidated balance sheet. Fair value of mutual funds is measured using Level 1 inputs. The fair value of the investments in the rabbi trust was $16,483 and $19,887 as of June 30, 2018, and December 31, 2017, respectively. We record trading gains and losses in general and administrative expenses on the condensed consolidated statement of income, along with the offsetting amount related to the increase or decrease in deferred compensation to reflect our exposure to liabilities for payment under the deferred plan.
The following table sets forth unrealized gains (losses) on trading securities held in the rabbi trust:
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|
|
|
|
|
|
Three months ended June 30,
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|
Six months ended June 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Unrealized gains (losses) on trading securities held in rabbi trust
|
$
|
38
|
|
$
|
359
|
|
$
|
(1,585)
|
|
$
|
822
|
6. Corporate Restructuring Costs
On May 23, 2018
, we announced that we will open a headquarters office in Newport Beach, California, consolidate certain corporate administrative functions into our existing office in Columbus, Ohio, and close our existing headquarters offices in Denver, Colorado, as well as additional corporate offices in New York, New York.
All affected employees were either offered an opportunity to continue in the new organization or were offered a severance package, which was communicated throughout the week ended June 22, 2018.
As a result,
we expect to incur corporate restructuring costs aggregating approximately
$70,000
to
$80,000
.
We record severance as a one-time termination benefit and recognize the expense ratably over the employees’ required future service period. We record a liability for lease termination costs consisting of the net present value of remaining lease obligations, net of estimated sublease rentals that could be reasonably obtained, at the date we cease using a property, and measure fair value using Level 3 inputs (unobservable inputs). All other costs, including other employee transition costs, recruitment and relocation costs, other office closure costs, and third-party costs, are recognized in the period incurred.
During the three and six months ended June 30, 2018, we recorded restructuring charges of
$3,900
and a cumulative adjustment to reduce stock-based compensation expense of
$6,426
in general and administrative expenses on the condensed consolidated statement of income. Further, during the three and six months ended June 30, 2018, we recorded
$16,299
in impairment, closure costs, and asset disposals on the condensed consolidated statement of income, of which
$15,196
was lease termination and other office closure costs and
$1,103
was non-cash impairment for office-related assets.
We expect to recognize additional costs associated with the restructuring into 2019 of approximately
$57,000
to
$66,000
, including cash expenditures related to (i) employee severance and other employee transition costs of approximately
$23,000
to
$26,000
, (ii) recruitment and relocation costs of approximately
$15,000
to
$16,000
, (iii) lease termination and other office closure costs of approximately
$9,000
to
$13,000
, and (iv) third-party and other costs of approximately
$1,000
. We also expect additional incremental stock-based compensation costs associated
with the restructuring of approximately
$9,000
to
$10,000
. See Note 9. “Stock-based Compensation” below for discussion of stock-based compensation expense related to the restructuring.
Restructuring costs recorded in the three and six months ended June 30, 2018 consisted of the following:
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|
Three and Six months ended June 30,
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2018
|
Employee severance and other employee transition costs
|
$
|
493
|
Recruitment and relocation costs
|
|
207
|
Lease termination and other office closure costs
|
|
15,196
|
Third-party and other costs
|
|
3,200
|
|
|
19,096
|
Impairment for office-related assets
|
|
1,103
|
Stock-based compensation
(1)
|
|
(6,426)
|
Total restructuring costs
|
$
|
13,773
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|
(1)
|
|
Cumulative adjustment to reduce stock-based compensation expense as
we reduced our estimate of the number of certain awards that we expect will vest.
See Note 9. “Stock-based Compensation” below for discussion of stock-based compensation expense related to the restructuring.
|
As of June 30, 2018, the accruals for our corporate restructuring costs are included in accrued liabilities on the condensed consolidated balance sheet and totaled
$16,785
. The following table summarizes the activity included in our restructuring liability for the six months ended June 30, 2018:
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Balance December 31, 2017
|
|
Charges
|
|
Payments
|
|
Balance June 30, 2018
|
Employee severance and other employee transition costs
|
$
|
-
|
|
$
|
493
|
|
$
|
-
|
|
$
|
493
|
Recruitment and relocation costs
|
|
-
|
|
|
207
|
|
|
(207)
|
|
|
-
|
Lease termination and other office closure costs
|
|
-
|
|
|
15,196
|
|
|
(499)
|
|
|
14,697
|
Third-party and other costs
|
|
-
|
|
|
3,200
|
|
|
(1,605)
|
|
|
1,595
|
Total restructuring liability
|
$
|
-
|
|
$
|
19,096
|
|
$
|
(2,311)
|
|
$
|
16,785
|
7. Restaurant Closures and Impairment of Long-Lived Assets
Following an evaluation of underperforming restaurants, we determined that we will close approximately 55 to 65 restaurants beginning in the second quarter of 2018 and continuing over the next several quarters. We closed one Chipotle restaurant and five Pizzeria Locale restaurants due to underperformance during the three months ended June 30, 2018. Primarily in connection with these planned restaurant closures, durin
g the three and six months ended June 30, 2018, we recognized non-cash impairment charges of $25,166 ($18,507 net of tax, as well as $0.67 and $0.66 per basic and diluted earnings per share for the three months ended June 30, 2018 and $0.66 per basic and diluted earnings per share for the six months ended June 30, 2018). The impairment charges were recognized in impairment, closure costs, and asset disposals on the condensed consolidated statement of income and represented a write down of a large portion of the associated long-lived asset value related to those restaurants.
The fair value of the long-lived assets was determined using valuation techniques including discounting future cash flows and market-based analyses to determine resale value, both of which are Level 3 inputs (unobservable inputs).
We record a liability for lease termination costs consisting of the net present value of remaining lease obligations, net of estimated sublease rentals that could be reasonably obtained, at the date we cease using a property, and measure fair value using Level 3 inputs (unobservable inputs) based on a discounted cash flow method. During the three and six months ended June 30, 2018, we recorded $716 in connection with the restaurants closed due to underperformance in impairment, closure costs, and asset disposals on the condensed consolidated statement of income.
On July 26, 2018, we completed the closure of an additional 29 Chipotle restaurants, and we expect to incur additional charges for these and the remaining planned restaurant closures over the next several quarters as we cease using the properties for lease termination costs of approximately
$8,000
to
$17,000
and accelerated depreciation of approximately $7,000 to $8,000.
8. Shareholders’ Equity
Through June 30, 2018, we had announced authorizations by our Board of Directors of repurchases of shares of common stock, which in the aggregate, authorized expenditures of up to $2.5 billion. Under the remaining repurchase authorizations, shares may be purchased from time to time in open market transactions, subject to market conditions.
The following table summarizes common stock repurchases under authorized programs:
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|
|
|
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|
|
|
|
|
|
|
|
Three months ended June 30,
|
|
Six months ended June 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Shares of common stock repurchased
|
|
75
|
|
|
103
|
|
|
294
|
|
|
244
|
Total cost of common stock repurchased
|
$
|
28,377
|
|
$
|
46,689
|
|
$
|
96,415
|
|
$
|
104,648
|
As of June 30, 2018, $121,868 was available to repurchase shares under the announced repurchase authorizations.
Shares repurchased are being held in treasury stock until such time as they are reissued or retired at the discretion of the Board of Directors.
During the six months ended June 30, 2018, 13 shares of common stock at a total cost of $4,285 were netted and surrendered as payment for minimum statutory withholding obligations in connection with the vesting of outstanding stock awards. Shares surrendered by the participants in accordance with the applicable award agreements and plan are deemed repurchased by us but are not part of publicly announced share repurchase programs.
9. Stock-based Compensation
During the six months ended June 30, 2018, we granted stock only stock appreciation rights (“SOSARs”) on 647 shares of our common stock to eligible employees. The weighted-average grant date fair value of the SOSARs was $72.04 per share with a weighted-average exercise price of $388.86 per share with some based on the closing price of common stock on the date of grant and some at a premium to the closing price ranging from
110%
to
160%
. The SOSARs generally vest in two equal installments on the second and third anniversary of the grant date; however, 168 vest in three equal annual installments beginning on the first anniversary of the grant date and 175 vest after 18 months from the grant date. During the six months ended June 30, 2018, 298 SOSARs were exercised,
95
SOSARs were forfeited, and 1 SOSAR expired.
During the six months ended June 30, 2018, we granted restricted stock units (“RSUs”) on 110 shares of our common stock to eligible employees. The weighted-average grant date fair value of the RSUs was $325.58 per share. The RSUs generally vest in two equal installments on the second and third anniversary of the grant date. During the six months ended June 30, 2018, 3 RSUs vested and
11
RSUs were forfeited.
During the six months ended June 30, 2018, we awarded
29
performance shares (“PSUs”) that are subject to service and performance vesting conditions. The PSUs had a weighted-average grant date fair value of $327.58 per share and vest based on our growth in comparable restaurant sales and average restaurant margin over defined periods. The quantity of shares that will vest range from
0%
to
300%
of the targeted number of shares. If the defined minimum targets are not met, then no shares will vest.
During the six months ended June 30, 2018,
29
PSUs that were subject to service, market and performance conditions vested, and
24
shares that were subject to service, performance and/or market conditions were forfeited for failure to meet the specified performance levels or service requirements.
We estimate forfeitures when determining the amount of stock-based compensation costs to be recognized in each period. As a result of the transition of employees in connection with the corporate restructuring described in Note 6. “Corporate Restructuring Costs,”
we reduced our estimate of the number of certain SOSAR and RSU awards that we expect will vest.
During the six months ended June 30, 2018, this resulted in a cumulative adjustment to reduce expense of
$6,426
($4,726 net of tax as well as $0.17 to basic and diluted earnings per share). On July 23, 2018, in connection with the restructuring, we modified service requirements for certain SOSAR and RSU awards for approximately 320 employees, which will result in total estimated incremental expense of $9,000 to $10,000 and will be recognized over various employee service periods through the first quarter of 2019.
The following table sets forth total stock-based compensation expense:
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|
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|
|
|
|
|
|
|
|
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|
|
|
Three months ended June 30,
|
|
Six months ended June 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Stock-based compensation expense
|
$
|
11,660
|
|
$
|
20,783
|
|
$
|
24,036
|
|
$
|
37,476
|
Stock-based compensation expense, net of tax
|
$
|
8,575
|
|
$
|
12,713
|
|
$
|
17,676
|
|
$
|
22,924
|
Stock-based compensation expense recognized as capitalized development
|
$
|
112
|
|
$
|
393
|
|
$
|
391
|
|
$
|
630
|
Excess tax benefit (deficit) on stock-based compensation recognized in provision for income taxes
|
$
|
(431)
|
|
$
|
422
|
|
$
|
(5,973)
|
|
$
|
664
|
10. Income Taxes
The effective tax rate differs from the statutory tax rate as follows:
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|
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended June 30,
|
|
Six months ended June 30,
|
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Statutory U.S. federal income tax rate
|
|
21.0
|
%
|
|
35.0
|
%
|
|
21.0
|
%
|
|
35.0
|
%
|
State income tax, net of related federal income tax benefit
|
|
6.3
|
|
|
4.3
|
|
|
6.3
|
|
|
4.3
|
|
Foreign operations
|
|
0.8
|
|
|
0.7
|
|
|
0.8
|
|
|
0.7
|
|
Federal credits
|
|
(1.8)
|
|
|
(1.1)
|
|
|
(1.8)
|
|
|
(1.1)
|
|
Executive compensation disallowed
|
|
2.1
|
|
|
0.1
|
|
|
2.1
|
|
|
0.1
|
|
Meals and entertainment
|
|
1.6
|
|
|
-
|
|
|
1.6
|
|
|
-
|
|
Other
|
|
2.7
|
|
|
(0.2)
|
|
|
0.5
|
|
|
(0.2)
|
|
Discrete items
|
|
0.6
|
|
|
(0.7)
|
|
|
4.9
|
|
|
(0.8)
|
|
Effective income tax rate
|
|
33.3
|
%
|
|
38.1
|
%
|
|
35.4
|
%
|
|
38.0
|
%
|
The 2017 Tax Cuts and Jobs Act (the “TCJA”) lowered the U.S. corporate income tax rate from 35% to 21% for tax years beginning after December 31, 2017. The reduction was offset by an increase in the effective state tax rate due to the impact of state tax deductions at the lower federal tax rate, and the impact of non-deductible items that were added or expanded by the TCJA. The tax rate was further impacted during the three and six months ended June 30, 2018, by excess tax deficits on stock-based compensation.
In 2017, we recorded a tax benefit of $6,047, which we believed was the impact of the enactment of the TCJA. The benefit was based on currently available information and interpretations, which are continuing to evolve, and as a result, the benefit is considered provisional. We continue to update our analysis related to the TCJA as supplemental legislation, regulatory guidance, or evolving technical interpretations become available. Based on supplemental legislation issued during 2018, we recorded additional tax expense of $399 during the six months ended June 30, 2018. We will continue to refine such amounts within the measurement period as provided by Staff Accounting Bulletin Number 118. We expect to complete our analysis no later than the fourth quarter of 2018.
11. Earnings Per Share
Basic earnings per share is calculated by dividing income available to common shareholders by the weighted-average number of shares of common stock outstanding during each period. Diluted earnings per share (“diluted EPS”) is calculated using income available to common shareholders divided by diluted weighted-average shares of common stock outstanding during each period. Potentially dilutive securities include common shares related to SOSARs and non-vested stock awards (collectively “stock awards”). Stock awards are excluded from the calculation of diluted EPS in the event they are subject to performance conditions or are antidilutive.
The following stock awards were excluded from the calculation of diluted earnings per share:
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|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended June 30,
|
|
Six months ended June 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Stock awards subject to performance conditions
|
|
108
|
|
|
247
|
|
|
100
|
|
|
244
|
Stock awards that were antidilutive
|
|
2,061
|
|
|
1,506
|
|
|
2,144
|
|
|
1,482
|
Total stock awards excluded from diluted earnings per share
|
|
2,169
|
|
|
1,753
|
|
|
2,244
|
|
|
1,726
|
The following table sets forth the computations of basic and diluted earnings per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended June 30,
|
|
Six months ended June 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Net income
|
$
|
46,884
|
|
$
|
66,730
|
|
$
|
106,330
|
|
$
|
112,850
|
Shares:
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average number of common shares outstanding
|
|
27,819
|
|
|
28,649
|
|
|
27,865
|
|
|
28,699
|
Dilutive stock awards
|
|
116
|
|
|
151
|
|
|
77
|
|
|
126
|
Diluted weighted-average number of common shares outstanding
|
|
27,935
|
|
|
28,800
|
|
|
27,942
|
|
|
28,825
|
Basic earnings per share
|
$
|
1.69
|
|
$
|
2.33
|
|
$
|
3.82
|
|
$
|
3.93
|
Diluted earnings per share
|
$
|
1.68
|
|
$
|
2.32
|
|
$
|
3.81
|
|
$
|
3.92
|
12. Commitments and Contingencies
Data Security Incident
In April 2017, our information security team detected unauthorized activity on the network that supports payment processing for our restaurants, and immediately began an investigation with the help of leading computer security firms. We also self-reported the issue to payment card processors and law enforcement. Our investigation
detected malware designed to access payment card data from cards used at point-of-sale devices at most Chipotle restaurants, primarily in the period from March 24, 2017 through April 18, 2017. The malware searched for track data, which may include cardholder name, card number, expiration date, and internal verification codes; however, no other customer information was affected. We have removed the malware from our systems and continue to evaluate ways to enhance our security measures.
We expect that substantially all of our investigation costs will be covered by insurance; however, we may incur legal expenses in excess of our insurance coverage limits associated with the data security incident in future periods. We will recognize these expenses as services are received.
As of June 30, 2018, we had a balance of $30,000 included in accrued liabilities on the condensed consolidated balance sheet which represents an estimate of potential liabilities associated with anticipated claims and assessments by payment card networks in connection with the data security incident. We may ultimately be subject to liabilities greater than or less than the amount accrued.
Litigation Arising from Security Incident
On May 4, 2017, Bellwether Community Credit Union filed a purported class action complaint in the United States District Court for the District of Colorado alleging that we negligently failed to provide adequate security to protect the payment card information of customers of the plaintiffs and those of other similarly situated credit unions, banks and other financial institutions alleged to be part of the putative class, causing those
institutions
to suffer financial losses. The complaint also claims we were negligent per se based on alleged violations of Section 5 of the Federal Trade Commission Act and similar state laws. The plaintiff seeks monetary damages, injunctive relief and attorneys’ fees. On May 26, 2017, Alcoa Community Credit Union filed a purported class action complaint in the U. S. District Court for the District of Colorado making substantially the same allegations as the Bellwether complaint and seeking substantially the same relief. The Bellwether and Alcoa cases have been consolidated and will proceed as a single action.
On June 9, 2017, Todd Gordon filed a purported class action complaint in the U. S. District Court for the District of Colorado alleging that we negligently failed to provide adequate security to protect the payment card information of the plaintiff and other similarly situated customers alleged to be part of the putative class, causing some customers to suffer alleged injuries and others to be at risk of possible future injuries. The complaint also claims we were negligent per se based on alleged violations of Section 5 of the Federal Trade Commission Act and similar state laws, and also alleges breach of contract, unjust enrichment, and violations of the Arizona Consumer Fraud Act. Additionally, on August 21, 2017, Greg Lawson and Judy Conard filed a purported class action complaint in the U. S. District Court for the District of Colorado making allegations substantially similar to those in the Gordon complaint, and stating substantially similar claims as well as claims under the Colorado Consumer Protection Act. The Gordon and Lawson/Conard cases have been consolidated and will proceed as a single action.
We intend to vigorously defend each of the aforementioned cases,
but it is not possible at this time to reasonably estimate the outcome of or any potential liability from these cases.
Although certain fees and costs associated with the data security incident and the aforementioned litigation to date have been paid or reimbursed by our cyber liability insurer, the ultimate amount of liabilities arising from the litigation may be in excess of the limits of our applicable insurance coverage.
Receipt of Grand Jury Subpoenas
On January 28, 2016, we were served with a Federal Grand Jury Subpoena from the U.S. District Court for the Central District of California in connection with an official criminal investigation being conducted by the U.S. Attorney’s Office for the Central District of California, in conjunction with the U.S. Food and Drug Administration’s Office of Criminal Investigations. The subpoena required the
production of documents and information related to company-wide food safety matters dating back to January 1, 2013. We received a follow-up subpoena on July 19, 2017 requesting information related to an illness incident associated with a single Chipotle restaurant in Sterling, Virginia, and another follow-up subpoena on February 14, 2018 requesting information related to an illness incident associated with a single Chipotle restaurant in Los Angeles, California. We intend to continue to fully cooperate in the investigation. It is not possible at this time to determine whether we will incur, or to reasonably estimate the amount of, any fines or penalties in connection with the investigation pursuant to which the subpoenas were issued.
Shareholder Derivative Actions
During the three months ended June 30, 2018, all of the pending shareholder derivative lawsuits described in our previous quarterly report on Form 10-Q were resolved.
Shareholder Class Actions
On January 8, 2016, Susie Ong filed a complaint in the U.S. District Court for the Southern District of New York on behalf of a purported class of purchasers of shares of our common stock between February 4, 2015 and January 5, 2016. The complaint purports to state claims against us, each of the co-chief executive officers serving during the claimed class period and the chief financial officer under Sections 10(b) and 20(a) of the Exchange Act and related rules, based on our alleged failure during the claimed class period to disclose material information about our quality controls and safeguards in relation to consumer and employee health. The complaint asserts that those failures and related public statements were false and misleading and that, as a result, the market price of our stock was artificially inflated during the claimed class period. The complaint seeks damages on behalf of the purported class in an unspecified amount, interest, and an award of reasonable attorneys’ fees, expert fees and other costs. On March 8, 2017, the court granted our motion to dismiss the complaint, with leave to amend. The plaintiff filed an amended complaint on April 7, 2017. On March 22, 2018, the court granted our motion to dismiss, with prejudice. On April 20, 2018, the plaintiffs filed a motion for relief from the judgment and seeking leave to file a third amended complaint, and a ruling on the motion remains pending.
Additionally, on July 20, 2017, Elizabeth Kelley filed a complaint in the U.S. District Court for the District of Colorado on behalf of a purported class of purchasers of shares of our common stock between February 5, 2016 and July 19, 2017, with claims and factual allegations similar to the Ong complaint, based primarily on media reports regarding illnesses associated with a Chipotle restaurant in Sterling, Virginia. We filed a motion to dismiss the amended complaint on February 12, 2018, and a ruling on the motion remains pending.
We intend to continue to vigorously defend the Ong and Kelley cases, but it is not possible at this time to reasonably estimate the outcome of or any potential liability from either of these cases.
Miscellaneous
We are involved in various other claims and legal actions that arise in the ordinary course of business. We do not believe that the ultimate resolution of these actions will have a material adverse effect on our financial position, results of operations, liquidity or capital resources.
However
, a significant increase in the number of these claims, or one or more successful claims under which we incur greater liabilities than we currently anticipate, could materially and adversely affect our business, financial condition, results of operations and cash flows.