‘Invest in What You Know’ is one of the great ideas that the legendary fund manager Peter Lynch has given to the individual investor. There is a common behavioural bias for people to invest predominantly in stocks listed in their home countries because they feel more familiar with it. By taking note of products and services you use every day, you can increase your chances of finding good investment ideas within your home country and make the best out of this ‘familiarity bias’.
When you use Google (NASDAQ: GOOG) to search for whatever you are trying to find out on the internet, you might marvel at how intuitive and relevant the search responses are as compared with other search engines. Dig a little deeper and you might realise Google is a great company with solid financials and really interesting future projects that might have as-yet-un-thought-of benefits for society such as the self-driven car. You can then ask yourself if Google will be a suitable place for your investment dollars -this in essence is how ‘Invest in What You Know’ can be put into practice.
I invest in the US stock market even though I live in Singapore because I recognise that great investment opportunities are not limited by geography. So, when I had the rare opportunity to travel to Washington DC, I made it a point to visit USA-only restaurant stocks that I was already invested or interested in to try and obtain a first-hand experience of what it feels like to dine in there.
I depend on Motley Fool’s discussion boards for my ‘scuttle butt’ research on Panera Bread (NASDAQ: PNRA) and since I was invested, I had to visit one in DC. After finding one and ordering a beef sandwich, I took note of the pricing of their sandwiches and how it actually tasted. The décor looked inviting and there was a healthy flow of people at lunch time – nice! It felt to me like Panera was a ‘Starbucks for Sandwiches’ which is a plus for me. The sandwiches are comparatively priced with other sandwich chains I saw in Washington DC, tasted great and portions were enough to fill a hungry stomach. I know this is anecdotal as I only managed to visit one restaurant but the evidence I saw first-hand corroborated with the general opinion of what the community at Motley Fool had described to me. I like it!
I then thought about the international expansion opportunities of Panera, particularly in Asia. Using its pricing of sandwiches as a gauge, I noted that if that particular Panera was uprooted directly into Singapore, it might face a tough time because of pricing issues. The sandwiches in Starbucks were priced almost the same in USA and Singapore after conversion of currencies and they cost slightly more than a normal meal here. If I were to do so with Panera, the price of their sandwiches would be more than 2 times more expensive than what a typical Singaporean would pay for a normal meal - bear in mind that Singapore has one of the highest standards of living in Asia. Thus, I now know one important point to look out for if Panera wants to expand in Asia – pricing of their sandwiches or other food concepts it might want to try out.
My next stop was Chipotle Mexican Grill (NYSE: CMG). I like the financials shown by the company but was not as familiar with it as I was with Panera. When I saw a Chipotle along the streets, I went in for a bite and was greeted with the biggest burrito I ever saw. I now come to appreciate Chipotle’s operating style – a few excellent choices in a few categories. It looked very streamlined and efficient and probably resulted in Chipotle having lower foodcosts than other fast-casual restaurant operators; I made a note to check on that later. I was also very excited when I got introduced to Chipotle’s Asian food concept: Shophouse Southeast Asian Kitchen (courtesy of new friends I made in Washington DC - Kyle and Sarah, thank you!). The food tasted authentic and delicious and more importantly, it was prepared and served in a similar manner to Chipotle’s Mexican food restaurants – a few excellent choices in a few categories. I thought it was great that Chipotle might have another avenue for growth in Shophouse. However, after further investigation, I found out that Chipotle has only opened one Shophouse so far and plans to open only one more in 2012. Shophouse is still in the testing phase for Chipotle and management is still unsure of whether they will pursue the expansion of Shophouse aggressively.
This brought me to a corollary of ‘Invest in What You Know’ – that is, any attractive new product or service’s ability to fuel growth in a company is in direct relation to the proportion of overall sales that the new product or service is contributing. For Chipotle, which operates 1316 restaurants (from its latest quarterly filing), the number of potential Shophouse restaurants that management is looking at would not add any meaningful numbers to Chipotle’s sales and bottom line results in the next few years. Thus, any growth in Chipotle would have to come from its Mexican Grill restaurants.
I also checked out Chipotle’s average food costs over FY 2009, 2010 and 2011 as a percentage of its revenue and found out that it compares very favourably with other fast-food and fast-casual restaurant operators. The table below shows these percentages. Chipotle’s numbers are even more remarkable given that they have a ‘Food with Integrity’ philosophy where they insist on having almost all of the food used in their restaurants to be organically grown. This increases their food costs as organic food generally costs more than conventionally farmed food. Knowing Chipotle’s philosophy and from my experience at their restaurant, I have a newfound appreciation for their operating style and am even more convinced now of Chipotle’s management’s capabilities.
Restaurant
|
Food Costs as Percentage of Revenue
|
Chipotle Mexican Grill
|
31.6%
|
Buffalo Wild Wings (NASDAQ: BWLD)
|
26.5%
|
Macdonald’s (NYSE: MCD)
|
33.3%
|
Panera Bread
|
29.0%
|
Table 1 – Food cost as percentage of revenue for different restaurant operators
My trip to USA has allowed me to know two of my favourite restaurants better and even though I already knew of their financial strengths before I observed them in person, you can also employ the same mindset and inquisitive spirit in products and services that you know are commonly being used and consumed. Who knows, you might be able to discover your next super-stock, just like how Peter Lynch found Hanes when he observed his wife buying their Leggs brand stockings and marvelling at its quality. Have fun investigating!
P.S: After Peter Lynch bought Hanes’ stock, it appreciated by 600% before getting acquired!
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