Ensemble Capital Client Call Transcript: Fastenal, Chipotle, and Intuitive Surgical Updates

21 April 2020 | by Ensemble Capital

We recently hosted our quarterly client conference call. You can read a full transcript HERE.

Below is an excerpt from the call discussing our investments in Fastenal, Chipotle, and Intuitive Surgical and why we expect them to survive and thrive on the other side of COVID-related economic and business impacts.


Arif Karim:

Lets talk about Fastenal next.

Fastenal is a distribution service business for industrial manufacturing companies in the US. They make it possible to economically and efficiently move lots of small, heavy, high volume, low value parts across vast distances from Asia to the US and then coast to coast. These include things like screws and rivets to gloves, tools, and janitorial supplies. Its network of 2,100 free-standing company stores, 1,100 stores onsite at customer factories, and 100,000 vending machines at customer facilities creates a vast embedded distribution network that physically maintain the company’s relationship with its customers on a daily basis as a critical part of their manufacturing operations.

Source: Fastenal

However, in this time, we know that manufacturers of all sorts of physical goods that are non-essential in the present moment are taking a big hit to demand. But many of these products wear out over time, need refreshing, repair, or fulfill new needs in consumers’ and business’ lives. As life returns to normal over time, whatever that new or old normal may look like, we know that consumers and businesses will have a pent up demand to fill or replace those product needs. Exactly what products they will need to fill is unknown at this time, but because Fastenal serves thousands of manufacturing customer across industries, Fastenal’s services will be needed and will shift to fulfill where the demand is.

The key to benefiting from this resurgence in the future will be the ability to serve customers well as they ramp up their production. We estimate it would take a sustained revenue decline more than twice as deep as was seen during the Great Recession for the company’s profits to fall to zero while a strong balance sheet can tide the company through an extended recessionary period.  On the other hand, the company’s strong culture and renowned service performance mean that it can leverage its balance sheet strength to continue investing in new customer relationships and distribution categories while weaker competitors in this very fragmented market are caught on their back foot over the next few quarters.

Todd Wenning:

Competitive moats are not common in restaurants. Margins are typically low, and customers are fickle. But if you drive down Main Street America, you’ll find that most of the national chains you grew up with are still around. One thing we’ve come to appreciate is how difficult it is for a restaurant concept to emerge from local or regional prominence and onto the national stage. But with that national scale comes myriad benefits including spreading advertising dollars over a wider base of stores and bargaining power with suppliers and delivery aggregators.

It’s particularly difficult to scale freshly prepared food with no freezers, preservatives, or microwaves. This is one reason why we believe Chipotle is an exceptional business and started building a position in the first quarter. Indeed, it was in trying to scale freshly-prepared, quickly-served foods that Chipotle experienced the major risk of the process, namely foodborne illness. It’s hard to overstate the impact of the negative headlines that followed in 2015 and 2016. That event would have destroyed most restaurants, but not Chipotle. The company improved food handling processes and aggressively sought to win back customer trust and was successful.

Source: Chipotle

Operating company-owned restaurants (as opposed to franchises) allows Chipotle to adjust quickly to changes in the market. We were impressed, for example, by how quickly the company mothballed its planned Queso Blanco marketing plan to offer free delivery during March and April to reach customers staying home. To that point, Chipotle’s delivery and mobile order capabilities are exceptional because most of its locations have second lines to prepare mobile orders without complicating the in-store order process. In addition, about two of every three Chipotle orders are bowls, which travel better than most other quick-serve foods. Suffice it to say that Chipotle is well positioned to capitalize on delivery and mobile order trends. Before COVID, we believed Chipotle customers would slowly shift toward more digital orders and pickups – Chipotle’s highest margin order type – and delivery. Post-COVID, we believe this trend will accelerate now that more customers became used to mobile ordering during their time in quarantine.

The coming months will undoubtedly be challenging for Chipotle. Fortunately, Chipotle has a solid balance sheet with no debt. Indeed, while Chipotle qualified for government assistance through the Paycheck Protection Program, it turned down the offer. Because of Chipotle’s financial strength, we think COVID-related commercial real estate turmoil will allow Chipotle to accelerate its store buildout into excellent locations at attractive lease terms.

Before I hand it over to Arif, it’s worth noting that both NVR and Chipotle are partially exempt from business shutdown rules because both are considered essential services.

Arif Karim:

Intuitive Surgical makes robotic minimally invasive surgical systems and tools. For any of you who have watched a popular medical series in the past 5 years, you’ve probably seen an image of this 4-armed robot hovering over a patient with long pointed tools at their ends.

Source: Intuitive Surgical

In a very real sense, Intuitive’s DaVinci surgical robot allows the surgeon to gain bionic powers while improving patient outcomes. From a patient perspective, the use of previously unavailable minimally invasive surgery for traditionally open surgeries means lower infection rates, lower blood loss, quicker recovery, and lower complication rates. For the surgeon, instead of leaning over the patient and using physical strength and stamina to manipulate a patient’s tissue for hours, she sits off to the side looking into a console and controls the robot remotely with her hands and feet, which does all of the manipulation work on patients with precision, better articulation, and haptic feedback. In addition, the 3D HD endoscope attached to one of the robotic arms gives the surgeon “bionic” vision allowing for better magnification and more precise visualization with the help of fluorescent dyes to identify targeted surgical areas. A new set of augmented reality technologies will take visualization further by layering radiologic images over the endoscopic view to further improve surgical performance. AI will take performance even further, assisting surgeons’ real time operative decisions by incorporating historical kinematic data culled from millions of previous cases.

With a two decade lead in robotic surgical development, over 7 million cumulative procedures conducted, and tens of thousands of surgeons trained and experienced using the DaVinci, Intuitive Surgical is in a unique position in the future of robotically assisted surgery. It is highly profitable, and it has nearly $6B in cash on the balance sheet with no debt. While the pressure of COVID-19 patient care in the near term will impact the performance of all other elective surgeries, we believe the critical nature of most of these (about half are cancer removals) means they can only be delayed for a few months. When hospitals are able to once again normalize their patient care, Intuitive is likely to see a strong resurgence in growth of its procedures and shipments of new systems to accommodate them.

You can read the full transcript here.

For more information about positions owned by Ensemble Capital on behalf of clients as well as additional disclosure information related to this post, please CLICK HERE.

For more information about positions owned by Ensemble Capital on behalf of clients as well as additional disclosure information related to this post, please CLICK HERE.

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