Sell High on Chipotle?


Popularity, as any teenage girl can tell you, represents a very mercurial and sporadic quality.  Those who become popular today may grow disliked or even hated tomorrow and vice-versa, as evidenced by George W. Bush's approval ratings from 2002 to 2008 or by LeBron James choosing to return to Cleveland in search of a title with his hometown team.  The popular choices of Wall Street can turn on a dime as well, going from hot topics to cold fish in the blink of an eye.  Only a few months ago the Mexican fast-food joint Chipotle looked like a sure thing to investors, opening huge numbers of new stores while squeezing out fantastic new sales volume growth rates for individual restaurants.  After reaching an all-time high in mid-October, however, shares of Chipotle stock (CMG on the NYSE, trading for $592 per share) have become the black sheep of November, dropping by nearly 25% in less than a month.  Should investors jettison their shares in shredded beef and sour cream, or does the company have a delicious comeback story in mind?

Getting There

The story of Chipotle's rise to fame could hardly have a more all-American flavor (other than, of course, the food itself).  The burrito chain kicked off its first sale in a suburb of Denver where a former Culinary Institute of America chef, current CEO Steve Ellis, decided he could create a unique spin on Mexican fare.  Starting his business with less than $100,000 to cover all expenses, Ellis calculated he needed to sell about 100 burritos per day to stay in the black; two more locations would pop up within two years, followed by a minority investment from McDonalds within five years.  The company went public in 2006 and saw its stock grow by no less than 100% on the very first day of trading, representing the best growth streak for an American company in six years (McDonalds, for their part, invested $350 million in Chipotle and sold their shares for $1.5 billion).  Their growth could hardly be better over the next decade, winning customer satisfaction awards while expanding to new markets with near-unfettered success and maintaining a positive image with organic, non-GMO products.  Between 2006 and 2012 their stock grew ten-fold, then almost doubled again by 2015.  Yet what goes up must come down and any company can only go so long before a scandal rocks their bottom line.  In Chipotle's case, the issue proved to be the same that cost Burger King so dearly in the 1990s: the E. coli bacteria.

From Small Origins

Fears over E. coli often prove overblown: any one of us has a billion or so of the organisms within our intestines at any point in time.  Indeed, the vast majority of E. coli bacteria help to digest food, but the occasional specimen that contaminates food causes serious health consequences.  While standard food poisoning only keeps you from going to work for a day or so, food poisoning brought on by E. coli can prove lethal, especially to children.  Chipotle experienced an outbreak of E. coli in their northwestern chains that forced the company to close down several dozen restaurants in Washington and Oregon after the hospitalization of customers created a public outcry.  This came on the heels of a norovirus outbreak in California (which also results in food poisoning, but of a less-serious nature) and salmonella in a Minnesota restaurant.  One outbreak can be a forgettable occurrence and two may be a coincidence, but three indicates issues with the company's supply chain.  It would prove easy for Chipotle to side-step health concerns by adding preservatives to their food, as major competitor Panera Bread does, but the Mexican fast-food chain prides itself on fewer additives to their meals and more natural ingredients.  Indeed, Chipotle goes out of its way to mention this to shareholders, with frequent reminders that the company takes on more financial risk due to the use of fresh and not frozen or preserved ingredients, and with notes that issues with their supply chain can result in higher prices passed on to customers.  While the closure of a few dozen restaurants out of a total of 2000 US locations doesn't matter much in the big picture, the company's trading price on Wall Street reflects public confidence, which has soured on the restaurant for the time being. 

Fixture Factors

It's not likely that the Chipotle downturn will last long.  The company has a fantastically loyal customer base that most restaurants would kill for.  Many health scandals blow over in time, furthermore, as a problem is corrected and millions of meals served each day without qualm restore order.  Yet the decline should not be underestimated.  Chipotle stock currently trades at 52-week lows, having lost all of its gains in 2015 and reeling from only two trading days of net positives in the past month.  Investors have the right to be cautious about Chipotle, especially if they've only bought in recently and have not seen as much growth as they had hoped for.

  • The Takeaway: selling on Chipotle depends on your current portfolio more than it does Chipotle stock itself.  There's still ample room for the company to grow in the long term, and investors without any impending needs should keep it and ride out the storm.  Investors who want more liquidity or more wiggle room in their portfolio, or those who don't want to wait until 2016 or 2017 to recoup losses, should consider selling high in order to reap the benefits of their faith in the company over the months or years.
  • Investors without any shares in Chipotle have a good chance at a value buy today; investing in Chipotle at current prices is like investing in the company a year and a half ago.  Remember that the growth has not been tapped out: Morningstar projects Chipotle to enjoy a 30% margin rate within the next five years, a statistic that's extremely rare on Wall Street.

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