7 Things to Watch With Chipotle Earnings (and Don't Forget Bill Ackman)

 | Oct 24, 2016 | 10:00 AM EDT
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Stock quotes in this article:

cmg

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dri

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sonc

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sbux

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shak

It's that time once again when a bright light will shine on the health, or lack thereof, of embattled burrito giant Chipotle Mexican Grill (CMG) . And for the first time in a while, the trading setup ahead of the company's earnings on Tuesday evening is a true tossup.

By all indications, Chipotle will log yet another disastrous quarter of sales declines. Pick your poison as to the factors behind a potentially stunning sales drop.

First, Chipotle is trying to regain customers just as fewer people are eating out. Look no further to comments from Darden (DRI) , Sonic (SONC) and others in the food game to support that one. Also, lost in the sauce of people slobbering over McDonald's MCD alleged amazing quarter (I think it stunk) is that guest counts -- aka traffic -- were down in the third quarter for the restaurant giant.

So taken as a whole, it's highly unlikely that Chipotle will deliver a positive surprise on sales that re-engages the bullish thesis on a badly beaten-up name. The external environment is working against the company.

Then keep this in mind: the quality of the company's sales will be highly suspect. Chipotle continues to give away free food via a new rewards program at the same time it's heavily discounting. That combination is not how a company sustainably regains trust among disenchanted investors.

I think Chipotle will heavily tout its traffic-driving initiatives on its earnings call, which should only serve to raise questions about the company's ability to return to some semblance of its positive sales-and-earnings-growth self in 2017. Likely giving those comments on marketing will be Mark Crumpacker, the company's chief creative and development officer, arraigned earlier this year on charges of possession of cocaine, whom Chipotle welcomed back recently to such a critical job with open arms.

That was an unacceptable decision when it comes to a powerful executive position, especially from a company trying to dig its business out of a big hole. You think Starbucks (SBUX) CEO Howard Schultz would take back his number two executive (or top five) after he/she appears in national headlines for being part of a drug bust? Heck no. The precedent it sends throughout the organization is not a good one. (Starbucks is a holding in TheStreet's Action Alerts PLUS portfolio.)

And that brings us to the "X factor" in all of this -- activist-investor Bill Ackman, who now holds a stake in Chipotle. If Chipotle does throw up another poor quarter, will it only embolden the view on Wall Street that Ackman could be poised to launch a serious shakeup of the company? In other words, a bad quarter from Chipotle may only strengthen Ackman's hand and the reason to get long the name.

Ackman can't be happy about the decision to bring back Crumpacker, underscoring his view that the company needs a board and corporate governance overhaul.

Weighing all of the elements to this, it's probably smart to sit out playing Chipotle ahead of earnings. Here are seven things that will likely take precedent over any perceived Ackman-related noise:

-- Another quarter of very weak sales, suggesting Chipotle has permanently lost customers. That notion continues to be overlooked by Wall Street, but it's time to be factored into long-term earnings estimates.

-- Chipotle has demonstrated zero willingness to improve its corporate governance. Its board size and composition is an embarrassment.

-- The company hasn't shown that it can pull back on discounting and customers will continue to return.

-- Chipotle has lost its pricing power at a time when minimum wages are only headed higher.

-- The company will likely signal a slower pace of restaurant openings for 2017.

-- Chipotle's fourth quarter-to-date sales -- often shared on the earnings call -- are likely still running very negative.

-- Chipotle has given no indication that it will spice up its menu in 2017. The launch of chorizo isn't going to keep people engaged. The company has to start innovating. Founder and CEO Steve Ells should give the folks at Shake Shack (SHAK) a call to learn how innovation in fast food is driven nowadays (and that includes on the marketing front).

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