Newsflash on Chipotle (CMG): Its situation still looks pretty ugly.
Yet, Chipotle shares continue to act well. Since the company began dishing out coupons for free burritos in early February, the stock has rallied about 14% as investors bet customers would flock back to the chain. On Wednesday, the day after Chipotle delivered another serious monthly sales tumble and said it would produce its first loss as a public company, the stock barely budged.
Investors continue to put a great deal of trust in Chipotle becoming Chipotle again. I can't blame them for the unbridled optimism (you should see some of the upbeat analyst notes I receive, most of which rate the stock a buy). For many on Wall Street, Chipotle was the first true restaurant growth juggernaut in their careers. Sales blew away estimates on earnings days. Earnings simply crushed it. The stock never seemed to go down. These things were the norm when covering Chipotle on Wall Street. "Bad" earnings reports were spun into being great. And you dare not ever issue a downgrade on the stock, citing valuation. I learned the detriments of doing that a few years ago -- the stock just kept going up and I lost clients at the time.
Damn you Chipotle growth juggernaut!
I have long admired Chipotle's initiative to change the business of fast food. I like that it pays its workers more than McDonald's (MCD). I love to see happy Chipotle workers snap selfies on Instagram -- to me, it demonstrates what has become a giant company having some degree of humanity. However, I believe Wall Street needs to step back for a second on Chipotle and look at the company today, and its future, through a fresh lens.
The Chipotle of today is not the Chipotle of last year or the year before that. The food-safety incidents of the past six months have rocked the foundation of the company, from how executives think about operations to what people in the restaurant are doing.
As a result of this profound punch to the face, Chipotle shares have to be re-rated. It's that simple.
The company no longer warrants its outsized premiums to the broader market. In fact, for the first time, I would say Chipotle doesn't deserve the outsized valuation metrics when compared to McDonald's. That's crazy, right? Not exactly.
While McDonald's isn't serving non-GMO food like Chipotle, its operations continue to be strengthened under CEO Steve Easterbrook, it's finding new ways to spark sales growth (all-day breakfast expansion) and is aggressively removing costs from its business model. The tailwinds are currently behind the McDonald's story currently, not Chipotle's.
Listening to Chipotle's presentation at an investor conference Wednesday really left me concerned about the company for the next 12 months. Some of my top concerns are:
1. The company may be living in a fantasy thinking it can pack its restaurants again. When people abandoned Chipotle due to food safety concerns, they found new places to eat. They questioned why they were eating Chipotle a few times a week, which due to price increases, had become an expensive proposition. Regaining such amazing brand loyalty -- during a renaissance in the fast-food business -- may never happen again.
2. When you have execs living in a fantasy, there is the propensity to over-promise and under-deliver, which could smash the stock. I believe Chipotle has not managed investor expectations correctly during this recovery. I can't blame them -- this is the first time they have ever been in a difficult spot.
3. I don't believe Chipotle is correctly thinking though staffing levels and employee hours. Demand has not bounced back as strong as Chipotle likely thought, yet it has not adjusted staffing or hours. That keeps earnings risk high at a time when the chain is investing in free-food giveaways and new food-safety procedures.
4. People are still showing an unwillingness to pay for Chipotle after redeeming their free coupons. Again, I think that shows how once-loyal customers are still having reservations about eating there and finding alternative places to dine.
5. Only 67% of the coupons Chipotle sent out since February have been redeemed. Company execs seemed ecstatic about that statistic, but I view it as pitiful. Here is a company giving away the food we all became hooked on and, yet, most people haven't rushed to the restaurants to redeem a coupon? That's a red flag.
6. Chipotle is valued by the market as not needing typical fast-food discounts to drive traffic and sales. But not only has the company rolled out coupons for free food, it's preparing to do more of this in the months ahead. While Chipotle may have no other choice, it does tarnish the brand's perceived value. Personally, it makes me question why I was paying more than $8 for a burrito all those years.
