For years, Chipotle Mexican Grill (NYSE:CMG) defied every logical expectation for an established fast-casual restaurant. In 2014, comparable-store sales (comps) grew 16.8% -- an almost unheard-of pace for a company its size. The first half of 2015 was more of the same, with comps up 10.4% and 14.1% during the first and second quarters, respectively.
But during the summer, stories surfaced out of the West Coast about norovirus and E. coli outbreaks related to Chipotle. It didn't stop there: The food-related illness outbreak spread across the country before dying down by December. By then, the damage was done. And the company has been trying to recover since. Comps have been down by over 20% each quarter since late 2015, and shares are off 50% from their 2015 highs.
Motley Fool analyst Brian Stoffel has already declared that he'll be selling the stock when trading rules allow. But John Maxfield has no plans for selling his stake anytime soon.
Below, Brian presents his core argument for selling his shares, while John has a chance to respond to Brian's concerns.
Food safety is a catalyst, not the cause
Brian Stoffel: I was a longtime -- and vocally supportive -- shareholder of Whole Foods (NASDAQ:WFM). I loved the company's commitment to all stakeholders and its aggressive role in bringing healthy eating into the nation's consciousness. For a long time, the approach worked very well for shareholders.
Until it didn't.
Starting in 2013, the competition started crushing Whole Foods' growth ambitions. Costco, Wal-Mart, and, most notably, Kroger came out with their own in-house organic options. For the general public, this was a win-win: People are eating healthier food that is more responsibly grown for less money.
But for Whole Foods shareholders, it hasn't been pretty. Comps have been negative, and the company's shares have lost over 55% of their value since hitting 2013 highs. In short, Whole Foods really had no sustainable competitive advantage -- people will get their organic goods wherever they are offered.
While lots of people are worried about the food safety issues at Chipotle, I actually think that's a catalyst for the stock's long-term downtrend, not the cause. Instead, I'm worried about Chipotle playing out in much the same fashion that Whole Foods did.
Chipotle was the first national chain to focus on ethically sourced food made fresh in-house, with a very simple menu to boot. That first-mover status led to massive investor gains. But there's nothing to stop the competition from copying the exact same thing. Already, similarly focused competitors are cropping up like wildfire, while more entrenched players shift their menu focus.
This isn't to say I think Chipotle is doomed. I believe it will survive just fine, and they can surely count on me as a customer moving forward. But trading at 52 times trailing earnings -- and 36 times estimates for next year -- I just don't think the stock is worth what it's trading for right now.
A Chipotle bull's response
John Maxfield: What sticks out to me in Brian's argument is the distinction between the food-safety issues being a catalyst for a potential long-term downtrend in Chipotle's stock as opposed to being the cause. I find that to be extremely insightful. But I nevertheless disagree with it.
To say that the food-safety issues Chipotle has experienced over the past year are a catalyst is to suggest that they are merely contributing to an otherwise independent downward trend. The cause of that trend, if I'm interpreting Brian correctly, is the encroachment of competitors.
It'd be silly for me to claim that competitors won't move into Chipotle's space. We've seen this with Qdoba, a subsidiary of Jack in the Box, but also with the proliferation of fast-casual chains such as Noodles & Co. and Panera Bread.
But there's plenty of space for all of these companies to thrive. This is particularly true when you consider the enormous amount of market share that Chipotle and its fast-casual competitors can continue to steal away from fast-food giants such as McDonalds, Wendy's, and Burger King.
Additionally, Chipotle is still at the beginning of its lifecycle as a food chain. It's building roughly 200 new locations a year. Its same-store sales will almost certainly begin growing once again in the first quarter of next year. It has yet to expand internationally in a meaningful way. And it has a number of additional arrows in its quiver that it can deploy to boost sales at existing restaurants -- most importantly, introducing breakfast and desserts.
Let me also point out that Chipotle's management has proven to be extremely adept at capital allocation, buying back nearly 7% of its outstanding common stock since its share price plummeted in the fourth quarter of last year. As William Thorndike notes in his excellent book, The Outsiders, it's this skill that underlies the most successful CEOs in the United States since World War II.
In short, I understand why people are concerned about Chipotle's future. But as a great investor once said, one objective when buying stocks is to be "fearful when others are greedy, and greedy when others are fearful."