3 Terrible Reasons to Sell Chipotle Mexican Grill

It may take years for comps to bounce back. Chipotle's queso is a loser. Qdoba is being dumped for a pittance. These things are true, but they're not good reasons to dump the stock.

Rick Munarriz
Rick Munarriz
Dec 24, 2017 at 10:06AM
Consumer Goods

This is shaping up to be another forgettable year for Chipotle Mexican Grill (NYSE:CMG) shareholders. The out-of-favor burrito roller has seen its stock fall 22% in 2017, and that comes after a 21% plunge the year before. The market's roaring, and Chipotle's crumbling like a burrito wrapped in a Swiss cheese tortilla. The stock has plummeted 61% since peaking three summers ago. 

There are a lot of things going wrong at Chipotle these days, but that doesn't mean the shares will keep sliding. Let's go over three reasons to dump Chipotle that just don't pan out.

Interior shot of a Chipotle at Hollywood and Vine in California.

Image source: Chipotle Mexican Grill.

1. Stomp the comps

The chain is coming off another rough quarter, eventually sending the shares to their lowest levels in five years. Unit-level sales continue to be an issue. Comps have been inching higher in 2016, but we're nowhere near where the stores were in late 2015. Even though comps have climbed 1% in its latest quarter after a 22% plunge a year earlier, that still means Chipotle is just roughly 5% of the way back. Even if we look at the kinder numbers of the first nine months of the year -- where comps rose 8% after declining 19% during the same period a year earlier -- we remain far away from 2015's throughput marks.

We may never again achieve peak Chipotle, and we definitely won't be there anytime soon. The food-borne illness outbreak may have exacerbated the situation, but comps were already decelerating in 2015, before the first of the many brand-tarnishing incidents happened. Moreover, Chipotle was going to fade from its status as a cult darling even if no one got sick, given the competitive climate in fast casual. The silver lining here is that none of this means Chipotle has to be a bad investment at this point. 

Tack on the 30% slide the stock experienced in 2015, and we're talking about a deflating investment that has fallen by at least 20% for three consecutive years. It would have to soar 157% to hit the all-time highs it reached during the summer of 2015. But there are also roughly 500 more restaurants now than there were when its stock peaked. Chipotle can still beat the market without getting back its peak mid-2015 performance with all that ground to make up.  

2. Queso is a mess-o

There's no denying that Chipotle disappointed a lot of people with its version of queso. The chain blew it, and the highly anticipated rollout toward the end of the third quarter wasn't enough to lift sales to acceptable levels. Comps rose a mere 4% during the final three weeks of the period when queso was made available, and the chain's guidance suggests flat comps during the current quarter. 

This is the second major addition in as many years that has failed to live up to the hype when we consider the recently discontinued chorizo. Still, I see the failures as a positive. Chipotle realizes that its classics aren't enough, and it's picking up the pace of additions. We'll get what could be a signature dessert in 2018. We may even get a more conventional queso. There could be head-turning protein and base options added. Anything is possible, because a hungry Chipotle is no longer a content Chipotle. Queso and chorizo have fallen flat, but all it takes is a hit or two to turn things around. 

3. It's over for Qdoba

There's a lot of unfair extrapolation in light of Jack in the Box's (NASDAQ:JACK) decision to dump Qdoba. The $305 million transaction implies that Jack in the Box is taking a pittance per eatery for Chipotle's rival. Even if we only include the company-owned locations -- a more accurate comparison -- the sticker price multiples are bad news for Chipotle at its current valuation.

Hold up a sec, though. Jack in the Box is dumping Qdoba because it was dragging down the performance of its flagship burger chain. Comps declined 3% in fiscal 2017, and restaurant-level operating margin had deteriorated from 18.1% to 13.6%. Meanwhile, Chipotle, rebounding off depressed 2016 levels, has positive comps this year, with restaurant-level operating margin improving to 17.6% through the first nine months of this year. Back in 2014, Chipotle's restaurant operating margin clocked in at 27.2%, where Qdoba in its prime topped off in the high teens. The chains aren't exactly comparable, and it's not fair to assume a fire sale at a burrito roller that's much smaller than Chipotle can be fairly extrapolated. When Chipotle dumped ShopHouse Asian Kitchen, it wasn't an event that would weigh in on the value of Panda Express. 

Chipotle isn't going to have an easy road back, and the biggest problem is that fast casual has exploded beyond just burritos. The assembly-line approach has turned every ethnic cuisine into a magnet for chains serving up the bowls that defined Chipotle's rise. The marketplace is changing, and Jack in the Box doesn't have the patience or perhaps the acumen to turn Qdoba around. Chipotle is starting to take baby steps in the right direction, and it doesn't have to take big steps for the stock finally start bouncing back.