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Will 26 Million Free Burritos Bring Diners Back to Chipotle Mexican Grill, Inc.?

By Motley Fool Staff - May 4, 2016 at 9:07PM

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After months of grappling with an E. coli outbreak, the Mexican chain is pulling out all the stops to recover sales and win back customers’ hearts.

Remember just last year, when Chipotle Mexican Grill (CMG -0.04%) was the restaurant that everyone else in the space dreamed about being? The chain had a sterling reputation, loyal customers, and a clear path for growth.

But, of course, a lot has changed since then and the company now needs to win back its customers and climb out of a pretty big hole.

In this clip from the Industry Focus: Consumer Goods podcast, Sean O'Reilly and Vincent Shen talk with former host Mark Reeth about how far Chipotle has fallen since Reeth left the show around a year ago. Also, they look at some of the efforts the company has made to reverse the pain, and how badly its E. coli/norovirus disaster will likely end up hurting the company in the long run.

A transcript follows the video.

This podcast was recorded on April 26, 2016. 

Sean O'Reilly: So, first and foremost, the topic that we always found ourselves talking about was of course restaurants. Specifically, we'll hit up McDonald's here in a second, but Chipotle, and back when we did our little deal, they were ... comps were in the mid-teens.

Mark Reeth: Absolutely. Chipotle was the fast-casual restaurant chain of the future, and everyone wanted to be them. I actually looked up the numbers. It was very easy to see --

O'Reilly: Do you deal with numbers anymore? Just kidding.

Reeth: A little bit, I'm more of a people person now. But, the stock is down 30% since April 26th, 2015, just to give you an idea of how far the mighty have fallen since you and I last talked about Chipotle. And, obviously, we could go over all the different issues that it's had over the last couple of months with the health stuff, the norovirus ...

O'Reilly: The poisoned cilantro. (laughs) 

Reeth: The E. coli. But, you know, it was actually funny, taking this trip back down memory lane, I had forgotten about the fact that for nine months there, Chipotle wasn't selling carnitas. Remember that? No one talks about the carnitas issue anymore, mainly because it seems relatively small compared to E. coli. It's understandable. But when I was thinking about it, I was taking a look back at the charts, and you can see how once Chipotle stopped selling carnitas, there's really only a small dip in the charts, it really didn't affect the company all that much.

O'Reilly: With comps and sales and all that.

Reeth: In terms of sales, in terms of just share price, as well. Which is really weird to me, thinking back on it now. At the time, when we talked about it, we just kind of shrugged it off. But, for three fourths of a year, the company wasn't selling one of its main food ingredients, and nothing happened to Chipotle.

Nothing adverse effect of the stock at all. And I think a large part of that had to do with good will. And I think we always talked about that, too, about how Chipotle, like we said, it was all the way up here. It's the food with integrity. Everyone wants to be Chipotle, everyone wants their food to have integrity. One day Chipotle finds out their carnitas don't have integrity, so they stop selling them. 

And people, instead of punishing the stock for losing sales because it's not selling carnitas, they praise the stock because the good will is so thoroughly embedded in that company. Food with integrity, they're sticking with their guns, they're not selling carnitas, it's for the benefit of everybody, and then E. coli struck, and now we're down 30% in the last 12 months.

O'Reilly: They're trying to make good on it. We went a couple weeks later, because they were giving away free burritos. But, they actually closed every store for a day so they could have a companywide meeting. And now, I was preparing the notes for this show, I don't have a ton, but, they said, "We're going to lose about $1 per share this quarter." It is staggering, the difference that's happened here.

Vincent Shen: And, a big part of the swing, too, is, the carnitas thing that you mentioned, that's pre-emptive. And that's something they basically had control over. 

O'Reilly: So they got rewarded.

Shen: They decided to no longer offer that. In this case, with the E. coli outbreak, they had no control over that. Once the sicknesses started being reported, and the CDC got involved, the press will take that and gladly run with it. And once the CDC wrapped up their investigation, they could never even found the source, because Chipotle, frankly, has a lot more fresh ingredients than your average express --

O'Reilly: It's actually harder to control, yeah.

Shen: So, combine that fact. But what's the CDC did end their investigation, it's not like it was on the front page of these different media websites like, "Oh, it's OK again." Chipotle, now, what you mentioned with Town Hall, when they closed for five hours on that day in February, now they're trying to lure everybody back in. They mentioned, actually, they had 5.3 million requested free burritos, because they gave that rain check offer. 

O'Reilly: I would think that 300,000 of those were actual, legitimate ruined lunch plans, and the rest ... (laughs) 

Shen: I would say, probably a quarter of those distinct people, and a lot of the others were people doubling up.

O'Reilly: Did you get one?

Reeth: Of course I did! What are you crazy? Think E. coli will scare me away from free Chipotle burritos?

O'Reilly: (laughs) I don't think anyone at this table stop going there.

Reeth: Heck no, absolutely not.

Shen: It was nice, because for once, I didn't have to wait in line.

O'Reilly: A shorter line, it's great. And, these people in my building, I ran into a friend of mine in the lobby, and he was like, "Oh, did you hear they're closing all the Chipotles forever because of E.coli?" I'm like, "The company's fine." (laughs)

Reeth: Well, the company is fine. I think deep down, the long-term growth of the company is still pretty assured. Chipotle reports earnings, I think, today, actually.

Shen: Yes they do, after the close.

Reeth: Later today, yeah. So, there's going to be a lot to watch there. Analysts are expecting huge drops in revenue, and smaller ones in EPS. I think the main thing to watch, and you both touched on it with the free burritos, Chipotle is doing everything in its power to lure customers back to its stores. We might be joking around about how E. coli isn't scaring us off from our burritos, but it scared a lot of people off. And they've been spending so much money to bring those people back, with free burrito days, and think about how much money you lose countrywide if you close all of your stores for five hours. You think, five hours, that's nothing; but that adds up. 

I think, this quarter, we're going to see a lot of drops. I really just want to see, like I said before, the good will return to this company. I think once it regains customer trust, then you'll see the numbers tick back up. I think Chipotle still has a lot of long-term growth ahead of it. I think people will trust it once more sometime in the future. Probably not tomorrow, probably not until the CDC gives it the all clear one last time. But, I'm not worried about Chipotle over the long-term.

O'Reilly: I'm also curious to see, before we move on to talking about the golden arches, if they'll keep buying back their stock. They actually bought back $787 million worth of shares between November 1st and March 14th, at an average price of $493 a share, so not quite profitable yet. They're at $440.

Shen: But, keep in mind, during their peak, I think in August of last year, they were trading over $750. 

O'Reilly: This is a bargain, yeah, it's great.

Shen: For them, that could be seen as a very wise allocation of their resources. Those vouchers, by the way, which, my brother managed to collect 15 in his apartment building, and he's gradually going through them. They sent out 21 million of those in stages.

O'Reilly: Wow!

Shen: The direct mailers only see a redemption rate of about 30%, call it.

O'Reilly: That's it?! Really?

Shen: Yeah. Whereas, the digital one, the 5.3 million rainchecks during the Town Hall, they see a 60-70% redemption rate. So, a lot of money being spent on promotions, for sure. But, how much to lose, it's not like they're giving away 26 million free burritos.

O'Reilly: If any of you listeners out there have an unredeemed coupon, please mail to Fool Headquarters in Alexandria, Virginia.

Reeth: Just pass them along.

O'Reilly: Care of Sean O'Reilly. (laughs) 

Reeth: Start stacking them all up. 15?!

Shen: Yeah.

Reeth: Oh my gosh, that's great.

Shen: People just throw them away!

O'Reilly: 30% redemption rate ...

Reeth: That's five days of meals, three square Chipotle meals a day.

Shen: Exactly.

O'Reilly: In fact, if you get the loaded bowl, you could make two meals out of that.

Reeth: Makes a lot of sense. Thrifty.


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