Today's edition of the Saxo Morning Call features the SaxoStrats team discussing the continuing weakness of the US dollar as commodity prices recover ground and in the wake of key US equity indices hitting all-time highs Thursday.
Article / 24 October 2012 at 9:01 GMT

Chipotle Mexican Grill – No longer a ‘sizzling hot' stock?

Partner - Senior Portfolio Manager / PP Capital Asset Management

Executive summary

  • Valuation nearly halved since April peak - now at USD 7.5 bn
  • Q2 and Q3 earnings disappointed
  • Stock heavily punished for missing analysts’ expectations
  • More slowdown ahead yet valuation is approaching reasonable level

For the past few years, Chipotle Mexican Grill (NYSE:CMG) has seemed unstoppable, growing its market share and stock value until its Q2 earnings call. From early 2006 until mid-2012 the company’s stock gained 874 percent! The second half of this year has however signaled a significant slowdown that has affected its rich valuation.

Analysts have been somewhat bullish on the stock, even though the fundamentals of the company have not really been supporting its high value. At its peak in April, the burrito maker was valued at USD 13.7 bn. The valuation has however been nearly halved since its peak, and now stands at USD 7.5 bn. It seems as if investor’s perception of CMG is changing fast. Investors have been dumping the stock in recent weeks pushing its price down 30 percent in the year to date.

It all started with the Q2 earnings call. Despite delivering the eighth consecutive quarter of 20 percent (or more) revenue growth, the stock was heavily punished for missing analysts’ expectations by just a few percentage points. 

CMG Stock Price Performance

Last weeks’ earnings call showed a similar pattern. The share price slumped on conservative same store sales guidance combined with a brief miss on analysts’ expectations. Despite missing analysts’ expectations, CMG delivered 18.4 percent growth in revenues, 19.6 percent growth in net income as well as growing same store sales by 4.8 percent. Not really the worst performance for a restaurant chain, but the results signal a slowdown in growth.

Yet another reason why investors have dropped the stock the past weeks is David Einhorn’s comment, recommending CMG as a short candidate due to the competition from Taco Bell’s higher quality Cantina Bell. On his comment alone, the stock dropped nearly 6 percent.

Diminishing growth
After its very impressive performance from mid-2010, where year-on-year revenue growth exceeded 20 percent and growth in same-store sales surpassed 10 percent for seven quarters in a row, CMG’s growth is now declining. It is however not only CMG that is facing a decline in sales growth; it is an industry-wide experience – even the stable McDonald’s is experiencing a decline. CMG is just being punished more heavily because it is a growth stock.

CMG - Revenue Growth

With lower than expected results in Q2 and Q3, management expects the downtrend to continue in 2013. The main reason why investors dumped CMG’s stock in the market after its Q3 announcement is management’s weak same-store sales guidance. Management expects same-store sales to be ‘flat to low-single digit’ in 2013, compared with a mid-single digit for the full year 2012.

Management furthermore expects food costs to increase 3 to 6 percent in 2013, and has no intention to pass such an increase on to its customers, which will most likely squeeze CMG’s 2013 margins. 

CMG - Same-Store Sales

Is there room for more growth?
CMG is in a ‘punishing stage’ so to speak. Investors are not sure whether to sell, buy or hold this stock. Analysts say hold, despite lowering their estimates based on the company’s 2013 guidance. I personally believe the stock price will be punished even further in the market in the coming weeks and short interest in the stock will likely increase, following Einhorn’s comment.

I fully agree that CMG’s valuation has been steep in the past, but now it is moving closer to reasonable levels. 

CMG vs. Peers

Despite the setback, (if you can call growing your revenues by 18-20 percent a setback) in the past two quarters I believe CMG still has the potential to grow. We could be looking at a challenging year ahead, but international markets are a hot prospect and can definitely cater for additional growth.

If you are looking for exposure within the industry but your 'investment stomach' cannot handle Mexican Grill, you can always go for McDonald’s… the safer choice. 


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