What’s Next For Chipotle’s Stock?

For over a decade, Chipotle has been a big winner on Wall Street. But not in the last 12 months, when it trailed the broader market.

What’s next for the stock of the popular franchise? There’s a bull and a bear case.

The Bull Case

The bull case is that Chipotle’s lackluster performance in the last 12 months is temporary due to the impact of the COVID-19 pandemic and the rising costs of materials and labor as the U.S. economy tries to adjust to the new normal. And that its business model remains sound.

“Chipotle (CMG) has a unique business model that sets it apart from its competitors in the fast-food space and, when accounted for, helps justify its perceived overvaluation,” says Liam Hunt, financial writer and analyst at SophisticatedInvestor.com. “Unlike McDonald's, CMG does not franchise to independent owners, which means that all net profits are collected directly by the company without franchisees taking a 3 or 4% commission.”

But that may not be a fair comparison. McDonald’s is the early mover in the franchise space, occupying top locations around the world. In addition, McDonald’s is a real estate trust, owning the land in most restaurant locations. These factors more than make up for the franchise commissions the fast-food giant must pay to franchise store owners. That could explain McDonald’s hefty operating and net margins, which are several times higher than those of Chipotle.

Still, there’s the company’s app, “which is expected to replace the indoor dining experience, which is forecasted to resolve expense-related issues in the long term," according to Hunt. “It was via online and in-app sales that CMG was able to improve sales by 40% in 2020 despite widespread store closures across the United States. Plus, CMG offers a substantively unique cuisine that doesn't resemble the offerings of their competitors at McDonald's, Yum, Domino's or Burger King.”

The Bear Case

The bear case is that Chipotle is running out of profitable opportunities, as evidenced by a decline in economic value added to the company from around 20% in the early 2010s to around 5% in the last five years, according to Gurufocus.com estimates.

And there’s the company’s most recent financial report, which surprised some analysts.

“We were a bit surprised to see shares up 8% after the 4Q 21 print, which featured in-line sales and an EPS beat driven by interest expense and the tax rate,” says Quo Vadis President John Zolidis, who has been following the stock closely. “RLM came at the low end of the guide and missed estimates. RLM was also the lowest of the year. Looking forward, January comps of +5% were weak, which the company attributed to Omicron and weather, although we also recall a stimulus check was paid out in January last year.”

Zolidis is puzzled by some of the company’s numbers and its ability to raise prices. For the full quarter, the company anticipates only M-HSD comps including the benefit of 10% pricing, he said.

“In other words, traffic was [5%] in January and is expected to remain negative all quarter. Despite this, the company says it still has pricing power. For 1Q 21 RLM, CMG pointed to 'nearly' 22%, which would represent a decline YOY and is below a recent consensus quarterly RLM estimate of 22.9%. A quick look at preliminary revisions shows analysts cutting forecasts.”

He has a sell rating on Chipotle’s shares.