E. Coli Pain Could Linger for Chipotle Shareholders

Until recently, Chipotle Mexican Grill (NYSE: CMG) was one of the market’s darling growth stocks. Shares of Chipotle roared from $500 per share two years ago to over $750 per share as recently as mid-October.
But that momentum has quickly reversed course. Shares of Chipotle fell 12% in a single day after news of spreading E. coli that has been linked to Chipotle. Initially, the E. coli outbreak was considered to be confined to the Pacific Northwest region of the country. Now, it seems that more cases have popped up across the country in California, Ohio, Minnesota and New York.
Suddenly, Chipotle stock has gone from a market darling to a market dog. The company’s sales growth was headed in the wrong direction even before news of the E. coli scare. As a result, this quarter is shaping up to be very weak.

Chipotle Shareholders Starting to Panic

Chipotle’s stock price has sunk all the way to below $550 per share, and for good reason. Any questions regarding a restaurant’s food safety can be a nightmare, with long-lasting impacts.
The good news is that Chipotle has responded swiftly and appropriately. The company immediately closed more than 40 restaurants in Oregon and Washington after the first infections had been reported. And, in an abundance of caution, all food items in the store were replaced.
The bad news is that things weren’t shaping up well for Chipotle this year, even before the E. coli news. Chipotle’s comparable-store sales, a key metric for restaurant chains that measures sales at locations open at least one year, have been in a downtrend all year.
Chipotle’s comparable sales grew 10% in the first quarter, 4% in the second quarter and 2% in the third quarter. Given the unfolding E. coli situation, investors should brace themselves for a weak fourth quarter as well.
Consumers tend to be fickle when it comes to food. Even a slight perception that a restaurant’s products are unsafe will have a tangible effect on its brand image. Recently, Chipotle’s customer satisfaction scores have dropped.
According to YouGov BrandIndex, Chipotle’s customer perception level is at its lowest point in the past eight years. This is likely due to the E. coli scare, which was only in its beginning stages when the survey was conducted. Now that the E. coli infections have spread to additional states, Chipotle’s public image could continue to suffer.

Let the Smoke Clear

Given the disturbing deterioration in comps each quarter this year, and the likelihood of another slowdown this quarter, investors should be wary. Things weren’t looking good for Chipotle even without the E. coli news, and now, investors cannot rule out the possibility of declining comparable sales this quarter. That scenario would have once seemed unimaginable for Chipotle, which until recently, had all the momentum in the world working in its favor. But this speaks to how quickly things can change, especially in the food and beverage industry.
Consumers will likely return to Chipotle with time, but if the company disappoints the market when it reports earnings this quarter, investors could send the stock even lower.
Keep in mind that Chipotle has a lofty valuation. The stock trades for more than 30 times earnings. If this were a value stock, I wouldn’t mind jumping in during a difficult period. But the stock is still nearly priced for perfection, and growth investors don’t tend to stick around when growth is in decline.
Because of the further downside risk in this stock, investors should at least wait until Chipotle’s next earnings report to make sure the company has a firm grasp of the situation.

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