Why Shares of Chipotle Mexican Grill Will Fall Below $400

After the monstrous drop in January comps, Chipotle should head lower

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Feb 05, 2016
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Following the E. coli breakout, everyone was expecting Chipotle Mexican Grill (CMG, Financial) to report terrible earnings. The expectations turned to reality when the company released its Q4 earnings earlier this week.

Chipotle reported EPS of $2.17, comfortably brushing aside the analysts’ estimates by 31 cents. On the revenue front, Chipotle witnessed its first year-over-year decline in sales. Revenue came in at $997.15 million, down 6.8% year over year, missing the consensus target by roughly $12.5 million.

On the surface, the report doesn’t look that bad, which is probably why the stock has remained flat since the earnings report. However, if you dig deep, you will know that Chipotle doesn’t deserve to be trading at its current valuation, and the stock could easily fall below $400 in the coming months.

Results not impressive at all

Chipotle’s earnings beat was propelled by the stock buyback. The company spent hundreds of millions of dollars on stock repurchases ever since the company was struck by the E. coli and norovirus breakouts. The buyback consequently involved fewer shares, which in turn helped the company to beat the analysts’ estimates by such a wide margin.

On the revenue front, Chipotle reported the first year-over-year dip. For a growth company that commands a high P/E multiple, a dip in revenue growth is never a good thing. However, the revenue drop wasn’t even the worst part of the earnings. That was the comps.

Given Chipotle’s high valuation, investors always focus on the company’s comps to get an idea of how well the company is doing. After the widespread breakout, everyone was expecting the comps to drop significantly. However, over the conference call, Chipotle’s management shocked Wall Street by revealing that comps dropped 36% for January. After the drop, I was expecting Chipotle’s shares to continue falling toward $400. However, to my surprise, the stock is still trading over $470.

Granted consumers tend to forget incidents like these; however, it will take Chipotle a long time to regain its mojo. After the earnings report, the stock doesn’t deserve to be trading at 30x trailing earnings and is clearly overvalued. Investors should continue avoiding it.

Conclusion

I have been bearish on Chipotle for a few months now, advising investors to be patient and wait for a better entry point. After the earnings release, Chipotle can potentially fall below $400, which is when I would reassess the company. However, until then, investors should avoid the stock.