Chipotle Shares Will Probably Go Lower

Falling comps will push Chipotle's stock to a bottom, but it's not there yet

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Mar 17, 2016
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As my readers know, I have been bearish on Chipotle Mexican Grill (CMG, Financial) for a few months now. I first recommended investors to stay away from the stock when it was trading above $550 as I was expecting it to drop considerably. My price target for the stock was roughly $400.

Chipotle’s shares did drop considerably over the next few months and fell below $400 for a short period of time. However, the shares started recovering at a rapid speed and are near $480 now. I still think Chipotle is overvalued due to the falling comps, and investors should still stay away from the stock and only look to buy it near its 52-week lows.

Comps are terrible

The last quarter was probably the worst one for Chipotle as the company reported a drop in year-over-year revenue for the first time in its history. Making matters worse, Chipotle’s comps crashed 33.8% in January.

Chipotle is still in troubled waters as its recently reported February sales show. Comps dropped 28.7% as the spate of customer illness continued to deter customers. Although the decline is milder than January’s, I still think the stock can continue crashing to $400.

Keeping the declining comps in mind, I think Chipotle should not command a trailing P/E of over 33. Therefore, I think the stock can likely fall to under $400 in the coming months. The trend of falling comps is here to stay, and the company’s earnings are taking a hit in the process.

Chipotle management warned:

“During the quarter we will incur higher expenses driven by increased marketing and promotions spend in other operating costs, which are anticipated to be significantly higher in the first half of 2016 compared to historic reporting periods. We also anticipate higher food costs due to additional food safety protocols put into place, as well as higher food costs related to food waste, rejection rates related to high resolution DNA testing, and lower volumes. We have also incurred higher labor costs to ensure we were fully staffed as customers redeemed their free burrito offer.”

The "fast-casual" restaurant will need to spend a lot of money to improve its brand’s tattered image, and it will take customers many months before they can be comfortable dining at there once again. Even if Chipotle manages to regain its customers, its margins will take a hit. Hence, I think investors should stay away from the stock for the time being.

Conclusion

Due to the falling comps, I think Chipotle’s fair value is somewhere around $390. I expect the company to continue struggling, which is why investors should sell.