If you are going to own stocks for the next five to 10 years, then Chipotle (CMG, Financial) is definitely a company you want to keep on your radar. JPMorgan (JPM) says the recent sales slide is just the beginning for Chipotle, but how many times have they been wrong?
I think the main reason NOT to own the stock right now is due to the high earning multiple in the midst of its current issue with E. coli. The company closed 43 stores in Oregon and Washington for about a week in November after an E. coli outbreak in the area was linked to 11 of the company's restaurants. There are many types of E. coli, and most of them are harmless. Some, however, can cause bloody diarrhea and may also cause severe anemia or kidney failure, which can lead to death. It’s a big problem for the company, but not insurmountable.
The market trades on earnings - anticipated or realized - and Chipotle has dropped its guidance steadily in the wake of the ongoing scare. It has also taken precautionary steps to ensure proper risk management. For example, the Wall Street Journal reported that Chipotle is now moving some food preparation and testing to a central kitchen. Tomatoes, cilantro and lettuce are a few of the ingredients that will now be prepared in the central kitchen and shipped to restaurants.
The question remains: Is this damaging to the company’s brand value?
A young Warren Buffett-type investor may go visit multiple locations and see if the lines are what they once were. At the same time, they should think about the future potential once (not if) this matter is put to rest.
In the last decade, Chipotle has had the type of raving fan customers that even celebrities can be jealous of. This has helped it increase revenue, profit, and market value at an accelerated rate, and garner a very high multiple on the way up.
2006:
- Sales - $823 million.
- Profit - $41 million.
- Book - $13.96.
- Price - $57.00.
Last 12 months:
- Sales - $4.5 billion.
- Profit - $529 million.
- Book - $77.00.
- Price - $495.90 (as of 9:32 a.m.).
… In the last 10 years
- Revenue grew 555%.
- Earnings grew 1,290%.
- Book value grew 413%.
- Stock price grew 791%.
I look at all investments with a baseline for growth in mind. For Chipotle, that baseline needs to be $2,000 per share by 2025, split adjusted. Based solely on the current stock price, brand stability, and historic growth, I believe this type of growth is possible in that time frame. And, that’s given we’ll have another bear market or bust as well.
But with any ongoing scandal, the end cannot be determined at this point. A point to remember is that Chipotle operates less than 2,000 stores, which could easily expand to 4,000 or more in the next decade. Each store currently generates about $300,000 in net profit, which will continue to rise simply based on the standard price increases. You will be paying (happily) $10 to $12 for a burrito at Chipotle in the future.
I see a 30% increase in cost of their food, which will be pushed to the bottom line. So, if the company has 4,000 stores in 2025 and each one earns roughly $400,000, the company will be earning $1.6 billion after tax. That puts the future value at $48 billion with today’s earnings multiple. Chipotle slashed its guidance for Q4 and rescinded its same store sales guidance for next year. Essentially, the company has no idea what to expect from a financial standpoint in 2016, which is why it’s going to be a wise move to wait for lower prices. That kind of uncertainty from a market leader causes lots of panic selling and albeit dumb decisions, selling that could continue all next year.
That’s why it’s wise to wait for the stock to reach $400, and given the recent press, it could only be a matter of time before it reaches that number.
Disclosure: I have no positions in this stock.
