Forget Guacamole, Meat Is the Real Danger for CMG Stock

by Jonathan Berr | March 6, 2014 12:16 pm

Much Internet bandwidth has been wasted regarding Chipolte Mexican Grill’s (CMG[1]) disclosure in its 10-K filing with the Securities & Exchange Commission [2]about the theoretical possibility that it might temporarily stop selling guacamole if global warming raises prices of avocados to stratospheric levels.

So far, the warning hasn’t had a negative effect on CMG stock, but based on the headlines around the Internet, you’d think the company had laid off half its workforce.

While global warming is a real thing, a guacamole-less Chipolte wouldn’t happen in a million years. With the money it has in cash and investments, the Denver-based chain can afford to hire an armada of scientist to develop a line of test-tube avocado plants that can satisfy the world’s demand for guacamole for years, if not decades to come.

Unfortunately, the media’s obsession with the “guacocalypse” caused them to overlook a bigger issue for CMG stock that was alluded to in the third page of that same filing.

Chipolte has gained notoriety for insisting that farmers humanely raise animals used for Chipolte meat, which is a noble goal. Unfortunately, finding enough supplies of “Responsibly Raised” beef and chicken isn’t easy because of the costs involved for farmers among other reasons. According to the company:

“Some of our restaurants served conventionally raised beef and chicken for periods during 2013, and some are continuing to serve conventionally raised beef, due to supply constraints for our Responsibly Raised meats. More of our restaurants may periodically serve conventionally raised meats in the future due to additional supply constraints. When we become aware that one or more of our restaurants will serve conventionally raised meat, we clearly and specifically disclose this temporary change on signage in each affected restaurant so that customers can avoid those meats if they choose to do so.”

Unlike guacamole, this is a real issue with real potential consequences. How is Chipolte, whose whole brand ethos  is based on fighting factory farms, going to be able to market itself if its going to sell beef and chicken that could just as easily wound up in food offered by competitors such as McDonald’s (MCD[3]), Burger King (BKW[4]) or Wendy’s (WEN[5])?

I don’t know the answer to that question. But the website Pacific Standard[6] points that Chipotle’s desire to do good for the environment has its limits. It even goes so far as to say that the company “has yet to roll a burrito that evades the reach of factory farming.”

Chipotle, though, will have to figure things out because it has ambitious expansion plans to add between 180 and 195 locations in 2014, most of which will operate under the Chipotle brand, increasing its location by about 12%.

The chain operates 1,572 Chipotle restaurants in the U.S., seven in Canada, six in the U.K., two in France and one in Germany along six ShopHouse Southeast Asian Kitchen and one Pizzeria Locale. The crisis in the Ukraine is pushing up prices for wheat and corn, which won’t help Chipotle or any other restaurant chain for that matter. And Pork prices are on the rise because of an epidemic of a virus that is killing young pigs.

For holders of CMG Stock, it’s a question of margins. The chain’s margins are currently at 17%[7], roughly half the 30%[8] generated by McDonald’s, and far below Burger King’s 51%[9].

But that’s unsurprising, for a few reasons. Raising organic and sustainable food isn’t as cost-effective as factory farming because these farms tend to be smaller and less efficient. Also, Chipolte is far smaller than the other chains, which puts it at a disadvantage in buying commodities that it needs to prepare its menu items.

As it continues to expand, the pressure should lessen on Chipolte.

CMG stock has risen more than 76% and trades above its average 52-week price target of as $579.35. However, CMG stock trades at a frothy price-to-earnings multiple based on this year’s earnings of about 45, well in excess of McDonald’s, which trades at a valuation on that basis of 16, and Burger King’s 28.

While analysts expect CMG stock to post double-digit revenue increases for a while, all the good news is already factored into the stock.

In other words, investors should enjoy Chipolte’s delicious burritos and take a pass on CMG stock which is bound to cause indigestion.

As of this writing, Jonathan Berr did not hold a position in any of the aforementioned securities.

Source URL: https://investorplace.com/2014/03/cmg-stock-chipotle-guacamole/

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