- A bearish call dating back to 2015.
- Earnings disappoint, and the stock breaks $300 per share.
- Ackman has queso on his face.
- Reputation in the food business is everything.
- More room on the downside?
Stocks have been on fire over recent weeks, but when it comes to one beleaguered fast food chain, the price action has been just awful. Last week, Chipotle Mexican Grill (NYSE:CMG) reported earnings and investors and traders have been selling the stock mercilessly in the aftermath.
CMG was a darling of Wall Street as their marketing approach of fresh and healthier fast food took the share price to $758.61 in August 2015. However, nothing is worse than customers coming down with intestinal distress in the restaurant business and when it comes to Chipotle the widespread nature of cases of a lot more than indigestion caused the share price to swoon. The company responded by stating it was cleaning up its act and even hedge fund manager Bill Ackman got onboard with the plans to reestablish Chipotle as the healthy alternative to burger and chicken joints and other Mexican establishments that offer fast and cheap food for those of us on the run.
Unfortunately for Chipotle, it has been a long and hard road to climb back into their customer’s favor after making so many sick to their stomachs. I have not liked the prospects for CMG since the sickening news about the company first broke in 2015.
A bearish call dating back to 2015
On November 9, 2015, I wrote my first bearish article on Chipotle Mexican Grill. At the time, the price had declined from the all-time peak to around the $612 per share level. One month later, I explained that CMG had run into an “iceberg of indigestion” as the price fell below the $600 per share level. On June 20, 2016, the price of CMG declined to below the $400 per share level, and I said, “In my article in late December 2015, I projected a $300 target for CMG shares… the price of Chipotle shares continues to dry heave as the target audience has decided not to play Russian roulette with their stomachs.” On Tuesday, October 31, 2017, the price of CMG stock traded in a range from $264.90 to $270.30.
Earnings disappoint, and the stock breaks $300 per share
The latest bought of selling that has taken CMG through my target price on the downside came after the company released third-quarter earnings on October 25. Wall Street analysts had expected earnings of around $1.63 per share and the company came in with a number at $1.33 per share and the company narrowly missed its revenue target at $1.14 billion reporting $1.13 billion. The company lowered its guidance for the rest of the year when it told the market that it expects same-store sales growth at 6.5% down from the high single digits. The company also lowered its new store range. Earnings were disappointing, and the price of CMG fell through the $300 level like a hot knife through butter.
Ackman has queso on his face
Wall Street hedge fund guru Bill Ackman purchased 10% of CMG shares in September 2016 at an average price of $416 per share. These days, Pershing Square is nursing a horrible case of financial indigestion with the price of the company’s shares dropping over 35%.
Over recent months, Chipotle expanded their menu to include queso and some analysts, including Ackman, believed that the Mexican cheese offering would increase sales and cause the share price to rally. However, the most recent earnings have left the hedge fund manager with queso on his face as losses mount on his long position in CMG shares. In a recent interview, Ackman told reporters that, “The entire investment team is going to be eating Chipotle until the stock price is $500.” After all of the troubles at the fast food establishment, Ackman and his associates appear to be willing to risk real intestinal issues alongside their severe case of financial indigestion.
Reputation in the food business is everything
As I pointed out in a series of articles since the problems for CMG started back in 2015, reputation in the food business is everything. Consumers have so many choices as they drive past strip malls and walk down streets in the United States when it comes to fast food. Memories widespread reports of e-Coli and stomach issues have continued to reduce the addressable market for the establishment. As I wrote in my most recent piece on the company on July 26 of this year, “With the stock at $350 and threatening to go lower, it is time for a major overhaul of the company, and that does not necessarily mean replacing the management. It is time for CMG to operate under the supervision of more experienced and seasoned hands in the food services industry.” At this point, and price level on the company’s shares the name may be the problem as CMG’s reputation in the food business has suffered what is likely a fatal blow, and the most recent earning report card has received a failing grade from investors and traders, aside from Bill Ackman’s Pershing Square.
More room on the downside?
As the long-term chart of CMG highlights, the price of its shares have broken through the $300 level for the first time since early 2013 and critical support is now at the October 2012 low at $233.82 per share.
At the same time, CMG’s cost of goods sold has been rising which could weigh on earnings in the weeks and months ahead. Growing global demand for animal proteins have lifted the prices of chicken, beef, and pork over recent weeks and the three types of meat are on the menu at Chipotle restaurants. Source: CQG
As the daily chart of live cattle futures illustrates, prices have increased from $1.06725 per pound on the December futures contract on August 18 to its current level at around $1.25 per pound. The price of beef is 17% higher over the past two and one-half months. Source: CQG
As the daily chart of lean hog futures shows, the price has moved from 55.775 cents per pound on August 29 to its current level at around 66 cents per pound. The price of pork has increased by over 18% over the past two months. Although chicken does not trade on the futures markets, the price of poultry has moved even higher than beef and pork. In their most recent quarterly report, Buffalo Wild Wings (BWLD) a company with the benefit of a better reputation than CMG these days, told markets that chicken prices were over 25% higher compared to last year at this time.
The rise in the prices of animal proteins adds insult to injury for Chipotle, as it increases their cost of goods sold at a time when sales continue to be lethargic.
CMG’s long descent into the abyss continues with the shares now at close to the $270 level. I am surprised that Bill Ackman’s Pershing Square continues to support current management. The lower the price of the shares slip, the more pressure to bring new blood into the beleaguered company. Meanwhile, more experienced fast food operators with their reputation intact could be the ultimate owners of the brand and its establishments if the current trend in the share price continues. Chipotle continues to make money and turn a profit these days, but the numbers have not satisfied Wall Street’s appetite, and with an activist investor holding two seats on the board, we could be on the verge of some proactive action. The price of these shares continue to melt and while I have covered all shorts, I would not stand up and buy this company as the price to earnings ratio is not attractive, and the rising costs are likely to weigh on fourth-quarter earnings sending CMG even lower for a test of those October 2012 lows.
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This article was written by
Andy spent nearly 35 years on Wall Street, including two decades on the trading desk of Phillip Brothers, which became Salomon Brothers and ultimately part of Citigroup.Over the past two decades, he has researched, structured and executed some of the largest trades ever made, involving massive quantities of precious metals and bulk commodities.
Andy understands the market in a way many traders can’t imagine. He’s booked vessels, armored cars, and trains to transport and store a broad range of commodities. And he’s worked directly with The United Nations and the legendary trading group Phibro.
Today, Andy remains in close contact with sources around the world and his network of traders.
“I have a vast Rolodex of information in my head… so many bull and bear markets. When something happens, I don’t have to think. I just react. History does tend to repeat itself over and over.”
His friends and mentors include highly regarded energy and precious metals traders, supply line specialists and international shipping companies that give him vast insight into the market.
Andy’s writing and analysis are on many market-based websites including CQG. Andy lectures at colleges and Universities. He also contributes to Traders Magazine. He consults for companies involved in producing and consuming commodities. Andy’s first book How to Make Money with Commodities, published by McGraw-Hill was released in 2013 and has received excellent reviews. Andy held a Series 3 and Series 30 license from the National Futures Association and a collaborator and strategist with hedge funds. Andy is the commodity expert for the website about.com and blogs on his own site dynamiccommodities.com. He is a frequent contributor on Stock News- https://stocknews.com/authors/?author=andrew-hecht
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