Chipotle (NYSE:CMG) is hot – and not just because of the spicy sauces and salsa that you can lather on to your burrito. The stock is hovering around $325 today from around $129 just over a year ago registering a cool 150% gain for its investors. The company claims that it can service up to 300 customers an hour and is actively looking to expand its stores in selective, key markets making the popularity and growth very enticing. And though we love the fare, we think the stock is a tad too richly priced right now with inflation pressures mounting and softish consumer spending looming. Chipotle competes with mostly cheaper alternatives in the fast food industry such as McDonald’s (NYSE:MCD), Burger King, Pizza Hut and Papa John’s.
Our price estimate for Chipotle stock of $276 implies a discount of about 15% to market price.
Cost Pressures Troubling Everyone
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Like other fast food chains, Chipotle is also juggling with higher commodities costs.
Beef, tomatoes, cheese and many other food prices remain stubbornly high. Higher avocado prices are expected to add about 0.5 to 0.6 percentage points to its total food costs, which make up around 32% to 35% of its overall costs by our estimates. McDonald’s estimates that costs will rise 4-4.5% while Yum forecasts that prices will rise 6% this year compared to last year. We believe these cost pressures will persist and weigh on margins in the near term.
Food’s Getting Expensive!
Chipotle hasn’t raised prices in three years in an effort to keep menu prices competitive and maintain high customer traffic. However, it recently announced that it will raise its menu prices in the Northeast and Southeast over the next few weeks and will roll these out to other markets in due time.
While this will help alleviate some pressure on profit margins, this could backfire if customers start to flinch at paying north of $7 to 8 for a burrito and well over $10 if they add chips and a drink.
Slowing Growth Could Deflate the Momentum
With cost pressures on hand and consumers starting to ask if a double dip recession is back on the cards, this could mean that fewer burrito bandits will line up at Chipotle restaurants. Additionally, given Chipotle’s policy of owning most of its restaurants which ties up significant capital, there is less spare cash to plow into opening new stores. If this ultimately leads to slower growth, this could adversely impact shares as most investors still see it as a growth story.
So while we love our tacos with a side chips and guacamole as much as the next Chipotle fan, we want to hold off the stock for now until we see how traffic and cost pressures play out over the next quarter or two.