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Chipotle Not Tasting Good to Investors Following Earnings

The Exchange

Just a few weeks after hedge fund manager David Einhorn said Mexican eatery chain Chipotle (CMG) would be a tasty short candidate, the stock is hitting one-year lows on heavy volume following Thursday's after-the-bell earnings report. In midday trade on Friday, shares are down a whopping 14%, at $245 and change. The stock closed at $302.96 on Oct. 2, the day Einhorn made his call (shedding $17 from the open). That puts shares down more than 17% from that time today.

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Chipotle's 3Q profit came in at $72.3 million, or $2.27 a share, which was up from EPS of $1.90 at this time last year, while revenue was up 18% from last year to $700.5 million. This was down from a 20% year-over-year revenue gain reported in 2Q, which also sorely disappointed investors expecting even more. Analyst consensus for the third quarter was $2.30 EPS on revenue of $702.

Same-store sales were up 4.8%, which was below consensus estimates of around 5.4% and far from the double-digit same-store sales growth they enjoyed as recently as 2011. Guidance for revenue growth in stores next year came in at low-single-digits to flat.

Chipotle did note on its earning call that traffic was consistent compared to last quarter. The company also said it is looking to expand its Asian-flavored ShopHouse brand; currently the only location is in Washington, D.C. Chipotle has more than 1,200 locations in 43 states and Canada, London and Paris.

Yet Another Miss

This marks the eighth time Chipotle earnings have been a letdown, even as the company still boasts a pretty healthy growth rate. Since reporting 2Q results, the stock has shed 22%. And it was just in April of this year that the stock hit its all-time high of $440. Oh, how the mighty have fallen.

Wedbush restaurant analyst Nick Setyan acknowledges that "expectations from the investor community, including my own, were too high." Setyan says his own growth expectation was based on Chipotle spending 2%-2.5% of sales on marketing during the quarter -- as per their previous guidance -- while they actually spent just 1.4% of sales on marketing costs.

"The stock is declining today, " he says, "because of disappointing same-store-sales growth guidance in 2013 of flat to up low single-digits. My same-store sales growth expectation was based on a continued uptick in marketing spend that would help accelerate transaction growth. Without the marketing spend, I no longer believe transaction growth will accelerate -- in fact, it will most likely decelerate."

Thus, he notes, it's far less likely Chipotle management will increase menu prices next year -- although they did say on their earnings call that it was a possibility, given inflationary expectations related to this summer's harsh drought, which has already led to some price hikes this year -- which means profits in that time should be lower than previously expected.

On the earnings call, according to the Seeking Alpha transcript, Chipotle CFO John R. Hartung said the price-increase possibility would depend a great deal on "how things play out in terms of the economy, in terms of our transaction trends, in terms of actual inflation and in terms of what competitors do and how customers respond."

A Ratings Mix

Setyan today lowered his own price target on the stock, to $270 from $350, and downgraded shares to neutral from outperform. Credit Suisse and Jefferies joined in the downgrade. But Baird analyst David Tarantino maintained his outperform rating and price target of $460 -- a hefty 48% above the current price for a stock with a P/E ratio of close to 30 -- and said now was the time to "buy aggressively," as the company's fundamentals aren't the problem (a sentiment Setyan shares). Miller Tabak analyst Stephen Anderson also defended his "buy" rating on the stock on CNBC on Friday.

While Einhorn might be looking pretty sharp for presenting CMG as a short option earlier this month, Setyan says "Einhorn's reasons for shorting the stock -- mainly the competitive impact from Taco Bell's (YUM) new Cantina menu [although Einhorn also noted a bloated valuation] -- did not materialize." He continues, "Transaction trends in Q3 actually accelerated slightly from Q2, even though the Cantina menu [offering 'higher-end' fare more along the lines of Chipotle's offerings] was introduced in the beginning of Q3. If there had been market share losses, we would have seen the transaction trends at CMG decelerate in Q3."

Chipotle isn't the only eatery making investors lose their appetite on Friday. McDonald's (MCD), which also delivered disappointing earnings Friday, is trading down 3% midday at $89. Readers may recall that McDonald's had a controlling stake in Chipotle from 1999 to 2006 (Chipotle is up 477% since going public in January 2006). Yum is also down close to 3% today, trading at $70.41.