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At McDonald's despair, at Chipotle arrogance

Should You Market Like Chipotle or Be Conversational?

Set aside for a moment the quarterly numbers for two well-known restaurant chains, McDonald's (MCD) and Chipotle (CMG). What immediately stands out when you do is the tone, and it speaks to what is becoming, ever more clearly, an undeniable shift in our dining-out habits.

For Oak Brook, Ill.-based McDonald's, home of the Big Mac and fries, that tone is one of desperation, nearing despair. At Denver's Chipotle, the burrito seller that's emerged as the leader of the growing fast-casual restaurant segment, it's hope and optimism, bordering on arrogance.

Comments from McDonald's CEO Don Thompson noted that his company's results "reflect a significant decline versus a year ago, with our business and financial performance pressured by a variety of factors." While reminding us all of the Golden Arches' "enduring brand and strong financial foundation," he states that "by all measures our performance fell short of our expectations." Further, McDonald's is forced to try and show the world "that we understand the problems we face and are taking decisive action to fundamentally change the way we approach our business."

This is the planet's largest publicly traded restaurant chain.

At Chipotle, founder and co-CEO Steve Ells continued to send the message that his company is determined to change the way people think about fast food, an approach that "results in better quality food and a compelling dining experience for our customers, and superior business results for our shareholders. The way we source, prepare and serve our food; the way we hire, develop and empower our people; and the way we operate our business is very different than the traditional fast food model. Industry trends, he says, "suggest the Chipotle model is resonating with customers, who are realizing there are better alternatives to traditional fast food."

This is from a two-decade-old 1,700-store operator that was at one time majority-controlled by McDonald's.

A tale of two fast-food chains

At McDonald's, revenue and same-store sales, a widely watched retail measure, were worse than analysts estimated, falling 3.3%. Customer traffic is negative, a deeply disturbing trend, probably in part because of price hikes. At Chipotle, comparable sales were stronger than had been anticipated, jumping 19.8%. Traffic is climbing, even as prices have risen. People can't stay away. Both companies were profitable in their most recent quarters, but whereas McDonald's was essentially flat with last year (leaving out a variety of items), growth at Chipotle was tremendous, far outpacing the 44% earnings-per-share increase that was projected.

It's not a direct comparison. The brands and business models are different, the food isn't the same, the size isn't close, one is a growth name and the other is a dividend-paying cash machine. But their results, which continue to go in opposite directions, are demonstrating again and again that the old guard in fast food does have serious trouble at its borders, enough trouble that it may well have gotten to its peak.

That's not to say that the story is over for McDonald's. While it's regularly stated that the rise of Chipotle and similar operators will mean the end of traditional fast food -- Chipotle says it, reporters say it, industry observers say it -- McDonald's does retain significant advantages: Astonishing reach, with more than 35,000 restaurants and $90 billion in systemwide sales, a multibillion-dollar real estate portfolio, enviable cash flow from its heavy focus on franchising and outstanding per-store revenue. Investors know this, and they get a solid dividend that's raised every year.

So even after a terrible quarter, shares were down only 0.4% at $91.20. And amid a year of ongoing sales struggles, supply woes in China, worries about pricing, strengthening competition and franchisee discord, it was down only 5.6% for the year to date prior to releasing its numbers.

Over at Chipotle, the shares were down 5.7% at $615.61 following its stellar quarter. Judging only by this, one might assume Chipotle was instead in peril. Its chief sin in fact was to say that comparable-store sales in 2015 probably would rise only in the low-to-mid single digits, after what likely will be a 15% gain this year, give or take. For growth stocks, like Chipotle, estimates are greater, performance demands are higher, and, with every slight "disappointment," selling is harsher.

Chipotle, the much smaller of the two, was up 22.6% in the market for the year to date before its report. And the day's activity should be read more as an adjustment than a panic. It has tremendous room to expand, it sells food that diners believe is better for them, it promises social awareness and it's got no problem adapting to millennials and the digital age. The downside, of course, is that massive growth never lasts forever. That's what traders were rebelling against Tuesday. Yet it is notable that in the last 20 quarters, Chipotle has declined after eight earnings reports. The current decrease is below the 7.5% average of those drops. So again, it's more irritation than panic.

That's because there's really no reason for investors to give up. The signs are glowing neon. McDonald's retains an amazing business with many, many favorable attributes. But it's like ancient Rome -- the upstarts don't quit, the opposing armies grow in number, and it's difficult to manage a far-flung empire with efficiency and purpose.

Chipotle, and more broadly fast casual, is pressing its advantage. It talks big about its food quality because it can. The traffic numbers don't lie. The main enemy it has to watch out for is itself. As long as it doesn't get too proud, the story of this quarter will be told for many quarters ahead.