Chipotle Mexican Grill, Inc. (NYSE:CMG)’s website educates readers on the principle of “CHIPOTLE-nomics”: “By increasing the demand for naturally raised meats, we can actually increase the available supply.” Of course this remark reflects a marketing department’s gross oversimplification — it also reveals an appealing sentiment at the heart of Chipotle’s “Food with Integrity” marketing motto.
The question of CHIPOTLE-nomics’ validity — whether the company can continue sourcing meat that meets its “natural” standards, and at prices and quantities that encourage steady menu prices alongside rapid company expansion — determines whether the stock stands overpriced or a steal.
In 2011, Chipotle Mexican Grill, Inc. (NYSE:CMG) served nearly 100 million pounds of naturally raised meat. That makes it the world’s leading natural meat-serving restaurant chain. With great quality and quantities of steak, however, comes great responsibility and risk. Chipotle Mexican Grill, Inc. (NYSE:CMG) has built its successful differentiated brand on high-quality food that surpasses the competition, and happily boasts that its “changing fast food” culture for the better by serving humanely raised, antibiotic-free meats.
Yet the same rare meat that Chipotle Mexican Grill, Inc. (NYSE:CMG)’s success depends upon may threaten its future growth and profitability. Due to price hikes and scarcity, Chipotle Mexican Grill, Inc. (NYSE:CMG)’s periodically served conventional meat in regional store locations, and warns that it may do so with higher frequency in the near future. Combined with Chipotle Mexican Grill, Inc. (NYSE:CMG)’s January announcement that it may raise menu prices mid-year (due to natural meat and dairy’s cost), the company faces an uphill struggle.
An uphill struggle along the quantity demanded curve, that is. As Chipotle continues to expand faster than small farmers can get into the natural meat business, the company’s demanding more of a commodity that’s already in short supply, which drives up market prices in the short term. That’s why Chipotle’s had to consider raising prices as well as serving conventional meat — the combination of which may deter customers for reasons both economical and personal.
Chipotle risks alienating mainstream consumers with price hikes and conscious ones with conventional meat. Either group’s reduced demand for Chipotle will threaten its growth and give competitors a boon. What distinguishes Chipotle from its competitors?
Alleged Competitors: Yum! Brands, Inc. (NYSE:YUM) and Panera Bread Co (NASDAQ:PNRA)
Chipotle’s foremost competitors include Yum! Brands, Inc. (NYSE:YUM)’s Taco Bell. In July 2012, Taco Bell debuted a more premium Cantina Bell menu as competition against Chipotle. Offering menu items similar to Chipotle’s for about $2 cheaper, Cantina Bell surpasses Taco Bell’s standard quality, but does not rival Chipotle — the menu’s website makes no mention of the chicken and steak’s production quality, so it’s likely conventional (not “natural”). And there’s no organic produce like Chipotle advertises. Will Chipotle’s customers, who willingly pay $7-12 for their meals, sacrifice quality for two bucks?
There’s more to the question of whether Taco Bell, with its long-held self-promoted reputation for cheap fast food, even appeals to Chipotle’s target market. Chipotle’s popular for the “Chipotle Experience,” which includes its restaurants’ open kitchens, customizable menu items, stimulating aesthetics, and upbeat music.
During the lunch and dinner rush, Chipotle’s packed with young professionals, families, and couples on dates. Taco Bell offers a drive-through, which Chipotle does not, but the latter’s customers appear to enjoy taking their time eating. Yum! Brands, Inc. (NYSE:YUM) and Chipotle are not alike enough to threaten each other’s core business, so both may fare as good investments.
A more realistic competitor for Chipotle is Panera Bread Co (NASDAQ:PNRA). Panera offers meat of similar quality to Chipotle, although it does not source a sizeable portion of produce from local farms as Chipotle does. But Chipotle and Panera Bread Co (NASDAQ:PNRA) share many customers who seek out these restaurants’ food for overall taste moreso than sustainability.
Panera’s profits stand as more vulnerable than Chipotle to Americans’ latest health fads: vegetarian, lactose-free, and gluten-free diets. Chipotle offers customizable dishes, gluten-free burrito bowls, and includes “Vegetarian” as one of five menu options, while Panera’s products are less so and more meat, dairy, and bread-intensive.
One in three American households now have at least one gluten-intolerant member, so these affected families and other dieting customers may dine at Chipotle over Panera by default. Of course, Panera still stands to grow plenty from mainstream patrons’ business. Panera and Chipotle could both prove good investments as consumers vary where they dine.
Looking Ahead: ShopHouse and Supply Chains
Many point toward Chipotle’s emerging sister chain, ShopHouse Southeast Asian Kitchen (which currently has two locations, in California and Washington D.C.), as the company’s promising hope for future expansion and profitability. That hope may take a while: ShopHouse will build its brand using the same high-quality food as Chipotle, so a rapid chain expansion could further stress Chipotle’s supply chain in the short term.
More important for the long view, though, is why Chipotle’s facing supply chain issues, competitors’ emulation, and price squeezes; it’s a revolutionary company. No fast food company has committed to food standards like Chipotle has — and customers have responded with unforeseen gusto. In a few years’ time, with proper management and strategy, CHIPOTLE-nomics may prevail — and then Chipotle’s prospects, along with those of Shophouse SE Asian Kitchen, will look tasty indeed.
The article CHIPOTLE-nomics: A Short-Term Supply Struggle originally appeared on Fool.com and written by Glenn Singewald.
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