Higher Food Price Takes a Bite from Chipotle’s Growth

Rising food costs are a persistent pain for popular restaurant chains like Chipotle (NYSE:CMG), McDonald’s (NYSE:MCD), Burger King, Pizza Hut and Papa John’s. The U.S. Department of Agriculture (USDA) recently forecast that the Consumer Price Index (CPI) for food will increase by 3%-4% in 2011. ^[1] Chipotle was absorbing rising food costs for the past couple of years but is now raising its menu prices as rising food costs of meat, vegetables and dairy products have started affecting its profit margins. Its restaurant level operating margin decreased by 110 basis points last quarter. ^[2] While price hikes will help improve its profitability, the company risks losing customers which can impact its top-line growth.

While we estimate Chipotle’s average spend per visit increase from $11.50 in 2011 to $15.30 by the end of our forecast period, Trefis members expect an increase from $12 to $16.50 during the same period.

We currently have a Trefis price estimate of $276 for Chipotle’s stock, about 15% below the current market price of $324.

Concerns of Food Costs Inflation Continue

The USDA forecasts that food prices at grocery stores as well as restaurants are going to increase at 3-4% in 2011 due to higher food commodity and energy prices coupled with growing food demand globally. Higher prices for beef, eggs, meat, vegetables and dairy products continue to persist. The United Nations Food and Agriculture Organization (FAO) is in fact predicting that food prices will continue to be high in the next decade as demand outweighs farm production. It forecasts that global output will grow at an average of 1.7% through 2020 compared to 2.6% in the previous decade. ^[3] This can dent profitability of food retailers and restaurants and have a more direct impact on consumers that are faced with uncertain economic times and a prevailing high unemployment rate.

Food Prices Hikes Could Cost Chipotle its Customers

In order to keep its menu prices competitive, Chipotle refrained from increasing its food prices for the past few years taking a hit on its profitability. In the last quarter, the restaurant’s comparable sales grew by 10% while its operating margin declined by 110 basis points as food costs increased by 7% during the quarter. This has forced Chipotle to raise its menu prices in Northeast and Southeast regions and which will soon be extended to the rest of the U.S. While higher food prices may plug Chipotle’s operating margin from bleeding further, it could result in lower traffic and customer loss impacting its top-line growth.

Our complete analysis for Chipotle’s stock is here.

1. USDA Retail Food-Inflation Forecasts for 2011, Bloomberg, Sept 23, 2011 [↩]
2. Chipotle Falls After EPS Miss On Food, Legal Costs, Investors.com, July 19, 2011 [↩]
3. Food-Inflation Concerns Will Persist, FAO’s Abbassian Says, Bloomberg, Sept 20, 2011 [↩]