Last week, we talked about McDonald’s (MCD) slowing sales growth, partly driven by the rising popularity of weight loss drugs.

One in eight adults in the United States now uses glucagon-like peptide-1 (GLP-1) medications, such as Ozempic and Wegovy.

Originally developed to manage diabetes, these drugs have quickly gained popularity for weight loss due to their remarkable ability to suppress appetite.

By slowing the digestive process, GLP-1 medications help people feel fuller faster and for longer periods, significantly reducing overall food consumption.

These appetite-suppressing drugs are reshaping eating habits, reducing overall food consumption, and potentially cutting into demand for high-calorie meals, a direct threat to fast-food companies.

Despite McDonald’s successful marketing push tied to the Minecraft movie, customer spending per visit has weakened, showing that even big marketing efforts might not fully offset deeper shifts in consumer behavior.

Chipotle Mexican Grill (CMG) isn’t immune to these same challenges either.

Chipotle has emerged as one of the standout performers in the fast food industry over the past few years.

The company has significantly outpaced competitors like McDonald’s and Domino’s in stock market performance when looking at five-year returns.

Chipotle consistently grew its profitability, steadily improving returns year after year.

However, this impressive track record has created increasingly high expectations that may prove difficult to meet as economic conditions shift.

Rising costs for key ingredients like avocados, chickens, and peppers, plus higher wages and rents are squeezing the company’s profit margins.

These cost pressures squeeze margins, making it difficult for Chipotle to maintain the impressive growth investors have come to expect.

The company has already begun to feel the impact of a changing consumer environment.

During its latest quarterly report, the company noted a decline in same-store sales for the first time in nearly five years, attributing the slowdown partly to weaker consumer spending.

Another significant challenge for Chipotle is the intensifying competition in the fast-food industry.

Rapidly growing brands like Sweetgreen and CAVA are effectively capturing market share, catering to the same health-conscious demographic that Chipotle once dominated.

These new entrants offer compelling alternatives, pressuring the company’s ability to raise menu prices or sustain high levels of customer traffic.

Despite these headwinds, the market is anticipating Chipotle’s profitability to nearly double by 2029.

Our EEA model clearly shows this.

The EEA starts by looking at a company’s current stock price. From there, we can calculate what the market expects from the company’s future cash flows. We then compare that with our own cash-flow projections.

In short, it tells us how well a company has to perform in the future to be worth what the market is paying for it today.

At the current stock price, the market expects the company’s Uniform return on assets ”ROA” to improve to 40% from 20% last year.

Moreover, Chipotle’s valuation multiples reflect exceptionally high expectations.

With a Uniform P/E ratio of around 44, the company is trading significantly above the industry average.

To justify such a valuation, Chipotle would need sustained growth in same-store sales and continued margin improvements.

Given current trends, this seems increasingly unlikely.

Another problem for Chipotle is tariffs. Half of the avocados Chipotle uses come from Mexico, and trade wars could sharply increase their cost.

The company’s management said the company will absorb these higher costs rather than raise prices again, potentially cutting deeper into profits.

Investors should be careful investing in a business with high expectations and strong headwinds ahead.

Best regards,

Joel Litman & Rob Spivey
Chief Investment Officer &
Director of Research
at Valens Research

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