Restaurants

Chipotle says Mexican tariffs could cost it an additional $15 million, possibly forcing price rises

Key Points
  • Chipotle Mexican Grill says tariffs on Mexican goods could increase its costs by about $15 million in 2019 and reduce margins by 20 to 30 basis points.
  • President Trump last week threatened to tariffs in place on all Mexican goods beginning June 10 if the country doesn't help prevent the flow of illegal immigrants. The 5% tariffs could increase over time.
  • If the tariffs become permanent, Chipotle would need to offset these costs, CFO Jack Hartung says. This could include product price increases.
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Chipotle speaks out on proposed tariffs on Mexican imports

Chipotle Mexican Grill said its 2019 costs could rise by about $15 million this year if President Donald Trump's proposed tariffs on Mexican imports are enacted, and that could mean price increases.

"If the tariffs become permanent, we would look to offset these costs through other margin improvement efforts already underway," CFO Jack Hartung said in a statement. "We could also consider passing on these costs through a modest price increase, such as about a nickel on a burrito, which would cover the increased cost without impacting our strong value proposition."

Chipotle said its net income last year rose to $176.6 million, $6.31 per share, on revenue of $4.9 billion. Excluding asset impairments and restructuring costs, the company earned $253.4 million, or $9.06 per share. The company's results were helped by price increases it put in place late in the year.

Chipotle was already expecting food costs in the second quarter to be 1% higher than the first quarter due to rising avocado prices. Tariffs would mean prices could be even higher.

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Avocado prices could spike

Trump on Thursday threatened to put 5% tariffs on all Mexican goods beginning June 10 if the country doesn't help prevent the flow of illegal immigrants, mostly from Central America, over the U.S. border. Under Trump's plan, the tariffs would gradually increase and could rise as high as 25% this year.

Chipotle said Friday its supply chain team has been working to diversify its produce sources consistent with "our food with integrity principles," and said it is not willing compromise those principles.

"We know that we could easily solve the volatility in our supply chain by purchasing premashed or processed avocados, which would be cheaper, readily available and provide stability, but we are committed to our brand purpose and upholding our food with integrity principles," Hartung said. "We believe that using whole, fresh ingredients and making guacamole by hand in our restaurants each day leads to better tasting guacamole that our customers deserve and expect from Chipotle."

In the first quarter, restaurant-level operating margins accelerated to 21%, thanks to higher same-store restaurant sales increases and lower repair and maintenance expenses. This was partially offset by wage inflation as well as higher marketing and promotional costs and delivery expenses due to increased delivery sales.

Those higher operating margins helped it earn $88.1 million, or $3.13 per share, in the first quarter on a net basis. After excluding one-time items like restructuring costs, Chipotle earned $3.40 per share, on an adjusted basis, on sales $1.31 billion.

Chipotle estimated the tariffs could reduce 2019 margins by 20 to 30 basis points.

An employee scoops guacamole at a Chipotle Mexican Grill Inc. restaurant in El Segundo, California, U.S., on Wednesday, July 25, 2018.
Patrick T. Fallon | Bloomberg | Getty Images

Analysts say Chipotle isn't the only brand that may suffer from the price increase that would come from the Mexico tariffs. However, the company is one of the first to specify the cost pressure it could see.

"Anyone with avocados would be hurt most by Mexico import tariffs," says R.J. Hottovy, senior restaurant analyst at Morningstar. "Chipotle would be the most likely candidate."

Hottovy also called out other smaller chains including Fiesta Restaurant Group and Chuy's that wouldn't be able to hedge against tariffs as easily.

"A 5% tariff probably wouldn't hurt any single company that much, but the risk is whether we see any future escalation in tariffs," he said.

While Chipotle does not give formal guidance on food costs, on its first-quarter earnings call Hartung said the company believes food costs will be around 33% of its revenue. He said avocado prices spiked in March based on higher demand, and the company is projecting higher food costs in the second quarter.

The stock, which has a market value of $18.3 billion, has been the best performer in the restaurant space this year, up more than 52% in 2019. It was down 1.7% Monday morning.