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Chipotle Provides Yet More Reminders of D&O and Food Safety Risks

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If the average food safety crisis or product recall forces companies to weather a storm, Chipotle has spent the past year trying to weather a category 4 hurricane. Now months into their recovery effort, it seems they are still seeing significant storm surges.
Last week, a group of Chipotle shareholders filed a federal lawsuit accusing executives of “failing to establish quality-control and emergency-response measures to prevent and then stop food-borne illnesses that sickened customers across the country and proved costly to the company,” the Denver Post reported. The suit accuses executives, the board of directors, and managers of unjust enrichment and seeks compensation from Chipotle’s co-CEOs, while also asking for corporate-governance reforms and changes to internal procedures to comply with laws and protect shareholders.

Sales remain significantly impacted by the series of six foodborne illness outbreaks last year.

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The company reported in July that same-store sales fell another 23.6% in Q2, marking the third straight quarter of declines for performance even lower than analysts had predicted. The company’s stock remains drastically impacted, currently trading at about 4 compared to a high of 9 before the outbreaks came to light a year ago.

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In addition to the most recent shareholder lawsuit, the bad news for directors and officers specifically has also been further compounded recently.

Shareholder lawsuits were filed earlier this year alleging the company had misled investors about its food safety measures, made “materially false and misleading statements,” and did not disclose that its “quality controls were not in compliance with applicable consumer and workplace safety regulations.” In June, a group of shareholders sued a number of top executives for allegedly violating their fiduciary responsibilities and engaging in insider trading.

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Relying on insider knowledge about insufficient food safety protocols, the suit alleges that the executives sold hundreds of thousands of shares in the first half of 2015 before the food poisoning scandal was made public.

Check out previous coverage of the Chipotle crisis in the Risk Management March cover story “Dia de la Crisis: The Chipotle Outbreaks Highlight Supply Chain Risks.”

Legal Woes Highlight Dangers of the Food Industry Supply Chain

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A spate of recent cases offers a clear warning for the food industry about the legal and reputational perils of not getting more serious about supply chain control.

On Monday, the U.S. Supreme Court declined to consider an appeal from Nestle, Archer Daniel Midlands Co. and Cargill Inc., allowing a slave and child labor lawsuit to proceed against the three food industry giants.

Three plaintiffs who claim they were trafficked from Mali as child slaves and forced to work harvesting and cultivating beans in Cote d’Ivoire, and allege that the companies aided, abetted or failed to prevent the torture, forced labor and arbitrary detention they suffered.

According to Reuters:

The plaintiffs, who were originally from Mali, contend the companies aided and abetted human rights violations through their active involvement in purchasing cocoa from Ivory Coast. While aware of the child slavery problem, the companies offered financial and technical assistance to local farmers in a bid to guarantee the cheapest source of cocoa, the plaintiffs said.

The defendants knew about the child slavery problems in the region and offered both financial and technical farming assistance to support the agriculture methods in place, the plaintiffs claim. What’s more, they say, the defendants could have used their leverage in the cocoa market to stop or limit the alleged child labor practices and failed to do so.

According to the Wall Street Journal:

Mark Theodore, a partner at Proskauer Rose, said that the ruling reinforces to companies that they need to be socially responsible employers. And while there is no way to ever completely prevent such risks, he said the ruling is a reminder to companies that they “should be monitoring and also maybe doing a little bit of introspective thinking about their own practices to avoid these things, or prevent them from happening, or to put themselves in legally defensible position if they can’t prevent them.”

In September, the Justice Department finalized a landmark conviction of the former head of the Peanut Corporation of America, who was sentenced to 28 years in prison for knowingly shipping salmonella-tainted products that sickened 714 people and killed nine. That may be the department’s first step in a new approach to taking food industry product safety more seriously, and more aggressively pursuing wrongdoing on a criminal level. The Justice Department has now opened formal investigations into the e. coli outbreak at Chipotle and the listeria outbreak at Blue Bell Creameries, both of which sickened hundreds of consumers.

The department has already signaled a broad intention to focus more efforts on individual law-breakers in corporate crimes. Now, the government appears to be showing the food industry that things are changing in terms of corporate responsibility and food safety, according to Andrew Lankler, partner at Baker Botts. Lankler told the Wall Street Journal that the Department of Justice is signaling that whatever standard the food industry thought it needed to meet for food safety, the bar is higher. “The department is going to step up enforcement in areas where they can prove they sold tainted product,” he said.

And the trouble at Chipotle shows little sign of abating. The CDC is still investigating multiple outbreaks, and the chain has now been served a subpoena as part of a criminal probe by the U.S. Attorney’s Office and the Food and Drug Administration’s Office of Criminal Investigations regarding an isolated norovirus incident in August.

A fourth lawsuit was recently filed by a customer who claims he was sickened by the same strain of e. coli linked to Chipotle, but this case dates back to July, meaning far more people may have been affected in the outbreaks. At least nine suits have been filed by customers, and Bill Marler, a food and safety litigator in Seattle, claims more are coming from the 75 Chipotle-related clients he represents.

At this week’s ICR conference this week, CEO Steve Ells said he is hopeful that the CDC will soon declare the restaurant’s e. coli outbreak over, adding, “we know that Chipotle is as safe as it’s ever been before.”

To that end, Chipotle announced today that it will close all of its stores on Feb. 8 to have a corporation-wide meeting with all staff regarding food safety.

But customers remain extremely wary. Indeed, while it may be an e. coli cliché, it would not at all be a stretch to say public opinion about the brand remains in the toilet, with YouGov’s BrandIndex score for the company seeing a drop equal to that of GM during its crisis.

yougov poll chipotle

To combat that, the company also announced plans to launch a sizable new marketing campaign to win back customers, using direct mail and traditional advertising to attempt to win back consumer confidence. As Fortune reported, executives said the campaign will attempt to provide a “detailed story of what happened” to explain to customers why they are now safe, and that it will not focus overtly on food safety, but will have “an undertone” of humility.

Chipotle’s stock dropped nearly 42% in the wake of the outbreaks, and according to an SEC filing, sales at stores open more than a year were down 30% last month. Ells and his team admitted they could not guess how much the fallout will impact 2016 financial results, but expect it will be a “messy” year. Costs are expected to go up from the marketing campaign and new food safety measures, including processing more food through centralized kitchens in an attempt to better control the conditions of ingredients.

The company darkened its outlook for Q4 results, and As Wells Fargo Securities wrote in a recent research note, “We expect CMG to point to a hard-fought and long-tailed [same-store sales] recovery across 2016, and to stress that there is still much work to be done in assessing the sizeable costs associated with the company’s supply chain overhaul.”

For more about food safety crises and product recall, check out the following articles from Risk Management:

Feeding an Appetite for Trust, A Q&A with Center for Food Integrity CEO Charlie Arnot

Food Safety Updates Stalled by Funding

Maximizing Coverage for a Product Recall

Chipotle Food-Borne Illness Outbreaks Highlight Supply Chain, Reputation Risks

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For the past month, Chipotle Mexican Grill has been mired in a food safety crisis. An e. coli outbreak linked to Chipotle has sickened at least 52 people in nine states. In a seemingly unrelated outbreak, 120 people in Boston – most of them students at Boston College – also fell ill after contracting norovirus from eating at the quick-service chain.

While food safety and product recall concerns are always a major liability for industry players, the spate of infections poses even more of a threat to Chipotle as the company has built its reputation on the foundation of a healthy, responsible supply chain, boasting its use of fresh produce, meat raised without antibiotics, and a network of hundreds of small, independent farmers. As Bloomberg put it, the company’s biggest strength is suddenly its biggest weakness. Given the chain’s 1,900 locations and the rate at which it has expanded (about 200 new locations every year), its supply chain is already under significant pressure. When an audit found unacceptable practices earlier this year, the company suspended a primary pork supplier, pulling carnitas from the menu at about a third of its restaurants nationwide. The company pointed to its decisive action as proof of its commitment to sustainable agriculture, but many analysts said it highlighted the company’s inherent vulnerability to supply chain issues.

“You can never eliminate all risk, regardless of the size of suppliers, but the program we have put in place since the incident began is designed to eliminate or mitigate risk to a level near zero,” Chris Arnold, the company’s director of communications, told Bloomberg.

Now, as the number and geographical spread of E. coli cases grows, the company has closed dozens of restaurants for what it promises will be thorough investigation and cleaning. Steve Ells, the company’s co-chief executive, went on the “Today” show to publicly apologize and vow that reforms currently being put into place would turn Chipotle into a leader in food safety. “The procedures we’re putting in place today are so above industry norms that we are going to be the safest place to eat,” he said.

But consumers are not so sure, leading sales to fall 16% in November, and its stock price has dropped almost 30% since the outbreak was first detected, the Washington Post reports. Analysts and the company itself have said they expect the outbreak to continue to cause a drop in sales. Take a look at how the ongoing crisis has impacted the company’s stock:

chipotle stock e coli

These doubts may have long-term impacts on Chipotle and may even extend to other food industry stakeholders.

“Fast-food companies are 100 percent reliant on their food supply to send them something that is pathogen-free, but the supply chain is still extremely reluctant to test every [food] product it provides,” food safety consultant Mansour Samadpour told the Washington Post. “Many companies are starting to do it, but the reluctance is real and it’s problematic — and that’s getting in the way of food safety.”

“I worry that [consumers] look at food safety from the organic, non-GMO, sustainability, animal welfare standpoint,” Bill Marler, a lawyer specializing in food-borne illness, told the Post. “And a lot of people in that space, in that agricultural movement, tend to believe that because they do those things their food is automatically safer than food that’s served at McDonald’s or Jack in the Box or Walmart. But that’s just not the case.”

For more about food safety crises and product recall, check out the following articles from Risk Management:
Feeding an Appetite for Trust, A Q&A with Center for Food Integrity CEO Charlie Arnot
Food Safety Updates Stalled by Funding
Maximizing Coverage for a Product Recall

Ensuring Food Safety with Monte Carlo Simulation

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If you have ever purchased a hot dog from a street vendor, you have probably wondered (most likely after the first bite), “Is this going to make me sick?” But thanks to a number of new advances, from genome sequencing to data analysis of supply chains, food safety agencies around the world are developing more accurate methods for lowering the risk factors in the foods we eat. Another method that is gaining popularity is the use of Monte Carlo simulation (MCS), a computerized mathematical technique that accounts for risk in quantitative analysis and decision making.

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By inputting risk factors and running thousands of simulations, a realistic portrait of risk factors and the probabilities that those risks may occur can be developed, decreasing the likelihood of food-borne illnesses.

For example, to combat the seemingly endless risks in the “farm-to-table” pathway, the U.S. Food and Drug Administration launched an interactive web-based tool called iRISK. The tool, which is free to use, utilizes Monte Carlo simulation to analyze potential food contamination risk based on a number of factors:

  • Type of food(s)
  • Hazard(s)
  • Demographic of concern
  • Production/processing system of food
  • Consumption patterns
  • Dose response
  • How health impact is to be calculated

Food industry risk analysts can simulate real-life scenarios by inputting multiple food types and potential hazards in a single assessment. Additionally, hazards can be ranked by level of risk.

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After providing the appropriate data, iRISK quickly generates reports that offer estimated risks from multiple microbial or chemical food safety hazards and estimates how scenario alterations can increase or lower contamination risk. Since its launch, iRisk has attracted more than 500 registered users.

In China, the Shanghai Food and Drug Administration also relies on Monte Carlo simulation to assess food safety, and one of its most notable uses of the technology occurred in the months prior to Shanghai’s hosting of the 41st World Expo in May 2010. Organizers wanted to be certain that food distributed to foreign visitors was safe, so it initiated a quantitative analysis of nitrite contamination in cooked meat. The Shanghai FDA conducted 370 random checks of meat products in the city and found four percent of samples exceeded nitrite standards.

On the basis of this initial data, the organization commissioned a report to determine the probability of consuming nitrites in excess of established standards in normal consumption habits. Then, using MCS, the researchers simulated the sample 10,000 times, multiplying variables to fit possible real-life situations. The findings indicated that the possibility of passing the threshold for acute nitrite poisoning indeed existed, as well as the possibility for exceeding the allowable daily intake of nitrite. Based on the results, the Shanghai FDA proposed that businesses in the food service industry be forbidden from using nitrite, which eliminated the possibility of nitrite poisoning at its root.

It is interesting—if not a little disconcerting—to consider the guesswork previously employed in food safety prior to technological advances such as Monte Carlo simulation. While risk can never be completely eliminated, we can at least dine with less concern when analysts are armed with solutions that dramatically lower risk.

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