CMG Chipotle Mexican Grill Inc

Steve Ells built Chipotle Mexican Grill Inc. into a restaurant-industry leader by playing offense, brashly touting fresher and more virtuous food than competitors. His company boasted of "food with integrity" and ridiculed rivals for using artificial ingredients.

For much of the past few months, though, he has been playing defense after E. coli outbreaks sickened dozens, set regulators on the elusive trail of the cause and sent investors fleeing from the once-hot leader in healthy fast food.

Mr. Ells, Chipotle's co-chief executive, must show he can revamp its kitchens to avoid a repeat and revive its fortunes. Chipotle on Tuesday reported fourth-quarter net income of $67.9 million, or $2.17 a share, down 44% from a year earlier, on a 6.8% drop in sales to $997.5 million. It was the first decline in quarterly revenue since Chipotle went public in 2006.

Mr. Ells told investors Tuesday that Chipotle has prided itself on being a safe place to eat but that "the events of the last few months have shown us we need to do better."

People who know Mr. Ells said he has thrown himself into overhauling Chipotle's food-safety practices, from adding ingredients tests to altering how employees marinate meat. Some of those efforts involve undoing practices he had trumpeted as contributing to the freshness or quality of ingredients, such as a move last year to start cutting tomatoes and other produce in restaurant kitchens.

"Food safety is the most important thing," Mr. Ells has told employees during the crisis, said a person familiar with his pronouncements who described him as "evangelical" about the subject. Mr. Ells declined interview requests.

What caused the E. coli may remain a mystery after the Centers for Disease Control and Prevention said Monday the outbreaks appeared to be over and it had closed its investigation without pinpointing an ingredient source.

"Because we will probably never know for sure what caused this," Chipotle spokesman Chris Arnold said Monday, "we have taken significant measures to improve safety for all of the ingredients we use."

Mr. Ells's team sometimes was at odds with the CDC, which helped investigate the outbreak of E. coli tied to Chipotle that sickened 55 people across America, as well as a smaller E. coli outbreak that sickened five more. Chipotle executives publicly complained the CDC was issuing too many updates. The CDC, in turn, bristled at Chipotle's going public with statements such as Mr. Ells's mid-January suggestion that the agency could soon declare the outbreaks over.

Behind the scenes, Chipotle also disagreed with health officials about the E. coli's likely source, said people familiar with the discussions. Government officials leaned toward produce. Chipotle concluded the E. coli was most likely from contaminated Australian beef.

Chipotle in 2014 began importing grass-fed beef to meet its demand for "responsibly raised" meat. It believed the E. coli spread to other ingredients through improper food handling, said people familiar with Chipotle.

Matthew Wise, who heads the CDC's outbreak-response team, on Monday said it isn't uncommon for an outbreak investigation to be inconclusive. "Because many dishes have the same ingredients and everyone ate multiple ingredients in their meals" in the Chipotle case, he said, "it was hard to pull out a common ingredient."

"It's largely been a collaborative relationship" with Chipotle, Mr. Wise said last month, "but these can be highly emotional situations."

Chipotle's Mr. Arnold said last month: "We have been diligent in our efforts to provide CDC with the information it needs to conduct its investigation, and we fully respect the complexity of the work they are doing."

The crisis has been deeply personal for 50-year-old Mr. Ells, a trained chef who borrowed from his father to start the first Chipotle in 1993. He expanded the chain to more than 2,000 restaurants, with $4.5 billion in 2015 revenue, making it a forerunner in ingredients like free-range meat.

But after years of rapid store growth, and double-digit sales increases at existing restaurants in 2014, Chipotle's growth began to slow. It faced new competitors emulating its model of serving fresh fare fast, while traditional chains like McDonald's Corp. and Yum Brands Inc.'s Taco Bell invaded its turf with moves to eliminate artificial ingredients and switch to antibiotic-free meat.

The illnesses sidetracked growth further. In addition to the E. coli cases that started surfacing in the Pacific Northwest in late October, they include August salmonella cases in Minnesota that sickened 64 and outbreaks of norovirus—the leading cause of U.S. foodborne illness— traced to Chipotles in California in August and Boston in December that together sickened hundreds.

In December, Chipotle was served with a grand-jury subpoena as part of a federal criminal probe seeking information on the California norovirus outbreak. On Tuesday, Chipotle said it was served on Jan. 28 with a subpoena broadening the investigation's scope, requiring Chipotle to produce documents related to companywide food-safety matters dating back to Jan. 1, 2013.

The CDC on Dec. 21 announced the smaller E. coli outbreak; it said Monday that outbreak wasn't genetically related to the bigger one.

Slide in sales

Sales at existing Chipotles fell 14.6% in the fourth quarter, dropping 30% in December, the company said Tuesday. Chipotle's stock has fallen more than 25% since Oct. 30. The shares were down nearly 6% at $448 in after-hours trading following its earnings release.

Associates described Mr. Ells as a germaphobe and perfectionist who, early on, would close restaurants if he noticed they were dirty and help clean them.

About 15 years ago, he ordered pork from Niman Ranch, a free-range-meat pioneer. Loving the taste, he dived into studying new farming techniques, recalled Dan Fogarty, Chipotle's first marketing director. That led to a review of every ingredient and formed Chipotle's "food with integrity" philosophy.

Some people familiar with Chipotle said executives didn't always apply the same intensity to food safety as to ingredients' taste and origin. "By far the 'food with integrity' vision was always No. 1," said a former Chipotle operations executive. When they discussed suppliers with employees "they'd never talk about food safety. It doesn't mean it wasn't checked, but the discussion was always about the story behind the supplier and keeping up with our growth."

Chipotle's Mr. Arnold said: "Food safety has always been a priority, though the level of emphasis is certainly greater now than it has been."

After customers in Seattle and Portland, Ore., began reporting E. coli illnesses, Chipotle shut all 43 restaurants in the region, submitted thousands of ingredient samples to the FDA for testing, and sanitized and restocked restaurants before reopening them. It hired food-safety firm IEH Laboratories & Consulting Group to help identify and fix the problems.

None of the ingredients tested positive for E. coli, Chipotle has said publicly, likely because the contaminated food had been consumed or discarded as new shipments came in.

Local health authorities initially suspected locally sourced produce, said Washington state epidemiologist Scott Lindquist. Chipotle examined all 64 ingredients it serves, ruling out many.

When the CDC on Nov. 20 reported the outbreak had spread to Minnesota, California, New York and Ohio, Chipotle's distribution records convinced the company the culprit was red onions, cilantro or beef, said people familiar with its investigation. Onions seemed unlikely to Chipotle, because its supplier shipped much of its harvest to other restaurants, but no illnesses tied to them had been reported.

Two weeks later, the CDC reported cases in Illinois, Maryland and Pennsylvania. Chipotle crossed cilantro off the list, because it used a different cilantro supplier in Illinois. That left beef. As not all sickened customers ate beef, it could have caused the outbreak only if E. coli bacteria passed from the meat to other ingredients through improper food handling.

Food & Water Watch, a nonprofit consumer-advocacy group, has raised concerns about beef from Australia because some meat producers there use their own trained employees, instead of government inspectors, to conduct inspections at slaughterhouses. A 2014 USDA audit report of Australian meat facilities, the latest available publicly, noted that port-of-entry records for the latter part of 2013 and the first part of 2014 indicated that beef products shipped to the U.S. from Australia "continue to be in violations of United States food safety standards," citing the presence of feces and digestive-tract material on meat.

A spokesman for Australia's Department of Agriculture and Water Resources said: "Australia has a long history of safe and successful beef exports over many years and is very proud of its food safety record." He said the problems in the 2014 report have been rectified and cited a yet-unpublished 2015 USDA audit report that found no port-of-entry detections of E. coli contamination in 2014 and 2015. Beef-industry experts said Australian beef is as safe as U.S. beef.

The contamination risk from meat may have been higher for Chipotle than other chains, food-safety experts said, because it brings fresh meat into its kitchens, unlike many big chains. McDonald's, for example, uses frozen patties that don't thaw until cooks throw them on the griddle.

Chipotle continues to use the Australian beef supplier but is now testing meat for pathogens before it arrives at restaurants, among other changes, said people familiar with Chipotle's actions. In the past, restaurants transferred arriving raw meat to bowls, and workers hand-rubbed it with adobo spices before marinating it in refrigerators and cooking it.

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February 02, 2016 22:35 ET (03:35 GMT)

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