Fool on Call: Panera's Cooking Up Changes

The competition in the coffee-and-sandwich-combo segment is fiercer than ever. You already had Starbucks (Nasdaq: SBUX  ) , Cosi (Nasdaq: COSI  ) , and Atlanta Bread competing for services. But now even McDonald's (NYSE: MCD  ) and Wendy's (NYSE: WEN  ) are attacking the segment with vigor.

To come out of this heap on top requires, among other things, attractive goods and exceptional customer service. These were areas that Panera Bread's (Nasdaq: PNRA  ) management team focused on in the company's latest quarterly earnings conference call. In this edition of "Fool on Call," we will highlight some key initiatives under way that should make Panera a more attractive restaurant destination among customers and, potentially, a more attractive business for investors.

A happy customer is a repeat customer
If we take a look at the company's second-quarter results, we'll find that comparable same-store sales were positive, at 2.1% growth. But in the call, management was most pleased with July comps, which are on track to come in at 3.6% to 3.9%, an early indication of a positive trend developing in the third quarter.

One key to comps growth is customer traffic. And one way to get customers coming back is to provide excellent customer service. Panera's management outlined a few ways in which it aims to excel in this area.

On the labor side, two significant changes are under way. For one, Panera restaurants have introduced a new position called an "expediter." Based on the description of the position in the call, it sounds as though this person will act something like a human traffic light who directs customers to the right orders and keeps the flow of the line moving as smoothly as possible. This position is being rolled out to all existing cafes.

A second change on the labor side has to do with staffing, particularly during the peak lunch hour. Company President Neal Yanofsky indicated that Panera is fine-tuning its scheduling algorithms to ensure adequate staffing during busy times and guard against being overstaffed in down times.

Keeping the menu fresh
Another way Panera is hoping to improve the flow of customer traffic during the lunch hour is by making the menu, which is getting to the point of being overcrowded, more easily navigable. No other details were offered on this front, but it's notable that the menu is getting some attention, since it's always important for restaurants to keep their menus fresh and relevant.

Recent menu introductions include two summer salads, new scones, muffins, and whole-grain breads, as well as a strawberry smoothie. Yanofsky was most excited about the smoothie's performance in the second quarter. He said customers are drinking the beverage, which consists of strawberry puree and low-fat yogurt, in place of a full breakfast. Other goodies on the way include a chipotle chicken sandwich as well as new soups, salads, and bakery items.

The baked-goods category is one area where Panera aims to further differentiate itself. Yanofsky said there is "real potential for incremental sales" in this segment, and to expand this category, Panera is currently testing new breads and packaged mini-cookies. These items not only drive sales growth, but they're also important in expanding profitability.

What it means
As mentioned earlier, July comps are on track to significantly outpace the growth from the first half of the year. The management team, expecting the trend to continue, projects comps in a range of 2.5% to 4.5% in the third quarter and 2% to 5% for the fourth quarter. The wideness of the ranges suggests that uncertainty remains about how much traction the aforementioned initiatives will gain in the coming months.

Investors should also be aware that initiatives such as those related to staffing do not come without cost. Figuring in the deleveraging effect from lower comps, normal wage increases, high commodity costs, and the implementation of new labor initiatives, there will be a material effect on margins for the remainder of the year. Gross margins for the year are being estimated at 100 basis points higher than a year ago.

Because of both a tougher sales situation and margin pressure, management is currently stepping away from its previously forecast growth target of 25% earnings per share. And in kind, investors have been stepping away from this stock, which has lost roughly 30% of its value in the past two months.

It is indeed a mixed bag of news. We will have a better idea in the next six months on whether these new initiatives and products are able to drive noticeable improvements to restaurant performance.

In the meantime, the uncertainty might provide just the opportunity to take a closer look at what still remains a compelling long-term growth story.

Recent Panera Foolishness:

  • Check out our analysis of Panera's Q2 results.
  • Panera won top honors in a few categories of the Zagat survey.

Starbucks is a Motley Fool Stock Advisor selection. To find out why, try a free 30-day trial today.

Fool contributor Jeremy MacNealy has no financial interest in any company mentioned. The Motley Fool has a disclosure policy.


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