Is Potbelly Getting Any More Appealing at These Levels?

At its lowest price since its overhyped IPO, Potbelly is approaching reasonable prices. But do the tepid growth figures justify the expectations?

Feb 19, 2014 at 4:08PM

One of the fast-casual darlings of 2013, Potbelly (NASDAQ:PBPB), is giving investors yet another costly lesson in the woes of investing in overhyped IPOs. With tremendous national growth potential and strong industry tailwinds, the long-term future for Potbelly is undeniably golden. The thing is, the market awarded it a valuation that simply couldn't hold up without a few hiccups along the way. In its recent earnings report, the delicious sandwich maker posted tepid top-line earnings, nearly flat same-store sales, and lower year-over-year profit -- prompting a sell-off that brought Potbelly's stock price to its lowest point since its IPO last October. The question now is, does the 30% discount give investors a more attractive entry point?

Stale figures
Revenue rose just 1.7%, while same-store sales barely budged -- up 0.7% for Potbelly's just-ended quarter. Net loss came in at $3.7 million, about 5% greater than the year-ago quarter's loss. Once you exclude IPO expenses, the company pulled a $1.9 million profit -- still down from an adjusted $2.4 million in the year-ago quarter.

There's a discrepancy between how the market perceived Potbelly and the reality of the business -- and that may not be a bad thing for the long run. Fast-casual restaurants are all compared to the golden standard, Chipotle Mexican Grill. But if you look at Potbelly's 2013, it doesn't much resemble Chipotle's massive buildout of stores and lightning-fast sales growth. For one thing, the company tacked on 42 new restaurants throughout the year. It also doesn't post the striking same-store sales growth that first excited Chipotle's legions of followers.

This sort of cautious growth may not energize the market and hungry investors, but it's a far better strategy than mindlessly adding locations -- especially considering that existing ones aren't posting substantial comparable-sales gains.

A better buy?
Potbelly, at less than $20 per share, is a much better deal than at $31 per share -- its price at the end of its first day on the market. Management is still targeting 10% new unit growth, and 20% EPS growth annually. Same-store sales figures remain iffy in the low single digits, but some of that is due to the macroeconomic environment, which hasn't lent itself well to many retailers and restaurants.

The stock trades at nearly 40 times its expected forward earnings. Now, you don't buy Potbelly for its earnings next year -- you buy it for its potential 10 years from now. With 40 to 48 new stores on the horizon for the current year, and likely more than the 50-count mark in the following year, investors will, without a doubt, see top-line growth. Short-term profitability might not be too appealing, as food costs are high, and the aforementioned economic environment is timid to say the least.

Potbelly has never been very appealing to value-seeking investors, and it remains an extremely expensive stock at 40 times earnings, and 21 times EV/trailing EBITDA. But at these lower levels, more optimistic growth investors could take a closer look. It may not be the "next Chipotle," but Potbelly has a formula that works, and a taste that people love. The chain looks well able to hold its place in the national fast-casual scene. 

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