Panera Turns Down the Volume

A series of investments and strategic moves has Panera planning for a rocky few years.

Mar 27, 2014 at 11:56AM

At its investor meeting this week, Panera Bread (NASDAQ:PNRA) reconfirmed its first-quarter and full-year earnings guidance. It followed that up with a little warning about the future, though. According to the business, the initiatives and strategy that it's undertaking this year is going to cut into margins and earnings growth for the next two years . The impact for this year was already baked into the plan, but the extension into fiscal 2015 surprised investors.

Strategic investments at Panera
Panera has been one of the biggest brands at the forefront of the fast-casual revolution. These businesses have been milking the fast-food market by offering higher-end fare at higher price points. Panera and Chipotle Mexican Grill (NYSE:CMG) are the two public businesses dominating the industry, and forcing sit-down restaurants and fast-food chains to rethink their strategies.

In classic strong business style, neither brand has been content to rest on its laurels. Chipotle has begun testing at least two other businesses -- a pizzeria and a pan-Asian restaurant -- and has recently expanded its vegetarian offerings.

Panera's strategic plan is supposed to help the business meet its changing customer needs. The reason that the business is taking a lump when it wants to be growing is that the plan requires increasing the company's operational capacity first. Panera is upgrading its kitchens, working on training, making sure its locations are properly staffed, and streamlining its processes. Those things all cost money and don't make money.

Management's hope is that by oiling the machine, it can turn on increased revenue and earnings down the line when it starts to invest more in advertising and customer experience programs. All of the spending was known by the end of fiscal 2013, with Panera forecasting 5% to 8% earnings-per-share growth in fiscal 2014. 

How can Panera cash in after 2015?
After the announcement about earnings, Panera's stock got hit hard. As it turns out, the phrase "choppy earnings growth" doesn't inspire investor confidence. For those still long on Panera, the hope is that 2016 will be the year that things start to expand rapidly again.

Chipotle has had two major benefits over Panera that has kept it on the upswing. First, for an evolving business like Chipotle, the franchise model can be slow -- Panera is more than 50% franchised. Franchising gives the local owners some oversight into management and spending, and can make it more difficult to roll out big operational changes quickly. That's not to say that the franchise model is inherently bad, but in this situation I like company-owned networks much more.

Second, Chipotle has stripped out a huge chunk of the traditional restaurant operational model. That's given the company fewer moving pieces to manage and kept productivity incredibly high. Raymond James' analysts have called Chipotle's sales per square foot of over $800 an "industry-leading rate." 

Panera's strategic moves need to give it the sort of operational efficiency that Chipotle is running away with. Panera's operational improvements are certainly going to go a long way toward making the business a better one, but there's a lot of time between now and then. Those looking for a quick pop may have just struck Panera off the list.

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Andrew Marder has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Chipotle Mexican Grill and Panera Bread. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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