Margins and Throughput Issues Continue to Weigh Down Panera Bread

It's been a disappointing 18 months for investors in Panera Bread Company (NASDAQ: PNRA  ) . To be clear, I am one of those semi-disappointed investors, only encouraged by the fact that I can continue to slowly build up my position in the stock near current levels. The stock has been range-bound for a year-and-a-half now, which can be extremely frustrating for the many investors who see the long-term growth catalysts for Panera.

Disappointment when looking at competition
Unlike Chipotle Mexican Grill (NYSE: CMG  ) , which grew comparable-store sales an impressive 13.4% in the first quarter, Panera reported an abysmal 0.1% increase. Although the company beat on the top and bottom lines for the first quarter, its margins dropped once again while its guidance failed to impress investors. 

Many, like I, bought into Panera because of the increasing trend of healthy eating. The fast-casual diner uses quality ingredients and food with integrity. Based on its expansion opportunities, investors were optimistic that the company could maintain healthy growth numbers, while expanding its footprint across the U.S. 

Now, many of us are left scratching our heads. 

Don't get me wrong about Panera. I still believe that CEO Ron Shaich is a great leader who will shake through some of the issues shareholders have with the company's operations, and once again return sustainable moderate growth to investors. 

Now, with that being said, there are several key issues taking a toll on the company's performance.

Keeping up with demand
For starters, Panera has admitted to, and finally began to address, its throughput problems. Essentially, Panera is seeing so much customer traffic during peak hours of the day that it simply cannot accommodate each customer's wish in a timely fashion. 

Admittedly, the company has rolled out a new mobile app, and this should hopefully cut down on on-the-spot orders and allow employees better opportunities to satisfy customers' needs. 

Regardless, until the app is proven to work and has a wide adoption among customers, Panera will continue to suffer from throughput-related issues. Not helping the ordering time is the slew of choices that customers face when they go to Panera.

While comp-store growth is slowing and peak hours are an issue at the loaded-menu Panera, the simple menu of Chipotle may be helping funnel customers along. With few choices to make at the register wait times are low, and the assembly line work allows the burrito-maker to churn out incredible growth numbers. 

Panera and Chipotle Menus:

Source: Author Photos

Margins likely to continue lower
Turning to operating margin -- or the percentage a company profits from its sales after it accounts for expenses -- Panera experienced a 250 basis-point drop for a year-over-year fall of 18% in the most recent quarter. 

Operating margin fell from 13.6% in the first quarter of 2013 to 11.1% in the first quarter of 2014. To some degree, the roll-out of new initiatives for operational improvements and the weather undoubtedly had adverse affects.

Still, this is not the kind of thing you want to see from an investor perspective, especially given how long we've already been waiting. Shaich had this to say on the conference call:

For fiscal 2014, the company continues to expect operating margin will be down 75 to 125 basis points when compared to fiscal 2013. This target reflects the full year impact of the key initiatives and related investments that are under way.

The little things matter too
While margins continue to feel the pinch, going to the restaurant and having this happen certainly doesn't help matters: 

Source: Author Photos

Now, you may be wondering why something like this even matters. For full disclosure, this could have been a total fluke. Perhaps it was simply a new employee making a mistake. That's totally plausible. But when margins are down nearly 20% year-over-year, the little things suddenly seem to be much more important.

The big bag above is just one small example. In the first quarter of 2014, total operating expenses climbed roughly 11%, while SG&A (selling, general and administrative) expenses rose 11.8% year-over-year. In comparison, revenues only rose 7.6% year-over-year. 

Sales are not rising as fast as expenses, and hence, the current margin contraction. These are the little things that make a difference, and until Panera can correct them to improve efficiency, shareholders are going to be the ones feeling the pinch. 

The Foolish takeaway
Like I said in my introduction, I believe in Shaich and I think Panera has a lot of runway ahead, if it can just correct a few of these issues over the rest of fiscal 2014. For the long-term investors who can keep their emotions at bay, I would truly consider it a welcoming gift for the stock to remain range-bound, as this allows us to buy more and more shares and lower our cost bases. 

Shaich, who founded the company and has been a board member since 1981, has been able to get Panera back on track during past business hiccups. I believe in his experience, and that's why I think he'll eventually get Panera back on track once again. If he can do that, margins should expand and the store count will continue to increase, paving the way for a higher stock price. Until then, patience will be key. 

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