In last Friday's article on Panera Bread, I wrote, "I think Panera looks good at recent prices." I do, but I realized later that phrasing it that way made it seem like I was buying already.
I'm not.
As is my way, I'll watch Panera for a while to see if we can shave another 16% off the price to buy at $35 or so. In this weakening market environment -- which Kelly Letter subscribers saw coming all the way back in late April and stood prepared with a healthy list of stocks to watch with target buy prices -- the sale affects all companies indiscriminately. The good and the bad go down, so waiting to buy looks smart.
About Panera being a good company with a stock worth waiting to buy, frequent site contributor Dave Van Knapp of Sensible Stock Investing wrote:
Your article on Panera got me interested enough to "score" the stock according to the framework that I use.
Points you mentioned and my interpretation:
I agree that Panera is not threatened by McDonalds. They serve different markets. But Panera does face competition in the "casual dining" or "comfortable dining" segment. The few times I've gone there, I would not rate them as highly as some of their competitors for that level or type of dining experience. I've been disappointed (so has my wife). Panera's "Story" would score 6 (out of 10) in my book.
Panera's valuation is what I would call "Fair+." That makes it a good -- not great -- buy at its current price. I look at several valuation ratios, and when I blend them together, I get "Fair+."
Stair-step increasing earnings are something I always like to see.
Decreasing revenue growth rate. Actually, according to Morningstar, their 3-year rate is 32% and their past 12 months is 30%. I don't see significant fall-off there. I don't think that's why the market has been dropping Panera's multiples.
Their valuation multiples (looking at several measures) grew fairly steadily from 1997 to 2004 or 2005, then have declined steadily since then. I don't see anything that's going to cause them to reverse and start going back up, although at some time I expect they will hold at fairly steady levels. Right now, I don't think the market has sorted it out yet...what's the right multiple for Panera?
Points not mentioned by you and their significance:
No debt...I love to see that.
No dividend...don't like that, although it's understandable for a growing company.
ROE of 14 and falling for the past three years. Not a good sign. I give extra credit for ROE > 15, and still more credit for keeping it above 15 for several years running. They're going in the wrong direction.
EPS growth rate has been falling. Their 3-year rate is 23%, while their past year was 12%. I suspect that's more responsible for their stock price's difficulty than any other single factor. Related: Their EPS growth rates are lower than their revenue growth rates. That's not a good sign; it suggests problems in controlling costs somewhere along the line.
PEG ratio of 0.9 is terrific.
I don't like the fact that their stock price has been falling. It's a pattern I've seen with many growth companies: Their valuation and stock price grow until EPS growth slows or reverses, then valuation and stock price both go backwards until the company finds some sort of steady-state "mature" level. So beyond a good valuation, I like to buy a stock when its price is going up. I like my purchases to get off to a good start, so I almost never buy in the face of a declining price.
As you can see, my approach has a lot of fundamental similarities to yours, but I also try to get the best of both worlds by using some simple technical factors. It's basically the same question I asked about Apple and the idea of shorting it: "What's it doing?" Panera is falling, for reasons that seem typical of the way the market often interprets fundamentals, in this case ROE and EPS growth both trending downwards.
So for me, this stock would stay on a watch list, but I wouldn't buy it now despite its good story and better-than-average valuation. As you advocate, wait and watch.
As always, a good run-down by Dave. One place where he and I differ is in the spot of the recovery where we target a buy. He goes for a chart that has already turned up after bottoming, in hopes of getting on the elevator as it's heading up.
I, however, don't mind buying along the flat line that is the bottom, and even averaging down from there if I believe strongly enough in the company. Because most people invest on a regular basis rather than in lump sums all at once, a stock that flat lines or fluctuates in a range that forms a band representing the bottom provides investors with a longer time period during which they can put money to work in the good idea they found.
My favorite example of this was way back in June, July, August, and September of 1993 when IBM was the hated has-been of the computer industry. It was my first big discovery in the stock business. Everybody said I was a fool to chase yesterday's story and didn't I know that "you don't get fired for owning IBM" was a phrase from the 1970s, not the 1990s?
Ignoring that, I began pulling capital from every possible place I could free it up and putting more into IBM shares every week. It wasn't easy, as the headlines around the company were awful, with talk about breaking it into several component parts and selling it off. Imagine buying into that story.
A four-month time frame that happened 14 years ago may seem like a blip of scariness that anybody could have seen through. In the middle of such retrospective blips, however, they don't seem so insignificant. The latest market downturn around tightening credit and sub-prime implosions, for instance, is barely three weeks old but people are discussing it as if it's been dragging on for years. Forecast the tone if this atmosphere persists until the end of November. Pretty dreary.
So it was with IBM back in summer 1993 as the weeks wore on, the news darkened, people lost their jobs, and a cartoon appeared showing nerds standing around loaves of bread on a table sporting a sign that read "Bake Sale" in the IBM logo's horizontal striped font style. Pretty dreary.
As you can see on the chart, IBM's price fluctuated in a band between about $10.25 and $11.75 (split-adjusted) for four months before finally breaking out under the stewardship of Louis V. Gerstner, Jr., who later wrote Who Says Elephants Can't Dance? about his turning Big Blue around. Money put to work weekly during those rough four months was the very picture of Bill Miller's strategy slogan: "Lowest average cost wins."
Shares of IBM rose steadily over the next six years. They split two-for-one in 1997 and again in 1999, and peaked at $139 in July 1999, some 1,165% higher than they sold for during summer of 1993 when the future was supposedly so dismal for the company.
Long periods of stuck stock prices for companies you believe in -- and can prove with good research to be solid prospects -- are heaven.
You won't hear them discussed much on financial TV shows or in fast-paced trading newsletters that miss out on such long-run winners when they sell at the first little peak, but that's where the stock market's truly big money awaits. All these crummy trading services do so many people a disservice with their "three stocks you need to know about for tomorrow" and forget about the next day. All you really need is one or two big ideas a year, and the guts to stick with them, to watch your money grow.
Back to Panera.
Is now the time to buy? Dave could well be right that there's further downside ahead, and I'm not buying yet, so waiting looks to be the official word around here. That said, I'm confident that anybody who bought last week at around $40 will be looking back one day not so far from now and smiling at how well they've done.
While all of my experiences at Panera have been positive, Dave mentioned that he and his wife were disappointed by Panera as compared to some of its competitors, although he didn't name those competitors.
Bruce Becker reported similar disappointments in greater detail:
We no longer go to Panera, and the same applies for a number of our neighbors. The franchisee lost the store in the neighborhood. He financially mismanaged a number of franchises he held and took them all down. They had a great manager who recognized her customers and catered to them. The coffee was good, as were the bakery, sandwiches, and soup. They opened a new place just across the highway -- totally mismanaged, constant turnover, coffee like colored water, cream cheese in sample dish floating in ice water with no sample but crumbs (they don't know enough to clean up for the sake of appearance), etc. Speaking to the manager did no good as somebody new was always there. It's a company store.
After a long absence, a friend wanted to have lunch with us about 10 days ago and suggested Panera. We said OK and said maybe things had changed. What did we find? Colored water coffee, dried sharp cheddar on the sandwich (took it back to the counter and they found me a piece that was a little less than bad). My only regret was I didn't short the stock. This shop is located in Superior, Colorado. They will have to go a long way before I buy their stock or their food.
What about you? Any firsthand Panera experiences to report? Send them to me, please.
We haven't heard the last on this stock yet. One reader wrote that his college roommate was Neal Yanofsky, president of Panera Bread, and that he's "a truly brilliant guy." I asked the reader if he could arrange an email interview for me, and am waiting to hear back.
Coming Soon: Customer responses to Power Investor President Frank Lardino, Blockbuster vs. Netflix, Pfizer, and the state of U.S. health care.
You wrote about Starbucks and mentioned Panera Bread. Have you been watching what has been happening to Panera at all? I am wondering if you think Panera could be a buy-low candidate or are they in for tough times to come with Starbucks surging ahead?
I think Panera looks good at recent prices.
PNRA shares hit $75 at the end of March 2006. They cratered to $47 by August 2006, rebounded to $68 by October 2006, went slightly lower and sideways until June of this year, then swan dove to around $40 now.
What's the problem?
Slowing revenue growth, mainly, accompanied by the explanation that competition is getting tougher as fast food restaurants like McDonald's improve their menus to offer fare comparable to Panera's.
Let's take a moment away from the office-bound analyst crowd to think about the real-life experience at Panera. Have you been to one? If you're considering investing, get thee to the nearest Panera and taste for yourself the menu competitors are trying to beat. Relax in the atmosphere that is supposedly at risk of being supplanted by nimble rivals. As you savor the food, sip the coffee, and bask in the coziness, ask yourself if you would really feel the same way at McDonald's because it has a new flavor of coffee and a fresh cinnamon roll.
I bet you'll say no.
Panera has an excellent customer experience. Their menu is superb, the kind of food you'll find yourself thinking about long after eating it. The free wireless network has kept this writer in business many a time while Starbucks charged for use of its net services. The coffee kept me warm, the food kept me nourished, and the staff at the Cherry Creek, Colorado location remembered me after just three visits or so. I liked that.
Evidently I'm not the only one who came away pleased. According to J.D. Power & Associates, Panera consistently ranks as one of the top fast-casual restaurant chains for customer satisfaction and loyalty. That's not much of a shock when you know that its menu creation crew comes from places that aren't too shabby in the food department: The Culinary Institute of America, Four Seasons Hotels, Starbucks, and Wild Oats.
Meanwhile, for all this supposed encroaching competition, Panera's earnings have improved every year since 1999. Look at the progression:
In the past twelve months, the company posted 1.84, indicating that it's probably on track to grow earnings again this year.
Its price-to-sales ratio is only 1.4 compared to 2.3 for Starbucks. It's growing revenue at about 30%, and I expect that to edge up a bit in the next few years.
If its revenue goes up 30% in the next year and its PSR multiple gets to 2.0 -- still less than Starbucks's 2.3 -- PNRA will see $77 per share, a gain of 88% from current prices.
This Weekend to Subscribers: Whether the credit crunch is something to fear or something to profit from the way we profited from the same scare back in August 1998, the deterioration in shares of Boston Scientific, and tantalizing values presenting themselves in the homebuilding sector.
Coming Soon On This Free Site: Customer responses to Power Investor President Frank Lardino, Blockbuster vs. Netflix, Pfizer, and the state of U.S. health care.
Several subscribers wrote recently to ask about Starbucks. Is it undervalued at current prices, and worth buying?
I think so.
From its split-adjusted price of $4.50 ten years ago, SBUX rose 789% to $40 last November. It then declined steadily to $29 in early March, rose to $32 over the following two weeks, then declined to $25.50 on June 22. It closed yesterday at $26.50, a 3.9% gain from its low a little less than a month ago, but still 34% lower than its November high.
So, what's the problem at Starbucks now?
Its chairman wrote in a memo that the company's expansion from 1,000 locations to more than 13,000 has watered down its brand. That doesn't bode well for plans to add another 1,700 U.S. locations this year. Some analysts project that the company will eventually top more than 30,000 locations worldwide.
Also, insider sales of stock by the chairman and other officers last year made some question the stock's valuation. In retrospect, the officers were right to sell last year. Some are waiting to see them start buying again as the "all-clear" signal to begin investing.
The reason I think the stock offers more upside than down from here is that, despite its massive market footprint, Starbucks is in a business that has room to grow. Its many stores are not a negative, they're a positive in the sense that the number two coffee chain in the U.S., Caribou Coffee, has fewer than 500 locations. Starbucks has 9,400 and will top 10,000 by year-end. Having twenty times the presence of its nearest competitor is quite an advantage.
As for concerns that the coffee business is saturated, I don't share them. Neither does the Specialty Coffee Association of America, which pointed out that only 15% of adults in the U.S. drank a cup of specialty coffee each day in 2005. Too, Starbucks does a lot more than just coffee. It was brilliant at creating a menu with something for any kind of weather, and that brilliance has continued in all of its endeavors.
It faces challenges. Its ambitious expansion plans could go awry, especially in new markets like Brazil, India, and China. In the latter market, it already got into some trouble when it opened a store in the Forbidden City in 2000, only to close it under intense pressure last Friday when accused of trampling over Chinese culture.
Growing pains are inevitable, though, and it's better to have them than not. They mean the company's trying to grow, after all.
Another challenge facing Starbucks is increasing competition. Its biggest threat might be not from another coffee chain, but from McDonald's, which is offering its own premium roast coffee. Other encroachers include Tim Horton's, Dunkin' Donuts, and Panera.
Of these threats, only Panera looks legitimate to me. Nobody thinks of hanging out and doing work or homework at McDonald's. Tim Horton's is just another coffee shop, and Starbucks has proven quite adept at crushing all comers in that category.
Panera, though, offers an experience that is comparable to Starbucks's experience, if not better. I've worked on Panera's free wi-fi network in the states, and it was excellent. The food is fantastic and the coffee is great. It's a real restaurant and bakery that offers coffee, as opposed to a coffee shop that offers some baked goods.
That said, Panera is far, far behind Starbucks. It's not as quick to get in and out, it's not nearly as available with just over 1,000 locations, and its brand is nowhere close to being as recognizable as Starbucks's. Plus, Starbucks has a lot more partnerships in place, with its brand appearing on grocery store shelves, airport kiosks, and on hair barrettes worn by high school girls in Japan.
All in all, I'd say the recent discount on SBUX presents an opportunity. I would hold out for $25 or less, a 6% drop from yesterday's close.
Tomorrow: A long read ahead of the weekend covering the iPhone, U.S. health care, and Power Investor software. Don't miss it!
