Potbelly: Good Post-Pandemic Sales Recovery, But Increased Costs And Share Count

RiverNorthPhotography/iStock Unreleased via Getty Images Potbelly ( PBPB ) has managed to bring its same-store sales above 2019 levels , with a new menu as well as a new app and website helping to drive sales. The costs associated with these initiatives have contributed to Potbelly’s shop-level profit margins staying around 5% below 2019 levels for now, although its shop-level profit margins should improve in the following quarters.

Potbelly’s same-store sales recovery has been a bit better than I previously expected. A bit of further recovery could support a valuation of around $5 to $6 per share. Potbelly’s increased share count (compared to pre-pandemic) reduces its upside despite relatively strong sales performance though. Sales Performance

Potbelly’s same-store sales performance has generally slightly exceeded my previous expectations . It reported -3.1% same-store sales in Q1 2021 (in-line with my expectations for a low-to-mid single digits decline). Potbelly followed this up with +70% same-store sales growth in Q2 2021 and +33.7% same-store sales growth in Q3 2021.

The year-over-year comparisons for those quarters were greatly affected by the pandemic though, so it is more useful to compare those quarters to 2019. Potbelly reported that Q2 2021 same-store sales were down marginally at -0.7% compared to Q2 2019, while Q3 2021 same-store sales ended up +4.5% compared to Q3 2019.

I had assumed that Potbelly could get close to 2019 same-store sales levels (such as -2%), but it has done better than that in the last two quarters. Potbelly has closed some of its poorer performing stores and its company-operated shop count has gone down from 427 at the end of Q3 2019 to 397 at the end of Q3 2021. This has contributed to its net sandwich shop sales declining by -2.5% (Q3 2021 compared to Q3 2019) despite the +4.5% increase in same-store sales. Lower Margins At Present

Although Potbelly has been doing well in terms of same-store sales, it is still significantly below 2019 levels in terms of shop-level profit margins. It reported a 10.6% shop-level profit margin in Q2 2021 and 9.8% shop-level profit margin in Q3 2021. This is much improved from the 0.6% shop-level profit margin in Q1 2021 and the -1.4% shop-level profit margin in 2020. However, Potbelly’s pre-pandemic shop-level profit margin was 15% in 2019.

Potbelly has been dealing with increased costs in various areas (labor, new app, new menu launch). Some of the increased cost items are temporary and helped to drive sales, and I’d expect Potbelly’s shop-level profit margins to improve to the lower-teens, and potentially reach the mid-teens again if its sales levels increase a bit further.

At 10% shop-level profit margins, Potbelly should be roughly cash-flow neutral before any outflows related to deferred payments from 2020 (of which there is $3.3 million remaining). At 13% shop-level profit margins, Potbelly may be able to generate around $12 million in positive cash flow per year, if it keeps net cash used in investing activities to around $10 million per year.

Assuming that it can slightly increase its shop-level profit margins from current levels, Potbelly should be okay financially. It also entered into a $40 million at-the-market equity offering agreement in November 2021 that provides it with some additional financial flexibility if needed. Valuation

Potbelly reached slightly above pre-pandemic same-store sales levels, with +4.5% same-store sales in Q3 2021 compared to Q3 2019. Potbelly’s new menu (and new/improved app and website) may be able drive a bit more (such as 5%) sales growth from Q3 2021 levels. If we also assume that its shop-level profit margins settle in the low-teens, then it would be worth a bit over $5 per share.

Potbelly was valued at around $5 per share in February 2020, before the pandemic hit. With the better same-store sales figures and a recovery to mid-teens shop-level profit margins, it can justify a valuation in the $5 to $6 per share range. Potbelly’s share count has increased from 23.6 million in early 2020 to 28.8 million now, so that negatively impacts its per share value. A $6.70 per share value in February 2020 would result in the same market capitalization for Potbelly as $5.50 per share now. Conclusion

Potbelly has done better than I expected with its sales recovery and reported +4.5% same-store sales in Q3 2021 compared to Q3 2019. Its shop-level profit margins are down 5% compared to pre-pandemic levels, partially due to the investments it has made to help drive sales growth.

The higher sales levels should help get its shop-level profit margins close to 2019 levels […]

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