PBPB - Potbelly: Sales Growth May Be Plateauing

2023-08-31 10:18:48 ET

Summary

• Potbelly Corporation's sales growth may be plateauing, with average weekly unit volumes around $25,000 to $26,000.
• Trends from the latter part of Q2 2023 and its Q3 2023 guidance suggest a slowdown in Potbelly sales growth.
• The resumption of student loan payments in October is also likely to be a bit of a headwind.
• Potbelly is already at its targets for 2024 sales though, so it is still in a decent position there.
• Shop-level margins have been improving, but still need a couple more percent improvement to meet its 2024 targets.

Potbelly Corporation (PBPB) sales have been rapidly growing, with +22.2% same-store sales growth in Q1 2023 followed by +12.9% same-store sales growth in Q2 2023 against tougher comps. However, trends from the last part of Q2 2023 and its guidance for Q3 2023 indicate that its sales growth may be plateauing, with average weekly unit volumes holding at around $25,000 to $26,000.

Potbelly will achieve its 2024 targets for sales levels if it keeps its average weekly unit volumes around that level, so it is still in a decent position.

The apparent plateauing of sales growth plus the Supreme Court's decision to strike down Biden's student debt forgiveness plan has resulted in my estimate of Potbelly's share value ending up at $8 per share now.

This is down slightly from my previous valuation range of $8 to $9, which assumed that the student debt forgiveness plan would be struck down, but was a bit more favorable about Potbelly's sales growth trends. If the Supreme Court had upheld the student debt forgiveness plan, that would have boosted Potbelly's estimated value by $1 per share.

Plateauing Sales Growth

Potbelly generated +12.9% same-store sales growth i n Q2 2023 , which was better than its guidance for +10% to +12% same-store sales growth.

However, it appears that growth slowed during the last part of the quarter. Potbelly had mentioned that same-store sales went up +14.4% for Q2 2023 up to May 28. I had thus expected that it could do close to +14% same-store sales growth for the full quarter.

Based on the full quarter numbers, Potbelly may have generated approximately +9.5% same-store sales growth from May 29 until the end of the quarter. Potbelly's average weekly unit volumes appear to have averaged around 3% lower in the latter part of the quarter compared to the first part (up to May 28) as well.

The idea that sales growth is slowing appears to be confirmed by Potbelly's guidance for Q3 2023, where it expects +7% to +9% same-store sales growth in Q3 2023 and average weekly unit volumes of $25,000 to $25,500. Potbelly has beaten its sales guidance in recent quarters, but even allowing for a bit of outperformance, its average weekly unit volumes in Q3 2023 may be down 1% compared to Q2 2023.

This could be due to a bit of seasonality, with Q3 tending to be slightly weaker for Potbelly than Q2, but excluding seasonality I'd classify Potbelly's current sequential quarter sales growth trends as essentially flat.

Potbelly is basically at its 2024 target for average unit volumes if it maintains current sales levels, so this is still decent performance. However, there is a good chance that Potbelly's rapid improvement in sales performance may be levelling out.

Notes On Debt Forgiveness Plan

I had also mentioned that the (upcoming at the time) Supreme Court ruling about Biden's student debt forgiveness plan would have implications for Potbelly's sales. The plan was struck down in a 6 to 3 vote , and student loan repayments are now set to restart in October.

This is a headwind that makes it more likely that Potbelly's sales have plateaued as well, with the potential to have sales decline a bit from current weekly levels.

Roughly 17% of adults have federal student loan debt and a Global X research survey suggested that 33% of borrowers would reduce spending on dining out due to student loan payments resuming. While an alternative way of addressing student debt was recently announced , Potbelly's sales could still be affected by a couple percent.

Potbelly's Margins

In terms of margins, Potbelly has also been doing well. It provided guidance for 12.7% to 14.2% shop-level margins in Q2 2023, and ended up at 14.4% shop-level margins, bolstered by its high level of sales productivity.

The beats on margins and sales resulted in Potbelly delivering adjusted EBITDA of $8.0 million for Q2 2023, above its guidance for $6.0 million to $7.0 million in adjusted EBITDA.

For Q3 2023, Potbelly expects 12% to 14% in shop-level margins, resulting in expectations for adjusted EBITDA of $5.0 million to $6.0 million for the quarter. It seems likely to end up near the high end of its guidance range around margins if it exceeds same-store sales growth expectations again.

Valuation Notes

I now estimate Potbelly's value at $8 per share, compared to my previous $8 to $9 range (which assumed that the debt forgiveness plan would be struck down by the Supreme Court).

Potbelly's shop-level margin performance has been tracking decently, although it still needs a couple percent improvement to reach its 16% goal for 2024. Potbelly's current sales levels are already consistent with what it needs to hit its 2024 targets. However, the recent slowdown in sales growth means that one can't assume that Potbelly will end up noticeably exceeding its 2024 sales targets.

Conclusion

After a period of rapid sales growth, Potbelly's sales levels appear to be plateauing with average weekly unit volumes around $25,000 to $26,000. The resumption of student loan payments in October also may contribute to Potbelly's sales staying near current levels.

This is not a bad position as its current sales levels are already around its 2024 targeted sales levels. Potbelly still has a bit of work to do around improving shop-level margins further, though.

I now estimate Potbelly's value at approximately $8 per share. This is based on Potbelly meeting its 2024 sales targets, while ending up close (around 1% lower) to its 2024 shop-level margin targets and maintaining its progress with franchising .

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