Potbelly Shares Are Dropping... What's Next?

Shares of Potbelly Corporation (NASDAQ: PBPB) declined as much as 7% today and reached a new low since going public just a week ago. This low reflects a drop of almost 25% from the high of $33.90 reached last week. Here's a quick look at why shares are heading downward today.

The "Next Chipotle or Panera"?
Potbelly and fellow recent IPO Noodles & Company are trading at high valuation multiples thanks to the investment thesis that each company can grow nationwide and become the "next Chipotle" or "next Panera" growth story. The appeal of this investment thesis is obvious, since the tremendous success of Chipotle Mexican Grill (NYSE: CMG) and Panera Bread (NASDAQ: PNRA) has rewarded investors with multi-bagger returns.

The potential for Potbelly and Noodles & Company to follow this mold is clear from the following table:

Market capitalization (in billions)$13.7$4.6$0.7$1.4
Restaurant count (including franchises)1,5021,708307348

With only a fifth the number of locations of Chipotle and Panera, Potbelly and Noodles & Company could provide multi-bagger returns if they continue to grow nationally. The key words in that last sentence are "could" and "if," which highlight the risk to investors that Potbelly does not become the next restaurant success story. In One Up On Wall Street, famed investor Peter Lynch labels "I missed that one, I'll catch the next one" as one of the "the twelve silliest (and most dangerous) things people say about stock prices" because "the trouble is, the 'next' one rarely works..."

How strong is the growth?
The primary reason that Potbelly's shares have fluctuated almost 25% in just one week as a publically traded company is the significant amount of judgment that goes into determining whether Potbelly can really become the "next Chipotle" or not. 

While there is undoubtedly room for Potbelly to grow its footprint beyond its existing locations, investors are increasingly focusing on the growth metrics that make Chipotle and Panera stand out from the crowd of restaurant stocks. For example, Potbelly's same store sales ("SSS") growth has been pretty lackluster as noted below:

 20092010201120121H 2013
Revenue growth3.4%2.7%7.9%15.5%11.7%
SSS growth(2.4%)1.8%1.7%3.4%1.5%

These results are not on par with Chipotle and Panera, which creates questions regarding the strength of the growth thesis for Potbelly.

What should investors do now?
The volatility of Potbelly's shares will continue to be driven by evolving perceptions of whether the company can grow at the same rate as Chipotle and Panera. If Potbelly can grow to reach Panera's size over time, today's investors will be rewarded. That statement once again starts with an "if," and failure to meet the market's built-in expectations will result in an under-performing investment. Given that Potbelly's historical growth provides an indication that high-growth may be unlikely, there is the real possibility that further share price declines remain in Potbelly's future.

A compelling alternative to Potbelly is one of the stocks investors hope it will emulate: Panera. With a trailing price to sales ratio of 2.1 and a trailing price to earnings ratio of 25, Panera is trading at lower multiples than Potbelly's TTM P/S of 2.7 and TTM P/E of 27. While Panera is further along in its growth story than Potbelly is, there is still room for the company to double its current restaurant count. Plus, Panera offers a far lower risk profile given its proven track record of growth and profitability.

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The article Potbelly Shares Are Dropping... What's Next? originally appeared on Fool.com.

Brian Shaw owns shares of Chipotle Mexican Grill and Panera Bread. The Motley Fool recommends Chipotle Mexican Grill and Panera Bread. The Motley Fool 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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