By the end of 2013, it was obvious something was wrong at Panera.
A fast-casual standard bearer—the brand that initially built its reputation on guest comfort and satisfaction above all else—found from its own surveys that more than a quarter of customers had begun avoiding the chain because of slower service, less comfort and botched orders. Its comps, while still positive, were falling and had been all year. Its transaction counts were falling as well.
As Panera Bread CEO Ron Shaich explained during an all-cards-on-the-table investor call that October, the company had taken its eye off the ball. Managers were focused on efficiency and costs, and the customer was being ignored.
“Walk into our cafes at 12:30 p.m. during the lunch rush, and you’ll see the lines,” Shaich explained. “Any one of us can visit a Panera and see that, and see that many customers walk out of our cafes every day when they can’t or won’t wait in the line,” he said.
“They were reaching capacity constraints on their box,” says Sharon Zackfia, an analyst with William Blair and Company. “I’m sure they wish they had discovered the problem earlier.”
Not for the first time, Shaich found himself in need of reinvention. He already was a pioneer in the fast-casual realm, and he had shown the business world new ways to connect with customers through shared values.
But then regional upstarts were doing “Panera” better than Panera. They had conscientiously sourced menus and designed inviting stores, and were conceived with technology built into the brands, connecting with guests in ways Panera wasn’t.
“There has been a modernization of a.m. eateries that have picked away at Panera’s customer base,” says Darren Tristano, president of Chicago-based research firm Technomic. “There’s also the competition of convenience during the week. QSRs have been picking away at the fast-casual category.”
Shaich has spent two years addressing the brand’s dilemma through Panera 2.0, the much-heralded technology upgrade at the chain. But the enormous investment (initially $42 million) and lengthy rollout has required Shaich—who has been outspoken in his distaste for Wall Street’s short-term priorities—to cater to investors more than ever. It also has meant his “higher purpose” activities—trumpeting the brand’s values as a marketing tool—have all but gone silent.
But if he is able to buy enough time with investors, early results point to another industry-leading reinvention from Shaich.
The problem, Shaich would explain, was two-fold. First, stores in their current form couldn’t take on greater capacity. Second, stores absolutely had to take on greater capacity if the chain was to, as Shaich said, “bend the arc of our comps trajectory.”
Since 2012, Panera’s comp sales held a steady downward trajectory, with traffic going negative by the fourth quarter of that year and average check sizes declining until they went negative in 2014.
Shaich’s answer to the capacity problem and falling sales is Panera 2.0, unveiled in 2014. The custom technology allows mobile ordering and predictive pickup times. Kiosks in restaurants aid frictionless service. Upgraded equipment and a new expeditor position help manage increased demand.
By last October, the company also had opened 29 catering hubs, which take ordering out of the restaurant, increasing in-store efficiency. Panera has estimated that catering and small-order delivery, which currently is being tested, as well as branded products sold at retail, will grow to $1 billion businesses each.
A new revenue line will be created when franchisees begin using the system—expected later in 2016—through a fee Panera collects on digital sales. Analyst Keith Siegner with UBS estimates those could reach $15 million by 2017 and $25 million by 2019.
In tandem with its technological advances, the chain has driven a high-profile reworking of its menu, focusing even more on healthful options. At the end of last year, Panera announced it will source 100 percent cage-free eggs by 2020 as well as add more plant-based proteins, such as edamame, to its menu. Last year, it also launched an aggressive campaign to remove artificial preservatives, sweeteners, colors and flavors from its food by the end of 2016. As of January, it had done so with a line of “clean” soups, free of additives on the chain’s “No No List.” Shaich has all but dared competitors to follow suit.
“We’ve been at this for quite some time,” he told TheStreet last June, when Panera announced its plan to remove artificial ingredients. “This isn’t so easy to do, removing ingredients. I wish a lot of people luck, because it’s not like you can just change an ingredient.” (Panera declined to be interviewed for this story.)
The technological upgrades to Panera will be equally difficult for others to follow. The cost is enormous, about $125,000 per restaurant. About 400 company-owned stores have already been upgraded. There are 1,946 units systemwide. Because of this investment and the years it will take to implement, Wall Street has been wringing its hands.
“We live in a society in which we’re thinking shorter and shorter term,” Shaich told Restaurant Business in 2012. “But real values often require long-term commitments, and I think that applies in business.”
To fully bring about his vision of an upgraded Panera, Shaich has been forced to aggressively cater to investors’ demands to buy time. In fact, as some analysts had predicted the prior year, 2015 found Panera face-to-face with an activist investor, Luxor Capital. But as investor activism goes, it was a low-key affair.
“Usually when an activist is unhappy, you know it,” says Zackfia. “But Luxor seems to be supportive of management and what they are trying. It seems to be more focused on underappreciated value in Panera rather than seismic change.”
Still, discussions with Luxor have led to several initiatives to increase investor value. In April, Panera announced plans to sell and refranchise 73 cafes and boost its share-buyback program. This on the heels of a previously announced refranchising of about 100 other stores. It also took on $500 million in debt to help with buying back $750 million in stock.
Wedbush analyst Nick Setyan believes these were wise moves, saying Panera’s historic reluctance to take on debt didn’t make sense anymore. “It seems like it was more of a concern from the 2000s. Now they are a mature system, and given the structure of interest rates, it makes a lot of sense.”
Since the bold moves pushed by Luxor to add value to the stock, “a lot of [investors] have gotten a lot less aggressive in terms of the pressure they’re putting on Panera,” says Setyan. “The management team bought more time to implement 2.0. They probably bought until the end of 2016.”
While Panera will need all that time to bring 2.0 to more cafes, it may not need that much time to convince investors of its worth. After a full year of dropping traffic numbers, the trend finally turned at the end of 2014. Comps have since maintained an upward trend. Stores that have adopted Panera 2.0 have seen an average 10 percent year-over-year sales increase. The new catering hubs have increased sales 150 times the rate of growth of stores that offer catering. Its branded-product business is showing strong growth as well.
“Panera at Home is growing sales at a 60 percent growth rate year-over-year for the last four years,” a confident Shaich boasted in Panera’s third-quarter 2015 investor call. “You hear me?” he said. “Sixty percent growth for the last four years.”
There is still a huge amount of work to do, begging the question: Will the investment be enough? The world will know more soon; Shaich announced that a Panera 2.0 update is planned for its fourth quarter earnings call this month.
“You have to give them credit for continuing to innovate,” says Tristano. But pointing to concepts like Starbucks and Domino’s that have already made big gains with advanced online-ordering capabilities, he says, “Some of the moves [with Panera 2.0] seem like they are just trying to catch up, not get ahead.”
Analyst Setyan thinks it’s more likely Shaich has embarked on another profitable reinvention. “When we were starting off [looking at plans for Panera 2.0], analysts were pretty skeptical,” says Setyan. “But at this point I think the probability that we look back and say, ‘Ron is a visionary once again,’ is probably greater than 50 percent.”