An activist investor is pushing Potbelly’s board of directors to consider a sale to private equity.
Calling Potbelly an “underappreciated growth story,” Immersion Investments LLC, a top 20 shareholder of the Chicago-based Potbelly Corp., issued an open letter to the board Monday urging immediate action to create value for shareholders.
Immersion urged the board to undergo a strategic review to evaluate a sale, saying there is ample interest in franchise-led growth companies from private-equity firms.
A sale would allow the chain to easily refranchise its existing store base, “which creates substantial noise in reported financial results and is generally more difficult to execute and properly communicate as a publicly traded company,” the letter said.
Immersion also urged the board to aggressively repurchase shares. A share authorization was put in place in May, but Immersion said it has been disappointed that more shares haven’t been repurchased given the clear undervaluation and continued open-market purchases by management.
“In the quarter ending June 30th, management repurchased just 86,000 shares for $700,000,” the letter said. “At this pace, it will take more than seven years to exhaust the current buyback authorization.”
Immersion also urged the board to slow investments in technology and headcount, and to look for reductions in operating expenses. The company has yet to significantly leverage its spending into meaningful improvements in results, the firm argued.
“Continuing to spend money without a tangible and expedient [return on investment] is unacceptable,” said the letter, which was signed by Immersion managing partners J. Timothy Delaney and David Polansky.
Potbelly did not immediately respond to a request to comment on the activist investor's letter.
Potbelly is somewhat of a turnaround story. When CEO Bob Wright took the helm in 2020, the chain was struggling to cope with the impact of Covid and considered shuttering up to 100 units.
Since then, Wright has pushed franchising, pledging to grow the 429-unit chain to 2,000 units across the U.S., of which 85% would be franchised. At the end of the second quarter, 84 locations were franchised.
In the second quarter, Potbelly’s same-store sales grew a modest 0.4%, largely on a 4.3% increase in menu prices, but that lapped a 12.9% increase in the second quarter of 2023.
Fundamentally, Immersion said it is impressed with Wright’s stewardship of the brand, noting Potbelly’s “best-in-class unit economics” and strong growth trajectory.
But, the letter said, “The status quo is unacceptable.”
At the end of the second quarter, the chain had 234 franchise commitments. “At $1.2 million in sales per location and a 6% royalty rate, these 234 committed locations could generate nearly $17 million in extremely high-margin franchise revenue,” the letter from Immersion said.
But the current pricing of less than six-times earnings before interest, taxes, depreciation and amortization, or EBITDA, does not account for the chain’s potential for franchise growth.
“Because the company’s forward-looking growth is franchise-led, which requires significantly less capital than a company-owned unit growth strategy, the current valuation (8x on current EBITA and <6 future EBITDA) is simply too cheap,” the letter said.
The sandwich chain is not the only public company of late to be targeted by activist investors.
Two investor groups earlier this month upped their shares in Red Robin, for example. Portillo’s in August drew the attention of Engaged Capital. Noodles & Company took on a new board member in an agreement with activist Hoak & Co. Cracker Barrel Old Country Store has been grappling for years with Sardar Biglari, and recently agreed to support one of his nominations to the board.
Activist investors have also taken aim at Bloomin’ Brands, BJ’s Restaurants and Starbucks—all of which subsequently named new CEOs.
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