Potbelly has made a large number of great moves under its existing management, so much that it could reward investors for years, but it needs to do something else: Have company executives buy more stock.
This, at least, is according to the company’s latest activist investors, Nierenberg Investment Management Company, which filed documents with the U.S. Securities and Exchange Commission on Thursday revealing that it now owns 9.4% of the Chicago sandwich chain’s stock—making it Potbelly’s largest shareholder.
Nierenberg, which manages a family investment firm out of Camas, Wash., argued at length in favor of the company’s moves before saying that more insider trading would eliminate the gap between its stock price and its real value. “In the past 22 months, only two insiders bought company shares,” the investor said in its filing. “The total number of shares they bought was only 16,350. Given the size of the valuation discrepancy today [Nierenberg] strongly hope[s] for much more insider buying than this.”
To be sure, its recommendations also included a more run-of-the-mill idea, saying that it hopes the company can “improve profitability now by reducing corporate overhead.” It said that franchising growth can take time, but “corporate cost reduction can be addressed now.”
Potbelly has had an interesting history. Founded in Chicago in 1977, the company went public in 2013 and immediately got a “next Chipotle” benefit that more than doubled its stock price on its first day of trading. It remains one of the best first-day “pops” of any restaurant industry IPO. But investors quickly realized that this was not quite at that level, and its stock price lost half its value. It traded into the teens until sales challenges sent it further south. It has traded in the single digits ever since.
The company hired former Wendy’s executive Bob Wright as CEO in 2020, when the chain was struggling badly. Under Wright, Potbelly has opted to focus on franchising. It has also rolled out its second new menu in two years. In March, it outlined plans to get to 2,000 locations.
Along the way, Potbelly has had its share of activist investors who’ve demanded changes or board seats or some combination thereof. Nierenberg, to our recollection, is the first one that went on for several paragraphs about how awesome management is and how much potential the stock has before suggesting changes.
The investor, for one thing, believes that the stock has some legs, calling Potbelly “a coiled spring that could become as much as a 10x for its shareholders over the next decade.”
“This $5 stock could be worth $17.77 today” with a “10% discount rate.”
Nierenberg noted that prior management “did not deliver, but they are long gone.” While there are risks from inflation and recession, “there should be little doubt about the ability of the company’s current management to improve shop performance and protect profitability from inflation.” The investor also noted that the company doesn’t trade for much now but could over time as operations improve and more franchises come on board.
The activist also says that, at 2,000 shops with 1,700 of them franchised, the company could generate $140 million in revenue. The company could get earnings per share to $2 in 10 years. Franchisors get 20x earnings on Wall Street, meaning it could get to $40 to $60 in 10 years, or the aforementioned 10x increase. Nierenberg also said that outside directors receive their fees in stock, and Wright initially requested stock instead of salary his first year, and its long-term incentive plan also encourages stock ownership.
Whether insider buying more shares or the company cutting overhead help Potbelly get to its apparent true valuation remains to be seen. The company is the 11th largest limited-service sandwich chain in the U.S. and its system sales last year were 6% below pre-pandemic levels, roughly on par with its competitors.
More to the point, it is dwarfed by much larger competitors, including the giant Subway, the Inspire Brands-led Jimmy John’s, the Restaurant Brands International-led Firehouse Subs and Jersey Mike’s. That makes the market that much more difficult for a company like Potbelly to meet the apparently lofty expectations of its activist investor.