This summer, as the Zoes Kitchen board of directors was negotiating a $300 million buyout offer from former Panera Bread CEO Ron Shaich and Cava Group, one thing was becoming abundantly clear: The company was about to report a bad second quarter.
The fast-casual chain’s same-store sales turned south in 2017 for the first time in the company’s history as a public company. But they got worse in 2018, beginning with a 2.3% decline in the first quarter and worsening as the year went on.
By the first few weeks of the third quarter, as Zoes board was analyzing the buyout offer, those same-store sales were down 7% to 8%, according to SEC filings. The company also said it expects to close up to 10 locations by the end of the year.
The sales decline is a key point for Zoes, explaining why the company’s board opted to sell, despite a belief by some that it was undervalued: The weakening same-store sales would likely have led the company’s stock to fall even further. Essentially, the board had to take what it could get, and at the time, the $12.75-per-share offer from Shaich and the Cava Group was the best it could get.
While management had been taking steps to increase sales and cut corporate overhead, “there was no short-term solution that would allow the company to quickly reverse the accelerating negative comparable restaurant sales trends,” Zoes said in an SEC filing.
As it was, the sales weakening had led the group to lower its offer price. Just a couple of weeks earlier, the offer was $13.25 per share and the board had hoped to get $13.75. The late summer deterioration basically cost investors about $10 million.
The story of Zoes sale is a case of terrible timing for the company’s public investors, but fortuitous timing for its buyers—though Cava and Shaich will have some work to do to reverse those sales.
At the same time, however, it illustrates the challenges of being a public company, especially when that public company is small.
Zoes was something of a poster child for the fast-casual gold rush between 2012 and 2016. Investors eager to put money behind such brands bid up valuations and encouraged early initial public offerings.
A handful of fast-casual chains that went public at the time took advantage of federal rules meant to encourage IPOs of newer, smaller companies. But Zoes was the smallest.
When the chain went public in 2014 it had just 111 restaurants, having grown from 21 in 2008. It also had just $11 million in EBITDA, or earnings before interest, taxes, depreciation and amortization. That EBITDA number was remarkably small, and it would be frequently used as the best evidence of the eagerness of industry IPOs.
Early on, that eagerness fed the company’s stock price, which increased from $15 a share at the IPO to nearly $45 per share at its peak, enabling early investors in the chain to sell their stock and make an exit.
But being a public company is not easy, and it’s harder for smaller, growing chains. Pressure is intense, quarterly projections better be correct, and missteps are punished. Plus, quarterly reporting puts a focus on the short term, something especially challenging for small companies.
In this case, Zoes ran into all sorts of problems. The chain grew aggressively—it operated 256 restaurants as of July, meaning it more than doubled its unit count over a four-year period. But other companies did, too, and in many similar markets as so many other investors pumped money into the fast-casual sector.
In SEC documents, Zoes blamed the growing number of competitors in key markets as well as delivery and heavy discounting.
The good news is that, as a private company, Zoes will be able to examine its business and operations outside of the glare that comes from being a public company. That doesn’t guarantee success, but it should at least reduce the pressure.