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Panera: A Tasty Stock Purchase

Monday - 3/4/2013, 4:26pm  ET

For a while now, I've been eyeing shares of Panera Bread for the real-money Prosocial Portfolio I manage for Fool.com. I've finally decided to go ahead and buy some shares of this restaurant retailer, which has recently been spreading the word about its purpose-driven philosophy: "Live Consciously, Eat Deliciously."

The business
St. Louis-based Panera's bakery/cafe concept begins with bread, but it goes far beyond that. The company describes its daily fresh baked bread as a gateway to other tasty menu options. Panera differentiates itself from many quick-serve restaurant companies by incorporating ingredients like antibiotic-free chicken, whole-grain bread, and some organic and all-natural ingredients.

Like another Prosocial Portfolio stock, Starbucks , Panera provides a gathering place for customers, including free Internet access for those who want to hang around for a while.

Panera has three operating segments: company-owned stores, franchise operations, and fresh dough and other product operations. Its 1,652 stores spread across the U.S. and Ontario, Canada, are roughly half company-owned and half franchised. It serves about 7 million customers per week.

One of Panera's strongest differentiators is the quality of its meals, given its emphasis on fresh ingredients and antibiotic-free meats. Panera may not be the quickest-serve restaurant around, but it brings a little more civility and a healthier air to its meal options than traditional fast food. That goes a long way in a society in which people have become more discerning about what they eat.

Meanwhile, for years, Panera has had initiatives to help alleviate hunger, such as its long-standing policy of donating bread and baked goods to community organizations for people in need. Too often, perfectly good unsold food goes to waste at many establishments, giving Panera an edge in reducing its wastefulness and increasing its goodwill to those in need.

There's also the Panera Cares mission, which includes an interesting experiment: Panera Cares Cafes. At these locations, people "pay what they can." These are nonprofits, and they are meant to let needy people obtain meals without suffering the stigma of lacking the money to do so. Meanwhile, the money these cafes bring in from customers and donors that exceed the operating costs is funneled into community programs.

Panera recently opened its fifth such cafe in Boston; the others are located in Chicago, Portland, Ore., St. Louis, and Detroit. Businessweek reported that the cash intake from most of these cafes tends to stabilize at about 75% of recommended prices, and just one-fifth of the customers paid less.

Why I'm buying
Panera fits into the universe of responsible stocks with lofty purpose that I try to incorporate into the Prosocial Portfolio. That's a big part of the thesis. Panera has considerations other than the traditional bottom line.

That said, Panera isn't a deep-value stock. Its valuation is known for being pretty rich, just like rival Prosocial Portfolio stocks Starbucks and Chipotle . In fact, you could argue that Panera competes with Starbucks in the morning and Chipotle for the rest of the day. Still, this portfolio has room for strong rivals that share having the greater good in mind.

I was hoping to get a little more temporary weakness in Panera's price, but so far there hasn't been much of a fire sale. The stock's a bit off its highs, though, so I'm going to go ahead and start a position now. The Prosocial Portfolio strategy doesn't exclude stocks that many would call "too pricey," since the best companies have the best chances at long-term growth.

Panera trades at 20 times forward earnings. That may sound pricey compared to restaurant operators like McDonald's , which trades at 15 times forward earnings, but its multiple makes it look like a bargain compared to Chipotle and Starbucks at the moment.

The growth thesis, of course, doesn't just rely on increasing customer acceptance and traffic but also hinges on continued successful expansion. Panera derives some money from franchise royalties, and its franchisees mostly purchase their dough directly from Panera, but the company makes most of its own dough from sales at its own bakery/cafes. It plans to continue expansion through both segments.

Panera also has a strong balance sheet, with $297 million in cash (or about $10 per share) and nominal debt of $6.7 million. Last year, the company generated about $137 million in free cash flow.

And now, the risks
Panera has ample competition, even beyond the two big competitors named above, both of which have been embarking on interesting initiatives lately. Starbucks bought bakery La Boulange last summer, a move that was viewed by many as a way the coffee giant can help spruce up its own food offerings.

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