Restaurant Profitability

Let’s examine the profitability of two very successful, growing restaurants: the Cheesecake Factory and the Panera Bread Company.  By two profitability ratios, the gross margin and the operating margin for these companies I will show that Cheesecake Factory was not as profitable as Panera Bread Company during 2005 and 2006 and during the next year Panera Bread will continue to be more profitable.

The Cheesecake Factory is the larger of the two companies with revenues of $1.3 billion in 2006 and a market cap of $1.8 billion compared to Panera’s $828 million in revenues and $1.2 billion market cap.  Looking at the gross margin for both companies during their respective fiscal 2006 years, we see that Panera is more profitable than Cheesecake Factory.  Since both companys’ main sources of income come from operations, this ratio of their fundamental profitability is the most important ratio to look at when judging profitability.  Cheesecake Factory had a lower than average gross margin of 24.3% in 2006 compared to the restaurant industry average of 28.9% in 2006 and Panera Bread Company had a higher than average gross margin of 34.5%.  See figure 1.

Since neither of the companies have long term debt and their total current liabilities as a percentage of assets are close in 2006 (Panera – 20%, Cheesecake Factory – 16%), the operating margin of these two companies becomes important to look at also.   Panera is much more focused on one commodity rather than many like Cheesecake Factory.  While this position is more risky, their operations system is more simplified than Cheesecake Factory and Panera is able to streamline their operations to make and sell their main product: bread.  Cheesecake Factory has been successful at locking in commodities like cream cheese at lower prices and last year they were able to shave some of their costs due to a drop in the price of chicken, but their operations of serving it to their customers has been hurt by their immense amount of menu options.  Evidence of Panera’s superior operations is evidenced by their higher operating margin of 27.4% over Cheesecake Factory’s operating margin of 14.1% for their respective fiscal 2006 years.

Finally, a note for pause is reflected in the two year change of both companys’ gross margin.  Panera’s gross margin decreased 3.1% from 37.6% in 2005 and Cheesecake Factory experienced an increase of 4.2% from it’s gross margin of 20.1% in 2005.  The operating margins for both of these companies also fell from 2005 to 2006.  Also, Cheesecake Factory is expanding to have new restaurants chains to diversify the demographics of their customers.  Starting in 2006, they introduced their Grand Lux Café which caters to the more casual crowd.  In 2007 they will open five more Grand Lux Cafés, but pre-opening costs and other expenses, especially general and administrative expenses are expected to rise affecting overall profits.  Their strategy of diversification will help Cheesecake factory in the long term, but not help them become more profitable than Panera in the short term.

Figure 1.	CAKE		PNRA
	2006	2005	2006	2005
Gross Margin	24.3%	20.1%	34.51%	37.56%
Operating Margin	14.05%	16.35%	27.39%	30.33%