Panera Bread (PNRA) Ronald M. Shaich on Q2 2016 Results - Earnings Call Transcript

| About: Panera Bread (PNRA)

Panera Bread Co. (NASDAQ:PNRA)

Q2 2016 Earnings Call

July 27, 2016 8:30 am ET

Executives

Steve W. West - Vice President-Investor Relations

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

Andrew H. Madsen - President

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Analysts

Andrew Strelzik - BMO Capital Markets (United States)

Peter Saleh - BTIG LLC

Sara H. Senatore - Sanford C. Bernstein & Co. LLC

Brett Levy - Deutsche Bank Securities, Inc.

David E. Tarantino - Robert W. Baird & Co., Inc. (Broker)

Matthew Robert McGinley - Evercore Group LLC

Andrew Charles - Cowen & Co. LLC

John Glass - Morgan Stanley & Co. LLC

Operator

Good day and welcome to the Panera Bread Second Quarter 2016 Earnings Call. At this time, I would like to turn the conference over to Steve West. Please go ahead, Sir.

Steve W. West - Vice President-Investor Relations

Good morning, everyone. With me this morning are Ron Shaich, our Founder, Chairman and CEO; Drew Madsen, our President; and Mike Bufano, our Chief Financial Officer.

As a reminder, this conference call will include forward-looking statements, which are subject to various risks and uncertainties that could cause our actual results to differ materially from these statements. Any such statements should be considered in conjunction with cautionary statements in our earnings release and risk factor discussions in our filings with the SEC, including our last Annual Report on Form 10-K. Panera assumes no obligation to update any of these forward-looking statements. Please refer to our investor website at panerabread.com to find a reconciliation of non-GAAP financial measures reference in today's call with our corresponding GAAP measures.

Now, for your future scheduling purposes, we are tentatively planning to publish our third quarter 2016 earnings release after the market close on October 25, 2016, with our subsequent earnings call on October 26 at 08:30 Eastern Standard Time.

On the agenda this morning, Ron will give an update on our long term strategy and key initiatives. Drew will review comp performance and our initiatives to be a better competitive alternative. Mike will then review our Q2 results and provide an update on our guidance and finally, Ron will wrap it up with a brief concluding thought. Ron?

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

Okay. Good morning, everyone, and thank you, Steve. You know, I've been doing these quarterly earning calls for about 25 years now and I've come to understand that you all tune in to hear the results but more importantly the listen for changes in our body language, since the last earnings call so you can best determine where the business is at its journey.

So I would like to begin by sharing with you where we are at in our journey, as directly as I can communicate it. Our goal of sustained double-digit EPS earnings growth is insight. Our long-term commitment to fundamental themes like digital access, clean food and delivery are proving to be wise.

Our multi-year strategy for transformation is working. Most importantly, our initiatives become a better competitive alternative. With expanded run rates for growth are performing indeed as the data matures, it is becoming ever more clear, we are indeed reducing friction with Panera 2.0, while increasing desire through innovations and operations, food, marketing and store design.

We are also building new runways for growth and very large adjacent $1 billion plus businesses through our catering, delivery and consumer product initiatives and by evolving our approach to traditional cafe growth. At the same time we're building the technology and human capabilities needed to accomplish our objectives and finding opportunities for value enhancement to help fund our future.

Indeed, we see the impacts of our initiatives in our Q2 comps of 4.2% and in Q2 non-GAAP EPS growth of 11%, which adjusts for refranchising charges. And we're experiencing this strength in our business even in the face of an industry that's feeling the effects of a weakened business environment and tightening consumer spending, as well with another quarter of data relative to our initiatives under our belt and with data that is now more robust to mature relative to the performance of these initiatives, we can more confidently project our business will perform as our startup and transition costs fall away.

So here's my point, the big news this quarter is that there is no really big new news today. Simply put, the news today is that our view of what matters to the target consumer has been correct. Our strategic plans to transform the business is working and our initiatives are performing. As a result, we can all be more confident Panera is positioned to deliver sustained double-digit earnings growth well into the future.

Drew and I will now update you on the individual initiatives that form our multi-year plan for transformation. Let's start our color commentary with Panera 2.0. Panera 2.0 is meant to reduce friction for our customers by providing an improved guest experience. Panera 2.0 includes both digital access to enable improved eat-in, to-go in delivery experience and it includes improved operational systems, we call operational integrity.

Operational integrity ensures we have the production capabilities and systems needed to meet the unfettered demand that comes with digital ordering while simultaneously delivering on the high levels of customization and accuracy that the Panera customer expects.

We are pleased to report that Panera 2.0 cafes continue to materially outperform traditional cafes, especially as guests recognize the benefits of the 2.0 experience. The impact of Panera 2.0 can be clearly seen in the fact that in Q2 company comps outpaced franchise comps by 360 basis points, which is the largest difference in the history of our company.

Investors should note that Panera 2.0 and to a very small degree, a few more delivery cafes are the only material differences between company and franchise cafes. Thus, we all can clearly see the impact of Panera 2.0 when comparing company Panera 2.0 cafes to traditional Panera 1.0 cafes.

Now, let's talk about our continued progress in the rollout of Panera 2.0. During Q2, we converted 70 more existing company cafes to Panera 2.0, bringing our total to 522 company-owned 2.0 cafes at the end of Q2. In addition, the number of franchise groups opening 2.0 cafes has expanded. At the end of Q2, 6 franchise groups representing 28% of the franchise system were operating 43 Panera 2.0 cafes.

Okay. Now, let's talk about what you can expect going forward relative to the Panera 2.0 rollout. First, we remain on track to convert approximately 200 company cafes to Panera 2.0 in 2016. We also expect to have about 100 franchise Panera 2.0 cafes by year-end. This means approximately 75% of our franchise groups will have begun the Panera 2.0 conversion process with the required seat (7:19) cafes in 2016.

I should also note that by the end of Q3 well over half of all the Panera company units will have been converted to Panera 2.0 in the past four quarters. While this rapid rate of conversion will drive profitability in the future, investors should also take note that startup and transition costs associated with the immature Panera 2.0 cafes do weigh on our P&L during their first few quarter's post conversion. Recall we invest upfront in helping the guest adopt and acclimate the digital ordering and a new customer journey.

Okay. Let me now comment on the rate of digital utilization, which is a byproduct of the technology that enables Panera 2.0 and delivery and indeed our entire omni-channel strategy. Digital utilization matters to us as it offers the potential to further build guest sales as it cements the stickiness of the guest relationship and as it allows for more efficient labor utilization.

As we exited Q2, digital utilization at our company cafes which is to say orders that are both digitally placed and digitally paid, not simply order or paid via mobile device, was 18% of sales. And I'm excited to tell you that we achieved yet another significant milestone in our digital journey just last week when we hit a digital utilization rate of 20% for the first time. I will add that in Q2 Panera 2.0 cafes averaged digital utilization rates of 23% and mature Panera 2.0 cafes reached digital utilization rates of almost 30%.

You know, when we compare ourselves to others in the industry we see just how far ahead we are in our digital journey. To our knowledge, Panera has the highest digital utilization rate of any public food and/or beverage company exclusive of the big three pizza guys who have been hard at work on e-commerce for nearly a decade and a half.

Indeed we have been working on our e-commerce and technological capabilities for many years now and it's very clear that both our vision and our execution are leading the industry. We are presently filling more than 136,000 orders per day on average through e-commerce, excluding catering orders. When digital catering orders are added in, our daily average rises to nearly 150,000 orders per day through e-comm and those figures are growing every day.

Clearly, our customers are enjoying a digital experience that we have fine-tuned and improved over time and our investors can expect to enjoy the economic benefits of our growing digital utilization rate well into the future.

I should also note that along with our efforts to reduce guest friction with Panera 2.0, our second initiative to make Panera a better competitive alternative is by making our concept more desirable to our target guests by activating innovation in food, operations, marketing and store design consistent with what we call, Concept Essence, which is our north star for how we compete.

Our expectation is these innovation efforts will make us a better competitive alternative with greater brand credibility, allowing us to continue to take market share generally and provide a foundation for on the channel efforts. Drew, will further elaborate on these initiatives to be a better competitive alternative in just a minute.

In the meantime, let's switch gears and discuss our efforts to expand our runways for growth. These efforts are focused on utilizing our brand credibility and the digital capabilities we've built to vacuum through multiple channels as many high ROI sales dollars as we can out of a given ZIP code.

The channels we're focused on at this point are large order delivery for meetings and functions, which we call catering, small order delivery for immediate consumption, which we simply call delivery, and the sales of Panera branded products through other retail channels, which we call Panera at Home.

Let's first discuss catering. We continue to believe we have the highest market share in the B2B catering industry, yet we're only a fraction of the total market. We believe we can consolidate market share in the highly fragmented catering business, and grow this into $1 billion-plus business over time by leveraging our brand credibility, our national footprint and by bringing a higher level of professionalism to our efforts.

Now for the update on catering. We're happy to share the news that the momentum we reported in catering in Q1 continued in Q2. Indeed we reported catering sales growth of 13.9% in Q2. This is the highest quarterly catering growth we've seen in three years since Q2 2013.

Sales were driven by four elements, hubs continue to outperform cafes in catering sales growth, professional sales teams focusing on acquiring retaining business continue to build sales, innovative marketing efforts have successfully engaged new and lapsed customers and our e-commerce platform has enabled a better catering customer experience.

Going forward, we expect catering sales to continue to grow strongly through continued improvements in our sales team's ability to acquire and retain customers and through the recent launch of our catering royalty program, which showed lifts in sales, profit and customer frequency during testing.

As well we expect to benefit from continued growth in our direct marketing efforts and continued increases in online ordering, which I should note is now running at 45% of catering sales, up from 22% of catering sales just two years ago.

In summary, we found that loyalty, direct marketing and e-commerce are virtuous cycle in catering with each one reinforcing the other as we build our catering business.

Now, I'd like to discuss one of my favorites, delivery. As we've noted previously, delivery was part of the original 2.0 vision and it's something we've been working on, prototyping and testing in multiple forms for the last four years.

In that time we found that Panera is perfectly suited for mass market delivery. Panera can offer a high self esteem, fast casual alternative to the low end Asian and Pizza offerings now flooding the delivery market. Indeed we see a whitespace in delivery options for healthful, high quality salads, sandwiches and soups.

The fact is, delivery is a powerful initiative and it will make a huge difference at Panera. It represents a significant sales layer. Indeed delivery sales six months after rollout approach approximately 5-K per week on average. And testing shows that delivery grows at a rate significantly faster than our eat-in and to-go business.

What's more, startup cost for delivery at Panera are modest, primarily hiring costs given we can leverage the e-commerce capabilities initially built for Panera 2.0. And I should note we only accept digital orders for delivery.

As a result, delivery quickly becomes a powerful profit generator at Panera. Having said that, I do want investors to appreciate that for approximately six months after the rollout of delivery in individual cafe; comps grow more quickly than profits as we are hiring, training and investing in customer awareness. As we say around Panera, sales lead and profits follow.

So what have we learned over the last quarter about our delivery initiative and its potential? I will answer that question by returning to a metaphor I've used in past conference calls. Running. But we're not going to talk marathons today, but rather sprints.

We've come to believe delivery is the Usain Bolt of initiatives at Panera. It's powerful, it moves very quickly and it's getting out of the blocks fast. What else have we learned about delivery? We've learned that over time, our sales will continue to grow in delivery as awareness goes up, our profits will go up significantly with delivery as we generate more sales per cafe and, thereby, lower cost per delivery and the effectiveness of our delivery operations will get better and economically more efficient as we gain more experience, implement new technological capabilities and most importantly move down the learning curve.

Indeed, we've come to believe that delivery is a big opportunity for Panera and that the biggest issue we face with delivery is sequencing it into our cafes and ensuring we have the physical capability necessary to handle the increased sales we see with delivery.

One other comment about what we've come to learn about delivery. Delivery expands our store development potential, as it lowers the eat-in and to-go sales required to meet the sales hurdles needed to hit our ROI goals.

I want to make my biggest point here relative to delivery. Our confidence in the power of delivery for Panera continues to strengthen, as we have more markets under operation for longer periods of time and gain more robust data. And I should tell you that our franchisees are as excited about delivery, as we are.

Sam Covelli, owner and operator of our largest franchise group, Covelli Enterprises, has been operating delivery out of 10 of his bakery cafes for the past three months. He told us last week that he has seen double-digit increases in those bakery cafes and that the customers have never been more excited. And he went on to tell me that he has never been more excited. For this reason, he is working to quickly put in place the physical and managerial capabilities needed, so he can accelerate the rollout of delivery to his other units.

So let's now talk about the rollout of delivery to the Panera system. In Q2, we launched delivery in 52 more company-owned bakery cafes, giving us a total of a 122 company bakery cafes offering delivery at the end of Q2. In addition, delivery is now available in 73 franchise bakery cafes across seven franchise groups.

As of the end of Q2, the Panera system had about 195 bakery cafes or approximately 10% of the system offering delivery. As you know, our goal has been to roll out delivery to about 10% of our system by year-end 2016. Obviously, we are ahead of schedule relative to our 2016 delivery rollout goal. In fact, we now expect to have upwards of 15% of the systems offering delivery by year-end 2016.

Okay. I should also note that Q3 will see the heaviest volume of delivery startups this year, with approximately 100 company cafes scheduled to start up in the quarter. Obviously, this will weigh on quarter three profitability modestly but set Panera up for earnings growth in the future nicely. Okay, enough on delivery.

Now I'd like to give you a quick update on our consumer products business Panera At Home. As you know Panera At Home is about selling Panera branded products through other retailers. Panera At Home is $150 million business at retail through which we have achieved sizable share in our core categories of refrigerated soup, salad dressings and mac 'n cheese.

Sales growth at Panera At Home has continued in 2016. And in keeping with our food policy, in June, we announced that we will do away with the remaining artificial flavors, artificial sweeteners, artificial preservatives and colors from artificial sources in our Panera At Home products. We expect our entire portfolio of nearly 50 grocery items to be clean, meaning free of all no-no list additives by the end of 2016.

Before I conclude, I'd like to talk briefly about two other initiatives we've rarely touched on in these calls, but we've been working on here at Panera to ensure Panera becomes a better competitive alternative with expanded runways for growth. Frankly, we have been rethinking our store design with attention to all touch points of our customer experience. Our goal has been to create a contemporary gathering place that is welcoming, accessible and intuitive with little friction.

Our new design thinking is meant to reflect our roots as a bakery-cafe and set a stage for food innovation and our efforts to be an ally for wellness for our guests. We can now expect we will be using different variations of this new design vision in future bakery-cafes, future remodels and in future quick refreshes.

Simultaneously, we've been working intensely to reduce the cost of the prototypical cafe. I'm pleased to report today that we've been able to remove approximately 10% of the cost from a new cafe. So consider this as you think about traditional development at Panera. An improved store design along with Panera 2.0 and delivery can be expected to increase the average volume of our cafes, coupling increased sales generating potential with a 10% reduction in cafe investment, and you can quickly see the potential to open more high ROI units.

Indeed, I'd suggest today the result might very well be more Panera units than some people are presently imagining. I will not go into further detail in these initiatives now, but rest assured we will talk – we will be talking more about both of these initiatives as we consider development at Panera on future calls.

Okay, finally, I'd like to address our plans to rollout all of these initiatives, but particularly Panera 2.0 and delivery. So that each cafe realizes it's full sales and profit potential and does so in a rational and methodical way.

It is clear that in order to execute these initiatives effectively, all stores must have in place the physical capacity and managerial capabilities to handle growing volumes, many of which arise in rapid, digital bursts. So operational integrity must come first and must be laid down as the base.

Simultaneously, we must ensure that cafe buy cafe, we have the physical production capacity necessary to handle the volumes that these initiatives generate. Next we must smartly introduce the two biggest initiatives in our arsenal Panera 2.0 and delivery.

In our view, neither we nor our franchisees want delivery and Panera 2.0 introduced simultaneously in our cafes. So our intention is to introduce delivery and Panera 2.0, where each will have the most impact as appropriate by market and cafe.

Delivery will go first to those markets where we can more quickly build awareness efficiently. That will be generally our most media efficient market. Panera 2.0 on the other hand will go first to those markets where we see the greatest friction, generally this will mean the highest volume per cafe market.

Only after one or the other of these initiatives have been successfully integrated into a cafe will another be introduced. Keep in mind that each bakery cafe is unique, so the combination of initiatives and the timing of their rollout within each cafe will vary.

As I conclude my comments, I want to reiterate my hope that you can see our strategy is the right one for our company that our initiatives are working, and that we have a clear plan for effectively rolling them out.

I will now turn the call over to Drew, who will review our comp performance with you and review the innovations we're working on to ensure Panera truly is a better competitive alternative. Drew?

Andrew H. Madsen - President

Great. Thanks, Ron. As you can see we're all very excited about our progress and our results and we believe the power of our strategic plan is really best reflected in our comps and simply put, our comps continue to be strong as our initiatives rollout, despite a slowing sales environment for our industry. Specifically, the second quarter comps were up 4.2%.

The goal of our strategic plan is to take market share by being a better competitive alternative and we are pleased to say we are doing just that, as our comp growth continues to meaningfully outpace the industry. Panera comps outperformed the Black Box all industry composite by 490 basis points in Q2, illustrating that we continue to take significant market share from our competition. What's more, our two-year comps were up 6.6% in Q2.

So now let's review the makeup of our Q2 comps and then drill down into each component. Our comps in Q2 were made up of transaction growth of 0.4% and check growth of 3.8%. So let me now discuss our transaction growth.

In our view transaction growth means consumers are choosing Panera over our competitors. As I said our transactions grew 0.4% in Q2 on a one year basis, despite lapping strong Q2, 2015 transaction growth. On a two-year basis transactions grew 1.5%. And I'm very pleased to say, we continued to outperform the industry relative to transaction growth as well. In Q2, Panera outperformed the Black Box all-industry transaction index by 340 basis points.

So let's now talk about the tailwinds and headwinds that impacted our Q2 transaction growth. We believe that the shift in Easter holiday to March of Q1, positively impacted transactions in Q2 by about 50 basis points. Later in the quarter, however we faced meaningful headwinds as we lapped a significant earned media coverage of our no-no list announcement last year in May 2015 and the launch of our successful: Food As It Should Be, advertising campaign with incremental media support last year in June 2015.

Stepping back from all of that, our view is that, one year transaction growth of 0.4% and two-year transaction growth of 1.5% are both very solid results and clearly demonstrate that more customers chose Panera again this quarter. And this is especially true when you consider that our growth in total entrée sales significantly exceeded our transaction growth, which I'll discuss in more detail shortly.

Now let's discuss the other key driver of comps which is check. Check grew 3.8% in Q2 and can be further disaggregated into price and mix. Price increased 2.2% in Q2, reflecting our strategy to take price that covers our all-in bakery-cafe inflation inclusive of labor inflation over the course of the full-year. And we also have positive mix of 160 basis points. And there were four factors that led to this strong mixed growth. First, we were lapping a modestly negative mix result in Q2 2015. Second, our new salads have price points slightly above our salad category average and they sold very well during the quarter.

Third, catering sales, which have the materially higher check than retail sales grew at a faster rate during the second quarter. And fourth, we generated significant growth in entrées per transactions. This was primarily driven by continued outsized growth in channels like drive-through, to-go, and delivery, which all generated higher checks and more entrées per transaction than our eat-in business. In other words, we're serving more customers and selling more food per transaction than can be seen by looking at transaction growth alone.

Now let's look at our comp growth so far in Q3. Looking at the first 27 days of Q3, our comp momentum has continued. Our Q3 quarter-to-date comps are up 3.1% on a one-year basis and 7.8% on a two-year basis. We believe both our one-year and two-year quarter-to-date comp results are strong and we encourage investors to focus on the two-year results in particular and our two-year comps are among the highest two-year comps we've generated in several years.

When we look at one year comps, we want to remind investors that small changes can skew results and lead to inappropriate conclusions about the health of our business either positively or negatively. The potential for confusion is exacerbated when there are a number of moving pieces year-over-year. As there were in Q2 this year – Q3 this year, compared to last year.

Recall that we had substantially less media benefit during July 2016 versus July 2015 as we were launching our Food As it Should Be ad campaign last year with incremental media support, as well the July 4, holiday shift from Saturday last year to Monday this year also shifted the vacation schedules and ultimately negatively impacted comps during the first week of the month.

And one can see all of this when you look at comps by week, specifically comps during the first week were 1.4%, in the second week 1.6%, in the third week 3.8%, and fourth week 5.1%. So clearly our comp performance varied significantly week-by-week in July, which makes the 27-day average somewhat less than useful and truly understanding the real trends in our business.

At any rate, my point is that when we look at the two-year trend in Q3 comps to-date and the week-to-week trend in one-year comps, we continue to see the underlying strength of our business. And this is why we find the focus on the short stub periods potentially problematic.

Let me conclude our discussion of comps by noting how pleased we are with our comp momentum. Our continued solid growth and outperformance versus the industry reflects a competitively strong brand, a loyal customer base and a strategy that's working.

So let's now shift to color commentary on our efforts to drive comps by being a better competitive alternative. As we've said in the past, we're deeply committed to driving desire for Panera and competing as a contemporary bakery cafe known for offering craveable wellness plus an elevated experience with bread and bakery as powerful differentiators of our food.

To that end, we are hard at work activating innovation in our cafes to truly become a better competitive alternative for our customers. So, now I'd like to talk briefly about who our customers are? Our target customers are affluent, food forward, wellness minded, and engaged with Panera. There are also frequent dual daypart and dual channel users and as we've seen in past economic downturns they are resilient customers with the financial means to maintain their restaurant visits despite changing macroeconomic forces. This is the primary reason Panera sales do not correlate as closely with economic downturns as many other restaurant brands. And this is also why Panera does not benefit as much in an improving economy or when gas prices fall.

In short, they are the customers every restaurant brand wants, because they provide such a strong foundation for profitable growth. So my point, our ongoing innovation is targeted for further building loyalty with this target customer.

Let's now review the innovation we're focused on in operations in an effort to build frequency with our target customers. Specifically, we remain focused on four priorities in ops. First, successfully rolling out 2.0; second, executing operational integrity, which as you know, is our end-to-end approach to improving accuracy and speed rooted in total quality management; third, ensuring our cafes are fully staffed with great team members; and fourth, building the capabilities required to manage the increasing volumes and operational complexity that come with our omni-channel strategy.

Taken together, these four initiatives and the commitment of our operations teams across the country once again combined to drive the improved customer satisfaction across the business during Q2.

Customer satisfaction is measured by Cafe Health continue to improve and hit an all-time high during the third quarter. This indicates that we continue to move the needle on what matters the most to our guests, which is a consistently high quality experience.

In addition, the percentage of our bakery cafes receiving high satisfaction scores continues to grow and a number of our outlier cafes continues to go down. Given the direct correlation, we've seen between improving customer satisfaction and higher comps, this is a positive indicator for future sales growth as well.

So what are we doing in operations to drive further customer satisfaction gains in the future? So Ron has already commented on our continued success with Panera 2.0, so I will not elaborate on that further, but I do want to emphasize that our ability to successfully execute all of our initiatives rest on having cafes that are fully staffed with associates and managers, who possess the attitude and abilities, we seek.

For this reason, we continue to focus on building our managerial capabilities, creating new tools that increase our applicant flow, and reduce the time it takes to onboard new hires, while also investing in increased wages to make sure, we are both fully competitive and aligned with new statutory minimum wage requirements. In fact, our average wages were up 5% during the second quarter.

At the same time, we've also added capabilities to help our cafe teams improve execution in fundamentally important areas such as forecast, accuracy, control of labor hours and reduction in food waste. Given all of these innovations our staffing levels are now materially stronger compared to last year. Our operational capabilities are more robust and our cafes are in a much stronger position to consistently deliver a competitively superior customer experience. So given that foundation, let's now turn our attention to food innovation.

To deliver on our north star brand promise, we need to create imaginative food that is both good for you and so delicious that it's worth going out of your way to get. Following up on our introduction of clean soups during January, in May, we introduced three new clean and craft inspired salads, our Green Goddess Cobb Salad the features addressing made fresh in-house every day, a new Chinese Citrus Cashew Salad and our new Watermelon Feta salad. The higher purchase intent scores, we saw for these salads in our testing bore out in the marketplace. Overall, our salad sales are up significantly and all three new salads are outperforming our expectations and where our major factor in driving the positive mix in Q2, I reviewed earlier.

Let's now talk about sandwiches. This fall, all of our sandwiches will also be clean. In addition as I said last quarter, we must also begin to contemporize and elevate the craveability of our sandwich offerings. So in about a month, we will introduce two new sandwiches, the Chipotle Chicken Avocado Melt and the Italian.

Let me talk a bit about each sandwich. The Chipotle Chicken Avocado Melt is a very flavorful new sandwich that artfully combines smoked chicken, smoked gouda cheese, Peppadew peppers that provide a bit of sweet heat, fresh avocado, fresh cilantro and a slightly spicy chipotle mayo, all nestled into freshly baked black pepper focaccia bread and finished on a panini press. This sandwich has one of the highest purchase intent scores in our sandwich category and sold significantly better in test than a very popular Roasted Turkey Apple Cheddar Sandwich, we successfully advertised last fall.

The second sandwich, the Italian is an improved version of our current Italian combo which we feel is a dated interpretation of this classic sandwich concept. Our new version features Chianti-cured salami, spicy sopressata, ham, provolone cheese, a spicy giardiniera marinated vegetable mix for a bit of crunch, fresh arugula and a house made basil mayonnaise, all served on a new hoagie roll. The purchase intent for this sandwich is also well above our sandwich category average and the margin has been meaningfully improved as well, a double win. And we continue to elevate our core offerings as well. Next month, we will also introduce upgraded versions of our popular Smoked Turkey, Ham and Swiss and Bacon Turkey Bravo sandwiches.

Now, let's talk about our clean initiatives. I'd like to note that 90% of our food menu was clean by the end of Q2, and then we are on track to fulfill our industry-leading commitment to make our entire food menu 100% clean by the end of 2016.

That means, no artificial preservatives, no artificial sweeteners, no artificial flavors and no colors from artificial sources, none whatsoever. This is the most comprehensive clean menu commitment in the restaurant industry and it touches more than 400 different ingredients.

Salads, sandwiches and soups are certainly key drivers of our business, but I'd also like to touch briefly on some other areas where we are activating innovation against our north star.

We currently have tests underway with craft inspired beverages, a reimagined cookie program, more contemporary plating and new music all intended to make Panera a better customer experience and a better competitive alternative.

Let's now discuss marketing innovation. Our Food As It Should Be advertising campaign continues to be a powerful communications platform that we used to build brand reputation, category credibility and product excitement among our target customers.

Our advertising during the second quarter was focused on driving awareness of and product excitement for our three new clean salads and we believe these ads worked very well. Right now, we're building long-term brand reputation with ads that are focused on our clean menu commitment, which we know is increasingly important to our target customer and clearly sets us apart from everyone else in the industry.

Finally, let's talk about loyalty. Our MyPanera loyalty program now sits at 23 million members that represent nearly 50% of our transactions and the program is growing. In addition, MyPanera users are very loyal with double the visit frequency of our nonmember customers. We believe this is by far the largest loyalty program in the industry and a significant competitive advantage.

There are three fundamental ways we leverage MyPanera. First, we utilize broadly appealing initiatives like Bagel Club, where targeted MyPanera members can receive a free bagel for a limited period when they visit a Panera Cafe to help drive profitable incremental transactions. We've made significant progress over the last year refining who receives these offers and when they receive them to ensure the maximum incremental lift and profitable transaction growth.

The second way we use MyPanera program is to drive awareness and adoption of our new customer-focused initiatives like RPU, delivery, new seasonal product introductions and new cafe grand openings. By understanding our customers' behaviors and preferences, we're able to send our customers communications about relevant services and relevant products that make their daily lives better.

The third way and most recent way we leverage MyPanera is micro-targeting that helps drive stickiness for the brand. We focus on what we call moments that matter to our customers with more personalized communications to the right person at the right time. For instance, the day we introduced our new sandwiches, we will let past purchasers of our current Italian combo know that we have a new and exciting sandwich we think they'll love, called "The Italian."

And once we see that they purchased this new sandwich, we will immediately send them a second communication to reinforce their decision and provide them with additional information about the key benefits of this sandwich so that they're more informed about their decision and better positioned to become an advocate of our brand to a friend. And we've experienced open rates that are more than 50% higher than our norm with this more personalized approach.

All of these MyPanera efforts are in service of our moving to a more one-to-one marketing approach, sending the right message in the right medium to the right customer at the right time. So, let me close by saying that we're very excited about our innovations to-date and even more excited about those to come.

We can see the impact of innovation in our steadily improving results to-date. And our strategy is working, and we expect the future will only get better. We are truly becoming a better competitive alternative. And Mike will now review our Q2 results and our 2016 outlook.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Thanks, Drew, and good morning, everyone. I don't know about you guys, but I'm hungry for a sandwich after Drew's comments. I will briefly touch on some key points on our second quarter results, followed by an update on our value-enhancing initiatives before ending with our targets for the remainder of 2016. But first I'd like to take care of a quick housekeeping item.

Starting in 2017, we will no longer report quarter-to-date comps. As Drew discussed, reporting the comps for a handful of weeks puts too much focus on short-term trends. We and our long-term shareholders prefer their focus remains on our performance over a longer period of time. Therefore, our last quarter-to-date comp report will be for the first 27 days of Q4 2016 when we report our Q3 2016 results in October.

With that out of the way, let's now turn to Q2. Yesterday, we reported GAAP earnings per share of $1.46, down 9% year-over-year; however, adjusted to exclude refranchising charges in both years, EPS was $1.78, or up 11% versus Q2 2015 adjusted EPS of $1.61. This marks our second consecutive quarter of double-digit adjusted EPS growth. Drew covered comps, so I'll get right to operating margin.

On a GAAP basis, operating margin declined by 150 basis points from 10.1% in Q2 2015 to 8.6% in Q2 2016. However, when adjusting for the refranchising charges in both years, our adjusted operating margin declined only 50 basis points from 10.2% in Q2 2015 to 9.7% in Q2 2016.

Starting at the bakery-cafe level, we are pleased to report our bakery-cafe margins improved by 120 basis points from 15.7% to 16.9% in Q2 2016. This was also the second consecutive quarter bakery-cafe margins improved.

Let me further break down the bakery-cafe margins. Food and paper costs decreased to 29.5% of sales in Q2 2016 from 30.6% of sales in the same period last year. This was attributable to strong comps and benign food cost inflation. Labor, as a percent of sales, increased to 32.1% from 31.7% in the year-ago period. There were several factors that drove this increase: one, wage inflation, which was approximately 5%, driven in large part by structural wage increases; two, start-up and transition costs associated with our strategic initiatives; three, increased bakery-cafe manager bonuses reflective of better year-over-year performance; finally, these factors were partially offset by comp leverage.

Comp leverage also positively impacted the occupancy line of the P&L. As a percent of sales, our occupancy decreased to 6.9% this year from 7.3% last year. Other operating expenses as a percent of sales decreased to 14.7% in Q2 2016 from 14.8% in Q2 2015. However, there were countervailing forces at play here that are worthy of unpacking.

We had a tailwind from lower year-over-year media spending hitting the bakery-cafe P&Ls in Q2 2016. This was partially offset by higher multi-unit operator incentive compensation, reflecting better year-over-year performance. In addition, we also had headwinds from higher repair and maintenance costs as well as the startup and transition costs associated with our strategic initiatives, including higher credit card usage.

Moving out of the bakery-cafes and looking at our total company operating margin, which again only deleveraged by 50 basis points on an adjusted basis, deleverage from depreciation and amortization and G&A, more than offset the improved bakery-cafe margins.

As a percent of sales, depreciation and amortization increased to 5.6% in Q2 2016 from 4.8% in the year ago quarter. This was primarily the result of our investments in technology and growth initiatives. In addition, there's one other factor to discuss. In Q2 2015 we declared three markets as likely to be refranchised and thus classified as held for sale.

As you know, when assets are declared held for sale depreciation stops, but we still recognize the sale. As a result, in Q2 2016 we're lapping materially lower depreciation expense as a percent of sales from this time last year.

Finally, let's turn to G&A. As a percent of sales, our G&A increased to 5.6% from 4.2%. There are several factors that are important to understand with respect to Q2 G&A. First as of last quarter, the primary reason for a G&A deleveraged was increased incentive compensation expenses consistent with improved year-over-year performance; second, we established legal reserves in the quarter which cumulatively added up to approximately $2 million; third we continue to invest in our growth capabilities including technology, delivery and catering; and fourth remember we're lapping a G&A decline in Q2 2015 so this year looks higher on a one year basis.

It is important, however, for me to stress to investors that we remain focused on only growing our core G&A at a modest pace after the 5% reduction in core G&A in 2015. So how should you hold G&A for the balance of the year? Looking forward, we expect full-year 2016 G&A growth will be generally in line with the growth you saw in Q1 2016.

Before leaving the Q2 P&L, I'd like to make a quick comment on tax rate in the quarter. On a GAAP basis our Q2 tax rate was 40.8%. However, on an adjusted basis excluding the refranchising charge, our effective tax rate was 36.4% in line with our full-year guidance and expectations for the quarter. I would now like to provide an update on our uses of cash during the quarter.

Excluding refranchising we generated $107 million in EBITDA in the quarter, up 7% versus last year. We're very pleased that this was the highest EBITDA growth we've experienced in nine quarters.

Going a little deeper, during the quarter we spent $48 million in CapEx, primarily for new unit development and Panera 2.0 conversions. We opened nine company-owned bakery-cafes during the second quarter.

Our year-to-date AWS of $52,256 remains particularly strong. We continue to believe our 2016 classic cafes will finish the year within our guidance range of $45,000 to $47,000. Our franchisees opened eight bakery cafes in the quarter and their year-to-date AWS is $46,319.

In addition, during the second quarter we purchased 351,000 shares at an average price of $213 per share for a total of $75 million. Wrapping up cash, we ended the quarter with $160 million in cash on hand.

I would now like to transition to an update on our value enhancing initiatives. During the quarter we made significant progress on both Refranchising and our Canada Strategic Review.

In May, we closed on our previously announced refranchising deal selling 15 bakery-cafes in Portland, Oregon to one of our largest existing franchise partners Manna Development Group for $15 million.

Now moving to the big news, Canada. In our February earnings call I announced that we have begun a strategic review of our Canadian business. Recall, big picture, we believe in the long-term potential of Canada as a profitable growth market for the Panera systems.

Sales and comps in the market are strong and our study show that there are many attractive trade areas remaining in the market. However, due to our relatively early stages of development in Canada we have been losing money.

Given our commitment to do everything we can to fund our strategic plan and the initiatives that make up that plan, we undertook the strategic review looking at all options for the Canadian market with the end goal of doing what is best to create value for shareholders.

Today, I'm very excited to share the end result of that strategic review. We have signed a definitive agreement to sell 12 cafes in the Canadian market to Franchise Management Incorporated. FMI is Canada based and one of the largest operators of the U.S. based concept in Canada. FMI operates more than 225 restaurants including Pizza Hut, KFC and Taco Bell. Given their local market knowledge and track record of successfully purchasing and growing U.S. based concepts in Canada, we cannot be more excited to welcome FMI and Dwight Fraser FMI's Founder and President to the Panera family. We expect that Dwight and his team will be great partners for us for years to come.

As reported in our earnings release last May, in conjunction with the refranchising of our Canada cafés in the second quarter, we incurred a one-time charge of $7.2 million net of taxes.

So what does this transaction mean for the balance of 2016 and 2017? We expect the transaction to close by the end of the third quarter. To be clear any ongoing EPS accretion from the sale of the market was contemplated in our 2016 earnings target and our prior commentary about 2017. With the Portland and Canada deals, the total number of refranchised cafés is now 102 cafés, just above the midpoint of our initial guided range of 50 cafés to 150 cafés.

Now let's move on to our full-year 2016 targets. Reflecting our year-to-date performance and continued confidence that our strategy is working, we are raising the midpoint of our full-year adjusted 2016 EPS target.

Our revised full year adjusted 2016 EPS target is now $6.60 to $6.70, up from $6.50 to $6.70. If we deliver this revised target, our adjusted 2016 EPS will be up 6% to 8% versus adjusted full year 2015 EPS of $6.21.

We are maintaining the rest of our full year targets as previously published including maintaining our full year 2016 comp target of 4% to 5% and corresponding revenue growth target of 5% to 6%. Opening 90 to 100 new bakery cafés with AWS of $45,000 to $47,000. Operating margins down 50 basis points to 100 basis points, tax rate in the low 36% range excluding the impact of Q2 refranchising and CapEx of $200 million to $225 million.

Now with the full year targets adjusted, let's discuss what this implies for the remainder of the year. For the back half of the year, we are targeting adjusted EPS excluding one-time items of $3.26 to $3.36, up 2% to 5% versus adjusted EPS of $3.20 for the same period in 2015.

As we've previously discussed there will be variability quarter to quarter, specifically we expect Q3 EPS growth to be lower than the first half of the year, while Q4 EPS growth will tick back up versus Q3. Focusing in on Q3 our targets are as follows, on an adjusted basis we are targeting Q3 2016 EPS of $1.32 to $1.35, flat to up 2% versus our adjusted Q3 2015 EPS of $1.32. We're targeting Q3 same-store sales growth of 3.5% to 4.5%.

If we achieve this target the two-year comps in Q3 would be 7.3% to 8.3%, which will be an acceleration versus the Q2 two-year comp and in line with the Q3 to-date comp performance. We also anticipate adjusted operating margin deleverage will be in line with the full-year range of down 50 basis points to 100 basis points.

So you may ask what is unique about Q3 as compared to other quarters in 2016. First, Q3 is a seasonally light sales quarter and we thus get less fixed cost leverage than in other quarters. Second, as we have previously indicated the transition and startup costs associated with our strategic initiatives will crest in Q3 2016. Specifically, we are executing approximately 100 company delivery conversions in the third quarter. Keep in mind our immature delivery stores initially generate strong comp growth with modest profit growth.

In addition as Ron indicated, over half of our Panera 2.0 cafés can be classified as immature as of Q3 and thus a drag on profits. So where does this leave us for Q4? Well you can do the math, but on an adjusted basis we are targeting Q4 EPS of $1.94 to $2.01, up 3% to 7% versus our adjusted Q4 EPS of $1.88.

Before turning the call over to Ron for his concluding comment, I'd like to make a few comments about 2017. Obviously we are very upbeat about our future. However to be balanced in our outlook we want to continue to remind investors about the potential headwinds we foresee in 2017. First, we continue to invest in our people and believe statutory wage inflation in 2017 will accelerate versus 2016.

Second, our initiatives will still be maturing. Take for example delivery. As Ron said, for approximately six months after the roll-out of delivery in an individual café, comps grow more quickly than profits, as we're hiring and training drivers and investing in customer awareness. Quantifying the impact delivery will have on 2017 profits is difficult at this point, as much will depend on the pace of delivery roll-out to company cafés in 2017.

Third, as Drew referenced, we will continue to invest in our customer through innovation in food, marketing, operations, and store design. But let me say, despite these headwinds, the present trajectory of our business and the performance of our initiatives give us confidence that we remain on the path to sustained double-digit EPS growth beginning in 2017.

With that, I'll turn it over to Ron for his concluding remarks.

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

Thank you, Mike. I'd like to close with just a very quick comment. Our transformation is truly happening. Our vision is proving to be right. We have a strategic plan that we are now more confident than ever will create a future we all desire for Panera. We're taking several powerful initiatives to market. Now we're focused on rolling out those powerful initiatives, Panera 2.0, our innovations to become a better competitive alternative, catering and delivery among them, methodically and with discipline in both our company and franchise cafés. As a result, we're confident investors will be pleased with the EPS growth that we expect will be the outcome.

That concludes our prepared remarks. Operator, we'll now open it up to Q&A. As is our tradition, please be respectful and ask only one question per analyst, so everyone has a chance to ask one. If you have additional questions, we'll allow you to reenter the queue. Operator, let's begin.

Question-and-Answer Session

Operator

We'll take our question – first question from Andrew Strelzik of BMO Capital Markets. Your line is open.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Good morning, Andrew.

Andrew Strelzik - BMO Capital Markets (United States)

Hey, morning. Thanks for taking the question. I just had a big picture question on delivery, there is a lot of players in the industry out there talking about off-premise sales and delivery, and I'm just interested in your perspective in how this plays out longer-term bigger picture. I mean, is there just latent demand for incremental visits across the space, is there going to be very much a winners and losers bifurcation, and where do you think that traffic would be coming from – is it food-at-home, just how you're thinking about those things?

Andrew H. Madsen - President

Yeah, obviously, I think, there's always winners and losers. And I think that that's rooted in the attitude or paradigm you bring to it.

There are going to be a lot of people that view delivery as, shall I say, an opportunity to hop on the newest flavor of the month, and sort of cream this market opportunity, and they will do modestly in it and it will be a additive to them with low margins that they are going to be paying outsourced aggregators who provide the business. They won't own their own customer and probably they're going to be outsourcing delivery, and it will be incremental profit. There are others that are going to go at it in a mass-market way as Panera is, and so I think that's one thing that will divide it up.

I think, secondly, I think, there are some kinds of food that lend themselves particularly well to it, there are others that don't. We think that soups and salads and sandwich work particularly well, particularly given the competitive landscape that's out there. This food travels compare that to trying to move pizza, for example, this food travels particularly well.

I think, third, I think that we're going – I think, the economics of delivery are simple. It's scale business, and it doesn't cost us anymore to make a sandwich for delivery than it does a sandwich in café. The order input cost, because we're using our pre-existing Panera 2.0 E-commerce capabilities cost us nothing. All orders are taken on delivery. So the only relevant cost for a Panera and compared to others is the actual delivery expense. And as the buying goes up per café that delivery expense goes down. As we go down the learning curve, we get smarter and ultimately we expect as the volume goes up to have delivery expenses approaching what high-volume pizza guys have for delivery expenses.

I think that in conclusion I would say like everything else, this will be material for some. It will be immaterial to most. And I would just add with one last comment, we are not seeing this – and I can only speak in Panera's experience as cannibalizing in any material way. In fact, we find that as we build up – it's our on the channel strategy. As we build up awareness of Panera for delivery, it helps our catering business. People don't tightly define it and it actually also potentially helps our retail business. So for us this is really truly incremental. Others may have a different experience.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Great. Next question?

Operator

Our next question is from Peter Saleh of BTIG. Your line is open.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Good morning.

Peter Saleh - BTIG LLC

Good morning, and congrats on the quarter. I just wanted to come back to the unit development commentary that you guys made. It sounds like sales are moving in the right direction. You guys have a lot of initiatives pushing it that way. But also the costs are coming down. So how should we be thinking about unit development or the pipeline going into 2017?

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Yeah. We're not giving specific guidance points, Peter, on 2017 right now. We'll get to that when we get to 2017 guidance. I think all we're just trying to give voice to today is that we have been putting effort onto both sides of how we think about unit development. So obviously the sales continuing to build through the omni-channel strategy and then being really focused on the I part of the ROI of a new unit, the investment that's required. So we'll cover 2017 units when we get into 2017 guidance.

Operator

We'll take our next question from Sara Senatore of Bernstein. Your line is open.

Sara H. Senatore - Sanford C. Bernstein & Co. LLC

Thank you. I actually had a question about margins and some of the investment cost that you talk to. So, specifically, I thought the restaurant margins were a lot better than I would've expected this quarter, on the labor line in particular, given 5% wages and incentive comp. We typically wouldn't expect you to be able to hold that line, as well as you did I think given where the comp was, even at 4.2%.

So maybe can you help me understand how these upfront investment costs that Ron talked about? I know that there will be a crest in 3Q, but should subsequent quarters look more like 2Q, when I think about the rate of growth in that labor line? Just trying to get a sense because again that margin looked better, especially in the context of all the investment.

And then, related as an offset G&A was a lot higher than maybe I expected. So when does that start to normalize? Are we always going to see some of the sort of upside from margins or revenue get absorbed into incentive comp or I guess I'm just trying to think about that over time as well, the pace of growth relative to revenue, so the two margin questions please.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

We can tell you're a veteran of our call, Sara, because you managed to get two questions in there, so it's well done.

Sara H. Senatore - Sanford C. Bernstein & Co. LLC

I did.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

It sounded like one, very talented.

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

One big question.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

So, one big question. So I'll cover the G&A piece, just kind of first real quickly. So like we said the biggest factors already incentive compensation and the legal reserve. Legal reserves are obviously hard to predict. So you can't say for sure what would happen with those in the future. On incentive compensation, remember, we're coming off of two years in 2014 and 2015 where across the board – at the corporate level, the multi-unit level and the bakery café level – we underperformed our expectations that we hold for ourselves and we were paying below targets.

So 2016 is just, we're having a year that's in line or maybe a little better than our expectations. So that's reflected in the incentive compensation. So that is obviously very tied to how we do on a year-over-year basis. We didn't change programs or anything like that. It's solely tied to performance after a couple down years.

On the bakery café margin question, specifically about labor, and really, I think, we're trying to get to a Q2 versus Q3 versus Q4. So, remember, with the lower volume – lower sales volume we have in Q3, some of the investment that we put in for labor is really kind of a fixed investment.

When you're training an associate, if a café does $48,000 or $50,000, you're still paying the same amount to train a new associate or to hire a driver. So you get a little bit less leverage on that in the third quarter. And the fourth quarter is the higher volume quarter, as you'd expect it.

But I think the bigger thing to kind of takeaway from the comments on the investments and the cresting is, remember, we're going to have over half of our 2.0 conversions still within that kind of immature time period. So we define that as four quarters after conversion. So there is still a drag on profit. The older ones are only very modest drag on profit. And then, with delivery, we're again – we're launching a 100 delivery units on the company side in Q3.

That's a lot to go out to at once. And as Ron gave voice to, it takes six months for those to get to the point where the profit starts to catch up with the comp lift that we see. So that's really what we're just trying to give voice to about like three is a little bit different than two.

Andrew H. Madsen - President

Right, I mean, the relevant point is that there is a trailing function to any of these rollouts. Delivery it's relatively short. It's over in the matter of months. 2.0, it could run a couple of quarters, three quarters to four quarters, but they trail. And so we want people to be cognizant, it's not just the moment of rollout that's material.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Great. Next question.

Operator

Our next question comes from Brett Levy of Deutsche Bank. Your line is open.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Hi, Brett.

Brett Levy - Deutsche Bank Securities, Inc.

Good morning. With the same-store sales gap widening at the company level versus franchise, what's holding you back from accelerating the rollout at the franchise level? How much demand do they have for it? And given that you have a tremendous amount of cash on the balance sheet, would there ever be any incentive to try to help them facilitate the faster growth?

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

I think, there – I mean, I'll speak generally. This is Ron. The franchise community is extraordinarily excited about 2.0. They're extraordinarily excited about delivery. They're extraordinarily excited about the whole agenda. I'm sure you all speak to them. They – you hear what we hear.

Having said that, we all are trying to make sense of this embarrassment of riches, and how we roll out and sequence these things. And I hope you heard me clearly say, we'd like to get them all the market tonight, but there is necessary preconditions that have to occur. We must have the managerial capabilities. We must have the physical capabilities that is capacity. They both need to be there, and we're going to sequence in 2.0 and delivery in a proper way.

So what we don't want to say all, as we look at each of these as individual and we land all these on top of each other. So the point I want people to hold and understand is that there's a tremendous amount of positive energy relative to all of these initiatives including our – the better competitive alternative initiatives that Drew spoke to, and the question for us is, how we sustain methodically and with discipline bring these to market.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Great. Next question?

Operator

Our next question comes from David Tarantino of Baird. Your line is open.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Good morning, David.

David E. Tarantino - Robert W. Baird & Co., Inc. (Broker)

Hi, good morning. My question, Ron, is I appreciate the commentary about sequencing some of the initiatives at the company level, but I was wondering if you could share any high level thoughts on when it's reasonable to expect all of this to get rolled out meaning Panera 2.0 and delivery across the system and maybe as a secondary question, do you expect the entire system ultimately to have delivery or is it going to be in a subset of the system?

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

First let me take the second part of your question first, and I think, it will give and inform the whole thing. We don't think anything should be in 2,000 plus system. What we're focusing on is being the best competitive alternative within 1 mile or 0.5 mile of our cafés and we're focused on winning market share café by café, shift by shift, day by day.

So what we want to put in place is what's appropriate to that individual store. And I think the way to think of it is not that we're – 2,000 stores doing exactly the same thing, but we're 2,000 cafés that are optimized to essentially capture the most higher ROI sales dollars from a given zip code or market.

Having heard that and said that, we're really focused on construction completion of these initiatives not complete system rollout. I'm sure 2.0 will never be in every store. I am also sure delivery will not be in every store. We'll be adjusting and tuning this is as appropriate. We have indicated, we expect to have essentially constructive completion of 2.0 in company stores this year. We're moving forward with the franchise community, we're aggressively moving out delivery, and I think you'll see the vast results from this over the next several years. But I think we are well into the execution mode on these initiatives.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

All right. Next question

Operator

We'll move next to Matt McGinley of Evercore.

Matthew Robert McGinley - Evercore Group LLC

Good morning. I have a follow-up question on the G&A. I had a question about the increase for the rest of the year relative to what was in line in the first quarter and you've expressed in the past how this can be lumpy based on incentive comp and insurance reserves, but was that inline comment for the rest of the year relative to the 19% rate of increase you had in the first quarter, or is it relative to the dollar amount? And then can you help me think about kind of the core G&A in there, and again with insurance reserves and some incentive comp that's kind of hard to back out, but what should be the core like dollar rate that we should expect that to grow out on a long run basis?

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Yeah, so the 19% refers to the full year would be in line with Q1, so is what the comment meant so, yes, so whole of the full year is roughly 19%, 20% something in those lines. In terms of core G&A, I mean, specifically we've kind of even given the core G&A number. Remember, core G&A was down 5% last year, I'm not – I will tell you this it's not like core G&A is up 20% this year, right, it's up a relatively modest rate. We're very focused on that. All the increases that you see in G&A, again are first incentive compensation, second, these legal reserves that we've seen, and then third is investment in the people capabilities and technology delivery and catering specifically those are really the three big drivers for us.

All right. Next question.

Operator

Our next question comes from Andrew Charles of Cowen. Your line is open.

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

Good morning, Andrew.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Hi, Andrew.

Andrew Charles - Cowen & Co. LLC

Good morning, Ron. Good morning, guys. As we think about your ecosystem of sales drivers, are you seeing the highest small order deliver utilization at the more mature 2.0 cafés with a higher digital utilization, I'm just trying to get a sense if there's a correlation between the two initiatives?

Andrew H. Madsen - President

I'm losing you there, can you say that again?

Andrew Charles - Cowen & Co. LLC

Yeah, sure. Just thinking about the ecosystem of drivers that you guys have, are you seeing, obviously, recognizing that 2.0 is a prerequisite for delivery, but are you seeing the highest amount of smaller delivery mix in sales growth at the more mature 2.0 cafés where there is higher digital utilization?

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

Yeah, let me approach it slightly differently. I think that there is – you asked me what should these initiatives correlate with others. I'd probably tell you and it won't be a surprise to you, that delivery correlates with catering. So when we bring up the delivery business it makes our catering all that much easier. And when we – it's a – it has a double benefit because now you have drivers in the café, you have a capacity you didn't have before to really do the right job with catering. Similarly when you have a strong catering business delivery comes up.

2.0 is sort of somewhat different in its relationship because 2.0 is about having, part of 2.0 as a prerequisite to it has been operational integrity, and all of our production processes and capacity testing, 2.0 makes the rollout of delivery easier. But it is not in its core a requirement.

I will tell you that ultimately and you use the word not, I know you're focused on this, and – but you're right, I think ultimately this is all going to lead to a discussion of the ecosystem. And how we bring people into relationship with Panera because we're living in a world of relationships not sales and not brand marketing, but relationship. How we bring them into relationships with Panera and how we maintain that relationship and make it difficult to leave that relationship, quite frankly. But that's for another day and another discussion.

And operator we have – I have got one more, I have an appointment with CNBC so.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Yeah. So, we'll do one more question operator, and then we'll wrap up, and obviously we have time with most of you today or over the next couple days, Steve and I'll take anytime we need.

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

Next question is not for me, I'm going to run.

Michael J. Bufano - Chief Financial Officer & Senior Vice President

Okay. Let's hear the question.

Operator

Very good. Our final question is from John Glass of Morgan Stanley.

John Glass - Morgan Stanley & Co. LLC

You are out of luck. Ron, this one is for you.

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

All right. It'd be a quick answer, which is hard for me, John.

John Glass - Morgan Stanley & Co. LLC

Well, my question is this, you talk about 10% or I should say double-digit earnings growth over time as a goal, but the low end of that 10% let's say or low double-digits isn't that higher hurdle for a lot of restaurant companies? So I am trying to understand what you're really playing for when you've done all this? What kind of earnings growth do you think this company can drive? And if you could specifically just understand where you think, how much margin recapture is really possible over time versus what you had prior? Can you get back to your prior peak margins, can you only get recapture part of that because you've invested so much more into the cafés? For example, I think that's what investors are ultimately trying to struggle with here in terms of trying to understand what growth is, particularly as you talk about 2017?

Ronald M. Shaich - Founder, Chairman & Chief Executive Officer

John, it's a very simple answer and it's very quick. It all turns on comps. Comps are everything. Costs are going to grow 3% a year. They are going to grow 4% or maybe in years where you have the structural labor inflation, so everything turns on comps. Drive the comps more than that 3% to 4%, you are going to have base store profit, you are going to have margin expansion and you're going to have dramatic EPS growth. We've had years where we've seen north of 20% EPS, that would be the kind of goals we'd love to see, but we're not in any way guiding anybody to that. What we're guiding to is sustained double-digit EPS growth understanding we're playing for a lot more. Okay, see you later, guys.

Steve W. West - Vice President-Investor Relations

And operator, that concludes our call. Guys, if there is any questions, follow-up, just reach out to Mike and I, and we'll make time to answer all your questions. Thanks. We'll talk to you all soon. Thanks a lot, everybody.

Operator

Thank you. This does conclude today's Panera Bread second quarter 2016 earnings call. You may now all disconnect your lines and everybody have a great day.

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