Texas Roadhouse (TXRH, Financial), the fast-casual brand known for its big steaks and cold drinks, has seen only middling performance of late. Growth has been better than tepid but not quite solid and earnings have fallen largely in line with expectations.
While Texas Roadhouse has not set the world on fire with growth lately, this stock is worth a look. The reason is its relatively (and some might say unexpectedly) low price-earnings ratio. The market has not priced in all that much growth, perhaps unfairly so. Even so, the relatively low earnings multiple might also make it an enticing takeover target.
Let’s take a look under the hood.
Financial performance has been middling
While Texas Roadhouse’s financial performance has not been bad, and might fairly be classed as above average, it has not been flawless, nor has its growth been meteoric. Is a company with middling growth one worth looking at? Yes. If Texas Roadhouse can continue its growth trajectory, expand to increase its growth rate and work on cutting expenses, a very respectable level of profitability can be reached. Currently, net income is approximately 6% of total revenue; this percentage share needs to grow in the coming years to ensure Texas Roadhouse’s long-term financial health.
Revenue and net income growth have remained fairly steady over the last three calendar years, growing at an average rate of about 11%. This is a respectable growth rate, but would not get Texas Roadhouse into any “high growth” companies list. We would like to see management make the necessary expansion measures to get this above 20%.
Revenue growth has been acceptable. Total revenue exceeded $2 billion for the first time in 2017, hitting $2.22 billion, an 11.5% increase over the previous year’s total of $1.99 billion. 2015’s revenue total was $1.81 billion, in line with the average growth rate of approximately 11%. Gross profit similarly tracked revenue, increasing from $1.32 billion in 2016 to $1.50 billion in 2017.
Net income, however, is not as terrific a story. Net income hit an all-time high in 2017 at $132 million, a respectable 14% jump over the previous year ($116 million). The problem we see is net income sits at only 6% of total revenue. Expenses, therefore, are unambiguously high. Take a closer look at Texas Roadhouse’s income statement and one can see the culprit is massive selling, general and administrative expenses, which have exceeded $1 billion in each of the last two years. A combination of administrative costs and a very high marketing budget has made for a company with high revenue, but middling profits. As potential shareholders, it is important to weigh this in your consideration.
Finally, looking at one of our favorite metrics, earnings per share surprises, garners a similarly mixed bag. Earnings have only surprised the Street two out of the last four quarters, with first-quarter 2017 and fourth-quarter 2017 producing 3.4% and 8.1% surprises, respectively. The middle quarters saw earnings per share hitting the analyst consensus on the dot. Earnings per share has averaged between 40 cents and 60 cents over the last year, which is not a bad performance for the restaurant industry.
Is this a value stock opportunity?
Six months ago, Texas Roadhouse was an even more attractive stock pick when its price was quite a bit lower. However, it remains a potential option today. Texas Roadhouse’s price-earnings ratio has steadily ticked up over the last year, originally hovering in the low 20s and now in the high 20s to low 30s.
The average price-earnings ratio for the restaurant industry is up for debate, but hangs somewhere in the 30 to 40 range, generally closer to 40. This indicates Texas Roadhouse has something positive going for it: a slightly below-average price-earnings ratio. If logic holds up, Texas Roadhouse has some room for stock growth, which would benefit our readers if they choose to invest.
A strong takeover target?
We have previously written on Buffalo Wild Wings, IHOP, Applebee’s and Chili’s. Buffalo Wild Wings was recently acquired in a deal highly favorable to its shareholders. We believe a potential option for shareholder profits comes by way of a takeover. If, say, you buy Texas Roadhouse today at around $58 and the company is purchased at a premium in the next few months or years at, say, $70, then you would see a 20%-plus return on investment. Not a bad prospect.
Texas Roadhouse is a prime takeover target because while its sales exceed $2 billion, it is small enough to still garner interest and potential bids. Market cap currently sits at $4.16 billion, well within the price range of many big brands and industry players. Such a move might be highly advantageous to Texas Roadhouse and its shareholders, not the least of which because it would allow the company to create a new expansion and capital strategy, and because it would pay the shareholders a premium on their stock.
Verdict
Texas Roadhouse is not a slam-dunk. We see potential challenges for Texas Roadhouse in its slow growth and in navigating the competitive landscape. The fast-casual industry is becoming increasingly saturated, making expansion and profit more and more difficult.
However, growth is now showing signs of perking up. The company’s brand has also clearly garnered strong customer retention and loyalty. It appears to have plenty of value potential on its own, as well as presenting an enticing takeover opportunity.
It might not be a bad idea to add Texas Roadhouse to your menu.
Disclosure: I/We own no stocks discussed in this article.
