Texas Roadhouse: Can't Argue With The Multiple Expansion (NASDAQ:TXRH) (2024)

Texas Roadhouse (NASDAQ:TXRH), primarily a steakhouse chain, has been one of the most consistent companies in the market since it went public.

Showcasing CAGRs of 12% in sales and 14.5% in EPS between 2009-2023, Texas Roadhouse has been one of the best-performing stocks in the market.

Is there meat left on the bone (pun intended)? let's find out.

Introduction To Texas Roadhouse

I've been covering Texas Roadhouse on Seeking Alpha since July of last year. Throughout my coverage, I maintained a Hold rating, claiming the steakhouse chain is an amazing business, but an expensive stock.

Well, I guess I was wrong about the expensive part.

Over the past three years, Texas Roadhouse outperformed the S&P 500 (SPY) by almost 30%, as investors grow increasingly bullish on the food service sector in general, and TXRH specifically.

Looking at the graph above, we can see that the stock trailed the S&P for quite some time, then traded in line with the market, and since the beginning of 2024, we can see a sharp detachment between TXRH and the market, with the major turning point being its recent earnings.

So, let's see how good those earnings really were.

Exceptional Fourth Quarter Results

Revenues in the fourth quarter amounted to $1.16 billion, in line with expectations, up 15.3% Y/Y, and reflecting a significant acceleration from Q3.

Growth was driven by a comparable restaurant sales increase of 9.9% at company restaurants, with a 5.1% increase in traffic and a 4.8% rise in average check. As a result, average unit volumes reached an all-time high.

Restaurant-level margins improved to 15.3%, up 8- bps from the prior year period and 67 bps from the previous quarter. The company saw sequential improvement in food & beverage, labor, and rent, and a deterioration in other operating costs.

Overhead costs as a percentage of sales were essentially in line with the third quarter, which is slightly above 2022 levels. As the company reached a meaningful scale, margin expansion is almost entirely a restaurant-level story, as they are already running a very lean and efficient organization and there's no more fat to trim.

Cash flow generation remains a problem, but saw a significant sequential improvement in the fourth quarter. I find it better to look at FCF on an annual basis, as it's less sensitive to the timing of store openings and such.

We can see that most line items held steady in 2023, except for capex, which as a percentage of sales, grew 136 bps. Importantly, while some of the increase can be attributed to more store openings and renovations, it's also a matter of higher costs per store.

Overall, Texas Roadhouse ended the year on a very strong note, demonstrating continued strong demand, and calming investor worries about margins. Looking ahead, the company said it expects additional restaurant-level margin expansion in 2024 but refrained from providing a specific number.

Is There More Room For Expansion?

As I discussed in previous articles, comparable sales growth should ease in line with inflation, although so far, the company has consistently beat expectations. Still, it's hard not to expect a return to the mean, which means pre-pandemic levels of comparable sales growth in the mid-single digit range.

With that in mind, the company will turn to footprint expansion to drive the rest of the growth.

Texas Roadhouse ended the year with 741 locations, of which 635 are domestic company-operated stores that drive the majority of the business. In 2023, the company had 38 net openings, or 6.4% unit growth, which is a 5-year high.

For 2024, management said they expect to open an additional 30 locations.

As we can see, management's guidance demonstrates a significant slowdown in unit growth, from 6.4% to 4.7%. Furthermore, we can see that the 38 is an outlier, and it seems like management is comfortable with the 30 openings pace, regardless of growth in terms of percentage.

On the earnings call, one analyst asked about potential acceleration above the 5%-6% range, and they said they don't expect that to happen, but they did not negate his basis of assumption on unit growth. In my view, the 30 stores range is more probable than a 5%-6% unit growth.

So, with a combination of continued openings and comparable sales growth in the mid-single digit range, Texas Roadhouse has a clear path for high-single-digit to low-double-digit revenue growth, similar to its historical trend.

Valuation

Here is when things get tricky. In previous articles, I said I believe Texas Roadhouse shouldn't get a fast-food chain multiple, as those generally have more room for unit expansion, better profitability, and a simpler path to expand internationally.

I still believe this to be true.

I think one of the mistakes I made was looking at TXRH's valuation in a vacuum, without taking its growth profile into account.

As of today, the company is trading at a 26.4x P/E over 2024 earnings, which are expected to grow 24%, primarily due to easy comps in terms of profitability (last year's struggles are this year's tailwinds). This reflects a 1.1x PEG.

Looking further ahead to a more normalized trend in 2025, TXRH is at 23.7x P/E, on 12% growth expectations, reflecting almost a 2.0x PEG.

For context, that's a higher 2025 PEG than Chipotle (CMG), Starbucks (SBUX), Restaurants Brands International (QSR), and Yum! Brands (YUM), which are trading at 1.9x, 1.2x, 1.3x, and 1.8x, respectively.

Now that Texas Roadhouse negated some of the margin worries, investors were quick to rerate the stock, which is back to fairly valued / overvalued territory.

Conclusion

Texas Roadhouse continues to deliver tremendous results, with its everlasting formula of prudent expansion, exceptional service, and delicious reasonably-priced food.

Following a report that negated margin and growth slowdown worries, the stock shot up to a level that reflects the higher certainty.

Unfortunately, I once again find TXRH stock slightly overvalued.

I believe Texas Roadhouse is a great business, but I still prefer to get exposure to the food sector from companies with a clearer path for long-term growth through footprint expansion.

With the company management refraining from providing a long-term footprint target, I'm worried that the current valuation reflects too much optimism.

Texas Roadhouse should continue to deliver double-digit returns from EPS growth, but I'd wait for a better entry price, somewhere in the 1.5x-1.8x normalized PEG range.

Yuval Rotem