Despite Record Sales, Texas Roadhouse Has Beef With Beef Costs

Key Points

• Texas Roadhouse shares have fallen roughly 19% since its Aug. 6 earnings release despite reporting record average weekly sales and 6.2% comparable sales growth.
• Rising beef costs squeezed margins and pressured earnings per share, even as management lowered its full-year commodity inflation forecast and traffic stayed strong.
• Analysts maintain a consensus Moderate Buy rating with a $209 price target, implying roughly 25% upside despite risks from cattle supply and high valuation.

On Aug. 6, Texas Roadhouse NASDAQ: TXRH posted the best sales quarter in its history—and investors didn’t like it.

Texas Roadhouse generated record average weekly sales in the second quarter, while comparable sales rose 6.2% and customer traffic remained positive. But since the report was released, shares have retreated sharply from their summer high as restaurant stocks contend with concerns about consumer spending, inflation and rising operating costs.

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That disconnect is the investment question here. When a restaurant chain sets records while its shares fall, either the market is missing something, or there’s something behind the sales figures.

In this case, it’s the latter, and the culprit is beef.

For investors willing to look past a single, potentially cyclical cost problem, the underlying business tells a much better story than the stock chart.

Record Sales Show Demand Is Not the Problem

Recent figures show a company firing on almost every operational cylinder. Texas Roadhouse continues to attract more customers even as many restaurant operators struggle with consumers becoming more selective about discretionary spending.

Average weekly sales at a company restaurant reached an all-time high of $177,252. Revenue grew 11.1% to $1.68 billion, above analyst expectations of $1.67 billion. Comparable restaurant sales rose 6.2%, with a healthy portion of that growth coming from more guests walking through the door rather than higher menu prices, which is the most valuable kind of growth in casual dining.

Earnings came in at $122 million, or $1.85 per share, two cents above analyst estimates, though 0.7%, or one cent, lower than year-earlier results. Much of this came as restaurant margins slipped because food and beverage costs climbed sharply on commodity inflation. The stock has fallen roughly 19% since its earnings report.

Lower Commodity Forecast Signals Potential Relief

There are real signs the story is turning, however. Management lowered its full-year commodity inflation forecast from 7% to approximately, well below the 9.5% it was seeing last year.

Momentum has not faded, either. Comparable sales early in the third quarter are running at about the same pace as the second quarter, the company said.

Management has also made a deliberate choice to protect its value positioning rather than fully pass costs on to guests, taking only a modest 1% menu price increase heading into the fourth quarter.

That decision keeps traffic strong and loyalty intact, but it also means margins stay squeezed until commodity costs cooperate.

The company continues to expand from a position of strength, with a healthy pipeline of new company-owned restaurants planned this year, alongside an annual dividend of $3 per share for a 1.8% yield.

Analysts See Upside Potential

Analyst coverage on Texas Roadhouse is extensive but split, producing a consensus Moderate Buy rating.

Of the 23 analysts covering the stock, 11 have rated it a Buy, including one who has tagged it a Strong Buy, while 12 place the company at a Hold.

The highest price target is $235 per share, and the lowest is $175, still above where shares are currently trading.

Overall, the consensus price target of $209 implies an upside of roughly 25%.

That level would represent a significant recovery for a stock that has climbed dramatically three times this year, only to fall back each time.

To date, Texas Roadhouse shares are nearly flat since the start of the year and are up about 5% over the past 12 months.

Cattle Supply Keeps Beef Costs a Key Risk

The most important risk facing Texas Roadhouse these days is one the company cannot control.

The U.S. cattle herd sits near multi-decade lows after years of drought, and beef is by far the company's largest input cost. A New World screwworm scare in cattle herds this past June was a reminder of how quickly that supply picture can worsen. If beef inflation increases, earnings estimates could fall no matter how many diners show up.

Valuation is the second concern. Paying a rich multiple of nearly 27x trailing earnings for a company whose earnings per share declined over the past year is not the profile most investors associate with a bargain.

The growth engine is also less diversified than it looks. The company's smaller Bubba's 33 concept posted only modest comparable sales growth in the quarter, a reminder that Texas Roadhouse itself is still doing almost all the heavy lifting.

The stock is also prone to swings tied to the broader casual-dining group rather than its own fundamentals. The company already fights for market share against aggressive competitors such as Darden Restaurants NYSE: DRI, which owns LongHorn Steakhouse and Ruth’s Chris Steak House, Bloomin' Brands NASDAQ: BLMN and its Outback Steakhouse, and Chili's Grill & Bar, owned by Brinker International NYSE: EAT.

Strong Operations Support the Outlook

Despite recent sentiment, Texas Roadhouse is a notably well-run operator with a genuine consumer franchise without any apparent demand problem. It seems the problem is the cost of the product it sells, and that problem may prove cyclical rather than permanent.

Interested investors are likely to approach this stock with the understanding that beef costs typically normalize over time. If cattle supply recovers over the next couple of years, this record-setting operator might be well-positioned to recapture margins.