The investing community will often tell you that a few savvy long-term investments can meaningfully change your financial situation for the better. This is because when great businesses are given enough time to grow, the law of compound interest plays out in your favor.
Take, for example, the restaurant company Texas Roadhouse (TXRH -0.37%). An investment of $10,000 made in the stock 10 years ago would be valued at $54,000 (with dividends reinvested) today. This result far outperforms the $33,000 10-year gain of a similar investment in the S&P 500 index (with dividends reinvested).
But past performance is no guarantee of future performance. So should potential new investors seeking strong dividend growth and capital appreciation add the stock to their portfolios? Let's delve into Texas Roadhouse's fundamentals and valuation to see if an answer presents itself.
Texas Roadhouse: A company with immense growth potential
Since its founding 30 years ago, Texas Roadhouse has managed to establish itself as the largest steakhouse chain in the United States. The Louisville, Kentucky-based company's system-wide restaurant count now tops 700 and is spread across 49 U.S. states and 10 international markets (as of June 27). Texas Roadhouse's restaurant footprint across brands such as the eponymous Texas Roadhouse, Jaggers, and Bubba's 33 are what supports its $7.5 billion market capitalization.
| Metric | Q2 2022 | Q2 2023 |
|---|---|---|
| Comparable-sales growth rate | 7.6% | 9.1% |
| Total restaurant count | 678 | 709 |
| Net margin | 7.1% | 7% |
Data source: Texas Roadhouse.
Texas Roadhouse's total revenue grew by 14.3% over the year-ago period to $1.2 billion for the fiscal second quarter (ended June 27). The company's trifecta of quality guest service, solid value, and made-from-scratch food continued to attract guests during the quarter. This explains how Texas Roadhouse's restaurant traffic rose by 4.7% year over year in the quarter. Coupled with menu price bumps that helped the average check rise by 4.4% over the year-ago period for the quarter, this is how the company's comparable restaurant sales compounded at a high-single-digit rate. Texas Roadhouse's uptick in its total restaurant count contributed to the remainder of its top-line growth during the quarter.
The company's diluted earnings per share (EPS) climbed higher by 14.7% year over year to $1.22 in the fiscal second quarter. Texas Roadhouse's expanding restaurant count and elevated inflation resulted in a 14.6% growth rate in its total costs and expenses for the quarter, which pressured its net margin. But this reduction in profitability was more than offset by a 1% decline in the company's diluted share count via share buybacks during the quarter. That is why diluted EPS growth came in ahead of total revenue growth in the quarter.
Texas Roadhouse's future looks to be just as promising as the results that it posted in its fiscal second quarter. For one, the company closed just one restaurant so far through the first six months of 2023. This suggests that Texas Roadhouse is opening new locations in communities where there is high demand for its restaurants. Along with its ability to hike prices and repurchase shares, that's why analysts think the company's diluted EPS will increase by 18.5% annually over the next five years. For context, that is better than the restaurant industry's average annual earnings growth forecast of 14.9%.
Image source: Getty Images.
Dividend growth is heating up
Texas Roadhouse's 2% dividend yield is moderately enticing when put up against the S&P 500 index's 1.5% yield. And with its quarterly dividend per share having skyrocketed by over 350% in the past 10 years, the company seems to offer a tasty mix of both starting income and growth potential.
Considering that Texas Roadhouse's dividend payout ratio is positioned to clock in at approximately 47% in 2023, payout growth should have no problem continuing. This strikes an ideal balance between targeting future growth opportunities and rewarding shareholders. That's why I wouldn't be surprised to see more dividend hikes in the neighborhood of 20% -- like its most recent one -- in the years ahead.
The stock is a convincing buy
Recognizing its robust fundamentals, the market is warming up to Texas Roadhouse's stock, and its share prices have soared nearly 22% so far in 2023. Such a tremendous rally would probably lead some investors to question whether the stock remains a buy. Texas Roadhouse's forward price-to-earnings (P/E) ratio of 20.2 is still a deep value relative to the restaurant industry average forward P/E ratio of 24.6. Thus, the stock's above-average growth profile and below-average valuation make it an interesting pick for dividend growth-focused investors.
