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Labor Costs Burn Texas Roadhouse

By Dan Caplinger – Apr 29, 2019 at 12:47PM

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The steakhouse chain still sees a promising future ahead in the long run.

At first glance, it might seem Texas Roadhouse (TXRH -0.18%) would get a lot of benefit from a strong employment picture in the U.S. labor market. When its customer base has more disposable income to afford eating out, the steakhouse chain does get a boost from low unemployment. Yet Texas Roadhouse also has to find qualified workers of its own, and the rising cost of finding good help has increasingly been a headwind for the restaurant company.

Coming into Monday's first-quarter financial report, Texas Roadhouse investors wanted the company to see double-digit percentage sales gains as well as decent bottom-line performance. Instead, the steakhouse chain suffered a drop in net income, showing the rising impact of labor costs on its financial success.

Texas Roadhouse location at night with snow.

Image source: Texas Roadhouse.

Texas Roadhouse gets charred

Texas Roadhouse's first-quarter results didn't leave a good taste in shareholders' mouths. Sales climbed 10% to $690.6 million, but that was a bit below the roughly $694 million consensus forecast among those watching the restaurant chain. Net income dropped 8% to $50.4 million, however, and that produced earnings of $0.70 per share, far below the $0.83 per share that most investors were looking to see.

Most of Texas Roadhouse's top-line fundamental metrics seemed good. Comparable restaurant sales were up 5.2% from the year-earlier period at its company-owned locations, with franchise restaurant comps rising 4.3%. Both figures were slightly lower than how Texas Roadhouse performed last quarter, but the deceleration wasn't very significant.

The pace of expansion at Texas Roadhouse slowed, however. The company opened just four corporate-owned restaurants and added two franchises internationally.

Most alarming was the deterioration in Texas Roadhouse's restaurant margin figures. The key metric dropped more than a percentage point and a quarter to 17.9%. The company said that labor cost inflation was responsible for nearly the entire hit to its margin. As a consequence, operating income sank 7%, most of which carried through to the steakhouse chain's profit.

Corporate president Scott Colosi took the reins to explain the challenges that Texas Roadhouse faced. "Despite our ongoing sales strength," Colosi said, "our profits continue to be pressured by higher labor costs. Much of the labor increase was driven by wage rate and other labor inflation that currently does not show signs of abating."

Can Texas Roadhouse recover?

Texas Roadhouse still thinks it can emerge stronger than ever in the long run. As CEO Kent Taylor pointed out, "managing our business with a long-term view ... along with the strength of our operations and our legendary brand, well positions our business for long-term sales and profit growth."

Yet signs of sluggishness in the current quarter were a bit troubling. In the first four weeks of the second quarter, company restaurants saw comparable sales growth of just 2.9%.

Texas Roadhouse responded to the challenging conditions by boosting its projections on labor cost increases for the year, now expecting hikes in the 7% to 8% range. However, the restaurant operator still implemented its planned 1.5% menu price increase at the beginning of the second quarter, and that should keep comps positive throughout the year and allow for its planned slate of 25 to 30 new restaurant locations to push Texas Roadhouse's overall revenue higher.

Texas Roadhouse investors weren't happy with the earnings shortfall, and the stock dropped 8% in after-hours trading following the announcement. Without any end in sight to the pressures on labor costs, it could require cost-cutting efforts elsewhere for Texas Roadhouse to make sure that this quarter's drop in net income won't repeat itself in the quarters to come.

Dan Caplinger has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Texas Roadhouse. The Motley Fool has a disclosure policy.

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