Having processed the Q4 and FY 2005 results for Red Robin Gourmet Burgers (NASDAQ:RRGB), I keep returning to one simple observation: This stock looks cheap. Of course, context is everything, and it's important to consider the events leading up to Red Robin's current valuation.

Last August, the casual dining chain saw the sudden departure of CEO Mike Snyder and CFO James McCloskey, after it was disclosed that Snyder had been using company funds for some of his personal expenses. The stock subsequently dropped 25% in one day. Snyder announced that he would reimburse the company for the expenses. However, any unexpected change in management is unsettling. Investors' fears of an SEC intervention were also warranted; a formal investigation was announced earlier this month.

Another blow came just last month, when the company lowered guidance for Q4 and FY 2005 sales, same-store sales, and earnings. The reason given for the poor estimates was that the models used to calculate guidance did not take into account the higher percentage of company-owned restaurants opened in the fourth quarter in new markets and what the company calls "greenfield markets" -- areas where shopping centers are not fully developed. In general, these stores generate smaller sales than stores opened in established markets. While most restaurants' new stores enjoy large "honeymoon" sales in their first few months of operation, Red Robin stores show the reverse; most actually take around three years to meet the company's performance expectations.

The report released yesterday showed that results were not as bad as anticipated. Diluted EPS came in at $0.33, beating the high end of the revised estimates by a penny. This was still $0.07 below the low end of the original guidance, and a penny below year-ago earnings. Besides the lower-than-anticipated new-store revenues, higher labor and restaurant operating costs ate into restaurant-level profit margins.

The earnings make 2005 look like a bad year on the surface, but none of the many negatives that were piled on in a short period of time seem to have affected one of the more critical factors for a restaurant's success: customer satisfaction. Revenues increased 19.4% for the quarter and 20.5% for the year, and same-store sales were driven more by customer counts than the implemented menu price increase. The concept itself is working well, and the restaurants should be able to find success in any part of the country. With more than 300 stores, Red Robin has plenty of new markets for expansion.

While free cash flow is often preferred by Fools over earnings, a restaurant in its high-growth phase will have large capex expenses from building new restaurants, creating negative free cash flow. That leads us back to the P/E ratio; as I write, Red Robin's stands at 23.8. That's extremely low for a restaurant that will most likely realize 20% annual growth for at least the next five years -- and probably much more. A restaurant early in its growth phase generally sells for a P/E over 30. The current low value represents many investors' fears that something is significantly wrong with the company. I just don't see it. And if I'm right, there's a long way up from here.

If revenues continue to increase 20%, we can hope that earnings will start to follow suit in 2007 and beyond. Taking the low end of FY 2006 guidance for diluted EPS of $1.72, and applying the 20% growth rate for the following four years, calculations indicate that the company will be earning $3.57 at the end of 2010. At a P/E of 30, the stock would be trading at $107 per share; that's a two-and-a-half-bagger in five years. This is an optimistic scenario, and the company's current problems could run much deeper than what we've seen so far. Nonetheless, there's a good chance that this bird just might take flight once more.

Pile on the further Foolishness:

Fool contributor John Bluis held no financial position in Red Robin at the time of publication.