DRI - Darden: Locking In Rapid-Return Gains Stock Fairly Valued

2023-12-15 14:20:02 ET

Summary

• We are closing a previously publicly shared trade on Darden Restaurants stock with nearly 20% gains, capturing the low perfectly and hitting our exit right on cue.
• Darden saw growth in sales and comparable sales in fiscal Q2 2024, with Olive Garden and LongHorn Steakhouse performing well.
• Darden's valuation is fair, and it offers a 3.2% dividend yield, making it a good hold for a house position with your trading gains. The company also increased its EPS guidance.

Darden Restaurants, Inc. ( DRI ) is a stock for which we previously outlined a rather successful trade back in the spring, and then outlined another trade in late September. Here is how we suggested you play in DRI stock in that column:

The play

• Target entry 1: $145.00-$146.00 (30% of position)
• Target entry 2: $139.00-$140.00 (33% of position)
• Target entry 3: $134.50-$135.00 (37% of position)
• Target exit: $160+
• Stop loss: $117
• Estimated profit: ~20%
• Options consideration: We like a call buying strategy targeting at the money strikes about 2 quarters months out

Note from the author: This type of trade is what we lay out for our members week to week. As a matter of policy, suggestions on exact strikes and entry exit strategies, where applicable, is reserved for the investing group membership.

So with that said, the trade is closed out now, and we perfectly caught the bottom with our third leg. Having hit our target exit of $160, this trade netted nearly 20% gains depending on where you bought and exited the position. We are now moving to the sidelines after this run, with a hold rating here.

To be a successful trader, you need to take your gains when you have them. While buy and hold does work for many high-quality names in the long term, savvy investors know they can magnify their returns by trading around positions and feeding those gains to long-term positions. With the massive run in the market, we think we are likely to get a breather. One suggestion is to move trading gains into a house position long term, collecting all future growth, dividends, spin-offs, etc. It is a strong way to build wealth. In this column, we close out the trade and discuss just-reported fiscal Q2 earnings .

Darden sales and comps rise

Comparable sales are a key metric we watch for restaurants. In fiscal Q2 2024, Darden saw growth in sales versus the prior year. The total top-line sales figure jumped 9.7% to $2.7 billion, which surpassed consensus estimates. What about the comparable sales figure? Comparable sales for the entire company were up 2.8%. This is positive, but not explosive growth. Still, it justifies some of the recent rally higher. Let's look at each segment.

The same-store sales figure for the Olive Garden chain were up 4.1%, very strong. The highest same-store sales increases were in the LongHorn Steakhouse banner, with comps rising 4.9%. However, the fine dining part of the business (such as Ruth's Chris steakhouse, Season 52, etc.), saw a 1.7% decline. Do note, however, that Ruth's Chris will not contribute to same-store sales until being operated for 16 months, so that needs to be pointed out. However, new locations are opening. We saw the addition of 78 company-owned Ruth's Chris Steak House restaurants and 45 other net new restaurants under other banners.

Segment profit was strong. Olive Garden saw a profit of $262.5 million vs. $218.9 million last year. The LongHorn Steakhouse banner had a segment profit of $111.8 million, rising from $85.6 million a year ago. Fine dining profit also rose to nearly $56.6 million, up from $38.9 million a year ago, while the so-called other business banners saw a $7.5 million increase to $66.5 million year-over-year. This was a decent quarter, and the company has successfully battled rising food and labor costs. Management used menu pricing to offset a lot of this, however, but volumes have remained robust and strong. Looking at all revenue and operating expenses, Darden reported adjusted EPS of $1.84, surpassing estimates and rose 21% from last year.

Darden Restaurants' valuation fair, yield 3.2% on the dividend

With this morning's dividend announcement of $1.31 per share for the quarter, the stock now provides a 3.2% yield . We do expect dividend increases in the future, and while the yield is below cash and bonds right now, it is a nice bonus right now. Darden is also repurchasing shares, with the company retiring $181 million worth of shares in the quarter. With the spike in shares, the valuation is pretty fair in exchange for the growth here, in our opinion. As such, we think it is a fine hold. Shares are now pushing 19X FWD earnings, about in line with the market. In short, it is no longer undervalued in our opinion.

Forward look

As we look ahead, this fiscal Q2 performance led to a slight increase in the outlook. Previously, we were forecasting about $8.75 in fiscal year EPS at the midpoint. Well, Darden Restaurants, Inc. upped its guidance to $8.75-$8.90 in EPS on the back of strong first-half earnings. There may be a bit more room to run here, but we think it is more than appropriate to lock in the gains, and then hold onto a house position.

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