Darden Restaurants (NYSE: DRI) operational quality drove solid business in Q3, setting the stock up to continue its uptrend. Today's opportunity is that results were largely aligned with expectations and provided no catalyst for the market. The result is a downward movement within an up-trending channel that will result in another solid buy signal soon. Takeaways from the report are growth, leverage, cash flow and capital returns, which all support the valuation. 

Considering Darden’s industry-leading results, the 18X earnings valuation is light and plays into the opportunity. Best-in-breed Texas Roadhouse (NASDAQ: TXRH) trades at a 50% premium to Darden, which is rapidly improving its business. This suggests that a price-multiple expansion is also in play.

Darden Restaurants Grows and Widens Margins

The only thing wrong with Darden’s results is that Q3 aligned with the consensus forecast, and the guidance is light. Other than that, revenue and earnings are growing, and the guidance forecasts more of the same. The company brought in $3 billion in Q3, up nearly 7% compared to last year. 

The top line missed consensus, but by a slim 100 basis points, offset by the wider margin. Segmentally, comps are down in most segments and offset by 2.3% growth at Long Horn Steakhouse, aided by the addition of seventy-nine company-owned Ruth’s Chris Steakhouse and 53 net-new other stores. 

The margin news is good. The company widened the margin in most operating segments, and the one that didn’t, Olive Garden, maintained a relatively flat margin with a better-than-expected net result. The bottom line of $2.62 in adjusted earnings excludes $0.02 in Ruth’s Chris acquisition costs and is up 12% compared to the top-line 6.8%. 

Guidance is the weakest portion of the report, and still not bad. The company guided full-year results to $11.4 billion in net sales compared to the $12.14 consensus figure, weak compared to consensus but up 8.6% YOY. The earnings outlook is the same; it is short of consensus but forecasts YOY growth. The salient detail is that earnings are sufficient to sustain the robust capital return outlook. 

Darden Restaurants Increases Capital Returns and Can Sustain It

Darden Restaurants pays an attractive dividend yielding 3.0% with shares near $165. That’s double the payout for highly-valued Texas Roadhouse, and it is a reliable payout. The distribution is less than 20% of the earnings guidance, and the balance sheet is a fortress, so there are no red flags for investors. Cash flow and balance sheet health also allow for share repurchases. 

The company repurchased $33 million in Q3, bringing the average share count down 1.7% quarterly and YTD, with additional reductions expected in the current quarter and next fiscal year. The board approved a new authorization worth $1 billion or 5% of the discounted stock price with no expiration to the plan. 

Darden Restaurants Is Trending Upward, A Buy Signal is Imminent

The analyst's activity suggests Darden stock is fairly valued near current levels. The post-release activity includes several price target reductions that have capped the high-end but continue to increase the consensus. The three revisions tracked by Marketbeat.com have the market trading in the range of $180 to $182 compared to the consensus of $180, which is 10% above the current action and aligns with the top of the channel. The takeaway is that Darden may fall today, but the uptrend is intact, and a buying signal should come soon.

Critical support is near the 150-day EMA. That target aligns with the analysts' lowest target and may provide a floor for the action. If so, DRI shares could begin to rebound within weeks, and the all-time high could be retested before summer. If not, this stock could fall to more solid support levels near the lower end of the channel before rebounding.