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Notable Cotton Development

Here’s a great cotton overview by Andrew Barber. It smells bad from an apparel standpoint (the trend, not the analysis!). India, which accounts for 15-20% of global cotton production, also has the lowest yield of any cotton-producing country. With 60% of the population (more than 2x the entire US population) tied directly to agriculture, and with social unrest building meaningfully in 2008 to a point that almost cost Singh the election, he needs to appease the masses. As such, he backstopped the cotton farmers with a 48% price increase vs last – despite the fact that India’s prices are already 15% above the global market price. The massive Indian textile industry is bracing itself as it has already felt the pushback from China and other major partners before this increase. I still think that the worst has yet to come from input cost pressure in this industry – nevermind the strengthening dollar. I sound like a broken record, I know, but next year’s estimates are still too high. I continue to like RL, FL, LIZ, TBL, KSWS, PSS and ZQK. I don’t like GES, WRC, SKX, GIL, DKS, PVH, and VFC.

Brian McGough

Last week the Indian Government increased price guarantees for cotton farmers by up to 48% over last season, creating a back-stop price of 3,000 INR per bale of long staple and 2,500 INR of medium Staple via the federally controlled Cotton Corp. of India. Cotton prices have already been under pressure as total hectares planted for this season declined 2% from last year as farmers shifted to food staples such as rice to capture skyrocketing prices. Critics are charging that this increase will raise domestic prices for cotton above the current global average.

A question of Yield: Manmohan Singh’s populist socialist government is obliged to provide this level of price protection to the nation’s 4.5 Million cotton farmers to maintain political support among the rural poor. For India’s farmers, every rupee counts: although improved technology (most notably the introduction of Monsanto Bt seeds) and irrigation have helped increase crop yields from 300kg per hectare five years ago to 560kg last year, Indian yields still lag every other major global producer significantly. Put plainly, Indian farmers realize smaller returns for their labor than their competitors abroad. In a socialist nation were 60% of the population is employed in agriculture that creates pressure for the government to intervene, particularly an administration that has barely survived a recent parliamentary vote.

Exports: India is the second largest producer of Cotton on earth but, thanks to its huge textile industry they remain a less significant player in the global export market than smaller producers such as the US and Brazil. Not surprisingly the biggest buyer for Indian Cotton exports is China, and rising prices and lower yields have already been felt by buyers there.

Textiles: The price increase raised howls of protest from textile industry groups. P.D. Patodia, chairman of the Confederation of Indian Textile Industry, was quoted in the Indian media on Thursday saying “It has come as a rude shock to the industry in the throes of a crisis; domestic prices are already 15% higher than international prices. This would trigger another price spiral which the industry will not be able to afford."

The textile industry argument is, basically, that the slowing trajectory of textile sales growth for Indian mills has been more than offset by increasing Chinese demand for raw cotton and that increasing the domestic price of fiber now will put Indian textile and apparel manufacturers at a grave disadvantage with competitors for their two key markets, the US –which has already provided preferential status to Central American producers, and Europe.

Andrew Barber

Unpack Your Bags

Yes, a stronger dollar hurts translation of foreign denominated profits. That’s a no-brainer to quantify. But what about the impact of weaker spending in tourist markets as the US becomes a more costly destination market for foreigners? We’re pulling out the big guns to nail down which retailers are most exposed. There are so many different angles to explore here that it will take many more hours of research to drill down all of the answers to the key questions. I’ll post ‘em as my team and I answer them.

Our analysis looks at every apparel and footwear retailer in the US – public and private – with more than 5 stores. We look at the exact lat/long for every single store, and gauge tourist exposure. We defined “tourist cities” based on the top 10 most visited cities by international tourist as defined by the Office of Travel and Tourism Industries.

Why include private companies? Because last I checked, many brands that are public sell goods in private retailers. Goody’s was private. So was Boscov’s. Get the picture?
Some notable call outs…
1. The top 7 companies are private – ouch!
2. Quiksilver and Tiffany at 44%.
3. Burberry (39%) and Hugo Boss (45%)
4. Adidas at 27% has 3x Nike’s direct exposure.
5. Ralph Lauren very notable at 37%.
6. Modell’s (important Nike, Adi, UA customer) at 30%.
7. Levi’s 28% (a desperate Levi’s puts pressure on VFC).
8. DSW – a company I think is terminal – is over 20%.
9. Coach surprisingly low at 18%.
10. Guess at only 24%, despite management’s comment that 80% of North American retail stores are in travel markets. This brings up the next factor for us to slice and dice. The difference in sales productivity for these stores versus non-travel market stores. We need to strip out outlets and look at the top producing stores only. Coach, for example, has only 18% of stores in tourist markets. But 12% of its sales come from its NYC Flagship store. The bottom line is that the percentages you see in the table below might understate the real revenue exposure.
The font is impossible to read, I know. Please click the chart for an enlarged version. For the data feed, email me.

Middle Class Piggy Banks: Home Prices and Savings Charts Inflecting...

Below, we have overlaid the Case Shiller Home Price Index with the US Personal Savings Rate. As I have said many times before, we are aware of the imperfections of the savings rate calculation, but that's not the point. The point is always what happens on the margin. Rates of change is what I care about.

The US Personal Savings Rate went to 12% in the 1970's. Going from zero to half way there will be the first move, but all of the facts concerning access/cost of capital tell me we could quite conceivably see double digits again.


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Eye On Social Unrest ...

South African CPI data released last week hit a record +13%, spurred on by rising energy and food costs. Bracketed by annual household expenditure, the numbers are even more grim. The more than 22 million people (50% of the population) living below the poverty line faced year-over-year inflation of well over 15% last month.

2008 has been difficult for South African industry as the hopelessly overstretched power grid has subjected factories and mines to blackouts repeatedly, causing foreign investors to cool on new projects. For a nation with an unemployment rate in excess of 20%, this is very, very bad news.

As the South African Rand depreciates versus the US Dollar, and domestic cost of living climbs for the residents of Sub Saharan Africa’s largest economy, so too does the risk of more ugly civil unrest like the riots this spring.

Its global this time, indeed.

Andrew Barber

TSN and PPC: Stay Short The Chickens

We recently spoke with the "Chicken Man", David Harvey, who oversees the poultry data at the National Agricultural Statistics Service, who said that the total number of chickens currently slaughtered on average in the United States equals approximately one million birds an hour. "That’s one million every hour, day and night, every day of the year”...

Andrew Barber has charted US chicken production as a percentage of the total estimated US population since the US Depression as well as the per capita estimates that Dave and his team prepared (see charts below).

Tops are processes, not points. This top in per cap chicken consumption is a pending tsunami for TSN and PPC, who we continue to be negative on. While I covered our TSN short position on a big down move on Thursday, look for me to re-short it on strength. For PPC, which I re-shorted on strength on Friday, I'm looking for $10.01 next (26% lower from Friday’s close). There are some big concentrated holders on the PPC shareholder list that may not see the fundamentals here that we do. That’s what makes a market, so we’re looking forward to the debate. Concentration on a holders list like this is a massive liability when company fundamentals begin to structurally unwind. If you own Pilgrim’s Pride (PPC) today, you must think it’s cheap and washed out. We think you think it’s cheap because you are using the wrong numbers.

See charts, courtesy of Stockcharts.com, below. Our restaurant/food/beverage Partner, Howard Penney, remains negative on the chicken processors. See his Research Edge Portal for more.


Similar to most consumer industries, these are indeed trying times for the casino sector. To get a better handle on their response to what I believe is the most important long term issue facing the industry, I emailed executives at all the major US casino companies. My question appears in the picture below right. One answer was completely worthy of publishing, which I have done, without edit, below. Complements to Bill Clifford, CFO of PENN, for his thoughtful response. Here you go:

  • "We believe the cost of capital has risen largely because the capital markets weren’t strict enough in evaluating the ability of borrowers to repay their loans. Lately, the capital markets and lenders have refocused on appropriate criteria with reluctance to grant cheap capital to over leveraged organizations or those with projects that, upon fuller analysis, don’t provide a very clear ability to generate adequate returns. Declining returns on investment in the gaming sector were caused in my opinion by granting capital based on a combination of very low base interest rates and virtually no credit risk premiums. These factors, when combined with competitive pressure to build the most and the best product, resulted in operators both initiating projects that were too costly to start and then going over budget (given the access to almost unlimited capital).

    It is my expectation that the capital markets will stabilize in the next year for everyone who has leverage below 4 to 5 times EBITDA which means that Sr. Debt will be available at Libor plus 300-400 basis points and sub debt will be available at 8 to 9 percent. Since gaming companies have historically traded at levels where they can be purchased by strategic buyers or private equity then it is possible that current gaming stock valuations have room to drop further. This is based on the concept that from a strategic perspective the transaction has to be free cash flow positive and the private equity expected returns on its equity has to be 20% (since they can get those levels on highly leveraged gaming credits today). All of the above is predicated on stabilized EBITDA and in the current environment, with most organizations experiencing declining profits, it is even more difficult to justify the valuations of most gaming companies today.

    Unlike many or most of our peers, Penn has the benefit of having a tremendous amount of flexibility with significant capital available to us and we need to be patient on two levels. Equity market investors will take time to adjust to the new debt markets era and the fact that many gaming companies are going to experience higher cost of debt as their current low interest rate borrowings come closer to maturing. At Penn, we are focused on ensuring that regardless of what we purchase that the company maintains a strong balance sheet and those acquisitions or new projects will make sense consistent with our views on future stabilized borrowing costs. In my opinion it will take time but there are going to be some incredibly discounted gaming assets available over the next 12 to 24 months. As we’ve said before, we stand ready to be very opportunistic in this environment which we believe will enable us to do very well for our shareholders."


Hopefully, gaming executives are "thinking" about The Question

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