It’s pretty easy to see why I like the PENN story. CFO Bill Clifford and I share a similar view of the industry’s prospects. In my post on Sunday, I published Mr. Clifford’s response to The Question. His answer appropriately addressed the issues of falling ROIs and rising costs of capital. Mr. Clifford also opined that asset and casino valuations were still inflated. PENN certainly maintains a vested interest in seeing asset values fall. After all, they are the only buyer of assets/companies in the gaming sector. However, Mr. Clifford’s analysis that views valuation through the perspective of a potential private equity/strategic acquirer is spot on in my opinion. Cost of capital and required rates of return are now much higher and EBITDA remains unstable.

A very telling statement in the response relates to timing. If he believes “there are going to be some incredibly discounted gaming assets available over the next 12 to 24 months” then patience is truly a valuable virtue. PENN’s excess liquidity is certainly not burning a hole in their pockets like it was for most gaming companies over the past several years. What that says about the investment prospects in the rest of the sector is another question altogether. Pair trade anyone?
Not burning a hole in PENN's pocket


We at Research Edge appreciate transparency and honesty so we couldn’t help but comment on the recent statement by the UK’s Minister for Tourism, Margaret Hodge. “I agree that hotels are expensive and I worry about the quality.” Ouch. Not exactly “What happens in Las Vegas, stays in Las Vegas” is it? I don’t disagree with either of her potentially damaging assertions, particularly the part about expensive.

What is really disconcerting is the macro. The macro drives demand in the hotel business. We do macro here at The Edge so we do have an opinion. Our opinion on global macro is not favorable. In fact, it is quite negative. Ms. Hodge can backpedal all she wants, but with so many macro global negatives, London and the UK will soon be in a “world of hurt” to quote our newest Vice Presidential candidate. I’ve outlined a few of our concerns below.

Unfortunately, continental Europe will face the same hurdles as the UK, but we have to start somewhere and the UK looks like one of the major sick men of Europe. The second chart provides profit exposure by companies with US listings to Europe. With the exception of MAR, all the hotel companies listed maintain material exposure to Europe, especially OEH. As I’ve opined in the recent past, estimates need to come down significantly based on US RevPAR and margins alone. When Europe starts to capitulate, the cut will be exacerbated and expedited.

  • Global economies slowing: As Keith McCullough has written extensively about, we are in the midst of a global economic slowdown. Tourism and travel will not fare well in this environment. While the recent rise in the dollar could attract some US visitation to London, the US consumer is pinched.

  • UK economy: flat GDP could go negative.

  • Inflation: While UK PPI down ticked in August, it is still up 10% YoY. Consumer inflation jumped 0.6% in July, an unprecedented increase. In addition to the inflation impact on the consumer, rising costs will eat into margins at the same time RevPAR growth is slowing.

  • Hotel asset values falling: We can guess at asset values but the transaction market is dead. Can’t mark to market without a market. Marylebone Warwick Balfour (MWB) is attempting to sell hotel chains Malmaison and Hotel du Vin for the third time in 18 months after knocking £50m off the previous asking price of £700m for the two chains. My industry sources in London are not expecting a decent price to be advanced. Robert Milburn at Pricewaterhouse Cooper‘s forecasts a correction of 10-20% before sales are made but even this prediction look conservative.

  • RevPAR comps get very tough: Summer events boosted recent RevPAR. As can be seen in the chart, comps get very difficult beginning in August. It won’t be long before RevPAR goes negative, possibly as soon as October.

  • Airfare going higher as capacity is reduced

  • UK housing market potentially worse than in US

Comps get awfully difficult
OEH and HOT maintain the most exposure to the sick men of Europe

Challenging My View On Margins

Trough to peak apparel margins more than doubled from 6% in 2Q01 to 13.2% in 3Q06. Impressive run indeed – almost as impressive as the six-point collapse to 7.1% over the ensuing 7 quarters.

When I objectively look at the chart below, I have to ask myself whether the industry has officially round-tripped it, and margins have bottomed. As much as I want to believe this to be true, I can’t bring myself to believe that the late 1990s serve as an appropriate proxy for what real margins in this industry should be. My long standing math suggests that after adding the $3-$5bn in annual sourcing savings as well as the favorable impact of the weakening dollar, real margins were actually down over the past 4 years.

We still have not seen a) the full impact of the raw material cost hit that will happen starting in holiday, b) FX benefit that will turn the other way and eat into the supply chain’s margin kitty, and c) the additional names likely to be added to the bankruptcy honor roll.

I truly think we’re getting to the bottom for some names, but the industry still needs a healthy session of blood-letting. On top of all that, expectations still call for up margins in ’09. Not gonna happen…Favorites remain KSWS, LIZ, RL, FL, TBL, PSS and ZQK. I don’t like GES, WRC, SKX, GIL, DKS, PVH, and VFC.


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Lehman (LEH): No Government Bailout For Fuld...

With Paulson tying the US government's balance sheet up with the GSE's and a dance with the FDIC pending, investors are wondering when, where, or if there is capacity on the balance sheet to deal with another investment bank’s issues... LEH closed down -13% today on more than 2x average daily volume (using the last 10 days of trading as the avg). Someone knows something.
  • LEH's short term downside support now rests at $12.65
chart courtesy of

Eye On Puting Power...

(CNN) -- "Russian ships will make a port of call in Venezuela later this year, and the two nations could hold joint naval exercises for the first time, both sides said"

  • link to story:

    Andrew Barber

China: The Chart People May Have Missed This Morning...

The Shanghai Composite Index didn't care much about the US government's latest bailout scheme. Chinese stocks lost another -2.7% overnight, taking the index to fresh lows at 2143.

Chinese growth is slowing, and the locals know it. Don't forget that post Japan's Olympics in 1964, their annual GDP growth dropped from +13% y/y to 5%.
  • China's Stock Market has lost 64.8% of it's value since the October "It's Global This Time" high.
(Chart courtesy of

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