R3: TGT, JCG, Li Ning, Jimmy Choo


January 19, 2010





  • Just a day after we noted Kenneth Cole’s flagship store in Rockefeller Center may become a hot property, Michael Kors appears to have stepped up.  Word has it that Kors’ expansion efforts will make their way to 5th Avenue with a lease spanning 10 years.  Kors also recently opened a Bleecker St. boutique and is said to be exploring Meatpacking district locations as well.
  • Gallup reports that 19% of Americans are satisfied with the way things are going in the US at this time, just slightly above the lowest level of the past 12 months, 17% reported for December 2010.
  • Keep an eye on your online bank statement, for discounts.  A handful of retailers and restaurants are experimenting with new marketing technology which allows targeted ads to be inserted into consumers’ online statements.  So for example, if you bought a Big Mac with a debit or credit card, you may see a 10% off coupon show up on your next bill.  Interestingly, the technology allows for the discount to be automatically tied to the consumers account, thus eliminating the need to print or “clip” the coupon.



Target Faces Legal Challenge Over Name - Will the real Target store please stand up? Target Corp., which is paying $1.8 billion to take over about 220 Zellers stores from the Hudson’s Bay Co. and convert them into Target stores by 2013, is facing a legal challenge to its name being used in Canada by a retailer of the same moniker. There are already two Target Apparel stores in Canada owned by Isaac Benitah of Toronto, who also runs Canadian chains Fairweather and International Clothiers and doesn’t want to give up the Target name. But Target Corp. has asked the Federal Court of Canada for an injunction to ban Benitah from using the Target name and signature logo. Benitah responded on Monday by asking the court for exclusive rights to the name and is demanding $250 million in damages from Minneapolis-based Target Corp. <WWD>

Hedgeye Retail’s Take: While we’re no legal experts, this one likely ends in a settlement of some sort.  Given that Target (US) is all about its brand, it would be hard to envision the company renaming itself in order to do biz in Canada.  Bottom line is Benitah is likely to be the big winner here.


J. Crew Extends Deadline for Rival Bids - J. Crew Group Inc. — which has a $3 billion takeover offer from TPG Capital and Leonard Green & Partners — on Tuesday agreed to accept rival bids until Feb. 15 to settle a shareholder lawsuit. The retailer’s November deal with TPG and Leonard Green initially allowed it to consider alternative proposals until this past Saturday. “Despite an active and extensive solicitation of potentially interested parties in connection with the ‘go-shop’ period since the announcement of the merger agreement, the company has not received any alternative acquisition proposals to date,” the retailer said. Sears Holdings Corp., Urban Outfitters Inc. and two private equity firms were reported to be considering offers, or at least taking the chance to look at the retailer’s books as part of their “due diligence.”<WWD>

Hedgeye Retail’s Take: At the 11th hour, it looks the rumor mill may re-accelerate with the lengthening of the “go-shop” period.  Hard to believe someone will step up now if they haven’t already, however. 


Carrefour Said to Be Linking With India's Future Group - Speculation in India is mounting that Carrefour is about to ink a deal with Future Group, one of India's largest retail conglomerates, to open more stores in the country. The French retail giant opened its first cash and carry store in New Delhi on December 30. The parties declined to comment directly on the possibility of a deal but both said that they are exploring new business opportunities and potential partnerships. <WWD>

Hedgeye Retail’s Take: Another move to tap into the world’s second most populous country while foreign direct investment still remains in limbo.  Wal-Mart isn’t far behind. 


Li Ning Ramps U.S. Investment - Li Ning will invest $10 million in its U.S. business this year and enter a joint-venture with Acquity Group LLC to expand U.S. distribution, Li Ning Chief Executive Zhang Zhiyong told the Wall Street Journal. The Chinese athletic apparel and footwear brand also plans to open warehouses this year to broaden its distribution as well as to hire 20 product developers in coming months to better meet the needs of the U.S. consumer. The goal is to  attain U.S. sales of $50 million this year, according to the report. The company said sales outside China accounted for 2% of revenue last year. Li Ning hasn't reported full-year figures but posted revenue of 4.5 billion yuan ($682.5 million) for the first half. Acquity, a Chicago-based brand-consulting firm whose clients include General Motors Co. and the American Airlines unit of AMR Corp., is designing an ad campaign for the Chinese athletic brand. The campaign, scheduled to launch in May with TV, print and online, wil be Li Ning's largest yet for the U.S. market. Li Ning in June unveiled a new logo and global slogan, "Make the Change." <Sportsonesource>

Hedgeye Retail’s Take: What has been a methodical and understated approach to entering the U.S. athletic footwear/apparel market over the last 2-years when the brand first established a foothold on American soil is about to get considerably more vocal. In addition to various running and basketball offerings, expect the company’s lightweight running shoe – the Freemont – to be a visible element of the campaign as the category takes off this Spring/Summer.


Jimmy Choo Men's line - Inspired by the stylish London man, Jimmy Choo’s debut men’s footwear collection features classic styles, with a dash of luxe and glamour. All the models — from Chelsea boots to loafers to the classic monk-strap shoe with English pewter buckle — are fully lined in leather; sneakers are fashioned from cashmere flannel; distressed biker boots have shearling on the inside, while the Wellington boots — a collaboration with Hunter — come embossed with a crocodile pattern. There is even a signature “P*rno Paisley” slipper, with silhouettes of undulating ladies, à la James Bond, and black lacquered soles. <WWD>

Hedgeye Retail’s Take: They’re back! After discontinuing its men’s line in 2002, only time will tell if Choo’s fiercely loyal following will translate to the male consumer the second time around. The line’s new “P*rno Paisley” slippers are likely to create a buzz at minimum.


Fraud Losses Fall - Fraud rates for online merchants in the United States and Canada remained steady at 0.9% in 2010 for the second straight year, says a report released today by CyberSource, a subsidiary of payment card network Visa. The fraud rate for online merchants in the United Kingdom, however, increased to 1.9% last year, up from 1.6% in 2009. CyberSource defines the fraud rate as the percentage of accepted orders that later turn out to be fraudulent. The vendor bases its findings on 334 survey responses from North American online retailers and 200 responses from web merchants in the United Kingdom. The surveys were conducted in September and October.<InternetRetailer>

Hedgeye Retail’s Take: The silver lining here is that fraud figures suggest the practice isn’t becoming more pervasive, however, with a significant portion of the American consumer still unwilling to buy products online for this very reason, this figure needs to shrink – not stabilize.


In-App Purchases Become Major Mobile Revenue Stream - With smartphones in the hands of more than 60 million Americans, according to eMarketer estimates, app stores are growing quickly and the application market continues to evolve as it approaches maturity. According to research from app store analytics provider Distimo, many app developers are changing how they monetize their creations. All major application stores are growing rapidly, with triple-digit increases across the board. Apple’s App Store, the best-established market, is moving slowest but still more than doubled in size between January and December 2010. For all app stores, growth in free apps outpaces that of the store as a whole. <eMarketer>

Hedgeye Retail’s Take: Growth figures well into the triple digits suggests this market is nowhere near maturity. Perhaps most notable is the lack of disparity between BlackBerry’s free vs. total apps reflecting the brands business user base.

R3: TGT, JCG, Li Ning, Jimmy Choo  - R3 1 19 11

Australian Consumer Confidence Falls to 7-Month Low on Queensland Flooding - Australian consumer confidence fell in January to a seven-month low on concern that flood damage in Queensland state will weaken the nation’s economy. The sentiment index dropped to 104.6, the lowest since June, from 111 in December, according to a Westpac Banking Corp. and Melbourne Institute survey of 1,200 consumers taken Jan. 10-16 and released today in Sydney. Outside the disaster area, perceptions about the national economy and personal finances were “adversely affected” by the deluge, it said. Reserve Bank of Australia Governor Glenn Stevens left the overnight cash rate target at 4.75 percent last month, after seven increases since October 2009, judging policy to be “mildly restrictive.” Higher borrowing costs helped slow third-quarter growth and savings have risen, even as energy and mining investments keep unemployment near 5 percent. <Bloomberg>

Hedgeye Retail’s Take: Catastrophic flooding unfortunately has a very long tail of damage and recovery associated with it. The ripple of deteriorating economic and consumer confidence is likely to be felt through much of 2011.








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News items and notable price moves over the last twenty-four hours

  • MCD added to the US focus list at Credit Suisse Rating is outperform - target is $87.
  • MCD McDonald's upgraded to outperform from sector perform at RBC Capital
  • SBUX is taking its mobile payments plan nationwide. The company started testing mobile payments in September 2009 and now it is expanding the program to 6,800 stores across the country and soon onto other devices.
  • SBUX rolled out new beverage size.  The “Trenta” size will contain 31 ounces and cost about 50 cents more than the 20-ounce Venti size, according to Starbucks.
  • SBUX employees at the Astor Place store in NYC have announced that they have formed a union.  The disgruntled employees cited a need to stand up for themselves as, “Starbucks will not act in our best interests”.
  • YUM to sell Long John Silver's and A&W restaurants
  • BAGL was raised to "Buy" from "Hold" at Stifel Nicolaus  - target is $18.00 per share
  • Despite disappointing casual dining numbers from Malcolm Knapp, casual dining companies traded declined modestly yesterday.



Howard Penney

Managing Director

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All great truths begin as blasphemies - George Bernard Shaw


This “Black Book” outlines the current state of McDonald’s operations with a particular focus on its U.S. business. The company’s shares have performed tremendously since the implementation of their “Plan to Win” initiative in 2004 and competitors have found it hard to match McDonald’s performance.  Furthermore, the company is healthy and generates impressive levels of cash for shareholders.  All good things come to an end, however, and I see significant hurdles for the U.S. business in 2011 that present an auspicious opportunity to be a seller of this stock. 


When McDonald’s was first embarking on its highly successful “Plan to Win,” the company set out on a comprehensive program designed to “optimize and simplify operations.”  This program included offering fewer sizes of drinks and fries, fewer Extra Value meals, more simplified pricing, and streamlined merchandising supported by intensive hospitality training of employees. 


For most of McDonald’s history, growth was driven by one thing: unit growth.  Until the late 1990s, that strategy worked.  When the company reached a saturation point, sustaining unit growth resulted in cannibalization, which caused same-store sales growth and margins to deteriorate steadily until the “Plan to Win” was announced.  As Jim Skinner once put it, "We had lost our focus. We had taken our eyes off the fries."


Companies churn out new “plans” ad nauseum, but in the case of McDonald’s in 2004, there was a clear need for management action.  In fact, operations had become so complicated that the average crew served one less customer every two hours between 2000 and 2004, which cost the company 135 basis points in company-operated margins.  Over the next six years, the company’s commitment to their “Plan to Win” yielded 600 basis points of restaurant-level margin expansion.  Accordingly, the stock price appreciated by ~160% by the end of 2010, or by 175% at its more recent December 2010 peak, from the implementation of the “Plan to Win” in November of 2004. 


Six years later, however, it appears that the lessons of the late 1990’s and early 2000’s have gradually been forgotten as a focus on driving same-store sales took precedence over all else.  The relentless focus on driving the top line has required the franchise system to invest significant capital in facilities and new equipment.  Further, from an operational standpoint, this approach has resulted in a burgeoning menu as item after item is rolled out, thereby complicating back-of-the-house operations and gradually offsetting much of the progress made in that regard by the “Plan-to-Win”.


As a specific example, McDonald’s rolled out the Southern-style chicken sandwich in 2008 with much fanfare and the goal of taking share from Chic-fil-A.  The rest is history; the product failed to deliver.  This episode smacks of the McDonald’s of old: launch new products, withdraw marketing support when the product doesn’t deliver but keep them on the menu.  The clear result is a complication of the menu and an inefficient back-of-house process. 


The “Plan-to-Win” mantra has always been "better, not just bigger.”  Instead of building more restaurants, McDonald's increased profitability by squeezing more from its existing store base and from its franchisees.  As a side point, the company loves to talk about the increased “cash flow” of its franchise base, but the more salient metric from a franchisee’s perspective is the “net” cash flow after servicing debt incurred to finance remodels and initiatives.


Over the past three years, however, the mantra has seemingly become “beverages, not burgers.”  As the company has shifted its focus away from its core business, that segment of the business has inevitably suffered.  Over time, the company has shifted so much time and effort (including marketing dollars) away from its core menu that it is losing ground to peer QSR burger concepts and also gourmet/niche burger players.  If we assume that the core business of MCD’s U.S. business is declining, then the emergence and growth of new operators in the burger space is likely impacting MCD’s U.S. business.  Bobby Flay, Five Guys, Shake Shack, Burger Bar, the Counter Burger, and others have gained popularity over the last few years. 


I believe McDonald’s needs to get back to what got it to where it is: its core business.  In the Wall Street Journal this week, there was an insightful article on McDonald’s Japan which is focusing on the core business.  Considering the reputation Japan has as a particularly healthy society, I was interested to read the following, ‘Yasutsuru Mori, a svelte 74 year-old patron, wolfed down a Texas 2 Burger this weekend.  "I love hamburgers.  I eat every new hamburger that comes out in Japan, but I especially love McDonald's burgers," he said.  "McDonald's keeps to the fundamental American hamburger profile: ketchup, mustard and beef.’  Clearly, this is just one person, but I believe that McDonald’s needs to refocus on its core business here in the U.S. also.


Notwithstanding my concerns, I would be remiss not to acknowledge the achievements of the company in what was a truly spectacular turnaround from 2004.  By keeping their “eyes on the fries”, MCD’s management team created an example of operational focus and discipline for operators in both the quick service and casual dining categories.  The “Plan-to-Win” forced management to rethink every element of its business, from product development and marketing to restaurant design and technology.  In the process, McDonald's, which had seemed out of touch with consumers just six years prior, had realigned itself with contemporary tastes. 


To see the balance of the McDonald's "Black Book" please reach out via e-mail or phone.  My contact details are below.


MCD - THE BLACK BOOK - mcd black book cover


Howard Penney

Managing Director


The Macau Metro Monitor, January 19, 2011



The Land, Public Works and Transport Bureau (DSSOPT) has ordered Caesars Golf Macau, owned by Caesars Entertainment, to cease its unlicensed construction of a private road to join Estrada do Istmo.  The manager of Caesars Golf Macau said the company will restore the area according to the Government’s requirements and Macau laws.  Chief of the DSSOPT department of environmental pollution control, Ip Kuong Lam, said the site was originally a domestic waste landfill between 1988 and 1992, and right now a lot of the garbage had decomposed leaving mostly plastic materials.


The golf course will be punished based on the water supply and drainage regulations.

CHINA DEC CPI UP 4.6%, 2010 GDP UP 10.3% Economic Times

According to unnamed sources, China's CPI gained 4.6% in December, slowing from 5.1% in November. China GDP grew 10.3% in 2010.  The median forecast of economists polled by Reuters was for December's CPI to rise 4.4% and GDP to increase 10.2%.

Chirp, or Be Chirped

This note was originally published at 8am on January 14, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“The fact that we are today to debate raising America’s debt limit is a sign of leadership failure.”

-Senator Barack Obama, March 2006


Our CEO Keith McCullough has been out most of this week recovering from a surgery to reattach his Achilles tendon.  I’ve known Keith for upwards of fifteen years, including three years as college hockey players, so I can rightly say that I’ve seen the man in a few precarious situations, but never did I think he would injure himself on the squash courts.  So when it comes to risk management for the aging college athlete, leave the squash to those that grew up playing it at prep schools is my advice on a go-forward basis.


With Keith out, I’ve had to live a week in his shoes.  I’m not prone to giving the proverbial tire pump, but, candidly, it’s not easy to write a morning strategy note and prep for a morning call every morning starting at 5 a.m.  As it relates to President Obama and the quote above, I think he is now realizing what it’s like to live in another man’s shoes, as well.   (Life as President is much different than as a member of Congress it seems.)


Members of Congress in Washington basically have free rein to chirp.  While Presidents can chirp as well, they also have to make decisions.  Obama’s quote (chirp) above was prescient back in 2006, but in the coming weeks he will have to push to get the debt ceiling raised because, as President, he needs to keep the country running.  The advisors hired to chirp on his behalf have been out in full force making sure he has the political cover to get this done.


Specifically, White House economic advisors Austan Goolsbee recently had this to say about the debt ceiling:


"This is not a game. You know, the debt ceiling is not something to toy with. … If we hit the debt ceiling, that's essentially defaulting on our obligations, which is totally unprecedented in American history. The impact on the economy would be catastrophic. I mean, that would be a worse financial economic crisis than anything we saw in 2008."


Now, if that’s not chirpy, I don’t know what is.


Freshman Senator Rand Paul was not to be outdone though, and chirped back his own proposal:


“I can't imagine voting to raise the debt ceiling unless we're going to change our ways in Washington. I am proposing that we link to raising the debt ceiling — that we link a balanced budget rule, an ironclad rule that they can't evade.


We have to change the rules and we have to say to Washington, Balance the budget. You have to do it by law.  And then I'll vote to raise the debt ceiling.  But only if we have an ironclad balanced budget rule that we attach to the debt ceiling.”


Ironically, the best assessment of the debt and debt situation was probably Senator Obama back in 2006.  The fact is that we are in this fiscal situation today because of failed leadership.  This is failed leadership that has transcended administrations and political parties. It is because the United States has created long term obligations in the way of social security and healthcare that we can’t fulfill, and administrations have overspent on discretionary items when times were good.  (In fact, our friend Karl Rove even acknowledged to us that the one regret he had was that the Bush administration didn’t do a better job on discretionary spending.)


In the coming weeks, the debate over the debt ceiling will increase in velocity and volume.  The fiscal conservatives, particularly those who were swept in with the Tea Party in the most recent midterm, will be on the soap box and will be chirping like never before.  Unfortunately, even Goolsbee’s language and delivery is somewhat inflammatory, and as a nation, we really have no choice, but to increase the limit on the debt ceiling.


In the coming months, there are three key catalysts that will take the debate over the debt and deficit to a heightened level, these are:


1)      Late January - Congressional Budget Office deficit projections will have to be raised dramatically for the next few years.  We’ve highlighted their projections in the Chart of the Day, and, simply put, the numbers are too low for what we’ve already seen in Q1 of fiscal 2011.


2)      Mid February - President Obama’s draft budget proposal will be submitted in early February.  This proposal will be more heavily scrutinized than any budget in recent memory and since so few of the line items can be played with in the short term, they’ll surely not satisfy the fiscal conservatives.


3)      Early March - Finally, the vote on the debt ceiling will occur sometime before March 4th.  This is when the debate will reach its highest pitch even though the outcome is already known, which is the ceiling must go higher.


We believe the outcome of all of this could be, American Sacrifice. This is the idea that this debate actually drives our politicians to implement meaningful initiatives that will begin to reverse the fiscal predicament we are facing.  If we do start to see fiscal improvement, or at least positive discussions in that direction, it will be bullish for the U.S. dollar.


That said, as it relates to Washington, one never knows and productive legislation will actually require these politicians to set aside their “chirp, or be chirped” politicking, and help move the country forward.


Yours in risk management,

Daryl G. Jones


Chirp, or Be Chirped - Chirp

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