HD/LOW/FND Deep Drive Replay Link. We hosted a deep dive on our Best Idea Shorts LOW/HD/FND Wednesday. Here are the key conclusions…Video Replay Link CLICK HERE 
Gap Inc (GPS) | Adding Short Side. This stock is up 81% since the September low. We were long GPS for a hot minute earlier in the year when we made the case that Altheta – which we think we is worth $8 per share – should be separated from the company. But it appears that the company and the activist community has Zero interest in making that happen. Now with the stock at $15, the other divisions matter again, and we think that the upcoming promotional environment, disappointing holiday season and the consumer hitting a wall in 1Q will crush Gap and Old Navy. The only division we’d call out on the positive side is Banana Republic, which has clearly rebounded in its assortment and is much more relevant to today’s shopper. But at just 12% of GPS sales, it’s too small to make a difference relative to Gap and ON. We think this stock could easily retrace to sub $10 within 6 months, on a disappointing earnings algorithm – even though expectations are so wide you can drive a truck through them. 12x EBITDA on the Street’s numbers and likely 15x on the real numbers is a nosebleed – something we can only underwrite on the short side here. If Athleta is separated, the stock is close to fair value here, but we see little chance of that happening anymore.
Victoria’s Secret (VSCO) | Adding Short Side – Get Involved After This Week’s Print. VSCO has rallied among the recent rise in mall apparel retail names with some 3Q earnings coming in better than feared. Earnings are this Wednesday after the close, though the company gave updated guidance in October around its analyst day taking the earnings outlook to the top end of its prior range. So an inline print to beat is likely. Perhaps the fast money hedge funds have data visibility to near term trends being decent looking for positive commentary on guidance. There looks to be a lot of positivity baked into the price here with over a 60% rally since the October lows. The stock is still cheapish, at 7x EBITDA and about 10x EPS, but this is a stock that could be cheap forever. The brand is in decline and its lost its way in recent years as it tries to repair its old image among changing consumer preferences around body image. Meanwhile the company just announced a purchase of Adore Me, an intimates brand with lingerie for all sizes, styles, and occasions, to try to regain some of it’s ‘sex appeal’. It’s a bit too small to really change the earnings profile near term though. The competition is high in this space as new comers continue to try to gain share from the weak incumbents like Victoria’s Secret. Earnings power here looks to be $3.50 to $4.50 over the next couple years while the street is building to $6. This is going onto the Short Bias list as we continue to dive deeper and we’ll look to potentially get louder should it rally after the print.
Burlington Stores (BURL) | Moving up to Best Idea Short List. This stock has rallied 75% over the past two months, and as bullish as we are on the off-price space, the reality is that BURL is far from Best In Class (about as far as you can get – that’s TJX, which is a Best Idea Long). The off-price retailers should be in good shape next year, but they have the next six-nine months to contend with before they offer compelling value relative to the rest of retail. Until then, we think the company will disappoint. The reality is that apparel inventories industry-wide are up 30-40% vs last year, and imports are tracking up close to 20%. This should be a dream environment for an off price retailer that relies on buying inventory on the cheap, packing it away, and selling a year later driving both comp and margins. But to be 100% clear, the hand-off between retailers with excess inventory and finding a home in off price channels is an ugly hand-off. It takes pristine execution, a seasoned management team and a best in class buying/sourcing organization. BURL has none of those. It’s the inverse of TJX in that regard. In the meantime, BURL will have to compete through holiday with existing inventory, in an environment which should show the biggest apparel gross margin declines in a generation as in-line retailers discount to a far greater extent than they’re currently planning. Then we think the US consumer (100% of sales for BURL are US) dries up in 1Q23 – leading to ‘kitchen sink’ guides for the year. THAT’s when we think that retail will finally be investable, and we’re likely to shift to being net long in a big way (also as we start to eye an end to Macro Quad4). Until then, you’ve got earnings risk at BURL, a highly likely downward earnings revision, and the stock trades at 32x EPS, 20x EBITDA and has only 7% of the float short. This should be a $100 stock, and it’s currently at $200.
TJX, Inc (TJX) | Taking Lower on Best Idea Short List. We still think you can eerily ‘dream the dream’ and get to $5+ in EPS power here, which is worth a $125 stock, but TJX is likely to fall victim to the same near term dynamics as Burlington (though to a lesser extent) in the coming six months. We wouldn't (and didn’t) care when we added this to our Best Idea Long list at $62, but with the stock having rallied to $81 (45% off the summer lows) we think there’s too much near term good news baked in here. Home Goods is still a problem, and TJX won’t be selling inventory on the cheap that’s unpacked until 2H of next year. That’s a long time to wat from here. We think this is a $125 stock over a TAIL duration, so if you’re indifferent to the near term noise – and disappointment – around the group, then be my guest in owning this name. It’s going to emerge a winner. But with the price rally and heavily promotional Holiday that lies ahead, we can’t, with a clear conscience, recommend putting fresh money to work here.
Petco (WOOF) | Still Staying Away Ahead of Print. WOOF Reports Earnings Wednesday. We’ve been ‘on the sidelines’ with this one since removing from our Best Ideas list in July. Still nothing to get excited about here for the foreseeable future. Visits trends are ugly (below), SIGMA doesn’t look good, the equity is taking a hit with the debt load which is variable in a rising rates environment. We like the long-term vet hospital experience to drive traffic, but that might not matter for a long time while the consumer is slowing and WOOF’s growth is being pressure by a tight labor market in vet/vet tech talent. If nothing incrementally bullish comes of this earnings print, we’ll likely kick this off the Long Bench as there will likely be better consumer investment opportunities developing over the next 6 months.
Ulta Beauty (ULTA) | Thoughts Ahead of This Week’s Print for Best Idea Short ULTA. The Street has EPS expectations for Q3 and full year of $4.12 and $21.39, respectively. Let’s face it this company NEVER misses – until it does. It’s the ultimate safety stock right because people have no where else to hide other than a category that’s still growing (albeit at a lower rate). No reason why ULTA can't and won’t beat this quarter again, but we think it will be to a lesser magnitude than in the past, which is bearish. We’re looking for a material guide down for 4Q and into early next year. The promotional level has seen an uptick, while traffic has decelerated. On its Q2 call, management had said that promo levels were going to really pick up and get competitive for the holiday – and we think it’s right (that’s not a sandbag – though the Street thinks it’s the case). Remember that vs 2019 this company is overearning by nearly 300bp on the GM line in merchandising margins, and has a lot to give back as Sephora/KSS puts a meaningful squeeze on the competitive environment next year once all 1,150 KSS stores are up and running (right on ULTA’s doorstep). Management reiterated that top priority is keeping and gaining market share. Given the higher promotional levels, a beat on revenues would not be surprising but it will come at the cost of margin deleverage. We expect margins to deleverage more than the street expects, especially since management even addressed overall margin deleverage for 2H on its Q2 call. Importantly, we think that the EBIT growth algorithm will begin to erode at the same time people are once again comfortable owning less defendable (but higher beta) retail names in the Spring, which could take this stock down a LOT both by negative earnings revisions, but more importantly, the multiple, which is sitting at 20x earnings and 14x EBITDA. That placer traffic trends are still in positive territory, but are heading towards Zero, which poses big risk in the coming months. They actually have the worst slope of any category in retail. You’ve gotta be patient on this one, as we are, but the competitive moat and the ‘safety stock’ characteristics are likely to both dissipate very quickly as the earnings algorithm erodes. Best Idea Short. We think this ‘safety stock’ could get cut in half in 2023.
Hibbett (HIBB) | Short The News. HIBB is on our Short Bias list, we moved it up in mid September with the stock in the mid 60s. The stock subsequently sold off, but then has rallied on decent business trends and earnings beats from similar retailers. DKS and FL put up good earnings results in 3Q relative to expectations, while also improving the 4Q outlook. Reviewing visits trends, HIBB is one of the few companies to have visits up YY in 3Q, though the trend over the last month and a half is clearly slowing. We suspect HIBB will put up a good 3Q, and be at least moderately positive about the remainder of the year, management has generally been bullish with forward outlooks. HIBB has been benefitting from driving its Nike penetration up over recent years, and it is likely one of the retailers getting big shipments of excess Nike apparel inventory in recent weeks. That can be good for near term traffic as you can sell Nike product at a discount to draw people into the store, but it means margin risk later on when you have to sell the last units that are less desirable. HIBB is cheap, but it’s built to be cheap with one vendor accounting for nearly 80% of sales. We think over the TAIL duration margins here will continue to revert lower as Nike demands more SG&A investment or more margin to keep the product flowing. TAIL earnings power is $6 to $7.50 while the street is at $11+. If this rallies on the print it’s one that could find its way onto the Best Ideas short list.
BestBuy (BBY) | Moving Higher On Best Ideas Short List. We shifted BBY down our list in late September with the stock trading down into the mid-60s. Now, after we were wrong about the risk for earnings and guidance on the 3Q print, it’s going higher on our list after the rally into the low 80s. 3Q Comps were ahead, though still down 10.4%, slight acceleration vs last Q. Gross margin missed by 20bps, down 150bps YY, and SG&A drove the majority of the beat as it came in about 80bps lower. Management adjusted the full year by the 3Q beat, so holding 4Q outlook, which implies generally steady trends. This outlook is in stark contrast to TGT’s discretionary outlook, meaning not much directional slowdown from 3Q discretionary trend while TGT was explicit about a slowdown in discretionary categories like electronics in recent weeks. Inventories are down similarly to sales, so relatively in check, but the whole space is being promotional as the consumer overconsumed these core categories over the last 2.5 years. We don’t think this short is done yet. We’ll take the under on 4Q coming in ahead of expectations. Holiday will be highly promotional and then the expectation is for improvement in 1H 2023, which we don’t think we’ll see as the consumer starts to shut down the elevated spending as savings rate stops going down and revolving credit stops going up. We see forward EPS downside to $5 to $5.50 with the street at $6.50, stock downside to $50 to $60 with it currently trading at $83.
Nordstrom (JWN) | Taking Higher on Best Idea Short list. The biggest takeaway from the JWN print was that 3-year stack comps were DOWN 4% in an apparel environment that put up +17%. This company is losing share – any way you cut it. We think it misses the lowered guidance for 4Q, and then guides down again when we see more normalization in the category in 2023 – that’s when market share loss should stand out like a sore thumb. We think there’s only $2.00 per share in EPS power embedded in JWN, and $1.60 of that is credit income – which deserves about a 5x multiple (though it is a near term tailwind due to higher balances on higher rates as well as higher late fees from a strapped consumer). Let’s be generous and give the retail earnings of $0.40 a 10x multiple – and all in you’re getting close to a $10 stock. The stock traded down on last week’s print, but its got serious downside from its current $22.
FIGS (FIGS) | Taking lower on our Short Bias list. This one has worked out well for us, we went short this name in July at $11 calling for $5, and it’s sitting at $6.24. We still think there’s downside here, and by no means do we buy into the argument that this is ‘the Lululemon of scrubs’. Success begets competition, and FIGS is attracting a lot of it with a very thin competitive moat. We think Gross Margins and Top Line are both at risk over the next 6-9 months, and think that a serious guide-down is in the cards. This is not a structural short, as we’d be interested in owning it – but that’s likely closer to $3. We think we’ll get our shot in CY23.
