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MCD - HORSESHOES AND HAND GRENADES

"Close only counts in horseshoes and hand grenades!"

-Tom Tobin, Hedgeye Managing Director of Healthcare.

 

I made a significant call in January that MCD beverage strategy is hurting its core business.  While my view has played out at times in 2011, defending the thesis in April/May was a challenge to say the least!

 

The most telling sign of the current state of the sales trends at McDonald’s in the U.S. come from comparing May and April press releases.  My perspective, as a reminder, is that MCD has taken its beverage strategy too far.  The company’s focus on “beverages over burgers” is not a sustainable long-term strategy and this had led to problem in the company’s core business of selling burgers and fries.  Observe the comparison below; a mention of core products in the May sales press release is conspicuous by its absence.

 

From the May press release: “U.S. comparable sales increased 2.4% for the month. The national launch of Frozen Strawberry Lemonade, the popularity of Fruit & Maple Oatmeal and the continued demand for McDonald's signature beverage and core offerings were key contributors for the month.”

 

From the April press release: “In the U.S., April comparable sales rose 4.0% fueled by the popularity of the McCafé beverage line-up, including the recently introduced McCafé shakes, McDonald's market-leading breakfast menu, and featured core products including the Big Mac and Quarter Pounder with Cheese.”

 

I would make the following observations:

  • No mention of McCafé in May
  • No mention about core food products served at lunch
  • Fruit & Maple Oatmeal? How are the 2 for 1 Egg McMuffin trends doing?
  • Frozen Strawberry Lemonade; these are attracting new customers because you can get for $1.

MCD USA posted a 2.4% same-store sales for May (May two-year numbers declined by 100 basis points), while running an estimated price increase of 2%.  I’m not so sure that McDonald’s can still claim that guest’s counts are growing at about the same rate as sales.  If guest counts are still rising, it’s only because of the company’s focus on marketing drinks and deserts.  Therefore, the average check continues to decline, and this will become only more pronounced with the entire domestic system possibly offering "any drink for $1.00" this summer.  My bottom line (and this month provides some evidence) is that McDonald’s core business is declining.

 

MCD - HORSESHOES AND HAND GRENADES - MCD US May

 

 

Even more disappointing in May was Europe.  May comparable sales increase 2.3% driven by strong performance in France, Russia and the U.K., partially offset by the most important market - Germany! As opposed to the USA, the company is citing its core food products as having driven increased sales.  As the company noted, “Key contributors to Europe's May results included premium menu offerings such as McWraps and the 1955 burger, limited-time food events like the U.K.'s Great Tastes of America campaign”

 

MCD - HORSESHOES AND HAND GRENADES - MCD Europe May

 

 

Comparable sales rose 4.3% in APMEA, implying a decline in two-year average trends of 115 bps.  According to the press release, “Compelling breakfast and lunch value offerings, convenience initiatives such as drive-thru, delivery and extended operating hours, and unique promotional tie-ins were the leading sales drivers for the segment in May.”

 

MCD - HORSESHOES AND HAND GRENADES - MCD APMEA May

 

 

Howard Penney

Managing Director


Athletic Apparel Decelerates as Pricing Weakens

 

Despite ASP strength in the athletic specialty channel, a sharp deceleration in pricing across the industry suggests retailers could be looking to clear inventory ahead of the 2H driving further margin pressure near-term.

 

 

Athletic apparel sales slowed for the second consecutive week. Sales in the athletic specialty are also slowing on a sequential basis, however, the channel outperformed the broader industry and for the fourth consecutive week. More notable is the ASP strength in the athletic specialty channel up MSD relative to a sharp deceleration in pricing across the industry, which was down for the first time since March. This is consistent with recent commentary across the industry suggesting that retailers could be looking to clear inventory ahead of the 2H, which we expect to accelerate margin pressure in here in Q2 – less favorable for DKS and HIBB.

 

Athletic Apparel Decelerates as Pricing Weakens - FW App App Table 1 6 8 11

 

Athletic Apparel Decelerates as Pricing Weakens - FW App Reg 6 8 11

 

Casey Flavin

Director


WEEKLY COMMODITY MONITOR: JACK, DPZ, PZZA, CAKE, CMG, AFCE, TSN, JACK, BWLD

On average, the up moves were stronger than the down moves in the commodity prices we track in our commodity monitor.  Milk and Cheese, in particular, put on strong moves while wheat was the most notable mover to the downside (as shown in the chart below).

 

WEEKLY COMMODITY MONITOR: JACK, DPZ, PZZA, CAKE, CMG, AFCE, TSN, JACK, BWLD - commod 67

 

 

Dairy

 

Cheese and milk prices moved sharply higher last week, 12.8% and 14.1% respectively.  For DPZ, PZZA, CAKE, YUM’s Pizza Hut and other restaurant companies, this is an important data point.  Coming into the second quarter, dairy prices corrected sharply, allowing some respite for restaurant companies with exposure to dairy costs.   This also saved the management teams from answering the questions that the charts below pose.  As the charts below indicate, dairy prices are more volatile than they have been over the past couple of years.  Below are some select quotes pertaining to dairy costs from management teams’ most recent earnings calls.  DPZ may have been right on 1Q, but it seems that 2Q’s gain may take them by surprise.  While DPZ has a contact that effectively eliminates one-third of cheese market volatility, the current trajectory and amplitude of the move in cheese prices is negative for restaurant operating margins.

 

JACK (5.19.11): “Cheese also accounts for about 6% of our spend and we continue to expect a 15% increase for the year.”

 

DPZ (5.5.11):  “And really the one to watch as always is cheese and our best bet right now is that it's going to stay relatively close to where it is right now but cheese is the one that often gives the biggest surprises either up or down and that's the one to kind of watch but assuming cheese stays relatively flat from here on out then, the absolute food costs from – through the rest of the year are probably going to stay pretty consistent with where they were in Q1 which to your point means the percentage year-over-year increase will probably ease a little bit over the course of the year.”

 

CAKE (4.20.11):  “The first half of the year, we're expecting food cost inflation of about 4.5% plus and then in the last half of the year, about 2.5% minus. And a lot of that has to do with the fact that we expect to lap a lot of high dairy costs from 2010 and the fourth quarter of 2011, but also due to the fact that we expect to have slightly lower fresh fish costs, slightly lower cheese prices, than last year as well.”

 

CMG (4.20.11): As we move into 2011, we’re expanding our use of cheese and sour cream made with milk from cows.

 

WEEKLY COMMODITY MONITOR: JACK, DPZ, PZZA, CAKE, CMG, AFCE, TSN, JACK, BWLD - milk 67

 

WEEKLY COMMODITY MONITOR: JACK, DPZ, PZZA, CAKE, CMG, AFCE, TSN, JACK, BWLD - cheese 67

 

 

Corn

 

Corn prices took a dive over the last week, declining 1.5%.  Nevertheless, the grain remains up 119.4% year-over-year and it can be expected that protein prices will remain supported as long as these elevated prices remain.  In terms of the supply and demand data points, the preponderance of the factors seems to suggest that prices will remain high for the foreseeable future, the occasional correction notwithstanding.  According to Bloomberg, wet weather-related planting delays may send global inventories to their lowest level in 37 years.  More than one third of Midwest fields were planted after the mid-May target for optimal growth because of excessive rain.  Below, we outline some comments from restaurant (and food) company management teams pertaining to corn.

 

AFCE (5.26.11):  “This is up from our previous guidance of a 2% to 3% increase, primarily due to higher commodity costs in corn and soy, which impacts our bone-in chicken, as well as increases in the cost of flour and cooking oil.”

 

TSN (5.9.11):  “There is nothing really to stop us from buying back stock other than what's in front of us that's quite uncertain. What if corn goes to $10? Those kinds of things; we really maintain a lot of liquidity. It's $1.6 billion right now. We need to maintain a lot of liquidity.”

 

JACK (2.24.11): “And then there are some Act of God provisions that will get us north of our contract bands, but at a reduced rate from what the current market pricing is. So I hope that that helps. And then also grain, corn, wheat and soybean impact, and there are input costs for a number of the proteins. And that's really what's driving up beef at this point."

 

WEEKLY COMMODITY MONITOR: JACK, DPZ, PZZA, CAKE, CMG, AFCE, TSN, JACK, BWLD - corn 67

 

 

Chicken Wings

 

Chicken wing prices gained week-over-week as ample supply (broiler egg sets six-week average was up +1% year-over-year) offset rising substitute demand. 

 

WEEKLY COMMODITY MONITOR: JACK, DPZ, PZZA, CAKE, CMG, AFCE, TSN, JACK, BWLD - chicken wings 67

 

 

Howard Penney

Managing Director


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THE M3: MPEL 1.2BN LOAN; SANDS EXPANSION PLANS; BALLY ASIA; TAIWAN

The Macau Metro Monitor, June 8, 2011

 

 

MELCO CROWN SAID TO ALLOCATE $1.2 BILLION LOAN TO 13 LENDERS Bloomberg

According to a source, the loan consists of an $800MM term loan and a $400MM revolving credit facility.  Australia & New Zealand Banking Group Ltd., Bank of America Corp, Bank of China Ltd., Commerzbank AG and Deutsche Bank AG were the five lenders hired to organize the loan.  Bank of China contributed $200MM, while the others each gave $75MM.

 

Banco Nacional Ultramarino SA, Citigroup Inc., National Australia Bank Ltd. and Royal Bank of Scotland Group Plc also put in $75MM for a total interest and fee payment of 208-308bps more than LIBOR, depending on whether they contributed to the term loan or revolver.  Banks contributing $50MM each for a total payment of 204-304bps included Bank of Nova Scotia, China Construction Bank Corp. and Credit Suisse Group AG, while lenders committing to $45MM were Banco Comercial de Macau, Banco Comercial Portugues SA, Commonwealth Bank of Australia, Tai Fung Bank and Wing Lung Bank.  Also, Bank of East Asia Ltd. contributed $25MM.


SANDS SEES STRONG GROWTH IN ASIA, IN TALKS TO EXPAND EMPIRE Reuters

Adelson reiterated LVS's interest in Japan, Korea, Taiwan and Vietnam.  Adelson confirmed plans to build a EuroVegas strip in either Madrid or Barcelona, detailing that it would be twice the size of Macau's Cotai strip with twelve 3,000-room properties.

 

SLOT MAKER BALLY EYES ASIA GROWTH, BETS ON AUSTRALIA Reuters

Bally Technologies said it hopes to secure 18-20% of Lots 5 & 6's slot machines orders when the property opens in 1Q 2012.  Cath Burns, vice-president of Bally's Asia operations said it is also in negotiations with Wynn Macau, SJM, and MGM China for their upcoming Cotai properties, and expects to be given the green light within the year, with around 18-20% of orders for each.

 

Burns mentioned that Australia would be the company's top growth market after Bally received approval to sell machines there in April. Bally aimed to lift its market share in New South Wales to 10% over the next 18 months.  Macau would continue to account for the biggest chunk of Bally's business at about 40% compared with Australia's about 20%.

 

Bally is also talking with MGM and Asian Coast on its Ho Tram Strip project in Vietnam and also with the management of the upcoming Belle Grande Manila Bay casino in the Philippines--both with 18-20% share targets.


TAIWAN CASINOS MIGHT AFFECT MACAU'S OPERATIONS
Macau Daily News

Taiwan recently held a discussion forum on its gaming law, and MPEL, LVS, WYNN were present.  Wynn indicated it wanted Taiwan casinos closer to Taipei and that if they are set up on an offshore island, investment scale and economic benefits will be greatly diminished.

 

It is believed that casinos will only be allowed on offshore islands.  Some scholars believed that Macau will be greatly affected, with Fujian guests being the first to turn to Taiwan.  Meanwhile, Mainland China and Taiwan are about to sign off the individual travel scheme giving Beijing and Shanghai as the two pilot cities to implement the scheme.


TALES OF THE TAPE: MCD, YUM, KONA, DIN

Notable news items and price action from the restaurant space as well as our fundamental view on select names.

  • MCD global comparable store sales rose 3.1% in May versus consensus of 3.6%.  U.S. comps were up 2.4%, below the street’s estimate of 2.9%.  Europe comparable restaurant sales great 2.3% versus 4% consensus.  Finally, APMEA comparable restaurants sales great 4.3% versus 4% consensus.
  • YUM’s Taco Bell CEO Greg Creed insists that Taco Bell does not compete with Chipotle just as Hyundai does not compete with BMW.
  • KONA and DIN were notable underperformers during yesterday’s session, trading down -5.3% and -2.4%, respectively, on accelerating volume.
  • According To NRN.com, the foodservice industry is forecast to add 425,000 jobs over the summer, reflecting the healthiest summer employment picture since 2007. 

TALES OF THE TAPE: MCD, YUM, KONA, DIN - stocks 68

 

 

Howard Penney

Managing Director



Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.30%
  • SHORT SIGNALS 78.51%
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