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Germany: High Frequency Data Slows. Period.

Positions in Europe: Long Germany (EWG); Short Spain (EWP)


In sizing up our macro position in Germany, which we’re long in the Hedgeye Virtual Portfolio via the etf EWG, we want to emphasize that the high frequency data has slowed in recent months. While Germany continues to reflect a strong growth profile for 2011, especially when compared to many of its neighbors handcuffed by gross fiscal imbalances, high unemployment, government indecision and unruly populous’ over austerity measures,  the charts below show that German consumer and business confidence have waned over the last four months, as forward-looking Services and Manufacturing PMI surveys have also tailed off—Manufacturing has declined for the last two months as Services has been mixed and off ytd highs established in Q1 (see charts below). 


While we still like Germany’s fiscal discipline and ability to find demand for its goods and services, the risk that Germany does not meet its growth forecasts given the pressing macro climate makes us more cautious on the position. GDP forecasts include:


German Government: 2.6% in 2011. (Chancellor Merkel indicated in late May that GDP will probably be above 3% in 2011)

German-based Institute for the World Economy: 3.6% in 2011; 1.6% in 2012

Bundesbank:  3.1% in 2011; 1.8% in 2012


Contagion from the periphery remains a glaring threat. While the Troika (EU, IMF, ECB) appears poised to step in to save Greece at every step with additional funds and more favorable terms on its debt, great uncertainty exists on how long the Greek state will be subsidized by Big Brother, and the impact of similar issues for larger countries like Spain and Italy. The obvious spill-over risk could dent not only the German equity market, but also the common currency. Certainly while a weaker EUR is to Germany’s advantage, we’re certain that if a real currency crisis emerged, the advantage of “cheap” German exports wouldn’t be of note.


For now we’re managing our exposure to Germany real-time. The DAX is trading just above its intermediate term TREND support line of 7,106 (third chart below). Stay tuned.


Matthew Hedrick



Germany: High Frequency Data Slows. Period.  - g1


Germany: High Frequency Data Slows. Period.  - g2


Germany: High Frequency Data Slows. Period.  - g3


The trends at JACK are getting better “on the margin” but the company is not in the clear just yet.  As I see it, the current risk/reward is favorable.  JACK is the last QSR company with a market capitalization over a billion that is trading below 6.0x EV/EBITDA.  By comparison, the average multiple for the QSR sector is now at 9.8X EV/EBITDA.  However, excluding CMG and GMCR, the QSR average multiple drops to 8.6X EV/EBITDA. 


If JACK’s fundamental were to continue improving “on the margin” and the street were to reward the company with a higher multiple, I believe there could be over $10 of upside in the stock, or +40% from current levels. 


The case for investors to revalue the stock over the next twelve months is as follows:

  • 70% to 80% franchise mix by the end of fiscal year 2013 (just 18 months out) in line with other in the QSR space (the company needs to sell approximately 300 restaurants between now and the end of 2013.)
  • 16% restaurant level margins by 2013
  • Slowing franchise remodel incentive payments in FY2012
  • “Deflating the Inflation” into FY2012





I see FY3Q11 same-store sales growth guidance of +2-4% for Jack in the Box company units is reasonable, given the sequential improvement in two-year average trends during fiscal 2Q11 and the stable/improving QSR MACRO environment. 


The full-year guidance of +1-3%, though not completely out of reach, seems to be a bit more of a stretch given that the company would have to achieve a nearly 150 bp improvement in two-year average trends during the fourth quarter to hit the low end of the range, assuming 3Q11 same-store sales come in at 2%.  I would note that SONC showed a 645 basis point improvement in 2-yr trends at company-owned restaurants between 2QFY11 and 3QFY11 (quarters ended February and May, respectively).  For Jack in the Box, the YOY comparison gets increasingly more difficult during fiscal 4Q11 as the company is lapping a -4.0% comp from 4Q10 relative to -9.4% in 3Q10.


The Qdoba same-store sales growth target of +4-6% for both fiscal 3Q11 and the full year seem easily achievable given recent two-year average trends. 





The company’s commodity inflation guidance of up 6-7% in fiscal 3Q11 and +4.5-5.5% for the full year implies commodities are up about 5-8% during the fourth quarter, which will continue to put pressure on restaurant level margins.  There is some risk to this commodity guidance as management has been incorrect in its prior guidance of these costs, initially guiding to inflation of +1-2% and then +3-4%.   And, given recent commodity trends, I would expect the company’s commodity costs, particularly, its beef costs (guided to a 14% increase in full-year beef costs), to exceed the company’s current expectations.


JACK’s full-year restaurant level margin guidance of 12.5% to 13.5% implies the YOY margin declines moderate during the second half of the year.  It is important to remember that following the first quarter’s 170 bp decline in restaurant level margins, management guided to a significant improvement in YOY trends for the remaining three quarters. Fiscal 2Q11 margins, however, declined nearly 290 bps, largely as a result of the larger-than-expected increase in commodity costs.  Margins have also been negatively impacted YOY by the company’s investment in guest service initiatives, which at least is a high quality problem.


JACK has posted margin declines for the last seven quarters.  I would expect margins to continue to contract YOY during the second half of the year, but the magnitude of these declines should moderate significantly from fiscal 1H11, with the fourth quarter being less bad than the third on a YOY bp change basis.  Obviously, if same-store sales growth surprises to the upside, stronger margin trends could result.


JACK has not yet turned the corner, but same-store sales trends have stabilized and turned positive during 1H11.  Trends are still fairly negative on a two-year average basis but are improving nonetheless.  Margin improvements should slowly follow with margins beginning to stabilize in 2H11.  That being said, current commodity pressure will only slow this process.




  • The company is lapping its 53rd week from fiscal 2010 in fiscal 4Q11.
  • JACK increased its share repurchases during fiscal 1H11 to $75 million from $50 million during 1H10. 
  • The company’s diluted share count decreased 8.6% YOY during 2Q11.  Full-year earnings will continue to benefit from this lower YOY share count and continued share repurchases.





Howard Penney

Managing Director




Raising estimates but leaving price target intact is stinky analysis. What happens when they have to raise estimates again?



Yesterday, BMO raised 2011 and 2012 estimates to $1.65 and $2.09, respectively.  We have two issues with this.  First, the analyst left his price target at $21 and rating at Neutral despite the higher estimates.  With ASCA almost at $23, wouldn't that make the stock a Sell and not a Neutral?  He's been raising estimates fairly consistently on the name but that Neutral rating has been sticky.  Second, his estimates are still way too low.  We think $2 for 2011 is likely.  The only way ASCA does $1.65 is if the economy tanks.  If that's what he is projecting, he should have a Sell on the entire gaming sector which has become synonymous with the term cyclical.


ASCA is not a Wall Street favorite.  Maybe it's because they aren't in Asia.  Maybe it's because they aren't spending a ton of money to drive growth.  Maybe it's just not an exciting story.  So what?  These guys are great operators who are focused on ROI.  Free cash flow is growing faster than EBITDA and it won't be long before the company returns more capital to shareholders above the current 2% dividend yield.  ASCA is one of only a few gaming companies that actually pays a dividend. 


At some point, these analysts will have to raise ratings and price targets as estimates continue to go higher.

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





Gas prices were highlighted by DRI CEO Clarence Otis on the company’s most recent earnings call (March 25) as being a significant headwind for traffic.  Gas prices are down almost 7% since then and 16% since the peak on April 30th.  If gas prices continue to fall or, simply, not go up during the summer months, casual dining may continue to perform strongly.  As gas prices declined in May, the Knapp Track casual dining same-store sales index accelerated sequentially on a one- and two-year basis.


Cattle futures continue to rise as shorter supplies loom on the horizon, according to cattlenetwork.com.


Unrelenting rainfall may have slashed U.S. planting of durum wheat to the lowest level in more than 50 years, fueling a surge in the price of pasta and noodles as mills scramble for supply of the grain. Grain elevators in North Dakota are paying farmers about $14.40 a bushel for durum up from $9.50 a month ago; the peak was $23 reached in February 2008.


The outlook for the consumer - more Americans filed first-time jobless claims last week and consumer confidence fell according to the Bloomberg Consumer comfort index.




  • THI was mentioned in a list of names that Goldman expects to drive EPS growth via buybacks. EAT was not on the list.
  • MCD is planning its second Yuan-denominated bond issue, HKET says.  MCD spokeswoman Vivian Zhang has denied the claim.
  • SONC estimates were raised by Piper Jaffray.  FY11 revenue and EPS are now expected to come in at $546.8 million and $0.56 per share, respectively.
  • WEN opened its flagship restaurant in Moscow, Russia Thursday. The restaurant in Moscow’s historic Arbat District, was opened with festivities to celebrate the quick-service burger brand’s entry into the Russian Federation this month. The Russian Wendy - instead of the wholesome freckle-faced redhead in old-fashioned pantaloons, wears a short dress, bright red-striped stockings and stilettos.

HEDGEYE: For years WEN has been trying to cultivate an “international” growth story.  On the marketing front, upgrading “Wendy” to a sexier look can’t hurt sales…


  • Dunkin’ Brands is teaming up with Marvel Studios to promote “Captain America: The First Avenger.” The tie in — which marks the first time the parent of Dunkin’ Donuts and Baskin-Robins has partnered with a motion picture studio — includes themed menu items, a website where participants can win prizes, and a Facebook promotion.

HEDGEYE: The S1 filing for the IPO shows some of the slowest same-store sales trends in the breakfast category.  I know they are hoping this will give them a boost.  Not likely, movie tie-ins are a relic of the past.

  • When KFC Corporation filed a lawsuit in late April seeking to terminate the agreements of 10 stores owned by John R. Neal, one of its biggest operators, some critics charged that the system was getting back at Neal over his leadership in franchisees' successful lawsuit to secure more control over advertising. Late yesterday, Neal's attorneys filed court documents alleging exactly that - Restaurant Finance Monitor

HEDGEYE: YUM’S issues in the USA are not isolated to KFC franchisees the company has many problems with a number of franchisees across all its USA brands.

  • SBUX - Starbucks celebrated the opening of its 100th outlet in Indonesia on Friday, promising a more aggressive expansion plan in the future.  Jakarta-based retailer Mitra Adi Perkasa, which holds the license for Starbucks in Indonesia, said it planned to open 15 more branches throughout Indonesia by the end of 2011.

HEDGEYE: SBUX remains in the Hedgeye virtual portfolio. 




  • DRI’s Red Lobster concept has seen an improvement in performance due to the four-course menu promotion, according to Wells Fargo.  The company’s outlook on DRI has strengthened as a result.
  • DRI could be facing higher food costs on top of the double-digit inflation being seen in seafood.  Bloomberg reports that pasta prices may surge on curbed durum supply.
  • EAT franchisee ERJ Dining LLC, which runs 122 Chili’s units, has deployed wireless, on-table touch-screen technology at 30 of its restaurants in advance of a full rollout by the company later this summer.




Howard Penney

Managing Director



The Macau Metro Monitor, June 24,2011




Macau Secretary for Transport and Public Works, Lau Si Io has said the Macao Studio City (MSC) project must comply with the 2001 Land Concession contract approved by the Macau government in 2008.  That plan does not contain any gaming elements but does contain hotels, restaurants, residential units, and a film production project, which is "a major component of the property."  However, the secretary has not disclosed whether MSC's developer has applied for gaming tables, stressing that any casino projects are required to meet the 2013 quota where gaming tables cannot exceed 5,500.  Lau confirmed that the government has received the application from the developer to resume construction.


Korea Culture Minister Choung Byoung-gug said that it was time to consider allowing more casinos to admit local Koreans. Currently, only one casino, Kangwon Land in Gangwon Province, admits Koreans.  The government is seeking to allow casinos in the six FEZs (Free Economic Zones) and on Jeju Island to admit Korean nationals in a bid to attract more foreign investment and more tourists.  Under the current law on FEZs, a foreigner can open a casino in the FEZ if he/she invests more than $500MM there to run at least three different types of tourism businesses including a five-star hotel with an international convention center.


The Minister added that if the government decides to take the deregulatory step, facilities like those in Las Vegas--conventions, shopping malls, and entertainment--should be developed along with the casinos.  Choung reiterated that a comprehensive policy plan was required to meet new demands, referring to the deindustrialization in the historical southeastern city of Gyeongju and eastern mountain resort area of Seorak.  “I can clearly say that it is not right for a government to invest in casino businesses... The Korea Tourism Organization has begun reviewing whether to keep running Seven Luck casinos," said Choung.


10 out of 17 casinos in Korea are losing money.  The combined annual sales of the domestic casino industry, amount to 2.2 trillion won, and Kangwon Land accounts for more than half of it. The casino industry has long hoped for the government to lift the ban on Korean citizens’ access to casinos.  In addition, Choung would also like a study on whether to permit casinos on cruise ships.


Galaxy Macau’s opening advertising campaign (HK$28MM) accounted for 57% of hotel advertising in Hong Kong in May.  It was the largest-recorded advertising campaign spending in Hong Kong for a casino hotel opening, beating the previous HK$13.12MM held by the Venetian.  MGM Macau (HK$11.23MM) came in 2nd, followed by Venetian Macau (HK$1.87MM), L'Arc (HK$1.03MM) and City of Dreams (HK$640,000).


Hong Kong tourists are the 2nd largest visitation segment to Macau.



The Transportation Infrastructure Office (GIT) disclosed the budget for the 1st phase of the light rapid transit (LRT) project has increased 46% from the previous 2009 estimate to MOP 11BN.  GIT chief Lei Chan Tong said the higher estimate was a result of "inflation, rising currency exchange rate and continued optimisaztion/adjustments of route designs."

People Minimize Debt

This note was originally published at 8am on June 21, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Unlike neoclassical macro theory, which assumes that private-sector corporations are always maximizing profits, it assumes that some companies may respond to daunting balance sheet damage by minimizing debt.”

-Richard Koo


I’m in the middle of reading Richard Koo’s revised edition of “The Holy Grail of Macroeconomics: Lessons from Japan’s Great Recession.” The aforementioned quote summarizes Koo’s thoughts on what he coined in another book as a “Balance Sheet Recession.”


This morning, ahead of this Greek confidence vote, I want to do a little extending and pretending of my own with Koo’s conclusions – you know, just to get the intellectual juices going.


Let’s pretend for a moment that the American Consumer is Koo’s “private-sector corporation.” Then, let’s extend ourselves into the fictional land of nod and go as far as to assume that people, instead of companies, minimize debt when you scare the hell out of them.


I know, I know. This Mucker guy is coming up with some radical economic theory over here on the east side of Yale’s campus. But, seriously, I didn’t need to get into this academic institution to be told how to think.


Lessons from The Greek Gong Show: America needs to re-think, re-learn, and re-consider what makes this economy tick. It’s not that complicated. First, we need to stop what we are doing and get back to the basics of human behavior.


Behaviorally, if you want to scare the hell out of people, just fear-monger about “Great Depressions.” That’s Bernanke’s bailiwick. That’s why Washington loves him. That’s why he was appointed by a modern day Republican and cheered on by a modern day Democrat.


Modern day Western economics are partisan. Both Republicans and Democrats pin their hopes on Keynesian economists. Hope, alas, is not a long-term risk management process. Both Bush and Obama had to learn this lesson the hard way. Bernanke’s “confusion” and “frustration” with the economy is finally breeding contempt.


As Koo appropriately notes in the Preface of his 2009 Edition of “The Holy Grail of Macroeconomics”, “I realized that no constructive discussion could occur until I proved that some of the “lessons” from the Great Depression that underpin their views are themselves wrong.”


Koo’s realization is an extension of Nasim Taleb’s idea of a “Narrative Fallacy ( “The Black Swan”, 2007), where Taleb alludes to humans having a propensity to build stories around facts.


The fact of the matter is, and I’ll say this for a 3rd time this morning, when you scare the hell out of them, People Minimize Debt.


Again, people are different than countries – particularly socialist ones. Only a moron would look to solving his or her solvency problems by Piling More Debt Upon Debt, like Greece, Japan, and America have.


Back to this morning’s reality show of extend and pretend, here’s what the Fiat Fool in Chief of Greece had to say this morning ahead of the Greek confidence vote:


“We are determined as a country, as a government, to be on track with the program, to move forward, to do what is necessary, in order to put our country into a fiscally much more viable position.”


Seriously. This guy is serious about maximizing debt until he blows his country’s balance sheet, bond, and stock markets to smithereens.


Global Markets are obviously very nervous about lying Greek politicians. Never mind what the Greek stock and bond markets do today. Don’t forget that the Greek stock market was down -35.6% in 2010 and has crashed, again, down another -27% since rallying to lower-high in February 2011. Markets discount future events.


What got us here is something I have been writing about since 2007. What is going to get us out of it isn’t doing more of what’s imploding the Greek, Portuguese, and Irish markets – Politicians Maximizing Debt.


In the meantime, the entire world is watching and Global Growth Is Slowing. This is largely a function of people being afraid. In the real world, confidence matters.


That’s why US demand for mortgages, stocks, and commodity exposure is falling. That’s why US stock market volumes have been bone dry on this 3-day rally to lower-highs. It’s the Debt Maximization Experiment of the Keynesians, stupid.


My immediate-term support and resistance ranges for Gold, Oil, and the SP500 are now $1532-1548 (we remain long GLD), $91.29-97.63 (we remain on the other side of the Goldman Oil Bulls), and 1259-1291 (we have no position, but a bearish bias at the top end of the 1291 range).


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


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