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The Gingrich That Stole Christmas

Conclusion: Former Speaker of the House Newt Gingrich has gone from a candidate on the margin to now mounting a serious challenge to Republican frontrunner Mitt Romney.

 

“How dare you enter the Grinch's lair!? The insolence! The audacity! The unmitigated gall! ”

-          The Grinch

 

It’s not clear yet whether Newt Gingrich is going to totally ruin Mitt Romney’s Christmas, but certainly he will put a damper on it.  Over the span of the last month, Gingrich has gone from totally out of the race for the Republican nomination to becoming frontrunner Romney’s primary challenger.   In fact, according to InTrade Gingrich is now at a 38% probability of gaining the nomination and Romney has tumbled down to 48%.  This spread is the tightest any competitor has been to Romney.

 

The Gingrich That Stole Christmas - 1. dj

 

The next few weeks will be critical for Gingrich to mount a serious challenge at the nomination.  Both Herman Cain and Rick Perry have completely melted away due to a combination of scandal (Cain) and poor debate performance (Perry).   This gives Gingrich the opportunity to compete head-to-head with Romney and should also enable him to gain substantially more media exposure than he has in prior months.

 

For both Cain and Perry, being elevated as the number one challenger to Romney accelerated the level of scrutiny that both the media and voters applied to evaluating their candidacies and, in short order, both imploded.  Gingrich, on the other hand, is a known entity that has been on the national political stage for decades.  This is both good and bad.  On the positive, there is limited risk that Gingrich has a spectacular implosion like Cain and Perry.  On the negative, it will be quite easy for the Romney’s team to develop a negative dossier on Gingrich.

 

To the last point, the Romney attacks on Gingrich have already started.  Yesterday, former Representative Guy Molinari, who officially endorsed Romney in early October, said the following:

 

“The thought that this man could be president of the United States is appalling.   This guy is evil.  He’s an evil person.” 

 

Obviously, some very strong words for a Republican to say about a fellow Republican who has a legitimate shot at the Presidency, especially given that the two were long time colleagues in the House of Representatives.

 

Aside from proxy attacks, like Molinari’s, the Romney camp has started framing up Gingrich as a career politician.   Yesterday, Romney said the following:

 

“Speaker Gingrich is a good man, he and I have very different backgrounds. He spent his last 30 or 40 years in Washington. I spent my career in the private sector, and I think that’s what the country needs right now.”

 

Obviously, given that he was elected to the House of Representative for ten consecutive terms, it will be difficult for Gingrich to defend against this line of attack.  As well, purportedly the Romney camp is going to further emphasize Romney’s wife of 42 years and large family as a counterpoint to Gingrich’s three divorces.  Once again, this line of attack is tough for Gingrich to combat.

 

Over the coming weeks, Gingrich will have to play catch up in a big way to Romney’s fundraising and organizational advantage. That said, the key advantage Gingrich has going into the primaries is his conservative background.  In fact, Gingrich has a lifetime American Conservative Union rating of 90%.  These conservative credentials will be critical in the primaries and Gingrich compares very favorably against the much more moderate Romney, a former Governor of Massachusetts.

 

The other advantage Gingrich has, which my colleague Keith McCullough noted after watching a number of the debates, is that he is both incredibly smart and has a very strong handle on the issues.  For much of this race, Romney’s competitive advantage has been that he is just plain more intelligent than the other key challengers in the race.  This is not so with Gingrich.  Below, we’ve posted a small clip from a recent debate, which highlights Gingrich’s ability to quickly think on his feet:

 

http://www.youtube.com/watch?v=igxgegOSniY

 

Clearly, Gingrich has momentum as evidence by a number of recent polls.  In fact, according the Real Clear politics aggregate, and as outlined in the chart below, Gingrich now leads the Republican race at 26.6% with Romney a distant second at 20.4%.  This is on the back of a Rasmussen poll that showed Gingrich up on Romney by a massive +21 points.

 

The Gingrich That Stole Christmas - 2. dj

 

At the state level, Gingrich is showing similar momentum.  The first three primaries are Iowa on January 3rd, New Hampshire on January 10th, South Carolina on January 21st, and Florida on January 31st.  Based on the most recent polls, Gingrich leads in all three of those States.  If Gingrich wins those early contests, it could very easily get him the momentum to raise the money he will need to enter into a war of attrition with Romney.

 

So, it seems very possible that Newt could well be the Gingrich that steals Mitt Romney’s Christmas.

 

Daryl G. Jones

Director of Research


LULU: Respect History

The last time LULU saw inventory growth exceed sales growth, its behavioral response was far better than it should have been for such an immature company. We should see the same this time around.  

 

Great example as to why a hyper-growth cult stock like LULU simply can’t print a decelerating top line, or a buildup in inventories/degradation in Gross Margins. As much as we’re fans of the TAIL story with LULU for so many reasons, these near-term factors simply don’t support a 40x+ p/e.

 

That said, Let me leave you with one thought. The last time LULU saw its sales/inventory spread go negative was in 1Q08. It was implementing new systems (getting out of the dark ages of Excel spreadsheets used to manage sales -- literally), and investing in its online platform. Back then, we were amazed (and impressed) to see such a sudden move from ‘inventory building with margins up’ mode (we like to call this the denial phase), up to the ‘take inventories down dramatically even if it hurts GM%’ mode. As one might think, hanging around in the lower right quadrant of our analysis (Denial) is a precursor to many a blow-up. 

 

But only the smartest and best managed companies revert directly to the upper left (clearance) without turning a blind eye and living with down margins AND elevated inventories for a few quarters.

 

When LULU was presented with inventory issues back in 2008, it acted like a company that was 10x its size and age. It was an early cycle company acting like a mature company.

 

What do we have today? LULU is still an early cycle company, and there’s no reason we have to believe that it’s ‘maturity factor’ is any less today than it was 3 years ago.

 

We won’t fall on our sword and get involved here unless TRADE factors say the time is right. But the long-term TAIL call here is incredibly powerful.

 

LULU: Respect History - LULU SIGMA 1

 

LULU: Respect History - LULU SIGMA 2

 

Below is our December 2008 Note following up on LULU's Q3 2008 earnings:

 

12/11/08 12:37PM EST

LULU: Early Cycle Company Acting Mid Cycle-ish

The store growth slash overwhelmed the fact that the company managed its business like a retailer who has been in business for 30 years. As growth investors cycle out, this name is a gift.

What a flat-out weird quarter from LULU. Truly. Expectations were for a miss due to weaker comps, eroding gross margins, higher SG&A due to ERP investments, and inventory build. In actuality, the P&L looked better, the balance sheet looked exceptional, but store growth expectations were decimated. Bears definitely right on this puppy – though most probably for the wrong reasons.

Why do I say that LULU is acting like a mid-cycle company? Two main reasons…

1. The degree to which the company managed its inventories this quarter almost knocked me off my chair. Check out the SIGMA below. For 2 quarters straight, inventories built (and the multiple contracted), but then LULU took a massive V-shaped move to clean its balance sheet at the expense of margins (upper left quadrant). The key point here is that 80% of retailers revert to the lower left quadrant first – i.e. inventories building AND margins down – before taking any action. LULU is a step ahead. That’s unusual for a company like this where people so frequently question managements’ ability to execute.

2. The fact that LULU has secured only 5 real estate locations for next year on a base of 107 at year-end 2008 should scare even the most conservative growth investor at face value. Yes, it scared me as well. For most retailers, this behavior suggests management’s lack of confidence in its own growth platform. I don’t think this is the case with LULU. But it does show that the store growth strategy is part offense, and part defense.

a. The defensive angle is that company realizes that it does not live in a vacuum, and investing in a declining spending environment is risky business.

b. The offensive angle is that LULU fully realizes the leverage it holds with prospective landlords. LULU is taking a ‘come to Daddy’ approach to secure lower rents, which I like given that it will balance store-level economics as business shifts incrementally from 4-wall to .com.

c. The part of the growth equation that does not sit well with me is that a major theme next year, in my opinion, will be that the power brands that consumers want to succeed that also have the balance sheets to dominate the share-grab game and put weak competitors away will emerge the clear winners. LULU should be one of those. I’d rather see a more aggressive posturing here. They can afford it.

I still like the fundamental story here. Check out my 11/9 Post for the full thesis (I’m Finally On-Board with LULU”).



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