NKE: Insight on Sustainability

Conclusion: Nike's press release on its Sustainability program should not be a stock mover. But it shows the evolution of how this started as a defensive strategy to combat perception about sweat shops, to being a commercial initiative across the organization.



Nike is on the tape highlighting its ‘Green’ initiatives, and is setting new targets for upping the ante on a go-forward basis. Some will simply ignore this as being PR nonsense. Others might get excited as it relates to new financial targets. Both will miss the point.


Quick aside: The timing is interesting, as it comes within weeks of the headlines of the WalMart/Mexico bribery fiasco, Reebok/India, and allegations of Nike/China (executive of China Soccer Assn accepted $273k -- $30k from Nike). These headlines get real big real fast, and are often blown out of proportion. Perhaps Nike went on offense in communicating these efforts (that were already in place) pretty darn quickly to avoid getting lost in sensationalistic headlines.


The key here is that new ‘Social Responsibility’ plan is not really new, but an evolution of something that’s been working. Hannah Jones, VP of Sustainable Business and Innovation at Nike, has pretty much been doing some iteration of this for the past 24 years. (this is not a gratuitous management shout out -- it matters).  Make no bones about it, Jones has risen to the level where she is arguably the most influential woman at Nike – perhaps second only to Jeanne Jackson (VP Direct to Consumer). 


Here’s a rough – and I mean very rough – timeline of Nike’s Sustainability effort.

1988: Hires Hanna to tackle several social issues as the head of Consumer Affairs in EMEA. Over time, one of these ends up being press about Nike's involvement with 'sweat shops'. So Nike is forced into a defensive strategy such that it is not the poster child for poor working conditions in Asia. By the mid 1990s, that’s pretty much done.


Late 1990s: Nike starts to weave Social Responsibility into its business model, specifically with factory management, transportation and logistics.


Early 2000s: Nike’s Supply chain blows sky high (remember i2/SAP and ensuing Foot Locker fallout?). Nike shakes the etch a sketch clean and adopts Lean manufacturing and other practices from more efficient product manufacturers.



2004: Promotes Hannah to head up Social Responsibility out of Beaverton.


2006/06: Social Responsibility evolves from being a defensive tactic, to a cost/working capital saving mechanism, to a business. Nike launches Nike Considered, a product that removed dangerous chemicals from the equation, took down solvent use by 80%, and  dramatically improved the ease of assembly. See product below. Though this was a commercial product, think of it like a concept car (all about the design and process) on which future products with better mass appeal will be introduced.


Today: Job title has changed with the job function. Now VP Sustainable Business and Innovation. This is a Mark Parker touch. Everything needs to stem from Innovation. All new platforms need to synch with sustainability principles. The good news is that Sustainability usually means that the process is more efficient (ie less working capital), and to boot, the consumer is more likely to pay up for it. The best example here is the much awaited Nike Flyknit, which reverse engineers the construction of the shoe and results in a 5.6oz running shoe (the average runner is about 12oz)



Nike Considered (2005) 

NKE: Insight on Sustainability - 5 3 2012 10 04 39 AM


Nike Flyknit (June 2012)

NKE: Insight on Sustainability - 5 3 2012 10 16 20 AM


Jobless Claims Move Past 3 Weeks of Spring Break

Initial claims fell 23k last week to 365k (falling 27k after a 4k upward revision to last week's data). Rolling claims rose by 0.8k WoW to 384k. On a non seasonally adjusted basis, claims fell 40k to 330k. 


Over the last couple of weeks, we have noted that the claims numbers were coming in even worse than we would have expected based on our thesis regarding distortions in the seasonal adjustment factors. This week's sequential improvement puts claims back on track with where we would have expected them to be based on the seasonality dynamics. For more information here, please refer to our note titled "Predicting Initial Claims: The Sine Wave Model". We continue to expect claims to have an overall upward bias for the next 2-3 months.  














2-10 Spread

The 2-10 spread tightened 7 bps versus last week to 165 bps as of yesterday.  The ten-year bond yield decreased 6 bps to 193 bps.






Financial Subsector Performance

The table below shows the stock performance of each Financial subsector over four durations. 






Joshua Steiner, CFA


Allison Kaptur


Robert Belsky


GIL: Management Behaving Badly?

Quick Take. Just when you need to show real organic earnings something. 


GIL’s results were rather uneventful relative to expectations, but the actions on the print are perplexing. Most notably, the company acquired Anvil for $88mm – at the precise time that it anniversaries the Gold Toe acquisition. We’ve always had a bias against the direction this business model is headed, so we definitely don’t want to sound like we’re being fair. But is this for real? Seriously. This company has such a defendable base business as the low cost producer of t-shirts and fleece for the distributor channel. Buit then it pushed its way into mass channels (didn’t work), international (yet to work), bought Gold Toe (working so far, we think, but ROIC dilutive at best), and now just when we have an opportunity to see the real earnings power of the company, it gives us $200mm of additional opacity.


On one hand, buying $200mm in revenue for $88mm tells us that either a) the price is outstanding, or b) the brand is not making a whole lot of money. Its historical margins have gone from +20% in the industry hey-day in the early 00’s, to -20% later that decade.


When we do the math, we see that Branded Apparel printed a $122mm revenue number. Assuming Gold Toe is performing as management indicates ($85mm), then we get to core branded apparel sales of $37mm. That’s down 38%. Yeh… I could see why they’d want to do a deal.


Guidance is not entirely clear, but all-in, the year seems to be intact, though GIL is guiding down the 3rdquarter. The interesting note is that it appears that the Anvil acquisition is INCLUDED in guidance. We’ll hope (but won’t count on) the company giving us the details to decipher one component from the others on the 8:30am call.








Conclusion: Volumes are stabilizing. But playing the market share game in a commodity space in dangerous. 2H utilization should improve, but that's when GIL laps 30% growth largely from Gold Toe. Ultimately, this is all about pricing.

Volumes are stabilizing. But playing the market share game in a commodity space in dangerous. 2H utilization should improve, but that's when GIL laps 30% growth largely from Gold Toe. Ultimately, this is all about pricing. 

1)  Position in the screenprint channel: CREST data suggests unit sales have been coming in stronger than originally expected, running up +12% through February compared to management’s assumption of down -5%. The data suggests that the company is gaining share in the screenprint channel and we have no reason to dispute that. So, while margins will remain pressured, are likely to come in higher than originally planned. GIL's Q2 should reflect the third straight quarter of share gains after capacity constraints impacted share through most of last fiscal year, and GIL roared back with 25%+ cut in its price. In fact, Broder came out 5 weeks ago and noted that cotton is now priced at ~$1.00 for a t-shirt from ~$1.55 per pound at the peak, and almost all of it is being passed through to customers. In other words,  margins in the supply chain remain tight.  While Q2 typically represents GIL’s greatest share for the year, we expect 2H share to reflect incremental gains though we are still not convinced it will capture the 65% share in management’s plan as it competes against smaller players forced to be aggressive. If it does, GIL is likely to be buying it. Playing the market share game in a commodity space is wreckless. 

2) Gold Toe contribution: Q2 is the last quarter of a full incremental Gold Toe contribution with the deal lapping in April. While there has been substantial opacity surrounding the performance of this business since its inclusion, management confirmed that it remains ‘on plan’ to deliver $0.20 in EPS this year. Gold Toe accounted for ~$85mm in sales in Q1 and is expected to generate a similar contribution in Q2, or +22% total revenue growth. In addition, ~$0.05 in earnings implies ~$6-$7mm in EBIT contribution in Q1 and similar amount to what we expect in Q2. We have no reason to think this business is not moving forward as planned. Though it's very important to remember that a 20%+ kicker to GIL's top-line goes away next quarter. That kind of opacity definitely helped over the past year. Bye bye. 

3)  Input Cost/Pricing impact: While the inventory GIL is selling through at ~$0.95 cotton is closer to current prices, it’s still 35%-40% below where the company likely secured the inventory based on the typical 6-9 month production cycle. Lower prices in the screenprint channel (~70% of revs) continue to pressure margins slightly offset by HSD price increases in the Branded Apparel. We’re modeling gross margins of 16% below consensus expectations of 17% and -1100bps below year ago levels.


All in we are shaking out at $0.21 in EPS for the quarter with higher revenues of $521mm lighter gross margins relative to the Street. We’re assuming gross margins of 16% in Q2 reflecting a sequential increase from Q1 due to the absence of an inventory devaluation (= 7pts), the impact of manufacturing downtime (=3-4pts), and higher unit volume. Similarly, with the closure of Rio Nance 1 at the end of Q2 and higher utilization, we have margins up to 24-25% in the 2H and up 450bps next year to 23.5% reflecting 300-400bps from lapping the interruptions of the 1H F12, higher utilization, and improved manufacturing efficiencies. While we expect SG&A growth (+20%) to outpace sales (+12%) in support of retail and international initiatives, we expect operating margins to expand 366bps in F13. For the year we’re shaking out at $1.10 and $1.93 next year reflecting a 26x and 15x earnings multiple, and 16.5x and 11.5x EBITDA.


GIL Forward Looking Commentary from 1Q12 call headed into 5/3/12 (2Q12) Conference Call:


Full year: $1.9bn

Printerwear Business: $1.3bn

Branded Apparel Business: $0.6bn

2H industry demand expected to be flat YoY when demand fell (-8%) in 2011

Assuming market share of 65% in the US Distributor Channel

2Q12: $500mm

Assuming 5% decline in industry shipments from US wholesale distributors to US Screenprinters in 2Q12

Expecting Strong Growth in Printwear due to penetration in international markets and some inventory destocking by distributors in the U.S. wholesale channel, and also increased market share


Gross Margin:

Pricing: Printwear Pricing expected to be slightly lower than Q1 for the balance of the year


Every 1% change in net selling prices for Printwear impacts projected EPS for the balance of fiscal 2012 by approximately U.S. $0.09


Pricing will reflect 4th quarter increases for the balance of the year which did not reflect full pass-through of high cost cotton


Cotton Cost: In line with 1Q12 and significantly higher than 2Q11


2H costs expected to be significantly lower than 1H based on cotton futures


Inventory at peak cost expected to be consumed early in 3Q12



Full year: $1.30

Second Quarter: $0.20

Higher cotton YoY expected to impact Q2 ESP by ~$0.70

Partially Offset by manufacturing efficiencies & Gold Toe

For every 1 million dozen change in demand for activewear, EPS is impacted by $0.05



Full Year: $100mm

Free Cash Flow:

Full Year: $75-100mm

Inventories: Expect to end F12 with unit volume slightly higher vs. last year


Rio Nance V: Will become the lowest cost facility for Activewear & Underwear

Expected to be fully ramped up by the end of F12

Expect additional production capacity and manufacturing efficiencies in F13

Temporarily retiring Rio Nance 1 at the end of 2Q12 and evaluating the modernization of Rio Nance 1 which would provide further cost efficiencies in the future



Being a Loser

This note was originally published at 8am on April 19, 2012. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“Show me a good loser, and I’ll show you a loser.”

-Vince Lombardi


Losing sucks and there is basically not much to debate beyond that.  In the investment world, losing means you lose both your family and client’s hard earned capital.  It’s almost a double whammy in terms of managing the emotions related to losing in that sense.  If it were just you losing an individual tennis match at the country club, that’s probably cool on some level.  But when you make a bad investment, you actually have to put the accountability pants on and answer to both your clients and your family. 


Losing is also part of the big boy’s game of being a professional stock market operator.   We lose, we analyze the loss, and then we adjust and improve.  Or, at least, that is how it is supposed to work.  In reality, though, most investors, and people generally, tend to overweight and over-emotionalize their losses.  While winning is great, losing is painful.   This occurs in part to our culture where losing, to Lombardi’s point above, is broadly characterized as a bad thing.  I’m here to tell you it’s not.  In fact, losing is a chance to improve.


This morning Spain sold €2.54 billion of 2 and 10-year bonds.  On one hand, Spain won.  They sold more than the maximum target of €2.5 billion.  As well, the bid-to-cover was 2.42 versus 2.17 in the last auction in January.  Yields, on the other hand, have ticked up since January from 5.4% on the 10-year to 5.74% in this auction.  (Incidentally, the actual market yield is higher.)  But, still, mostly a win, right?


Well, not so much.  The European sovereign debt market is hardly a market anymore.  Government intervention is enabling these auctions to be “successful”, but the stark reality remains that the monetary union has failed.  The key evidence of this is in interest rate differentials.  In the Chart of the Day, we show the spread between Germany and Spain interest rates going back three years.  In a successful monetary union, the rates at which the key players sell sovereign debt would be comparable.  Unfortunately, at least for monetary union enthusiasts, this is not the case in Europe.


The more unfortunate fact in Europe is that while the market is attempting to do its job and price sovereign debt according to appropriate sovereign risk, there is no currency mechanism to adjust and aid these beleaguered sovereigns.  In theory, what should be happening is that the Spanish currency should naturally adjust to reflect its weak fiscal and economic situation, which then, over time, would boost Spanish exports and subsequently boost the Spanish economy as Spain’s goods become cheaper. 


Unfortunately, Spain, and really all nations in the Eurozone, has a currency that reflects the strongest members, but doesn’t have the commensurate ability to borrow at low rates.  In effect, the weaker economic nations in the Eurozone are all structural losers.  So, then, it should be no surprise that the Socialists are about to take over the government of France.

As an aside, my favorite quote about socialism comes from Winston Churchill, who said:


"The inherent vice of capitalism is the unequal sharing of blessings; the inherent virtue of socialism is the equal sharing of miseries." 


It is sad that the structural issues of the Eurozone are forcing the people of the France to choose the equal sharing of misery via socialism versus rolling the proverbial bones on the upside of capitalism.


Although Keith is on a much deserved vacation this week, he was kind enough to flag to me the fact that both copper and long term yields in the U.S. continue to signal an ominous outlook for global growth.  Copper has basically been going down in a straight line over the past thirty days.  Meanwhile, the 10-year yield on U.S. Treasuries remains below our key line of resistance at 2.04%.  Call it reflexivity if you will, but typically these two market prices are good leading indicators for the direction of economic activity.  


You may not believe Chinese officials when they say they will temper growth, and you may not believe the tempered growth numbers from China when they get reported, but the price of copper does not lie.  I can tell you the shareholders of Freeport McMoran (FCX) are starting to believe it.  FCX, one of the world’s largest copper miners, is down 20% in a straight line since February 1st, despite trading at less than 5x trailing earnings.


Speaking of earnings, our retail Sector Head Brian McGough did an excellent job summarizing his views of earnings for retail this quarter.  While the full note can be found at ( ), the key takeaway was as follows:


“a)      The current consensus earnings growth forecast for the next 12-months is 23%. We have not seen this kind of growth since we came off of recessionary earnings numbers in 2010.


b)      The market is giving this earnings growth a 17x p/e. We’ve only seen that kind of multiple five times in 3-years, but always at times when the group was still clearly under-earning. Who are we to say that it is NOT under-earning today? But to make this case, we need to see a considerable upshift in consumer spending alongside another decline in raw materials costs. We don’t like that call.”


To paraphrase Brian, I think he is saying that the asymmetric risk / reward in retail is not tilted towards the upside in retail land this earnings season.


But enough about losing, go out there and get wins on the board today!


The immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, Japanese Yen (vs USD), Euro/USD, and the SP500 are now $1628-1653, $116.91-120.45, $79.23-79.64, $81.11-82.31, $1.30-1.32, and 1378-1394, respectively.


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


Being a Loser - Chart of the Day


Being a Loser - Virtual Portfolio

CHART OF THE DAY: Empathetically Bullish


CHART OF THE DAY: Empathetically Bullish - Chart of the Day

Empathetically Bullish

“Only 3 percent of animals are monogamous.”

-Nassir Ghaemi


With the US Dollar up and Oil down, I am feeling Empathetically Bullish on Global Consumer stocks this morning.


From an active Risk Managing Investor’s perspective, empathy is probably one of the most misunderstood feelings that you need to respect. In A First Rate Madness (great behavioral psych book by Nassir Ghaemi), that’s the neurobiological point Ghaemi emphasizes about the 3% of animals (i.e. the 3% of us).


Besides humans, the only other monogamous primate species is the orangutan; chimpanzees, our closest evolutionary cousins, are highly polygamous” (page 80). Being Perma-Monogamous to a bullish or bearish Global Macro view for the last 5 years has not worked. You have to be able to empathize with swings in sentiment. You have to be able to change your mind.


Back to the Global Macro Grind


I had an excellent day of client meetings in Boston yesterday and, not surprisingly, the #1 question was, “what will get you to change your mind?”


Generally when I get that question it has to do with US Equities. Which is fair – that’s not what I do in considering globally interconnected growth and inflation expectations, but it’s what most people are paid to do.


We’re obviously long Chinese Equities (CAF), German Bunds (BUNL), and US Treasuries (TLT) right now – those 3 asset allocations have done well during the last 6 weeks of Growth Slowing. So has cash.


Back to answering the question on US Equities, the answer is as simple as the repeatability of our risk management process. I have 2 baseline scenarios that my team and I are constantly considering:

  1. Strong Dollar = Strong Consumption = Accelerating US Growth
  2. Down Dollar = Accelerating Inflation = Growth Slowing

In Macro, what happens on the margin matters most. That’s why we are so focused on the Causality of Fed Policy. If you get the changes on the margin of Fed Policy right, you’ll get the US Dollar right. If you get the big moves in the US Dollar right, you’ll get the big beta moves in US Growth and Inflation Expectations right.


What would get me to change my mind on US Equities (particularly Consumption Growth oriented Equities – not Energy and Basic Materials stocks), is more of what we have seen in the last 48 hours – an arrest of the US Dollar’s decline and a fall in the inflation tax on US Growth (Food and Energy prices).


The most common and relevant follow on question I had to what would make me bullish is “why doesn’t Bernanke do Qe again?” Sadly, my answer to that is that he very well could. That’s what he arbitrarily did on January 25th(pushing his 0% rate of return on American Savings accounts to 2014), and there’s no reason why a man fighting for his academic career risk wouldn’t do it again.


Since Bernanke has been completely politicized, the timing of the politics (US Presidential Election) matters:

  1. If Bernanke is going to implement the iQe4 upgrade it’s most likely to happen in the next 2 months
  2. If Bernanke drives an iQe4 upgrade for Oil prices deep into the election debate (September), Obama might fire him too
  3. If/when Bernanke starts to leak “news” of iQe4, you’ll likely see it in the price expectations of USD, Gold, and Oil

So, today is a great day in America because you don’t have an Un-elected Central Planner devaluing the Dollar and driving up expectations for another Qe.


That may change if the jobless claims number is as bad as they have been for the last month (up +15% versus where jobless claims were in mid-March). But, for now, Mr Macro Market is saying no Qe (yet) = Up Dollar, Down Gold, Down Oil.


Timing Matters, so do our risk management levels:

  1. US DOLLAR: our long-term TAIL line of $76.13 has held and now we’re going to re-test intermediate-term TREND of $79.55
  2. GOLD: remains in a Bearish Formation (broken across all 3 durations, TRADE/TREND/TAIL); TREND resistance = $1689
  3. OIL: Brent finally snapping its intermediate-term TREND support of $119.17 today – that’s new (bullish for Consumers)

This is why I do what I do every morning. I never know what the market is going to give me, but I am very comfortable embracing that uncertainty – primarily because my process does. Market moves pick me; I don’t pick markets.


What’s uniquely perverse about all of this is that investors seem to really fear Bernanke’s next move. My sense yesterday was that multi-duration thinkers know that another Qe would give this country $5-6 at the pump, but it would still cause one heck of another short-term rally in stocks.


Trying to empathize with that unique career risk of our profession (short-term relative performance chasing) is as important as empathizing with what it means to a retired fireman like my Dad. If you are living on a fixed income, you do have to pay non-“transitory” prices at the pump.


It all matters. It’s all interconnected. And if we don’t start empathizing with what Burning the US Dollar at the stake means to the 99% of people on this planet, I think we’ll lose whatever respect they have for us that’s left.


My immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, and the SP500 are now $1, $117.71-119.17, $79.02-79.55, and 1, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Empathetically Bullish - Chart of the Day


Empathetically Bullish - Virtual Portfolio

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