The Economic Data calendar for the week of the 21st of May through the 25th is full of critical releases and events. Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.
-- Below is a condensed version of our thinking on why Greece is shooting itself in the face if it decides to leave the Eurozone and why Eurocrats are motivated to keep it in the Union. For more specifics, please contact me at to set up a call.
No Current European Positions in the Hedgeye Virtual Portfolio
Asset Class Performance:
On Why Greeks Shouldn’t Leave the Eurozone/EU:
Below is a condensed version of our thinking on why Greece is shooting itself in the face if it decides to leave the Eurozone and why Eurocrats are motivated to keep it in the Union. As preface to the commentary below, importantly, we DO think that a currency union governing highly uneven economies and culturally divided populations with one monetary policy is a flawed structure. Additionally, we DO NOT think that states will give up their full fiscal sovereignty to Brussels and the region will run into the same flaws witness by the Growth and Stability pact. We DO think that fiscal consolidation targets across many of the PIIGS are unrealistic, and that the stronger states, Germany in particular, will continue to subsidize the weak to keep the exiting membership structure intact, as it’s to Germany’s benefit from a currency and export market perspective.
As it relates to Greece specifically, we expect Eurocrats to rhetorically take a hard line on the real possibility of a Greek default as to encourage the future leadership of Greece (and the Greek people themselves) that bailout funds are contingent on upholding austerity. While we view it highly likely that terms on austerity could be reduced (and not just for Greece), ahead of June 17th elections in Greece, Eurocrats must signal to the Greeks that their fate is tied to their vote: for or against austerity, which will impact if it stays or leaves the Union. Germany’s Finance Minister Wolfgang Schaeuble nicely states this point:
“If Greece decides not to stay in the Eurozone, we cannot force Greece. They will decide whether to stay in the euro zone or not.”
Here’s a taste of the hard line put forward this week from key Eurocrats:
We are NOT of the camp that there will be an imminent exit of Greece from the Eurozone and EUR, despite recent headlines and even polls like one recently released from Bloomberg that recorded a 50% chance Greece exits the Eurozone this year. The main points that support our position are:
However, we’re well aware that Greece teeters with one foot in the Eurozone (surviving on bailouts from Troika) and one foot out (by most measures the country has defaulted), and we can’t rule out that a catalytic force like a massive run on the banks (beyond what’s already left the country) could come in a matter of days. Such an event, short of the ECB backing Greek deposits, would spell a swift exit.
Why Greece Leaving the Eurozone/EUR is NOT to its competitive advantage:
From a cultural and economic perspective, it is also worth noting that Greeks have witnessed a relative prosperity in the 2000s under the EUR. Although this prosperity was propped up by fudged government books and cheap loans from European banks, nevertheless it’s worth consideration that Greeks still identify prosperity with the EUR. Therefore, the poll suggesting 78% of Greeks want to stay in the Eurozone and with the EUR, is not surprising. Further, it’s our view that Greeks view the financial health of the country tied to Troika’s handouts. If the line of funding is severed, we do not expect this to be viewed positively by the populous, a position which politicians will be forced to address in elections.
The latest poll from MARC/Alpha survey, conducted on May 15-17, showed that New Democracy would win 26.1% of the vote compared with 23.7% for Syriza (the anti-austerity party). It added that based on this result, New Democracy would win 123 seats. Combined with the 41 seats projected to be won by Pasok, Greece's two major bailout parties would have a 14-seat majority in the 300-seat parliament. You’ll note that in a previous poll conducted before talks to form a government collapsed, Syriza led with 27.7%, up seven points over New Democracy. We think the shift is representative of a populous that understands it needs to play ball with Brussels despite its resistance to austerity.
CDS Risk Monitor:
Week-over-week CDS was up across the main countries we track. Portugal saw the largest gain in CDS w/w for a second straight week, +109bps to 1184bps, followed by Ireland +90bps to 683bps, Italy +61bps to 517bps, and Spain +39bps to 553bps.
Eurozone CPI 2.6% APR Y/Y
Eurozone Industrial Production -2.2% MAR Y/Y (exp. -1.4%) vs -1.5% FEB
-0.3% MAR M/M (exp. 0.4%) vs 0.8% FEB
Eurozone ZEW Economic Sentiment -2.4 MAY vs 13.1 APR
EU 25 New Car Registrations -6.9% APR Y/Y vs -7% MAR
Eurozone Trade Balance SA 4.3B EUR MAR vs 4B EUR FEB
Germany ZEW Current Situation 44.1 MAY (exp. 39) vs 40.7 APR
Germany ZEW Economic Sentiment 10.8 MAY (exp. 19) vs 23.4 APR
Germany Wholesale Price Index 2.4% APR Y/Y vs 2.2% MAR
Germany Producer Prices 2.4% APR Y/Y (exp. 2.5%) vs 3.3% MAR
0.2% APR M/M (exp. 0.3%) vs 0.6% MAR
UK Jobless Claims Change -13.7K APR vs -5.4K
UK ILO Unemployment Rate 8.2% MAR Y/Y (exp. 8.4%) vs 8.3% FEB
France CPI 2.4% APR Y/Y vs 2.6% MAR
Italy CPI 3.7% APR Final Y/Y vs 3.8% MAR
Italy Industrial Orders -14.3% MAR Y/Y vs -13.2% FEB
Spain Q1 GDP Final -0.3% Q/Q vs -0.3% in Q4
Spain Q1 GDP Final -0.4% Y/Y vs +0.3% in Q4
Austria CPI 2.3% APR Y/Y vs 2.4% MAR
Switzerland Credit Suisse ZEW Survey -4 MAY vs 2.1 APR
Switzerland Producer and Import Prices -2.3% APR Y/Y vs -2.0% MAR
Portugal Unemployment Rate 14.9% in 1Q vs 14% in Q4
Portugal Producer Prices 3.6% APR Y/Y vs 3.7% MAR
Finland CPI 3.1% APR Y/Y vs 2.9% MAR
Netherlands Retail Sales 2.2% MAR Y/Y vs 1.1% FEB
Slovakia CPI 3.6% APR Y/Y vs 3.8% MAR
Slovakia Industrial Orders 13.5% MAR Y/Y vs 10.6% FEB
Interest Rate Decisions:
(5/16) Iceland Sedlabanki Interest Rate HIKE 50bps to 5.50%
The European Week Ahead:
Sunday: NATO Summit in Chicago
Monday: European Parliament Plenary (May 21-24); Mar. Eurozone Construction Output; Mar. Eurozone Current Account
Tuesday: Eurozone OECD Economic Outlook; May Eurozone Consumer Confidence – Advance; Apr. UK Public Finances, Public Sector Net Borrowing, CPI, Retail Price Index; Mar. UK ONS House Price
Wednesday: Summit of EU leaders to Discuss Growth; Mar. Eurozone Current Account; May UK CBI Trends Total Orders and Selling Prices; Apr. UK Retail Sales; May Italy Consumer Confidence; Mar. Greece Current Account
Thursday: May Eurozone PMI Composite, Manufacturing, and Services – Advance; May Germany PMI Manufacturing and Services – Advance, IFO Business Climate, Current Assessment, and Expectations; 1Q Germany GDP – Final, Domestic Demand, Exports, Capital Investment, Govt Spending, Construction Spending, Imports, Private Consumption; Apr. UK BBA Loans for House Purchase; 1Q UK GDP, Private Consumption, Govt Spending, Gross Fixed Capital Formation, Exports, Imports, Total Business Investment, Index of Services – Preliminary; May France PMI Manufacturing and Services – Preliminary, Production Outlook and Business Confidence Indicator; Mar. Spain Mortgages-capital loaned; Mortgages on Houses
Friday: Jun. Germany GfK Consumer Confidence Survey; May France Consumer Confidence Indicator; Apr. Spain Producer Prices; Apr. Italy Hourly Wages, Retail Sales
Keith bought BYD in the Hedgeye Virtual Portfolio at $7.01. According to his model, the TRADE range is $6.88-$7.14 and the TREND resistance is at $7.24.
BYD recently announced the acquisition of Peninsula Gaming which has the potential of transforming investor sentiment to the positive. The sell side is almost universally negative on BYD and short interest is high. Aside from being hugely EPS and FCF accretive, the acquisition adds stable and growing cash flow without increasing leverage. Following a solid Q1 beat on all metrics, we are also optimistic on BYD’s Q2 and 2012 earnings. Even though it has been only one month, Borgata has been holding up better than expected in the face of the opening of Revel and BYD’s regional properties continue to outperform.
BYD looks very cheap on existing and the higher, realistic estimates. While facing the same long-term issues as other domestic gaming companies – tough demographics and ties to housing prices – BYD is relatively undervalued with more upside to 2012/2013 estimates.
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Solid quarter out of FL coming in at $0.83 vs. $0.74E and above even our $0.81 expectation. Strong top-line results suggest that concerns over the European impact are in check, or at least not elevating. Comps came in at +9.7% slightly higher than our +9% estimate and well above consensus (+6.7%E). While we don’t have detail into the exact composition yet (the call is at 10am), we suspect domestic comps came in low-teens offset by a 3-4pt drag from international business. We should also get a current read on the month-to-date sales both domestically and out of Europe.
Gross margins and SG&A both came slightly better than we expected. This suggests FL was able to generate added merchandise margin despite higher costs in addition to ~100bps of occupancy leverage and tighter cost control, which most likely came from corporate costs with marketing dollars headed higher.
As for inventories, this quarter marks the tenth consecutive quarter of positive sale/inventory spreads and a sequential improvement in fact up 3pts to +10% against tough comps. Positive spreads and gross margin expansion continues to be the new normal for FL and the expectation – such a departure from years past.
We’re now more than half way through 1H, which we’ve highlighted as the period when we’d expect more modest upside in performance given tougher comps and slowing growth particularly in Europe. So far, the company is managing through these challenges just fine. If Q2 is navigated with similar success we are looking at increasingly easier compares in 2H and $2.50 in EPS within reach. As noted earlier this week, we like this one here.
“I don’t know what a monopoly is until someone tells me.”
Takeaway: On conventional metrics Facebook is expensive and it has a business model in flux, but the sticky and engaged user base may actually be undervalued, even at a $100+ billion market capitalization.
At this point, there should be little debate on whether or not the Facebook IPO will be successful. The books closed ahead of schedule and the offering was upped in both price and size of issuance. We’ve also heard reports that in Asia the offering is 25x oversubscribed. These facts suggest that there is ample short-term demand by investors who want to own a piece of Facebook. This will likely ensure that the company gets a sizeable IPO pop tomorrow and in the ensuing days as index-related investors need to balance their portfolios.
Currently the most prominent question on investors’ minds relating to Facebook is valuation. That is, at the IPO price will Facebook be undervalued, overvalued, or fairly-valued? Based on any conventional valuation techniques, other than perhaps a long-run discounted cash flow valuation, there is no question Facebook is expensive.
Assuming an IPO price of $38 per share, which implies a market capitalization of just under $100 billion based on the fully-diluted share count (the company will also have $10 billion in net cash on a pro-forma basis), Facebook will be trading at 27x 2011 revenue and 19x 2012 projected revenue. On an earnings basis, Facebook will be trading at 81x 2011 EPS and 65x 2012 EPS. As the company hasn’t given 2012 guidance, we have simply projected forward the Q1 2012 revenue growth rate for the duration of the year and kept margins stable.
Compared to the five horsemen of technology, Apple, Microsoft, Google, Oracle and Cisco, Facebook will be trading at a massive premium. In fact, Google, which is the most richly-valued of those five and on some level the best proxy for Facebook given its focus on advertising revenue, is trading at a comparatively palatable valuation of 5.8x 2012 sales and 14.6x 2012 EPS. The counter case to Facebook being expensive is LinkedIn, which has a valuation of 158x 2012 EPS.
So, yes, Facebook is expensive on actual multiples, but this is also reflected in broad investor sentiment. In fact, 79% of respondents in a recent Bloomberg Global Poll of 1,252 investors, analysts and traders said Facebook doesn’t deserve a valuation so high. This was supported by a similar poll from the Associated Press and CNBC in which only 1/3 of respondents feel the value is appropriate. So, saying Facebook is expensive is far from contrarian.
Other than valuation, the other key critique of Facebook is that the company has not figured out its business model. Once again, there is validity in this criticism. Currently, Facebook has two revenue streams. The first is advertising in which advertising revenue is generated from traditional display ads and Facebook is paid based on the number of impressions delivered or the number of clicks per user. The second revenue stream is fee related. In effect, Facebook gets a cut of all fees paid from Facebook users to its development community. The game developer Zynga is by far the largest contributor in this segment and contributed 19% of overall Facebook revenue in 2011 (12% from actual fees and 7% from advertising revenue generated on Zynga’s app pages).
The dichotomy of these two revenue streams really exemplify Facebook’s key business model challenge. Facebook’s current advertising revenue stream will likely never enable the company to justify its current valuation, or at least as long as only 13% of advertisements are social based. Currently, Google’s advertising model is far and away superior to the Facebook advertising model. According to some estimates, Google’s search advertising revenue is more than 100x more per page view than Facebook’s. That said, per Nielsen Media, Facebook does generate a superior ROI to advertisers versus more traditional banner advertisements, but it is still nowhere near the return that Google gets. In fact, some advertisers rave about Facebook, while others, most notably General Motors, have completely pulled their advertising from the social network.
The struggle with the current advertising business model and inability to totally monetize the user base is reflected in average revenue per user (ARPU). In Q1 2012, according to the Facebook Prospectus, global ARPU was $1.21. This was a 12% decline from Q4 2011, albeit ARPU still grew 6% from Q1 2011. Clearly, though, ARPU is not yet accelerating at rate that Facebook would like and, as a result, the rate of quarterly year-over-year revenue growth is decelerating. As a result, in Q1 2012 Facebook grew revenue at 45% year-over-year versus an average year-over-year growth rate of 95% over the prior four quarters.
An interesting positive note, though, is that ARPU globally is substantially lower than in the mature markets of the United States and Canada. Specifically, in Q1 2012 ARPU in the U.S. and Canada was $2.86, in Europe it was $1.50, and in Asia was $0.53. Arguably, this highlights the potential in ARPU, based on the current business model, to expand over time as global Facebook markets mature and ARPU reverts closer to levels in the U.S.
As noted above, Facebook’s second revenue stream of payment and fee processing really speaks to the future potential of the business model, which is to create new markets that leverage history’s largest social network / platform. In Q1 2010, Facebook generated $5 million in revenue from payments and other fees and in Q1 2012, just two years later, Facebook generated $186 million.
To date, games from Zygna have generated the majority of these fees. A large part of which comes from the purchase of virtual goods as Facebook collects 30% of the face value of user purchases from Zynga games on the Facebook Platform (this agreement expires on May 2015). Incidentally, the virtual goods industry, which did not exist before Facebook, is projected to have eclipsed $11BN in 2011 according to IDC. New industries create new revenue opportunities.
Ultimately, the true value in Facebook is in its core asset: the user base. The growth trajectory of Facebook users has been both staggering and, truly, without parallel. As of Q1 2012, Facebook had 901 million monthly active users and 526 million daily users. On a monthly basis, almost 40% of the world’s internet users login to Facebook. Despite anecdotal talk of Facebook fatigue, its daily user count grew 42% y-o-y in Q1 2012, which implies that users are both sticky and not fatigued.
Certainly, at a point the law of large numbers kicks in and user growth will begin to slow. In the U.S. and Canada, penetration is nearing 60%. Further, according to Facebook’s IPO road show video, 81% of Americans between the ages of 18 – 35 have a Facebook account. Few businesses in history have gained more than 80% market share.
Conversely, on a global basis penetration is much lower. Most notable is China, which effectively has no Facebook users. India may be a good proxy for what could happen in China as Facebook users in India have grown from 37 million to 45 million in the last 6 months. At 60 million, roughly 2/3rds of the online population in India will be on Facebook.
Most importantly, Facebook users appear very engaged. The 901 million monthly users have 125 billion friendships. Meanwhile, the 526 million daily users upload 300 million photos per day and make 3.2 billion comments or “likes” per day. Further, according to research from Nielsen Media in August 2011, the average U.S. user spent 7 hours and 45 minutes on Facebook per month. This is almost 4x the time the average user spent on Google and roughly 25% of their total online time of 30 hours per month. As the chart below from comScore highlights, this engagement is only accelerating.
Even more interesting are the mobile trends related to Facebook. According to the latest report from comScore, as of March 2012 the average mobile user spent 441 minutes on Facebook’s mobile site and 391 minutes per month on its classic site. Facebook mobile in the U.S. also reached 80% penetration of the mobile market. The downside to growth in mobile, as Facebook noted in its in IPO road show, is that it is more challenging to sell mobile advertisements. The upshot is that Facebook users are becoming even more engaged and the users who logs in both on the mobile platform and the classic platform are spending almost 14 hours per month on Facebook.
The key consideration when contemplating investing into the Facebook IPO is not the current valuation, but whether Zuckerberg (who controls more than 55% of the voting stock) has truly created a cheap option on the future value of the fastest growing social utility in this history of the world. Our guess is that most traditional media companies would actually say buying a daily user base of 526 million users, that have almost 7 interactions per day, and spends more than 8 hours per month on the site for roughly $190 per user is actually cheap. Ultimately, Zuck is going to have to sell these users more than just hoodies to satisfy Wall Street, but with a monopoly like 50%+ plus market share and growing we like his chances.
Daryl G. Jones
Director of Research
The Macau Metro Monitor, May 18, 2012
MACAU PENINSULA OPERATIONS NOT AFFECTED AFTER GAMING SHIFTS TO COTAI Jornal Va Kio, Macau Business
Macau Secretary for Economy and Finance Francis Tam says with the focus of the gaming industry shifting towards Cotai, this does not mean there are hotels and casinos that will withdraw from the Macau Peninsula. Tam believes casino operators will still develop their business in the Macau Peninsula and seek for more development opportunity in Cotai. Tam also said that the fact that Wynn Macau received approval for its Cotai project does not mean gaming will totally shift away from the peninsula, even though there is evidence, he says, that the gaming industry is gradually moving to Cotai.
The government is now working closely with the casino operators to study the move to remove slot machines parlors out of residential and non-business area after the introduction of administrative regulations. In addition to the schedule of removing slot machines from residential areas, Tam believes once the related rules and regulations have been completed, it can be implemented prior to the change of the government in 2014. There are only two slot machine parlors in residential areas: the SJM Yat Yuen Canidrome Slot Lounge in Fai Chi Kei and Mocha Marina Plaza parlour in Rua de Pequim.
COURT ASKS MORE DETAILS ABOUT OKADA'S REQUEST Macau Business, Bloomberg
Clark County District Court Judge Elizabeth Gonzalez has allowed Mr. Okada to amend his request for more WYNN documents. Earlier, Okada’s attorneys had requested that WYNN turn over records related to, among other things, the company entertaining and spending money on Macau officials in connection with its acquisition of a casino license in 2002.
The judge set a for June 28 hearing date to decide which, if any, documents WYNN should produce for Okada.
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