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HedgeyeRetail Visual: Mid-Tier Share Shift

With nearly $270mm in mid-tier share up for grabs in June, the off-price channel is the big share gainer.

 

If we assume that the underlying 2yr revenue trend of ~-8% from JCP’s first quarter remained consistent in June, this would imply revenues down ~14% for the month creating a loss of ~$230mm. Adding on the $40mm in sales that KSS ceded in June at a time when it should be benefiting from JCP's strategic mishaps, we estimate a total of $270mm in mid tier share was up for grabs.

 

With M’s revenue growth slowing from +$80mm to +$20mm in June, we think the off price retailers have been the biggest beneficiaries of JCP's & KSS’ lackluster execution. Assuming half of ROST & TJX’s domestic dollar growth was in categories overlapping with JCP/KSS, the two combined account for ~40% of the share ceded in June. As we've been saying, Ron Johnson better be aware that the off price competition is indeed snagging a large portion of the sales he’s losing. It won’t be easy to recapture these customers from the off-price channel even if the new strategy gains traction in 2H.

 

HedgeyeRetail Visual: Mid-Tier Share Shift - JCP share loss 

 


KSS: Trade Idea Alert

Keith added KSS to the Hedgeye Virtual Portfolio today on the short-side of what appears to be a world-class squeeze. While KSS may look cheap today trading at just above 9x 2013 consensus EPS, valuation is irrelevant at this point given the fundamental event risk we see throughout 2013.

 

Here are some factors that we expect will continue to weigh on performance:

  • JCP isn’t the only mid-tier retailer ceding share of late – so too is KSS. We’re seeing the consumer shift increasingly to both the off-price channel as well as the dollar stores. In reality, some of these customers are gone for good while the balance will require incremental spending in the form of marketing, systems, and likely personnel to win back.
  • To that end, with both sales and gross margins coming in light last quarter, KSS’ saving grace was to pull back on SG&A materially to salvage EPS. This suggests the prior point is not likely to turn near-term.
  • KSS ended 1Q12 with the sales to inventory spread sitting near 3 year lows of -5% as operating margin compares become less favorable over the next 2 quarters and it implements EDLP. Additionally, KSS highlighted unit inventories +2% in June however May unit inventories were down -5% with dollar inventories +7%. We sense that the 7 point sequential swing in unit inventory growth into June implies an even greater build in dollar inventories. In light of sales running -2.6% in both May and June, it is likely the sales to inventory spread has deteriorated further headed into the last month of the quarter.  
  • Given June sales results, July will have to come in +6.5% in order to simply meet consensus expectations for a -1.3% Q2 comp (updated Q2 guidance provided after the May miss calls for a modestly negative comp). With compares easing into July, a +6.5% comp implies a 70bps deterioration in the 2yr trend but regardless, this is no ‘gimme.’
  • FY11 Revenues grew 2.2% with E-comm accounting for 1.5% of the annual growth and new stores contributing 2 points to the top line. The core KSS business contracted. Dot.com is great, but KSS’ brands are simply not powerful enough to drive the top line long-term.
  • Lastly, with TRADE and TREND levels of support at $44.26 and $47.87 respectively, it’s sitting at a point where the fundamentals and price mesh well within Hedgeye’s Risk Management framework.

 

KSS: Trade Idea Alert - KSS TTT


2H Setup Still Looking Weak

More reasons to be short vs long coming out of June sales. 

 

Our major themes and ideas remain largely unchallenged by June SSS. 

1) Battle taking place for dominance in the mid-tier, with ensuing ripple effect through supply chain. Short M, JCP, KSS, JNY, HBI, CRI

2) Off-price retailers taking disproportionate share from the mid-tier -- which will be tough to recapture (psychologically and economically). Short JCP -- though the off price model is not being challenged today, but it will be in 3-6 mos -- a consideration for TJX and ROST.

3) May of last year was when the draw down in saving and increase in revolving credit first started to benefit personal consumption. This trend accelerated from July through September at which point it accounted for more than half of the increase in consumption. As such, come 2H personal consumption growth at the current rate is likely to become increasingly stressed.


Mid-Tier Remains in the Spotlight: of the 10 misses reported this morning, KSS (-4.2% vs +2.8E), GPS (0% vs. +0.4E) and M (+1.2% vs. +2.5E)  were noteworthy given the market share JCP has put up for grabs.

KSS: KSS highlighted Men’s as the outperforming category though its comp was flat in June- all other categories were negative. Interestingly, KSS only provided inventory unit growth which was +2% in June. In May however, unit inventories were down -5% with dollar inventories +7% on -2.6% revenue growth creating a ~-10% sales to inventory spread. With sales -2.6% again in June (and unchanged from May), the +2% unit inventories relative to -5% in May suggests a further deterioration in the spread. While KSS guided Q2 to the low end of its $0.96-$1.02 range (in line with consensus at $0.96), July comps need to come in +6.5% to hit the consensus -1.3% Q2 comp.

GPS: Although GPS’ June performance was just shy of expectations, there was a notable acceleration in the underlying 2 yr trend across all concepts domestically (int’l slowed). Regardless, it’s no surprise that GPS is comping years of a contracting business and will need to accelerate growth further to meet expectations with FY12 guidance sitting at $1.78-$1.83 relative to consensus of $1.94E.

M: While we don’t consider M (+1.2% vs. +2.5E) to be a mid-tier retailer, the month’s miss is notable in that M has been the only company to outright attribute some of its strength to share gains from JCP. Recall M guided June comps to be slightly below the +3.5% Q2 guidance suggesting the month’s performance was shy of internal expectations. M now needs to comp +6% in July to reach the +3.5% consensus (and guided) Q2 comp which implies a 150bps acceleration in the 2 yr trend relative to June- no easy task. A slowdown at M as well as light results out of GPS  & KSS suggests more share is being eaten up by the off pricers.

No Slowdown for Off Price Retail: ROST (+7% vs. +4.5E) and TJX (+7% vs. +3.3E) both posted strong June beats with 2 yr comps accelerating sequentially for both retailers. Both companies increased guidance for the quarter and highlighted inventories as a positive. ROST average in store inventories ended -5% in June with TJX describing them “in great shape and turning fast.” We expect JCP customers to continue to flock over to off price concepts and see little pricing risk in the subsector given excellent inventory positioning headed into 2H.

High End Rebounding: After a slowdown relative to mid and low end retail over the past 2 months, JWN (+8.1% vs. +4.2E) & SKS (+6% vs. +4.2E) posted strong June results. Outperformance drove a boost in the spread between high-end retail and the rest of the Monthly comp sample to 4 points vs. 1 point in April. Notably, JWN highlighted sales as consistent throughout the month with the final week the strongest suggesting high end strength headed into July.

LTD: LTD continues to outperform (+7% vs. +2.4E) posting the biggest beat in June (4.6 points) with Victoria’s Secret comps accelerating +11% at both Brick and Mortar and Direct. With sales growth improving sequentially (-0.3% vs. -6.3% in May) and inventories coming down (+10% per square foot vs. +11% in May), the sales to inventory spread jumped 7 points with LTD already highlighting merchandise margins as having been up significantly.

 

2H Setup Still Looking Weak - monthly SSS

 

2H Setup Still Looking Weak - high low chart

 

2H Setup Still Looking Weak - TGT grid

 


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IGT: TRADE IDEA ALERT

Keith bought IGT in the Hedgeye Virtual Portfolio at $15.74.  According to his model, the TRADE support is at $14.82 and the TREND support is at $15.31.

 

 

With good earnings visibility over the next few quarters and an aggressive stock buyback, we believe there is limited downside to the stock.  Positive catalysts include a potential FQ3 earnings beat and strong international sales which would lead credence to the company's aggressive international market share goals.  We remain positive on the slot sector as we think the industry is in the early innings of a 3-5 year bull cycle. 

 

IGT: TRADE IDEA ALERT - igt

 



JOBS: Built Ford Tough

Weekly jobless claims fell to a 6 week low, dropping 14,000 to a seasonally adjusted 374,000. It signals layoffs are easing and that’s welcome news. But an interesting bit of data shows that the better-than-expected data is courtesy of American automaker Ford (F).

 

 

JOBS: Built Ford Tough - F joblessclaims

 

 

In the 27th week of the year, Ford normally idles 13 of their production plants in the US for two weeks, allowing their employees to collect unemployment insurance. This causes a temporary but larger jump in the amount of claims traditionally. This year, Ford decided to only idle plants for a single week, allowing for a quicker recovery in the numbers.

 

On a non-seasonally adjusted basis, claims fell 3000. NSA rolling claims are improving at a rate of around 7% year over year, which is a further decline in the rate of year over year improvement. While it may appear that Ford’s need to continue cranking out cars and trucks is a positive for the US economy, the YoY change is a worrisome sign of things to come.

 

 

JOBS: Built Ford Tough - JOBLESS claims2


July ECB Presser YouTubed

--Below we’ve dictated the major highlights from the ECB’s Q&A press conference this morning. A few key take-ways include that President Mario Draghi gave little color on the size, shape, or scope of a European banking authority (as discussed at last week’s EU Summit), including if the ECB would be a backstop for the future facility.  He continued to highlight that the pass-through effects of the LTROs have not been fully realized and gave no further detail on future measures such as another LTRO or the re-engagement of the SMP down the road. Speaking less to the duty of individual governments to stay the course of fiscal consolidation, Draghi’s comments suggested that there’s still a long road to sorting out a banking supervisory mechanism in this highly “fragmented” environment for banks and sovereigns, as lending from either the EFSF and future ESM could have different consequences for the banks and sovereigns. Draghi did not rule out future interest rate cutting, and noted that economic growth remains weak, with “heightened uncertainty weighing on confidence and sentiment.”  In our assessment, today’s 25bps cut leaves the door open for future cuts into year-end.

 

At the Governing Council of the ECB meeting today the ECB cut the interest rate on the main refinancing operations by 25bps to 0.75%; cut the interest rates on the marginal lending facility by 25bps to 1.50%; and cut the deposit facility 25bps to 0.00%.

 

You can find Mario Draghi’s Introductory Statements to the press conference related to inflation, growth and monetary outlook here. We have no major changes in language versus June's script to highlight. 

 

 

Highlights from the Q&A:

 

-We see a divergence in bank lending across Europe, and heightened risks in Spain and Italy. What can be done to mitigate these risks?   MD: The idea that the ECB could channel funds via a bank lending channel to a specific category of firms or households is as wrong as those that say the ECB shouldn’t buy government bonds. Both ideas are very hard to implement. What the ECB has done is broadened collateral standards to be more inclusive of all banks.

 

-What if Italy needs aid? Is the structure of EFSF/ESM large enough?   MD: No answer.

 

-Will all banks be included in a pan-European banking supervisory?   MD: It’s too early to answer these questions. A few general messages: (1.) The EU council has made important steps towards a financial market union. Leaders committed substantial political capital towards a union. (2.) Whatever the proposal will be, the ECB should be placed in a task to carry it out in an independent way without risk of its reputation. (3.) Any new task should be separated from monetary policy tasks. (4.) The ECB should remain independent to carry out this work. (5.) We will work with national supervisors (National Central Banks). ( 6.) New tasks will be given a higher level of democratic accountability.

 

-Is the ESM big enough, large enough in scope?  MD: How big is enough? We know what we have. We have to make it work. I think that the ESM and EFSF with their new modalities are adequate to cope with the risks/contingencies that we can envisage now.

 

-Should the ECB back the ESM and give it a banking license?   MD: We believe the institution should hold up to its mandate. As we speak the details of this issue are still being discussed. [ = non answer]

 

-Was the decision to cut 25bps unanimous?   MD: Unanimous.

 

-With your decision to cut the deposit rate to 0%, what’s your response that banks are still not using the money to pump it into the economy?   MD: We still need time to see the impact of two LTROs.

 

-Will we see additional LTROs or temporary measures?   MD: We never pre-commit.

 

-How much coordination today, with Bank of China and BOE?   MD: No coordination beyond normal exchange between central banks.

 

-There has been talk that ECB staff feels overworked given the environment over the last two years. Is this an operational risk and are there plans to hire more staff?  MD: We’ve taken some measures to alleviate this stress and we may increase resources. 

 

Matthew Hedrick

Senior Analyst


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