“But you go through and scare the game and your cattle eat the grass so the buffalo leaves and the Indian starves.”
That’s one of the most important quotes from one of the most important leaders of 19th century Western American history. I’d bet that a large percentage of Americans don’t know who the Principle Chief of the Comanches was (or why what he did for the US cattle business between 1 was so critical).
That’s why I read so much history. It helps me contextualize longer-term investing themes within the boundaries of how humans are forced to make short-term decisions. Ultimately, the Comanches traded their long-term liberties for short-term “Grass Money.” If you know anyone begging for bailouts, for the love of the country, please ask them to think about that.
As S.C. Gwynne reminds us at the end of Empire of The Summer Moon, the same kind of question should be on your mind this morning about devaluing your hard earned currency for the sake of short-term asset price inflations - “whether or not the Indians should do what everyone else in America did: lease.” (page 297)
Back to the Global Macro grind…
If Grass Money killed the buffalo, Fiat Fool Money is going to kill whatever is left of your “free” markets. On the heels of China and India reporting another round of #GrowthSlowing data overnight, “futures rally on hopes for Chinese stimulus.”
Alrighty then. I guess we’ll suspend economic gravity for another day.
Here’s the China data, in context:
- Industrial Production growth = +9.2% y/y vs +9.5% in June of last year
- Retail Sales growth = +13.1% y/y vs +13.7% in June of last year
- Fixed Asset Investment growth = flat y/y at 20.4%
A) On the margin (where risk managing macro matters most) growth continues to slow
B) These are hardly the “freak-out” recession or stagflation type levels of growth requiring a Geithner-like bailout
C) Chinese stocks were up a whopping +0.6% on the “news” (still down -12% from where they were in May)
In May, not only Chinese growth, but global growth really started to accelerate on the downside. That’s why almost every major stock market in the world stopped going up in March-April. Markets discount future events.
But what are they discounting now?
A) The long-term (TAIL) of lower-highs on lower volume (bearish)
B) The immediate-term (TRADE) short squeeze (bullish)
C) The ongoing hope that bailouts will earn everyone a year-end bonus sticker
Hope, of course, is not a risk management process. Timing matters. If you bought beta (the Russell2000) in March-April, you’ve lost money. If you bought the wrong stocks (MCD, PCLN, CAT, etc.) in March-April, you’ve lost a lot of money.
This morning you either buy or sell. And I think that if you buy beta today (SPY or IWM – pick your major US index), come September-October, you’ll lose a lot more money too.
Rule #1, don’t lose money.
Rule #2, don’t forget Rule #1.
Rule #3, don’t smoke Grass Money when central planners are trying to have you forget Rules #1 and #2.
My immediate-term support and resistance risk ranges for Gold, Oil (Brent), US Dollar, EUR/USD, Russell2000, and the SP500 are now $1, $108.03-113.18, $81.72-82.64, $1.22-1.24, 788-803, and 1, respectively.
Bes of luck out there today,
Keith R. McCullough
Chief Executive Officer
Jack in the Box reported a solid quarter, albeit one that caused confusion in after hours trading, beating EPS on an adjusted basis and raising FY12 EPS guidance. The only slight disappointment was Qdoba same-restaurant sales, particularly among the franchised locations. JACK remains one of the “cheapest” companies in the space from a valuation perspective. We expect this multiple to be revised higher over the next three years.
Restaurant level operating margins were particularly robust, increasing by 4% year-over-year. The most important news from the quarter was the company’s decision to outsource its distribution business. While there are little details about the impact on financials, our initial reaction would be positive; selling non-core assets currently used in this business will be positive for returns and margins.
During the first four weeks of 4QFY12, according to the press release, same-restaurant sales have tracked above 3Q results. For the full fiscal year 2012, management raised the mid-point of the EPS guidance range by 10% to $1.53 (consensus $1.43) on the back of higher Jack in the Box same-restaurant sales guidance slightly offset by lower Qdoba same-restaurant sales guidance.
We continue to believe that this company is well positioned to continue to produce results worthy of a higher valuation multiple as the restructuring of the company enhances future profitability, margins, and returns. At 7.2x EV/EBITDA, with EBITDA growth accelerating ahead of expectations, we believe that JACK could see 2-3 turns in multiple expansion. On this basis alone, Jack in the Box has $10-15 in upside from the current stock price.
Daily Trading Ranges
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MGM’s earnings report for Q212 was a largely negative story across the board. Our bearish stance on the company continues as worse-than-expected numbers hit several metrics at the company, which we’ve outlined below. The story here is bookings: basically, people aren’t booking hotel rooms as much as the industry would have hoped.
Hedgeye Gaming Sector Head Todd Jordan broke down the bookings situation as follows:
• The convention mix was a little worse than expected. While MGM predicted convention mix to increase YoY during 2Q [at least +1%], there was a patch of softness from May-June that led to a drop off in yearly convention bookings. MGM’s convention mix for 2012 is trending at about the 14-15% mix level (2011 mix was 14.7) which is below earlier predictions.
• While MGM predicted RevPAR growth for the year to be at least mid-single digit, 3Q RevPAR will be down slightly with weakness in bookings in May/June. Our analysts think it’s too early to make a call on how 4Q will shake out.
Revenue per available room (RevPAR)is only going to get worse and this is one of the biggest factors out there for hotels. However, one very disconcerting comment that management mentioned on yesterday’s earnings call was its guidance for Q3: "We've already seen an improvement in customer trends here in the third quarter.”
Management’s statement seems contradictory. If one had been paying attention to the market today, they’d have noticed that Priceline.com (PCLN) and Orbitz.com (OWW) were getting absolutely CRUSHED, down –17.2% and –25.5%, respectively. Why? Their management teams came out and noted that bookings and other metrics in the leisure space are way down.
And that is why we remain bearish on MGM.
MFB announced on their call today that they will be building a JCP shop to showcase its brands. This matters for HBI with MFB a primary competitor. Consider the following:
- While HBI’s brand portfolio is largely skewed towards men, the women’s intimates business accounts for ~40% of HBI’s Innerwear business and ~20% of sales overall.
- The Innerwear business accounts for half of HBI’s EBIT.
- If we assume that women’s is at a comparable margin if not slightly below men’s and that JCP accounts for ~2% of women’s Innerwear sales then we’re looking at roughly $5-$6mm in EBIT at risk, or $0.04-$0.05 in EPS.
- Anecdotally, HBI’s (Playtex, Bali, and Barely There) brands represent the largest portion of JCP’s bra offering at roughly 17% with MFB at half the size accounting for ~10%. While a MFB shop doesn’t automatically eliminate HBI from contention, the likelihood is very high.
- This might appear modest with consensus EPS of $2.55 in FY12, but it’s just one example of increasingly disruptive competition HBI and others have to manage through as a result of JCP’s evolution and open-for-bid Shop process.
In preparation for BYI's 2Q earnings release tomorrow, we’ve put together the recent pertinent forward looking company commentary
GOLDMAN SACHS LODGING, GAMING, RESTAURANT & LEISURE CONFERENCE (JUNE 5)
- "In the Gaming Equipment sector, if you counted up all the gaming devices in North America today, about 13% of them would be Bally gaming devices. And yet, we've been shipping anywhere from 16% to 22% of the quarterly shipments over the past couple, three years. New openings, recent new openings would have somewhere around 19% to 21% of their devices be Bally gaming devices and the recent procurement from the Atlantic Lottery gave 25% of the gaming devices to Bally."
- "Premium games are earning anywhere from maybe $30 to $65 a day. The wide-area progressives tend earn around $80 to $110 or $120 a day profitability, so this is the highly profitable segment."
- "We just released Grease in March, and it's doing very well in the marketplace better than our expectations. We've seen very little cannibalization"
- "Michael Jackson is in beta test performing very well mechanically, and we think it's going to perform well when we launch it here in the next week."
- "Our guesstimate is that it would be reasonable to get in the neighborhood of 750 each of these two games [Michael Jackson/Grease] placed over the first six to nine months from launch; and we would expect very low cannibalization of our existing WAP games because we have so few WAP games. So at $0.03 earnings for every 100 you place, you can see the powerful impact on earnings as Bally grows in this highly profitable space in gaming."
- "We expect our mobile gaming initiative to be breakeven within the next 12 months and the iGaming to cost us a couple cents a share for the next 12 to 18 months overall."
- "We've done a handful of tuck-in technology acquisitions over the last four or five years. We expect to continue to do that."
- "We're very comfortable at a 2x leverage ratio, reasonably comfortable at 3x, and only get nervous up at the 4x level."
- "Our international revenues are only about 19% of total, where some of our mid-size competitors maybe in the 30%-plus range. So it's a good long-term opportunity for Bally."
- "Confidence in the consumer is not great, but it seems to be okay. At least it gives them a capital spend
environment that is somewhat more predictable than they had a couple of years ago. We have felt some modest increase in capital spend each of the last couple of years; this year being one and 2011 being one."
- "The good news on systems is we have very good visibility there because, between Canada and Sun, we have a pretty good backlog of deliverables for the next two or three years. But we also have a great sales pipeline that feels like people are serious about spending on iVIEW DM now."
- Dividends vs. Buyback: "Our view has been that we think at this point share buyback - because of the visibility we have and acquisitions are better use of capital. But we haven't ruled it out that we could change that over the next couple of years."
- [Canada VLTs] "We were awarded a little over 1,500 games with about 6,000 game replacements. So, they will be for-sale units. We would expect to start selling those units in the second quarter of our fiscal 2013, probably take about three to five quarters to fill that order out."
- "Within the class three machines in Canada, there's probably a good 60,000 to 65,000, we routinely replace those games. We're about a 20% player in class three there, but VLT is definitely a new initiative for us."
YOUTUBE FROM 1Q CONFERENCE CALL (APRIL 26)
- FY 2012 EPS: $2.37-$2.45
- Product Sale guidance/outlook:
- In 4Q "we expect to recognize units shipped to the two Ohio properties, with about a 21% ship share."
- "Based on anticipated mix for our fourth quarter, which we expect will include multiple Ohio properties, we anticipate our Game Sales gross margin will decline slightly over the third quarter. However, we still expect our Game Equipment margins will approach 48% to 49% within the next few quarters, due to continued reductions in material costs on each of the Pro Series cabinets."
- "We've continued to drive costs out of the Pro Series cabinets themselves. We have a path to drive cost out of a number of different components over the next really 6 to 9 months at this point that give us visibility into that 48%, 49% margin. So I think given ASPs, where they've been right around $17,000, $17,073 this quarter, we get to that 48%,49% margin just through cost cuts from here on out."
- Systems outlook & commentary:
- "We currently anticipated that fourth quarter Systems margin will return to the higher end of our historical range of 70% to 75% based on mix. With respect to our effective income tax rate for the quarter, it was 37.2%, slightly higher than fiscal 2011, but still within our expected range for fiscal 2012."
- "I expect that trend to pick up speed as we go along and every quarter, we'll probably be installing more DM than we had previously done. But I also expect software and services and maintenance and all of that to also continue to expand reasonably well."
- Gaming operations commentary & outlook:
- "We expect faster growth certainly in the WAP than we do the core premium games and some of the premium growth is coming at a little lower win as we expand internationally."
- "We still have approximately $57 million remaining under our board authorized share repurchase plan and would expect to increase this amount in the coming months if necessary."
- New market commentary:
- "We expect Italy to be an important market for us in the long-term; however, the delays thus far have led certain customers to seek alternative products partially for certain VLTs previously committed to Bally."
- "We've had good discussions with customers there, have signed several contracts and feel our products are well positioned for the market, which should result in us winning a fair share. We expect to begin initial VLT shipments in Illinois during the second half of calendar 2012, with the mix of sale versus lease to be determined by the contract terms, which are in various stages of negotiations now."
- "We expect the Canadian installs to start reflecting in the revenue towards the end of this calendar year, towards the end of calendar year 2012."
- "Our R&D and SG&A to grow at a somewhat lower percent of revenues, although we continue to invest aggressively in R&D."
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