Yum Brands - China Intelligence

This is what we know so far from Research Edge postings....

Chinese market is down 43% since October...

Daily trading volumes are down 60% from the peak...

Chinese toy exports dropped like a stone....

Due to the quake, migrant workers are not showing up to work...

This is what we know from the popular press...

The confirmed death toll rose to 55,740 and an additional 24,960 remained missing 12 days after the quake, said the State Council, the government's cabinet .

12 million are homeless

Chinese banks were told Friday to forgive debts owed by survivors in an effort to revive the shattered economy, and the government warned that it was cracking down on price-gouging by merchants in the disaster area.

PENGZHOU, China: Emergency crews worked Friday to secure 15 sources of radiation buried in the rubble from the devastating earthquake that hit China this month, the government said as it evacuated thousands of survivors downstream from rivers dammed by landslides

Already, the Sichuan earthquake is being seen here in generational terms. As widely observed, it is the first time China has suffered a natural disaster on this scale since the Tangshan earthquake in July 1976, when at least 250,000 people died.

The sound of grief was heard all across China. For several minutes, at the exact time in the afternoon the quake struck in Sichuan Province one week ago, cars stopped and blared their horns. Chinese people came out on the streets and bowed their heads, in remembrance of the quake victims. One Beijing shopkeeper said he paid his respects, even though he has no relatives or friends in Sichuan, which is 1500 kilometers away.

This is what we know From YUM...

...A limited number of restaurants have been damaged, including several that remain closed or with limited service. The Company plans to reopen them as soon as it is safe to do so.

The limited information from the company is haunting. Yum's growth model depends on China. Given the recent tragic events and the other macro issues China faces, it's amazing that nothing seems to slow the YUM China story. Maybe it should be trading at 15x EV/EBITDA.

I can almost write the press release now!

Don't Mistake Footwear for Consumer

A smart guy I know (my Partner, Todd Jordan) just asked me whether he should read into the upwardly-trending comps reported by Foot Locker and Hibbett's Sporting Goods as a sign of an improving consumer.

My answer is 'No'.

I'd argue that better than 75% of any 'strength' we're seeing in yy footwear sales is due to low inventory levels, reduced clearance activity versus last year, and subsequent improvement in price points. As noted yesterday afternoon, price points are still up mid-single-digit, which is helping fuel the fire.

Don't get me wrong, I think this is a net positive for the footwear industry, as margins are looking solid for a couple of quarters (until our 'Supply Chain Vice' theme sucker-punches the industry in another 2-3 quarters).

But for those looking for any positive read-through to the consumer overall should probably keep searching.

WEN/TRY - Trying to get to $50.....

What $50 implies for WEN....

We have not had the privilege to talk to Bill Ackman about his thoughts on WEN, but here is my take on the Wendy's situation. Upon completion of the WEN deal, Pershing square will own TRY, which is trading at the low end of the valuation matrix we created. On a pro-forma basis, TRY is being valued in line with other domestic QSR companies that are experiencing declining traffic and margins. See the valuation matrix chart.

To summarize, I think the Ackman model for creating value at Wendy's requires the company to sell off assets and focus on the core business of being a franchisor. For Wendy's, this means selling the company's real estate portfolio and/or re-franchising the company store base. At this point, the market will value the company at a higher multiple due to the stability of the high margin, high return royalty stream.
  • Research Edge thoughts:In isolation, sale leaseback transactions do not create significant value. At the completion of a given transaction the company swaps valuable real estate for increased leverage. If the proceeds are used to re-purchase shares, the incremental interest expense offsets the benefits of the lower share count.
  • Both the Arby's and Wendy's chain are roughly 70% franchised. For competitive reasons, it's important for a QSR franchisor to own 10-15 of the store base. It was not long ago that Arby's was nearly 99% franchised, so we don't think management is headed down that road again. So there are not that many stores to sell to create significant value. In addition, selling company-owned stores is dilutive to EPS and reduces EBITDA.
  • In the end there is some financial engineering to do, but it's not a game changer for TRY. It all boils down to operations and can management get WEN margins back to historical levels. While operationally there may be some low hanging fruit that can improve margins, most of the margin issues rest outside of management's control.

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SAFM - Comments on the current commodity environment

Sanderson Farm reported EPS and the company commented that it does not see any relief from the current commodity environment. The following are comments from Joe Sanderson, Chairman and Chief Executive Officer, Sanderson Farm, Inc.

Market prices for both corn and soybean meal have remained high and volatile and I expect that trend to continue through this fiscal year and into next year. The March Planning Intentions report indicated a move away from corn to soybeans. In addition, recent planning progress reports indicate that the corn crop is not getting into the ground as fast as usual. This fact will contribute even more volatility. The volatility in the grain markets does not surprise us, and I believe the conditions are such that there remains a significant risk of feed grains going even higher through the summer. Any weather event anywhere in the world this summer that threatens the yield or quality of this year's grain crop could trigger a run up in the price of grain, as could any event that results in even higher crude oil prices. With respect to soy bean meal, the planting intentions and planting progress reports indicate a tight supply of soy bean meal as well. Like corn, price for soy beans have risen and we expect continued volatility in the soy bean meal market. The bottom line is that our feed ingredient costs will be significantly higher in fiscal 2008 than during fiscal 2007.

Needless to say, SAFM wants chicken prices to higher.

The restaurant industry does not!

EYE on Insane - stealing grease

Running your car on gas or grease? At today's prices, some are choosing grease, or should I say, stealing grease. I read today that restaurants across the U.S. are reporting thefts of cooking oil, which is being refined into biofuel. Apparently, the value of grease is directly correlated to the price of diesel!

I guess this is a sign of the times, but the price of soybean oil, which is used in the production of biodiesel, has increased nearly 70% in the last year and some restaurants are feeling the pinch - outside of having to lock down trash cans. Specifically, Sonic has mentioned that soybean oil costs are continuing to go up, adding to the already significant commodity cost pressures and P.F. Chang's has said it expects to see continued pressure in wok oil due to the increases in soybean pricing.

Footwear ASPs Remain Healthy

NPD's weekly footwear sales for the week ending this past Sunday were just released, and the numbers kept me in the 'mildly encouraged' camp as it relates to the state of sales out there right now. We're still running with dollar sales about flat on a 1 and 2-year trend, but average selling price is still up mid-single digits. Is Under Armour's (higher-priced) cross trainer launch helping these figures? My math says yes -- but by no more than 20-30 bps. My gut is still that inventories in this space have found a near-term bottom.

Let's see what Foot Locker and Hibbett say later today. Though their business still is pretty bad, I think they'll agree with my take on inventory trajectory.

As a sidenote, Under Armour's trainer numbers look good. Not great -- as price point eroded $2 over 2 weeks -- supporting my take that the $100 price point shoe is not catching on as well as the lower cut models). But the momentum at retail is certainly still healthy for UA.

1 and 2-year sales hart below courtesy of NPD Fashionworld.


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