YUM is scheduled to report Q1 earnings next week.  This is what we know:

2009 guidance of at least 10% EPS growth relies largely on a U.S. recovery.

The company is expecting U.S. operating profit growth of about 15%, or at least 5% excluding the impact of the planned $60 million in G&A savings.

U.S. operating profit growth has been flat to down for the last six years with YUM posting its largest decline in 2008 of down 6% so YUM definitely has easier comparisons working to its benefit in 2009, but this has not helped in the past.

KFC has been the biggest drag on U.S. operating performance as Taco Bell (60% of U.S. operating profit) and Pizza Hut both grew operating profit in 2008.  In the fourth quarter, KFC same-store sales declined 3% while Taco Bell increased 9% and Pizza Hut fell 1%. 

YUM needs both its Pizza Hut and KFC brands to perform in 2009 to meet its 15% operating profit growth goal.  And, as YUM management highlighted on its Q4 earnings call, both concepts were off to a slower than expected start in January “because these brands focus on the higher-end ticket dinner occasion, which are under the most pressure due to customers  doing more cooking at home.”  Management also said that KFC January sales were extremely poor.   The company has since launched its first ever nationally advertised value menu at KFC and expects its Kentucky Grilled Chicken launch in Q2 to turn things around for KFC in 2009.  I am still not convinced that this will happen.

Pizza Hut started the year out slow and although management seems convinced that its new focus on pasta and chicken wings “will totally transform the Pizza Hut brand over time,” for now, it is still called Pizza Hut and pizza sales/traffic matter.  That being said, according to NPD data, QSR pizza trends do not look good.  QSR pizza category traffic declined in both January and February.  This is not that surprising as traffic has declined on a YOY basis every month for the last two years, but the 2-year average trend steepened its declines in both January and February. This does not bode well for Pizza Hut in Q1. 

YUM – LOTS OF QUESTIONS - QSR Pizza Traffic Feb 09

Domino’s has said in the past that irresponsible industry price increases are largely to blame for pizza traffic declines, which is made evident by the chart below that shows that QSR pizza traffic generally falls off as average check increases.  The industry has apparently not yet learned this lesson as the large average check increases in January and February coincided with the accelerated traffic declines.  YUM management did say that it was not assuming any price increases at Pizza Hut in 2009, which could help its traffic trends somewhat relative to the industry…we will have to wait and see what impact this has on margins.

YUM – LOTS OF QUESTIONS - QSR Pizza Traffic and Check Feb 09

U.S. same-store sales at Pizza Hut and KFC will most likely extend their Q4 declines into Q1.  Management did its best to set the bar low for U.S. performance in Q1, however, saying that much of its U.S. plans are back-end loaded, the majority of full-year commodity inflation is expected in Q1, G&A restructuring benefits will not be fully realized until Q2 and the Kentucky Grilled Chicken launch, which it recognizes as a big catalyst for U.S. improvement, is not until Q2. 

I don’t expect YUM to miss numbers but as always the quality of EPS will be low.  Domestically, KFC is terminal; Pizza Hut is struggling (along with the category); that leaves Taco Bell to carry the day domestically.  With the USA representing more than 40% of operating income, I’m not going to take that to the bank.  Given the commentary from MCD and BKC, the international markets have slowed significantly, which suggests that YUM international will post some very punk numbers.  That leaves YUM’s Holy Grail, China, to save the day; China looks like it will be a challenge, too (please refer to yesterday’s post titled “YUM – China, Not Without Issues” for more details ).


US Consumer: Is it January or April?

Suffice to say, it would be very difficult for someone to convince me that we have not seen the low in intermediate term US Consumer confidence. A more interesting question is whether or not the final April reading will end up flashing a higher high for 2009 to-date versus the preliminary reading that we saw back in January. Clearly, the January preliminary reading was an early head-fake.


Ironically enough, this morning’s University Michigan Consumer Confidence Report (the preliminary, not final April reading) was dead in line with the preliminary January reading of 61.9 (see chart). What’s most interesting about this is that last time the intermediate short squeeze (November to January) ended, US Consumer Confidence locked in a short term peak, then fell right back down to new lows.


As the stock market goes from here, so will the direction of this chart (see below). On the asset side to the consumer’s confidence reading, two things really matter: 1. Home Prices and 2. Stock Prices.


The Depressionistas will remind you of everything that they have been saying for the last 6 weeks and that we’re “overbought.” Meanwhile the consumer analysts will tell you that virtually all of the things that matter to consumer spending from the aforementioned, to employment, to gas prices, and mortgage rates, have improved, materially, in the last 3 months.


Don’t forget that employment losses continued to sequentially accelerate into late February, early March. As of the last 2 weeks of jobless claims, that very relevant (negative) US Consumer headwind has found a positive delta.



Keith R. McCullough
Chief Executive Officer


US Consumer: Is it January or April? - senti

Bullish Bruins

"Forget about style; worry about results"
-Bobby Orr
My Partner, Brian McGough, and I were driving home from Boston last night, and we had one of those great investment discussions that always just seem to happen when you don't expect them to.
For those of you who don't know McGough, the man is a virtual investment encyclopedia of everything that involves the consumer industry. Fully loaded with what the corporate bankruptcy cycle means for American companies playing Survivor, he's about as bullish as he has been on his sector in, I'd say, 3 years.
After doing meetings in New York earlier in the week, I was not expecting to have some of the discussions that I had with Boston based investors either. Some of these guys/gals are bullish and very much in a non-US centric way. My many thanks to all of the men and women of the Beanpot for having the privilege of your conversation.
Now, understanding that the market's direction has a funny way of changing people's tone on a real time basis (unlike Steve Schwarzman, most of these investors are marked-to-market), the reality is that our base of Boston clients were considerably more bullish than those I have recently spent time with in New York.
No, this isn't a comment on who is smarter. Don't forget that most of the guys I hang out with in Boston are hockey players - so, if anything, I'd err on the side of me and my Boston boys being quite a bit dumber than most. Maybe not seeing all of these fanciful probabilities of the perpetually beared up Depressionistas is beyond our mental grasp - but, we're cool with that.
The New Reality is this - the bears are writing books; the bulls are still too bearish; and the Boston Bruins have the momentum in the Stanley Cup Playoffs. Montreal's goalie, Carey Price, looked as rattled last night in that 4-2 loss to the Bruins as some of the short sellers of everything US Consumer and Financials.
No, I'm not long the Financials - but I am thanking God that the laws of objectivity had me cover all of my US Financials on the short side many percentages ago. While not participating on the upside here is something I have had wrong, I am still sincerely enjoying the shorts getting lit up like a Canadiens Christmas Tree out there right now on this market's proverbial ice.
You see, even some of the dumbest hockey players on the planet know that winning is associated with going to where the puck is going rather than staring at where it has been. Do I understand the Citigroup or US Consumer short case? You bet your Madoff I do - I was chirping about it, daily in these morning rants, from late 07' until late last year. Do I understand where the short interest pain trades are? You tell me - finding where the bears' exposures are isn't a trivial exercise for someone who has spent plenty of time sleeping with them.
Am I a raging bull? No (and I'm not a Boston Bruins fan either). But, on the margin, I have been as bullish as I have been in a long long time ... and as this market scales the well publicized bearish wall of worry thesis, I continue to get incrementally bullish data points that supports my positioning.
Two weeks ago today, I wrote a fairly aggressive intraday note titled "This Is BIG: US Employment Is Turning"... While it's always hard to qualify the emotional responses I sometimes receive when I make a controversial "call" like this, let me just say that the replies I received to that note would be the equivalent of my painting my body red and standing up at the Boston Garden last night yelling in French.
Now I may not be as "smart" as Mr. Hedge Fund Man out there who is running net neutral exposure, but 1. I can speak French and 2. I not stupid enough to do something like that at Hockey Night in Boston. After seeing yesterdays stiff drop off in US weekly jobless claims, I have to wonder what kind of Research Edge that America's favorite "hedgie" was using when implying to me that unemployment in this country was going to re-accelerate from those pre-Obama job creation days of February/March.
For those who still disagree with me that we have seen the peak in sequential unemployment growth, I'm cool with that - just understand that you are disagreeing with math, and you might want to keep the wizardry associated with your view on the down low. As the Captain of the Charlestown Chiefs said in Slapshot - "that's em-bah-rass-ing."
The New Reality here is that we are seeing the most expedited short squeeze in the history of the modern day US stock market. Sure, if you take me back to the 1880's in the data set I am sure you'll see a few more raging squeezes of consequence, but let's get serious here boys - unless you're as old as that guy they called Blue in Old School, you weren't trading back then anyway.
Who "trades"? Who "invests"? Who buys low? Who didn't buy anything at all and now wakes up every morning saying that we're "overbought"? I don't know. But I do know that there are some boys in Boston who have a big smile on their face right about now, and it's not just because the Bruins won last night.
My immediate term upside target in the SP500 is now 873. My downside support moves to a higher low at 843. Being a bullish Bruin works here - if it aint broke, don't fix it.
Have a great weekend,


EWZ - iShares Brazil- The Bovespa is up 22.6% YTD and continues to look positive on a TREND basis. President Lula da Silva is the most economically effective of the populist Latin American leaders; on his watch policy makers have kept inflation at bay with a high rate policy and serviced debt -leading to an investment grade credit rating. Brazil has managed its interest rate to promote stimulus. The Central Bank cut 150bps to 11.25% on 3/11 and likely will cut another 100bps when it next meets on April 29th. Brazil is a major producer of commodities. We believe the country's profile matches up well with our re-flation theme: as the USD breaks down global equities and commodity prices will inflate.

XLY - SPDR Consumer Discretionary-TRADE and  TREND remain bullish for XLY.  The US economy is showing faint signs the steep plunge in economic activity that began last fall is starting to level off and things are better that toxic.  We've been saying since early January that housing will bottom in 2Q09 and that "free money" for the financial system will marginally improve the US economy in 2H09, allowing early cycle stocks to outperform.  The XLY is a great way to play the early cycle thesis.

EWA - iShares Australia-EWA has a nice dividend yield of 7.54% on the trailing 12-months.  With interest rates at 3.00% (further room to stimulate) and a $26.5BN stimulus package in place, plus a commodity based economy with proximity to China's H1 reacceleration, there are a lot of ways to win being long Australia.

XLK - SPDR Technology - Technology looks positive on a TRADE and TREND basis. Fundamentally, the sector has shown signs of stabilization over the last six+ weeks.   As the world demand environment becomes more predictable, M&A should pick up given cash rich balance sheets in this sector (despite recent doubts about an IBM/JAVA deal being done).  The other big near-term factors to watch will be 1Q09 earnings - which is typically the toughest for tech, along with 2Q09 guide.  There are also preliminary signs that technology spending could be an early beneficiary of the stimulus plan.

TIP - iShares TIPS- The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%.  We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.

XLB - SPDR Materials -It's a bull on both a TREND and TRADE duration. The Materials sector is, obviously, a key beneficiary of our re-flation thesis.  Domestically, materials equities should also benefit as the stimulus plan begins to move into action.

USO - Oil Fund-We bought oil on 3/25 for a TRADE and are positive on the commodity from a TREND perspective. With the uptick of volatility in the contango, we're buying the curve with USO rather than the front month contract.  

EWC - iShares Canada-We bought Canada on 3/20 into the selloff. We want to own what THE client (China) needs, namely commodities, as China builds out its infrastructure. Canada will benefit from commodity reflation, especially as the USD breaks down. We're net positive Harper's leadership, which diverges from Canada's large government recent history, and believe next year's Olympics in resource rich Van.couver should provide a positive catalyst for investors to get long the country.   

DJP - iPath Dow Jones-AIG Commodity -With the USD breaking down we want to be long commodity re-flation. DJP broadens our asset class allocation beyond oil and gold.
GLD - SPDR Gold-We bought more gold on 4/02. We believe gold will re-assert its bullish TREND as the yellow metal continues to be a hedge against future inflation expectations.

DVY - Dow Jones Select Dividend -We like DVY's high dividend yield of 5.85%.


LQD  - iShares Corporate Bonds- Corporate bonds have had a huge move off their 2008 lows and we expect with the eventual rising of interest rates in the back half of 2009 that bonds will give some of that move back. Moody's estimates US corporate bond default rates to climb to 15.1% in 2009, up from a previous 2009 estimate of 10.4%.

SHY - iShares 1-3 Year Treasury Bonds- If you pull up a three year chart of 2-Year Treasuries you'll see the massive macro Trend of interest rates starting to move in the opposite direction. We call this chart the "Queen Mary" and its new-found positive slope means that America's cost of capital will start to go up, implying that access to capital will tighten. Yield is inversely correlated to bond price, so the rising yield is bearish for Treasuries.

EWU - iShares UK - We shorted the UK on 4/08. We're bearish on the country because of a number of macro factors. From a monetary standpoint we believe the Central Bank has done "too little too late" to manage the interest rate and now it is running out of room to cut. The benchmark currently stands at 0.50% after a 50bps reduction on 3/5. While the Central Bank is printing money and buying government Treasuries to help capitalize its increasingly nationalized banks, the country has a considerable ways to go to attain its 2% inflation target as inflation has slowed considerably. GDP declined 1.5% in Q1, unemployment  is on the rise, housing prices continue to fall, and the trade deficit continues to steepen month-over-month.

EWL - iShares Switzerland - We shorted Switzerland on 4/07 and believe the country offers a good opportunity to get in on the short side of Western Europe, and in particular European financials.  Switzerland has nearly run out of room to cut its interest rate and due to the country's reliance on the financial sector is in a favorable trading range. Increasingly Swiss banks are being forced by governments to reveal their customers, thereby reducing the incentive of Switzerland as a tax-free haven.

UUP - U.S. Dollar Index -We believe that the US Dollar is the leading indicator for the US stock market. In the immediate term, what is bad for the US Dollar should be good for the stock market. The Euro is down versus the USD at $1.3079. The USD is up versus the Yen at 99.3800 and up versus the Pound at $1.4764 as of 6am today.

EWJ - iShares Japan -We re-shorted the Japanese equity market rally via EWJ. This is a tactical short; we expect the market there to pull back when reality sinks in over the coming weeks. Japan has experienced major GDP contraction-it dropped 3.2% in Q4 '08 on a quarterly basis, and we see no catalyst for growth to return this year. We believe the BOJ's recent program to provide $10 Billion in loans to repair banks' capital ratios and a plan to combat rising yields by buying treasuries are at best a "band aid".

XLP - SPDR Consumer Staples- Consumer Staples broke out of the TREND line resistance yesterday and is bullish as a TRADE. This group is low beta and won't perform like Tech and Basic Materials do on market up days. There is a lot of currency and demand risk embedded in the P&L's of some of the large consumer staple multi-nationals; particularly in Latin America, Europe, and Japan


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SHO is not yet one of core followings but they do typically provide a thoughtful preview of quarterly hotel trends.  Despite the huge moves in hotel stocks, SHO provided little optimism to justify such enthusiasm.

Below are our takeaways:

·         No sign that RevPAR has stabilized or bottomed - RevPAR decreases continues to increase

·         While SHO agrees with our thesis that occupancy bottoming out is the first sign of a bottom, they haven’t seen it yet

·         Future booking pace continues to slow in line with the accelerating decline in RevPAR

·         1Q is a seasonably slower quarter, and therefore the only way to fill the rooms is to try to steal market share by cutting rate.  Unfortunately, it’s now the beginning of Q2 and there are no signs of the ADR slide abating

·         Specific market commentary:

o   Continued weakness in Chicago, Detroit & Minneapolis

o   Mid Atlantic being propped up by DC

o   Continued weakness in Orlando & Atlanta

o   Houston relatively strong

·         On the positive side, they have had some success in offsetting some of the revenue declines by cutting costs – this has been a theme across the industry and is the silver lining

·         Asset sales are likely to remain difficult to consummate until:

o   There’s more visibility on how 2009 will shake out

o   There is some sense on when we reach bottom and what the numbers look like at trough

o   The financing environment improves

·         Following in the footsteps of DRH, AHT, BEE, and Interstate Hotels, SHO is making headways in negotiating an amendment to its credit facility that would result in covenant relief

o   In exchange, SHO will reduce the size of the facility, provide a pool of 10 unencumbered assets as security for the facility, and pay a premium on its borrowing cost

·         Sunstone is also making some headway in securing mortgage financing but at materially less favorable terms than we’ve seen in the past

o   50% Loan-to-Value

o   Value based on ~20%  haircut to 2008 NOI and cap rate ranging from 9-11%

o   Pricing around L +550 with a 1% LIBOR floor


SHO provided evidence that this early cycle move in lodging stocks my ultimately prove to be too early.




Conventions and group meetings comprise approximately 30% of all occupied room nights at full service hotels in the United States.  MAR generates 40% of its US business from the same segment yet the company maintains no presence in the largest convention market in the world.  With its database of 30 million Marriott Rewards members, MAR is clearly missing out on some huge cross-marketing opportunities.

Luckily for MAR, MGM MIRAGE is selling assets.  One of the crown jewels in the MGM portfolio is Mandalay Bay which just happens to operate a 1.7 million square foot convention center and 4,300 hotel rooms.  Could there be a better time to buy?  Maybe, but I would think MAR buying at close to trough EBITDA from a forced seller should result in a pretty attractive price.  Given the likely $1 billion+ price tag, I doubt there will be many other bidders.

The near and intermediate term outlook for Las Vegas is pretty dour.  We can argue about the timing of the turn, far off in our opinion, but what is fairly certain is the favorable long-term outlook of the convention business.  The following chart shows the tremendous growth in annual convention attendance over the last 15 years.  Almost 6 million people attended Las Vegas conventions in 2008, a fairly steady climb from the 2.6 million conventioneers in 1994.  The affordability and value of conventions and hotel rooms in Las Vegas will not be matched in my opinion.  The casino acts as a subsidy leaving Vegas with the highest quality rooms and convention facilities in the country.  The value proposition vis-à-vis other convention markets will always be there.

MAR: FORAY INTO LV CONVENTIONS BUSINESS - lv convention attendance

Of course, MAR is not a casino company so they would need an operator.  I’m sure ASCA, BYD, PENN, PNK, and maybe Crown would all be interested in a management contract and an equity slice.  PNK could be the best fit given its corporate presence in the city and CEO Dan Lee’s Mirage experience.  In any case, Las Vegas is definitely a good fit for MAR and the timing looks right.     


YUM needs its Holy Grail, China, to save the day in Q1, which could be a challenge.  YUM is facing difficult comparisons and although economic news out of China has improved on a sequential basis in March, overall trends in Q1 were less than favorable.


In 4Q08, we learned that same-store sales trends in China slowed considerably in December as YUM had reported that quarter-to-date comparable sales were up 4% through November 30, but closed out the quarter only up 1% (a timing shift in December hurt by 1%). YUM was lapping a difficult 17% comparison in the fourth quarter but this slowdown was worse than expectations.   Also, EBIT margins declined in China in 4Q08 (down 190 basis points) as a result of continued commodity and labor inflation.

Looking to 1Q09, I expect YUM to face similar challenges as YOY commodity pressures will be more severe in 1Q09 and the company is lapping 12% same-store sales growth and 33% operating profit growth.

And the news from China is not all that good.  The slide in December retail sales trends looks to have continued into January and February, but March suggests some consumer resilience.    


The Chinese Government is doing what they can to get consumers to spend again.  As you can see from the chart below, credit is flowing rapidly in China creating positive momentum.  Yesterday, China reported an 11.2% year-over-year increase in urban disposable income for 1Q09 (the rural population realized 8.6% cash income growth in the same period) and the CPI declined by 1.2% Y/Y for March – the second sequential negative growth month.  YUM needs government stimulus to motivate Chinese shoppers to increase their willingness to spend for the balance of 2009 in order to hit its 15%-20% operating profit growth goal in China.



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